One bridge at a time
Project Finance: There’s no secret about Africa’s desperate need to invest in infrastructure. The only question is where the money will come from. Can multilateral institutions help overcome investors wariness about taking long-term risk in the continent?
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Africa’s need for infrastructure investment is no secret. With the possible exception of South Africa, there is a widespread need for essential services as well as more sophisticated shipping, rail and port facilities and telecoms. Indeed, the variety and complexity of what is required is often mind-blowing.
It is only within the past decade that capital, previously geared toward aid programmes, has started flowing more regularly into project and trade finance.
Africa project finance volumes rose from US$12.8bn in 2010 to nearly US$20bn in 2012 before slumping, in the current year to the end of August, to just shy of US$7bn.
Activity remains unbalanced, with 16% of all project finance absorbed in 2012 by South Africa, which consistently out-performs the continent. And while some projects have proven successful – South Africa’s Renewable Energy Independent Power Producers Program in May closed the second of five so-called “actions” – even here, investors have proven reluctant to stump up funding for long-lifecycle projects.
To be fair, there are good reasons for that reluctance. “With the foreign currency risk inherent across many African economies and a history of volatility, both economic and political, the liquidity curve has been particularly hard to predict,” said David Renwick at Barclays Africa (formerly Absa Capital).
In recent years, however, there have been signs of change. Suppressed western growth, growing familiarity with African sovereign debt, and an investor-base hungry for yield, are helping to boost appetite for project finance.
Risk, while never a stranger in Africa, has been mitigated in many projects by finance from sovereigns and development finance institutions. Examples include the construction of the Henrie Konan toll bridge in Cote D’Ivoire, and the ongoing privatisation of Nigeria’s state-owned power plants. The Cote D’Ivoire authorities offered risk guarantees over the toll bridge, with the World Bank Multilateral Investment Guarantee Agency providing partial risk guarantees over both projects.
Much of the finance passes through, or emanates from, South Africa and Nigeria. Both countries boast strong institutional investor bases, robust banking systems, and deep capital markets; each has a head-start on regional peers thanks to their ability to match long-term assets with liabilities, making infrastructure finance deals more viable.
Elsewhere in Africa, more innovative structures or solutions may be needed. A report by Moody’s into the risks surrounding the expansion of Mozambique’s Offshore Area 1 LNG project, for example, highlighted political risk in the shape of a forthcoming election, and total costs estimated at US$13bn–$16bn.
Then there are the recent energy finds off the coast of eastern Africa. Countries along the seaboard, keen to find ways to finance and develop offshore drilling platforms, develop refining installations, and boost infrastructure capacity, might look to replicate multi-billion dollar liquefied natural gas facilities recently completed in the Gulf.
“This has not been seen in Africa but might be an option,” said Konrad Reuss, managing director for South Africa and Sub-Saharan Africa at ratings agency Standard & Poor’s. “The offtaker is offshore and can capture the offshore receivables. In this case the risk is in getting the gas out of the ground but some of the sovereign risk is reduced.”
Such mammoth projects are helping ensure a steady flow of finance for essential infrastructure. Institutions ranging from the European Investment Bank to the Export-Import Bank of China have both shown interest in the Aysha I Wind Farm in Ethiopia, providing skittish investors with additional comfort.
The African Development Bank and the Africa Finance Corporation have provided funding for power generation in Nigeria, financed the laying of new highways between Tanzania and Kenya, and diverted US$144m into Uganda’s extensive road-building programme. The Development Bank of South Africa is one of the lead investors in a huge solar power project led by Rand Merchant Bank, while the Islamic Development Bank has committed US$150m to the Lekki Port Development Project in Nigeria.
China’s involvement in Africa has also focused heavily on infrastructure development. An April 2013 paper by a Washington-based think-tank, the Center for Global Development, found that China contributed US$75bn in financing to African projects between 2000 and 2011. That’s equal to 40% of the total capital pledged by all Western governments over the same period.
Western and regional multilaterals are likely to increase activity in coming years, partly to provide some ratings uplift for existing and future projects. “Investors are looking for Triple B-plus or Single A rated debt, but a project might make only Triple B-minus,” said S&P’s Reuss.
Multilaterals, he said, are there to “try to bridge the supply-demand gap”. A similar process is underway in Europe, where infrastructure projects are being partly financed by the European Investment Bank.
Only scratching the surface
Yet while increased collaboration with governments and multilateral agencies is welcome, and while the rising number of project finance deals is good news for African governments, corporates, and citizens, existing deal volume barely scratches the surface. The World Bank reckons US$93bn in fresh capital is needed every year just to improve basic infrastructure across the continent. Up to US$300bn is required to provide widespread access to electricity, according to the International Atomic Energy Agency.
“Whichever numbers you use, financing needs are great,” said Reuss. “We’re talking about tens of billions and in spite of the recent flurry of sovereign deals – and there will continue to be a steady trickle of them – when you add them up this really is a drop in the ocean compared to what’s needed.”
On the supply side, the AFC has raised just US$1.1bn in fully-paid equity since being formed in 2007. Nigeria’s newly formed Sovereign Investment Authority, despite having almost unlimited potential, is similarly sized. Other African capital pools are also lacking in scale. African bond issuance in 2012, some of which is earmarked for improving infrastructure, totalled just US$58bn.
At least a third of Africa’s US$90bn infrastructure deficit will have to come, experts say, via the capital markets. However you slice it, the challenge is daunting.
Competition for funds is getting tougher. “With the raft of EU 2020 infrastructure projects there is going to be strong competition in the infrastructure space for funds,” said Reuss, referring to the Europe 2020 Project Bond Initiative, designed to stimulate capital market financing for large-scale infrastructure projects.
Project sponsors will need a successful track record before they are able to raise funding. Add to that specific risks associated with project finance deals. Investors must bear sovereign and construction risk, while few investors are prepared to hold African debt with a tenor of 20 or more years. Most recent new sovereign paper has tended to be dated with tenors of five or 10 years. Even Nigeria’s banks have struggled with the term of some project finance deals, forcing the AFC to engineer a product that refinances lenders seven years into a 15-year loan.
The continent thus needs to explore a variety of solutions, including domestic markets and remittance flows from African workers based overseas. Nigerian and South African pension funds will play an increasingly vital role in providing domestic investors with an appetite for domestic, long-dated securities. So-called “Diaspora bonds” might prove another solution. Ethiopia was the first country to issue such bonds to finance a hydroelectric dam in 2011.
Barclays Africa’s Renwick is confident the number of project bonds will grow as standards rise and Africa’s infrastructure becomes more developed. “Where a project is well sponsored and there’s strong engagement by the public sector, projects can compete effectively for capital,” he said, pointing to the expansion of Port Maputo in Mozambique. Reuss is more cautious, “We need a few successful projects to get off the ground and then we could see a game changer,” he said.
Clearly, international investors are some way off being capable of plugging Africa’s infrastructure gap. But if African states can demonstrate their ability to complete and manage projects, while strengthening their own financial systems to build pools of capital for local investment, they will make a more attractive investment case.