After years of steady economic growth in Latin America, rank-and-file consumers are finally in the driver’s seat, and local companies stand to benefit.
| Millions of Mexican families like the Elizaldes have bought homes in recent years. |
Growing up outside Mexico City, under the same roof as her mother, uncles and grandparents, Jenny Elizalde never imagined she’d be able to buy a house. “You get used to living a certain way,” explains the 26-year-old secretary, “and I thought: If my mom wasn’t able to buy a house, how will I?” Last year, Elizalde became part of the consumer boom that’s sweeping Mexico and other countries in Latin America. With the help of a loan from government-run housing fund Infonavit, Elizalde bought a two-bedroom, $30,000 house in the Mexico City suburb of Coacalco. And with some of the cash from the loan, she was able to buy a used car. The transition from sharing a home with her family to owning, and from public transportation rider to driver, happened in just five months – from the time Elizalde filled out a form online with Infonavit to the date she signed the papers.
“Sometimes I still can’t believe it,” Elizalde marvels. “It used to be super-difficult. My brother bought a house through Infonavit and it took him three years to get it.”
Regional Boom
As economies grow, interest rates come down and everyone from banks to retailers and government entities extend credit to more people in the lower income brackets, Elizalde’s story is being repeated throughout the region. And the beneficiaries are numerous. While the ability to purchase big-ticket items like cars and houses can be life changing – as well as a good campaign plug for politicians riding the wave – beverage makers, bakers and even cement companies are picking up steam thanks to an increase in disposable income.
The United Nation’s Economic Commission for Latin America and the Caribbean estimates that the region’s economies will grow, on average, by 4.5% this year, in line with their 2005 progress. What’s more, the expansion has been chugging along for a number of years now, fueled by high commodity prices, so consumers have moved on from buying a few extra soft drinks to straight up splurging.
Although income disparity is still acute in countries like Brazil, the middle class that was supposedly disappearing over the years is suddenly resurging. The World Bank classifies countries like Argentina, Chile, Mexico and Venezuela as upper middle income, with average annual wages between $3,256 and $10,065. In the case of Mexico, where per capita salaries hinge around $10,000, the country is almost in “high income” territory.
“The Mexican story is unique,” says Rafael Amiel, regional director for Latin America and the Caribbean at forecasting company Global Insight. “I’m in Philadelphia, where I see real life cases all the time. If a Mexican works here for a month and makes $1,300, he’ll send $1,000 home. That makes any family in Mexico middle class.” Remittances to the country topped $20 billion last year, or 38% of the roughly $54 billion that relatives living in developed countries sent back to their loved ones in the entire region.
Still to be seen, though, is whether the pick-up falls victim to the region’s notorious boom-bust cycles. To be certain, Latin America has gotten plenty of false starts. Consumer spending in Argentina was on a steady ascent through the 1990s, only to come crashing down at the turn of the last century. In fact, with the exception of Mexico, belts tightened considerably in Latin America’s top economies in 2000, as orders slumped for goods like copper and the global economy suffered a general downturn. “If you go four or five years without buying big-ticket items, you have this pent up demand – and that’s what we’re seeing now,” says John Price, president of Infoamericas, a leading Latin American business intelligence consultancy. “You start with the basics: as soon as money starts coming in the door, you buy your kids new clothes. You don’t take them to Disney.”
Home Sweet Home
The streamlining and revamping of Mexico’s decades-old housing institution, Infonavit, has made affordable homes a pillar of President Vicente Fox’s six-year rule, which ends in December. The agency, funded by employer contributions on behalf of workers and through returns on loans, has doubled its loan origination activity since 2000. Last year alone, Infonavit issued more than 375,000 mortgages covering close to 2% of Mexican households, making it the largest home lender in Latin America with a loan book of about $40 billion. The surge in Infonavit lending is also due in part to the agency having filled a void after Mexico’s last financial crisis in the mid-1990s, when banks effectively abandoned the mortgage market. Since the so-called Tequila Crisis, Mexico has given banks more legal tools to collect on past-due loans and even repossess a property, if necessary.
Now that inflation has been tamed, Brazilian President Luiz Inácio Lula da Silva is pushing for public and private banks alike to boost fresh mortgage lending. According to data from UBS Investment Research, Brazilian banks held $13.4 billion in housing loans at the end of December 2005, representing about 2% of the country’s GDP. By comparison, Mexico’s housing loan portfolio accounts for roughly 7% of GDP and home loans in Chile comprise 13% of GDP. Pedro Damasceno, a partner at Rio de Janeiro-based asset manager Dynamo, which oversees $850 million in funds, expects Brazil’s construction sector in general to kick into overdrive in the near-term. “Not only do we have a huge housing deficit – around seven million units according to official data available – but also we have been postponing a lot of infrastructure projects,” Damasceno notes.
Egalitarian Lending
The folks at UBS predict that lending in general will expand by more than 15% annually over the next few years in Brazil, giving the country’s banking system one of the highest growth rates in the world these days. Total private sector lending in Brazil last year reached $249 billion, or about 30% of GDP. With interest rates coming down, private banks are casting a wider net for customers to compensate for the lost revenue with volume. “They need to adjust for the new environment,” says Daniel Araujo, a São Paulo-based analyst with Standard & Poor’s.
To some extent, retailers like Elektra in Mexico have already proven that the region’s humble classes are a very rich source of returns on credit. Elektra, which mostly sells home good like appliances to low- and middle-income consumers, began offering in-store credit for purchases in 1957. The company found that these credits acted as incentives and even translated into customer loyalty. Then in 2002, the retailer took its lending operation a step further by opening bank branches in its stores. The venture, Banco Azteca, did so well that the company opened freestanding branches. By end-2005, Elektra had more Banco Azteca branches – 1,344 – than its 1,007 retail outlets. Of the roughly $1.12 billion in consumer loans on its books in December, just $11.6 million were past-due.
“The whole perception is that this (lower income) segment is unsafe, with higher delinquency rates,” says Jorge Becerra, head of The Boston Consulting Group’s Latin America practice. “But companies are realizing that it’s worth serving.”
Retailers have some advantages over banks in the consumer credit game. Having tracked their customers’ spending habits for years, they can easily assess an individual’s creditworthiness and then cross-sell products like insurance or car loans. They also operate under less regulatory scrutiny. “The retailers are increasingly competing with banks in consumer finance, and are the largest card issuers in some countries,” says Udi Margulies, head of Latin American mergers and acquisitions at Lehman Brothers. “In Chile, for example, you have banks like Santander-Santiago, Banco de Chile and BCI, Chile’s fourth-largest bank, competing with retailers like Ripley, Cencosud and Sodimac Falabella.” Falabella has taken its credit card push beyond Chile, to Argentina, Colombia and Peru. As of the end of 2005, the retailer had issued 5 million cards.
Still, the opportunities are vast for banks. In Argentina, only 49% of the population has a bank account. In Mexico, it’s 35%. After several years of steady economic growth, consumers are taking a chance on loans throughout Latin America. “There’s a series of products that the banks are offering that they didn’t before,” notes Jose Manuel Souto, chief financial officer for Latin America and the Caribbean with credit card issuer Visa. “We’re working with the banks to develop ‘entry level’ products for consumers.” Visa has seen its credit card business in the 44 Latin American and Caribbean markets it serves double to 213 million over the five years leading up to 2006. Sales made with its cards in the region in the same period expanded at the same rate to $83 billion in 2005.
Enrique Riquelme, who oversees Latin America for HP Financial Services, a unit of computer company Hewlett-Packard Co. that helps companies finance their transitions out of old technology and into newer equipment, is optimistic that as middle class spending grows, the region will come up with increasingly dynamic financial solutions. “Leasing in its true form still has an important role to play in Latin America development as a mechanism to support capital goods acquisitions,” Riquelme ventures. “This will be evident as new players enter the market and/or current player develop true leasing capabilities.”
Cashing In
Becerra, of The Boston Consulting Group, says the trick right now for companies operating in the region is how to tap into the consumer phenomenon by increasing emotional affiliation with a brand that drives loyalty and value. Like in the rest of the world, Latin American consumers are willing to trade down on some products that they buy so that they can reallocate the cash to other goods. “The middle consumer is willing to spend more on certain luxuries,” notes Becerra, adding that the key for consumer goods makers is knowing which of their brands might be at risk for a trade down, and which could benefit from consumers trading up.
After the Argentine crisis in 2002, when consumption in many categories was negative 15%, global consumer goods giant Unilever launched the Dove soap brand. Skeptics thought the company was mad for bringing a fairly premium and up market brand to a country in the middle of severe economic distress. “They found that an Argentine woman would probably trade down on rice or other basic goods to buy a product that lifted her self-esteem,” Becerra recounts. “The launch was extremely successful in terms of volume penetration.” Likewise, by “connecting” with younger generations in the region, Unilever says its deodorant brands Rexona and Axe are on a bull run. The company doesn’t break out financial data for the region.
The excitement is tangible at companies across sectors. “Organic growth is going to be very important over next three years,” says Carlos Garía Moreno, CFO at pan-regional wireless communications giant América Móvil. “We had already reached 100 million total subscribers in Latin America at the end of March.” América Móvil expects to sign on more than 22 million new customers this year. Daniel Ratti, chairman of airline TACA Peru, notes that domestic air travel in Peru last year grew 7.8%, in line with the country’s economic growth. “There’s a big correlation between GDP and passenger traffic,” Ratti says. “When there’s economic growth, you’re going to see that the airlines are doing very well. But when the economy turns sour, the first thing people cut are their trips.”
Vacas Gordas
On a broad basis, the pick-up in consumption can be explained by currency appreciation, which has been fueled by record high commodity prices. In Brazilian reais, foreign goods are 40% cheaper than they were three years ago. In Chilean pesos, prices on imports have been slashed by 30%. “This is not a sales driven boom by the region,” concludes Global Insight’s Amiel. “It’s external demand.”
The countries that will have sustained consumer spending, market experts say, are those that prepare for the lean years. Fiscal discipline, lower foreign debt burdens and a push to diversify economies could cushion any eventual blow and extend the growth of the middle classes. Chile’s social spending and fiscal surplus should provide its middle class with a cushion should copper prices take a dip (see The Professor Is In, p. 24). And while 90% of Mexican exports go to the US, the content is diversified. Last year, Mexico shipped out more than $6 billion in agricultural goods, $32 billion in oil related products and $174 billion in manufactured products, according to data from government statistics agency Inegi. In 1980, for comparison, Mexico only shipped about $3 billion in manufactured goods overseas.
Less insulated from a sudden – albeit improbable – souring of external factors are countries like Argentina, which isn’t saving enough, or Venezuela, which is just as dependent on oil as ever.