Laos new

Laos has overcome a number of issues to bring itself into the capital markets, but needs to be wary of taking on a bigger burden than it can handle. Peter Janssen reports. 

While the Covid-19 era has led to hikes in public debt across the board among south-east Asian nations, as governments primed their economies and provided relief packages during the lockdowns and resulting slowdowns, only Laos suffered a sovereign credit rating downgrade in the region during the two-year period.

In August 2020, Moody’s downgraded its sovereign rating for Laos to Caa2 with a negative outlook, a rating that heralds a high likelihood of default on outstanding debts. This was followed by Fitch Ratings’ downgrade in September 2020 from B– to CCC. Ironically, both international credit rating agencies had been brought in to help the Ministry of Finance Laos (MOFL) extend its bond reach to international markets. Instead, the downgrades have made bond issuances that much more difficult and interest rates that much higher in the years ahead. 

In 2020, Laos’s public and publicly guaranteed (PPG) debt reached $13.3bn, or 72% of its gross domestic product (GDP) of $18.5bn, according to MOFL data. It should be at a similar level in 2021, when GDP was expected to grow 2.3%, compared with 0.5% in 2020. The amount is hardly huge by global standards but it is a significant burden for Laos, a land-locked communist country with a population of 7.3 million which ranks among the lower middle-income countries. Laos’s external public debt service reached 39.2% of the government’s total revenues in 2020, and is expected to average $1.3bn in payments coming due each year between 2021 and 2025, of which more than half are on commercial terms, according to the World Bank’s latest economic report on Laos, dated August 2021. 

“Total PPG debt service is expected to reach 52.5% of total public sector revenue in 2021, well below the low-income countries’ indicative threshold of 14%,” said the World Bank report. Laos’s fiscal deficit has narrowed slightly from 5.2% in 2020 to about 4% in 2021, due to improvements in revenue collection and curtailed spending, but remains high. “Given high fiscal deficits, total PPG has reached critical levels, jeopardising macroeconomic stability,” warned the World Bank. 

Accessing the capital markets 

How did communist Laos become so beholden to the world’s capital markets? The genesis dates back to 2009, when there was talk of Laos graduating from low-income to lower-middle-income status, threatening to undermine its favoured status for concessional lending from multilateral donors such as the World Bank and the Asian Development Bank (ADB) and bilateral donors. Prior to 2010, overseas development assistance (ODA) commonly accounted for up to 70% of the Lao budget spending. Meanwhile, the Lao government was keen to develop the economy, especially by promoting investments in hydroelectric projects to exploit the mountainous country’s vast water resources and achieve the government’s goal of turning Laos into “the battery of south-east Asia”.

The immediate implication for debt on the sovereign balance sheet is not large

Jeremy Zook

A senior economist at a development bank in the capital city Vientiane says: “The economy was growing fast, relative to the budget, and the ODA could not keep up with demand. The World Bank, ADB and all the development partners could not meet that demand.” So, Laos began to look elsewhere to finance its infrastructure developments. In 2010, the ADB suggested the government look into the bond market, but its initial efforts fell afoul of Laos’s lack of a sovereign credit rating at the time, and a requirement for ‘secured’ bonds — i.e. asset-backed bonds — in case of a default.

Enter neighbouring Thailand and the pioneering Twin Pine Group, a Bangkok-based financial advisory operation founded by CEO Adisorn Singhsacha, a former treasury head at HSBC Thailand from 1994 to 1999. During 2012, Mr Singhsacha realised that Thailand’s aspirations to become a financial hub for the Cambodia, Laos, Myanmar and Vietnam region and Laos’s interest in launching bonds was a good match. “This was the strategy of the Stock Exchange of Thailand and the Bank of Thailand, and these guys were drawing up the foreign bond concept,” recalls Mr Singhsacha.

By then, Thai authorities were allowing unrated foreign sovereign bonds to be sold on the Thai market, but only to high-net worth individuals and corporations. Twin Pine helped the MOFL get its books in order for its first bond issuance in May 2013, underwritten by the Thai Military Bank. “The MOFL was sovereign, so it didn’t need to be rated,” says Mr Singhsacha. Twin Pine arranged three issuances for the MOFL in 2013 to 2014, in baht, with a 4.5% interest rate and totalling $137m. 

Then in 2014, Thai authorities relaxed their rules on foreign corporate bonds, allowing issuances on the Thai market as long as they had investment grade rating BBB+ from the Thai Rating and Information Services rating agency. The only qualifier in Laos was Electricite du Laos Generation (EDL-Gen), a subsidiary of the state-owned Electricite du Laos (EDL). A 25% stake of EDL-Gen was listed on the Lao Securities Exchange in January 2011. With 50% of the market’s capitalisation, EDL-Gen has been dubbed Laos’s sole ‘Blue Chip’. 

Twin Pine regularly arranged new bond issuances for the MOFL and EDL-Gen until 2018, when the alarm bells started ringing over Laos’s rising public debt. MOFL’s bonds outstanding peaked at $1.6bn in 2018, and after several redemptions between 2019 to 2021, now stands at $995m. EDL-Gen bonds, which are not government guaranteed, were at similar levels. In 2020, Lao bonds accounted for about 13% of Laos’s external public debt stock. 

In June 2021, Laos redeemed a three-year $150m bond it had listed on the Singapore Exchange, arranged by the New York-based Oppenheimer Holding, with a 6.875% interest rate. Thereafter, two Thai baht-denominated sovereign bonds worth some $156m, arranged by Twin Pine, were redeemed in October and November. “[MOFL’s] intention has always been — how can we do our best not to default on the bonds,” says Mr Singhsacha.

“I think they introduced more discipline after the bond issuance,” he adds. “It’s not like ‘Big Brother’ ODA giving aid money anymore. It’s the capital market.” Last year, Twin Pine arranged two more bond issuances for EDL-Gen worth Bt5bn ($153.5m), at 5.9% interest rate, and this year it is planning to arrange new issuances for the MOFL. 

But barring Thailand, the international market for Lao bonds seems to have dried up. Oppenheimer attempted to raise a $350m Lao bond on the Singapore market in early 2021, but failed to garner enough interest. “Although the government has, in the past, been successful in tapping international creditors for foreign currency denominated funding, it does not have a broader track record of being able to exercise a wide range of options for external financing,” says Anushka Shah, vice-president, senior analyst at Moody’s Investors Service in Singapore. “Strained relationships with multilateral development partners leave bilateral funding, particularly from China, as the most viable source of non-commercial funding going forward.”

Another source of debt

Besides bonds, Laos’s other main source of recent borrowing has been from China, a fairly new development over the past decade or so that promises to accelerate in the future given the growing investments by China in its southern neighbour. “China is the largest lender and accounted for 47% of total public external debt in 2020,” said the World Bank’s August report. “Of total China borrowing, three-quarters was on concessional terms, down from 86% in 2016. Almost half of the debt repayment over 2021–2025 would be owed to China.”

China has replaced Western ODA as the main financier of Laos’s future development. The latest example is the $5.9bn China–Laos railway project that was launched on December 3, 2021, providing a medium-speed train link between Kunming, China, and Vientiane. Given Laos’s already high public debt and the dubious economic returns on the project, the railway has raised alarm bells over a Chinese ‘debt trap’ for Laos. With the way the finances have been structured for the 30/70 Lao–Chinese joint venture behind the project, the government-guaranteed portion of the debt is only $720m, of which $470m is in the form of a loan from the Export–Import Bank of China, at 2.3% interest with a 35-year maturity after a five-year grace period.

“The immediate implication for debt on the sovereign balance sheet is not large,” says Jeremy Zook, analyst for Laos at Fitch Ratings in Hong Kong. Chinese appraisals of the project predicted a 3.9% return on investment, which is low. “But the bigger question is in terms of the ultimate profitability of the railway,” he says. “There is not a direct government guarantee by the government on the debt, but it may be an implicit guarantee that Laos may have to step in if things don’t go well ... That is the question: how big of a contingent liability is it for the government?”

But Laos’s current level of public debt has little to do with the railway, and a lot more to do with electricity generation. “The energy sector, mostly represented by EDL, plays an important role in public debt accumulation and debt service, accounting for 36% of the total PPG debt outstanding in 2020,” said the World Bank. “As EDL’s financial status deteriorates, the company’s inability to repay its debt translates into a direct fiscal burden for the government.” 

One must distinguish between EDL debt and EDL-Gen debt. EDL is 100% owned by the MOFL. EDL-Gen is 51% owned by EDL, 25% owned by stock investors and 24% owned by a Lao private company with investment in hydropower in Laos and Vietnam. EDL-Gen debt is not deemed government-guaranteed debt; therefore, EDL-Gen’s bonds are not government guaranteed. “From the onset they said [EDL-Gen] should not have a government guarantee, otherwise it doesn’t free up the MOFL,” recalls Mr Singhsacha of Twin Pine.

It will be important for Laos to reduce non-concessional borrowing, which compounds the already difficult debt situation

Alex Kremer

In addition to EDL-Gen, EDL set up a new subsidiary in 2020 called EDL-Transmission as a 90/10 joint venture between the China Southern Power Grid Company and EDL. Given EDL’s financial constraints at present, the joint venture should help the government to extend its grid, allowing Laos to expand its electricity export market to neighbouring China, Cambodia and Vietnam. Laos’s electricity exports in 2021 amounted to more than $2bn, with about 90% going to neighbouring Thailand.

The EDL joint venture is deemed a positive for Laos economically in the short term, but also as another example of Laos’s growing dependency on China. “So just being able to better build up the infrastructure, I think, will be a positive,” says Mr Zook. “And for the sovereign it has provided a short-term liquidity boost, since there was an upfront fee that was paid for the rental of the existing transmission lines that would give the sovereign about $600m up front and an annual fee thereafter.” But, he adds, “besides the potential political cost, they will lose out on some of the benefits coming from these assets over the longer term.” Luckily for the Laos government, there is no political opposition to raise objections to such projects and popular descent is muted. 

The government’s options

The Lao government’s approach to tackling its mounting public debt has been to boost revenue collection and clamp down on unnecessary expenditures. The government has also sold off some of its unprofitable state-owned enterprises to raise funds and reduce losses. It has vowed to bring the public debt-to-GDP ratio down to 65% by 2025, a target most observers deem “ambitious”. It has also been getting closer to its main benefactor, China.

Besides the massive joint ventures with China in railway and electricity transmission, there are signs that Chinese banks have already cut Laos some slack and are quietly restructuring bank debt. “As we have already seen in 2020, the repayments to China come to essentially zero, when it comes to principal payments,” says Mr Zook. “So it does seem there has already been some sort of deferment of principal payments in the near term.”

But it could do a lot more, according to some observers. “Laos can strengthen its creditworthiness by improving debt transparency, raising more revenue, resolving the financial difficulties of EDL, enhancing scrutiny of public investment proposals, and committing to a growth-friendly fiscal strategy focused on building human capital,” says Alex Kremer, World Bank country manager for Laos. He adds: “It will be important for Laos to reduce non-concessional borrowing, which compounds the already difficult debt situation. There is a strong case for tapping into concessional lending to finance projects with strong economic returns.”

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