Sarah Rundell outlines the new ways that export credit agencies and exporters are navigating Africa’s infrastructure opportunities.
Back in 2013, Mozambique’s state-owned fishing company raised millions of dollars in the debt capital markets to buy a new tuna fishing fleet. As it turned out, the government never spent the money on the boats detailed on the prospectus tin but infamously siphoned it off for other uses. The ramifications are still rippling through Mozambique, where economic growth has ground to a halt and the government has defaulted on debt repayments. The banks involved lost business in the region and the scandal prompted many others to scale back on their debt capital market activities. Yet one surprising winner has emerged from the fishy tale.
Five years on from Mozambique’s ‘tuna bond’ scandal, export credit agencies (ECAs) have become the partner of choice when it comes to financing infrastructure and investment in Sub-Saharan Africa. Rather than money flying out of the door from day one via the debt capital markets, export finance comes with slow drawdown periods. Investment is monitored and controlled: funds are released as and when content is built and shipped. Bond issues are glamorous, easier and quicker, but ECA finance is a safer option for cautious lenders and investors in African infrastructure. ECA finance also offers a better deal for African sovereigns, beating bonds on tenor and price and tapping long-term, stable credit providers rather than fairweather friends in Africa’s capital markets.
ECA demand from African borrowers and infrastructure lenders has now coincided with the uptick in commodity markets. Many African countries are feeling the benefit of recovering commodity prices and beginning to resume infrastructure investment in healthcare, agriculture and transport, says Marijn Kastelein, an underwriter and Africa specialist at Dutch ECA Atradius, where recent projects include bridges in West Africa, a Zambian hospital and an ambitious land reclamation project in Angola’s capital Luanda. “We are seeing more demand for Africa and bigger tickets than in the past. It coincides with a decline in projects in Brazil and Eastern Europe and, to some extent, Africa is plugging the gap,” he says.
Elsewhere, German ECA Euler Hermes reports most demand for cover in Africa comes from road and power projects, particularly hydro power, and expects activity to focus on fewer, larger transactions through 2018. In the private sector, a clutch of mining companies are hiring advisors and beginning to develop licences that lay dormant during the slump. It promises ECA-backed investment in the kind of dual infrastructure recently developed in Mozambique, where a new railway hauls coal out of a Brazilian and Japanese-owned mine for export out of the port city of Nacala, but also doubles as a new and important transport corridor for local business.
Yet ECA-backed finance in African infrastructure doesn’t come without challenges. One of the biggest headaches is navigating IMF sustainable borrowing limits imposed on Africa’s 30 heavily indebted poor countries (HIPCs). If a country has reached its borrowing limit, it can’t borrow anymore unless 35% of that debt is concessional, or a grant element. Despite being long-term and low cost, ECA finance doesn’t qualify, so the additional support is usually fed via government-backed facilities in the exporter country such as the Netherlands’ Development Related Infrastructure Investment Vehicle (Drive).
It can also come via other institutions such as European development finance institutions (DFIs), notes Kastelein, who observes that IMF rules around concessional financing have softened in recent years. He says more flexibility from the IMF is allowing African governments to decide for themselves which projects to finance commercially or in a concessional way and that this could lead to more infrastructure opportunities filtering through. Experts advise sponsors and sovereigns smooth the process by identifying “early on” the ECA cover and the grant element within a deal.
It means that exporters who can’t bring the concessional element to deals miss out. Although most OECD countries have development aid programmes designed for infrastructure investment, some governments are better at providing the additional support to the buyer, and subsequent support for their exporters, than others. “In the UK there’s a bit of a hang up about providing aid with trade,” says Gabriel Buck, managing director of GKB Ventures, a consultancy focused on cross-border trade.
And even when ECAs and their exporter cohort have secured the additional subsidy, there is no guarantee they will be able to compete with China. Sinosure-backed loans in support of Chinese contractors characterised by tenors stretching far into the future and fixed, peppercorn interest rates that easily comply with IMF concessional rules have become the finance of choice for African sovereigns looking to plug their infrastructure gap.
“China has conquered Africa with financing,” says Ram Shalita, CEO of BlueBird Finance & Projects based in Haifa, Israel, which successfully wove concessional finance into a Ghanaian water project supported by a syndication of international banks and is midway through another project involving concessional finance in Ethiopia.
In one trend, Sinosure’s success in Africa is seeing more western banks lend to Sinosure-backed projects in the region. Sinosure itself is also seeking to beef up its international reach, reduce its funding costs and access liquidity outside the Chinese bank market ahead of the hundreds of upcoming Belt and Road infrastructure projects.
In some cases, ECAs with an in-country presence will market themselves to African buyers in advance of contracts being identified. But ECA appetite for individual African countries ebbs and flows, linked particularly to debt levels and transparency. Zimbabwe and Sudan are too risky for most; Mozambique remains off cover at Atradius because of parlous state finances and the Dutch ECA has also “severely reduced” cover for a handful of other countries, says Kastelein. Project sponsors also bemoan a mismatch between what ECAs say they are prepared to cover in Africa and a lukewarm reality. ECAs can suddenly alter their policies, or reach their country limit and withdraw, they say.
It means there may only ever be one or two ECAs prepared to cover a project, limiting sponsors’ financing options and forcing them to scramble to match content to the only willing ECAs. Construction groups need to be flexible in their sourcing and able to adjust their suppliers to countries with ECAs that can take on the relevant risk. It’s something BlueBird encountered in a recent Zambian housing project. “Neither of the ECAs in the deal were from the contractor country so the contractor set up a new company in the country with one of the ECAs,” Shalita explains. To complicate matters further, he also notes a growing trend of more content flowing into African infrastructure from outside Europe, yet this is where many of the ECAs prepared to cover Sub-Saharan Africa reside.
Mozambique’s Nacala project offers proof that an ECA’s first priority doesn’t necessarily lie in content procurement. In the deal, the Japanese ECAs JBIC and Nexi covered US$1bn tranches each, but their priority wasn’t supplying Japanese content, explains London-based White & Case partner Caroline Miller Smith, who led the law firm’s deal team on the project. “They were looking at the deal more from the viewpoint of potential access to strategic resources, even though it was an infrastructure project,” she says.
Interest from banks
Like ECAs, bank appetite also ebbs and flows. The largest banks have drifted away from financing African infrastructure unless it involves their closest clients because of the compliance headache, compounded by the fact many have axed in-country representation. A key worry is transparency and compliance around the tendering process, something that is often difficult to check and can lead to lenders disqualifying strong projects.
“It is often more about big organisations wanting to cover themselves rather than any real risk in the deal,” says Shalita. “We had a big European bank that was due to participate in a commercial tranche withdraw a month before closing because of new compliance issues that meant it could only concentrate on ECA facilities,” he says. The long and drawn-out nature of the ECA process can also mute bank enthusiasm, at least until a deal is approaching close. “If a project has ECA support and is set to close in six months, not five years, then banks are interested,” says GKB Ventures’ Buck, who adds that sponsors can navigate this fluctuating lender appetite by ensuring they are not bias to a specific bank or ECA.
Second and third-tier banks, particularly Africa’s regional lenders from South Africa and Nigeria, have stepped into the gap. South African banks are increasingly taking the lead, acting as the main syndicate arrangers and driving transactions. Nigerian banks are keen to split and syndicate deals and take on short tenor commercial tranches. In another trend, some Nigerian banks are acting as guarantor for smaller private buyers. They are also sought-after lenders by ECAs for their access to local dollar liquidity in Nigeria, where the ready availability of foreign exchange is a challenge. “When they come in as guarantor it makes it easier for us,” says Kastelein.
One consequence of the arrival of a new cohort of smaller banks is that deals have grown complicated, and with heavier structures as more lenders pile in for smaller tranches.
But market experts also express frustration that African banks are not playing a leading role in ECA-backed projects in Sub-Saharan Africa. Many struggle to access ECA funding programmes and others are still confined to traditional roles. Namely, being tapped by international banks as borrowers or as guarantors of the risk, or as co-financiers for downpayment facilities. “It is holding back localisation of the industry and an Africa-led finance solution,” says Chris Mitman, founder and head of agency finance at Investec Bank in London.
And although transactions are starting to have more local content – Atradius’s West African bridges project are one example – localisation and the associated development of sustainable African industry and jobs is also being held back by OECD rules. “The OECD rules restrict the level of local content which ECAs may support to 30%, which makes no sense when the level of other third country content [not sourced in the country of the ECA] is unrestricted,” explains Mitman.
Meanwhile, Africa’s multilaterals are sought-after partners. None more so than in oiling the wheels on deals when complexity and squabbles threaten derailment. The African Development Bank’s (AfDB) role in the Nacala rail and port project reassured lenders by softening political risk between Mozambique and Malawi, as well as the sovereigns’ relationships with other stakeholders in the deal. By lending to many of the small businesses benefiting from the corridor, the AfDB also had important leverage with both governments. “Mozambique was very unlikely to want to annoy the AfDB,” says White & Case partner Carina Radford.
Accessing multilateral support can be challenging, however. The World Bank’s Multilateral Investment Guarantee Agency (Miga) only lends to countries rated BB and above, which very few African countries are.
More local currency financing could be a key to increased local bank participation. Apart from rand-denominated infrastructure projects in South Africa, virtually all African infrastructure is financed in US dollars and euros, which local banks struggle to access. That is coupled with sponsor reluctance to take on local currency risk, or the cost of high local interest rates. Yet financing projects in foreign currency has worrying long-term implications for Sub-Saharan African sovereigns. Projects have revenue streams in local currency but are paying back hard currency borrowings, creating a long-term mismatch and foreign exchange risk that could push countries into even more debt, particularly if the local currency is devalued.
New deals in local currency would mean borrowers only have to manage foreign exchange risk for the build period. Once delivery is complete, and for the remaining length of the debt, the revenue streams would match repayments. Countries such as Ghana and Nigeria, which have local currency liquidity, and governments concerned about taking on more hard currency debt, could blaze a trail.
“Interest in local currency loans is rising. We would be willing to look at other currencies on a case-by-case basis, but we haven’t had a specific request,” says a spokesperson for Euler Hermes. Under exchange control regulation, sponsors in Mozambique must convert half of their onshore foreign currency balances into local currency. It was a worrying prospect for sponsors in the Nacala project, who were concerned about a possible currency devaluation and Mozambique struggling to access dollars to service the debt, explains White and Case’s Radford, who believes that the catalyst for change will ultimately come from within Africa. “If countries in Sub-Saharan Africa get stronger at making their case for local currency financing, people will have to embrace it,” she says.