Large new financing commitments from China are unlikely to alleviate economic stress, raising the prospect of a dual exchange rate mechanism that would prove unworkable for local banks and fuel marketing.
Large new financing commitments from China are unlikely to alleviate economic stress, raising the prospect of a dual exchange rate mechanism that would prove unworkable for local banks and fuel marketing.
Gulf states have reaffirmed financial support for Egypt, yet the commitment is unlikely to be sufficient to mitigate risk of violent unrest over the next six months or facilitate a more successful offensive against the Islamic State.
The ANC party will unify in the lead-up to the 2016 municipal elections, yet pressure from political allies will intensify for President Zuma to be recalled after those elections, triggering greater political uncertainty, policy paralysis, and insecurity.
The opposition presidential election victory marks a strong rejection of President Yayi Boni, raising the risk of corruption probes into commercial interests associated to his party, though protest risks will drop.
President John Magufuli seeks to broaden his anti-corruption campaign to extend his political influence within the governing CCM party, raising risk of corruption probes in the energy and power utility sectors.
Hit by record-low copper prices and structural issues in its power sector, Zambia is struggling to keep its head above water. Melodie Michel reports.
Over the course of 2015, Zambia faced one of the most difficult times in its recent history. To begin with, the death of President Michael Sata at the end of 2014 created the need for impromptu elections at the very start of the year, costing the country unexpected public expenditure.
At the time, the unplanned expenses could have easily been compensated by copper – which forms 70% of the country’s exports and up to 20% of government revenue. But shortly after Edgar Lungu’s victory in January, copper prices began their downward tumble – from around US$5,353 a tonne that month to US$4,402 a tonne at the time of writing (January 2016).
This downturn put enormous pressure on the national currency, the kwacha, which went from ZK6,520 to ZK11,000 to the US dollar between January and December 2015. As a result, Zambia’s credit rating was downgraded by most agencies, including Fitch, which moved it from B+ to B and anticipates that the situation could deteriorate further.
Fitch Ratings director, sovereigns, Carmen Altenkirch tells GTR: “The concern at the moment is the fact that with the sharp depreciation of the kwacha and persistently large budget deficits, debt has ramped up quite quickly. So there’s a clear risk that with growth low, widening fiscal deficit and current account deficit and continued uncertainty around electricity and copper, you could well see further negative pressure on the rating.”
The country’s woes continued in September 2015, when mining giant Glencore announced that it would suspend production in Zambia’s Mopani mine and in the DRC for 18 months to curb oversupply in the copper market. The decision, which removed 400,000 tonnes of copper from the global pipeline, prompted some optimism about pricing – though fears around China’s economic slowdown have since sent the commodity back down to six-year lows.
At the time, Caroline Bain, senior commodities economist at Capital Economics, explained: “Glencore’s African operations were high cost, and they struggled a bit with sourcing energy, so this is not a panic move: these mines were struggling anyway.”
Since then, other miners in Zambia have followed suit, with London-based Vedanta planning to close its Konkola mines, and Chibuluma Mines (majority-owned by South Africa’s Metorex) announcing in December that it plans to cut output at its Chibuluma South mine by 40%.
But with production cuts comes the prospect of more than 6,500 job losses (3,800 at Mopani, 2,500 at Konkola and 263 at Chibuluma), which has stirred political unrest in Zambia, particularly as the country prepares for another general election in 2016.
The Confederation of Trade Unions of Zambia suggested in November that Glencore should have its Mopani mining licence revoked if it maintained its plan to lay off workers, while President Lungu warned that he would simply not allow the cuts to happen.
But ruffling foreign investors’ feathers might not be the best idea for Zambia under the circumstances, and the worsening of the country’s debt situation makes the government largely unable to afford keeping the mines running on its own resources.
Fitch Rating’s Altenkirch explains: “The government is in a very difficult situation – they’ve got an election coming up in August, we’ve seen large-scale retrenchment at the mines, and obviously they want to put as much pressure as possible on mining companies in order to stop them from retrenching workers. But ultimately, short of paying the workers themselves, if the miners are no longer profitable and they need to scale back operations, then they actually have little choice in terms of cutting costs.
“When Michael Sata first came into power in 2012, there was a lot of talk around nationalisation, but there was such a strong international outcry against this. This recent experience suggests that they’ve learned that international investors will look very unfavourably upon any efforts to nationalise mines or to revoke mining licences. I think it is unlikely that they would go down that route.”
The government had already experienced friction with miners in January 2015, when it eliminated corporate tax on mining but raised royalties to 20% on open-pit mines and 8% on underground ones. After threats by mining companies to shut down operations under that regime, Zambia slashed the royalty tax rate for open mines from 20% to 9%, while reintroducing corporate income tax at 30% in April. Finally, it announced last December that royalty taxes would fluctuate according to metal prices, between 3% and 9% for both open-pit and underground mines – a decision that was hailed in the industry and restored copper miners’ confidence in the country, though the rule had not yet been ratified at the time of going to press.
It is important to note that the suspension of production is only a temporary solution, and miners are investing heavily in the efficiency of their operations – Glencore alone has set aside US$950mn for the Mopani mine. And so they should: with recent cuts and the halting of most copper project developments, supply is set to reduce significantly in the next couple of years, prompting an upward trajectory of prices that will start this year to lead to a real value of over US$7,000 a tonne by 2025, according to the World Bank.
“At the moment the copper concentrate market is amply supplied so we’re not going to have an immediate impact from those decisions, but the pipeline of projects particularly after 2016 is now quite sparse and that’s the time when we would expect to see a significant impact on prices start to seep through,” Bain told GTR in September.
Contrary to what one might think, Zambia’s biggest challenge is not copper prices, but electricity shortages. The country’s power demand has been growing at an average of 3% a year, and the sector faces structural issues that will be difficult to fix.
Holding an estimated 40% of the water resources in the Southern African Development Community (SADC), Zambia has invested more in hydropower than any other electricity source in the past decade, and with good reason: a 2014 report by the Zambia Development Agency pointed out that the country had about 6,000MW of unexploited hydropower potential, while only about 2,177MW had already been developed.
But this over-reliance on hydro took a turn for the worse when drought hit the country in 2015 – its worst crisis since 1992 – leading to a power deficit of 1,000MW.
“In Zambia, as in a lot of African countries, they have, over the past five to 10 years, been investing in additional power infrastructure. The problem in Zambia relates specifically to hydropower: they invested quite heavily, because it was cheaper and renewable, but water levels at Lake Kariba have dropped and the dam can no longer generate the amount of electricity that’s required. It’s not necessarily that there hasn’t been sufficient investment – it’s just that investment has been concentrated on a specific area which it turns out is quite vulnerable to the weather,” says Altenkirch.
The situation is so bad that there is talk of having to close the Kariba North power station completely, which would remove 600MW from the power grid. It is time to look for alternative sources of power to make up for this loss, and that’s exactly what the government is doing: the Zambia Development Agency announced late last year that the country is aiming to triple its power generation in the next two years through investment in solar energy. The agency’s director general, Patrick Chisanga, mentioned ongoing negotiations with foreign investors regarding various projects, though it is unclear whether or not these deals have been concluded.
Though much less environmentally-friendly, coal could also provide part of the solution. In July 2015, the Maamba coal plant finally reached financial close after four years of negotiations, on a debt-to-equity ratio of 70:30. Estimated at US$828mn, the project will see Maamba Collieries Limited build two 150MW coal-fired power plants on the site of an existing coal mine, as well as a new transmission line to connect to the national grid, with commissioning scheduled for mid-2016.
But these measures might not be enough to curb the negative effect of lower-than-expected rainfall, as Altenkirch explains: “They’re looking at bringing additional power barges and they’re investing in an additional coal power station, emergency diesel, etc. The problem is that it’s not sufficient to compensate what they’re losing from Kariba. That’s the key risk for Zambia this year. If you don’t see rain, even with the additional power that they are bringing onstream, the situation won’t improve because they will actually be losing power.”
In the meantime, to compensate for the increased cost of sourcing power, Zambia’s energy regulator allowed state power utility Zesco to raise the average price of electricity from ZK0.31 to ZK0.88 per KWh in December 2015. The move was welcomed by the International Monetary Fund (IMF), but caused such a public outcry that it was scrapped a month later, sending the government back to square one in its search for solutions.
“Even with commodity prices where they are, if you resolve the electricity situation it will at least go part way to help improve the profitability of the miners, but the longer you sit in a situation where copper prices remain low and you don’t have sufficient electricity, the more copper miners will scale back production.
In the end, it will become more difficult for those miners to ramp up in the event that copper prices at some point begin to recover,” Altenkirch sums up.
Still, analysts remain optimistic that Zambia’s efforts will pay off eventually, and that growth will pick up alongside the copper price recovery. In its January 2016 Global Economic Prospects report, the World Bank forecasts that the country’s 2015 GDP growth, estimated at 3.5%, would be the lowest in a three-year drop from 6.7% in 2013. The organisation predicts growth of 3.8% in 2016, 5.4% in 2017 and 6% in 2018 – a sign that Zambia may soon see the light at the end of the tunnel.
Like all countries overly reliant on one commodity that comes crashing down, Zambia has begun efforts to diversify its sources of revenue. The government has identified manufacturing, tourism, agriculture and construction as priority investment sectors, and is once again betting on its relationship with China to help with their development.
The Zambia Development Agency is reportedly in advanced talks with a Chinese investor called China Africa Cotton Development Zambia to take over the closed Zambia China Mulungushi Textiles plant and support a major tourism project in Livingstone. The discussions formed part of a December trade mission involving 11 Chinese companies from the Qingdao province which resulted in the signing of a memorandum of understanding to deepen commercial ties between the two countries.
But moving away from copper won’t be easy as long as Zambia’s infrastructure remains as weak as it currently is: if there is not enough power to fuel mining operations, there won’t be enough for manufacturing either.
It is hoped the president’s recent appointment of finance minister Alexander Chikwanda as chairperson of the new Public Private Partnership (PPP) Council, widely seen as an effort to boost the efficiency of the country’s PPP scheme, will help in terms of reducing public expenditure and encouraging foreign investment in all sectors of the economy.
Commenting on the news in December, Civil Society for Poverty Reduction (CSPR) executive director Kryticous Nshindano said: “The PPP is a positive step and we urge the government to initialise it and float selected capital projects for implementation using the model so that treasury funding can be reduced while private sector participation increases with new injection of investments for large-scale projects.”
Nigeria’s trade unions will strike and protest at power distribution and generating facilities, over recently increased electricity tariffs, driving greater risk of violence with police and commercial disruption.
The removal of import and price subsidies will trigger violent anti-government protests, driving serious disruption to commercial sectors, though the risk of a succession of power is still mitigated by a hold over security forces.
It seems the hype that greeted Mozambique’s gas discoveries has changed to a more sober reflection of the scale of the challenge in hand, writes Sarah Rundell.
When US oil company Anadarko and Italy’s multinational oil group ENI found huge natural gas reserves in the waters off Mozambique five years ago, there was a chance Mozambique would see its first liquefied natural gas (LNG) exports this year. As it stands, their final investment decision has been put back until later in the year. Combined with all the unfolding challenges of building an industry from scratch in a remote part of Africa, LNG exports are still years away. All the while the project has run into strong headwinds from the crash in oil prices, to which Mozambique’s LNG prices will be linked, and the global glut in LNG as new production comes on stream to soak up demand from key Asian buyers.
Mozambique’s Rovuma Basin holds some of the world’s largest oil and gas reserves, estimated to collectively exceed 160 trillion cubic feet.
When developed, these reserves could transform one of the world’s poorest countries into a global supplier of LNG alongside industry trailblazers Qatar and Australia. Standard Bank predicts it will usher in “large and unprecedented economic gains” for the government and its people worth some US$39bn by 2035.
It is anticipated that offshore wells will connect to a subsea pipeline network that will bring the gas onshore to a giant processing site. Following processing and cleaning, the gas will pass through one of multiple trains which reduces the temperature to approximately -160° Celsius. It will then be pumped onto special LNG carriers which transport the liquid gas to foreign buyers. The first phase of the project has an estimated US$15bn price tag and involves the construction of two trains with an initial output of 12 million tonnes a year.
The new industry based out of Mozambique’s northern towns of Pemba and Palma will need improved ports, roads, airports and also hotels, housing, shops, restaurants, schools and hospitals. Mozambique’s gas discoveries will trigger other transformations such as gas-to-power electricity generation in the power-starved nation, plus trade and investment opportunities in a ripple effect across manufacturing and exports such as fertiliser and petrochemical industries.
Investing in Mozambique is a challenge, even for seasoned oil and gas groups. The country’s credit rating is well below investment grade with Standard and Poor’s downgrading its long-term rating from B to B- in July last year: the currency is under pressure, foreign currency reserves are depleted and the downturn in commodity prices all indicate that 2016 will be a tough year.
The recent controversy surrounding Empresa Moçambicana de Atum, EMATUM, a state-owned tuna-fishing company that has been unable to repay international loans, has raised questions about the government’s ability to manage its own companies. “Mozambique’s main problem is debt,” says Robert Besseling, executive director of risk intelligence consultancy Exx Africa. “There has been much squandering of government resources and spending of oil and gas revenue before they have been earned.” Political uncertainty also comes with renewed tensions between the ruling FRELIMO party and the main opposition, RENAMO. While few commentators believe that there is a risk of a return to civil war, investors are monitoring the tensions between the two parties.
To date, no greenfield LNG projects in Africa have secured customers from premium Asian buyers, meaning a stable political, fiscal and regulatory framework to secure the long-term buyers needed to develop the project is essential.
And it is on this point the project is currently stuck. Long-term contracts with Asian buyers are key to financing the project because export credit agencies, banks and other financiers want the lengthy contracts as security for the large, upfront funds they provide. But Anadarko and ENI are struggling to secure the price and terms of the binding contracts that will usher in the finance because of oversupply in the LNG market. Encouragingly, BP recently agreed to offtake LNG from ENI’s Coral floating LNG project in offshore Mozambique where the gas is taken and loaded out at sea in a different, more complex process. But Anadarko is still in the process of finalising contracts.
The problem lies with the wave of new LNG production on stream and in the pipeline. The US shale boom has transformed the market: in its medium-term gas outlook, the International Energy Agency (IEA) predicts the US will emerge as the third-largest LNG exporter by 2019. Elsewhere, the high LNG prices of recent years have encouraged companies to embark on new projects worldwide, now on stream just as China’s economic slowdown has begun to dampen demand.
Chinese demand declined 2% in 2015 following years of double-digit growth, says Wood Mackenzie’s global LNG review. According to analysis from Energy Aspects, prices for LNG in the key northeast Asian market are down 70% from the peak in 2013. It means that few buyers want to lock in prices now for decades ahead when they may fall further. “You have to ask why an offtaker would lock into contracts now when next year prices might be lower,” asks Celine Paton, an energy consultant at Frost & Sullivan in South Africa. “For the biggest Asian buyers of LNG, it is easier to buy from producers in Australia and Qatar than Mozambique anyway,” she adds.
Of course markets change. Nobody foresaw Japan’s devastating 2011 earthquake, which led the government to shut down nuclear power and pushed up demand for gas. But most analysts agree that given the current climate, global gas prices will stay low in the short and medium term. Positively, one market expert observed that “all buyers” want Mozambique to develop its LNG sector because of the diversification it will bring to the global LNG market. Likening the current struggle to secure contracts to “a game of chicken” between buyers and sponsors, he says buyers are testing how long they can delay signing contracts, but will pull back if it comes to endangering the project itself. One silver lining of the current climate is that it could help Mozambique’s developers secure cheaper deals with service providers because of less competition for global oil and gas services.
The low oil price has also played a role in delaying a final investment decision in Mozambique in another way. It has weighed on profits at the sponsor companies which need to hold onto their cashflow for dividend payments. It will make funding the equity contributions required within the giant deal challenging, explains Paul Eardley-Taylor, head of oil and gas for Southern Africa at Standard Bank in Johannesburg. “Given the protracted low oil price, we would imagine the sponsors will closely monitor their free cashflow for equity contributions and completion support.
Secondly, the global supply and demand balance of LNG is likely to ensure that finding long-term contracts will be critical to achieving project final investment decision (FID).” He adds: “Over the last few years Mozambique has undertaken an important educational exercise with regards to developing its global energy project, taking all the necessary steps a keen host government could. Now the LNG market conditions will dictate the timing of FID.”
Going forward, the financial clout of the sponsors will change. As and when the project approaches financial close Anadarko is likely to ‘farm down’, selling a share of the project to a bigger oil group bringing in both more LNG expertise and financial muscle. Rumoured partners include Exxon Mobile and China’s Sinopec. How Mozambique’s Empresa Nacional de Hidrocarbonetos will raise funds to cover its share in the projects is another hurdle. It has a 15% stake in the Anadarko consortium and a 10% share of the ENI project.
Ready to pounce
All the while lenders to the project are waiting. ECAs from the US, China, Italy and Japan are expected to provide debt to the project. “Sace has expressed its interest to the financial advisors of the various projects to support the funding of procurement involving Italian companies,” says Michael Creighton, head of Sace’s office in Johannesburg, who compares the challenges of Mozambique’s LNG to Papua New Guinea’s 2009 LNG, where the agency guaranteed loans of almost US$1bn for the construction of gas pipelines and natural gas extraction and liquefaction facility.
So far, Sace says support will come via ENI, the principal operator of Area 4, and Saipem, an Italian oil and gas industry contractor involved in part of the contracting consortium awarded the development of the LNG plant for Area 1. Mozambique is keen to use its gas reserves to support the development of local industries and wants foreign companies to invest in local manufacturing and set up local joint ventures to develop and nurture its own industries. Sace’s Creighton sees a “valuable opportunity” for Italian companies both in the emerging gas sector and for SMEs in the support infrastructure needed, but flags potential problems within joint ventures. “International companies should monitor the government’s view towards foreign companies. Joint ventures can be extremely tricky, in particular finding the right business partner,” he warns. The government is understandably pushing for local content, however, given the weakness of its private sector, it is difficult to comprehend how this will initially be achieved, he questions. Mozambique’s insistence on joint ventures could further affect the timeline, says Kevin Atkins, international partner at Chadbourne & Parke in London. “Agreements as to intellectual property ownership and know-how development will need to be made among the joint venture parties,” he says.
Investors will also need more government clarity on other issues such as its requirement in the new petroleum law that oil and gas producers list on Mozambique’s stock exchange. So far there is no additional information on the timeframe, or the amount of share capital companies would be required to list, says Atkins. Current institutional capacity within the government to oversee and administer the emerging industry, as well as the lack of skilled Mozambicans with sufficient oil and gas experience at this early stage, is another concern.
Developers will also have to put in place a re-settlement plan for Mozambicans who will have to leave their homes in the area around where the LNG facilities will be built. Brazil’s mining giant Vale re-settled communities in Mozambique’s Tete province where it was developing coal but the process led to widespread criticism and protests in 2012.
In an important milestone reached at the end of 2015, Mozambique agreed the amount of gas it will take for the domestic market: an encouraging sign that the project is progressing – just slowly. It’s just the longer Mozambique’s new LNG exporters wait to reach financial close, the more uncertainty and risk around the project’s profitability will grow, leaving it further delayed or even postponed altogether.