African project finance is under-invested, hampered by difficulties in identifying investable projects, an over-reliance on sovereign support and a lack of regulatory framework, according to a banker, a developer and two lawyers. For all these challenges, the project finance market is becoming increasingly resourceful in structuring deals to address the continent’s growth and infrastructure needs.
The growing demand for infrastructure has made Africa an attractive destination for project finance over the last decade, with a significant increase in the number of projects closed. But in the past year, the curse of commodities has struck again, with oil falling below USD 50 per barrel, followed by a slump in the prices of cocoa, copper and other metals and minerals, putting the continent back under economic strain.
As a consequence of a fall in commodities and a stronger US dollar, ratings agencies have readjusted sovereign ratings, resulting in downgrades for Mozambique and South Africa, Nigeria and Angola, for example. This highlights the need to reduce reliance on sovereign guarantees to help projects move forward, the sources said.
“The challenge is to be realistic, and to identify the needs for specific markets in Africa,” said Alexander Sarac, partner, projects, energy and infrastructure finance at Berwin Leighton Paisner.
Despite the recent slump in commodities, large-scale infrastructure spend is still required to address development needs and meet the continent’s growing demand. As governments build resilience to lower oil and commodities prices, bankers and lawyers are sensing opportunities, with multi-billion LNG projects being developed in Angola and Mozambique, and renewables leading the way in South Africa, Zambia and Uganda.
According to data from the Africa Infrastructure Country Diagnostic (AICD), Africa requires more than USD 93bn annually for the next 10 years. However, less than half of the amount is currently being provided, leaving plenty of room for project finance opportunities across the region.
In this context, sub-Saharan Africa still lags behind other parts of the world. Investment into the region accounted for USD 4.9bn of the global market from January to November 2016, according to International Financial Law Review 2017’s project finance report.
This figure is low when compared to other regions. In particular, the Middle East and North Africa (MENAT) whose project finance investments accounted for USD 44.9bn during the same period.
“Ten years ago, there wasn’t much activity in the region, and countries were mostly getting grants or bilateral loans from independent donors to meet their infrastructure demands,” said Sarac.
But he added this scenario has changed in recent years with a need for projects to support growth, despite the negative economic environment. “Sovereigns couldn’t match this increase in demand, creating opportunities for project finance in the region.”
Seeking investable projects
In sub-Saharan Africa, 21 countries had one or more project finance deals in the 10-year period from 2003 to 2013, according to the World Bank. In 2013, the top country was Nigeria, where 28 deals totalling USD 17.7bn were closed. This was followed by Ghana and South Africa, which accounted for USD 10.9bn and USD 9.9bn, respectively.
From 2014 to 2016, the investment appetite for project finance became restricted globally. According to the International Financial Law Review’s report, events such as the UK referendum and the US presidential election “exacerbated the tentativeness of a project finance market that already was suffering (…) due to prolonged lower commodities prices, slow economic growth, ongoing sanctions in formerly active markets and increasingly stringent capital requirements placed on commercial banks.”
Despite the global dormant appetite, there was some important activity from Africa within the last year. Angola LNG reached financial close last April on a USD 1.79bn five-year loan, according to a source close to the deal. Mandated lead arrangers on the deal were Bank of China, Bank of Tokyo Mitsubishi, BNP Paribas, ICBC, Societe Generale and SMBC. The Lead Arrangers were ING Bank and UniCredit.
Mozambique climbed the deal table in 2017, putting the continent back on the project finance track, boosted by a final investment decision on its USD 8bn Coral South LNG project, as reported by Debtwire. The financing was led by Bank of China, China Development Bank and Industrial Commercial Bank of China (ICBC) and has drawn the backing of another 12 commercial banks and five export credit agencies (ECAs).
Parallel to oil and gas projects, the region has seen the development of renewable programmes, led by a USD 4.5bn investment in South Africa. Initiatives such as the GET FiT in Uganda and Scaling Solar in Zambia have also contributed to the expansion and development of project finance across the continent.
According to Simon Jackson, project finance director at Access Power, these are examples of “how strong frameworks lead to low tariffs for consumers”.
“Power projects continue to get developed and constructed in sub-Saharan Africa, both thermal and renewable, but the pace of development is still too slow,” said Paul Biggs, senior partner at law firm Trinity.
Despite these new developments, opportunities remain rare for international bankers and investors looking into the region. According to Laughlan Waterston, head of energy, structured finance at SMBC, there are not many “investable” transactions in the market.
“Once there is an opportunity for a project, it needs to be investable,” he said. “The latter restricts deals because they have to be properly structured to fit the financing structure sought by banks. In Africa it is not as straightforward to bring projects into procurement and bring guarantors to mitigate the sovereign risk.”
Jackson agreed, saying that there is no shortage of either debt or equity but rather that of investable projects.
“The number of these is constrained in many countries by the need to develop legislative and regulatory frameworks for public/private partnerships, including state support for public utilities and equitable risk-sharing arrangements,” he said.
Role of sovereigns
In Africa, a key component of the project finance structure is the role of the government – or host country – as guarantor of part of the transaction. In many cases, this can make projects more expensive and riskier than other regions.
According to Sarac, this is attributable to the fact that economies are structured in a way that the sovereign is very much involved in the final investment decision process.
“Governments don’t have strong balance sheets and, at the same time, they demand a lot from investors, which restricts the growth of the project finance market by restricting private investment,” he said. Local content legislation, by which governments require foreign companies to work within a company rather than import materials and services, is a good example of this.
But, according to Sarac, this scenario is changing. As an example, he cited the role of development finance institutions (DFIs), which usually provide loans, and/or financial insurance or guarantees for these projects alongside ECAs.
“DFIs are developing more innovative tools to overcome the challenges present in African markets,” he said.
“This is currently done in a project-by-project basis. But the challenge is to be realistic and to identify the needs for specific markets in Africa in order to overcome these challenges.”
According to SMBC’s Waterston, ECAs are usually available to guarantee the funder risk if a home company is involved in the project. But alternatively this risk can be assumed by the World Bank (IFC).
“ECA’s have a very limited amount of projects they can take on their portfolio,” he said.
Another issue to bear in mind is the currency in which the transaction is structured.
“International investors, funders and ECAs themselves tend to prefer hard currencies to be used on the transactions, rather than local currencies, so projects procured in local currency tend to mainly be supported by local banks and investors,” said Waterston.
That makes the projected revenue from a country’s commodities and the tenor of deals both important components when structuring the financing of a project.
“Beyond projects based on natural resource exports where country risk can be mitigated by offshore revenue accounts, commercial banks are prepared to take uncovered project finance risk in only a small number of countries,” Jackson said.
Among those exceptions he considered specific projects in South Africa, Morocco and possibly Kenya, Namibia and Botswana.
“Commercial banks struggle with the tenors of 18 years or more required for infrastructure projects such as solar and wind, which is why these continue to be funded largely by development finance institutions,” he continued.
Despite the credit ratings of host countries and the economic and structural problems in the Africa region, developers, bankers and lawyers continue to find ways to overcome these obstacles.
“This is just the beginning, as there is a lot more space to develop projects in the region,” said Sarac. “Interesting people find interesting solutions in the project finance equation.”