Latin American infrastructure ripe for Chinese investment

By Samantha Hu and Chad Purdie, Diaz Reus & Targ
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Infrastructure is what most of us take for granted – roads, utilities, airports, healthcare sites and educational facilities.

In Latin America, where governments face the age-old problems of budget deficits and strained public debt markets, the trend over the past few decades has been to depend more and more on foreign investment to improve the amount and quality of such infrastructure. It is in this area that China could step into the market, especially given recent policy decisions which smooth the way for investment in infrastructure.

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Samantha Hu
Associate attorney
Diaz Reus & Targ

China has not traditionally been a major foreign investor in the region, with its US$22 billion per year paling in comparison to the European Union’s US$620 billion. However, according to official Chinese data, Latin America accounts for about one quarter of China’s total overseas investment. Recent major Chinese investments include billions for Venezuela’s transportation and telecommunications sectors, as well as Brazil’s aviation, rail and shipping industries.

Now is the time for investment in infrastructure

A quick look at the projected growth of the infrastructure industry in Latin America shows how the time for Chinese investment is now. South America is expected to triple its GDP growth rate in 2010 after a few years of slow growth. Mexico, which had seen its infrastructure industry reach nearly 5% growth in 2007 before falling to -1.5% in 2009, is expecting to shoot up to nearly 3% growth in just one year. What is more, total investment in infrastructure in the region has fallen over the past two decades from a weighted average of 3.6% of GDP to 1.9% of GDP.

Against this background, various governments in the region have pledged economic stimulus packages with large amounts earmarked for infrastructure development and reinvestment. Likewise, they are enacting new legal frameworks that encourage more public-private partnerships. Through these partnerships, partners in the public and private sectors share the costs and benefits of the infrastructure itself. And finally more infrastructure fund managers are entering the market in the hope of participating in the privatization of assets, and lending their operational and financial expertise. The desired result: improved efficiency.

At the same time, infrastructure capital funds are raising money like never before. In 2004, there were only six Latin America infrastructure funds with a total of US$3.4 billion in capital. This year, there are 24 active funds raising $44.4 billion to invest in the Americas. Critically, according to the Americas Infrastructure Update 2009, published by RREEF Alternative Investments, transaction activity relating to Latin American infrastructure projects has held relatively steady over the past few years, despite the recent credit crunch.

Legal and political risks

As Chinese investors start to become actively involved in infrastructure projects in Latin America, political, economic and legal risks are of paramount concern. Due to the inherent language barriers and cultural differences, evaluating and mitigating those risks is not an easy job.

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Chad Purdie
Associate attorney
Diaz Reus & Targ

Politically, the risk of expropriation and transfer loss are usually the key factors in investment decisions – especially in the infrastructure field, where projects tend to be long-term. Investors are loath to invest millions of dollars in a country where the government is likely to take their property without compensation or prohibit expatriation of profits. According to the Office National du Ducroire, the Belgian export credit agency, Venezuela and Bolivia present the highest risk in terms of expropriation among all Latin American countries, while the risk of transfer loss is highest in Bolivia and Argentina. In addition, the consistency and continuity of governmental economic involvement is another aspect to consider when attempting to mitigate political risks. In order to best avoid that problem, invest in Chile, says the World Economic Forum in its publication Benchmarking National Attractiveness for Private Investment in Latin American Infrastructure.

Teaming up with a local partner is often the most effective way to avoid legal setbacks. Many Latin American countries have overly bureaucratic, unstable, and inefficient judicial systems, so it can be crucial to work with a reputable local enterprise that is familiar with the domestic laws and regulations. It is also suggested to check the track record of the government of the destination country with regard to maintaining the continuity of the applicable investment regulations and policies over time. This is particularly important considering the long time-scale often inherent in infrastructure projects. The worst-case scenario for any investor is to lose everything, without due compensation, merely because of the political whims of a volatile government.

Dispute resolution procedures essential

Another crucial issue for Chinese investors to consider is the lack of truly effective mechanisms for resolving disputes in Latin America. Quality dispute resolution procedures form an essential part of an investor’s overall investment, as it often becomes the last best chance to protect investors’ interests. Thus, as Chinese investors move into Latin America, they need always to make sure that such procedures are firmly in place before any work is done. Arbitration is usually considered a better approach than litigation because it offers savings in terms of cost and time. A well-drafted arbitration clause in investment and partnership agreements should include, as a minimum, provision for a proper arbitration tribunal, and the specification of applicable laws, procedures and language.

Forward planning

Chinese investors in Latin America can avoid many of the most dramatic economic and legal risks with some simple planning at the outset. Doing things right from the beginning could lead to an overall increase in Chinese economic influence in Latin America, particularly at a time when the region is begging for capital and improvements in infrastructure.

Samantha Hu and Chad Purdie are associate attorneys at law with Diaz Reus & Targ.

Diaz Reus & Targ 美国达瑞律师事务所

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