Álvaro Rodríguez Arregui
Mexico’s Growth Will Come
From Entrepreneurship and
Small and Medium-Sized Enterprises
For a country to grow, private-sector companies have to grow. Since 1993, revenues
of the companies that comprise Mexico’s Stock Market Index (Índice de Precios y
Cotizaciones of the Bolsa Mexicana de Valores) have experienced a compounded
annual growth rath (CAGR) in dollar terms of 14 percent. Comparatively, the
CAGR over the same period in revenues of the companies that make up the
Bovespa Index (Brazil’s stock exchange index) has been 2 percent.1
Yet over the same time period, Mexico has experienced a mediocre growth in
relationship to peer countries. Mexico’s nominal GDP CAGR since 1993 has been
5 percent, versus 9 percent for Brazil.2 This means Brazil has growth a rate 1.8x
faster than Mexico’s. It’s because of this disparity that a recent survey of the top 92
business leaders in Mexico, done in anticipation of the G20 Summit in Los Cabos,
Mexico, found that “the topic at the top of the minds of most Mexican executives
is economic growth.”3
Why has Brazil’s GDP grown 1.8x faster than Mexico’s if Mexico’s largest com-
panies have grown 7x faster than Brazil’s? The answer is entrepreneurship and the
growth of small and medium enterprises (SMEs).
Large companies in Mexico have in fact shown dynamic growth; however, that
has not translated into a higher GDP because these companies have not increased
the size of the pie; they have, rather, captured a greater piece of the existing pie.
Moreover, the largest companies have achieved their growth primarily through
expansion with foreign market operations, which does not contribute to the
growth of Mexico’s GDP.
Given that the growth of Mexico’s largest enterprises does not raise its GDP, the
country is left with two main options: to create more microenterprises, or to
increase the growth of its SMEs.
Álvaro Rodríguez Arregui is cofounder and managing partner of IGNIA and
Chairman of Compartamos Banco, an impact investing fund for Latin America
focused on commercial enterprises that serve the base of the pyramid. He has also
served as chairman of ACCION International and UNIDOS Lo Lograremos, CFO of
Vitro, CEO of Farmacias Benavides and CFO of Grupo Elektra. He is a member of
the WEF’s Global Agenda Council and was named Young Global Leader by the
World Economic Forum in 2005.
© 2012 Álvaro Rodríguez Arregui
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Álvaro Rodríguez Arregui
Achieving one percentage point growth in the GDP by creating new microen-
terprises would mean adding 273,000 such companies.4 To achieve the same result
through the growth of SMEs, 105 midsize companies would have to grow from
medium to large.5 Therefore, from a public policy perspective, it is most efficient
to focus on SMEs to raise the GDP.
For a country to
grow, private-
sector companies
have to grow.
I am not arguing that Mexico should abandon its programs to facilitate the cre-
ation of microenterprises. However, it is important to recognize that these efforts
will primarily address issues of social inclusion,
which is very necessary but will not result in the
short- or medium-term growth of Mexico’s econo-
my.
During the last 20 years, Mexico’s private sec-
tor, especially large corporations, has insisted that
the way to catalyze Mexico’s growth is through
structural reforms.6 There is no question that such
reforms would result in a higher GDP. However,
the country’s full political energy has been focused
on achieving these structural reforms, and because
of a lack of consensus, policymakers have come out empty handed and politically
exhausted. Furthermore, even if Mexico were to achieve the proposed reforms,
most would benefit older companies and well-established industrial groups, and
few would benefit SMEs. For example, few SMEs would be able to participate in a
revamped energy sector because of the size of the required investment. Another
example is labor reform; most newer SMEs do not have the industrial-based labor
structures that labor reforms are looking to address. Therefore, instead of focusing
on structural reforms, which has proven futile, Mexico should move forward and
focus its energy on changes that are achievable, including initiatives that require
few legal reforms and will spur innovation from the bottom up.
Mexico continues to face important socioeconomic challenges, and solving
these challenges calls for innovative solutions. Large companies and market lead-
ers are generally not innovators, which is another reason why Mexico needs bot-
tom-up innovation from its entrepreneurs and SMEs.
Let me share some ideas for encouraging the development of new entrepre-
neurs and creating more SMEs in Mexico, and for catalyzing the growth of exist-
ing SMEs.
STRATEGIES TO CATALYZE ENTERPRISE GROWTH IN MEXICO
Provide access to capital
In Mexico, loans to the private sector (excepting mortgages and consumer loans)
as a percentage of GDP is 9 percent. This compares to 28 percent in Brazil.7 More
specifically, the total loan portfolio to SMEs in Mexico is US$10 billion, or 1 per- 4 innovations / Unleashing Ideas Downloaded from http://direct.mit.edu/itgg/article-pdf/7/1/3/704877/inov_a_00110.pdf by guest on 08 September 2023 Mexico’s Growth Will Come from Entrepreneurship cent of GDP. Without loans, the private sector simply cannot grow. Financing is the gasoline for the private-sector engine! Moreover, venture capital is very scarce in Mexico, which has only three insti- tutional venture capital firms that have less than US$300 million in assets under
management.8 Mexico’s private equity (PE)/venture capital (VC) industry accounts
for 0.04 percent of GDP, compared to 0.16 percent in Brazil. In short, Mexico’s
PE/VC industry is one-fourth the size of Brazil’s.
Governments could do a lot to improve access to capital for entrepreneurs and
SMEs, such as offering incentives to invest in venture capital or redesigning loan
guarantee programs to eliminate the current perverse incentive to use them for the
least risky SMEs.
Furthermore, Mexico must strictly enforce the rules for loan guarantees. When
a bank provides a loan to an SME and the development bank guarantees that loan,
the bank is not allowed to require hard assets as a guarantee. In reality, despite hav-
ing loan guarantees from the government, local private banks do require hard
assets as an additional guarantee. Therefore, strict enforcement of the rule pro-
hibiting such requirements is urgently needed.
Because the existing mechanism for auctioning such loan guarantees is based
on the interest rate banks will charge, it incentivizes those bidding for the guaran-
tees to use them on the least risky loans. The incentive should be the opposite, thus
Mexico needs a new mechanism for auctioning or guaranteeing the assignment of
loan guarantees.
The development of Mexico’s PE/VC industry could be catapulted forward if
the government were to provide incentives for private local investors to invest, fol-
lowing, for example, the Israeli model.
Level the playing field
A friend of mine says, “In Mexico, everything is prohibited but everything is pos-
sible.” MIT economist Rüdiger Dornbusch used to say, “The U.S. is a country with
few rules and strict enforcement, versus Mexico, which has lots of rules and lax
enforcement.”
Mexico’s lax enforcement is fairly discretionary, which puts the entrepreneurs
and SMEs in an extremely unfavorable competitive position relative to the large
companies that have much more influence. This creates significant barriers for
entrepreneurs and SMEs attempting to enter the market.
Furthermore, it is one thing to lobby and use legal maneuvering to prevent the
creation of new rules and regulations that could affect your company, and quite
another to use such maneuvers to prevent existing rules and regulations from
affecting your company. The latter effort is much more difficult, and in Mexico
there is more of it. This creates an unlevel playing field, because entrepreneurs and
SMEs do not have the technology or power to play such a high-stakes game. The
regulators therefore need to be aware that by failing to strictly enforce the rules,
they are seriously affecting the country’s long-term growth.
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Álvaro Rodríguez Arregui
Reduce frictions in the supply chain
For SMEs, the process of selling to large firms is long, tortuous, and uncertain. To
help its economy grow, Mexico must forge agreements with large corporations to
get them to use SMEs for a percentage of their supplies, and to make their selec-
tions within a certain timeframe and efficient decisionmaking process. They also
must commit to paying SMEs under the agreed-to terms. Furthermore, serving
large companies can become costly because they feel they have an upper hand and
thus continually change the terms and circumstances under which an SME can
provide a service. Therefore, big companies need to adopt a code of conduct
toward SMEs that includes paying on time!
Mexico should create an agency along the lines of the Consumer Protection
Agency to protect entrepreneurs and SMEs, because when a large company abus-
es the terms of an agreement, there is nowhere for an entrepreneur or SME to turn
for help. There is always legal recourse, but that is costly and time consuming.
Government also can play an important role in integrating entrepreneurs and
SMEs into its supply chain. The government could issue a legal mandate that a cer-
tain percentage of its supplies must come from SMEs; this would not include any
SME that is a subsidiary of a large corporation.
With regards government procurement, instituting a more efficient approval
system, simplifying procurement processes in accordance with government crite-
ria, and making timely payments as mandated by law would go a long way to
encourage the growth of Mexico’s SME sector.
An agency that protects entrepreneurs and SMEs should also oversee work
done for the government. The Mexican state has a monopoly on providing basic
services such as electrical power, and when it refuses to provide service, entrepre-
neurs and SMEs have nobody to go to for protection.
Enable SME access to performance bonds
Most of the projects entrepreneurs and SMEs do for large corporations or the gov-
ernment require a performance bond, which is extremely difficult for an entrepre-
neur or SME to obtain. Therefore, the Mexican development bank should establish
a guarantee program for performance bonds that is similar to the one it has for
loans. The only caveat is that the performance bonds should not be offered only to
the more mature SMEs.
The law should also require governments to provide performance bonds when
dealing with SMEs. Many projects done for governments suffer significant delays,
which translate into higher costs, and these added costs are usually absorbed by the
SME. They should instead be covered by the government when the government
causes the delay, and a performance bond should guarantee that the extra costs will
be paid.
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Mexico’s Growth Will Come from Entrepreneurship
FROM “FRICTIONFULL” STASIS TOWARD FRICTIONLESS DEVELOPMENT
The lack of a hospitable environment in which entrepreneurs and SMEs can devel-
op and grow in Mexico has created what I call a “frictionfull” environment, which
results in a high mortality rate for entrepreneurs and SMEs. Therefore, SMEs that
do manage to become large enterprises are sucked into the “hero mentality” of
large corporations. When heroes conquer new territory, they concentrate all their
energy on defending it, which has created an extremely defensive private sector.
This defensive attitude raises the barriers to market entry even higher for entrepre-
neurs and SMEs and perpetuates the hero mentality.
We need drastic change within both the government and the private sector to
eliminate the hero mentality and change a “frictionfull” environment into one that
will spur the creation and growth of entrepreneurs and SMEs in Mexico, which will
ultimately result in a significantly higher GDP. I know that doing this will require
a great deal of courage, but as Peter Tufano, dean of the Saïd Business School at
Oxford University, said at the 2012 Skoll World Forum, “We require a certain
degree of foolishness to achieve the changes that are required.”
Text based on the presentation, “A Unique Approach to Measure How High Impact
Entrepreneurs and Venture Capital are Key Drivers for Long-Term Economic Growth.”
Fernando Fabre, Endeavor Global.
1. UBS Investment Research
2. UBS Investment Research
3. The B20 Agenda from the Perspective of the Mexican Business Community
4. INEGI’s definition of microenterprises includes those with zero to 30 employees, depending on
the industry. See www.inegi.org.mx.
5. INEGI’s definition of midsize enterprises includes those with 20 to 500 employees, depending on
the industry; large enterprises are those with more than 100 or 500 employees, depending on the
industry. See www.inegi.org.mx.
6. The most needed types of structural reform are fiscal, energy, labor, and judiciary.
7. UBS Investment Research
8. Roberto Charvel, “The Road Map for Private Equity, Venture Capital and Hedge Funds in
Mexico.”
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