Using a Spanish Holding Company for Latin American Investments

By Victor Cabrera, Antonio Lobon and Marc Skaletsky (KPMG LLP)

Excerpt from Practical Latin American Tax Strategies published by WorldTrade Executive.

Spain has emerged as one of the most attractive jurisdictions for multinational corporations (MNCs), including U.S. MNCs, to establish a holding company for Latin American operations. In 1996, Spain enacted into law its holding company regime (Entidad de Tenencia de Valores Extranjero, or "ETVE").

Key factors in the attractiveness of an ETVE having business substance include (i) Spain's extensive tax and investment treaty network with various Latin American countries, and (ii) Spain’s European Union (EU) membership and the resulting coverage by the EU Parent-Subsidiary and Merger Directives.

Because of Spain’s treaty network and the European character of the ETVE, it has become an interesting vehicle for channeling capital investments into Latin America as well as a tax efficient repatriation route for EU capital investments by non-EU companies. Additional benefits include Spain’s cultural, linguistic, and historical business ties with the region.

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Latin American Private Equity Activity: Midyear Report

Venture Equity Latin America, a WorldTrade Executive publication, recently published its mid year report for 2008. The following are some highlights.

The first half of 2008 witnessed private equity investments in Latin America ranging from power distribution to agriculture. Investments made during this period did not match last year’s high levels as around $1.7 billion was invested in the first half of 2008 compared to roughly $2.3 billion in the first half of 2007. The level of investment recorded during the first half of this year came closer to the investment level seen in the first half of 2006, which was roughly $1.6 billion.

After significant investment activity last year, which amounted to around $7.5 billion and which was already high during the first half of 2007, it does not look as though investments this year will exceed last year’s hugely successful levels, unless there are sizeable investments made in the latter half of this year. Of course, investments during the first half of 2008 have been made against an uncertain international finance backdrop, which has witnessed and is experiencing the repercussions of the global credit crunch, the impacts of the Bear Stearns collapse, and ongoing issues with subprime mortgages and associated lenders.

Despite the lower levels of investment seen so far in Latin America, it is worth noting that demand for larger assets has continued to increase as illustrated in part by the $870 million investment in the SAESA Group of Companies (SAESA Group) by the Morgan Stanley Infrastructure consortium.

So far in 2008, 3 private equity investments of over $50 million have been made and the following 4 deals registered at $100 million or more.

• Morgan Stanley Infrastructure consortium, which includes the Ontario Teachers’ Pension Plan led an $870 million investment in the SAESA Group of Companies (SAESA Group), which handle power distribution in Chile.
• GP Investimentos invested in energy in Brazil through its investment of $112 million in Sociedade Tecnica de Perfuacao (SOTEP) and the investment was made through its fund, San Antonio Global.
• GP Investments made an education related investment in Brazil when it invested $163 million for a 20% stake in Estacio Participacoes.
• GP Investments acquired Laticinios Morrinho’s, a dairy products company in Brazil, for $189 million.

Fundraising so far in 2008 helped to offset the lower investment levels in the first half of 2008 as fundraising during this period surpassed the fundraising level seen in the first half of 2007. During the first half of 2008, fundraising totaled around $1.981 billion and there were 17 funds with closings. This can be compared to the first half of 2007, which saw around $1.5 billion in fundraising and at that point, there were 20 funds with closings.

Like last year, much of the fundraising activity was again centered in Brazil but there was also strong fundraising regionally too. There was limited fundraising in Mexico and Argentina during this period but Peru found itself the focus of multiple funds. The increased interest in Peru could be explained by insights shared in the Venture Equity Latin America 2007 Mid-Year Report, which stated that due to ongoing competition for assets, especially energy assets, some funds would probably look for assets in less-heavily cultivated areas, such as Peru.

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Upcoming Investment Opportunities in Brazilian Infrastructure

Excerpt from Venture Equity Latin America
published by WorldTrade Executive, Inc.

By María Fernanda Farall (Jones Day)

The Brazilian government is in the process of implementing a new set of infrastructure projects pursuant to its Programa de Aceleração do Crescimento (Growth Acceleration Program), which is commonly referred to as PAC. In 2007, President Silva’s administration created this program to promote the growth of the Brazilian economy through a series of infrastructure projects pertaining to logistics (e.g., railroads, roads, and ports), energy, water, and housing.

Timing for the launching and promotion of these new projects by the Brazilian government could not be better –with its long-term credit recently being upgraded by Standard and Poor’s Rating Service to investment grade status, Brazil is being perceived as a safe place for foreign investment. These projects offer many investment opportunities to foreign investors.

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Mexico Amends Key Government Procurement Law

Based on article in Latin American Law & Business Report
published by WorldTrade Executive, Inc,

Original Article Written by
By Alejandro López-Velarde (López Velarde, Wilson, Abogados, S.C.) and Regina Kuchle (AstraZeneca)

The following is an editor's summary:

The Mexican government amended a key government procurement law in July known as the Public Acquisitions and Service Law. The most important State monopolies and health institutions such as Pemex, the Federal Electricity Commission, the Social Security Institute are governed by the law, and it governs approximately 42% of the federal budget.

The law allows the federal executive to issue guidelines and regulations to change the current structure of acquisitions, leases and services. Public entitites will be able to request from otential suppliers a "Reverse Auction, in order to obtain a lower price. The executive needs to publish a Reverse Auction Methodology in the Official Gazette.

There is some worry that these procedures may not be Constitutional.

Latin American M&A Survey

Excerpt from Venture Equity Latin America
Published by WorldTrade Executive, Inc.

By Law Firm of Greenberg Traurig in association with mergermarket

Greenberg Traurig commissioned mergermarket to conduct a study of Latin American M&A activity. In Q1 2008, mergermarket interviewed 109 investment bankers, private equity practitioners and corporate executives regarding their opinions on the opportunities and challenges of the Latin American M&A market. All results were anonymous and are presented in aggregate.

Survey findings

Over three quarters of respondents expect overall Latin American M&A levels to rise in 2008
What do you expect to happen to the level of M&A within the Latin American region for 2008?

• Respondents appear to be bullish regarding anticipated overall M&A activity in 2008 within the Latin American region. A significant 60% of respondents expect activity to increase, while 16% anticipate a significant increase with a corporate respondent qualifying this viewpoint by commenting: “I believe that in general there will be a large influx of international interest which will trigger local interest. M&A looks set to increase as a result.”

• One fifth of respondents believe Latin American M&A activity will stay at current levels with one respondent noting: “I expect the level of M&A within the Latin American region to be the same as 2007 as there have been no major political or economic changes.” Notably, only 4% expect M&A activity to fall in 2008.

85% predict an increase in inbound cross-border M&A into Latin America

What do you expect to happen to the level of incoming crossborder M&A into Latin America for 2008?

• A resounding 85% of respondents believe that incoming cross-border M&A in Latin America will either increase (65%) or increase greatly (20%) in 2008. Indeed, one private equity respondent anticipates there to be significant inbound activity in Latin America as well as in other emerging markets, explaining: “We have raised a fair amount of money in our fund geared at emerging markets. We have already done one deal in Mexico and are looking for opportunities all across Latin America. I expect there to be some M&A activity between local banks in Latin America and multinationals from the USA and Europe.” Moreover, other respondents claimed that increased economic and political stability will result in greater levels of foreign investment.

• Elsewhere, 12% of respondents believe the level of inbound cross-border M&A activity will remain the same while remarkably only 3% foresee a decrease.

Brazil and Mexico are tipped to see the most significant M&A activity in the region

What countries or regions do you expect to see the highest levels of inbound M&A activity?

• Brazil (86%) and Mexico (70%) emerged as the two territories in which the clear majority of respondents expect to witness the most significant levels of inbound M&A in Latin America. Respondents alluded to Brazil’s rapid growth driving M&A, while one corporate respondent noted that Mexico has several attractive qualities commenting: “The country has good potential for FDI due to its close proximity to the United States. Carlos Slim recently spoke about a Mexican Silicon Valley being developed in the state of Senora and this could develop into a hotspot for M&A.”

• Elsewhere, Argentina (41%), Chile (29%) and Central America (25%) were also cited by more than a quarter of respondents. Given their historic low levels of M&A activity, it is somewhat unsurprising that Venezuela, the Dominican Republic and Puerto Rico are considered unlikely to see significant inbound M&A activity in 2008.

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Tax Issues Facing Supply Arrangements in Latin America

Excerpt from Practical Latin American Tax Strategies
published by WorldTrade Executive, Inc.

By Victor Cabrera, Jose Leiman, And Marc Skaletsky
(KPMG LLP)


Over the past decade, many large multinational corporations (MNCs) have been moving their European and Asian operations from a decentralized group of stand alone full-fledged manufacturing and distribution (M&D) subsidiaries towards a “hub-and-spoke” system. Under these arrangements, the hub (the “Principal”) assumes functions and risks from the M&D subsidiaries. This centralization of functions and risks in the Principal hopefully brings a commensurate share of consolidated profits.1 The conversion of full-fledged M&D subsidiaries to a hub-and-spoke arrangement raises a series of non-tax and tax considerations and associated issues that must be resolved in order to implement the structure successfully.

Given the potential benefits of the hub-and-spoke structure, many MNCs have sought to implement the structure for their Latin American operations. However, when MNCs cast their sights on Latin America, they are quite often faced with a diverse and sprawling network of jurisdictions, each with its own rules and views on the operation of structures within their borders. Many MNCs doing business in Latin America learn that applying the European or Asian hub-and-spoke template to Latin America does not always result in a natural fit. In particular, MNCs that seek to implement a hub-and-spoke arrangement in Latin America must deal with the regional issues described below.

First, the determination of where to locate the Principal is not as easy in Latin America as it is in Europe or Asia. The ideal hub would be located in the region, have a low internal tax rate, and enjoy a strong treaty network. Moreover, to the extent that the MNC is U.S.-based, the potential to defer profits from U.S. tax is preferred. Unfortunately, no country satisfies all these criteria; therefore, MNCs need to optimize the location of the Principal based on their specific facts.

Second, Latin America lacks the economic integration of the European Union. As a result, MNCs operating in Latin America are forced to deal with authorities that take a provincial perspective on revenue collection at the cost of market efficiencies. In considering value-chain reorganizations in the region, MNCs must take into account the peculiarities of each jurisdiction and the current and evolving tax environment in the applicable countries. As with structures throughout other regions, it is important that an underlying business rationale drive the value chain reorganization within Latin America.

A third important factor is the ever increasing aggressiveness of the Latin American tax authorities. This aggressiveness manifests itself in a variety of forms. For example, many tax authorities in the region are attempting to assert “substance over form” principles to challenge structures that they consider “aggressive.” Even if they cannot successfully attack the overall structure, the tax authorities may attempt to draw profits back into their tax nets by asserting that the Principal has a local taxable presence or permanent establishment (PE). As electronic tax filing requirements and information sharing among the authorities increase in the region, the tax authorities have greater tools in their audit arsenals to press these arguments.

The foregoing factors require taxpayers to place their Latin American supply chain structures on a solid footing from a tax perspective. Mitigating unnecessary tax risks and unwelcome local publicity are, needless to say, high on the agenda of every MNC’s senior leadership team. With these considerations in mind, the MNC should ensure that it incorporates the elements described below into any supply chain conversion.

First and foremost, economic substance is an essential component of any supply chain conversion. As previously noted, MNCs must be sensitive to a “substance over form” argument by the Latin American taxing authorities. This means that any restructuring of existing operations should produce substantial operational changes and a corresponding adjustment to the parties’ potential for profits and risk of loss. A prudent MNC contemporaneously documents the business reasons for the restructuring and its anticipated economic impact on the enterprise. Anticipated local tax savings is typically not a valid business reason for local purposes. Moreover, savings generated by lower customs, VAT and payroll taxes will often not be considered an adequate business purpose absent a demonstration that the Principal has assumed substantial business functions and risks. The business reasons supporting the conversion ideally should include both commercial and operational benefits. Contemporaneous documentation of the business reasons behind the restructuring of the value chain is important for the MNC to maintain and will be very important if and when the arrangement is ever challenged by the taxing authorities on audit.

Even a structure with economic substance may, however, have adverse tax consequences if the parties’ new arrangements are not supported by a robust and geographically focused transfer pricing study. For this reason, the migration of functions and risks from local M&D subsidiaries to the Principal must be supported by an analysis demonstrating that the parties’ post-conversion potential for profit and loss is commensurate with their post-conversion functions and risks. Moreover, the analysis should demonstrate that the conversion does not result in a transfer of value from M&D subsidiaries to the Principal. What this means is that any reduction in the M&D subsidiaries potential for profit must be balanced with a commensurate reduction in their risk of loss.

In reducing the M&D subsidiaries’ risk of loss, the MNC should be careful that it does not transform them into agents of the Principal that are guaranteed a return for services, regardless of their performance. If the M&D subsidiaries are viewed as agents of the Principal, the Latin American fiscal authorities may assert that the Principal has created either a PE under the provisions of a bilateral tax treaty, or an internal tax presence or nexus in the absence of a tax treaty.

Our article in Practical Latin American Tax Strategies explores the aspects of the typical Principal M&D arrangement to its three primary classes of participants: the Principal, the Manufacturers, and the Distributors.


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Regional Reorganization: Be Aware of Tax Issues

Excerpt from Practical Latin American Tax Strategies
published by WorldTrade Executive, Inc.

By John A. Salerno and Julian R. Vasquez (PricewaterhouseCoopers LLP)

Multinationals considering the reorganization of their group legal entity or operational structures in Latin America need to be cognizant of the potential income tax implications related to the sale or transfer of shares or other equity interests in their affiliates.

While most companies are keenly aware of the tax implications relating to the sale of a direct or indirect subsidiary to a third party, many do not realize that an intra-group transfer of shares in connection with, for example, the formation of a regional holding company structure or post-deal integration planning, may also trigger tax in certain Latin American countries. Absent tax treaty protection the tax cost of the transfer of shares can be quite high.

In some cases the relevant taxable “transfer” is not so evident, and may occur, for example, as a result of the liquidation of a nonresident shareholder of a Latin American company.
Domestic law or tax treaty-based strategies often exist to minimize or eliminate the local country income tax burden on capital gains. Thus, particularly in the case of transactions with related parties, slight modifications of a transactional structure may, in certain cases, yield a more favorable tax result.

This article, which appears in full in the May 2008 Practical Latin American Tax Strategies summarizes the income tax treatment of the transfer of privately-held and publicly-traded shares in ten Latin American jurisdictions, and highlights some tax strategies. A portion of the article relating to Brazil follows:

Brazil

Private Companies

Gains recognized in connection with the sale or transfer of shares of a Brazilian privately-held company by one nonresident to another are generally subject to capital gains tax at a 15% rate. This rate is increased to 25% to the extent that the seller (or transferor) is located in a tax haven jurisdiction.

The gain is subject to Brazilian tax even when both seller/transferor and buyer/transferee are nonresidents of Brazil. Unlike Argentina, Brazilian law imposes the obligation to pay the Brazilian capital gains tax on the buyer's (or transferee's) representative domiciled in Brazil (note that foreign shareholders of Brazilian companies are required to have a Brazilian-domiciled representative, in addition to being registered before the local Revenue Service).

Capital gains generally correspond to the positive difference between (i) the amount for which the shares are sold/transferred (i.e., the selling price), and (ii) the amount at which those shares are registered in the name of the seller (transferor) with the Brazilian Central Bank. In the case of the sale/transfer of shares that were previously acquired from other parties, there may be grounds to sustain that the acquisition price should be used in lieu of the amount registered with the Brazilian Central Bank as foreign capital.

Tax treaties generally do not provide relief from income taxes imposed on capital gains recognized by nonresidents (except for the Brazil-Japan treaty, which exempts capital gains from Brazilian tax). Certain tax planning, however, may be available to mitigate taxes on capital gains.

Publicly-Traded Companies
Capital gains recognized by foreign investors in connection with the sale of Brazilian publicly-traded shares are subject to Brazilian tax at a 0% or 15% rate as follows:.

- 0% when the foreign investor is not located in a tax haven jurisdiction and the investment was originally made in accordance with Resolution 2689 (which provides for special foreign investment accounts that may only be used by the foreign investor in the acquisition of certain regulated investments, such as the shares of Brazilian companies listed with the Brazilian SEC).

- 15% in all other cases.

Other Taxes

No other Brazilian taxes should apply on the transfer of shares/interests in local entities.

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Mexico Enacts Important Commercial Litigation Reform

Excerpt from Latin American Law & Business Report
published by WorldTrade Executive, Inc.

By Oliver J. Armas, Luis Enrique Graham and Salvador Fonseca
(Chadbourne & Parke LLP)

A new system of "preventive" appeals, contained in the recently enacted reforms to the Mexican Code of Commerce, is designed to substantially reduce the complexities that currently tend to complicate commercial proceedings in Mexico.

The current system of appeals in commercial proceedings in Mexico is rather complicated. There are, for instance, intermediate and final appeals; the type of appeal depends on whether the challenge is directed against a resolution issued by the judge during the proceedings (intermediate appeal) or against the final resolution on the merits of the case (final appeal).

Currently, when filing an intermediate appeal, parties have to put forward all of their arguments and allegations before the court of appeals, even though there is the possibility that the issues discussed in the intermediate appeal will become moot once a resolution on the merits is rendered by the court of first instance. The reforms intend to remedy that.

The reforms, which will become effective July 16, 2008, primarily concern the appeals process. A new system of “preventive” appeals aims at substantially reducing the complexities that currently tend to complicate commercial proceedings in Mexico. The reforms also include new rules regarding documentary evidence and testimony from fact and expert witnesses; grant more time (15 instead of 9 business days) to file an answer, and harmonize default rules.

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Mexico's Dictamen Fiscal Is Similar to New Fin 48 in the US

Excerpt from Practical Mexican Tax Strategies
Published by WorldTrade Executive, Inc.

By Steve Axler & Dinorah Gonzalez
(Halliburton)

One of the concerns resulting from the introduction of FIN 48 for many in-house tax practitioners, especially for US based multinational companies, is that the US Internal Revenue Service would now essentially have a road map to various tax positions taken by the taxpayer. However, the disclosure of tax positions to the tax authorities is not a new or unusual event in Mexico. In fact, for large taxpayers in Mexico this is an annual occurrence. known in Spanish as the Dictamen Fiscal.

Often simply referred to just as “the Dictamen”, this a tax audit of a Mexican legal entity or person that carries out business activities or any foreign residents with a permanent establishment in Mexico. The Dictamen Fiscal can only be performed by a registered and certified Mexican public accountant. Upon completion of the Dictamen, the accountant will issue a report which will be filed with the Mexican tax authorities (Servicio Administración Tributaria or “SAT”) stating whether, according to the applicable tax regulations and audit standards, the taxpayer has complied with its obligations. The public accountant is required to sign the Dictamen under penalty of perjury.

It cannot be emphasized enough the influence that a Mexican statutory auditor has regarding the tax positions taken by a taxpayer in Mexico. A trap for a new or unsophisticated investor in Mexico is to execute a reorganization or to take an uncertain tax position without first discussing this with the auditor. In the best circumstances, if the taxpayer has not discussed the transaction with the auditor before the Dictamen review begins, much time, effort, expense and stress will be incurred in getting the auditor comfortable with the transaction given the limited time frame the auditor has to understand the transaction and complete the Dictamen.

In the very worst scenario, the auditor may not agree with a position taken by the taxpayer and may not be willing to sign the Dictamen or will give a negative opinion. The taxpayer is then faced with the decision to unwind the transaction, find another auditor, or in the worst situation face a tax audit from the SAT. Consequently, the taxpayer will be in the difficult position to explain why there is a negative opinion or no Dictamen at all.

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Brazil PE Fund Raising Continues Despite Global Crisis

From 4/30/08 Venture Equity Latin America
Published by WorldTrade Executive, Inc.

Brazilian private equity and venture capital fund raising has continued strong in 2008, despite the global impact prompted by the US subprime crisis. For the year, Brazilian fundraising is expected to surpass the $4 billion raised in 2007. The continued interest in Brazil is a result of a series of factors, including economic stability, low inflation, a consumer credit spending boom resulting from lower unemployment and higher income levels, particularly among lower income groups. In April alone, local and international funds raised over $1 billion. Standard & Poor’s recent decision to raise Brazil to investment grade will also have an impact on fund raising, because it will allow a broader range of investors to back Brazilian funds.

AIG Raises Nearly $700 Million for Brazil Investments
The highlight of April’s fund-raising activities was the final close of AIG Capital Partners’ Brazil Special Situations Fund II, L.P. (“BSSF II”). The fund received commitments of $691.9 million, surpassing its initial fundraising target.

AIG has a superb track record of investments in Brazil and has been a leader in IPO exits. In February of 2003, AIG invested $26 million to acquire a 17% share of Brazilian low-cost, low-fare airline Gol. AIG sold its share for $220.6 million in share offerings in 2004 and 2005. In July of 2003, the fund also invested $11.6 million in Intelsat, which it later sold to Brazilian long-distance company Embratel. The fund also owns a share of Brazilian supermarket chain Sendas, which was sold to leading supermarket chain Pão de Acuçar.

Vision, Moore to Close $300 Million
Brazil Real Estate Fund
Vision, a Sao Paulo-based asset management firm, together with New York-based and Moore Capital, will hold a first close on a $300 million real estate private equity fund which will invest exclusively in Brazil. A second close on the fund is expected to occur within the next few months, according to Ken Wainer, one of Vision’s founding partners and the head of its real estate investment division.

The fund will focus on three areas, including brown-field office development, which entails the construction of new Class A, Leeds green seal certified office buildings on sites previously used for industrial or residential purposes.Vision will also be acquiring existing office buildings, which will then be retrofitted to improve infrastructure and then rented or sold. The fund will also invest in Brazil’s expanding affordable housing sector.

FAMA Holds First Close on R$250 Million Fund
São Paulo-based investment firm FAMA held the first close on its first private equity fund, the FAMA Private Equity I FIP. The final fund raising target is R$400 million, with fund raising activities taking place both in Brazil and abroad. Credit Suisse Hedging-Griffo is involved in the fund raising process.

Fama, which is best known for private investments in public shares (PIPE) investments, decided to enter the private equity market in an effort to capitalize on its experience managing companies, according to André Burger, a partner at FAMA who joined the firm after over a decade ago at Rio Grande do Sul-based fund manager CRP.

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Mexico Energy Reform

Excerpt from WorldTrade Executive's
North American Free Trade & Investment Report
By Jorge Jiménez (López Velarde, Heftye y Soria)

On April 8 Mexico’s President Felipe Calderón submitted to the Mexican Senate a long-expected set of bills for the so-called “energy reform.” After testing the waters with the public and the media for several weeks with a campaign promoting strategic alliances for deepwater exploration and production, the Government decided for a rather moderate reform for the Mexican petroleum industry.

Instead of opting between a liberalization of the market and the strengthening of Pemex as a national oil company, the proposed reform seeks to obtain the best of both worlds: it opens up certain midstream and downstream activities to private investment, and provides Pemex with the flexibility and the tools to boost its infrastructure projects dealing with exploration and production. The reform leaves the Constitutional principles of ownership of the hydrocarbons and the prohibition of granting concessions and executing risk contracts untouched, with which it increases the spread of support along the ideological spectrum in Mexico. However, the reform also proposes to allow Pemex to enter into “performance-based” contracts, something that to this date has not been possible.

The reform contains these features:

• Contractual flexibility for Pemex to contract services outside of the currently burdensome and in many cases impractical framework of the government procurement laws.

• Adjusting Pemex to international corporate governance standards, by incorporating independent directors to its Board and providing the Board true management autonomy, as opposed to the status quo where Pemex plans are determined by the Ministry of Finance quasi-exclusively on the basis of short-term tax collection maximization and revenue production considerations.

• Liberalization of the transportation, distribution and storage of liquids and petrochemicals, subjecting such activities to the jurisdiction of the Energy Regulatory Commission.

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Venture Equity in Mexico 2007; Projections 2008

By Venture Equity Latin America
Published by WorldTrade Executive, Inc.

Venture Equity Latin America's Year End Report for 2007 shows $717M invested in Mexico via 17 acquisitions in 2007. Areas attracting large investments in Mexico in 2007 included the transportation, finance services, and production sectors, where investments focused on steel production and chemical and industrial manufacturing. Of note was the increase in larger investments in Mexico during the second half of 2007, which provided a strong end to the year and continued growth from the prior year's activity. Investments in Mexico increased considerably from 2006 levels, rising from $388 million to $717 million.

Of the 17 investment deals over the course of 2007, Advent International and Nexxus Capital accounted for much of the activity and Nexxus' deals were focused on consumer financing and healthcare. Advent made three diverse investments in Mexico, two of which were for undisclosed amounts but one was for $317 million for Grupo Gayosso, Mexico's largest funeral services company and this was the largest disclosed amount for a Mexican deal in 2007.

Over the course of 2007, it became apparent that interest in Mexican transportation was once again on the rise in private equity circles. The interest was been spurred in part by the fact that Mexico- often overshadowed by developments in Brazil - now enjoys a decent economic state and a growing middle class. Although, this has not dispelled concerns about the future of Mexico's markets and doubts do remain. "We need an evolution in the market and the country," said Gómez Pimienta, president of the Mexico Fund, a $1 billion closed-end mutual fund based in Washington. "The lack of IPOs is leaving us with a limited menu." Looking ahead to investment activity in Mexico for 2008, the effects of the 2008 Mexican tax reform could be pivotal as the new rules are in effect from January 1, 2008. This is one area that will need to be monitored as 2008 progresses to see if the new tax rules negatively impact the size and number of investments from foreign investors, mainly investors from Canada and the United States.

The biggest change ushered in by the new tax reform regulations is the introduction of a 'flat tax' and this tax could influence investments in Mexico as it could mean greater tax burdens for some investors, while increasing the required amount of paperwork and record keeping time that other investors must devote to each deal so that they are in line with the new requirements. It is also to be seen over the span of 2008 whether this new tax will deter potential investors abroad from making investments in Mexico due to the additional financial and regulatory burdens imposed by this tax. Given the state of the US economy at the end of 2007 and the weakness of the dollar overseas, it is not clear yet if this new flat tax might create additional unwanted strain on US companies looking to invest in Mexico.

Two of the largest investment sectors to be impacted by this new tax could be the real estate sector and the mining and natural resources sector as these are main areas of investment for Canadian and US investors and multinationals during business in Mexico. For more details on Venture Equity in 2007 in Latin America, see the VELA Year-End Report,

Venture Equity Latin America’s 2007 Year-End Report Announced

Fund raising and private equity investment in Latin America set new records in 2007, according to the just released Venture Equity Latin America’s 2007 Year-End Report.

Fundraising for the region reached a total of $4.4 billion in 2007, showing the ongoing confidence that investors have in the region. The report documents deals of $7.4 billion, and exits worth $5.4 billion.

In many sectors including fuel production, real estate and energy, private equity investments were on the rise, but it was the fuel production and distribution sector, which dominated and had the biggest investments, mainly due to the global demand for fuel.

One growing trend in the region has been investments in sugar and ethanol and also the construction of ethanol mills. Much of this activity was in Brazil as sugar-cane based ethanol production and related projects had investment totals of around $1.435 billion.

In total Brazil had private equity investments of $5.1 billion in 2007 as compared to $1.3 billion in 2006.

Areas attracting large investments in Mexico during the year included the transportation, finance services and productions sectors, where investments focused on steel production and chemical and industrial manufacturing. Investments in Mexico increased from $388 million in 2006 to $717 million in 2007.

By the end of 2007, there had been 29 fund closings with much of the fundraising activities centered in Brazil, Argentina, Colombia and Mexico.

The report details which fund managers have successfully raised new capital and provides details on deals and exits. More

Bio-fuels in Mexico: Opportunities Increase With New Legislation

Excerpt from WorldTrade Executive's
Latin American Law & Business Report
By Jorge Jiménez (López Velarde, Heftye y Soria)

Mexico has finally enacted and published its new Law for the Promotion and Development of Bio-fuels (Ley de Promoción y Desarrollo de los Bioenergéticos), which is expected to foster the production in Mexico of various types of bio-fuels, and the development of the necessary infrastructure to create a market for its widespread marketing and consumption, including transportation, storage and distribution facilities and systems. The new statute was published in Mexico’s Federal Register (Diario Oficial de la Federación) on February 1, 2008, to become effective immediately. Final enactment came after months of delays from its first approval by the Mexican Congress, following a veto from President Felipe Calderon in 2007, and after the bill was initially passed in 2006. Several of the Executive’s objections were introduced to the bill prior to its final approval.

With this new legislation, Mexico is hoping to see an increase in projects such as some of the pilot infrastructure operations so far developed in Mexico, as is the case, for example, of the Nuevo Leon Bioenergy project in Monterrey, with a 7MW power plant producing from the city’s landfill.

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Venture Equity in Latin America: Impact of US Credit Crisis

Venture Equity Latin America (VELA) recently discussed and listened to presentations on the impact of the US market and credit crisis with a number of key executives involved in Latin America PE/VE at a conference, and most agreed that U.S. economic weakness won’t have a major impact on venture equity in Latin America.
“I’m optimistic” about Latin American venture equity, said Juan Carlos Torres, senior partner at Advent International, a major private equity firm in the region. “I’ve been through so many Latin American crises that this is nothing.”
Steven Puig, vice president of private sector operations for the Inter-American Development Bank said he is “optimistic” about the Latin American economy for the same reason. “We’ve likely seen worse homegrown crises in the past and absorbed those. Dealing with an external crisis is something that could be more manageable.”
Most financial institutions are still liquid and with the level of venture equity funds raised for Latin America so low, there’s plenty of room on the upside, Torres said. While private equity funds raised $60 billion to invest in Asia over the last three years, they took in only $7.6 billion for Latin America.
“Many financial institutions are looking for other markets than Asia, so there is a lot more focus on Latin America,” Torres said. “We had more visits from financial institutions in the last year than in the previous 11,” he said.
There are several good reasons for venture equity investors to choose Latin America over Asia, said Bernard McGuire, director of private equity for the Overseas Private Investment Corp. (OPIC).
One he specified is that it’s easier to put a hedge on a Latin American investment than one in Asia. For example, in Latin America, investors can buy convertible notes, while in India and China they can’t, McGuire said.
Advent certainly isn’t having trouble telling investors the Latin America story. The firm was able to draw $1.3 billion in three months last year for its latest fund, which was heavily oversubscribed, Torres said. That fund drew about 60 percent of its investors from U.S. financial institutions and the rest from Europe and the Mideast.
Advent has seen strong demand from sovereign wealth funds in Asia and the Mideast, Torres told VELA. “About 20 percent of our investors came from there over the last year or two, and I think that will keep growing.”
He said Advent likes to choose its deals by sector. “The advantage of that is you get scale, accumulate knowledge and, most importantly, learn from your mistakes,” he said.
For example, Advent has closed 11 deals in the airport sector during its 12 years in Latin America, Torres said. Those deals covered retail shops in airports, food and beverage operations and airport concessions.
In exiting those investments Advent earned a return ranging from 82 percent for the food and beverage deals to 968 percent for the retail deals.
Other sectors in which Advent is active include financial services and retail, Torres told VELA. And the firm is looking at the energy industry. Why? “It’s a key sector in Latin America that is still fragmented,” he said. “It’s not controlled by large multinationals, so there are opportunities for consolidation.”

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Taxation of Management Fees in Latin America

Latin American subsidiaries of US companies are caught in a bind. Parent companies in the US are being required by transfer pricing rules to charge foreign subs for services, but Latin American tax authorities often don't accept the service fees as deductible business expenses.

A recent article in Practical Latin American Tax Strategies, published by WorldTrade Executive reviews the tax deduction for management services in the major countries and provides some suggestions for ways to meet the deductibility tests. The article was prepared by some of the members of the Latin Tax practice at PricewaterhouseCoopers.

For example, for Brazil the authors note the following:

Expenses recognized by a Brazilian entity are deductible for tax computation purposes if:
1. actually incurred;
2. ordinary and necessary to conduct the business activities of the company; and
3. properly and adequately documented.

In the context of service fees, expenses will only be considered as actually incurred when the services (and related benefits) have been in fact received by the Brazilian Affiliate. In prior decisions, the Brazilian tax authorities and local courts have repeatedly ruled against the deductibility of expenses deriving from intercompany service agreements (particularly those related to cost sharing agreements) due to the lack of proof that the services and related benefits had actually been received by the Brazilian entity. It is indisputable from these cases that the mere documentation that the services were contracted, assumed and paid was not considered as sufficient proof.

Moreover, it should be noted that sufficient documentation is essential to substantiate any claims that the expenses are ordinary and necessary for the maintenance of the company’s activities and source of income, especially in the case of international intercompany service agreements.

For deductibility purposes, the Brazilian Affiliate will have to prove that it actually received an identifiable benefit from each of the charged services listed in the corresponding agreements. In this regard, Brazilian tax authorities may question expenses related to services provided to all beneficiaries of the group (such as the “Allocated Services”), if such expenses only result in benefits for certain Affiliates and do not clearly include the Brazilian Affiliate. That service fees paid to related companies abroad are often subject to special scrutiny by the tax authorities.

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Venture Equity Latin America Developments

As reported in the most recent issue of Venture Equity Latin America published by WorldTrade Executive.

Brazil's Bracor Raises
New Funds with Global
Consortium

Brazilian real estate company Bracor Investimentos Imobiliarios, Ltda.
(Bracor) has raised BRL375 million (roughly US$213.5 million) in new
funds from equity pay-ins from a number of significant institutional real
estate investor groups, according to local investors. Bracor, which is 47%
owned by Sam Zell’s private equity-backed Equity International, has
invited Abu Dhabi-based Royal Group, Saudi Arabia’s Olayan Group,
Morgan Stanley Real Estate, and Berkley Corporation for the funds. Bracor
was founded in 2006 with a US$15 million commitment and invests in
commercial real estate. Carlos Betancourt, a Brazilian, is the other chief
partner in the investment


Bracor is a privately held company headquartered in
São Paulo, Brazil. The company was founded in 2006
by Carlos Betancourt, Equity International, a leading
Brazilian bank, and a leading U.S. real estate finance
company. In terms of its real estate, Bracor is focused
on the acquisition, development and management of
institutional-quality corporate properties throughout
Brazil. These are in turn often leased under long-term
contracts to companies with investment-grade credit.
A historical lack of permanent debt and equity
capital in Brazil has created a market characterized
by a significant supply of institutional-quality real
estate occupied and owned by an array of strong
multinational and Brazilian corporations. Bracor’s
standard approach has been to build a scalable business
and capitalize on still-immature emerging markets
that is trending in four specific areas: the emergence
of permanent debt and equity capital; increasing
monetization of corporate-owned real estate; growing
corporate demand for institutional-quality properties;
and strengthening of lease contracts and a broadening
securitization market.

To Bracor’s advantage, all of these factors are present
in the red-hot Brazilian real estate market. Indeed, in
its own words, there is throughout urban Brazil an
“unmatched pipeline of opportunities”.
Bracor acquires and develops corporate properties,
primarily single-tenant office and industrial assets, and
leases then to high-credit quality corporations like IBM,
Nestlé and Comsat,

Washington State Investment Board Invests
in Latin America Private Equity Funds
The Washington State Investment Board, which has roughly US$63.9
billion in assets under management, last month approved commitments
of up to US$1.5 billion to four private equity funds focusing on buyouts
in the U.S., Europe and Latin America. The system is committing up to
US$700 million to the KKR European Fund III, a large-cap, pan-European
buyout fund with a target size of US$8.8 billion to US$11.7 billion; another
US$750 million to the US$12 billion Warburg Pincus Private Equity X fund;
up to US$25 million to the US$1.3 billion Advent Latin American Private
Equity Fund IV, which invests primarily in Mexico, Brazil and Argentina;
and up to US$50 million to the Avenue Special Situations Fund V, a targeted
US$6 billion distressed debt fund.

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IRS Won't Challenge Credits against US Income Tax for Payments of Mexico's New Flat Tax

by Scott Studebaker (WorldTrade Executive, Inc.)


Mexico’s new flat tax, the IETU, became effective on January 1, 2008. The new tax has caused anxiety among U.S. investors over the tax implications. Investors and tax professionals have worried that the new tax might not qualify as an income tax under Article 24 of the U.S.-Mexico tax treaty. This, in turn, would mean that U.S. investors would not be able to receive a credit against their U.S. income taxes for the IETU paid in Mexico—a classic case of double taxation.

But the IRS has stepped in with a welcome, if provisional, clarification. On December 10, the IRS issued Notice 2008-3, in which it said that it, too, had not determined whether the IETU qualified as an income tax under Article 24(1) of the Treaty, and that the agency was going to study the new tax in order to make a determination.

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Fin 48 and Tax Risk in Latin America

In a recent discussion, PricewaterhouseCoopers' John Salerno joined the editors of WorldTrade Executive's Practical Latin American Tax Strategies to talk with ADM's Robert Frable and Sony's Marc Lewis about their tax operations in Latin America, their new procedures for dealing with FIN 48, and transfer pricing procedures. This excerpt from that interview takes a look at their strategies surrounding FIN 48:

Strategies: What has your overall experience been in managing the implementation of FIN 48 in the region?

Lewis: It is hard to say that the Latin American region presents something that is unique within FIN 48 implementation versus some of the other regions but I think one thing to consider is how much reliance a taxpayer can place on the availability of Competent Authority or APA relief. To a certain extent, it is dependent upon how active the Competent Authority is between different countries and how active the APA programs are between different countries. Latin America, Mexico and probably some others have pretty robust activities. However, in other countries, it is just building up, so I do not think you are at the same level as you see in some of the countries in Europe, Japan and other places where you can rely upon a Competent Authority or APAs in the assessment of uncertain tax positions.

Frable: FIN 48 was an interesting experience with this being the implementation year. I think everybody was surprised at how much time they ended up spending on the implementation. It took away from your day-today responsibilities. I think it is going to get better; tax departments, controllers and even outside auditors had to work through a learning curve.

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