The need for sustainable infrastructure in Nigeria has become a pressing issue. It is undeniable, that there is an urgent need for investment in infrastructure in order to reduce the cost of doing business in Nigeria, make Nigerian businesses competitive, and improve the living standards of the people. In 2014, the National Integrated Infrastructure Master Plan estimated the cost of bridging Nigeria's infrastructure needs at about $2.9 trillion over the next 30 years. The huge funding requirement for infrastructural development in Nigeria indicates that traditional funding methods can no longer suffice as the traditional fund providers, i.e. different levels of Government, do not have such resources at their disposal. In response, Project Finance initiatives and Public Private Partnerships (PPPs) are some of the financing models that are being considered to meet the funding challenge for infrastructure projects.
Examples of projects which have been or are being financed through this model include the Abuja light rail project, the Lekki Deep Seaport, the second Niger Bridge, and the Onne Oil and Gas Free Trade Zone port facility in Rivers State, which the Financial Times of London describes as "the most successful in Africa".
The progress of the PPP model in Nigeria has however been disappointingly slow, perhaps largely due to a misalignment of interests. Whereas investors are focused on returns; because such projects typically relate to social welfare services, the government is usually constrained to ensure that the cost to the consumer is kept at a minimum. This, coupled with political risk due to the tendency of succeeding governments to abandon projects commenced by previous administrations make such projects unattractive to investors; save for where backed by appropriate exclusivity, guarantees and subsidies. In addition the bureaucracy involved in complying with the Infrastructure Concession and Regulatory Commission (ICRC) Act and Public Procurement Act (PPA) pose significant challenges for project sponsors.
Bank-led Project Finance
Project finance has been embraced in Nigeria as an innovative model for the development of public infrastructure and private project execution. The most active sectors in local project finance have been transportation, housing and energy. Examples of key project finance deals include the $9 billion Dangote Group refinery project and the US$900 million Azura IPP project for the construction, operation and maintenance of a 450MW gas-fired open-cycle power plant. However, the adoption of bank-led project finance in the development of Nigerian infrastructure has been quite slow, due to a variety of factors, including dearth of relevant knowledge and experience, undeveloped regulatory framework, and poor macro-economic indices. Many of the local banks lack the capacity to fund large infrastructure projects, and where they do, can only do so at prohibitive interest rates. The international investors on the other hand are often unwilling to take on the significant political, economic and other risks, or price them, which often puts such funding out of the reach of projects. Additionally, over-exposure to foreign loans exposes the projects to exchange rate risks, as revenues are typically in Naira (the local currency). These challenges have over time invariably led to the adoption of impractical financing solutions that lead to defaults, extended tenors and abandoned projects.
Capital market to the Rescue?
The Nigerian capital market has performed relatively well in the area of bond issuance. The Federal Government's recent Eurobond offering was heavily oversubscribed. The Lagos State Government also, raised about N47 billion at the beginning of the year, from a bond offering to finance basic infrastructure.
Advantages of the capital market include the fact that funds are relatively cheaper, the credit agreement is often less restrictive than that in a bank loan, funding is typically long term, the sponsor can borrow on an off balance sheet basis, and has access to better interest rates and a wider pool of available capital and investors such as pension funds. Also, bonds are tax exempt, which is an incentive to investors.
In addition to sovereign, sub-sovereign and diaspora bonds issued to fund infrastructure projects, there is increasing focus on project specific infrastructure bonds and investment in infrastructure companies or funds floated by private sector investors. The ARM Harith Infrastructure Fund, the first infrastructure fund to be approved by the Nigerian Securities and Exchange Commission (SEC), is a US$250 million target closed-ended specialist Infrastructure Fund with core focus on transport, energy, and utilities projects in West Africa. Since the establishment of the fund in 2013 (with its first close in January 2015 of circa US$90 million), a few other infrastructure funds have been registered by the SEC (including the NSIA's Nigerian Infrastructure Fund). No infrastructure fund (or bond) has however been listed on any exchange in Nigeria. Likely reasons for this include lack of stable macroeconomic environment, lack of a strong issuer base/ bankable projects and market illiquidity.
- Pension Fund Assets
The National Pension Commission Regulations on Investment of Pension Fund Assets allow Pension Fund Administrators (PFAs) to invest Pension Fund Assets (PAs) under management in infrastructure projects through eligible bonds and other debt securities. The proposed infrastructure project must meet certain additional criteria, including, inter alia, the project must not be less than N5 Billion in value, and must be awarded to a concessionaire with a good track record through an open and competitive bidding process in accordance with requirements under the ICRC Act, be certified by the ICRC and approved by the Federal Executive Council. In addition, the bond must have appropriate credit enhancements.
However, although the regulations permit as much as 20% of the total value of PAs under management to be invested in infrastructure, PFAs in Nigeria currently allocate only about 1% of their portfolios to investment in infrastructure, as many projects are unable to meet the investment criteria due to lack of affordable credit enhancements, and bureaucratic bottleneck involved in obtaining relevant certifications (sometimes these can take years, thus driving up pre-development costs significantly).
There is also no provision for pooling of PAs to create a super fund that would be able to finance infrastructure at cheaper rates due to benefits of pooling.
- Credit Enhancements
One development that has facilitated institutional investor appetite for Infrastructure related securities has been the inclusion of credit enhancements in bond structures to enhance marketability. This can however be very expensive as such enhancements are typically provided by international finance institutions.
The Nigeria Sovereign Investment Authority in January, established a credit enhancement facility (InfraCredit) in partnership with London-based GuarantCo, to provide enhancements for infrastructure bonds. GuarantCo facilitates infrastructure development in low income countries by providing credit guarantees denominated in local currency to financial institutions and bond investors. InfraCredit will provide a form of monoline insurance, allowing pension funds and insurance companies to invest in otherwise ineligible securities.
Additionally, in recent times, the Federal Government has shown a willingness to provide enhancements for key infrastructure projects, in the form of revenue shortfall guarantees. This process is however far from streamlined. There is no standard guarantee product with clear qualifying requirements and backing of projects is done on a case by case basis. It is posited that the country's infrastructure finance landscape is more than ripe for a scheme along the lines of the UK's Infrastructure Guarantee Scheme, under which the Treasury guarantees that lenders to infrastructure projects will be repaid in full and on time, irrespective of project performance. The Scheme transfers project risk to government and ultimately the taxpayer, in return for a fee. Once the Treasury has issued a guarantee it cannot withdraw it or change the fee if project risk or market prices change. Most importantly, the Scheme has clearly defined parameters for eligibility.
- Green Bonds
The country is set to commence the issuance of a N20 billion sovereign green bond (the first in Africa) in the first quarter of 2017, to fund projects to reduce carbon emissions and develop renewable energy in the country. It is expected that the bonds will record significant patronage, as assets managed by signatories to Green Investment treaties/ policies reached an all time high in the last year. In addition to already available tax exemption, it may be useful for the government to consider introducing other "sweetners" to improve the marketability of the bonds. In China for instance, it is proposed to grant preferential risk weighting for green bonds in banks' capital ratio requirements.
Islamic finance is a method of financing based on the principles of Islamic law and has several structures that can be adopted to suit various means of financing depending on the circumstances including Murabaha, Takaful, Ijarah, Wakala, etc. It has been instrumental in the finance of several projects around the word, including the UK, South Africa (which was about four times oversubscribed), Senegal and Malaysia. The SEC in 2013, promulgated rules on Sukuk issuance which facilitated the issuance of the first State Sukuk in Nigeria by the Osun State Government. The issuance was a N14.4 Billion bond for the purpose of financing road, and school constructions across the state.
Islamic financing is a hitherto untapped deep fund pool, and it is important to ensure that the development of the regulatory framework surrounding same is clear and in line with current global practice, to attract necessary investment.
- FMDQ OTC Platform
The FMDQ OTC is an initiative of the Financial Markets Dealers Association, an association of the treasurers of banks and discount houses in Nigeria, licensed by the SEC as a Self-Regulatory-Organisation in 2012. Prior to its commencement of business in 2013, the governance over the Nigerian inter-bank OTC market was fragmented, thereby limiting its development, credibility, operational processes, liquidity and capacity development. The FMDQ's combined strategy of price and market transparency, listing and liquidity enhancement, product innovation, market governance and development and economic development advocacy, have however greatly improved the landscape of capital trading in the last few years, and served to engender investor confidence. The FMDQ at the end of February 2017 listed the FGN $1 Billion Eurobond on its platform (the first domestic listing of such in Nigeria's history).
- Economic Recovery & Growth Plan: 2017-2020 (ERGP)
To enhance economic recovery and growth, including bridging the infrastructure deficit in the country, the ERGP was launched by the Federal Government of Nigeria in February 2017. The ERGP provides sector specific financing strategies. Of particular note is the strategy with respect to transport, which will enable massive investment in transport infrastructure by leveraging private sector investments. ERGP recognizes that a review of the ICRC Act to resolve conflicting legislation with the PPA, as well as strengthening the ICRC's mandate to facilitate private sector investment is critical to meeting this objective. It also recognizes the need to leverage a sustainable and alternative mix of funding for critical infrastructure projects including project financing initiatives, infrastructure bonds, diaspora bonds, and value capture financing.
The Nigerian Minister of Finance announced last year that plans are in place for the nation to issue its first project specific infrastructure bond. There are also discussions about an infrastructure bond for funding road infrastructure. Indeed, many have proclaimed the capital market Nigeria's future in terms of infrastructure development finance. The recent steps taken by stakeholders are definitely steps in the right direction; however as highlighted, more needs to be done if the strategy is to be successful. It is also important to note that such offerings will only be attractive to investors if the underlying projects are viable, properly developed and satisfy the bankability test. The onus therefore lies on sponsors and their advisers to ensure that projects are properly structured.