The strong restrictions on the purchase of farm land by foreigners in Brazil have not prevented investors of various nationalities from acquiring or economically exploring real estate in the field, in the same way that they have not inhibited mergers and acquisitions of companies that own rural properties. While awaiting the relaxation of rules, international groups such as China’s State Grid and Canada’s Brookfield have found ways to circumvent the difficulty, varying not only in the model, but also in terms of legal risks taken. Purchase of convertible bonds, contracts of rural partnership and even changes in the boundaries of urban areas are some alternatives on the menu.
Lawyers at major law firms say that since 2010, when the Federal Attorney General’s Office published a report that equates local companies controlled by foreigners with foreign companies, they began to warn their clients of the risks involved in mergers and acquisitions of lands in rural areas. In addition to the ownership of the property itself, the lease is also restricted for foreigners. In both cases, the control is carried out by INCRA (National Institute of Colonization and Agrarian Reform), which may or may not authorize the transaction. Since the agency does not have a legal timeframe to respond and the case may take years, foreign groups prefer to adopt structures that exempt them from authorization.
“The foreign investor can cope with a greater or lesser degree of risk,” says a partner at a large law firm that often suggests more conservative structures. A competing law firm makes a distinction between buying rural properties directly and acquiring a company that has, among other assets, land in rural areas for some reason. “The purchase of land will be barred in the real estate registry, but the purchase of a company does not even involve a specific inspection body. Our recommendation is for the foreigner to buy it and take the risk of being questioned. I’ve never seen it happen,” the lawyer says.
A recent sale of a company with rural assets is that of Eldorado Brasil Celulose, the pulp producer of the Batista family put up for sale after the plea agreement of its controlling shareholders. As the Três Lagoas, Mato Grosso plant is in a rural area, the groups that analyzed the asset had to study alternatives. One group considered splitting off the property and lease it from the Batistas or another investor who agreed to get the property. For now, the control of Eldorado remains with the Batista brothers, but Paper Excellence is expected to take over the company in 2018. Eldorado and Paper Excellence did not comment on the solution to be chosen.
In cases similar to Eldorado’s, as long as the property meets certain requirements, lawyers suggest that the municipality be sought to request a change in the zoning. “For city halls it is interesting, because the company will pay IPTU [a property tax]. But for the company costs rise, among other things, because the IPTU is much more expensive than the ITR [a rural property tax],” says a lawyer. The change, however, can take months or years.
In the purchase of CPFL Energia by China’s State Grid, completed in January this year, the rural land issue was troublesome. The electric utility had dozens of land leases and they had to be changed to contracts that allow the use of land without the company owning or renting it. Some of the options that are usually suggested by lawyers are surface rights, usufruct and rural partnership. Contacted by Valor, State Grid said the matter should be addressed by CPFL, which in turn declined to comment.
Investors usually resort to two instruments in order to have rights of a controlling shareholder. One of them is the purchase of convertible bonds. This is the case of Canadian group Brookfield, with large investments in Brazil in several segments. Last January Embaúba, which holds interests in other companies that own rural properties, issued R$1.85 billion in bonds that were partially purchased by a fund managed by Brookfield, the Agriculture Fundo de Investimento em Participações Multiestratégia.
The 2029 bonds pay a 98.8% percentage of Embaúba’s net income, with no interest payments. In addition, one of the bonds’ clauses, to which Valor had access, provides that the securities will be converted into shares of Embaúba as soon as there is permission for the acquisition of rural property in Brazil by foreigners. The bonds also entitle a 98.8% stake in Embaúba.
The corporate bonds also usually give powers to foreign investors over the company’s management and decisions of strategic policies. In the case of Brookfield, Luiz Ildefonso Simões Lopes, CEO of Brookfield Brasil, is also the president of Embaúba. Other executives of the Canadian group also have positions in the company’s management.
Contacted by Valor, Brookfield said it “fully respects the country’s legislation, including any potential need for prior approval by any authority.”
Bonds are not new for investments in sectors where foreign control is forbidden. Fixed-income securities have already been used, for example, for the entry of international funds into hospitals in Brazil, when there were still restrictions on foreign capital. In 2010, this instrument was used when BTG Pactual, with the participation of foreign investors, made a strategic partnership with hospital chain Rede D’Or.
The lawyers who have advised foreigners in creating these solutions are split on the use of the debentures. While some recommend them as an alternative, others say otherwise. “We do not advise it because it can be considered a simulation and lead to penalties,” says the partner of a large business law firm.
In the case of investment in land through the purchase of bonds, one of the risks is that the effective ownership of the property is not in the investors’ hands. That’s why foreigners need to search for a local partner they trust and who control the company. At Brookfield, some executives in Brazil are partners of some companies that issue the bonds. In other cases, the partners of companies from which Brookfield buy bonds have no relation to the Canadian group’s management in Brazil.
Another path used by foreigners is the acquisition of preferred shares, with no voting rights. In October last year, the Teachers Insurance and Annuity Association of America (TIAA) increased its stake in Radar, a rural property company founded by sugar-and-ethanol group Cosan, in a transaction valued at R$1.1 billion. As a result of the deal, TIAA now holds 100% of the company’s preferred shares. Radar manages 280,000 hectares in Brazil, while Cosan holds the majority of the common shares. This gives TIAA a 97% economic stake in Radar, although the control remains with Cosan.
In the case of eucalyptus or teak forests, the most used mechanism is the creation of two companies, one that owns the land and another operational. The rural property is in the hands of a company controlled by Brazilians and the surface right is ceded to a foreign-capital group that operates the property. This is possible, a lawyer says, because the biological asset (trees) have more value than the land itself, something that does not happen on farmland. But there has been at least one case where INCRA has disregarded the surface right and has not granted the Rural Property Registration Certificate (CCIR).
The restriction has already created difficulties even for foreign banks that accept rural land as collateral for loans. A court ruling has eliminated the need of INCRA approval for the fiduciary alienation of these properties.
One of the most common complaints from foreign investors’ representatives is the time to get an answer, whether positive or negative. INCRA, lawyers admit, has a very small structure to meet the volume of cases in this area.
The INCRA coordinator of the rural registry, Paulo Farinha, says that the assessment of cases can take months or years. “The analysis does not depend only on INCRA’s governance, it depends on each body verifying the exploration plan [of the land],” he says. In order to receive the green light to complete an acquisition, the foreigner investor must submit to the analysis of some ministry, such as of Agriculture or Tourism, a plan to use the rural property.
On December 14, INCRA published a normative instruction that aims, according to Mr. Farinha, to speed up analysis of the cases. The document describes in more detail what documents and information need to be provided by investors, such as implementation cost, schedule and use of official credit.
However, there is no provision in this normative instruction for the analysis of investments. Only in case of rejection there is a timeframe that gives the investor 15 days to appeal and then 30 days for the INCRA to judge.
Asked about how INCRA sees the use of alternative instruments for foreign investment in land, Mr. Farinha said that INCRA’s actions are restricted to control and lease, according to the law.
The government has plans to modify the restrictions. Bill 4059 is stalled at the Chamber of Deputies and there is expectation it may move forward in 2018. For foreigners, if the bill passes, this will represent the end of the imposition of an area limit for investment in rural land without approval of regulators or Congress. The restrictions will only continue existing for the total area of a municipality. The trend is for acquisitions by sovereign funds, NGOs based abroad and foreign state-owned companies to be forbidden.
Source: Valor Econômico