At the height of the bull run that preceded the global crisis, funding for frontier markets was in ample supply. Western banks would blithely extend credit to African projects, while the continent’s infrastructure financiers, without other viable domestic long-term borrowing prospects, courted foreign capital, taking out loans from global commercial lenders and, where possible, issuing debt in capital markets to fund their projects.
For a time, the credit boom led to a widespread belief that Africa’s infrastructure challenge could be met by private capital, the bulk of it foreign.
Just two years later and any residual notions that Africa’s private-sector investment drive will somehow remain supported by foreign capital have been dashed. The higher cost of bank capital globally and risk aversion among foreign lenders has undermined the investment case for many projects, while those with high up-front construction costs and lower margins are being snubbed as competition between global banks falls away.
According to the latest data available from the World Bank, just three projects closed in sub-Saharan Africa in the third quarter of 2009. This brought total activity in the region in the first three quarters last year to 13 projects, with investment worth $1.4 billion, down 34% over the same period in 2008.
While western banks wake up to a tough new world of tighter regulation and expensive credit, analysts don’t expect their appetite for frontier project finance to return any time soon. “Before the crisis, banks funded themselves largely from short-term money markets and used that capital to lend long term. But that link is fundamentally broken now – and hit project finance heavily,” notes the head of project finance at a Japanese bank.
Simon Jackson, syndication and co-financing officer for AfDB, says: “The next round of regulation is likely to require banks to match more closely the tenor of their assets and liabilities, which would have serious implications for project finance.”
The western project finance market – with its high degree of leverage and sometimes slack covenants – was one of the casualties of the global crisis. But the irony is that African project finance, in contrast, has remained relatively resilient, says Chris Sutcliffe, Standard Chartered’s regional head of project finance syndication for Europe, Africa and South Asia. “Credit structures remained generally robust, without ever becoming racy or stupid, so there has not been a need for dramatic tightening [of credit standards].”
That said, Sutcliffe notes that higher liquidity premiums, tighter credit standards and the greater bargaining power of lenders over developers and public clients have conspired to increase costs – and transaction times.
“Credit departments are more thorough, and it takes more time to get through. Before, if we were mandated lead arranger we could get responses from other banks within four weeks. That has now tripled to three months,” he says.
The crisis has intensified Africa’s reliance on multilateral lenders in the face of dwindling private bank participation. Bill Appleby, Citi’s head of infrastructure and energy finance for Europe, Middle East and Africa, says: “The most significant change to the project finance market has been the reduction in the number of players and consequent reduction in capacity.
“A lot of banks have struggled through 2008–2009, and now they have more aversion to committing long-term capital. The multilateral agencies and export credit agencies are more important.”
Those banks with project finance experience and balance sheet strength now have a competitive edge. As the 2008
crisis rolled on, Standard Chartered dished out $300 million in Islamic project financing for a container terminal at Djibouti’s main port, with the backing of Gulf banks, the AfDB and Proparco, a French development agency. Meanwhile, the World Bank’s Multilateral Investment Guarantee Agency provided insurance, establishing the framework for a new, lucrative source of financing to Africa in the form of Shariah-compliant project lending.
“The African Development Bank and International Finance Corporation [IFC] have stepped up to the plate when the commercial banks largely withdrew to their home markets. We are still there and hoping to do more,” says Jackson at the AfDB, buoyed by an expected three-fold increase in its capital base.
Meanwhile, the IFC last month agreed to invest in a $100 million Africa Infrastructure Investment Fund. This equity fund plans to raise $600 million–$1 billion in unlisted equity and equity-like infrastructure investments, including toll roads and wind power farms, the IFC said.
But elsewhere, the headline figures for development finance institutions (DFIs) are disappointing, according to Dirk Willem te Velde, economist at the Overseas Development Institute. He says part-privatized western DFIs reduced their investments last year and failed to offset the decline in western bank finance. FMO, a Dutch public-private development bank that finances infrastructure, saw a 30% decline in new investments in 2009, while UK government-backed Capital for Development (CDC) cut back new infrastructure investments by 15%.
And oft-cited angst over bureaucratic inertia at development banks continues to weigh on the market. Says Citi’s Appleby: “Multilateral finance is available; but it’s a long and tortuous process to make that capital available; it is possible if you are willing to do the work and go through the process.”
Enter the dragon
Against this backdrop, Chinese state-owned banks have smashed into the market to provide concessional lending to projects – that favour Chinese developers – from Nigeria to South Africa. Chinese financing is channelled through the country’s international lenders, including the Export-Import Bank of China, which accounts for three-quarters of the country’s infrastructure finance to Africa, according to the World Bank. The financial support is typically tied to the participation of Chinese contractors and offers loans in which repayment takes the form of natural resources. Since China’s avowed push in 2006 to ramp up lending to Africa, a burst of headline-grabbing promises from Chinese leaders has buoyed the market. Most recently, China in November said it would offer Africa $10 billion in concessional loans over the next three years.
In January, China announced a flurry of infrastructure deals on a whirlwind tour of the continent, including a $7 million grant to Kenya. The east African nation said at the time the loan would be used to develop a second port in Lamu to connect the country with Ethiopia, Rwanda and southern Sudan – which would provide a route to export Chinese-funded oil supplies in the conflict-ridden state.
The frenetic pace of this type of Chinese lending – which has sparked fears that debt sustainability, governance and environmental protection in the continent could be undermined – is a boon for Africa’s project-hungry policy-makers. What’s more, it’s unlikely to crowd out traditional financiers and could even induce private sponsors, says Riaan Meyer, researcher for a China in Africa project at the South African Institute of International Affairs.
“Chinese financing and government involvement are akin to multilateral agency support – banks welcome them. Instead of crowding out the market, they add to the credibility of the project,” says Meyer.
But even if Chinese lenders continue to step up their funding, the continent’s needs remain vast. According to a ground-breaking World Bank study last November, the region’s decrepit infrastructure – electricity, water supply, roads and information and communications technology –cuts national economic growth by 2% every year and reduces business productivity by as much as 40%. The study estimates that $93 billion is needed annually over the next decade – twice more than previous estimates. Almost half of this amount is needed to address the continent’s current power supply crisis.
According to Katherine Sierra, the World Bank’s vice-president for sustainable development, only one in five Africans has access to electricity while 30 countries typically face blackouts due to a lack of generating capacity. As a result, regional solutions are urgently needed for water and transport, she says.
Promisingly, the World Bank study found that a number of efficiency innovations could expand available financing resources in Africa by $17 billion. But the aggregate annual infrastructure investment target amounts to roughly 15% of the continent’s gross domestic product (GDP) – a tall order given Africa’s illiquid banks and capital markets. What’s more, a large portion of funding is needed to finance electricity, power and water infrastructure in fragile states. As a result, China’s infrastructure investments, which primarily focus on resource extraction, cannot plug the region’s vast infrastructure deficit.
Banking on the banks
Bank finance is urgently needed to fill the hole in the heart of the continent. Natural resources investments, which are driven by hard currency revenues, remain the focus for western commercial banks and Chinese lenders. Meanwhile telecommunications – which has seen a boom in the continent – offer transactions with shorter tenors, since profits and payback can be fast, say bankers. But roads, ports, railways, water and electricity have proved harder to finance due to poor regulatory regimes, limited deal flow and the length of the concession life.
What’s more, projects such as sewage or power plants frequently require international hard-currency financing to pay for foreign equipment. But such projects typically generate local currency revenues. As a result, the familiar emerging market risk, whereby lenders face a currency mismatch between their assets and liabilities, is creating havoc – and requires battle-weary bankers to knock on the doors of multilaterals. Citi’s Appleby says: “Project financing of domestic infrastructure in Africa, such as a power station or other project funded by domestic income streams, is almost certain to require support from multilaterals or export credit agencies.”
And therein lies the problem. Unless Africa mobilizes domestic finances and raises funds globally, a prolonged reliance on multilateral banks will torpedo the region’s ambitious infrastructure investment drive.