December 1, 2014
Interviewed by: David Snow
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Building Value in the Pacific Alliance

Three private equity professionals engaged in the growth markets of the Pacific Alliance—a trade bloc of four Latin American countries—discuss the best way to build value in a portfolio company.

Three private equity professionals engaged in the growth markets of the Pacific Alliance—a trade bloc of four Latin American countries—discuss the best way to build value in a portfolio company.

Building Value in the Pacific Alliance
Inside the Pacific Alliance

David Snow, Privcap: Today, we’re joined by Luis Harvey of Nexus Capital, Patricio D’Apice from Moss Equity Partners, and Michael Rogers from EY. Gentlemen, welcome to Proof Cap today. Thank you for being here.

Patricio D’Apice, MAS Equity PartnersThank you.

Michael Rogers, EYThank you.

Luis Harvey, Nexxus CapitalThank you very much.

Snow: We are talking about investing in the private equity markets of the Pacific Alliance. Of course, Nexus Capital is based in Mexico. Moss Equity is in Colombia. And Mike Rogers, you oversee private equity for Ernst & Young and have a real deep understanding of the emerging market, so it’s great to have you all here commenting.

I’d like to learn a bit more about the types of businesses that your two private equity firms are focused on in your respective markets.

Maybe starting with Patricio, what are the most exciting sectors of the economy that you’re looking to invest in right now?

D’Apice: There’s two main drivers of growth in the Andean region, and it’s very similar in the different countries. One of that is the growth of the middle class that, in the case of Colombia, has doubled during the last eight years, and income per capita has tripled during the last eight years. That is creating a strong demand for more sophisticated goods and services, especially services where countries like Colombia are more competitive. I think that the country has lots of good human resources that can provide very good, sophisticated services like financial services, education, health, entertainment, and tourism.

The other driver of growth is infrastructure. These countries are investing close to 2 percent of GDP and infrastructure every year, and according to World Bank, they should be investing up to 5 percent of GDP to keep the GDP at its full potential. So the gap is large. In Colombia, the government has a $5 billion plan for the next five years. And we target—and we prefer to target—the companies that provide services to infrastructures, industries, and projects.

For example, for each oil field, you will find between 30 and 50 companies that are small and medium companies, that are run by families or professionals, and that provide services to the oil and gas company. And those companies are in great need of capital and guidance for growth.

Snow: Luis, is that a similar situation to what you’re looking at in Mexico through Nexus Capital?

Harvey: Yeah, at the end of the day we believe that there is a very large growth in disposable income in the middle class, which is the largest portion of the population. That’s what we have to focus on. That’s what we have been focused on, transitioning on these, as we started in business in Mexico. You have to satisfy all these goods and services of these people that can afford to buy for the first time, in many cases. So you have to provide those goods and services with the companies that we invest in.

And absolutely, the potential for growth is enormous. The possibilities for doing business are very large.

On the theme of infrastructure that Patricio was mentioning, it’s very important, I think, to mention that infrastructure needs are all over the place. Some countries are behind., some countries are more advanced, but at the end of the day it’s the same theme.

In Mexico, for the last ten years, there’s been a huge infrastructure buildup. But still, they need to continue doing it substantially in a much larger fashion, if you’re going to be able to absorb all these people that are coming to the workforce. And if you’re going to avoid bottlenecks for growth, like it’s happened in other countries, our expectation is that after reforms that have happened in Mexico in the last year, the country’s going to be growing to 4 or 5 percent a year. We see that as very possible.

Snow: And just a quick follow-up question for you, Luis. You mentioned reforms. Obviously the most important reform is probably the energy reform in Mexico. And that’s going to open up a tremendous new need for infrastructure, right, as new developments come online in the Eagle Ford Shell?

Harvey: Mm-hmm. I mean, of course, the energy reform, it’s going to make a whole set of new investments come into the country, and that’s going to be a complete new asset class. The requirements for investment in petroleum and oil, in particular, or in gas are so very large. And we’re going to have a lot of people coming here like they did in Colombia a few years ago.

But you know, the other reforms are extremely important. Political reform was extremely important to make things happen and make sure that things continue to happen the way they’re happening. Education reform, it’s going to be years until we see the results. Labor reform, fortunately, already happened, so it makes life for companies hiring and potentially firing people easier, so it gives you more flexibility. And then you have the other reforms, you know—telecommunications reform and all these other reforms. What they’re trying to do is tackle monopolies; Mexico’s a country that’s had many monopolies.

D’Apice: I have a question, Luis. For practical purposes, how do you see the development of the oil and gas industry in Mexico, given the energy reform? Because there’s much speculation about how long will it take to—

Harvey: It will take a long time. I think, from what they say to what’s going to end up happening, who knows what’s going to happen? But the important thing is that you have to have the private sector come in. And the private sector does rational things, hopefully. And the expectation is that the oil production will eventually go back to 3.2 million, 3.3 million barrels a day.

Snow: Mike, getting back to the Pacific Alliance part of the equation

Rogers: Sure.

Snow: Can you talk about maybe clients that you’ve spoken with and whether their view is changing about their ability to create cross-border companies in the Pacific Alliance countries?

Rogers: Well, I think—just to follow up a little bit on the sector idea—with all the young population, in terms of the countries that are down in Latin America, many of them have young populations. They’re going to be taking advantage, as was touched on, of financial services and consumer products. We see those sectors continuing to have a tremendous interest, private equity. Private equity funds love to have consumer products companies, and they love to have scale.

And so I think one of the challenges for some of the larger U.S. global funds, if you will, to go down and play into some of these Latin American countries—particularly if we focus on the Pacific Alliance—has been scale. There haven’t been that many companies that hit their hurdle rates of, call it $150 million of U.S. entry value. And so what I think a lot of the Pacific Alliance, we hope, we anticipate, will do is allow these companies to find growth more quickly.

Snow: To Mike’s point about scale and size, a follow-up question for each of you: Is the Pacific Alliance and even the ability to build a cross-border business more important for a company based in what’s called a smaller country, like Chile or Peru? Or is it equally important for, let’s say, a company based in a relatively large country like Colombia?

D’Apice: I would say it’s fairly equally important for both kinds of companies. Each country has its own idiosyncrasies and advantages. Colombia, for example, can be a good exporter of know-how in the oil and gas industry, Chile and Peru in mining, Mexico in the consumerservices area, specifically, in restaurants and food. So there’s much complementarities between these kinds of countries.

Snow: You mentioned the examples of Colombia and Peru. Is that a common investment expansion theme for you, to look at that market when you are experiencing success first in your home market?

D’Apice: Yes, we found many synergies between Colombia, Peru, Chile, and Mexico, actually. Countrywise, I think that funds in Mexico and companies in Mexico in the food and restaurant areas are looking into Colombia. And also transport companies, for example, from Peru are looking into Colombia. Financial services companies are growing out of Colombia into Central America and Peru. So, again, there’s much complementarity, and I don’t see that there’s a competition between countries in the same industries.

Snow: Luis, you mentioned that obviously the Mexican domestic market is huge, and it’s something that is probably your primary focus. But then, you’re looking at trade with the U.S. At what point or in what circumstances do you see opportunities to expand your portfolio companies south to places like Colombia and the other countries?

Harvey: It depends on the company. We decide whether we want to do it south or we want to go north. The reality is, in some cases it’s easier to go north, because we have a huge Mexican population in the U.S. in particular pockets. But then, of course, the introduction of certain other concepts that we have in South American markets—sometimes it’s easier before actually going to the U.S. markets.

What is EY’s presence in the Pacific Alliance, and how does the firm help businesses in the region to thrive?

Mike Rogers, EY: Our primary focus in the Pacific Alliance is to help private equity funds to not only source ideas and find opportunities, but also to execute the diligence and look at the taxstructuringtype work. We’re helping more and more through the valuecreation phase as well. Ultimately, we help with exits, and we help them monetize and realize, if it’s either through an IPO or through a secondary sale or a trade sale to some larger entity somewhere in the world. But the principal part of our business that seems to be thriving is in the private equity work in Colombia, in Mexico. We have a very big franchise of folks in those markets, and we’re growing and adding people.

What kind of help do companies in the region seek from EY?

Rogers: We’ve seen corporate governance continue to improve in many of those markets, and a lot of the companies in those markets understand that if they’re going to be received on the world stage, they have to have good corporate governance and good financial arrangements. A lot of our workaround is making sure, on the diligence front, that we understand exactly what our clients are getting into. There’s not only the financial side, making sure the statements are correct, but looking at the taxes as well. So there’s a lot of focus on the financial diligence along with the tax component, just making sure the investments make sense and fit into the portfolios of these companies.

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