Odebrecht’s bribery scandal casts a shadow over Latin America
March 9, 2017 |
The shock waves are not just hitting Odebrecht and its partners but also infrastructure and project finance markets across the region
For years, people suspected something was wrong.
In 2014, as the Gasoducto Sur Peruano (GSP) natural gas pipeline concession wound through the bidding process, rumors circulated that Odebrecht was not competing fairly. The rumors gained steam when, with just two bidding teams left in the hunt, the Peruvian government disqualified one led by France’s Engie, previously known as GDF Suez, on technical grounds, leaving the Brazilian builder and its Spanish partner Enagás to take the 34-year concession contract for the 1,000-kilometer pipeline.
As construction got underway and the project secured $4.13 billion in long-term financing, Odebrecht found itself embroiled in a widening corruption scandal, first at home and then in other markets in Latin America. In December last year, as part of plea agreements in Brazil, Switzerland and the US, the company admitted to paying some $788 million in bribes in 12 countries — 10 of them in Latin America — over 15 years.
“I can think of three deals where our clients knew that Odebrecht was playing dirty,” a source who has helped developers bid for infrastructure projects in Latin America tells LatinFinance.
In Brazil, where the Lava Jato investigation has run for more than two years, the corruption allegations led to the arrest and a 19-year prison sentence for former Odebrecht chief executive Marcelo Odebrecht. The company has since apologized for its illegal business practices and promised not to do it again. It also struck a deal in December last year with Brazilian, Swiss and US prosecutors to pay at least $3.5 billion in fines. But the massive anti-corruption settlement has not put the allegations to rest. Instead, it has led to new investigations around the region and spurred calls for Odebrecht to pay more fines and abandon the markets where it once profited from bribes.
Now the investigations in Brazil and elsewhere are ensnaring both current and former government officials and paralyzing billions of dollars in infrastructure investments. Peru has issued a warrant for the arrest of former President Alejandro Toledo. Brazil has arrested the former speaker of the Chamber of Deputies, Eduardo Cunha. Colombia has opened an investigation into allegations that illegal election donations may have been funneled to the 2014 campaign of President Juan Manuel Santos.
As high-ranking politicians come under fire, projects in Peru, Colombia, Ecuador, Panama and the Dominican Republic have either been put on hold or canceled altogether. Peru’s President Pedro Pablo Kuczynski has called for Odebrecht to leave the country, while Colombia’s national infrastructure agency ANI has publicly declared it is working towards the company’s “definitive exit”.
The scandal has put infrastructure projects in the region under increased scrutiny and raised questions about transparency in public works initiatives that many Latin American leaders are touting as crucial to stimulate economic growth. With the scandal’s aftershocks continuing to rattle the region, some countries are scrambling to find companies to step in to move projects forward, raising the prospect for new investors or mid-sized firms to expand their presence in Latin America’s infrastructure markets.
But it has also raised questions about financing, and whether some companies might struggle to find the money to bring projects to fruition, or if some projects will end up costing more than originally planned.
In Peru, Odebrecht and its partners lost the GSP contract after the Brazilian firm failed to find a buyer for its 55% stake in the project. Sempra Energy, which was on the Engie team in 2014, seemed close to buying Odebrecht’s share, but the deal fell through after the government refused to remove an anti-corruption clause.
Brookfield appeared next, with Peru’s Finance Minister Alfredo Thorne even appearing on television near the end of last year to say the Canadian investor was on the verge of taking Odebrecht’s stake. But the deadline to reach financial close came and went in January. The government canceled the contract and fined the Odebrecht-led consortium $263 million for not finishing the project. The government insists on monitoring the GSP sale to ensure that Odebrecht pays its fines and its workers in Peru before pocketing any money.
Odebrecht’s teammates in the consortium, Enagás and local developer Graña y Montero, stand to receive 72.3% of the GSP’s net book value, under terms agreed in the original contract, when the government conducts a new auction for the pipeline concession. With that money, the five lenders on the 18-month $600-million bridge loan — BBVA, Intesa Sanpaolo, MUFG, Natixis and SMBC — expect to be repaid, a project finance banker in New York tells LatinFinance.
“In theory, we are covered,” the source says. “We are having discussions with the government, but let’s see what value they recognize.”
Before the lenders are repaid, however, the losing bidders from the original auction could present a challenge in court. One lawsuit could lead to another, and then other projects that Odebrecht won could be called into question. Regardless of what eventually happens to the GSP, Odebrecht may find it difficult to finance existing projects or any new projects it has in development.
In late January, for example, SMBC pulled $250 million in financing for the Río Magdalena waterway public-private partnership (PPP) in Colombia after Odebrecht failed to sell its controlling stake in the project. Ideal and FCC Construcciones, two construction companies owned by Mexico’s Grupo Carso, made a move late last year to take 51% of the project, but Odebrecht declined the offer. Dredging company Jan De Nul assumed a 25% stake in the project sponsor, Navelena, but lenders still stayed away as long as Odebrecht maintained control.
Now Sinohydro, a division of the Chinese state-owned construction company Power China, is in talks to assume Odebrecht’s share in Navelena. Goldman Sachs could still provide financing, but only if Odebrecht leaves, sources involved in the project tell LatinFinance. Odebrecht's exit appears to be only a matter of time. The regional waterway authority Cormagdalena has started the process to cancel the contract. If Sinohydro does not take control of the PPP, Cormagdalena has said it will carry on with project through a series of public works contracts.
In Peru, Odebrecht is reviewing offers to sell the Chaglla hydropower project, a deal that could be worth more than $1 billion, M&A bankers have said. The potential bidders include Brookfield, China Three Gorges, Engie, US energy investor ContourGlobal and Italian gas and electricity company Enel, sources tell LatinFinance. Chaglla comes with a 15-year power purchase agreement (PPA), along with $774 million in financing that Odebrecht lined up in 2013.
“Chaglla is fine as far as we know,” the New York banker says. “They’re not saying any of the bribes were used to pay for the license.”
The Colombian government, meanwhile, is not taking any chances.
The business regulator Supersociedades has assumed control of Odebrecht's subsidiaries in the country — Constructora Norberto Odebrecht de Colombia, Odebrecht Latinvest Colombia and Navelena — and the transportation ministry Supertransporte has taken over the Ruta del Sol 2 toll road concession. And just as the Peruvian government has decreed, Colombia will not allow Odebrecht to sell any assets without regulatory authorization.
In Panama, where Odebrecht has admitted to paying $59 million in bribes between 2010 and 2014, the Brazilian firm has withdrawn from the bidding process to build another bridge over the Panama Canal.
Odebrecht has also lost another key project in Panama — a $1 billion contract to build and operate the Chan II hydroelectric project — after the government cancelled it.
A buyer's market
The bribery scandal is also slowing down the infrastructure pipeline in other countries in the region as government contracts come under examination. The most pressing projects, however, will likely still come to market, says Alejandro Olivo, an associate managing director at Moody’s.
“Specific projects will be subject to increased scrutiny and material delays in construction,” Olivo says. “We know that most, if not all, of the projects have a rationale and a relevance of their own… We expect those projects will continue over time.”
In Brazil, specifically, the Lava Jato investigations have forced infrastructure developers to take closer looks at the legal and political risks involved. But, if the end result is a more transparent procurement process, then the country’s infrastructure stands to gain in the long run.
“For new projects, investors are focusing their analysis on the legal aspects,” says a banker in Brazil. “Certainly Lava Jato has created some uncertainty, but Brazil is getting better. Maybe Brazil will become a safer place to invest.”
Geert Aalbers, who leads the Brazilian and Southern Cone business for the consulting company Control Risks, says the corruption probes will clean up project procurement in Brazil and level the playing field for both local and international firms. Until then, however, infrastructure investors will have to deal with continued instability stemming from the Lava Jato investigations.
Just as Odebrecht strives to sell assets to raise badly needed funds, other construction companies tied up in the Lava Jato case are offloading projects in a rush, creating a buyer’s market and opportunities that may outweigh the concerns, Aalbers says.
“They’re basically living in a universe of high risk and relatively high return,” he says of infrastructure investors in Brazil and the rest of Latin America. “The assets are relatively cheap and they’re going to stay that way for the next two years.”
The Brazilian government intends to auction four airport concessions on March 16, with an estimated 6.61 billion reais ($2.13 billion) in project costs, and the market anticipates a solid response from investors. On the other end, plans to grant three railroad concessions, involving 14.3 billion reais in investments, have not stoked investor interest.
Feeling the fallout
Odebrecht, which already holds the Galeão Airport concession in Rio de Janeiro with Singapore's Changi Airport Group, is not expected to bid widely for upcoming PPPs and concessions in Brazil and elsewhere. The scandal has added to Odebrecht’s deepening financial troubles, and it has been forced to undergo some rigorous belt-tightening. Facing a cash crunch last year, Odebrecht sold nearly half of the 12 billion reais in assets it put up for sale. From 2012 to 2015, it slashed its workforce from some 175,000 global workers to 128,000, according to the company's annual reports.
Odebrecht officials have said they hope the asset sales will help help steady the company, while it works to win new construction projects in countries where its image has not been badly damaged.
In 2013, the project portfolio of Odebrecht Engenharia e Construção amounted to some $34 billion. By the third quarter of 2016, it had fallen to around $21 billion, according to Moody's.
“These projects are good assets,” the Brazilian banker says, pointing to the $768-million deal that Brookfield struck last year to buy a controlling stake in the water and wastewater business Odebrecht Ambiental.
However, Odebrecht’s prospects of garnering significant new business appears daunting, as several countries in Latin America, including Peru, Colombia, Ecuador and Panama, have banned the company from making bids while investigations are ongoing. Analysts predict some of the legal probes could take up to three years.
“The main challenge for the company right now is how does it win contracts to maintain a healthy backlog and revenues?” says Marcos Schmidt, a vice president and analyst at Moody’s who covers Odebrecht.
“In Brazil, they are already a step ahead compared to what they’re facing in the other countries,” he says. “But it does not mean it will be easy for them. They cleared one of the hurdles in Brazil, now getting the financing and winning the bids is another story.”
In one potential bright spot for Odebrecht, the Dominican Republic announced in February it reached an agreement with the government to pay some $184 million in fines — twice the amount it doled out in illicit payments to win public works contracts from 2001 to 2014.
Under the agreement, the company will make annual payments over the next eight years and submit reports detailing its efforts to improve corporate governance and its interactions with government officials as a condition to lift a temporary ban imposed by the government barring Odebrecht from bidding on public contracts.
Odebrecht’s arrangement in the Dominican Republic might serve as a blueprint for the company to address graft investigations in other countries.
Odebrecht hopes to keep most of its existing contracts as it works to reach judicial settlements. “The basis of negotiation in the countries, as has happened in Brazil, is the maintenance of existing contracts and the possibility of participating in future bids on equal terms with other builders,” a spokesperson for the company told LatinFinance in an email. “It makes no sense to punish those who are seeking to do what is right.”
Odebrecht believes it could resolve all of the judicial investigations in the region within six months, possibly allowing it compete for new business.
“We are seeing infrastructure project opportunities in almost every country in Latin America,” it added.
If Odebrecht gets beyond its current troubles and starts bidding for projects again, it may encounter less competition in the market, at least in Brazil. A few firms involved in the Lava Jato operation, such as Galvão Engenharia, Mendes Júnior and OAS, have filed for bankruptcy protection and they cannot afford to go after new projects.
“A lot of people are asking if infrastructure companies will survive,” Aalbers says. “The stronger ones have traditionally been more solid in Brazil. They will survive, but in a smaller form than before, or maybe partner with foreign firms.”
Finding the funding
On the financing front, lenders and market analysts expect new projects to have access to capital, and costs could remain more or less the same as before. “I don’t think spreads will go up a lot,” the New York banker says. “Liquidity is high. Lenders are interested in the region. Banks are really competitive. We are slowly seeing higher margins, but not so much.”
In Brazil, the national development BNDES is limiting its cut-rate financing, capping loans at 40% of investments in airport concessions and 50% in highway concessions.
“We’re not expecting to see a material reduction in the availability of financing in 2017,” Olivo says. “We haven’t seen concern from banks to provide financing for sound and relevant projects. We may see additional layers of due diligence… and further delays in execution overall.”
Among the government’s financing plans, Banco do Brasil aims to bring commercial banks into syndicated loans to provide funding during construction. After that, BNDES and FI-FGTS, an infrastructure fund managed by the federal savings bank Caixa Econômica Federal, could ensure long-term financing by underwriting up to 50% of infrastructure bonds issued by the project sponsors.
The financing mix will change, and the government has the clear intention of making the projects more accessible to international investors.
Still, bankers are optimistic that BNDES will strike the right balance between financing infrastructure investments at the government’s subsidized TJLP long-term interest rate and market rates. “Everything indicates that there should be a significant reduction in interest rates [in Brazil], making the difference smaller between BNDES and the market,” the Brazilian banker says.
Brazil’s electricity transmission line concessions did not come with subsidized financing based on the TJLP, and the auctions have been a success, he says.
BNDES has also put a stop to bridge loans to finance upfront payments for concessions and PPPs, opening another door for commercial lenders to get involved. “It doesn’t mean a big client can’t get a corporate loan, rather than a project loan,” the banker says. “We didn’t have bridge loans in the past and we won’t see them this year.”
BNDES appears ready to reduce its role in financing infrastructure projects in Brazil, as it has promised to do for several years, but it is not going anywhere, he says. “We still have a long way to go,” he says. “We still see our resources as a complement to BNDES financing.”
But the BNDES bedrock could crumble if the development bank comes under investigation itself for its loans to companies involved in the Lava Jato scandal, although the development bank has not been accused of wrongdoing. “If we throw BNDES into the mix, it begs the question, ‘Where does the financing come from?’” Aalbers says. “There will be a need for financing from a national development bank and pension funds. Insofar that becomes subject to significant regulatory inquiry, it might create a paralytic effect on public financing.”
Trouble in Peru
Odebrecht may face its biggest challenges in Peru, one of the countries where the scandal’s impact has been felt most sharply. Its admission of paying $29 million in bribes between 2005 and 2014 has rippled through the country’s political class and forced the government to lower its economic growth forecast for the year.
In a sign of how deep the scandal has penetrated Peru’s political establishment, the country’s attorney general has issued an arrest warrant for former President Toledo, who is accused by Peruvian prosecutors of accepting $20 million in bribes from Odebrecht in exchange for infrastructure contracts, including a major highway project.
Toledo denies any wrongdoing. Kuczynski, who served as finance minister and prime minister under Toledo, has said he was unaware of Odebrecht’s kickback schemes, which allegedly spanned the administrations of Toledo and the former presidents Alan García and Ollanta Humala. Three former officials from the García administration have been arrested in connection with ongoing probes.
Odebrecht's former Peru head, Jorge Barata, has also claimed that Graña y Montero, JJC Grupo and Ingenieros Civiles y Contratistas (ICCGSA) knew about the bribes that Odebrecht paid Toledo. Shares in Graña y Montero sank some 33% after the news of Barata's claims hit the market on February 24. The Peruvian engineering firm denied the allegations and said in a statement that its executives "were not aware of, participated in, nor made any payments in connection with any type of bribe or reimbursement of any such payments made by Odebrecht."
Graña y Montero's denial, however, was not enough to deter a host of law firms from launching investigations into possible violations of US federal securities laws. The company has seen its shares go from 4.50 soles ($1.38) on November 23, the day Sempra said it was withdrawing from the GSP talks, to around 2.80 soles in late February.
After losing the GSP contract and seeing the share price tumble, Graña y Montero announced that Mario Alvarado had resigned as chief executive. Likewise, José Graña stepped down as chairman of the board and Hernando Graña left his post as a director. Chief operating officer Luis Díaz stepped in as the new CEO.
Nationwide, as the wake of the scandal has spread, Peru has trimmed its 2017 economic forecasts from 4.8% to 3.8%, Thorne tells LatinFinance. “We are devoting a lot of energy these days to the shock we have experienced from Odebrecht,” he says. “What we have found is that Odebrecht has monopolized a lot of these projects.”
The government has terminated the $7 billion GSP contract. Now Thorne says it wants Odebrecht to divest from other projects, including its stake in a $500 million irrigation project it was working on with Graña y Montero.
“Our sense is it’s going to take us a few months to essentially induce Odebrecht to sell their stake in their projects,” he says. "We have decided that even if we suffer on the economic side, we are committed to transparency."
Thorne says “five or six” companies have expressed interest in taking over Odebrecht’s projects, adding he has met with some of the prospective companies. “Most of them are at the point where they want to buy all of the projects.”
Chinese companies have also shown interest in infrastructure projects in Peru, Thorne says.
“We are comfortable that six or nine months from now, we’re going to be back on our feet,” he says.
For some countries in the region who have been untouched by the scandal, it has proved to be cautionary tale.
While it has been slower than its neighbors in developing infrastructure projects, Paraguay, which recently launched two key PPPs, although smaller in scale than many of the region’s bigger infrastructure investments, sees Odebrecht’s troubles as a warning sign, Finance Minister Santiago Peña says.
“In our case, I think our typically conservative approach has paid off,” he tells LatinFinance. “In recent years, we saw how many other countries quickly launched projects. But today we’re seeing the consequences.” LF