In the last 12 months several multi-nationals have decided to terminate operations in Colombia amid the country’s ongoing economic downturn. Companies that decided to leave the country cited lower domestic demand and a rise in the cost of raw materials (stemming from sharp currency depreciation) as the main reasons for departure.
During 2015, some multinationals such as Apex Tool Group Colombia, PayPal, and banks such as Lloyds TSB Bank and Banistmo decided to pull out of the Colombian market due to the significant drop in domestic demand for their services. In addition, rising production costs forced companies like Mondelez, one of the giant consumer goods multinationals in LATAM, to move its production facility to Mexico.
The reasons mentioned above illustrate a difficult conundrum for Colombian executives. Until recently, fast economic growth, a strong currency, and steady growth in purchasing power for Colombian consumers and businesses justified a strong presence in the country. However now sales are dwindling, the Colombian peso is worth 30% less than what it was worth only 12 months ago, and higher inflation rates are eroding discretionary spending and confidence. How can Colombian executives convince corporate to stay committed to a market much smaller than Brazil or Mexico and where economies of scale are much harder to achieve?
Corporate centers must focus on the long-term market fundamentals of the Colombian economy. Although Colombia is currently experiencing a significant economic slowdown, the country’s long-term prospects are still fairly positive. In fact, results from a recent FSG survey suggest Colombia remains one of the top three priority countries in Latin America for multinationals in their portfolio allocation for 2016.
Notwithstanding Colombia’s positive long-term prospects, companies will still have to navigate a challenging market environment until Colombia’s economy regains solid footing. Looking at the next 6-12 months there are three trends that we believe will impact business performance and for which companies should prepare:
Trend 1: Macroeconomic pressures are likely to continue threatening Colombia’s ability to achieve fiscal targets
As a result of the significant drop in oil prices over the last 18 months, Colombia’s public finances have taken a major hit. In addition, inflation and currency depreciation are raising serious questions about the government’s ability to maintain its fiscal health, which is increasing risk perception and forcing the government to pass new tax reforms.
Business implications
The government is expected to pass a new tax reform bill in Congress during the second half of this year, which would take effect in 2017. Once approved, the fiscal reform is expected to impact the private sector negatively via increases in the value-added tax (VAT), most probably by 3%, which is likely to rise for intangibles, drugs, and natural gas, and other products at an even higher rate. Higher VAT will have a direct impact on the price of certain products but could also hurt domestic demand more broadly as consumers see their disposable income squeezed.
Trend 2: Despite budget cuts, the government plans to continue investing in key infrastructure initiatives
Colombia’s government is committed to long-term investments in infrastructure through the implementation of the Fourth Generation Highways Program (4G) and the Intermodal Transport Master Plan, which will enable regional integration and significant economic benefits. The realization of Colombia’s ambitious infrastructure projects rests on whether the government can secure the required financing. Confronted with an outlook of lower tax revenues, the government is promoting a greater role of the private sector through public-private partnerships (PPP) to execute on its infrastructure development program.
Business implications
It is expected that the private sector will provide more than US$ 3 billion for third-round 4G highway projects through PPP models and private initiatives, and guarantee 20–30% of the project financing in US dollars. Over the long term, the private sector should contribute to more than 60% of the US$ 80 billion that Colombia plans to invest in revitalizing its road system (with the objective to connect remote communities and create new business opportunities in sub-regional market centers). As infrastructure quality improves in Colombia, logistical and transportation costs are expected to drop, allowing many multinationals the opportunity to negotiate lower margins with their current partners.
Trend 3: Colombia’s peace deal with the FARC will open new business opportunities but expectations need to be tempered
Despite impressive progress in peace negotiations, the government and the FARC were not able to meet the March 23 deadline set by President Juan Manuel Santos. As a result of this delay, political pressure on the government is increasing as the nation prepares for this challenging and costly transition. If successful, the peace deal could increase domestic investment, attract more FDI, and reduce security and logistical costs of business operations, substantially improving Colombia’s already positive country outlook.
Business implications
An eventual peace deal with the FARC is expected to increase investor confidence in Colombia as a potential economic powerhouse in Latin America. In the long term, Colombia could get a boost in annual GDP of up to 1.5% following the deal, enabling it to achieve growth rates around 5%. Construction, mining, and agro-exports are sectors most likely to experience strong peace dividends, as infrastructure development in conflict regions will open up rich farming lands and secure improved access to untapped natural resource bases. As the peace agreement opens access to new regions, it will be imperative for companies interested in expanding their business in Colombia to select potential partners/distributors in second-tier markets, as a first-mover advantage will be key to guaranteeing market share.
Clients can access a full copy of our latest market review for Colombia here. Not a client? Contact us to learn more.