The oil connection.
By Don Quijones, Spain & Mexico, editor at WOLF STREET.
After weeks of false promises, rampant speculation, and furious denials, Mexico’s biggest construction company, ICA, finally admitted that it will not pay the $31 million in interest outstanding on $700 million worth of bonds. The company’s shares plunged 24% to 3.93 pesos on the news, its biggest one-day rout since 1999.
“ICA has made this decision in order [to] preserve liquidity, prioritize ongoing operations, and fund projects currently under development,” the firm said in a press release. “Over the next 30 to 60 days, with the help of its financial advisors, Rothschild and FTI Consulting, ICA will work on a cost-cutting and restructuring plan.”
If ICA fails to make payments on all of its $1.35 billion in overseas notes, it will become the biggest corporate bond defaulter in Mexico since Moody’s Investors Service began tracking the data in 1995, just after the eruption of Mexico’s Tequila Crisis.
The company’s travails began long ago but were recently magnified by political problems at home and economic forces overseas. Its revenues have sharply declined this year amidst infrastructure spending cutbacks by a fiscally challenged government, while the weaker peso has exacerbated the company’s leverage ratios.
ICA is among a number of Mexican corporations that are acutely vulnerable to a strengthening dollar and rising U.S. interest rates. The sudden rise in central bank-engendered liquidity after the outbreak of the Global Financial Crisis enabled Mexico’s biggest companies to borrow from the international markets in much larger amounts and for much longer periods than at any other time in history. And the slide of the peso against the dollar has significantly increased the amount of leverage at some companies.
Almost all of ICA’s contracts are denominated in pesos, while $1.35 billion of its debt is denominated in dollars. That’s the debt it’s now unable to pay. According to Bloomberg, the company’s total debt is 57 billion pesos, 10.75 times its earnings before interest, taxes, depreciation and amortization.
For many Mexicans, the collapse of this emblematic company will be a sad day in what has become a sore year for the nation’s economy. Since the 1950s ICA has been at the leading edge of Mexico’s industrial and urban transformation, building motorways, hydroelectric dams, drainage systems, waste treatment plants, railways, subway systems, stadiums, port facilities and a number of airports, including Mexico City’s Benito Juarez, which will soon be replaced by a new multibillion dollar airport being built on the city’s outskirts by a consortium led by ICA!
The Oil Connection
Like any successful large-scale infrastructure company, ICA has furnished close ties with government. After all, that’s where most of its contracts come from. The problem for ICA and many other domestic construction firms is that Mexico’s government has grown increasingly short of funds – no surprise given that the country’s cash-strapped oil giant PEMEX usually provides between 30% and 35% of public revenues.
Mexico’s sweeping energy reform will drastically reduce that amount – and quite possibly very quickly [read… Brilliantly Timed Oil Reforms Push Mexico into Fiscal Meltdown].
Some experts fear that the sudden jolt from functioning for over seven decades as a national oil monopoly to having to survive as a private company in a fiercely competitive global oil market at a time of weakening global demand for energy and plummeting oil prices could be so severe that Pemex’s very existence may be on the line. While foreign companies are given huge fiscal incentives to invest in Mexican oil fields, Pemex is being overburdened with taxes, at a time when its revenues are plunging along with the price of oil.
Pemex’s shrinking fortunes have meant that the government has had to raise taxes as well as drastically cut back on large-scale infrastructure projects, cutting off vital cash flow to companies like ICA. The biggest blow came in September this year when the new governor of the state of Nuevo Leon, Jaime Rodriguez, decided to cancel a controversial project to build an aqueduct in Monterrey worth close to $1 billion.
Little Sympathy from Government
Perhaps if ICA had been a foreign multinational it could have filed a private lawsuit — commonly referred to in the impenetrable jargon of modern globalism as an Investor-State Dispute Settlement (ISDS) — to claw back the potential future profits it had lost as a direct result of the Mexican government’s actions. However, such privileges only exist for foreign investors, not domestic companies.
Even for many of the infrastructure jobs ICO has already finished, payment is not forthcoming, the company complains. Meanwhile, many of ICA’s providers have launched lawsuits over its and the government’s failure to pay them. Each time a company goes under, a vital link in the business food chain is severed.
As its cash flow has slowed to a trickle, ICA’s dollar-denominated debt has continued to grow, largely on the back of a weakening peso. In the crucial weeks ahead the fate of the company will depend on its ability to keep the few operations it has up and running as well as find common ground with its creditors on ways to restructure its debt.
It’s unlikely to get much in the way of help or sympathy from Mexico’s current government whose loyalties seemingly lie elsewhere — primarily with the Spanish construction giant OHL which, despite being embroiled in all manner of corruption scandals, continues to boss the infrastructure concessions business in Mexico. Raul Murrieta, Mexico’s deputy minister of infrastructure, ruled out a government rescue of ICA. “It’s going through a bad patch,” he said. By Don Quijones, Raging Bull-Shit.
But even the central bank of Mexico is fretting about explosive dollar debt. Read… It Begins: Investors Brace for Mexico’s Biggest Corporate US-Dollar Bond Default in 20 Years