Investment climate update.

The American Embassy in San Jose recently issued an updated report on the investment climate in Costa Rica. Excerpts follow:

Openness to foreign direct investment: Costa Rica has a generally open international trade and investment regime, with the exception of a few sectors that are

reserved for state companies. The government has campaigned at senior levels to attract high quality foreign investment. The Costa Rican Investment and Development Board (CINDe) assists the government's efforts through its offices in Costa Rica, the U.S., Europe, and the Far East. The Commercial Code details all business requirements necessary to operate here. The laws of public administration and public finance contain most requirements for contracting with the state. All businesses must be registered in the National Registry, thereby becoming national companies that may have national or foreign owners. The investment requirements for foreign and national persons and companies are identical. Businesses may be established starting from nothing, acquired, merged with, or taken over in much the same way as is done in the U.S.. Foreign partnerships with local businesses are quite common;

The judicial system upholds all contracts. However, great care must be taken in contracting with the state or making investments in sectors reserved or protected by the Constitution or by laws for public operation. Investments in state-protected sectors under concession mechanisms can be especially complex because sectors of the population, particularly state employees, wish to block foreign investment in such sectors and regularly challenge contracts permitting private participation in state enterprise activities before the Constitutional Court. Government agencies have sometimes sought to change the terms of contracts, as happened recently with some private electricity generation contracts;

The government has stated an interest in using the 1998 Concessions Law to build and manage public works projects. Nevertheless, there has yet to be a successful concession completed in Costa Rica. Alterra partners, a partnership between U.S. firm Bechtel Enterprises and Singapore's Changi Airport Authority, assumed management of Costa Rica's principal airport under a 20-year, US$200 million contract in May 2001. A final agreement on applicable tariffs for use of airport facilities is still pending, over two years after the contract was ratified. A railroad concession project was cancelled in 2001. In 2002, of the five bids for projects related to the principal Pacific seaport, two were disputed in the Comptroller General's office and the other three have been cancelled. The concession to build a new prison facility at Pococi was awarded to a U.S. company, Management Training Corp. (MTC), but the contract has yet to be finalized as the award is being challenged in the Constitutional Court;

Industry surveys by CINDE and Costa Rican Foreign Trade Corp. (Procomer) suggest that investors are most attracted by Costa Rica's economic and political stability, competitive labor costs and well-educated workforce. Costa Rica is also a beneficiary of the U.S. Caribbean Basin Trade Partnership Act (CBTPA), the newest version of the Caribbean Basin Initiative (CBI). Through this program, Costa Rica receives duty-free treatment for most exports to the U.S. CBI has played a significant role in helping Costa Rica diversify its exports and increase bilateral trade with the U.S. Costa Rica and four other Central American countries are engaged in negotiations to establish a U.S.-Central American Free Trade Agreement (CAFTA) with the U.S.;

Costa Rica is a member of the five-member Central American Common Market (CACM), established in 1960. The CACM was established as an import-substitution effort to benefit local industry, but it greatly increased regional trade despite occasional setbacks over the years. The government announced its intention to participate in a Central American Customs Union, with a target completion date of Jan. 1, 2004. The five countries recently drafted a new manual of customs procedures and have resolved several pending trade disputes while preparing for CAFTA;

While the government focuses on promoting foreign investment in export industries, foreign franchises have prospered in the domestic market for the past 30 years. Investments have been made in a wide array of sectors, including fast food (Burger King, Taco Bell, Mcdonald's, Pizza Hut, Subway, TCBY Yogurt, Kentucky Fried Chicken, and Papa John's Pizza), car rentals (Hertz, Avis, Dollar, and Budget), hotels (Marriott, Hampton Inn, and Intercontinental), and designer clothing boutiques (Tommy Hilfiger and Liz Claiborne). Price Smart (formerly Price Club in the U.S.) has opened three Costa Rican stores since mid-1999;

There are no restrictions on receiving, holding or transferring foreign exchange. There are no delays for foreign exchange, which is readily available at market clearing rates and readily transferable through the banking system. Dollar bonds and other dollar instruments may be traded legally. No restrictions are imposed on reinvestments or on the repatriation of earnings, royalties, or capital except when these rights are otherwise stipulated in contractual agreements with the government of Costa Rica. Royalties are taxed in accordance with Title IV of the income tax law, no. 7092, extensively reformed in Oct. 1988, at rates varying from 10 to 25%;

Expropriation of private land by the government without prompt or adequate compensation has hurt Costa Rican and foreign investors in the past. These incidents usually involved land expropriated to create national parks, indigenous reserves, or agricultural projects for poor farmers. Two cases involving U.S. citizen still await settlement in the Costa Rican judicial system;

Another land problem involves the invasion and occupation of private property by squatters, who are often organized and sometimes violent. the squatters seek to take advantage of laws permitting occupants to receive title to unused farmland. The police and judicial system have at times failed to deter or to peacefully resolve such invasions. A U.S. citizen and a Costa Rican squatter died during a confrontation over land ownership in 1997. Security forces removed 600 squatters from a 1,000-hectare parcel of bamboo forest owned by the Standard Fruit Co. in July 2001. They returned and had to be removed a second time in july 2003. It is not uncommon for squatters to return to the parcels of land from which they have been evicted, requiring expensive and potentially dangerous vigilance over the land;

Litigation can be long and costly. The legal system is significantly backlogged, and civil suits take over five years on average from start to finish. Some U.S. firms and citizens have satisfactorily resolved their cases through the courts, while others have seen proceedings drawn out over a decade without a final ruling. The process to resolve squatter cases through the courts can be especially cumbersome. The legal owner of land is at a disadvantage in a system that quickly recognizes rights acquired by squatters, especially when the disputed land is rural and is not being actively worked. Also, civil archives recording land title are at times incomplete or contradictory. These records should be carefully researched to avoid disputes over conflicting claims.

Arbitration has long been possible under the civil and commercial codes, but U.S. investors have experienced mixed results from proceedings organized by local attorneys. In at least one case, the amount of the award appeared to be insufficient. The law of Alternative Resolution of Conflicts and Promotion of Social Peace (Law 7727) of 1998 seeks to encourage arbitration and simplify the procedures under which arbitration takes place. Several arbitration centers have since been established, including one at the Costa Rican--American Chamber of Commerce. A few cases reportedly have been successfully and quickly resolved under the new law;

The free trade zone system, the active finishing regime and a duty drawback procedure are the only investment incentive programs in Costa Rica. These incentives are available equally to foreign and domestic investors. These incentives include tax holidays, free or subsidized infrastructure and industrial parks, training of specialized labor force, and protective tariffs in some cases;

The Export Processing Law of 1981 established publicly operated free trade zone (FTZ) industrial parks in Santa Rosa (Puntarenas) on the Pacific coast, and Moin (Limon) on the Caribbean seaboard. Presently, eight ftzs operate throughout Costa Rica, six of which are privately managed. Companies in FTZs receive exemption from virtually all taxes for eight years and at a reduced rate following this period. In addition to those benefits, companies operating in FTZs enjoy simplified investment, trade, and customs procedures. The tax holidays provided for investment in FTZs are scheduled to phase out beginning in 2007 according to World Trade Organization (WTO) agreements. The government is considering a plan to reduce corporate income tax for all companies operating within the country, including companies operating in the FTZs.

The Active Finishing Regime, created by decree in Aug. 1997, suspends taxes for renewable six-month periods on imported inputs of qualifying companies, and then exempts the inputs from those taxes when the finished goods using or containing them are exported. The regime also facilitates a five-year renewable suspension of taxes on capital goods used to manufacture exported goods. Companies within this regime may sell to the domestic market if they have registered to do so and pay pro rata import duties on capital equipment used for the domestic market. the drawback procedure provides for rebates of duties or other taxes that have been paid by an importer for goods subsequently incorporated into an exported good;

Investment in real estate requires particular care due to potential problems with title and to the possibility of adverse possession by squatters. This is especially true for absentee owners of undeveloped or vacant rural properties, as Costa Rican agrarian law is relatively quick to confer title to occupants of land considered "abandoned." Landowners should be sure to demonstrate a continuing presence on and control over their land;

Investment in beachfront property can be problematic since almost all beachfront is public property for a distance of 200 meters from the high tide mark, an exception being in long established port cities. Normally, the first 50 meters from high tide cannot be used for any reasons by private parties and the next 150 meters, also owned by the state, can only be leased from the local municipalities for specified periods and particular uses, such as tourism installation, vacation homes, etc. Investors should exercise caution and obtain qualified legal counsel before purchasing property, particularly near beachfront areas. Potential investors in Costa Rican real estate should also be aware that the right to use traditional paths is enshrined in law and can be used to obtain court-ordered easements on land bearing private title. Disputes over easements are particularly common when access to a beach is an issue;

Bureaucratic procedures are frequently long, involved and discouraging to new investors. The government is attempting to bring a more business-friendly and facilitative attitude to the bureaucracy through such initiatives as its online investor manual http://www.tramites.go.cr/manual/english/default.htm) and one-stop windows;

There are no controls on capital flows in or out of Costa Rica or on portfolio investment in publicly traded companies. Larger investors arrange their financing abroad where rates tend to be lower and lending limits are higher. Foreign investors are able to borrow in the local market, but they are also free to borrow from abroad;

Credit is allocated on market terms, although the state-owned banks are sometimes obliged to act as development banks for activities deemed to be of public interest. The four state-owned banks accounted for 51% of the banking system's assets on Dec. 31, 2002, though the 17 private commercial banks have been steadily increasing their share and consolidating through mergers among themselves and with foreign bank groups. Consolidated total assets of the country's largest bank group, state-owned Banco Nacional, were about US$2.4 billion at the end of 2002. Consolidated total assets of the largest private bank group, Interfin, were about US$800 million on Dec. 31, 2002. The combined assets of all bank groups were about US$10 billion;

Legal and accounting systems are transparent and consistent with international norms. Many well-known accounting firms in Costa Rica are subsidiaries of U.S. firms;

Corruption. Costa rica has laws, regulations, and penalties to combat corruption, though the resources available to enforce those laws are limited. Several cases of alleged corruption are under investigation or are being prosecuted. The former general manager of the Pacific ports was convicted for accepting a bribe, and criminal cases continue against senior management of a failed state-owned bank, Banco Anglo Costarricense, and officials who allegedly defrauded a major social welfare fund. Defendants in a number of major cases have managed to escape the country during the years it can take for a verdict to be reached;

While most U.S. firms have not identified corruption as a major obstacle to doing business in Costa Rica, some have made allegations of corruption in the administration of public tenders. Developers of tourism facilities periodically cite municipal-level corruption as a problem. In recent years, corruption has been exposed in the Civil Aviation Directorate, the Ministry of Public Works and Transportation, the state-owned banks, the Public Housing Authority (in charge of financing low-income housing) and the ports. Allegations of corruption on the part of local officials in the authorization of beachfront concessions and zoning plans are not uncommon. The Pacheco administration has publicly stated that battling corruption is a priority;

The Overseas Private Investment Corp. can insure up to US$200 million per project for U.S. investors, contractors, exporters and financial institutions. Financing is available for overseas investments that are wholly owned by U.S. companies or that are joint ventures in which the U.S. firm is a participant. OPIC holds a diversified portfolio of more than 300 clients;

The labor force is relatively well educated, skilled and easily trained, largely due to long-term government investment in public education. The country enjoys a literacy rate of 95%, and many workers seek and receive additional specialized training. The National Vocational Training Institute (INA) and private sector groups provide technical and vocational training.

The demand for English-language speakers is such that foreign investors have recently been facing a shortage of workers with sufficient English language skills. The arrival of companies such as Intel, Procter & Gamble, Western Union, and call center operators has drawn down the supply of speakers of fluent business and technical English. The Government has made English language and computer literacy a national priority. Several public and private institutions are attempting to meet the demand for English-language speakers, including the 50-year-old U.S.-sponsored Costa Rican-North American cultural center, which teaches regular and business English to as many as 5,000 students year round.

Workers may join labor unions of their choosing without prior authorization. Unions operate independently of government control and may form federations and confederations and affiliate internationally. Many costa rican workers join "solidarity associations," under which employers provide easy access to saving plans, low-interest loans, health clinics, recreation centers, and other benefits. Solidarity associations and labor unions coexist at some workplaces, primarily in the public sector. Business groups claim that solidarity associations provide for better labor relations than exist in firms where unions represent workers and there are no solidarity associations. However, labor unions allege that private businesses use solidarity associations to hinder union organization in contravention of international labor organization rules.

Foreign direct investment flows into Costa Rica, with % of GDP: 2002 US$628 million, 3.7%; 2001 US$448 million, 2.7%; 2000 US$409 million, 2.6%;

2002 foreign direct investment by country, with % of total: Netherlands 36.6% (US$230 million Heineken purchase of Ocal Brewery Stock); USA, 34.1%; Central America 3.8%; Panama 1.7%; Mexico 4.9%; Canada 14.4%; Germany 0.7%; Japan 0.2%; Other 3.6%. Total 100%.

2002 foreign direct investment by sector: Agriculture US$11.8 million: Agro-industry US$237.0 million; Commercial US$13.1 million; Industry US$225.0 million; Services US$14.9 million; Financial US$23.7 million; Tourism US$101.4 million; Other US$0.6 million.

Major investors in Costa Rica include: Standard Fruit Co. (Dole); Chiquita; Intel; Abbott Laboratories; Baxter: Scott Paper; Proctor & Gamble; Citibank; Bechtel; Marriott; Western Union; Alcoa; Conair; Warners; Merck; Pfizer.