The call for regulatory reform is a familiar refrain that has plagued Filipino administrations since 1986. As Benigno Aquino cruised to an emphatic victory in the Philippines presidential race in May last year, the euphoria felt was reflected in stock market gains of 3.85 percent that day – in conjunction with a more than one percent boost to the peso. Although the new government has set about tackling issues that have choked foreign investment in the prior years, hope that decisive action will transpire has somewhat waned over the past year. Legal practitioners are now throwing their hands up in frustration – some have ventured as far as to say that the current administration has almost reached a stage of paralysis.
“There has been a lot of talk of the government being paralysed with fear,” Caguiao & Gatmaytan partner Jaime Renato B. Gatmaytan said. “The government is taking its time to implement because they are afraid of flak from the sector. Due to a perceived notion that they will be criticized for what they do, they are being extra careful – to the point that nothing is being done about it at all.”
The paralysis demonstrated by the government has farther-reaching sources than mere inaction. A number of major projects previously awarded by previous governments have been halted indefinitely, while the government reforms its infrastructure framework and re-award contracts to bidders of its own choice. Advisers say this has a hazardous impact on business confidence and investor sentiment going forward. “There were a number of major projects that were awarded and already online that were stopped,” Puno & Puno senior partner Roderico V. Puno said. “And there have been quite a few major projects that have been left in limbo. [Investors] don’t know if they will be re-introduced or re-invented under the PPP (public-private-partnership) framework.”
In addition to the non-action, rumblings within the newly inducted Aquino cabinet have caused additional delays. A string of recent resignations in June 2011 – first by Transportation and Communication Secretary Jose de Jesus’, followed by the resignation of three undersecretaries – indicate a loss of morale within the department that handles infrastructure. Proposals for PPP projects assigned to the Department of Transportation and Communication have risked being lost in the re-shuffle. “When there’s a mass resignation of the higher echelon, it’s a big blow,” Sen. Joker Arroyo said in a Reuters interview.
Picazo Buyco Tan Fider partner Alicia G. Picazo-San Juan has expressed a view echoed by legal and accounting firms across Manila, noting that the policies of the newly installed tax regulators – the Bureau of Internal Revenue (BIR) – has been somewhat counter-productive in promoting a conducive investment climate. “The BIR has taken a very stubborn view on certain transactions in the Philippines. A lot of transactions that rely on certain tax exemptions are unable to move or progress because of this stance.” According to Picazo-San Juan, this has hindered and limited development; as well as the scope and volume of transactions that could be performed. “It is also part of the reason why we have not effectively implemented the REIT law, which depends on certain tax exemptions allowing companies to exchange real properties for shares in landholding vehicles in a tax-exempt manner.”
The general sense of disappointment is in sharp contrast to the optimism displayed a year ago, as lawyers interviewed by ALB welcomed the passage of the REIT law. Expectations of an impending launch of a brand new market for REIT transactions created quite a buzz in 2010. Intended to strengthen corporate governance through new requirements targeted at independent directors (at both the fund manager and the property manager level), the country’s SEC will oversee not only REIT managers but also the managers of the property underlying the REITs. The friction costs of launching a REIT – ostensibly taxation related issues have seen little progress since its inauguration 12 months ago. Agustin Montilla, partner at Romulo Mabanta Buenaventura Sayoc & de los Angeles, noted that although clients expressed interest a year ago, the first significant REIT transaction is a long way away, attributing to a lack of real support from the Philippines tax authorities as its main obstacle. “The REITs that came out this year have been subject to much criticism. It’s now in a stage of open consultation,” Cagioa &
Gatmaytan partner Ben Dominic R. Yap said.
Other lawyers concur. “Since our commissioner has taken the position that the BIR will no longer be giving these tax exemptions, it has really put a stop to transactions such as those,” Picazo-San Juan said.
Foreign direct investment
Positioned between Southeast and North Asia, the untapped abundance of mineral wealth spread across its 7,100 islands has blessed the Philippines with untold promise for commerce and enterprise.
But the bitter experience of endemic corruption, legal inconsistency and stifling bureaucracy over the years have made foreign business wary and seen the country falling behind its neighbours. “It’s about red tape, and about the weakness of institutions, infrastructure, and about electricity and traffic jams,” Toshinao Urabe, Japan’s ambassador to the Philippines said.
According to data released by the Association of South East Asian Nations (ASEAN), the Philippines attracted just $1.7 billion, or 2.3 percent of the $75.6 billion of foreign direct investment that flowed into the 10 members of ASEAN in 2010, trailing behind Singapore, Indonesia, Malaysia, Vietnam and Thailand.
“In the past 12 months, relative to the previous year, there has not been a lot of major projects – at least not like it was a couple of years ago, “ Picazo San- Juan said. “We did see some investment inflows last year which has slowed down. The appetite for capital market offers abroad have somewhat been dampened. We have in fact seen very few offerings made abroad.”
“We are seeing now, growth based on funding secured from more private sources such as banking loans and small syndicates; but not in the same way that it was being financed by foreign investments witnessed in 2008 and the first part of 2009. We haven’t had too many initial public offerings nor have we had too many follow-on offerings. Most of what we’ve seen (in equity markets) was preferred share offerings or bond offerings – usually offered just locally or through financial institutions or through the private equity route, which then disqualifies them as public offerings,” San Juan said.
Del Rosario partner Joseph Manolo R. Rebano has also witnessed similar trends.“Investments in the Philippines have shifted from IPO, stocks and bonds into more stable investments such as in land and businesses,” Rebano said.
Trade liberalization
Recent steps taken towards trade liberalisation have had significant impact on legal practitioners in the Philippines. “Currently, the Philippines legal sector is still highly regulated by the Philippines Supreme Court, even though we are party to the WTO and the other trade conventions. The service sector on the legal side is still very much controlled and limited to Filipinos,” Rebano said.
“In every administration since 1986, the government has talked about the relaxation of restrictions on foreign investment,” Puno & Puno co-founding partner Regis Puno said. According to him, changing the constitution is a big undertaking that is not for the weak-willed or faint hearted. “There have been many proposals. The legislation that involves public utilities, the exploitation of natural resources, land ownership – these are in the constitution and have to be charter changed. To improve the investment
climate, there needs to be reduced restrictions and we have not seen a strong enough effort for things to move forward,” he said. “If things do not change and nobody picks up the ball, until the next administration, things will be the same – which will be a sad state of affairs,” Puno said.
A number of respondents believe that the legislature is feeling the pressure. The urgent need for constitutional change has been highlighted by all respondents interviewed by ALB. The limits of 60-40 foreign ownership restrictions have stringently hampered deal flow in growth sectors such as telecommunications, media, real estate and utilities. “It’s a stringent limitation on foreign ownership. Even in public utilities, there is a limitation on return,” Roderico Puno said.
On Aug. 31, President Aquino took a 270-strong business delegation – the largest contingent of all his foreign visits – to China in a bid to boost bilateral trade and investments. President Aquino called for China to invest in the Philippines resulting in a five-year economic development plan seeking to boost two-way trade six-fold, to about $60 billion. “An interesting point that our president raised with the Chinese government during his visit to China was an observation that there were more Filipino investments going into China than were Chinese investments into the Philippines,” Raoul R. Angangco, senior partner at CVC Law said. “There is intention now to invite more Chinese investments into the Philippines.”
China, the third-biggest trade partner to the Philippines, had two-way trade of $27.7 billion in 2010 – an increase of 35.1 percent from 2009.
According to a Reuters report, The Philippines’ oil and gas resources pose great attraction to resource-hungry China. “We recently did a deal with China that spurred good prospects for a lot more investments between the Philippines and China spelling a string of infrastructure follow-on work that bodes well for greater development in the long-term,” CVC senior partner Joe Nathan Tenefrancia said.
Manila said in early August that Chinese firms, including China’s top offshore oil producer, CNOOC, were interested in investing in 15 oil and gas exploration contracts worth at least $7.5 billion.
Statements from the Aquino government indicated that Chinese investments will be funneled into manufacturing, railways, shipyards, mining and tourism. “We do rely more on inbound work – we are primarily an investee country. We need more investments to come in for development – especially outside the cities,” Tenefrancia said.
Shipping specialist Del Rosario’s Rebano said because arbitration in the Philippines is in its infancy, arbitration work is typically farmed out to regional arbitration destinations. “We’ve been giving some work abroad – especially to Hong Kong and Singapore because we have been trying to promote arbitration on the shipping side,” Rebano said.
CVC senior partner Simeon V. Marcelo noted that manufacturing is always the first sector to be hit whenever trade liberalization reforms grip a country. “That is why the Philippines is concentrating much more on services and infrastructure, and not as much on manufacturing because we know the constraints,” Marcelo said.
On trade liberalisation, Rebano believes that the Philippines has not been able to compete with other countries in terms of investments placed. “From our experience, there has been an outflow of investments to either China or to other Southeast Asian countries. I’m aware that the government is trying to promote tax incentives and have tried to get foreign investors back to the Philippines but I don’t think any significant changes have occurred in the past six month,” Rebano said.
From sunrise to sunset industries
The relatively new and growing Business Process Outsourcing (BPO) industry in the Philippines is rivaling India as the next destination for similar services. With a strong focus on shifting the economy away from manufacturing and towards services based sectors, the BPO counts as one of the most exciting ‘sunrise industries’ that is exploding out of the Philippines.
A lot of customer service departments of companies in the U.S. are being outsourced into the Philippines and India. It is also known as KPOs – knowledge process outsourcing. Specialised debt collection and legal outsourcing are some KPO/BPOs that are growing in the Philippines,” Siguion Reyna, Montecillo & Ongsiako partner Rommel U. Mercado said.
But as far as the industry has progressed, there is still more growth to come and Aaron Goach, director and senior vice-president of business development for LPO Manila, said that this will be driven by an expansion in both types of work the sector handles and the types of clients it works for. “[To now, LPOs have handled] junior associate, paralegal and administrativelevel tasks, but as the industry develops we see an evolution ‘up’ the learning curve,” he said.
The type of work that Goach’s own LPO Manila handles is a case in point. In addition to business such as corporate records (filings, minutes), knowledge services (research, editing, legal transactions) the company also handles commercial negotiation and commercial documentation. The company was also one of the first Asiabased LPOs to penetrate the in-house legal market; an approach Goach believes others will try to emulate in the years ahead. “We see this as a natural progression, reflected in our own
business model,” he said.
While India has established itself as the hub of the global LPO industry, Goach believes the Philippines is fast catching up. “The Philippines legal system’s unique blend of common law, civil law and Islamic law and jurisprudence concepts means that the Philippines lawyer is especially adaptable to the diverse scenarios presented by the various international ‘export markets’ for LPO services,” he said.
Investment laws in the Philippines have also been kind to the BPO industry. Where other sectors face foreign-ownership or nationalization restrictions, the BPO industry has been given free rein to flourish and grow.
“Investments in BPO services have grown dramatically – financial services and a lot of U.S., European and Australian companies have set up BPO operations here. Several foreign banks – like JP Morgan, Deutsche Bank and HSBC – have also set up their BPO centres here which services their branches worldwide,” CVC’s Angangco said.
According to a 2010 PriceWaterhouseCooper legal survey, a quarter of the top UK law firms have turned to LPO solutions.
An example of how business process outsourcing for the legal industry has grown in popularity is demonstrated by the ‘off-shoring facility’ in Manila set up by Baker & McKenzie in 2000. One of the world’s largest firms, Baker & McKenzie developed a hybrid approach between outsourcing and shared services by hiring a handful of employees in the Philippines to handle typing and editing of dictated copy. This operation – known to the firm as ‘Global Service Manila’ – grew dramatically over the last decade to 460 GSM employees.
Each year, thousands of client trademark and copyright searches are handled by paralegals in Manila with the firm looking to increase the movement of even greater types of legal work within the firm to offices in lower cost jurisdictions.
Senior legal counsel and director of government relations of EBay Asia, Steven Liew, agreed that there was a rising tide of in-house teams using off-shore centres. “Increasingly, legal work will be off-shored, not so much due to cost savings but more for a need for specialization and creation of centres of excellence. We started looking at it two years ago. It’s one of those things where we took two years to come to where we are now. It was only in Q3 of last year that we officially launched our offshoring program,” Liew said.
In addition to legal processing work, BPOs in Manila provide other services such as telesales and customer service, IT support and software development, data processing and human resource management amongst other things. “The Philippine market is newer and therefore smaller (than India) – but probably not for long. The Philippines now ranks first in the English-language call centre industry, and we intend to make it first in the LPO too,” Goach said.
Greenfield power projects
Projections of a dire energy shortage within the next four years have resulted in a concerted push for green field projects to get off the ground. The impasse concerning awarded projects has tied the hands of those involved in the privatisation of the Philippines’ 22 existing power plants. The Puno & Puno brothers, who have been involved in 14 out of the 22 plant sales, still have four remaining plants in the pipeline that got stuck when the new government came into power. “Now that the government’s privatisation plans have been stopped, the focus now is on green field plants – the new construction of power plants,” Puno said. Areas such as Lajon and Mindanao where shortages are anticipated or existing have seen new plants popping up. In Lajon alone, two major plants are being built – one of which is a 600 megawatt coal plant by GNPower.
PJS Law partner, Gwen Grecia-de Vera, sees further opportunities for inbound work in the energy sector. The firm is currently working on three projects, including the privatisation and administration for a power generation company.
One of the biggest outbound M&A deals of the year in the mining sector by a Philippine company was the 17.9 percent stake acquisition of Atlas Consolidated Mining Corp – one of the top 20 copper mining companies in the world – a deal that the Puno brothers also advised on. SM Investments Corp, owned by Philippines’ richest man Henry Sy, signals the entry of a Filipino-owned entity into the mining sector. Atlas’ Carmen Copper unit operates the 1,674-hectare Toledo mine complex in central Cebu province. The site is estimated to contain about 1.5 billion tonnes of ore, or about 5 million tonnes of copper. “Currently, the seed group of SM is the largest conglomerate bar none and this was their first acquisition of a mining interest. It was big news,” Puno said.
Carmen Copper plans to spend $200 million to more than double annual capacity to 100,000 tonnes of copper metal in concentrate in two to three years from the current 42,000 tonnes.
“Mining, because of the downturn in global currencies – for gold in particular – appears to be a really lucrative venture because the value of gold is going up,” Picazo-San Juan said. “The mining exploration companies are benefiting from this flight to a safety commodity (gold).”
According to Picazo-San Juan, the most popular deal structure involves joint ventures with local land-owners for mining operations, with the foreign partner undertaking mining operations, bringing in funding, equipment and mining technology. The local partner will typically own the land/property where the mining will be conducted. Less common deal structures are non-incorporated joint ventures where profit-sharing takes place at a later stage in the process. Both foreign and local entity will contribute capital to a new entity which will own and conduct mining operations. The sharing of equity must also comply with the nationality restriction. “In the Philippines, for the purposes of exploration of natural resources, the company that will undertake this must be at least 60 percent Philippineowned. Where we use structuring is where operations themselves could be extremely capital intensive – sometimes more so than the actual cost of the land. So they have to reconcile the equity ownership of the foreign component which can only be limited to 40 percent,” Picazo-San Juan said.
Exploiting renewable
The latest Philippines Petrochemicals Report Q4 2011 details expectation for a weakening external environment for output in H2, 2011, which will undermine the contribution of a strong first half to annual growth.
“Outside of Manila, there are still power shortages, which gives rise to why most investments are going towards the power sector – because of the perceived increased demand later on,” Del Rosario’s Rebano said. “Therefore, there are investments in hydro-power, geo-thermal, wind, biofuel and biomass.”
The push for renewable energy is a noteworthy trend. “The Philippines is well-endowed with natural resources,” CVC’s Joe Nathan Tenefrancia said. “There is a lot of interest in power because our capacity is not moving fast enough compared to development. There is a need now to put up new power projects, including renewable or risk a shortage in power.”
Last year, a number of renewable energy legislations were passed and have started to come into effect this year. “To counter the forecasted energy supply deficiency, people are coming in to build,” Siguion Reyna, Montecillo & Ongsiako partner Edgardo G. Balois said. “Gas plants and dams, even minihydro plants have been privatized for additional power for a mix of local power sources as well as power for the national grid,” he said.
According to PJS Law partner Joshua Gilbert F. Paraiso, wind companies have existed in the Philippines for a few years now, but a trend of similar wind and solar project coming up. “Solar is a high potential area – there is already one established solar company but the demand far exceeds what these companies can cope with. The country needs far more than we are currently able to produce,” Paraiso said. “There has been renewable generation plants such as bio-mass and bio-fuel plants going up – producing between 100 – 300 megawatts; but the required output to cover the demand is much more than that. Therefore, we see the need for other green field opportunities,” PJS Law partner Gwen Garcia-de Vera said.
Although renewable energy has experienced resurgent interest as a result of governmental efforts to entice with incentives for development, the challenge it seems, are the new laws that seem to constantly undergo amendments. “The market is not developed, the rules are somewhat fluid and there are a lot of gaps to be filled,” an attorney who declined to be named said.
Hiring and firing
“Hiring in the Philippines legal sector is experiencing growth because there are many spin-offs and breakaways of many firms – a trend that began two to three years ago. New firms have been established and that would also explain why the bigger firms don’t grow that much – because of the competition from new firms,” Siguion Reyna’s Balois said.
The changing landscape of the Philippines legal sector also includes a dearth of U.S. firms on international Filipino deals. Philippine deals are now largely picked up by UK firms in a trend that has developed over the past few years. “There is still U.S. presence – for example there is still Sidley Austin – once in awhile Paul Hastings, Weil Gotshal Manges and Herbert Smith. But from the UK, Linklaters is very active and Allen & Overy is also very active here,” Romulo partner Agustin R. Montilla IV said.
“The Philippines in the early IPO years (early 1990s) was pretty much a U.S. market. Notably the U.S. law firms practicing with Philippine clients were Cravath and Milbank out of Hong Kong. Cravath closed their Hong Kong office but the Cravath partner in Hong Kong, Clay Johnson, stayed on and is now with Cleary,” he said.
In a country with a population of over 101 million people (demographics population as of July 2011 – 101, 833,938 in total), the Philippines has only about 40,000 practising lawyers. This number will not be expected to drastically improve with only 10 to 20 percent of 6,000 law graduates passing the Philippines Bar each year.
Legislative developments
“There are anti-trust and competition laws that are in the senate and congress pending enactment that could affect many of our industries – such as the telecommunications industry,” Romulo partner Cristina Collantes-Garcia said. “There is a recent ruling by the Philippines Supreme Court on Gamboa (see attached excerpt) that is a control issue of what a Philippines corporation is – and that which has re-defined our anti-dummy laws. Because we have some industries that are restricted to Filipinos only, deals are usually structured in such a way. The Gamboa case came with a ruling that for so long as control resides with the Filipinos, even if economic rights and foreign participation is higher, there is no violation of our nationalisation laws,” Collantes-Garcia said.
Some other developments include a pending bill that is currently debated in congress to amend the rights provision for the intellectual office to have jurisdiction over copyright. But practitioners can sidestep this development, by filing under the principle of automatic protection.
IP practitioners in Manila are nervously awaiting the decision by the Philippines authorities of whether it would be a signatory of the Madrid Protocol. “The director general of the IP office has submitted it to the senate but the senate has not acted on it,” CVC’s senior partner Susan D. Villanueva said.
The Madrid Protocol makes it easier to trademark and register in different countries. Legal services in trademark registrations are rendered redundant in the process, unless litigation is involved.
Trademark-centric firms will struggle if the Madrid Protocol was to be inked by the Philippines authorities. “It’s not very good for practitioners who are purely into trademark and have not diversified into backend litigation work,” Villanueva said.
Many practitioners are eager to see how a new framework on PPP laws will pan out. Current legislation has been described as a ‘very mature law’ – anecdotally quipped to be the first in Asia – a build up and transfer scheme framework. The government is currently in the process of amending the law, to aid the success of PPP projects and invite the interest of not only foreign but also local investors. “There are a number of areas of legislation that need to improve, but since it takes a while for these measures to get past our congress, amendments are being proposed to the rules and regulations committee,” PJS Law’s Grecia-de Vera said.
Many hope that the approved changes will improve the regulatory framework for infrastructure in the Philippines and extend greater support for investors in the form of protection against regulatory risk.
Inaction and a struggle to contain graft and a yawning budget deficit pose further roadblocks to solving a complex economy. But despite all these many practitioners believe that there is cause to stay optimistic.
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