Lexology GTDT Market Intelligence provides a unique perspective on evolving legal and regulatory landscapes. This interview is taken from the Private Equity volume featuring discussion and analysis of emerging trends and hot topics within key jurisdictions worldwide.
1 What trends are you seeing in overall activity levels for private equity buyouts and investments in your jurisdiction during the past year or so?
In the past year, the trends for private equity and investment were mainly focused on the financial, e-commerce, information, technology, healthcare, consumer products and services sectors. Although the real estate, infrastructure and energy sectors showed a decrease in the number of deals and capital raised, it is expected that, during the following months, those sectors will regain the leadership shown in past years.
Beside these sectors, a remarkable trend in private equity investments nowadays is the fintech industry. Since Mexico leads the fintech ecosystem in Latin America, with around 394 fintech companies operating in the country, and as a result of the publication of the Fintech Act on March 2018 and its secondary regulation in the following months, the fintech industry has been targeted by both national and international investors interested in entering the Mexican fintech market.
Stock market valuations may have some impact on the private equity market. However, since the companies listed on the stock market are not numerous, buyout firms may not be heavily influenced by such valuations.
Notwithstanding that there have been some large-scale transactions, private equity transactions have been concentrated primarily in small and mid-sized companies that are not traded on the stock market, with horizontal investments made over three to nine years, on average.
2 Looking at types of investments and transactions, are private equity firms primarily pursuing straight buyouts, or are other opportunities, such as minority-stake investments, partnerships or add-on acquisitions, also being explored?
One of the outstanding aspects of the Mexican market is that we have seen almost every type of investments, from typical equity transactions, to mezzanine loans, leveraged buyouts and a variety of arrangements with a large number of start-ups. Besides the well-known energy and infrastructure industries, since the Fintech Act has given more regulatory certainty to investors, fintech start-ups have become another hotspot for investment.
Another important and attractive characteristic that has gotten the attention of investors is the diversity of companies in the Mexican Market, from start-ups to big portfolio companies. Although private equity transactions are concentrated in small and mid-sized companies, there are also some transactions involving portfolio companies.
3 What were the recent keynote deals? And what made them stand out?
Caisse de Dépôt et Placement du Québec (CDPQ), a long-term institutional investor, acquired a minority stake in the Mexican pharmaceutical company SANFER for US$500 million. This investment has been one of the largest minority private equity transactions recorded in Mexico. It will enable SANFER to continue executing its expansion plans across Mexico and the broader Latin American region.
Despite a decrease in the number of deals in the infrastructure sector, Gran Ciudad, a fully integrated real estate company based in Mexico City, closed a real estate funding deal of US$313 million with equity commitments from Ivanhoé Cambridge, a global Canadian real estate investor, and from Citibanamex Afore, the second-largest pension fund manager in Mexico.
The fintech industry presented several deals during the past year. One of the keynote deals was the investment by SoftBank and General Atlantic in the Mexican fintech start-up Clip. This investment was part of a round that raised roughly US$100 million, one of the biggest investment rounds recorded in the fintech industry.
4 Does private equity M&A tend to be cross-border? What are some of the typical challenges legal advisers in your jurisdiction face in a multi-jurisdictional deal? How are those challenges evolving?
Most private equity in the country comes from foreign investors. Therefore, there is a need to engage in cross-border transactions. One of the primary challenges legal advisers face is the business culture in Mexico. Although legal advisers are familiarised with the typical vehicles involved, they face cultural issues, since there are still family businesses that tend to be run with antiquated methods. However, this adverse ‘cultural’ issue has been evolving in the past few years.
5 What are some of the current trends in financing for private equity transactions? Have there been any notable developments in the availability or the terms of debt financing for buyers over the past year or so?
As a result of government development programmes and the financial reforms that have taken place in recent years, private equity in Mexico has increased significantly. Such programmes and reforms have promoted and increased investment even in industries that were exclusively state-run and where private investment was not allowed. In recent years, many private equity funds have found a positive source of financing in the Mexican stock market through the issuance of equity or debt instruments. Due to the growth of private investments in the past few years, Mexico is now placed as one of the leading markets in Latin America for general partner investments. Mexico is still below expectations but, nevertheless, capital funds in the country continue to rise.
6 How has the legal, regulatory and policy landscape changed during the past few years in your jurisdiction?
During this past year, after the publication of the Fintech Act in March 2018, its secondary regulation has been gradually issued. This secondary regulation provides specific provisions regarding fintech institutions and operations with cryptocurrencies. These developments have continued to position the fintech industry as a hotspot for private equity transactions, since it has provided more certainty to the fintech market.
Moreover, we are expecting a regulatory reform in the pension funds landscape, which is expected to be discussed in the upcoming months. Should this reform be approved, pension funds will have a new investment regime that will expand their investment options and give access to greater investment opportunities, including the possibility of investing directly in securities that are subject to private offerings. It is expected that this major reform will release pension funds capital to the private equity markets.
7 What are the current attitudes towards private equity among policymakers and the public? Does shareholder activism play a significant role in your jurisdiction?
Although private equity levels in Mexico have not met expectations, in recent years we have seen a positive, inclusive, proactive and dynamic attitude from policymakers towards private equity. Recent reforms in different sectors such as the telecoms, energy and fintech have helped to create an environment that has given more certainty to private equity investments. Even though private equity has increased over the past few years, one of the challenges it has faced is the reluctance of entrepreneurs and families managing many of the companies in Mexico to surrender control of their companies by accepting external investment by capital funds as partners or shareholders. Nonetheless, private equity has been gradually gaining relevance in the country in the past few years.
8 What levels of exit activity have you been seeing? Which exit route is the most common? Which exits have caught your eye recently, and why?
One of the most common exit routes we have seen in the past few years is the transfer of the investor’s investment to another company; generally a related company such as a competitor, supplier or client that finds strategic value in it. Additionally, we have also seen direct transfers to another capital fund, public stock offers on the securities market, as well as the sale of shares acquired by the investor to another shareholder of the company. Regarding venture capital transactions, the most common exit type in terms of the total number of transactions is strategic, but in terms of amount, M&A is the most common, representing around 90 per cent of the total amount registered, according to AMEXCAP. The most common exit types for growth and leveraged buyout by number of transactions are strategic, asset sale and initial public offerings. For real estate, asset sale and strategic are the most usual exit types. Moreover, the most common exits types for infrastructure and energy are strategic and asset sale.
9 Looking at funds and fundraising, does the market currently favour investors or sponsors? What are fundraising levels like now relative to the past few years?
As markets and needs increase, there is an equivalent need for managing parties to be able to respond rapidly and effectively. Therefore, private equity sponsors that may add value with hands-on expertise and many other management skills are now preferred to pure capital investments.
Since 2009, as a result of the government’s authorisation of retirement fund administrators to invest in private equity, fundraising activities have been increasing. According to AMEXCAP, accumulated capital commitments rose by 4 per cent at the end of 2018. Fundraising is now much easier, because funds can raise both national and international capital and because the latest amendments to the legislation have made the process more effective. This has also helped the expansion of the base for private equity and investment.
10 Talk us through a typical fundraising. What are the timelines, structures and the key contractual points? What are the most significant legal issues specific to your jurisdiction?
There are several instruments available to companies that are looking to obtain funding to develop their business. They can primarily do so through contributions of capital from their partners or shareholders, financing from the government, private equity, project finance, financing by banking institutions or financing through the securities market. Timelines and structures may depend on the complexity of each transaction. Nevertheless, any option may require the preparation and negotiation of different instruments that make it possible to carry out these types of transactions.
11 How closely are private equity sponsors supervised in your jurisdiction? Does this supervision impact the day-to-day business?
Under Mexican law, private equity sponsors do not have a specific treatment or supervision. Nevertheless, because of the nature of private equity operations, certain acts require regulatory compliance and tax issues must be addressed carefully. Regarding supervision, authorities do not intervene in the day-to-day business of a company as long as there has been careful planning and design in the early stages of the project.
12 What effect has the AIFMD had on fundraising in your jurisdiction?
AIFMD has barely impacted normal operations in the country. The only operations that have been affected are those related to European fund managers managing AIFs, AIFs established in Europe and those who market units or shares in Europe.
13 What are the major tax issues that private equity faces in your jurisdiction? How is carried interest taxed? Do you see the current treatment potentially changing in the near future?
In recent years, tax authorities have implemented different tax policies to benefit investment. As an example, tax authorities have granted benefits to trusts operating investment capital. Such activities are not taxed until the revenues are allotted to private hands and the income tax imposed is based on the receiver’s status. With such policies, it is expected to encourage confidence in alternative investment structures and to foster the development of solid funding.
14 Looking ahead, what can we expect? What might be the main themes in the next 12 months for both private equity deal activity and fundraising?
Private equity in Mexico has gradually but consistently become a more competitive sector for investment in the country. Following the reforms that have taken place in different sectors and industries, such as energy, telecoms and most recently fintech, Mexico has become a leading market for investments in Latin America. Despite the uncertainty that some of the current administration’s policies might have generated in the past few months, there is a positive outlook for the Mexican private equity industry. Over the next year, we expect investments in the energy and infrastructure sector to continue to increase and the fintech industry to continue to consolidate as an important target for national and foreign investment. We also foresee an increase in the use of the recently developed financing instruments (CKDs, CERPIs and FIBRA-E) by private equity sponsors. If conditions remain the same, and the growth remains at levels we have seen, private equity will reach over US$80 billion by the end of 2020, according to AMEXCAP.
The Inside Track
What factors make private equity practice in your jurisdiction unique?
Public-to-private equity deals are substantially limited by the fact that publicly traded companies are typically controlled outside the stock market (ie, by a family or other closely held group). Mexican firms are very reluctant to give away control or even provide transparency as a condition to accepting private equity. Many Mexican firms, their owners and managers lack experience in M&A transactions. Therefore, some deals in Mexico can move slowly in some instances, which private equity firms may find frustrating, given the fast-paced nature of their typical transactions.
What should a client consider when choosing counsel for a complex private equity transaction in your jurisdiction?
Counsel should ideally have experience not only in private equity deals, but also in the industry where the target operates or in similar industries. The firm should also have experts in several areas of practice that are particular to Mexican law (ie, labour, tax, environmental) and in the specific industry where the target operates. The firm should have the resources and be able to provide a timely response to private equity clients, for whom time is of the essence.
What interesting or unusual issues have you come across in recent matters?
Recently, Mexico has been targeted by foreign investors seeking to carry out private equity transactions in Mexican companies. In the past few months, we have worked on a transaction that involves the acquisition of a minority stake in one of the largest retailers in Mexico. This has led us to develop closer working relationships with foreign private equity firms and we have witnessed optimism in foreign investors regarding private equity transactions in Mexico.