Mexico: Three keys to success

Author: | Published: 1 Jun 2011
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At the end of 2008 and during 2009, the world lived through one of the worst financial crisis of the last years which caused billions of dollars of losses in the capital markets and the global economy. Mexico was not an exception and suffered some of the consequences of the global financial crisis: companies experienced great difficulties in obtaining financing from financial institutions or from the debt and capital markets which caused the slowdown of the Mexican economy.

In order to reactivate the economy and to minimise the damage caused by the global financial crisis, the Mexican authorities made some modifications to the regulations of certain financial instruments and created new ones to support the companies to raise capital from the financial institutions or the general public to finance its activities and thus, to reactivate the Mexican economy.

Those instruments were created or modified to finance medium- and long-term projects (infrastructure projects, for example) in order to achieve certain objectives of the Mexican Development Plan 2007-2012 (Plan Nacional de Desarrollo 2007-2012), such as to have a competitive economy with an accelerated and sustainable growth which improves the living conditions of the population.

In this respect, there are three financial instruments that have helped companies to obtain financing for their projects and thus to reactivate the Mexican economy. The first is the capital development certificate (CKD), whose main purpose is to allow the development of medium- and long-term projects or the acquisition of securities, shares, stocks, bonds, and so on, representing the capital stock of entities. The second is real estate trusts (Fibras), which are trusts created to finance medium- and long-term real estate projects. Finally initial public offerings (IPOs), which already existed, had an extraordinary response from investors in the capital markets over the past year.

Capital development certificates

CKDs have their origin in a structured instrument created on 2007 by the Mexican authorities, which guaranteed its nominal value at maturity date and with returns partially or totally linked to assets held in trust. The structured instruments granted the right to receive the proceeds from the financed project and from the assets held in trust.

This instrument had two main components, a guaranteed component, which was a bond or debt instrument issued by national entities, and a variable component linked to the performance of the promoted company, financed project or the guaranty, collateral or security granted. This instrument was created to expand the investment regime of institutional investors such as Mexican pension funds but it did not achieve the expected results due to inconsistencies between the regulation issued by the National System of Retirement Savings, the Mexican Stock Exchange and the National Banking and Securities Commission and also due to the investors' risk aversion caused by the lack of understanding of such instrument. For these reasons, the structured instrument existed only for two years (from 2007 to 2009) and only one public offering was approved and placed in the Mexican Stock Exchange.

According to the amendments made on 2009 by the Mexican authorities to the regulation of the structured instrument, one of the legal reasoning to create CKDs was the development and dynamism of the securities market which presented trust securities certificates with these particularly characteristics (for example financing development of companies projects or activities or the acquisition of certificates representing capital stock).

In addition, the authorities considered that investments through these instruments could create a mechanism to reactivate the Mexican economy, generate employments and minimise the adverse effects of the global financial crisis.

From a risk analysis perspective, this type of trust securities certificate may be considered more as an instrument close to capital securities than to debt securities due to its characteristics (no obligation exists to pay principal amounts invested nor its interest). In this respect, the authorities were concerned about the former regulation of the structured instruments, so they put special attention on including specific rules to protect the interests of investors and ruled in a better way the behaviour of issuers within the stock market.

The vehicles to issue CKDs may be used to finance one or more projects (or companies) or may be also structured as a private equity fund to acquire participation in capital stock of companies.

Likewise, CKDs were created to finance medium- and long-term projects in Mexico (infrastructure, forest, ecological, private equity funds, and so on) by institutional investors. In this respect, the investment regime applicable to specialised investment companies of Mexican pension funds (Siefores) allows them to invest in CKDs.

In order to minimise the risk exposure of the Siefores, and therefore, the risk exposure of the savings of Mexican workers while investing in CKDs, the authorities compel the Siefores to attach the CKDs to a national or foreign debt instrument which guaranties at least, the principal amounts (and its interests) invested in CKDs.

As mentioned above, one of the main characteristics of CKDs is that they do not incorporate the obligation to pay the principal amounts (nor the interest) obtained through their public offering.

The returns of the CKDs are linked to the achievement of the financed project or the business plan of the company and, therefore, the authorities imposed more strict regulations on these types of trust security certificates (such as the corporate governance and business plan).

Definition

CKDs are a type of trust security certificate defined as a general rule by the Securities Market Law as negotiable instruments representing the individual participation of its holders in a collective credit of a company or the assets held in an irrevocable trust which grant any of the following rights: (i) a part of the property or ownership of the rights or assets held in trust; (ii) a part of the returns or proceeds of the rights or assets held in trust; (iii) a part of the product of the sale of the rights or assets held in trust; or (iv) the right to receive payment of capital contributions and, as the case may be, interest.

However, a specific approach to the definition of the CKDs is contained in the Internal Regulations of the Mexican Stock Exchange which defines the CKDs as trust securities certificates issued by trusts for a specific or determinable period of time with uncertain and variable returns, and partially or totally linked to underlying assets held in trust, which main purpose is to finance the development of activities or the accomplishment of companies' projects or the acquisition of titles representing capital stock of companies.

There are two types of CKDs: Type A which were created to finance companies, projects or to acquire participation of capital stock of two or more companies, and Type B which were created to finance only one company or project.

Structure

An irrevocable trust agreement must be created for the main purpose of (i) setting the rules to finance the project or projects, the company or companies or the structure similar to a private equity fund and (ii) to issue the CKDs to obtain resources from its public offering.

The trust will hold the assets and/or rights contributed by the company or the project seeking for financing and the resources obtained through the public offering of the CKDs.

The trust will include a business plan for the development of the activities of the project or the companies that are being financed.

To protect the investments made by the holders of the CKDs, the delivery of the resources to finance the company or the project will be conditioned to the compliance of the business plan.

The CKDs' holders will be designated as first beneficiaries and will have minority rights, depending on the ownership they hold. To this date, 15 CDKs have been authorised and placed in the Mexican Stock Exchange raising an amount of approximately M$37.4 billion ($3.17 billion) from investors to finance the development of Mexican projects.

Fibras

The second financial instrument is the real estate trust, or Fibra, which is an instrument created to finance the development of real estate projects, offering to its holders periodic payments obtained from the lease of the real property held in trust and with the possibility to obtain additional proceeds from the increase on the surplus value of the real estate.

The Income Tax Law defines Fibras as trusts created for the acquisition or construction of real estate for its lease or for the acquisition of rights to receive proceeds from its lease as well as to provide financing for such purposes.

Fibras must comply with the following characteristics:

(i) It must be incorporated under Mexican laws and the trustee must be an authorised banking institution (commercial banks);

(ii) its main purpose has to be the acquisition or construction of real estate for its lease or the acquisition of rights to receive the proceeds from its lease as well as to provide financing with mortgage for such purposes;

(iii) at least 70% of the funds held in trust must be invested in the activities referred to above and the remaining proceeds must be invested in debt instruments issued by the Federal Government or in shares of mutual funds;

(iv) the real estate may not be sold for a period of four years from its acquisition; and

(v) the trustee must issue security trust certificates which will be placed in the Mexican Stock Exchange through a public offering or through a private offering to at least 10 investors, none of which may hold more than 20% of the total security trust certificates.

There are certain tax benefits for Fibras. For example, the settlors of the trust which contributes real estate to form the trust estate and which receives securities trust certificates in exchange, may defer the payment of the income tax on the gain of the contribution of the real estate.

In this respect, the settlors will have to pay the income tax until they sell the security trust certificate or until the trustee sells the real estate to third parties.

Another tax benefit is that the trustee of the Fibra is not bound to calculate and pay provisional payments as it otherwise would have to do with a trust with similar characteristics.

Foreign residents and Mexican individuals are exempt from paying income tax on the proceeds received from the sale of the security trust certificates provided that such sale is made within a stock exchange. Likewise, the Siefores are exempt from paying income tax on the proceeds received from the security trust certificates. This benefit encourage these type of institutional investors to invest in Fibras and thus, to finance real estate development in Mexico.

Although the regulation of Fibras existed since a few years ago, it was not until 2011 that the first Fibra, Fibra Uno, was authorised and placed in the Mexican Stock Exchange.

Fibra Uno is a trust with 15 real estate properties and the lease rights of an additional real estate property of industrial, commercial and business nature and it intends to expand its real estate portfolio by acquiring three additional commercial properties.

It was placed in the Mexican Stock Exchange on March 17 2011 obtaining approximately M$3.62 billion from its public offering.

IPOs

The last financial instrument is the IPO, which aids companies in the financing of mid- and long-term projects.

A company that intends to go public in the stock exchange must register its shares with the National Registry of Securities and must file the company's audited financial, legal and corporate information as well as the public offering information.

The company must also file any additional information required by the General Dispositions for Issuers issued by the National Banking and Securities Commission. In this respect, the company must prepare an offering prospectus for potential investors.

Afterwards, the company must obtain the approval from the Mexican Stock Exchange and an official authorisation from the National Banking and Securities Commission. Once these are obtained the initial offering may take place.

Companies with shares registered in the Mexican Stock Exchange must provide audited quarterly and annual financial information and an annual report, and comply with the Code of Best Corporate Practices in Mexico as well as provide all corporate information and information regarding every relevant event of the company.

The company establishes the price of the stock they will be placing in the market depending on the market's current conditions, offering investors an attractive annual rate and allowing the company to finance its projects.

The advantages of an IPO are liquidity and cash flow for the company. When a company goes public it acquires efficiency and becomes more competitive, increasing its value.

There are three types of IPO: primary IPOs, when the income received goes directly to the company; secondary IPOs when the income goes to the shareholders; or joint IPOs when the income goes to both.

The number of companies that have gone public since the global financial crisis has been increasing.

In 2008, only two companies went public (The Mexican Stock Exchange and Genomma Lab Internacional); in 2009 no company became public; and during 2010 and until the date of writing, seven new companies went public, obtaining in total approximately M$21.7 billion.

A silver lining

Mexico has also suffered consequences due to the global financial crisis, but in 2010 and 2011 the implementation of new financial instruments has helped the financing of companies and thus the economic development in the country.

Through IPOs, CDKs and Fibras, Mexican companies have obtained financing to create or develop medium- and long-term projects by accessing the capital markets.

Since the global financial crisis and to date, Mexican companies have had the opportunity to obtain financing by these means for a total amount of approximately M$62.71 billion.

In this respect, the Mexican Stock Exchange expects to approve and place more Fibras, CKDs and IPOs to continue with the financing of Mexican companies and thus, the improvement of the Mexican economy.

About the author

Miguel Angel Peralta has been partner of the firm since 2007 in the banking, finance and capital markets practice group at the Mexico City office. His professional practice has developed in the area of banking, finance and capital markets as well as in M&A and real estate. He has participated in national and international transactions including syndicated loans and other financing transactions, IPOs, securitisation, financial regulatory matters, LBO, formation of businesses, agreements among partners, strategic associations, M&A, reorganisations, banking investments, acquisitions through the stock exchange, public and private offers. He has also participated in the incorporation or affiliation of foreign financial institutions.

Peralta is a member of the College of Lawyers of The Mexican Bar and of The International Association of Young Lawyers. He graduated from the University Del Valle De Mexico Law School, and has a diploma degree in corporate law from Iberoamerican University and a master’s degree in North American Law from Boston University. He speaks Spanish and English.

Contact information

Miguel Angel Peralta
Basham Ringe y Correa

Paseo de los Tamarindos No. 400-A, Piso 9
Bosques de las Lomas
05120, México, D.F.
t: +52 55 5261 0400
f: +52 55 5261 0496
e: basham@basham.com.mx    
w: www.basham.com.mx

About the author

Christian Dorantes obtained his law degree in 2008 from the Instituto Tecnológico Autónomo de México.

He joined Basham Ringe y Correa in 2010 as an associate specialising in securities, corporate, finance and banking law. He has actively worked as Mexican counsel in structured finance, securitisations, credit structuring and financial services in general for domestic and foreign clients. Dorantes speaks Spanish, English and German.

Contact information

Christian Dorantes
Basham Ringe y Correa

Paseo de los Tamarindos No. 400-A, Piso 9
Bosques de las Lomas
05120, México, D.F.
t: +52 55 5261 0400
f: +52 55 5261 0496
e: basham@basham.com.mx
w: www.basham.com.mx