Major investment opportunities are likely to catapult Sri Lanka into the mid-range of middle-income countries, says Jonathan Fryer

For most of the first decade of the twenty-first century, the news coming out of Sri Lanka was almost uniformly bad, as violent activity by militant Tamil separatists was countered with a tough crackdown by government security forces. But since the civil war came to an end in May 2009, the South Asian island nation has experienced a remarkable turnaround, and for the past four years its economy has enjoyed one of the fastest growth rates in the world, at an average of 7.5 per cent.

In order to keep up the momentum and to propel Sri Lanka into the mid-range of middle-income countries, in recent months a roadshow highlighting investment opportunities there has been visiting major financial and business centres including Singapore, Mumbai, Dubai and London. One of the driving forces behind this has been the CEO of the Colombo Stock Exchange, Rajeeva Bandaranaika, who declares, “We have gone through 30 years of war, so an entire generation has grown up with that. But people are now responding to the changes. There is peace and stability and people are comfortable now. We have had to reintegrate 300,000 displaced people, but the process of reintegration is going smoothly.”

Massive investment has gone into improving the island’s infrastructure, including transport links to the north and east which had been cut off during the war. “Two-thirds of the rail track to Jaffna has been rebuilt,” Mr Bandaranaika says, “so reintegration has already begun. Moreover, geographically Sri Lanka has the good fortune of being well-placed for shipping routes. The new port of Hambantota in the south has enormous potential to act as a hub for shipping.”

The port of Colombo, the island’s capital, currently has a capacity of 7.5 million TEUs, but that should increase to 12.5 million by 2015 with the completion of two new terminals. But by 2015, as Colombo Port reaches full capacity, the new port at Hambantota will come into use, with an estimated capacity of 20 million TEUs. Hambantota has the great advantage of providing a convenient stop for ships from China that need to refuel, break bulk cargo and replenish supplies.

Maritime development is one of the key growth areas that are powering Sri Lanka’s renaissance, along with aviation, energy, tourism, commerce and the development of a knowledge economy based on new technology and an increasingly educated workforce. “The government is focusing on English and IT,” the Governor of the Central Bank of Sri Lanka, Ajith Nivard Cabraal, observes. “English has a link language status in Sri Lanka.”

Mr Cabral states that the combination of high economic growth and low inflation is creating “a new virtuous circle, in contrast to the past. For the past four years or so, inflation has been running at around 6 per cent – half of its former average. There is a new paradigm for Sri Lanka, in which per capita income reached US$3,280 per annum in 2013 and is expected to be perhaps more than $4,825 by 2016.”

Remittances from Sri Lankan migrant workers in the Persian Gulf and elsewhere have contributed significantly to the country’s balance of payments. But as a result of the island’s new stability and economic growth there are now strong signs of a reverse migration as workers return home. “A key challenge for us is a lack of sufficiently skilled people,” Mr Bandaranaika comments. “Our population is only 20 million.”

Nonetheless, by so many indicators, from educational levels to life expectancy, Sri Lanka out-performs all other countries in the South Asian region. It is also well placed to benefit from what Dr Nalaka Godahewa, Chairman of the Securities and Exchange Commission of Sri Lanka, terms the New South Asia Phenomenon. “After a long period of estrangement, the South Asian Association for Regional Cooperation (SAARC) is coming together,” he says. “That will help Sri Lanka a lot, because we can capitalise on the region’s huge population, so Sri Lanka can act as a hub for the whole region.”

Dr Godahewa believes that the country is paradoxically benefiting from being later in the growth cycle than countries such as its giant neighbour, India. “We have seen the pitfalls that other countries went through, so the government has been able to learn from them,” he explains. “And I remember in early 2013, HSBC published a report which said that Sri Lanka’s emphasis on infrastructure was more intense than both China’s and India’s.”

That infrastructure development has included a major upgrade of Bandaranaika International Airport and the 30 kilometre road that links it to Colombo. This has facilitated the steady increase in foreign tourists visiting Sri Lanka, from under 500,000 in 2009 to 1.2 million last year, and a projected 2.5 million in 2016. In 2013, both British Airways and the Lonely Planet travel guide named Sri Lanka as the world’s top travel destination, with its rich mix of luxurious seaside resorts, luscious tropical scenery and varied cultural treasures and festivals. Though increasingly popular with tourists from Europe, it is interesting to note that the largest number of foreign visitors come from India.

At the moment, the biggest single contributor to Sri Lanka’s export revenues is the textile industry, which directly employs about 300,000 people and which recorded 8 per cent growth last year. “Some of our garment factories are outstanding, making world class products,” Rajeeva Bandaranaika says proudly. The government has given the industry a number of budget incentives, including depreciation allowances and lower sea port and airport levies, to help it become more competitive internationally.

The financial services sector has expanded to keep pace with the island’s economic development, and the government has provided a number of incentives there too, in order to support economic growth and personal consumption. That economic growth has in turn strengthened Sri Lanka’s equity market and made it an attractive destination for foreign investment. As of 31 December 2013, 289 companies in 20 different sectors were listed on the Colombo Stock Exchange, with a market capitalisation of approximately US$19 billion. Moreover, outsourcing activities – including work for the London Stock Exchange – by Sri Lanka’s burgeoning knowledge services industry have won the country plaudits, including being named the Outstanding Destination of the Year by the UK’s National Outsourcing Association in 2013.

The government expects that Sri Lanka will see further gains in the outsourcing sector, given its high literacy rate of over 90 per cent, its good standards of English and cost advantages that are currently about 30 per cent lower than major competitors in the sector. However, as Sri Lanka rises up the ranks of middle-income countries, it will have to compensate for higher costs with greater labour force expertise.

“The image of Sri Lanka has changed rapidly,” Dr Godahewa remarks. “Since we took our first road show to India in 2012, fund managers have been more positive, looking to the future rather than to the past. At first they were interested in profitable sectors like banking, but now they see other attractive sectors linked to growth.”

“We want to tell investors all over the world that Sri Lanka is open for business,” adds Mr Cabraal. “It’s an attractive destination, and the time to invest is now — because Sri Lanka is still undervalued and you will have good returns as far as your investments are concerned.”