Are project bonds the answer to emerging market infrastructure finance? The African Development Bank seems to think so. Over the weekend it called on African governments to urgently address the yawning infrastructure finance gap left by a shrinking loan market as banks abandon capital-intensive businesses such as project finance.
Sub-Saharan Africa typically needs around $90bn of infrastructure investment a year, according to United Nations research. In recent years, two thirds of this need has been satisfied, with finance from international and domestic banks and development multilaterals such as the AfDB. However, with banks deleveraging apace, the $30bn shortfall is only going to grow larger.
Project bonds are one possible solution. But they are no quick fix. The product has no real track record in the central and eastern Europe, Middle East and Africa region. Since the beginning of 2012, only Dolphin Energy in Abu Dhabi has issued a big ($1bn-plus) project bond.
The nature of project finance deals requires large sums to be drawn down at the beginning of the project — the riskiest phase of the venture, when construction is going on.
While pension funds and institutional investors are increasingly interested in buying the cashflows of mature or at least completed infrastructure assets, few are yet ready to take on raw construction risk — even in developed markets. This is why banks remain the most reliable sources of money for the construction phase of projects.
In addition, many project finance deals are government-linked. African governments must work hard to show that their domestic capital markets reach the highest possible standards before investors will feel comfortable parting with their money.
African sovereigns issuing international bonds is a good start. With Rwanda in the market for a $400m 10 year bond this week, investors will have a chance to learn the country’s story.
But, as the AfDB points out, governments must not waver from their commitment to financial market reforms, including strengthening the continent’s private sector through public-private partnerships, forging strategic links with foreign companies, stabilising interest rates, tackling inflation and creating clear regulatory and corporate governance standards.
Only with these measures in place — and with a good deal of following wind from favourable developments in project bonds elsewhere — can sub-Saharan Africa hope to develop efficient bond markets for primary infrastructure financing.