Last week, Nigeria's Debt Management Office (DMO) successfully raised a ₦100 billion Sukuk bond with the stated objective of funding the construction/rehabilitation of high-impact roads across the country. It is also expected to help diversify funding sources for the government by providing ethical investors with an opportunity to buy government debt.

In spite of the recent dalliance with a recession, Nigeria debt remains an attractive proposition with its high yields. It is, however, an inauspicious time for taking on costly public debt; National Bureau of Statistics (NBS) just released a report showing that Nigeria's public debt has grown by about 50% in the last two years, with the Federal Government the chief beneficiary. This, coupled with the comments by the Monetary Policy Committee member Doyin Salami on Central Bank of Nigeria (CBN) lending to the Federal Government, has put Nigeria's debt management firmly in the spotlight.


The Good

Since the DMO was set up in 2000, Nigeria's debt management has been managed with more transparency, clarity and efficiency. Crucially, the DMO helped transition Nigeria away from foreign debt to naira-denominated borrowings, thereby retaining a greater control of its destiny and helping develop Nigeria's bond market to one of Africa's largest.  

With the recent Sukuk sale, the DMO has opened another door in the Nigerian debt market, pertinent at a time when government debt crowds out the private sector. Moreover, the Sukuk takes advantage of Nigeria's large Muslim population, creating an investment device these investors prefer to conventional debt. The bond was effectively structured in line with guidelines for an Ijarah Sukuk bond, with a special purpose vehicle (SPV) named 'FGN Roads Sukuk Company 1 PLC' created to serve as the investment entity for investors. In line with Ijarah guidelines, the target projects have been specified (25 high-impact roads across the country). As the borrowing is project-specific, there is a greater assurance that funds would be utilised judiciously, at least compared to conventional federal government bonds with weaker guidelines.  

At less than $330 million, Nigeria's Sukuk barely dents the global market – estimated at $349 billion in December 2016 – but is a good omen as such instruments are seen as key components of the next frontier in finance. With the largest Muslim population in Sub Saharan Africa, Nigeria could become a hub for Islamic Finance in the region, spearheaded by the efforts of the DMO, supported by the CBN and SEC. This development could provide positive knock-on effects for the local financial services industry and the economy as a whole. Good omens indeed.  


The Not So Good

Nigeria's weak economic position continues to hamper her ability to raise cheap debt, particularly in local currency. At a rental rate of 16.47%, Nigeria has by far the highest profit rate globally. This high cost of capital is a function of Nigeria's poor sovereign rating and perhaps more critically, high yields on conventional federal government bonds, as well as the CBN's Monetary Policy Rate (MPR) which is set at 14% in its battle to control inflation. Considering that relatively lower oil prices and volumes are depressing the country's revenues, high debt servicing cost is a worry. In 2016, debt service to revenue ratio was a whopping 47%, which explains why the budget deficit keeps increasing, a real Catch-22 situation.

This makes the choice of a Sukuk a bit strange at this time as Sukuk's are typically more expensive for the issuer than conventional bonds as they are largely illiquid, i.e. not enough of a secondary market that allows trade. This Sukuk bond is technically the most expensive initial issue by the country; in comparison, a conventional 10-year bond was raised in March 2027 at a rate of 16.2884%. Despite efforts to ramp up tax revenue through the Voluntary Assets and Income Declaration Scheme (VAIDS), it is not expected that a truly significant increase in tax revenues will be realised in the short term. With this in mind, Nigeria can ill afford to have a high cost of borrowing and get locked into a debt service spiral that may make it difficult to address key programs. Nigeria must simply find a way to lower cost of debt, a particular challenge given the CBN retains a high MPR to tackle high inflation. 


Cause for Concern

The Sukuk issue raised more than just economic considerations. The claim by the Christian Association of Nigeria (CAN) that the issuance of a Sukuk bond is part of plans to Islamicise Nigeria brought Nigeria's religious divide sharply into view. Right on cue, the Nigeria Supreme Council for Islamic Affairs responded, accusing CAN of Islamophobia. Given the state of the nation and the fact that existing divisions have become even more pronounced in recent times, such reactions are unsurprising. Considering this, the DMO ought to have done a bit more to educate, inform and consult to manage the potential negative feedback.

Sukuk financing offers a great financing opportunity not just for the government, but the private sector as well. Seen purely for what it is i.e. a financial instrument for raising capital, it is fairly straightforward with very sensible covenants that would not be out of place in conventional bonds. While it is clearly an Islamic Finance product and therefore required to be Sharia compliant, it does not impose any restrictions on issuer or investor beyond the transaction at hand, as with any other financial instrument. With the success of the first issue, one can expect more to come, and it would be counter-productive to have a program that inadvertently excludes a segment of the populace simply due to lack of information and misconceptions.


Final Analysis

There is no doubt Nigeria's growing debt is a cause for concern, both in quantum and cost terms as discussed above. Additional expensive debt is therefore not an optimal approach to dealing with this. However, having access to the Sukuk market is more than welcome for Nigeria. If managed appropriately, this will further deepen the Nigeria debt markets and help wean the government off CBN-financing for funding the budget deficit.

From an accountability standpoint, the Sukuk design that requires target assets or projects to be identified as a basis for the investment is of great value in a country where most of the borrowing is usually for capital projects but gets diverted to paying salaries and repaying older debt!

A good start for sure, but it must be back to the drawing board to ensure the next outing addresses the identified gaps and takes a few more steps forward in establishing Nigeria as a key player in the Sukuk market.


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