Developing liquidity solution for Nigerian power sector (2)
In the first part of this article, we proposed a liquidity and payment support mechanism for the Nigeria Electricity Supply Industry (NESI).
Under the proposed solution, NBET, as the Bulk Trader of electricity, will fully bear existing and future revenue shortfalls and payment risks to the NESI during the transitional electricity market (TEM) until such a time that Discos significantly improve their revenue collections and become more efficient in their operations.
In this concluding part, we put out our ideas on the structuring of the liquidity and payment support solution.
What Are MTNs?
Medium-term notes (MTNs) are debt instruments usually issued under a program that allows the issuer to offer bonds to investors from time to time without producing extensive legal documentation at the time of each issuance of notes.
Due to its flexible nature, MTNs are an effective tool of asset-liability management for both the issuer and the investor. MTNs are most commonly issued as senior, unsecured debt of investment grade credit rated entities, and may have fixed or floating interest rates. They may be issued with flexible interest payments and have calls, puts and other options built into them.
Although labeled as “medium-term”, the tenor of a medium-term note (MTN) may be as long as 30 years, and the proposed NBET MTN program tenor can be established to cover the duration of the license period of NBET.
Proposed NBET Liquidity & Payment Solution
In the event of revenue shortfalls by a Disco, NBET has the right to call on the Disco’s payment security (which is in the form of a Standby Letter of Credit (SBLC) covering three months’ of the Disco’s payment obligations to NBET), to enable NBET meet its full payment obligations to Gencos. NBET has a back-to-back payment security with Gencos serving the same purpose (i.e. to cover any shortfall in payment by NBET to Gencos).
However, under the current liquidity challenges, the reality is that, should NBET call on the Disco L/Cs, Discos will be unable to replenish the L/Cs once depleted, which may cause negative financial ripples along the entire Nigerian financial sector.
To enhance liquidity and assure a renewable payment cycle along the power sector value chain, we propose liquidity and payment support mechanism. The proposed mechanics of the NBET liquidity and payment support program is an improvement on the existing payment support program as it includes a liquidity upgrade and is as follows:
NBET enters into a reimbursement and credit agreement (or similar agreement) with the CBN and approved NBET L/C Banks under which approved L/C Banks will undertake to make available a payment support instrument in the form of Standby Letters of Credit (SBLC).
The CBN will enter into a partial guarantee agreement (CBN PRG) with approved L/C Banks to backstop the repayment of any amounts drawn under the NBET SBLC in the event of NBET’s failure to repay such amounts as a result of any risk specified under the guarantee.
To ensure NBET’s ability to top up the SBLCs however, NBET will periodically issue notes under the NBET MTN program, which will be subscribed to by investors. The NBET MTN program provides a stable and sustainable liquidity mechanism for NBET to replenish the SBLCs when depleted and to fund any revenue shortfalls in the NESI during the TEM.
To ensure investor confidence in the NBET MTN Programme, the notes will be guaranteed in full by the Federal Government of Nigeria to ensure that the Bonds are investment grade and can be subscribed to by Pension Funds and Institutional Investors. Regular note issuance by NBET provides market liquidity and the notes will be tradeable in the secondary markets.
The NBET notes will be repaid through a direct credit agreement between NBET and the Discos, wherein the shortfall amounts by Discos are converted to term loan obligations to Discos and amortized against the Discos’ cash flows for the life of the NBET Notes.
The conversion of Disco shortfall payments into term loan obligations of Discos, as well as enforcement of stiff penalties against core investors, such as dilution of their shareholding in Discos, arising from any inability to meet agreed collection levels and/or ATC&C targets, reduces the moral hazards on the part of the Discos who might see the NBET liquidity and payment solution as an encouragement to be inefficient in their operations and profligate in their capital spending.
Financing the Discos
In our view, the Discos, being the direct consumer interface, are the weakest link in the entire power sector value chain.
Under TEM, Discos are expected to fully pay NBET for energy invoices. There are no minimum payment levels to NBET by Discos based on their present actual collection levels and settlement records. Where Discos use all their revenues to meet payment obligations to NBET, this leaves little or no room for Discos’ to develop their infrastructure, reduce ATC& C losses, improve operational efficiency or even service loan obligations to Lenders.
To improve operational and collection efficiency by Discos, we propose initial baseline payment levels to NBET for each Disco, which the Discos would commit to. The initial baseline payment level for a Disco should be set at a collection level below the actual revenue collections by that Disco. Setting the initial baseline payment levels below actual Disco collections creates financing for the Discos to finance their loss reduction programs.
The baseline payment levels are then adjusted upward periodically, to reflect improved efficiency and increased power supply from the grid. Alternatively, the baseline payment level could be increased annually in line with the annual ATC & C loss reduction targets which Discos will be required to submit to NBET under well worded information covenants in their term loan agreements with NBET.
Repayment of the NBET Notes by Discos
The shortfall amount funded by the NBET notes will be structured as Loan obligations to Discos and repaid from a special portion of retail electricity tariff dedicated to the redemption of the Notes. We propose that the repayment of the Notes (principal and coupon payment) is sculpted to MYTO electricity tariffs to under-recover at earlier years (hence shortfall) and over – recover at later years.
Benefits of Implementing the NBET Liquidity & Payment Solution
The proposed NBET Liquidity and Payment Support Mechanism deliver the following benefits:
The NBET note issuance structure can be used to address the payment shortfall in the Power Sector to the Gencos in order for the Gencos to continue generating power and meeting their obligations to the Gas producers.
The proposed structure will prevent payment default by Discos, which default may trigger defaults across the electricity value chain and cause financial distress in the NESI as is evident today. The collapse of the NESI will have a catastrophic effect on the banking sector, which is already exposed to the NESI by over $4billion.
It would prevent a rate shock due to rapid increase in electricity tariffs to support the revenue requirement of the sector (i.e cost reflective tariffs), without an incremental increase in electricity supply to customers. The recent 45 percent increase in electricity tariffs and the ensuing public uproar and negative after effects so far is a good case study amongst others
Overall, developing a sustainable liquidity solution for the power sector will have positive domino effect on the quality of lives of Nigerians as a whole: there will be greater investor confidence in the power sector, a more stable power supply, increased output and efficiency in manufacturing towards a more speedy industrialization of Nigeria, less reliance on foreign goods and products, a lessening of the pressure on Nigerian foreign reserves, increase in productivity across the entire economic spectrum, and a better life for Nigerians as a whole.
OLAYEMI ANYANECHI