Results of Operations

The differences in our operating results from year to year occur as a result of a combination of factors, including primarily: the volume of crude oil, oil products and natural gas we produce and sell, the price at which we sell our crude oil, oil products and natural gas and the differential between the Brazilian inflation rate and the depreciation or appreciation of the Real against the U.S. dollar. The table below shows the amount by which each of these variables has changed during the last three years:

Results of Operations for the year ended December 31, 2004 (“2004”) compared to the year ended December 31, 2003 (“2003”).

The comparison between our results of operations for 2004 and 2003 has been affected by the 4.8% decrease in the average Real/U.S. dollar exchange rate for 2004 as compared to the average Real/U.S. dollar exchange rate for 2003. For ease, we refer to this change in the average exchange rate as the “4.8% increase in the value of the Real against the U.S. dollar in 2004, as compared to 2003.”

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Revenues

Net operating revenues increased 21.6% to U.S.$37,452 million for 2004, as compared to U.S.$30,797 million for 2003. This increase was primarily attributable to an increase in prices of our products, both in the domestic market and outside Brazil, an increase in sales volume in the domestic market, and the 4.8% increase in the value of the Real against the U.S. dollar in 2004, as compared to 2003.

Consolidated sales of products and services increased 21.7% to U.S.$51,954 million for 2004, as compared to U.S.$42,690 million for 2003, primarily due to the increases mentioned immediately above.

Included in sales of products and services are the following amounts that we collected on behalf of the federal or state governments:

Cost of sales

Cost of sales for 2004 increased 31.7% to U.S.$20,303 million, as compared to U.S.$15,416 million for 2003. This increase was principally a result of:

Depreciation, depletion and amortization

We calculate depreciation, depletion and amortization of exploration and production assets on the basis of the units of production method. Depreciation, depletion and amortization expenses increased 39.0% to U.S.$2,481 million for 2004, as compared to U.S.$1,785 million for 2003. This increase was primarily attributable to the following:

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Exploration, including exploratory dry holes

Exploration costs, including exploratory dry holes increased 19.7% to U.S.$613 million for 2004, as compared to U.S.$512 million for 2003. This increase was primarily attributable to the following:

These increases were partially offset by a decrease of U.S.$196 million due to a revision in the estimated expenses for dismantling oil and gas producing areas and future well abandonment.

Impairment of oil and gas properties

For 2004, we recorded an impairment charge of U.S.$65 million, as compared to an impairment charge of U.S.$70 million for 2003. The impairment charge in 2004 related to capital expenditures for Brazilian fields in production, but with only marginal reserves. We also recorded an impairment charge of U.S.$13 million due to goodwill assessment. In 2003, the impairment charge was related to certain of our oil and gas producing properties in Brazil, Colombia and Angola. These charges were recorded based upon our annual assessment of these fields using prices consistent with those used in our overall strategic plan and discounted at a rate of 10%, a rate consistent with the rate used for internal project valuations.

Selling, general and administrative expenses

Selling, general and administrative expenses increased 38.7 % to U.S.$2,901 million for 2004, as compared to U.S.$2,091 million for 2003.

Selling expenses increased 51.4% to U.S.$1,544 million for 2004, as compared to U.S.$1,020 million for 2003. This increase was primarily attributable to the following:

General and administrative expenses increased 26.7% to U.S.$1,357 million for 2004, as compared to U.S.$1,071 million for 2003. This increase was primarily attributable to the following:

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Research and development expenses

Research and development expenses increased 23.4% to U.S.$248 million for 2004, as compared to U.S.$201 million for 2003. This increase was primarily related to additional investments in programs for environmental safety, deepwater and refining technologies of approximately U.S.$36 million and to the 4.8% increase in the value of the Real against the U.S. dollar in 2004, as compared to 2003.

Other operating expenses

Other operating expenses decreased 20.6% to an expense of U.S.$259 million for 2004, as compared to an expense of U.S.$326 million for 2003.

The charges for 2004 were:

The charges for 2003 were:

Equity in results of non-consolidated companies

Equity in results of non-consolidated companies increased 22.0% to a gain of U.S.$172 million for 2004, as compared to a gain of U.S.$141 million for 2003, due primarily to a U.S.$21 million gain as a result of the consolidation of PEPSA and PELSA and their equity method investees for the full year in 2004, as opposed to approximately seven months in 2003.

Financial income

We derive financial income from several sources, including interest on cash and cash equivalents. The majority of our cash equivalents are short-term Brazilian government securities, including securities indexed to the U.S. dollar. We also hold U.S. dollar deposits.

Financial income increased 51.3% to U.S.$911 million for 2004 as compared to U.S.$602 million for 2003. This increase was primarily attributable to fair value adjustments on gas hedge transactions, which was partially offset by a decrease in financial interest income from short-term investments due to higher investments in securities indexed to the U.S. dollar in 2004 when compared to 2003, resulting in lower income due to the effect of the 8.1% appreciation of the Real against the U.S. dollar during 2004, as compared to the 18.2% appreciation of the Real against the U.S. dollar during 2003. A breakdown of financial income and expenses is shown in Note 14 to our audited consolidated financial statements for the year ended December 31, 2004.

Financial expense

Financial expense increased 39.0% to U.S.$1,733 million for 2004, as compared to U.S.$1,247 million for 2003. This increase was primarily attributable to an increase of approximately U.S.$233 million in financial expenses resulting from PEPSA’s hedge operations; as well as a loss of U.S.$137 million on repurchases of our own securities.

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Monetary and exchange variation on monetary assets and liabilities, net

Monetary and exchange variation on monetary assets and liabilities, net generated a gain of U.S.$450 million for 2004, as compared to a gain of U.S.$509 million for 2003. The decrease in monetary and exchange variation on monetary assets and liabilities, net is primarily attributable to the effect of the 8.1% appreciation of the Real against the U.S. dollar during 2004, as compared to the 18.2% appreciation of the Real against the U.S. dollar during 2003.

Employee benefit expense

Employee benefit expense consists of financial costs associated with expected pension and health care costs. Our employee benefit expense increased 9.2% to U.S.$650 million for 2004, as compared to U.S.$595 million for 2003. This increase in costs was primarily attributable to an increase of U.S.$25 million from the annual actuarial calculation of our pension and health care plan liability and to the 4.8% increase in the value of the Real against the U.S. dollar in 2004, as compared to 2003.

Other taxes

Other taxes, consisting of miscellaneous value-added, transaction and sales taxes, increased 32.1% to U.S.$440 million for 2004, as compared to U.S.$333 million for 2003. This increase was primarily attributable to the following:

Other expenses, net

Other expenses, net are primarily composed of gains and losses recorded on sales of fixed assets, general advertising and marketing expenses and certain other non-recurring charges. Other expenses, net decreased to an expense of U.S.$357 million for 2004, as compared to an expense of U.S.$700 million for 2003.

The most significant charges for 2004 were:

The most significant charges for 2003 were:

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Income tax (expense) benefit

Income before income taxes, minority interest and accounting changes increased 1.8% to U.S.$8,935 million for 2004, as compared to U.S.$8,773 million for 2003. The income tax expense decreased 16.2% to U.S.$2,231 million for 2004, as compared to an expense of U.S.$2,663 million for 2003, primarily due to the additional tax benefits related to interest on shareholders’ equity that amounted to U.S.$650 million for 2004, as compared to U.S.$364 million for 2003.

The reconciliation between the tax calculated based upon statutory tax rates to income tax expense and effective rates is shown in Note 4 to our audited consolidated financial statements for the year ended December 31, 2004.

Cumulative effect of change in accounting principle

As of January 1, 2003, we generated a gain of U.S.$697 million (net of U.S.$359 million of taxes) resulting from the adoption of SFAS No. 143 – Accounting for Asset Retirement Obligations. The adjustment was due to the difference in the method of accruing end of life asset retirement obligations under SFAS 143, as compared with the method required by SFAS 19 – Financial Accounting and Reporting by Oil and Gas Producing Companies.

Increase of authorized capital

The General Extraordinary Shareholders Meeting, held in conjunction with the General Ordinary Meeting on March 29, 2004, approved an increase in authorized capital from R$30 billion (U.S.$10.4 billion) to R$60 billion (U.S.$20.8 billion).

Natural gas derivative contract

In connection with a long-term contract to buy gas (Gas Supply Agreement or “ the GSA”) to supply thermoelectric plants and for other uses in Brazil, we entered into a contract, effective October 2002, with a gas producer that constituted a derivative financial instrument under SFAS 133. This contract, the Natural Gas Price Volatility Reduction Contract (or PVRC), matures in 2019 and was executed with the purpose to reduce the volatility of price respective to the GSA.

At inception, the PVRC had a positive value to us of U.S.$169 million, which is deemed a deferred purchase incentive and is being amortized into income on the basis of the volumes anticipated under the PVRC. The liability was U.S.$153 million at December 31, 2004 and generated a gain in the amount of U.S.$11 million, net of deferred tax effect of U.S.$5 million.

The PVRC is being accounted for under SFAS 133 as a derivative instrument, since the Company did not satisfy the documentation required for hedge accounting, and is being marked to its calculated fair value with changes in such value recognized in income. As of December 31, 2004, we recorded a derivative asset based on the fair value calculation in the amount of U.S.$635 million, and a mark-to-market gain in the amount of U.S.$365 million, net of deferred tax effect of US$188 million.

See Note 23 to our audited consolidated financial statements for the year ended December 31, 2004.

Results of Operations for the year ended December 31, 2003 (“2003”) compared to the year ended December 31, 2002 (“2002”).

The comparison between our results of operations has been impacted by the Real’s appreciation against the U.S. dollar, due to the fact that the average Real/U.S. dollar exchange rate for 2003 was 5.2% lower than the average exchange rate for 2002.

Revenues

Net operating revenues increased 36.2% to U.S.$30,797 million for 2003, as compared to net operating revenues of U.S.$22,612 million for 2002. This increase was primarily attributable to the alignment of prices of certain oil products in the Brazilian market with international prices of such products at the end of 2002. The

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increase in net operating revenues was also attributable, to a lesser extent, to an increase in sales volume outside Brazil (international sales), which includes sales conducted by PEPSA and PELSA. This increase was partially offset by a 4.4% reduction in sales volume in the domestic market, primarily due to a decrease in Brazilian consumer demand. See “—Sales Volumes and Prices—Domestic Sales Volumes and Prices.”

Our consolidated sales of products and services increased 29.4% to U.S.$42,690 million for 2003, as compared to U.S.$32,987 million for 2002.

Included in sales of products and services are the following amounts which we collected on behalf of the federal or state governments:

Cost of sales

Cost of sales for 2003 increased 34.0% to U.S$15,416 million, as compared to U.S.$11,506 million for 2002. This increase was principally a result of:

These increases were partially offset by:

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Depreciation, depletion and amortization

Depreciation, depletion and amortization relating to exploration and production assets are calculated on the basis of the units of production method. Depreciation, depletion and amortization expenses decreased 7.5% to U.S.$1,785 million for 2003, as compared to U.S.$1,930 million for 2002. This decrease was primarily attributable to the 5.2% decrease in the value of the Real against the U.S. dollar in 2003, as compared to 2002, and to the effect of the adoption of SFAS 143 in 2003. In 2002, U.S.$281 million in abandonment costs were recognized as depreciation, depletion and amortization in accordance with SFAS 19. In 2003, as a result of the adoption of SFAS 143, depreciation on the asset retirement obligation was recorded under depreciation, depletion and amortization, while accretion expense was recorded under exploration, including exploratory dry holes. See “—Impact of New Accounting Standards—SFAS 143.” This change resulted in U.S.$21 million in abandonment costs being recognized as depreciation, depletion and amortization in 2003. The decrease in depreciation, depletion and amortization, was partially offset by an increase of depreciation, depletion and amortization expenses of approximately U.S.$182 million incurred in connection with the activities of PEPSA and PELSA.

Exploration, including exploratory dry holes

Exploration costs, including exploratory dry holes increased 17.7% to U.S.$512 million for 2003 as compared to U.S.$435 million for 2002. This increase was primarily attributable to the increase of approximately U.S.$49 million in exploration costs, including exploratory dry holes in connection with the consolidation of PEPSA and PELSA and U.S.$43 million in abandonment costs recognized. The increase in exploration costs, including exploratory dry holes, was partially offset by the effect of the 5.2% decrease in the value of the Real against the U.S. dollar in 2003, as compared to 2002.

Impairment of oil and gas properties

For 2003, we recorded an impairment charge of U.S.$70 million, as compared to an impairment charge of U.S.$75 million for 2002. In 2003, the impairment charge was related to certain of our oil and gas producing properties in Brazil, Colombia and Angola. In 2002, the impairment charge was related to certain of our oil and gas producing properties in Brazil and Angola. These charges were recorded based upon our annual assessment of our fields using prices consistent with those used in our overall strategic plan and discounted at a rate of 13%.

Selling, general and administrative expenses

Selling, general and administrative expenses increased 20.1% to U.S.$2,091 million for 2003, as compared to U.S.$1,741 million for 2002.

Research and development expenses

Research and development expenses increased 36.7% to U.S.$201 million for 2003, as compared to U.S.$147 million for 2002. This increase was primarily related to our additional investments in programs for environmental

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safety, deepwater and refining technologies of approximately U.S.$62 million, and was partially offset by the effect of the 5.2% decrease in the value of the Real against the U.S. dollar in 2003, as compared to 2002.

Other operating Expenses

For 2003 we recognized losses amounting to U.S.$326 million under other operating expenses which were composed of:

Equity in results of non-consolidated companies

Equity in results of non-consolidated companies registered a gain of U.S.$141 million for 2003, as compared to a loss of U.S.$178 million for 2002. This increase was primarily attributable to:

Financial income

We derive financial income from several sources, including:

Financial income decreased 47.3% to U.S.$602 million for 2003, as compared to U.S.$1,142 million for 2002. This decrease was primarily attributable to a reduction in financial interest income from short-term investments, which declined 79.4% to U.S.$163 million for 2003, as compared to U.S.$793 million for 2002. The reduction in financial income was also attributable to the 5.2% decrease in the value of the Real against the U.S. dollar for 2003, as compared to 2002. This decrease was partially offset by an increase of financial income of approximately U.S.$80 million resulting from the consolidation of PEPSA and PELSA in our 2003 financial results.

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Financial expense

Financial expense increased 61.1% to U.S.$1,247 million for 2003, as compared to U.S.$774 million for 2002. This increase was primarily attributable to our additional debt and an increase of approximately U.S.$194 million in financial expenses resulting from the consolidation of PEPSA and PELSA in our 2003 financial results.

Monetary and exchange variation on monetary assets and liabilities, net

Monetary and exchange variation on monetary assets and liabilities, net registered a gain of U.S.$509 million for 2003, as compared to a loss of U.S.$2,068 million for 2002. Approximately 90% of our long-term indebtedness was denominated in foreign currencies during each of 2003 and 2002. The fluctuation in monetary and exchange variation on monetary assets and liabilities, net was primarily attributable to the effect of the 18.2% appreciation of the Real against the U.S. dollar during 2003, as compared to a 52.3% depreciation of the Real against the U.S. dollar during 2002.

Employee benefits expense

Employee benefit expense consists of financial costs associated with pension and health care budgets. Our employee benefit expense increased 31.9% to U.S.$595 million for 2003, as compared to U.S.$451 million for 2002. This rise in costs was attributable to an increase of U.S.$166 million from the annual actuarial calculation of our pension and health care plan liability. The increase was partially offset by the effect of the 5.2% decrease in the value of the Real against the U.S. dollar in 2003, as compared to 2002.

Other taxes

Other taxes, consisting of miscellaneous value-added, transaction and sales taxes, decreased 7.5% to U.S.$333 million for 2003, as compared to U.S.$360 million for 2002. This decrease was primarily attributable to the 5.2% decrease in the value of the Real against the U.S. dollar in 2003, as compared to 2002, and the decrease of U.S.$61 million in the PASEP/COFINS taxes payable in respect of foreign exchange gains on assets, resulting from transactions with affiliates with assets denominated in foreign currencies.

Other expenses, net

Other expenses, net are primarily composed of gains and losses recorded on sales of fixed assets, general advertising and marketing expenses and certain nonrecurring charges. Other expenses, net for 2003 decreased to an expense of U.S.$700 million, as compared to an expense of U.S.$857 million for 2002. The most significant charges were:

The most significant charges for 2002 were:

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Income tax (expense) benefit

Income before income taxes, minority interest and accounting changes increased from U.S.$8,773 million for 2003 to U.S.$3,232 million for 2002. As a result, we recorded an income tax expense of U.S.$2,663 million for 2003, as compared to an expense of U.S.$1,153 million for 2002.

The reconciliation between the tax calculated based upon statutory tax rates to income tax expense and effective rates is discussed in Note 4 to our consolidated financial statements as of December 31, 2003.

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Business Segments

Set forth below is selected financial data by segment for 2004, 2003 and 2002:

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Management’s Discussion and Analysis of PIFCo’s Financial Condition and Results of Operations

You should read the following discussion of PIFCo’s financial condition and results of operations together with PIFCo’s attached audited consolidated financial statements and the accompanying notes beginning on page F-143. PIFCo’s audited consolidated financial statements and the accompanying notes have been presented in U.S. dollars and prepared in accordance with U.S. GAAP. In addition, as our subsidiary, PIFCo also prepares financial statements in accordance with accounting practices adopted in Brazil.

Overview

PIFCo is our wholly-owned subsidiary. Accordingly, PIFCo’s financial position and results of operations are significantly affected by our decisions, as its parent company. PIFCo’s ability to meet its outstanding debt obligations depends on a number of factors, including:

PIFCo earns income from:

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PIFCo’s operating expenses include:

Purchases and Sales of Crude Oil and Oil Products

PIFCo typically purchases crude oil and oil products in transactions with payment terms of approximately 30 days. We typically pay for shipments of crude oil and oil products that PIFCo sells over a period of up to 270 days, which allows us sufficient time to assemble the necessary documentation under Brazilian law to commence the payment process for such shipments. During this period, PIFCo typically finances the purchase of crude oil and oil products through either funds previously provided by us or third-party trade finance arrangements. The difference between the amount PIFCo pays for crude oil and oil products and the amount we pay for that same crude oil and oil products is deferred and recognized as part of PIFCo’s financial income on a straight-line basis over the period in which our payments to PIFCo come due.

Results of Operations

Results of operations for the year ended December 31, 2004 (“2004”) compared to the year ended December 31, 2003 (“2003”).

Net Loss

PIFCo had a net loss of U.S.$59.1 million in 2004, as compared to a net loss of U.S.$3.0 million in 2003.

Sales of Crude Oil and Oil Products and Services

PIFCo’s sales of crude oil and oil products and services increased 77.1% from U.S.$6,975.5 million in 2003 to U.S.$12,355.6 million in 2004. This increase was primarily due to (1) a 27.1 % increase in the volume of sales of crude oil and oil products to us, (2) an increase in exports of crude oil and oil products, principally to PETROBRAS AMERICA INC. – PAI (“PAI”), as a result of PIFCo’s new role as an intermediary for our exports that PIFCo assumed from another affiliate of ours beginning January 1, 2004, which increased sales volumes of crude oil and oil products by approximately 16.2% in 2004, (3) a 32.5% increase in the average price of Brent crude oil from U.S.$28.84 per barrel during 2003 to U.S.$38.21 per barrel during 2004 and (4) an increase in the volume of offshore sales of crude oil and oil products purchased from third parties and sold to third parties and affiliates.

Cost of Sales

Cost of sales increased 76.8% from U.S.$6,920.2 million in 2003 to U.S.$12,236.0 million in 2004. This increase was primarily due to a 27.1% increase in the volume of sales of crude oil and oil products to us, additional sales linked to PIFCo’s new export activities, principally to PAI, a 32.5% increase in the average price of Brent crude oil from U.S.$28.84 per barrel during 2003 to U.S.$38.21 per barrel during 2004, as well as an increase in the volume of offshore sales of crude oil and oil products purchased from third parties and sold to third parties and affiliates.

Selling, General and Administrative Expenses

PIFCo’s selling, general and administrative expenses consist primarily of shipping costs and fees for services, including accounting, legal and rating services. These expenses increased from U.S.$18.6 million in 2003 to U.S.$99.8 million in 2004, of which U.S.$96.8 million consisted of shipping expenses. In July 2003, our management decided to assign the responsibility for payment of shipping expenses previously paid by us, to PIFCo. PIFCo’s expects shipping costs to figure permanently as part of its selling, general and administrative expenses.

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Financial Income

PIFCo’s financial income consists of the financing of sales to us, inter-company loans to us and investments in marketplace securities and other financial instruments. PIFCo’s financial income increased 53.3% from U.S.$442.9 million in 2003 to U.S.$678.8 million in 2004, primarily due to an increase in the amount of sales to us, an increase in the interest component of the formula by which we reimburse PIFCo for its financing costs and for receipt of payments beyond the time periods previously agreed with us, and an increase in interest income from short-term investments.

Financial Expense

PIFCo’s financial expense consists of interest paid and accrued on its outstanding indebtedness and other fees associated with its issuance of debt. PIFCo’s financial expense increased 57.7% from U.S.$482.7 million in 2003 to U.S.$761.2 million in 2004, primarily due to a register of an expense in the amount of U.S.$64.2 million related to the difference between the face value and the market value of the repurchase of some of its outstanding securities.

Results of Operations for the year ended December 31, 2003 (“2003”) compared to the year ended December 31, 2002 (“2002”).

Net Loss

PIFCo had a net loss of U.S.$3.0 million in 2003, as compared to a net loss of U.S.$65.5 million in 2002.

Sales of Crude Oil and Oil Products and Services

PIFCo’s sales of crude oil and oil products and services increased 9.2% to U.S.$6,975.5 million in 2003, from U.S.$6,390.2 million in 2002, primarily due to a 16.5% increase in the average price of Brent crude oil from U.S.$24.76 per barrel in 2002 to U.S.$28.84 per barrel in 2003, a 9.7% increase in the volume of sales made by its subsidiary, PFL, in connection with our exports prepayment program and due to the favorable effects of the Iraq war and the effects, primarily in the first quarter, of the political and economic crisis in Venezuela on international prices and supplies of crude oil and oil products. The increase was partially offset by a reduction in the volume of oil products PIFCo sold to us as a result of the contraction in the Brazilian economy and the consequent loss of purchasing power among the population.

Lease income

As a result of PIFCo’s transfer of PNBV to us, PIFCo had no income from leases in 2003. In 2002, PIFCo’s lease income was U.S.$36.1 million.

Cost of Sales

Cost of sales increased 8.6% to U.S.$6,920.1 million in 2003, from U.S.$6,371.5 million in 2002, primarily due to the 16.5% increase in the average price of Brent crude oil in 2003, as compared to 2002, and the 9.7% increase in sales made by PIFCo’s subsidiary PFL in connection with our exports prepayment program. The increase was partially offset by a reduction in the volume of oil products sold to us as a result of lower demand for such products in the Brazilian market.

Lease Expense

As a result of PIFCo’s transfer of PNBV to us, PIFCo had no expense related to leases in 2003. In 2002, PIFCo’s lease expense was U.S.$24.0 million.

Selling, General and Administrative Expenses

PIFCo’s selling, general and administrative expenses consist primarily of shipping costs and fees for services, including accounting and legal services. These expenses increased to U.S.$18.6 million in 2003, as compared to

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U.S.$1.2 million in 2002, of which U.S.$17.1 million consisted of shipping expenses. In 2003, our management decided to assign to PIFCo the responsibility for payment of shipping expenses previously paid by us. From this point forward, PIFCo expects shipping costs to figure permanently as part of its selling, general and administrative expenses.

Gross Profit

PIFCo’s gross profit reflects profits from its third-party sales of crude oil and oil products and services (since PIFCo record profits from sales of crude oil and oil products to us as financial income). PIFCo’s gross profit increased 24.3% to U.S.$36.8 million in 2003, as compared to U.S.$29.6 million in 2002, as a result of the 16.5% increase in the average price of Brent crude oil from U.S.$24.76 per barrel in 2002 to U.S.$28.84 per barrel in 2003 and due to the favorable effects of the Iraq war and the effects, primarily in the first quarter, of the political and economic crisis in Venezuela on international prices and supplies of crude oil and oil products.

Financial Income

PIFCo’s financial income consists of the financing of sales to us and inter-company loans to us, investments in marketplace securities and other financial instruments. Our financial income increased to U.S.$442.9 million in 2003, from U.S.$219.6 million in 2002, primarily due to an increase in loans to related parties and interest received as a result of increases in the time period previously agreed with us for receipt of payments related to sales of crude oil and oil products to Petrobras from up to 120 days in early 2002 to up to 270 days beginning in May 2002 and continuing for the remainder of 2002 and throughout all of 2003, increases in the periods of time for receipt of payments beyond the time periods previously agreed with us and a modification of the interest component of the payment formula by which we reimburse PIFCo for its financing costs. In January 2003, this formula was adjusted in order to more fully pass on PIFCo’s average costs of capital to us.

Financial Expense

PIFCo’s financial expense consists of interest paid and accrued on its outstanding indebtedness and other fees associated with PIFCo’s issuance of debt. PIFCo’s financial expense increased 53.3% to U.S.$482.7 million in 2003, as compared to U.S.$314.7 million in 2002, primarily due to the increase in the amount of its long-term indebtedness. PIFCo’s long-term indebtedness increased to U.S.$5,825.3 million at December 31, 2003, as compared to U.S.$3,248.7 million at December 31, 2002. The increase in financial expense was partially offset by the lower average interest rate on its outstanding debt.