Africa has great potential, and it will still have great potential in 50 years’ time, quip the cynics. But although the continent has boundless resources, impressive economic growth rates and enormous reserves of oil, gas, coal and hydro-power, the energy sector seems to prove the naysayers right almost every time.
Much of the continent has no electricity or, more recently, suffers intermittent ‘load shedding’ power cuts that have become a source of inconvenience and annoyance, the butt of jokes and an economic time bomb. The power outages are affecting every layer of society, from Johannesburg’s plush shopping malls, faced with a shoplifting free-for-all unless they evacuate their stores because of security device failures, to the small-scale farmer in the bush in Zambia, who has saved up for a television and was becoming enfranchised by watching the nightly local news, but now has to revert to candle power.
There is chaos as traffic lights go out, hospitals are relying on generators and the emerging middle classes find that their new household gadgets are unusable for hours on end. And the implications for stoppages in the mining sector and the inability of commercial agriculture to irrigate its crops is enormous.
The shortfall came swiftly and, to many, unexpectedly. Although the experts had been forecasting a shortage for some years, utilities, ministries, decision-makers and politicians would not, or could not, make the crucial long-term decision to invest in the sector sufficiently early to head off the crisis.
Forecasting such things is notoriously difficult. A back-of-the-envelope calculation would suggest that South Africa alone needs an extra 30 gigawatts of power over the next 15 to 20 years to supplement its existing 40 gigawatt supply. And that would require about $76bn of funding, according to Paul Eardley-Taylor, senior vice-president for debt and infrastructure at HSBC Africa, who is advising South African utility Eskom.
Power shortfall
Extrapolating that calculation to the rest of the continent, however, is less easy. Once additional power comes on stream, it stimulates economic activity and demand for electricity grows still further.
“Nigeria’s economy is undoubtedly held back by lack of power,” says Mr Eardley-Taylor. Kenya, Uganda, Tanzania and Angola, among others, also need additional power, he says.
While South Africa dominates the southern Africa power pool, the Southern African Development Community (SADC) region does not have as much of a shortage as west Africa, where megawatts per capita are one-20th of those in South Africa. The difference is that Nigeria is more willing to accept private sector investment and is working on a privatisation plan for the entire sector, says Jonathan Berman, principal of boutique investment bank Fieldstone, which specialises in energy sector advisory work.
The problem boils down to politics. “You have a problem caused by neglect and ignorance of advice for numerous years within the countries,” says Mr Eardley-Taylor. “There is nothing surprising here. It has happened because of neglect, chiefly by the stakeholders who, for their own reasons, want the short-term benefits of low electricity prices. The price of this is going to be a colossal increase in infrastructure costs in 10 to 15 years’ time.”
As governments across the continent face the perennial dilemma of short-term political expediency versus long-term planning, and often opting for the former, the role of the private sector is being hotly debated. The number of power plant developers and operators worldwide is small, with Chinese operators starting to make inroads into the market. And unless the deal stacks up, they will not play, as graphically illustrated in April when US power producer AES Corporation pulled out of a R5bn ($663m) deal, which would have been South Africa’s first independent power producer (IPP) contract, over concerns about viability.
The bottom line for power projects is getting the right documentation in place in terms of power purchase agreements, generating licences and environmental approvals. Financing can only come once that is sewn up.
Bureaucratic foot dragging
“It is a busy space at the moment,” says Mr Berman. “I have not seen a well-structured deal fail to raise finance; the problem is getting a well-structured deal. It is not unique to Africa, but things do not move as fast; the decision-making process has not been great but the South African crisis has given the sector a big kick.”
The red tape adds another crucial issue that is critical to funding: big-ticket equipment supply costs in the global power sector are rising by 15% to 30% every year. This means delays and bureaucracy can throw the numbers out wildly and make for a difficult moving target in terms of getting any funding deal completed.
“The value of projects is going up because of the international demand for equipment. Their order books are full so contract pricing is at a premium these days and it can cause the project value to come out substantially higher than anticipated. That is making deals much harder to arrange and underwrite, especially in the regional context,” says Phil Edmunds at the infrastructure finance division of Rand Merchant Bank.
And with even the fastest power station build taking 18 months, more privatisation in the region is one of the keys to finding a solution to the problem, says Mr Berman.
The political expediency of short-term fixes and cheap electricity tariffs hits international investor and lender requirements head on, and this lies at the heart of the problem for bankers. “Power prices in southern Africa have been too low for a long time and they have to go up, regardless of privatisation” says Mr Berman. “Someone has to plug the gap as that has been an inhibitor of development. I do not think it is because the consumer cannot or will not pay; a lot of potential consumers are just not connected.”
The sentiment is echoed by Anand Naidoo, head of power and energy at Absa Capital, who says: “A number of power utilities are not in the best of financial condition because governments or regulators are not allowing appropriate tariff increases. To ensure power utilities are viable they have to radically increase tariffs by above inflation.”
That requires good regulatory frameworks that recognise the need for gradual increases in tariffs long before new plants are even built. “We have learned this lesson the hard way all over Africa,” says Mr Naidoo.
Country risk
The biggest single risk still remains country risk, according to Mr Berman. “It is also the biggest driver and biggest differentiator of risk and return,” he says. “Government interference is the biggest risk. However, experience so far has been good.”
Mr Berman says that he is only aware of two projects facing difficulty and neither ran into trouble as a result of country risk. “Look at the UK: investors have lost billions of pounds through regulator interference,” he says.
For Mr Naidoo, the biggest issue is the lack of a proper regulatory framework in most countries. On the crucial project tender processes, “it is a combination of getting the right advisers and having a proper timeline that allows IPPs to get a decent rate of return”, he says.
Credit quality is another important factor. With a BBB+ sovereign rating, South Africa is “okay” by international standards, says Mr Eardley-Taylor. “Where it gets harder is the sub-investment grade. We think that deals in Nigeria, Ghana and Mozambique can get done. It is just a question of how the stakeholders want them to be done and what they are prepared to do.” He says that part of the problem seems to be a lack of benchmarking.
There are also diverging views of how the two sectors – energy and Africa – should be viewed. Mr Eardley-Taylor believes strongly that there is a well-established global model for the power sector and a well-structured deal is a well-structured deal, be it in Lagos or Manila. There is a handful of specialist power equipment suppliers, contractors and developers in the world, and investors also tend to be familiar with the market from a global perspective.
“If you take it for what it is, why should remedies and solutions for these rating categories be any different just because it is Africa? These are complicated specialist disciplines and if you want to do them you have to do it right,” says Mr Eardley-Taylor. “We would look at a transaction in the same way as we would anywhere else. There are no unique or charity cases. You start with the fundamentals of the economy.”
All this points to the need for a bank with an international perspective and specialist power sector experience on the advisory side, he says.
Local banks lack expertise
“It is hard to see local banks there unless they buy people in from outside,” says Mr Eardley-Taylor. “It is hard to see them contributing the advisory expertise; they just don’t have the data points. The top-flight South African banks could possibly do it, but they would not have the Asian, Russian and Saudi experience.”
Current work is very much on the advisory side, and hard funding deals are still few and far between. But, from a funding point of view, the big local banks could have an edge, certainly in South Africa where Eskom insists on rand-based power purchase agreements (PPA).
“South Africa is a bit of an exception. The rand is deep but not deep enough, so the local banks will play the biggest role as we have got the rand. International banks can assist with risk management and participating in structuring the project,” says Mr Naidoo.
“In the rest of Africa, there is no way that local markets can fund these projects so they have to be dollar funds with dollar PPAs. There is no other way to get those projects off the ground,” he says.
Rand Merchant Bank’s Mr Edmunds sees this going a step further. “With deals getting bigger, banks need to start working together because they are not always able to underwrite a big deal on their own. That also tends to make the financing less competitive but, with international banks coming in, it tends to increase competition, so there is a balance,” he says.
| Gerrit Kruyswijk, head of energy project finance at Nedbank Capital, is equally pragmatic. “Power projects require large amounts of capital, long tenors and clever structuring. International banks will inevitably be required to add to the South African pool of funds,” he says. “Also, Eskom has not used project finance for its funding requirements and hence the local banks are not as experienced in structuring power projects as their international counterparts. |
“Partnering with international banks in joint arranging mandates brings the international experience into the South African market which will benefit lenders and borrowers alike.”
Difficulties also start to arise as projects grow in size, with investors needing to gain confidence gradually, rather than being confronted with a sudden one-off mega deal. Mr Eardley-Taylor says Abu Dhabi’s approach of going back to the market over several years, gradually increasing the size of the deal with each new power plant, is a better approach than that of, say, the massive $80bn Inga hydropower scheme in the Democratic Republic of Congo.
Multilateral donors
The role of development agencies, such as the World Bank, the International Finance Corporation (IFC) and the African Development Bank, has raised ire among some commercial bankers. Mr Eardley-Taylor plays down the role of multilateral donors. “They should only be in the countries that cannot raise private money,” he says. “A number of African states have more development assistance than they should have. For the credit quality they have, there is not the need for the assistance they have. The problem with these guys is timing and complexity.”
He cites the nine years it took to conclude the World Bank-funded Bujagali hydropower project in Uganda, which claims to be the largest independent power project in Africa. Any major delays can mean costs start to increase and the deal becomes in danger of collapsing.
Part of the problem with the donor institutes is tighter procurement and governance requirements on project tenders, which are of “perfectly good standard” but not up to the stricter agency standards, according to Mr Berman. Bilateral donors tend to act more swiftly than the multilaterals, he says.
Environmental and social concerns over power projects have also lengthened deal times, he says. There will be no quick fix for Africa’s power problems.
