Africa Business: Debt Capital Comes of Age

One of the most striking signs of the African continent’s growing economic maturity is the rapidly growing use of bond issuance. Governments and large companies increasingly use debt capital markets to fund spending plans, thereby promoting sound economic management as a result of close monitoring of their financial affairs by international investors. As sovereign and corporate bonds become more commonplace and African economies continue to strengthen, yields should fall, gradually making bonds a cheaper form of finance.

However, there is still a very long way to go before Africa’s capital markets, in all their forms, rise to the levels of other emerging markets. Nevertheless, South Africa has been admitted to the World Government Bond Index (WGBI) which will allow more foreign institutional investors to dip their toe in the promising African market and provide the country with much-needed funding for its development plan.

We also look at the current parlous state of Nigeria’s capital market and interview the CEO of the Nigerian Stock Exchange on plans to transform the organisation into a 21st century institution.

International financial organisations are certainly leading the way on the use of debt capital markets on the African continent. The African Development Bank (AfDB) has issued bonds denominated in or linked to the Botswana pula, Ghanaian cedi, Kenyan shilling, Nigerian naira, South African rand, Tanzanian shilling, Ugandan shilling and Zambian kwacha. It is also now authorised to issue bonds in more than 15 other African currencies.

For its part, the International Finance Corporation (IFC) has already issued local currency bonds in Morocco, the Western CFA zone and the Central CFA zone. It plans to issue local currency bonds in Kenya and Nigeria, and is in talks over obtaining consent for further bond issues in Botswana, Ghana, Kenya, South Africa, Uganda, and Zambia.

At the start of June, the AfDB and IFC signed an agreement on cross-currency swap transactions to ease bond issuance and lending in African currencies. The AfDB’s vice president for finance, Charles Boamah said: “Promoting the development of local capital markets in Africa is paramount to successful, sustainable economic development. This agreement supports our African Financial Markets Initiative, which aims to further the development of domestic African capital markets, enlarge the investor base, and reduce African countries’ dependence on foreign currency denominated debt.”

East African promise

The governments of Kenya and Uganda were about to launched 10-year bonds. The Central Bank of Kenya hopes to raise KSh5bn ($59m) from the 10-year bonds and a further Ksh4bn ($24.5m) from 91-day and 182-day treasury bills. Its issue of five-year bond was oversubscribed by 104% and raised $35m.

The previous Kenyan 10-year bond issue, in July 2011, is now trading at about 14.2%, slightly above government forecasts. According to figures from the Central Bank of Kenya, government debt increased by $1.4bn in the year to the end of May 2012 and Treasury bonds accounted for $1.1bn of new lending.

Income from the bond, which will be listed on the Nairobi Securities Exchange (NSE), will be used to help fund the government’s newly announced $17.2bn budget, which is the biggest in Kenyan history.

The government justifies the acquisition of debt to fund its activities on the grounds that 34.3% of the budget will be spent on infrastructural projects and education.

NSE performance has improved during the course of this year. A statement from the exchange revealed: “The bond market performance was up by 31% to $553m in May from $435m recorded in April. The best-performing bond this month traded at Ksh225bn ($1.4bn) on a high yield of 16.25% and low yield of 12.20%.”

Kampala too is making use of bond finance, again arguing that investment now will improve the country’s long-term economic prospects. In June, the Bank of Uganda offered USh100bn ($40m) each of ten and three year bonds. A spokesperson for Barclays Bank Uganda said: “We do expect yields to go down in the three-year bonds and we expect them to come out at levels of around 14.9%, roughly where it’s been trading in the secondary market.”

Pretoria on top

Despite the emergence of other bond markets, Pretoria remains the predominant issuer of debt capital in sub-Saharan Africa.

Large South African state-owned or partly state-owned companies are increasingly turning to debt capital in order to secure funding for long-term infrastructural projects. The government is keen for its parastatals to operate on a more commercial basis, meaning that they must look to the markets for finance, rather than to government support.

Telkom aims to invest R18-22bn ($2bn-$2.7bn) on capital projects over the next three years, of which R4-6bn ($483m-725m) will come from debt capital markets. Telkom is the biggest land-line operator on the African continent but recorded a 33% fall in income for financial year 2011–12.

Transnet too is expected to return to the bond markets, particularly because it needs up to R100bn ($12bn) to fund the transformation of the defunct Durban airport into Africa’s biggest container terminal. The AfDB and other international organisations may provide some of the required finance but debt capital markets will certainly make a big contribution.

US firm Citigroup announced in April that it would include South African government bonds in its World Government Bond Index (WGBI) from October onwards.

South Africa is the first African state to be included in the WGBI and the 23rd overall. It could now benefit from increased interest from institutional investors, particularly those who offer WGBI trackers, despite the fact that all three global credit rating agencies have placed South African sovereign debt on a negative outlook. A total of 11 South African bonds with a combined market value of $83bn will be included in the index.

The South African government’s decision over many years not to overstretch its finances in an attempt to fund social improvement projects has been criticised by many within the country. However, the impact of the 2008–12 global economic storm and now its inclusion in the WGBI have demonstrated the value of this strategy.

The South African Treasury reported that its bond market had attracted widespread foreign investment and added: “These inflows have been a direct benefit of prudent fiscal and macro-economic policies that have helped to cushion South Africa against the worst effects of the global financial crisis.”

Citigroup revealed that governments must qualify on three counts for inclusion: a minimum market capitalisation of $50bn, credit worthiness of at least A-/A3 and the absence of any barriers to entry. Even if other African governments achieve the last two criteria, the size requirement may be difficult to overcome.

The global head of index, Ernest Battifarano, said that the decision was “a big milestone for the WGBI as we continue to diversify our coverage. Investors who have not previously considered South Africa may tap into this exciting and developing market”.

Although it is not one of the world’s most buoyant emerging markets, South Africa is regarded as a halfway house between the industrialised and developing worlds. It is also sheltered to a large extent by ongoing economic uncertainty in the Eurozone. In addition, South Africa’s 20-year benchmark bond currently offers an attractive 8.8% yield.

Local governments in South Africa are now also beginning to secure access to funding through debt capital markets. Tshwane Metropolitan Council, which includes Pretoria, planned to issue its first bond to raise R1.5bn ($181m) in June.

Executive mayor Kgosientso Ramokgopa said: “This implies that there will be greater transparency on all policy positions and decisions that the city makes. It will also provide the city with an opportunity to share with investors its long-term plans to achieve financial sustainability and provide much needed services to its citizens. The city is a safe investment. Not only are we saying it ourselves, but this is confirmed by our trading rating agencies, as well as the sustained unqualified audit reports.”

The council believes that recourse to the bond markets will reduce its funding costs in the future. Ramokgopa added: “The city intends to fund, in the medium term, up to R10bn ($1.2bn) from the capital markets. This figure is only a drop in the ocean, given all the backlogs the city has to address in the area of expanding of infrastructure, provision of housing, formalisation of informal settlements and public transport.” It will be interesting to see whether municipalities elsewhere on the continent take the same step as Tshwane.