A quarter century ago Panama epitomized the political and economic dysfunction then rampant in Central America. In 1989, U.S. armed forces invaded the country and deposed its dictator, general Manuel Noriega, who was later convicted and imprisoned for drug trafficking and money laundering. Local banks were notorious as places where shady characters from around the world could keep their cash away from prying eyes. Panamanians, having one of the lowest Latin American income levels, had little money of their own to hide. So complete was the disarray that many doubted the U.S. would fulfill its treaty obligation to turn over the country’s famed canal to Panamanian ownership at the end of 1999.
Today, Panama invites comparisons to Asian Tigers rather than to its Central American neighbors. The country’s gross domestic product has grown at a China-like rate of 8.5 percent a year for the past decade, causing per capita GDP to more than double, to $15,449 on a purchasing-power-parity basis at the end of 2012, according to the International Monetary Fund. Inflation is running at a moderate, 4 percent rate, largely because the country uses the U.S. dollar as its currency, which means the government cannot print money. The Panamanians, who took over the canal on schedule, are running it better than the Americans did, treating it as a business rather than an imperial outpost. The canal stands to become even more important when a $5.2 billion expansion project to vastly increase the waterway’s capacity is completed, although just when that will be remains in doubt. A bitter dispute over cost overruns with a Spanish-led consortium that’s carrying out the work has delayed the project by a year, to 2015, and threatens to drag on even longer (see “Contract Dispute Delays the Panama Canal’s Expansion”).
Notwithstanding the construction dispute, Panama has been remarkably successful at leveraging the canal to transform itself into a regional financial and corporate hub, and a magnet for foreign investment. Panama has 92 local and international banks with a combined $78.3 billion of assets as of July 2013 — not bad for a nation of only 3.5 million people. More than 100 multinationals use Panama City, the capital, where half the population resides, as their regional headquarters for Latin America, including such blue-chip companies as Japan’s Isuzu Motors, Dutch electronics giant Koninklijke Philips, Swedish telecommunications equipment maker Ericsson and U.S. insurer Ace Group. “Panama is a lot more than just the canal,” Deputy Finance Minister Dario Espinosa tells Institutional Investor.
The country has diversified well beyond trade and finance. With 1.68 million foreign vacationers in the first nine months of 2013, Panama is fast closing in on neighboring Costa Rica, the longtime ecotourism superstar, which had 1.85 million foreign visitors in that period. Many of Panama’s tourists arrived on flights operated by Copa Air, a Panamanian carrier whose profitability is the envy of the airline industry. In the jungles west of Panama City, Canada’s First Quantum Minerals is investing $6.4 billion to develop one of the largest new copper mines in the world. And throughout the country the government is spending some $15 billion on public works programs to develop and upgrade airports, highways, ports, schools and hospitals.
“The enormous push in infrastructure has helped the economy a lot,” says Luis Alberto Moreno, president of the Inter-American Development Bank. “This is a path many other countries in the region are now taking.”
To be sure, Panama has its share of concerns. Although the canal operates normally, the dispute over the massive expansion — which would allow giant container ships to use the canal for the first time — continues to drive up costs and delay the anticipated payback. Meanwhile, President Ricardo Martinelli, whose five-year term ends in July, has been plagued by charges of authoritarianism and corruption that have marred his administration’s economic accomplishments.
In the longer term some economists question just how sustainable the country’s economic model really is. “Panama’s extraordinary growth isn’t based on productivity gains but rather on very large capital spending,” says Mario Cuevas, a Panama-based IDB economist. “And that won’t last forever.”
For now, though, foreign investors have bought into the Panamanian story and are pouring money into the country. Foreign direct investment has averaged a stunning 9 percent of GDP a year since 2008, helping to raise overall investment levels to 30 percent of GDP, nearly double the average rate in Latin America.
Moreno says Panama’s development parallels the rise of Singapore several decades ago. Both are small countries blessed with a favorable geographic location: Panama occupies the narrowest point between the Atlantic and Pacific oceans; Singapore sits on the strategic shipping lanes of the Strait of Malacca. “They both developed as logistics hubs,” says the IDB president. “Singapore then went on to become a big financial center.” Panama has chosen the same path.
In Panama City, along the wide crescent of the Bay of Panama, on the country’s Pacific coast, there are more than 40 skyscrapers over 500 feet high, in a cornucopia of architectural styles, most of them completed since 2005. The Trump Ocean Club International Hotel and Tower, shaped like a half-open mussel shell, rises 70 stories. The green-glass, 52-floor F&F Tower office building looks like an inverted corkscrew. Many of the new structures carry the names of banks on their roofs, including the Global Bank Tower.
Real estate development goes hand in hand with the explosive growth of local banking. “Most of the construction financing comes from Panamanian commercial banks,” says Otto Wolfschoon Jr., executive vice president of Global Bank, which occupies four stories in the 47-floor tower. Loans cover less than half of construction capital in Panama; the bulk of it comes from equity put up by domestic and foreign tenants, or from investors.
At Global, the eighth-largest Panamanian bank, with $3.96 billion in assets, construction lending accounts for 11 percent of the $3.1 billion loan portfolio, in line with the banking system’s average. The bank has resisted the temptation to plunge deeper into real estate development. Such caution is a hallmark of the Panamanian financial system. Because the dollar is the local currency, there is no central bank to print money or act as the lender of last resort. “If we make mistakes in loans or liquidity, we have no safety net,” Wolfschoon says. “So there is a lot of internal pressure on banks to get things right.”
Key financial indicators bear him out. The banking system’s nonperforming-loan ratio is 2.5 percent, down from 4.2 percent in 2009 at the worst point of the global financial crisis. Liquidity is strong. According to analysts at Moody’s Investors Service, liquid assets make up 30 percent of the banking system’s total assets and equal 63 percent of short-term deposits, more than double the 30 percent minimum requirement set by the Superintendencia de Bancos de Panamá. The systemwide tier-1 capital adequacy ratio averages a robust 16 percent, well above the 8.5 percent minimum set by the Basel III global capital requirements.
These are banner times for Global, which extends 66 percent of its loans to corporate clients and the rest to retail customers. Net income rose 42 percent in the financial year ended June 30, 2013, to $71.7 million, largely because of extraordinary gains on the sale of investments, chiefly long-term bonds. In the quarter ended September 30, 2013, net income increased 2.8 percent, to $15.4 million.
But because of stiffer competition from both domestic and foreign banks, Global saw its net interest margin decline to 3.03 percent last year from 3.3 percent the year before. With funding costs rising, Global launched the first covered bond issue in Latin America, a $200 million offering in 2012, which it reopened to raise an additional $100 million last year. The bond, backed mainly by residential mortgages, matures in 2017 and carries a coupon of 4.75 percent. U.S. institutional investors bought most of the issue. “We wanted to diversify not only out of traditional funding sources but also beyond Panama,” Wolfschoon says.
The booming economy has ramped up the operations of foreign banks in Panama. The country has been an international financial center for many years because the Canal Zone attracted banks from all over the world to finance trade. Over the past decade Panama has reinforced its institutional framework. Banks now report their results under international financial reporting standards. Once known for banking secrecy, Panama is no longer on the Organization for Economic Cooperation and Development’s gray list for money laundering.
The Superintendencia de Bancos issues general licenses permitting both onshore and offshore banking or international licenses for banks that want only offshore activities. “It’s a very flexible arrangement that has drawn most of the major global institutions,” says Jeanne Del Casino, who covers Latin American banks for Moody’s in New York.
The most prominent foreign banks are the U.S.’s Citigroup and Colombia’s two largest banks: Banco de Bogotá and Bancolombia. The two Colombian lenders have grown by acquiring the local assets of foreign banks — such as Spain’s Banco Bilbao Vizcaya Argentaria, the U.K.’s HSBC Holdings and U.S.-based GE Capital — which are withdrawing from the region to bolster their capital and focus on core activities.
One of the more successful Colombian acquisitions was Banco de Bogotá’s $490 million purchase of GE’s BAC Credomatic in 2010. Headquartered in Panama, BAC is the biggest credit card issuer in Central America, with 1.875 million cards outstanding at the end of 2013, and one of the largest banks in the region. Its loan portfolio is evenly divided among corporate, consumer and mortgage clients.
Banco de Bogotá, a unit of Grupo Aval Acciones y Valores, one of Colombia’s largest holding companies, ventured abroad because of intense competition at home and high-growth opportunities in Central America, according to its CEO, Alejandro Figueroa. Banco de Bogotá holds a leading 26.4 percent of its domestic loan market. “Increasing our market share in Colombia will take a long time, so if we want to maintain our high growth, we have to look abroad,” Figueroa says.
Banco de Bogotá, with $43.8 billion in assets, reported net income of $538 million for the first three quarters of 2013, up 17.7 percent from $457 million for the same period the year before. BAC, meanwhile, is growing at an even faster pace. In the three years since the Colombians acquired it, BAC has almost doubled its net income, from $151 million in 2010 to $297 million in 2013. It now accounts for about 40 percent of Bogotá’s profits. “BAC was probably the best Central American acquisition to date by a Colombian bank,” says Juan Camilo Domínguez, a Bogotá-based bank analyst at Credicorp Capital. BAC also gave Banco de Bogotá an additional deposit funding base. “Most Central American countries don’t have a very developed bond market, so deposits provide the bulk of funding,” says Domínguez.
BAC’s credit card expertise has been another plus for Banco de Bogotá, which is better known for corporate than retail banking. “BAC has great credit card know-how and technology — and we’ve brought them to Colombia with very good results,” says Figueroa. His bank raised its share of the Colombian credit card market to 11.5 percent last year from 8.6 percent in 2011.
Many foreign banks, including Banco de Bogotá, are following their corporate clients to Panama. Dozens of big multinationals have set up Latin American headquarters there because of the ease of doing business and convenient links to the wider region. Panama has gained an edge over Miami because of tighter U.S. security since the September 11, 2001, terrorist attacks. “It has become so difficult for foreign executives to get visas to enter the U.S. for conferences and other business meetings,” says Juan Sosa, Houston-based president of the U.S.-Panama Business Council. That was one reason Caterpillar moved its Latin American regional headquarters from Coral Gables, Florida, to Panama in 2010. Even transit passengers on connecting flights that stop in Miami have to clear U.S. Customs.
The growth of Panama as a business hub has been a boon for Compañía Panameña de Aviación, which operates as Copa Airlines. Launched in 1947 by Panamanian businessmen, Copa began flights to domestic destinations using a few World War II surplus twin-prop DC-3s. Today it has a fleet of 89 aircraft, mainly Boeing 737s for its international routes and smaller Embraer E-190s for shorter distances.
Over the past six years, Copa has achieved some of the highest operating margins and profit increases in the airline industry. Since 2007 its earnings before interest and taxes have averaged a whopping 18 percent of sales, about three times the typical industry margin. Net income rose 31 percent in 2013, to $428 million. The company’s revenue, which climbed 16 percent, to $2.61 billion, in the period, equals 4 percent of the country’s GDP.
Other Latin American airlines target high-density trunk routes between major cities; these tend to have small profit margins because of intense competition. Copa serves those trunk routes too. “But where it really makes money is on thin, low-density routes where it faces no competition,” says Citigroup Latin American aviation analyst Stephen Trent.
Copa virtually monopolizes traffic on routes like Guatemala City to Maracaibo, Venezuela, or Tegucigalpa, Honduras, to Cúcuta, Colombia. Flights to these destinations must connect through a hub. And Panama, Copa’s hub, is more centrally located than Miami, the hub used by U.S. airlines, or Bogotá, hub to Colombia’s Avianca. That means shorter travel times and lower fuel consumption for Copa. Three fourths of Copa’s 66 routes average only 20 passengers per day, but most of those passengers are businesspeople willing to pay a premium to get to their destinations more quickly. Copa charges $2,037.30 for a round-trip business-class fare from San Pedro Sula, Honduras, to Medellín, Colombia, via Panama City.
Copa is counting on the continued expansion of the Panamanian economy and new, profitable routes to drive future growth. Panama’s emergence as a regional business hub has hastened the enlargement of Tocumen International Airport in Panama City. By 2016, Tocumen will have added 20 jet bridges to its existing 34, making it one of the largest airports in Latin America and allowing Copa to increase flights and add new routes to cities such as Boston and Tampa.
At the end of September, the airline was sitting on $974 million of cash and short-term investments. That total would be even higher if financially troubled Venezuela would repatriate the $392 million that Copa has accumulated in that country. The government of President Nicolás Maduro has prevented Copa and other airlines from taking receipts out of Venezuela, in a bid to contain the economic and currency crisis facing the country. “We know we’re going to get it out eventually, but it’s taking a while,” says Copa CEO Pedro Heilbron.
That didn’t stop the company from announcing in November that it would increase its dividend payout from 30 percent of net income to 40 percent — and distribute it on a quarterly basis. Beyond that, the company hasn’t disclosed what it intends to do with its mounting riches. “We are in a very capital-intensive and complex industry where having a conservative cash position is important,” Heilbron says.
In the future there will be investments in new aircraft. Copa intends to replace some of its 737s with fuel-efficient 737 MAX models, which will start rolling off Boeing Co.’s assembly lines in 2017. According to Heilbron, Copa will continue to own about two thirds of its aircraft and lease the other third.
Copa boasted a $6.31 billion market cap in mid-February and traded at 14.4 times 2013 earnings — far gaudier metrics than those of its leading rival, Avianca, which has a $2.15 billion market cap and a 9.7 price-earnings multiple. The company’s lofty valuation leaves it relatively immune to the industry consolidation that saw Chile’s LAN Airlines acquire Brazil’s TAM Linhas Aéreas in 2012 in a $3 billion share swap, creating Latam Airlines Group. “Latam has its hands full, and Copa isn’t an acquisition target now because from an equity market cap perspective it’s just too big,” Citi’s Trent says.
Copa, which bought Colombia’s AeroRepública in 2005 for $23.4 million, shows little interest in further acquisitions. “We feel consolidation in our markets has mostly run its course,” says CEO Heilbron. “Today the region is dominated by a group of healthy, very competitive, well-run airlines. But we always keep an eye out for new players.”
Much of Panama’s explosive growth happened during the presidency of Ricardo Martinelli, which comes to an end in July. A supermarket-chain magnate, Martinelli is the latest in a series of democratically elected presidents to rule Panama since Noriega was deposed by the U.S. invasion. The former dictator served a 15-year sentence in the U.S., then was tried and briefly jailed in France, also for drug trafficking and money laundering. In 2011 he was extradited to Panama, where he remains a prisoner, facing charges of human rights violations.
Hatred of the Noriega years continues to be a powerful political theme. Both Martinelli’s Partido Cambio Democrático, or Democratic Change Party, and the Partido Revolucionario Democrático (PRD), or Revolutionary Democratic Party, which Noriega led, are broadly centrist in orientation. Yet Martinelli based his 2009 presidential campaign on the argument that the PRD was linked to the military and former Noriega followers; he won 60 percent of the vote. “Ideology seems to be of relatively little concern to Panama’s politicians, who jump from party to party with apparent ease,” Moody’s analyst Aaron Freedman wrote in a December 2013 report.
But as his term nears its end, Martinelli has had to fight off accusations of political high-handedness and corruption. According to Transparency International, Panama has fallen from a ranking of 84th in 2008, the year before Martinelli’s election, to 102nd of 177 countries in the organization’s Corruption Perceptions Index.
The biggest scandal of Martinelli’s presidency involves allegations in the Italian and Panamanian media that his government vastly overpaid Italy’s Finmeccanica for the purchase in 2010 of helicopters and radar equipment for the Panamanian military. Paolo Pozzessere, the Finmeccanica director who negotiated the $250 million sale, was arrested in October 2012 and charged with international corruption by Italian prosecutors.
Martinelli, a white-haired, bullnecked 65-year-old with a brawling political style, has denied any involvement in the Finmeccanica affair and denounced his critics in the Panamanian media.
Foremost among these critics is I. Roberto Eisenmann Jr., a real estate developer who founded La Prensa, the leading Panamanian newspaper, for which he still writes a column. Eisenmann began attacking Martinelli over the Italian contracts soon after they were signed in 2010, saying the government had failed to provide enough details about the purchase and criticizing the price as too high. In January 2012 the columnist was hit with a bill of nearly $3 million for back taxes after an audit by Panama’s tax authority; Eisenmann contends the assessment, which he is protesting, was retribution for his columns and for La Prensa’s coverage of corruption allegations against the government. The president “keeps getting more autocratic,” Eisenmann contends. “He has started using the internal revenue service to pursue his so-called enemies, myself included.”
But even Eisenmann concedes that Martinelli has strong public support. “According to polls, most Panamanians believe that government projects are overpriced and lack transparency, but they also think that Martinelli is a good president,” says Eisenmann. “The economy is bustling, and there is very little unemployment.”
By law, Martinelli cannot run for a consecutive second term. Ahead of the May election, polls show that the president’s handpicked candidate, former Housing and Land Management minister José Domingo Arias, enjoys a lead of 6 to 14 percentage points over PRD candidate Juan Carlos Navarro and Juan Carlos Varela, standard bearer of the Partido Panameñista, another centrist party. Arias, 50, a former clothing company executive, served as spokesman for Martinelli during the 2009 campaign. As of mid-February, Arias had declined to join the other candidates in televised debates and rarely given interviews. He has vowed to continue Martinelli’s policies and has even adopted his slogan — “even more change, in everything and for everybody” — a play on the party’s name.
The project to expand the Panama Canal was supposed to be the capstone of Martinelli’s presidency. Instead, it has turned into Martinelli’s biggest headache. Originally scheduled for completion in August 2014 to mark the centennial of the canal’s opening, the project is at least a year behind schedule because of a dispute between Panama and the contractors over who will foot the bill for cost overruns. Although the impasse has dominated news from Panama since late last year, officials emphasize that the canal has never stopped functioning and that the country continues to be the fulcrum of trade between the Pacific and the Atlantic.
“Panama has been a logistics center ever since the conquistadores arrived five centuries ago,” says Deputy Minister of Commerce and Industry José Pacheco. Silver and gold from Peruvian mines were shipped to Panama’s Pacific coast, carried by oxcarts and mule trains through the jungles of the isthmus to the Caribbean and placed on ships bound for Spain.
Despite being the focus of global attention, the expansion of the canal isn’t even Panama’s biggest development project. In the rugged, hilly rain forest about 75 miles west of Panama City and 12 miles from the Caribbean coast, a Canadian company is developing a major new copper mine in an undertaking that is more costly and complex than the canal expansion. Cobre Panamá, owned by an up-and-coming Canadian mining company, First Quantum Minerals, controls what is considered to be one of the largest unexploited copper reserves in the world. It is spending $6.4 billion to develop the site, which sprawls over some 35,000 acres (142 square kilometers). The open-pit mine is expected to come onstream at the end of 2017 and produce some 320,000 tons of copper annually, worth $2.34 billion at current prices.
“The project won’t put Panama in the same mining league as Chile or Peru, but it will help further diversify the economy and become another important source of foreign exchange earnings,” says Moody’s analyst Freedman. The world’s largest copper mine, BHP Billiton’s Escondida in Chile, produces four times Cobre Panamá’s projected output. But First Quantum is forecasting low production costs of about $1 per pound of copper, compared with the current market price of about $3.20. “Cobre Panamá will lift First Quantum into a top five copper producer, assuming everything goes right with the company’s other projects,” predicts Patrick Jones, a London-based mining analyst at Nomura International. The current leaders in copper mining are Chile’s state-owned Corporación Nacional del Cobre (Codelco), U.S.-based Freeport-McMoRan Copper & Gold, Australia’s BHP Billiton and Grupo México.
Incorporated in 1983, First Quantum operates seven mines and is developing five others around the world, mainly exploiting copper but also nickel, gold, platinum and zinc. It moved into Panama with a $4.8 billion hostile takeover in March 2013 of Inmet Mining Corp., a Canadian rival that owned the Cobre Panamá deposit.
Martinelli has enthusiastically supported First Quantum’s venture. Panama’s fiscal regime compares favorably to those of other copper mining countries: Annual taxes and royalties in Panama average about 25 percent over the life of a mine, compared with 40 percent in Zambia, where First Quantum is developing two copper deposits.
Martinelli has attempted to steamroll resistance to mining and hydroelectric projects by environmentalists and indigenous groups. In the most violent episode, in February 2012, three members of the Ngäbe-Buglé indigenous community died after clashes with police. The demonstrators had blocked the Pan-American Highway to protest government plans to develop a state-owned copper deposit and a dam site on Ngäbe-Buglé territory.
Although Martinelli conceded defeat and declared that no mining would be allowed in that specific area, government officials insist they will encourage development elsewhere. “There is a lot of interest by companies besides First Quantum,” says Deputy Commerce and Industry Minister Pacheco.
The deputy minister then repeats what has become almost a national slogan. “Remember, we aren’t just a canal,” he says. “It is only one of our engines of economic growth.” Banking, tourism, regional headquarters for multinationals and mining have propelled Panama to growth and income levels unimaginable even a decade ago.
Once the controversy surrounding the canal expansion ends and the project is finally completed, perhaps the rest of the world will take notice of the country’s other transformations. • •
