Tollway Scandal Couldn’t Come at Worse Time for Mexican Builders

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Recordings appearing to show OHL Mexico SAB executives’ efforts to increase highway tolls and pay for a state official’s beach-hotel room threaten to disrupt a construction industry already hurt by budget cuts and a scandal involving President Enrique Pena Nieto’s wife.

The toll-road operator’s shares have tumbled 20 percent in the past week as the State of Mexico government disclosed plans to investigate the allegations, contained in a pair of videos posted on the Internet. While Mexico City-based OHL Mexico has denied wrongdoing, its chairman acknowledged last week that executives offered to pay for the Caribbean luxury hotel before the invitation was rejected by the official.

The controversy comes on the heels of a $4.3 billion high-speed train project that was suspended in January after reports emerged that one of the winning bidders built a luxury home for the president’s wife. She and Pena Nieto have denied any wrongdoing. OHL and rival builders including Empresas ICA SAB have also seen their stocks plunge as falling oil revenue prompted the government to cut back on infrastructure spending.

“There may be a fear that OHL generates a contagion to the other businesses in the infrastructure industry that are related to highway concessions,” said Gerardo Cevallos, an analyst with Vector Casa de Bolsa SA in Mexico City.

The Mexican toll-road operator’s shares slipped 0.7 percent to 24.46 pesos today in Mexico City.

Rate Increases

OHL Mexico, the Mexican unit of Spanish builder Obrascon Huarte Lain SA, has been forced to explain recordings posted on YouTube that appear to show executives discussing plans to trick state officials into approving toll-rate increases based on construction costs that may take years to materialize. The cost of tolls on the highway in the State of Mexico rose 30 percent in January, 7.5 times the rate of inflation.

On Sunday, State of Mexico Governor Eruviel Avila said the state wouldn’t allow any further toll increases on the highway, known as Viaducto Elevado Bicentenario, until the company clarified its actions. The governor had said last week that the state comptroller would investigate the case, with the help of PricewaterhouseCoopers LLP. The state is also seeking the help of federal auditors, according to the governor.

OHL Mexico Chief Executive Officer Sergio Hidalgo said in a telephone interview on Monday that the controversy wouldn’t negatively impact the industry.

“Things are ripe today for more participation of the private sector in infrastructure,” he said.

Executive Resignation

The company on Monday also announced the resignation of its executive Pablo Wallentin in relation to the invitation extended to the State of Mexico official and said it was creating a compliance-officer position.

The toll-road operator, which says the conversations were illegally recorded and maliciously edited, told the Mexican stock exchange on May 7 that it started an internal investigation into the matter. Hidalgo, the CEO, denied any misconduct by its management team in a conference call with analysts and investors that same day.

ICA and Promotora y Operadora de Infraestructura SAB declined to comment.

The brewing scandal adds pressure to the construction and engineering industry after the past year’s tumble in crude prices prompted the Mexican government to cut spending, according Carlos Serrano, BBVA Bancomer’s chief economist. Oil revenue accounts for a third of the federal budget.

Spending Cuts

In January, Finance Minister Luis Videgaray disclosed plans for spending cuts, with about 15 percent coming from public-works projects, including a passenger train in the Yucatan peninsula and a high-speed rail project between Mexico City and Queretaro.

Ursula Carreno, head of the Finance Ministry’s investment unit, said in a telephone interview today that she didn’t expect the OHL Mexico case to have any impact on the level of government spending on infrastructure. Pena Nieto’s office also said in an e-mail that the OHL case will have no impact on the government’s plan for infrastructure investments.

“All our projects are in place and their viability is based only in technical matters,” the president’s office said in the statement. The matter does show “the importance of improving anti-corruption and transparency measures, which is exactly what President Pena Nieto has been doing.”

Even though they weren’t part of the train consortium, shares of builders OHL Mexico, ICA and Promotora y Operadora de Infraestructura fell in November, when the initial contract award was scrapped, amid speculation heightened scrutiny would delay other projects.

National Plan

The spending cuts contrast with the promises Pena Nieto made early in his six-year term to boost infrastructure investments. In July 2013, eight months after he took office, the president said he planned to spend about 5 percent of gross domestic product a year on works projects to accelerate economic growth. The total public and private investment would be at least 4 trillion pesos ($262.4 billion) during his term, he said at the time.

Roberto Solano, a Monex Grupo Financiero SA, said the OHL case could result in a review of how the government manages concessions.

“You could see a stricter criteria,” said Solano, who lowered his stock recommendation on OHL Mexico to sell from hold on May 6.

Construction activity in February fell 2.2 percent from the previous month, the biggest drop in 22 months and the second straight monthly decline, the national statistics institute said April 10. Construction-industry output fell 4.8 percent in 2013 before advancing 1.9 percent in 2014.

“In general, it’s an industry with a high level of contact with the government that lends itself to these types of situations,” said Vector’s Cevallos. “It’s going to take time for investors to regain confidence in the business, and it’s going to depend on the results of the investigations that are done.”