Increase in international penetration for industry in Mexico

With 11 international treaties with 46 countries, Mexico boasts commercial agreements with nearly every region in the world, making it one of the most globalised economies. This global connectedness has helped Mexican industry evolve immensely. Prior to the 1990s, the Mexican economy enjoyed relatively low dependence on non-oil exports to the US and the rest of the world. This changed significantly in 1994 with the signing of the North American Free Trade Agreement ( NAFTA), which has led to greater economic interdependence between Mexico and the US. Exports jumped from $60bn in 1994 to almost $400bn in 2013, with most of the growth coming from industries such as car manufacturing, electronics and machinery, segments where labour and production costs have proven to be far lower in Mexico than in the US.

Additionally, a better educated workforce is helping to shape more sophisticated, specialised production. Eduardo Posada, CEO of Grupo Gondi, a paper and packaging company, said Mexico must continue improving the quality of the education system to boost industrial competitiveness and foster economic growth. “To add value to industrial processes, there is an important need for a qualified and specialised labour force, which can only be achieved through the strengthening of the education system and fostering ties between the academic and private sectors,” he told OBG.

While there have been fluctuations in recent years, growth has generally remained stable. After a period of steady expansion, at around 3% annually from 2010 to mid-2012, industrial activity saw a slowdown from July 2012 until mid-2013. By May 2013, a slow but steady recovery had started. This continued until December 2014, with growth figures averaging 1.9% for the year. Meanwhile, the first half of 2015 has seen stagnation in industry movement. March 2015 saw a year-on-year increase in manufacturing and construction activity, with growth of 2.4% and 4.7%, respectively, while mining saw a 5.2% drop. This decrease was not new to the industry, which has seen declines since late 2013. On the other hand the construction sector has been able to recover from a steep fall since mid-2012, reactivating from late 2014. Manufacturing, which has grown consistently for over five years, has been a particular boon to the Mexican industrial sector.

Competitive Streak

By 2000, however, new competitors were gaining prominence by offering lower labour costs, and thus lower production costs. In 2000 labour costs in Mexico were 58% higher than those in China, according to a 2014 report by JP Morgan Chase. Low costs, combined with incentives such as special economic zones, encouraged multinational corporations to shift production and global manufacturing towards the East. By the end of the decade, however, the trend had reversed, with the average wages in China surpassing those in Mexico.

In addition, lower transportation costs and access to cheaper energy, such as natural gas, in Mexico have also positioned the country as a more economically viable investment destination. JP Morgan predicts that by the end of 2015, productivity-adjusted costs in China will be 29% higher. Moreover, intellectual property protection is better acknowledged in Mexico, with the Global Intellectual Property Centre, a part of the US Chamber of Commerce, ranking the country at 14.55/30, against China’s 12.40/30, in overall IP protection.

Mexico is now in the process of negotiating a possible agreement with China. In November 2014 Mexico’s president, Enrique Peña Nieto, met with his Chinese counterpart, Xi Jinping, to sign 14 bilateral agreements worth over $7.4bn. The agreements included the creation of a bi-national investment fund for $2.4bn to support projects in energy, infrastructure, manufacturing, tourism and other areas.

Manufacturing

The Mexican manufacturing sector has been growing strongly since the early years of the maquiladora concept, a cross-border manufacturing government programme that included tax benefits such as the waiving of import tax for temporarily imported products. This programme, which originally targeted low-tech and labour-intensive activities, suffered significantly during the 1990s and the beginning of the 2000s, when low labour costs in Asian countries began attracting foreign direct investment. Nonetheless, the past decade has seen a balance shift. Rising wages in China, combined with an increase in efficiency and automation in the North American market, have led China to lose its competitive edge as a low-cost manufacturing destination. Mexico, on the other hand, has had the capability to adjust to evolving market conditions by adopting high-tech manufacturing such as automobile, electronics or aerospace as part of its economy. In late 2014, the Boston Consulting Group (BCG) issued a report showing that Mexico has been able to maintain its competitiveness, even after a 67% wage rise in the past decade. A combination of factors has helped the country, including the depreciation of the peso; the drop in energy prices derived from US shale gas exports, which has reduced natural gas costs by 37% from 2004 to 2014; and, most importantly, a rise in overall productivity.

As BCG reports, Mexico’s manufacturing costs were 4% lower than China’s in 2014 and have dropped more than 9% in the past decade. Currently, the most important components of Mexican manufacturing costs are labour (9.7%) electricity (2.1%) and natural gas (1.7%). The government and the entire manufacturing sector are expecting a further boost in competitiveness following Mexico’s energy reform (see Energy chapter).

By The Numbers

During 2014 the manufacturing sector saw its GDP increase by 4.22%, as reported by the National Council of the Maquiladora Industry ( Consejo Nacional de la Industria Maquiladora y Manufacturera de Exportación, INDEX). The council reports that the best performing subsectors within manufacturing were clothing, paper, transport equipment, and machinery and equipment. The underperforming sectors were leather production, textile manufacturing (except clothing) and the electronics sector. As a secondary indicator, the Global Indicator of Economic Activity (IGAE) has been used by the National Statistics and Geography Institute (Instituto Nacional de Estadística y Geografía, INEGI) to measure economic activity in the short term. The calculation follows the GDP methodology, using 2008 as a 100-point base. According to the IGAE, the manufacturing industry grew 5.31% in 2014, outperforming the country’s overall GDP growth of 2.1% and secondary activities’ growth of 2.39%, an indicator that includes the mining, construction, electricity, water and gas, and manufacturing industries.

Profit in the manufacturing sector is largely based on exports. In 2014 metal product exports recorded year-on-year (y-o-y) growth of 15.84%, while machinery and equipment registered the highest growth, at 17.6%, followed by electronics, at 14.48%. A study by the Research Centre for Development (Centro de Investigación para el Desarrollo AC, CIDAC) explains that due to the country’s focus and specialisation on export manufacturing, forecasts point toward further investments in Mexican industry. Sectors such as home appliances, furniture, computers, electronics, metal-mechanic and plastics were characterised as the most probable candidates to receive this additional investment.

Immex Initiative

A key part of the manufacturing sector has been the Manufacturing, Maquiladora and Export Services programme (IMMEX). This initiative is a government tax benefit programme dating from 2006, which allows the temporary importation of goods for adding value and further re-export, without having to pay general import tax, value-added tax or other duties. Affiliated industries reported a profit of MXN288.8trn ($19.4trn) since its creation, and exports from the programme reached record growth of 15.8% in 2014.

Transport Manufacturing

Mexico has over two decades of strong transport manufacturing industry growth. The auto manufacturing sectors has seen important developments, such as the opening in February 2014 of new plants for Japanese manufacturers Honda and Mazda in Celaya and Salamanca, respectively. Another major player was Kia, which announced a $1bn investment for a manufacturing plant in Nuevo León. On the auto parts side, Ford announced a $2.5bn investment to expand its Chihuahua engine plant and support the construction of a transmissions plant in Guanajuato. “Supply chain integration has been a key factor for investments, not only for Ford but for the rest of the original equipment manufacturers,” Gabriel López, president and CEO of Ford Mexico, told OBG. He added that Ford’s recent investments in the country will open possibilities for local suppliers to start manufacturing components that were formerly imported.

Cars are not the only vehicles being manufactured in the country, however. The heavy vehicle industry, although not as large, is also an important part of the landscape. Mexico is the world’s third-largest heavy vehicle manufacturer, behind the US and Brazil, and is second only to Germany for semi-trucks manufacturing, producing more than 80,000 units each year. The Mexican heavy vehicle industry manufactures a total of over 120,000 units a year, which are exported mostly to the US, Chile, Peru and Central America.

In addition to the ground transportation vehicle industry, Mexico has had considerable success in aerospace manufacturing. The cluster has seen large growth, with production value growing more than 40% in the past four years, reaching a total of more than $4bn in exported aerospace components. Based around large regional clusters in states such as Baja California, Queré- taro and Nuevo León, the industry could have a value of $12bn by the end of the decade, according to Proaereo, the Ministry of Economy’s strategic plan for the aerospace industry (see analysis).

Electronics

With exports of $80bn in 2014, according to an analysis by Stratfor, the electronics and parts industry has been growing continuously, expanding 33% since 2009. Mexico is now the second-largest electronics supplier to the US market and has been ranked as the world’s sixth-largest electronics producer, with exports to the US amounting to about a third of the market in 2014. Although 2014 saw an overall contraction in the electronic manufacturing market, exports rose more than 14% in the same year, indicating a probable fall in local consumption.

Cisco, which has a large electronics production facility in the country, announced that it will double its yearly investment in Mexico from $1bn to $2bn. Horacio Werner, the business development director for Latin America and Europe at the company’s Internet of Things (IoT) division, said in a press conference that Cisco is working with the government to create smart manufacturing communities.

“We will be working with the government to increase our own manufacturing and simultaneously contributing to make the manufacturing conditions in Mexico more attractive, so the country can capture that manufacturing activity emigrating from Asia,” he said.

Steel

Representing 2.2% of the country’s GDP, and 6.4% of its industrial GDP, according to INEGI, metallurgy is a major sector in Mexico, amounting to MXN346bn ($23.3bn) in 2014. Mexico is the 13th-largest steel producing country in the world, at 18m tonnes per year – analogous to slightly more than 1% of global production. The industry has seen over $11.5bn in investment – mainly in equipment and technology – since 2010 and is expecting an additional $3bn by 2016.

Today the steel industry’s main market opportunity relies on the growth of the automotive industry – a tendency that can be seen in other sectors such as plastics. Indeed, the national steel market grew 12.2% in 2014, and the country’s recycled content in steel is 34%. Nonetheless, most of the growth was captured by imports primarily from Japan, China and South Korea. By volume, steel demand in Mexico grew from 23.7m tonnes in 2013 to 26.6m in 2014, while exports fell 3.6% in the same period, to 5.79m tonnes. The global steel industry has faced significant challenges in recent years, and the scene in Mexico has been no exception. The deceleration in China’s growth has seen Chinese steel manufacturers export large quantities of steel that were formerly earmarked for domestic consumption. According to a report by MEPS, a consulting company, China’s steel exports rose an estimated 50% in 2014, averaging 90m tonnes. These exports come at considerably lower prices than most local producers can handle, due to labour costs and subsidies for the Chinese steel industry. This wave of Chinese exports has caused the markets in many countries, including Mexico, to suffer. Alonso Ancira Elizondo, president of the National Iron and Steel Industry Chamber, told newspaper El Financiero that the country has reacted with more than 24 anti-dumping policies. In spite of these efforts, Chinese imports grew 179% in the first quarter of 2015, accounting for nearly 50% of steel used in Mexico. Dumping and slow growth in construction will continue to be challenging for the Mexican steel industry. However, energy reform promises to lower energy costs to all industrial consumers by way of lower electricity and natural gas costs, resulting in savings for energy-intensive metal industries.

Construction Materials

Rebounding in mid-2014 after several months of decline, the construction industry grew by 5.8% that year. Most of the growth came from a recovering housing market, which suffered greatly in 2013 due to liquidity issues and changes to the regulatory framework. This sector’s growth brought dynamism to the local cement and construction materials market. Construction has historically seen high revenues as material prices in the country are considerably higher than the rest of the region. Mexican cement prices are calculated at around $110 per tonne – considerably higher than Guatemala, where prices average $77 per tonne, or Brazil, where it is priced at an average of $74 per tonne. The country consumes over 36m tonnes of cement per year, from which the Mexican manufacturer CEMEX holds an estimated 50% of the market, with Holcim and Cruz Azul accounting for another 20% combined. There are 32 local production facilities, with an estimated combined capacity of over 60m tonnes. As opposed to many other countries, Mexico’s cement retail market represents a large share of total sales. In markets like the US, less than 25% of cement sales come from retail, while in Mexico, over 60% of the cement production is sold at hardware stores and home improvement locations. The large distribution network needed to facilitate such sales is part of the reason for the higher prices in the country. Another reason may be alleged oligopolistic practices, as shown by different investigations by the Federal Competition Commission. The industry, which has historically been controlled by a small set of companies, recently saw the entrance of a new player. Elementia SAB, a construction material company backed by two of Mexico’s wealthiest individuals (Carlos Slim and Antonio del Valle), recently acquired Cementos Fortaleza, paying $225m to Lafarge for 47% of the stock.

The construction industry is most likely headed for a boost. This is related to the fact that the projected growth in population in Mexico, especially in the 25-50-year-old segment, points toward a possible increase in the housing deficit in the coming decade.

Mining

Mexico possesses vast mineral reserves. The Mexican Mining Chamber estimates the country is a top-10 producer of 16 different minerals. The sector contributed 5% to GDP in 2013, according to INEGI, with production declining over 58% by value from its 2012 peak. One of the challenges has been the falling prices of precious metals for the past two years. Additionally, tax reform included a new 7.5% tariff for mining, with an additional 0.5% for precious metals, contributing to a further industry slowdown. However, large individual projects are under way, such as Chesapeake Gold Corp’s Metates project (see analysis).

Chemicals

At 1.4% of GDP, according to INEGI, the chemical industry is an important component of the economy; however, Mexico has a high deficit regarding its chemical supply. The 2014 commercial balance shows a $21bn deficit for 2014, a 9.6% increase from 2013. This balance comes mainly from the $32.7bn in imports – a figure 288% higher than the $11.3bn in exports. Mexican imports rose by 4.6% in 2014, coming mainly from the US (70%) and Asia (13%). Comparatively, exports fell 3.9% during the same period. Export destinations include the US at 46%, Latin America at 27.5%, and the EU at 13.7%. Even so, 2014 was a good year for chemical production in Mexico. By volume, chemical production grew by 1.8% while internal sales saw a 5.7% increase. However, utilisation of the total installed chemical production capacity has been below 80% for the past five years, with 2013 numbers showing 77.5%. By value, national production for 2013 shows a 5.3% y-o-y increase, while import, export and national consumption saw growth of 4%, 7%, and 3.6%, respectively. The industry centres around the coastal states of Veracruz and Tamaulipas (35%), mainly due to large petrochemical complexes, as well as the State of Mexico and Mexico City (35%). Petrochemicals is the largest sub-sector by volume, representing 49% of production with 699,000 tonnes produced. Industrial gases comes in second, at 345,000 tonnes (24% of total production), followed by resins and fertilisers, with 139,000 (9%) and 127,000 tonnes (8.9%). However, in terms of production by value, resins account for 40% of the market, while petrochemicals came in second, with 25%.

Renewed Growth

After three years of decline, the chemicals industry has seen unprecedented growth in investment since 2011. A record low was hit in 2010, with $572m in investment. After that, 2011 saw growth of 150%, attracting $1.4bn in cash flows, followed by 41.8% growth in 2012 and 128% in 2013, positioning investment at $4.6bn for that year. This is probably due to large projects in the petrochemicals realm such as Brazilian-Mexican petrochemicals manufacturing joint venture Braskem-Idesa’s Etelino XXI. Cleantho Leite Filho, the institutional relationships and business development management at Braskem-Idesa, told OBG that investments in large petrochemicals complexes are made only if there is a sufficient supply of raw material and competitive prices. “Our contract is indexed to the Mont Belvieu ethane indicator,” Leite said. “This gives us the correct marker to be competitive in the region.” Leite said that the latest investment estimates anticipate a total of $5.2bn for the Etileno XXI plant. This project is foreseen to serve as the base of a chemical production chain and will most likely commit additional investments further down the line. The Etileno XXI plant is estimated to produce over 1bn tonnes per year of ethylene and convert this to 1bn tonnes of polyethylene of different varieties, partially covering the estimated annual 1.5bn-tonne deficit in the country. One of the main challenges the industry has faced was the difficulty of procuring raw materials. The state’s control over basic petrochemicals, including ethane, propane, butane, pentanes and others, made it difficult to procure long-term contracts that assured pricing and availability. This made the chemical sector largely depend on Pemex for the most basic processes.

The opening of the basic petrochemical market will likely encourage a series of investments that could provide the necessary raw materials – and, later down the line, the petrochemical processing to get to more sophisticated production. Miguel Benedetto, managing director at the National Chemical Industry Association, announced in 2014 that the Mexican chemical industry is expecting $25bn in investments in the next 10 years, which will help raise the sector’s GDP participation to 3.8% and create over 60,000 new jobs.

Plastics

A high-performing sector, plastics has been a recent success story. INEGI numbers for 2014 show sector growth of 6%, higher than most material production industries such as paper and cardboard, wood products and glass products.

The segment’s GDP was calculated by INEGI at MXN71bn ($4.8bn), representing 0.4% of national GDP. A large part of this growth comes from exports, which saw an 11% increase in the same period, and from retail sales, which increased 4% in 2014.

Eduardo de la Tijera, the managing director at Grupo Texne, a plastics consultancy company, reported during the 2015 plastics industry outlook forum that in 2014 the Mexican plastics sector saw a 7.6% growth in production to 5.5m tonnes and that internal consumption grew 9%. He explained that an estimated growth of 5-7.5% is expected for 2015, while investments in plastics for 2014 were estimated at $1.8bn. “North America has always been a natural export market for Mexico,” Antonio Nacif, the managing director at Grupo Galas-Janel, a Mexican plastic products manufacturer, told OBG. “However, there is now a tendency to diversify to other regions, especially within Latin America, where we expect exports to continue growing. The main driver of this growth will be the Pacific Alliance, which has already been able to decrease trade barriers between member countries.”

Plastics manufacturing, like other sectors, is facing economic challenges related to the fall in oil prices. However, another less expected challenge has to do with sector-to-sector competition for skilled labourers. In Nuevo León, one of the largest states producing plastics, concerns about the workforce ramifications of the new auto investments is on the rise. Juan Gerardo Cantú Pérez, president of the Industrial Plastic Association of Nuevo Leon, told local newspaper El the entry of new car manufacturing investments. Nonetheless, he added that the deficit in skilled workforce derived from the new players is “alarming”.

Not all experts agree on the matter. Hector Balmaceda Pérez, the president of Cajaplax, a plastic containers manufacturer, told OBG, “The automotive industry offers a unique opportunity for the Mexican plastic industry, but since there hasn’t been a quick response to their needs, most automotive companies enter the country with their own providers.” Many opportunities seem to be out there, and experts’ estimations are positive. Nick Vafiadi, the senior director of Global Polyolefins and Plastics said at the First Raw Materials Forum for Plastics, that the Mexican plastics market is looking at an annual growth of 3.8% in the 2015-20 period. A rise in North American production capacity may see the market reach nearly 11m tonnes by 2019, he said.

Pharmaceuticals

Identified as one of the key growth industries in the country, pharmaceuticals plays an important part in Mexican industry. The segment reported estimated sales of MXN204bn ($13.7bn) in 2014, a 5.4% increase from 2013, according to the National Chamber for the Pharmaceutical Industry (CANIFARMA). Sales increases of 4-5% have been constant for the past five years, and CANIFARMA reports more than 86,700 workers were employed in the sector as of 2013, mostly in production. Investment in the sector has shown constant growth since 2011, with total investment for 2014 reported at MXN36bn ($2.4bn).

The pharmaceuticals for human use subsector reported increases in sales, with a compound annual growth rate (CAGR) of 6.5% from 2007 to 2013, while the two fastest-growing sectors in terms of sales revenue were medical devices (137%) and the medicine for veterinary use segments (121%) in the same period.

Research & Development

One of the sector’s most notable achievements has been the rise in the education level of its workforce, with the amount of postgraduate studies workers going from 2.3% in 2007 to 3.5% in 2013. This has helped the country achieve important growth in research and development (R&D). The number of employees working in R&D has doubled from 1.4% to 2.8% between 2007 and 2013. Most of this R&D growth has come from the private sector. Recognising that the participation of the public sector in R&D has been limited in the past – the percentage of GDP invested in R&D has barely grown in the past 12 years – the new government has acknowledged the importance of the previously neglected segment and pledged to invest more in this area.

Most of the national demand for the pharmaceuticals industry comes from the private market at 70.8%, while the institutional market accounts for the remaining 29.2%. As of 2014, the sector did not export a large percentage of its production. Numbers show slightly under 7.4% of the national production by value is exported compared to other sectors like car manufacturing at over 80%. Consequently regulations for the sector are on the rise. A series of new national and international guidelines requiring bio-equivalence studies for all generics labs came into force after 2010, and significant investments needed to be made to meet the new rules – many labs needed to shut down. Nonetheless, regulations have had a positive impact; by 2020 exports to the US may reach more significant numbers.

Some of the most relevant challenges to the industry include imports from labs in Asia and inter-stakeholder cooperation. Traditionally there has been a lack of communication between academic institutions, the pharmaceuticals industry and the government to foster more R&D in the country. However, a clear government policy is helping attract more investment and open communication lines between all actors.

Textile

The last 10 years have seen a number of challenges arise for the textile industry. Between 1993 and 2013, the industry reported losses of MXN10bn ($673m), mainly due to undervalued products coming from Asian countries such as China and Vietnam.

The textile industry has historically been very important for job creation in Mexico. The National Textile Industry Chamber (Cámara Nacional de la Industria Textil, Canaintex) and the Clothing Industry Chamber (Cámara Nacional de la Industria del Vestido, Canainve) estimate that the textile and garment industry generates more than 450,000 direct jobs, representing up to 10% of formal employment in the country, and indirectly employs 1.2m people. In 2014, therefore, the government implemented a new investment initiative, dedicating MXN540m ($36.3m) to the revival of the country’s textile market. The plan includes measures for R&D, preventing illegal imports and eradicating tax evasions, measures that will help rebuild an otherwise declining sector. Growth estimates for 2015 have been set at 10-12%, and the first months of the year have seen double-digit growth. Nonetheless, commercial challenges remain, and the possible entrance of Mexico into the Trans-Pacific Partnership may pose some new barriers, as a possible reduction of tariffs for Asian imports could affect an already challenged sector.

Fast-Moving Consumer Goods

With more than 120m consumers, Mexico has long been an important fast-moving consumer goods (FMCG) market. A study by market research firm Canadean indicates that emerging markets such as Mexico, Thailand and Egypt will be the fastest-growing markets for FMCG. The study estimates up to a $1.66bn increase in emerging economies’ value due to changes in consumer behaviour and industry practices. On the other hand, Nielsen, another market research firm, explained in its fourth-quarter 2014 report that consumer confidence in Latin America has declined. After the start of an economic recovery, consumer confidence gained three points in the third quarter of 2014, but lost the same three points in the next quarter due to high overall inflation rates, mainly for food and beverages, high credit interest rates, and lower-than-expected employment rate forecasts. Still, the country represents the second-largest economy in Latin America. With changes such as the energy reform on the horizon, including expectations for rising income, lower production costs and overall economic recovery, investors’ eyes will likely set on Mexico.

The food and beverage industry accounts for about a quarter of value-added from manufacturing and 4% of GDP. According to a July 2015 PwC report on Mexico’s beverage industry, the beverage market has been fairly strong in recent years, seeing total revenues of $67.8bn in 2013, with a CAGR of 5% between 2009 and 2013. The market is predicted to continue to grow at an average rate of 5.1% until 2018 to $87.1bn.

In 2013 the government introduced a tax on sugary drinks of around 10%, aimed at curbing consumption. According to Ernesto Javier Silva Almaguer, Mexico division director at Coca-Cola FEMSA, the beverage industry is offering a wide portfolio of options to consumers and also fostering healthy lifestyle programmes in order to combat the rise in obesity. “Partnerships between public institutions, private organisations and civil society is key to increase nutritional education and encourage physical activity,” he told OBG.

Outlook

Well established and globalised, the Mexican industrial sector has evolved into a much more specialised and nuanced market. This has allowed the country to remain resilient even while facing increased global economic turmoil and competition from other investment destinations. There is much to be done, but the administration is providing the country with the tools to continue enhancing industrial infrastructure.

The country is set to strengthen its position as a global player in manufacturing clusters, ranging from the well-established automotive industry to the rapidly developing aerospace manufacturing sector. Challenges such as stagnant local consumption remain, but the stronger regulatory control and anti-dumping policies that the government has imposed over imports, both legal and illegal, seem to have been successful in controlling issues such as used car or tire imports. If the country is capable of strengthening the existing supply chains and, more importantly, further integrating R&D into its existing capabilities, growth is bound to continue. If investment in upstream processes can be kept up with current oil prices, long-term growth in the sector seems certain. Particularly if the country’s economic expansion is effectively accelerated by the reforms and the inflow of investment, many industrial sectors will continue with positive growth figures.