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Insight

The Building Blocks for a New Infrastructure Era

Tue, 01/17/2017 - 11:37

With the election of US President Donald Trump, investors and the private sector rang in 2017 with uncertainty and conservative investments across all sectors. S&P predicts that the NAFTA renegotiation could hurt Mexico’s transportation industry over the years due to a potential weakening of the country’s expected GDP growth. But after rating various infrastructure players, the agency believes the sector has strong credit quality that will allow it to weather the storm. Investors were cautious, but nobody backed away from the opportunities. After a couple of months, the sector began to see movement, especially within the real estate segment.

MEXICO’S POSITION

Latin American countries on average invest 3.3 percent of their GDP in infrastructure development, while Asian and Pacific countries invest on average 7.7 percent of their GDP, according to the World Bank. CEPAL states that for Latin American countries to bridge their infrastructure gap, they would have to invest 6.2 percent of their GDP annually for eight years.

In the first five years of Peña Nieto’s term in office, MX$521.8 billion (US$27.3 billion) was allocated to SCT, an average of MX$104.36 billion (US$5.46 billion) each year and 2.4 percent of the total budget. According to the Global Infrastructure Hub, the public sector invested more than US$70.6 billion and the private sector invested US$12.2 billion in infrastructure in the last five years in Mexico, equating to a total of US$16.56 billion per year. With Mexico’s GDP standing at US$1.046 trillion, this adds up to just 1.58 percent of GDP, falling significantly short of the investment required to meet infrastructure demand.

In WEF’s 2017 Global Competitiveness Report, Mexico dropped two spots from 57 to 62 in comparison to last year. Through this presidential term, Mexico failed to rise above the 57th ranking. This year, transport infrastructure was impacted the most, falling in the charts and impacting the total infrastructure ranking.

The country’s quality of infrastructure score is 4.3 of 7 and of the six axes, it performed the best under the Planning and Selection section by having a public project pipeline, a national infrastructure plan and guides for appraisal of projects. Nevertheless, in procurement, where the country does not publish procurement guidelines, it registers low scores in terms of bid evaluations, transparency and post-award management of contracts. GI Hub estimates that Mexico requires a US$1.1 trillion investment to meet its infrastructure needs. It currently has a US$544 billion shortfall in that investment.

THE ROAD TO ELECTIONS

Election years tend to make not only investors weary but both the private and public sectors. With elections around the corner, as of October 2017 there was little knowledge of candidate plans for infrastructure development. The pre-candidate for Morena, Andrés Manuel López Obrador, is expected to impact infrastructure development if elected. In his book, 2018 La Salida, he discusses his vision for Mexico’s future infrastructure development. Apart from reverting the education, energy and fiscal structural reforms passed by Peña Nieto’s administration, his plan includes the construction of new highways, two new airstrips in the Santa Lucia Air Base and the cancelation of NAICM. He wants to develop new refineries in Tabasco and Campeche.

Project continuity is one of the most pressing issues concerning industry players when it comes to changes in political terms. “A new administration is a risk to developers because authorities with a different vision may prevent the continuation of important public projects. This creates a cycle of projects with a short-term vision as it is difficult to ensure the long-term continuity among rotating administrations,” says Francisco Ibáñez, Lead Partner, Capital Projects and Infrastructure at PwC.

Mexico’s short-term vision has stunted its economic growth due to a shortage of transport infrastructure. Various road projects have been stopped for over six years and the expansions of the country’s ports still have a long way to go. “In my opinion, the current political leaders should ask themselves how they would like to see that state or area in five years,” says Julio Amodio, Director General of CAABSA. “If we continue to base our projects and decisions for the short-term, we will not move forward.”

CONSTRUCTION PERFORMANCE

The construction sector plays a major role in the economic development of the country and has the potential to represent between 4-5 percent of GDP. Budget cuts have deeply impacted the industry in the last five years. From 2013 to 2016 it grew an average of 0.4 percent, mainly thanks to an increase in private sector investment and in specialized works, which rose 4.2 percent and 10 percent in 2016, respectively.

In 1H17, the sector grew 1 percent in comparison to the same period in 2016, a low percentage resulting from the cuts in public spending and rising interest rates. Even though the sector is experiencing slower growth, it is still the fourth most important economic activity in Mexico and the third most important sector in terms of jobs generation, representing more than 6 million direct jobs and 3 million indirect jobs.

According to CMIC, the market is worth approximately MX$2.4 trillion and is divided into 23 percent public sector and 77 percent private sector. Of the private sector’s participation, industrial construction represents 15.6 percent; nonresidential construction, 8.7 percent; housing, 39.2 percent; construction of hospitals and schools, 9 percent; commercial, 18.3 percent; tourism, 4.4 percent; and maintenance and repair, 4.8 percent.

MOTHER NATURE TAKES A TOLL

Mexico’s cities are growing, and they are growing fast. By 2040, more than 88 percent of the country’s population will be living in urban areas and by 2050 that figure will be more than 90 percent. As part of the 2030 Agenda, Mexico agreed to reach 17 Sustainable Development Goals (SDG) that will help end poverty, fight inequality and ensure a prosperous future for all. Mexico must invest US$544 billion in infrastructure to 2040 to reach the SDGs.

The SDGs that are impacted by or impact the Mexican infrastructure industry are: Clean Water and Treatment, Decent Work and Economic Growth, Climate Action, Sustainable Cities and Communities, Industry, Innovation and Infrastructure, and Clean Water and Sanitation. Companies within the infrastructure industry, such as Rotoplas, are taking matters into their own hands and establishing the same goals for their companies.

In September 2017, Mexico’s foundations were shaken by two earthquakes. The first on Sept. 7 with a magnitude of 8.2 and an epicenter in Chiapas and the second on Sept. 19 with a 7.1 magnitude along the border of Puebla and Morelos. These two earthquakes destroyed more than 150,000 houses, leaving more than 250,000 people without a home, according to SEDATU. The country’s housing deficit in 2017 was 12.2 million homes and will only increase with the damage wrought by the earthquakes. Material prices had been on the rise for the last few months and with the earthquakes, it was predicted that prices would skyrocket as demand increases. In 1Q17, construction prices rose 12.5 percent compared to the same time last year, a rate not seen since 2008.

THE PROPOSED BUDGET 2018

Throughout the Peña Nieto presidential term, infrastructure spending has fluctuated between 1.5 and 3 percent of the federal budget. SCT’s budget has varied through the years with the highest percentage allocated in 2013, 2014 and 2015, following an investment pattern of lower spending at the end of a presidential term. With the proposed budget for 2017, a total of MX$522 billion (US$27.4 billion) will have been allocated to SCT from 2012-2017.

In September, the Ministry of Finance proposed the budget for 2018 but the two earthquakes that struck Oaxaca- Chiapas and Morelos-Puebla have yet to be contemplated. The budgets for 2016 and 2017 were drastically impacted by dropping oil prices, but the preliminary budget for 2018 will not be as harsh, with a cut of MX$43.8 billion (US$2.3 billion, or 0.2 percent of the GDP).

In 2017, the two main investment packages will be in the hydraulic sector and for communication and transportation projects under SCT. MX$11.5 billion (US$604 million) will be allocated to repairing and constructing water infrastructure throughout the country. SCT will have a budget of MX$7.2 billion (US$378 million) to finish all the projects on its list, with more than 25 percent of the budget allocated to railway and multimodal development. GACM will be allocated MX$5.8 billion (US$304 million) to advance the construction of NAICM and MX$3.2 billion (US$168 million) will be for the conservation of roads and highways. The states that will receive the most money in 2018 are Oaxaca, Guanajuato, Campeche, Chiapas and Puebla.

The 2018 budget cuts will place construction companies and SCT on the tightrope as they race against the clock to complete the country’s most important infrastructure projects. The Mexico-Toluca Interurban Train, Guadalajara Electric Urban Train, NAICM and the government’s commitment to boost the country’s road network and water infrastructure are the most important projects for the year to come.

The NIP details three mass transportation projects: Mexico- Toluca Interurban Train, Line 3 of the Guadalajara Electric Urban Train and Line 3 of the Monterrey Metro, which have a 57.4 percent, 67.7 percent and 85 percent completion rate respectively as of July 2017. The Mexico-Toluca Interurban Train, which was divided in three sections, has been advancing slowly.