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P&ID’s Hedge Fund purchase underscores fiscal and monetary risks to Nigeria

The Nigerian Government could be forced to pay the company, P&ID, US$9.0 billion, or otherwise face freezing of US dollars.

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  • A sovereign debt hedge fund is reported to have taken a 25% stake in a gas company with a US$9.0 billion claim against the Federal Government of Nigeria (FGN).
  • If successfully applied in US court, the Nigerian Government could be forced to pay the company, P&ID, US$9.0 billion, or otherwise face freezing of US dollars.
  • This begins to raise the question of how the Federal Government of Nigeria could reach a settlement with P&ID or, if the worst comes to the worst, finance a US$9.0 billion liability.

Cause for worry

According to Bloomberg, a subsidiary of hedge fund VR Group has purchased a 25% stake in Process and Industrial Developments (P&ID), which has an approximate US$9.0 billion claim against the Federal Government of Nigeria.

The P&ID case has been featured in the Nigerian and international press over the past year. However, the fact that VR Capital Group (a hedge fund that specialises in distressed sovereign debt) has taken a stake in the claim, underlines the serious implications of the matter.

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The original (English court) arbitration favoured P&ID, and was upheld in 2017 with a final award of just under US$6.6 billion (naira 2.4 trillion at today’s exchange rate). But with interests accruing, that award is currently close to US$9.0 billion (N3.2tn). The English court award is currently being applied in the US courts.

For comparison, the FGN’s 2019 budget (as currently proposed) is N8.8tn (US$24.4bn) and the foreign exchange reserves of the Central Bank of Nigeria (CBN) are US$42.9bn. An award of this size, if upheld and applied, could have serious implications for Nigeria’s fiscal position, borrowing costs, and even its foreign exchange position. In our view, it represents a significant new risk.

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P&ID versus the FGN: Origins of the case

P&ID is reported to have entered into a contract with the Ministry of Petroleum Resources of the Federal Government of Nigeria (FGN) in 2010. According to reports, the agreement obliged P&ID to build a natural gas processing plant, while the FGN would build pipelines to bring untreated gas to the plant. The gas is, otherwise, flared in the course of oil production.

P&ID alleges that it invested US$40m in the project, although it did not actually build a plant. The company also alleged that the FGN did not build the pipelines specified in the agreement. Therefore, it (P&ID) is entitled to compensation for lost earnings as a result.

The governing law is English 

P&ID applied to an English tribunal in 2012 and won a ruling in 2015.  This was upheld by the English tribunal in 2017 with an award of US$6.597 billion, and interests accruing.

In order to enforce this award, P&ID’s next step was to start applying it in the United States (US), with the intention that, ultimately, some of the FGN’s US dollar assets could be frozen if the FGN did not either pay in full or reach a settlement. Such cases follow the New York Convention which allows winners of arbitral awards to enforce them in signatory countries.

The case for enforcement was heard last year by the District Court for the District of Columbia. P&ID were represented by Kobre & Kim, a US law firm that specialises in international contract disputes.  Lawyers for the FGN argued that the FGN is protected under the Foreign Sovereign Immunity Act (FSIA), and the FGN was given leave to appeal to the US Court of Appeals for the District of Columbia Circuit.

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VR Group gets involved with its specialist knowledge in distressed debt

It is not clear to us, at this stage, how the FGN’s appeal citing the FSIA has progressed. However, it was about the time of the FGN’s decision to use this defense that VR Capital Group was reported to have involved itself in the case by buying, according to Bloomberg, a 25% stake in P&ID.

VR Capital Group, founded and run by London-based hedge fund manager Richard Deitz, has a history of buying distressed sovereign debt, having done so in the case of Russia (1998), Argentina (2001), Greece (2012) and Ukraine (2014) among others. While P&ID clearly had resources to mount legal action from 2014 until now, the involvement of a sovereign debt specialist like VR Capital Group suggests a degree of renewed confidence in the progress of P&ID’s case.

Possible solutions

The FGN has several options open to it, in our view. It is not ignoring the case (ignoring it could hasten the process leading to freezing of US dollars) and vigorously contests its validity.  But the FGN could also negotiate. Indeed, many cases of this sort are settled. Even then, however, a negotiated settlement could still be costly and might necessitate the FGN raising money to pay it.

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One way of raising money would be to borrow in the international markets. As the table on page 1 of this report shows, Nigeria has proven adept at this. The obvious problem in this instance, however, would come under the heading ‘use of funds’ in any related debt prospectus. To borrow money to pay a large debt which arguably should not have been incurred in the first place sounds weak, we believe.

This suggests that some kind of special purpose vehicle (SPV) could be created to raise money, with the FGN obliged to service the liability. Creating such vehicles is stock-in-trade of certain sovereign debt advisory practices, and it is not difficult to imagine that they are already offering their services to the FGN.

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Another way to raise money would be to privatise state-owned assets.  The irony here is that privatisation is not a policy favoured by the recently re-elected administration of President Muhammadu Buhari. So, if this option is selected, it would represent a policy reversal.

The state and the people

One point worth raising, in our view, is that if P&ID’s case succeeds it would be a problem for the FGN in the first instance rather than a judgement served on the private sector in Nigeria. In some instances freezing orders against governments have exemptions for payments under existing contracts and essential humanitarian items. However, these exemptions do not go so far as to let governments off the hook: they feel the pinch, especially when it comes to raising money.

The question, therefore, is to what extent a government feeling the pinch would be able to turn to the private sector for help. US dollars play a critical role in Nigerian private sector entreprise. Nigerian oil companies and some agricultural producers are important sources of US dollar revenues for the economy. Foreign remittances to Nigeria run at some US$25.0bn per annum and are important to Nigerian households. US dollar deposits account for up to half of deposits held by Nigerian banks.

Note on sources

Progress of the case brought by P&ID against the FGN can be followed by accessing court records stored by private sector companies. One source is the Law360 website which is owned by Premium Media Inc of the US, whose parent company is LexisNexis. This website has details of the cases in the District Court for the District of Columbia. Records of these cases are also held by Bloomberg Law.

The US District Court for the District of Columbia does not itself, at the time of going to press, post records of the P&ID case on its website. As for the original ruling against the FGN, arbitration under English law is private although it can become public through disclosures in other courts. 

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Why Shoprite is “exiting” Nigeria

Shoprite’s intention to divest from its Nigerian operations appears to be anchored on these factors.

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Shoprite, Growth outlook

Africa’s largest retail chain, Shoprite, announced on Monday that it is considering divesting from its Nigerian retail entity, Retail Supermarkets Nigeria, the owners of Shoprite Supermarket Nigeria.

Shoprite Nigeria operates about 26 outlets across the country and employs about 2000 employees who are 99% Nigerians. A divestment means it will sell its holdings to another investor who will continue to run the business.

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According to the company, it has taken a decision to leave “following approaches from various potential investors” looking to invest in the Nigerian entity.  The group also said the decision is in line with its “re-evaluation of the Group’s operating model in Nigeria” one of the 15 countries where it currently operates.

Shoprite also confirmed it has initiated a formal process to sell its entire stake in the Nigerian entity or a majority stake.

READ ALSO: Nigeria’s retail outlets risk CBN sanction, debit N50 PoS fee from customers 

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Why the exit?

Shoprite’s explanation of its intention to divest from its Nigerian operations appears to be anchored on its investment expectation and operating environment. However, there could be more to it.

Firstly, Nigeria is a highly competitive space, where retail is the survival of the fittest. Following Shoprite’s foray into Nigeria in 2002, the retail chain disrupted Nigeria’s retail space giving ordinary Nigerians a taste of what it feels to shop with family and friends. But the fairy tale was not going to last forever. Previous retail outlets like Park n Shop rebranded and injected significant funds in their operations and business expansion. Park n Shop rebranded to Spar and has 14 outlets across the country. It only makes sense for them to divest having held on to the Nigerian operations for almost two decades.

Shoprite also competes with homegrown retail outlets especially in Nigeria’s commercial city, Lagos State. Retail outlets like Ebeano, Citydia, and Adiba are now household names that are expanding rapidly across the state. There are also several neighbourhood supermarkets in the nooks and cranny of Nigeria’s commercial capital piling pressure on Shoprite’s market share. Shoprite does not disclose revenues from its Nigerian operations.

Shopping is also going online as evidenced by the growth in online shopping since COVID-19 hit Nigeria. Jumia, one of Nigeria’s largest online retail outlets, revealed lower earnings in the first quarter of 2020. However, the company is optimistic of higher revenue growth in Q2, on the back of the COVID-19 lockdowns. Jumia had earlier noted that “we are seeing unprecedented demand to join the Jumia platform, especially for named brands. We believe those dynamics will help accelerate the shift toward online.”

READ MORE: The deal that helped Lafarge stock gain 18% in less than a week

Local competitors like Spar and Ebeano already offer online shopping experiences and deliver goods to your doorstep. Shoprite’s business model relies heavily on physical store visits.

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As internet services become faster and cheaper, more Nigerians will rely on e-commerce to meet their shopping needs. Jumia has often struggled in this space and remains unprofitable. However, gravitation towards online shopping is inevitable and only those who have the capital and know-how will come out winners.

Jumia’s competitor in this space, Konga, was also recently acquired by Zinnox. Konga was then merged with another Nigerian retail giant Yudula. Interestingly, Konga’s model includes a combination of online and brick and mortar. The company has since been acquiring warehouses across the country as delivery points for its retail expansion drive.

Nigeria’s harsh operating environment is also another major challenge Shoprite faces. The Muhammadu Buhari-led administration, through the CBN, has focused on supporting locally made goods by banning forex availability for the importation of local substitutes. This has negatively impacted the number of products Shoprite can sell and how many new shelves it can create per floor space. It also creates supply chain challenges, especially with locally produced goods.

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Note that supermarkets sell on very thin margins. Therefore, the more products they can sell the higher the operating profits. Taxes are also higher and Nigeria’s susceptibility to exchange rate devaluation is also a major challenge. The company makes money in Naira and must convert to dollars before converting back to Rands.

READ MORE: Exploring branchless, other digital forms of banking in a crisis

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In 2017, when Nigeria last faced a currency crisis, Shoprite explained that it has about Rand 2.3 billion in cash locked up in Angola and Nigeria due to currency restrictions (inability to repatriate their money on time). Information reaching Nairametrics from traders suggest most foreign-owned investments in Nigeria are also facing “restrictions” due to limited liquidity in the NAFEX window.

Shoprite’s less talked challenge is its Legal Issues. In 2011, Nigerian company A.I.C Limited (the Claimant), which is owned by Chief Henry Akande, issued a summons against Shoprite South Africa and its Nigerian subsidiary for an alleged breach of a joint venture agreement (the JV Agreement) allegedly concluded in 1998. The company took Shoprite to court claiming it breached on an agreement to set up the Nigerian arm of the business.

The Federal High Court then ruled in favour of AIC and awarded damages of $10 million against Shoprite in 2017. Shoprite appealed the judgment in the appeal court and lost again earlier in 2020. It is unclear if Shoprite has any plans to take the matter up to the Supreme Court. Could this be another reason why the owners are deciding to divest?

Whatever the reason is, officially, it perhaps makes sense for the company to exit its Nigerian operations in the light of the points mentioned above. Its Nigerian entity is worth 1.1 billion Rands (N24 billion) per its financial statements and could be worth more when the sale is eventually consummated.

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Okomu Oil: Home is where the heart is

Okomu Oil has its tires on the track and is not slowing down.

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Okomu Oil records N4 billion profit in H1 2020

Despite the teeming opportunities in the Nigerian agriculture industry, very few companies in the agro-space have been able to put in place the right processes and systems to create huge corporations out of farm produce. But there is one that is doing just okay. With a market capitalization of N71.5 billion, Okomu Oil Plc sits at the top of the industry.

While many companies, big and small, are losing their grip to the volatile global economic landscape of 2020 birthed largely by the COVID-19 pandemic, Okomu Oil has its tires on the track and is not slowing down. More so, it is not only proving COVID-19 wrong. Just a little over a year ago, Nairametrics had downgraded the company to a “Sell” owing to its faltering revenues. Today, with huge increases in revenue in 2 out of 2 completed quarters, Okomu Oil plc is laughing last.

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READ ALSO: Okomu Oil half year profit drops by 57%

Winning by the Numbers

The company’s Q1 financials had revealed a 65.2% growth in revenue as the company recorded a turnover of ₦6.9 billion in comparison to the ₦4.2 billion it made in Q1 2019. It had also recorded a profit after tax of over ₦2 billion in comparison to the ₦1 billion recorded in Q1 2019 resulting to a 101.4% jump in profits. In the second quarter of the year, its unaudited results reveal that the company has also increased its revenue. Turnover jumped by 50.6% from N4.3 billion in Q2 2019 to N6.5 billion in Q2 2020. This jump was not totally reflected in its profits after tax, however, owing to a significant increase in income tax from nothing in Q2 2019 to N462 million in Q2 2020. PAT was still able to increase by 30% to 1.9 billion in 2020. While there could be a myriad of reasons for the tax burden, the company’s foreign operations are starting to rain on its parade.

Why it has to watch its foreign operations

Okomu Oil’s wins can be directly attributable to its domestic activities, bolstered by devaluation impact and a larger market share as a result of border closures. A closer look at both its Q1 and Q2 financials reveal that a majority of its earnings have been from improved domestic operations. In Q1, the company witnessed a decline of ₦89.8 million in Q1 2020 from its 2019 figures, representing a drop of 12.5% in the comparative quarter. In Q2, its export revenue took an even greater plunge. Export sales experienced a 35.3% drop from N730.6 million in Q2 2019 to N473 million in Q2 2020. Domestic sales had increased by 67.9%.

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READ MORE: GTBank declares closed period as directors meet July 22nd to consider H1 result

While this is reflective of the current economic activities, there are rising fears that it will keep relapsing. Failure to contain its activities will, sooner than later, have it in the same position as some of the equally large companies that had to eventually spin off ailing foreign activities. Reduced turnover is not the only diaspora-induced challenge being faced by the company. Its Q2 financials also reveal exchange losses of over N17 million for the quarter. Compared to the exchange losses incurred in Q2 2019 which stood at 1.2 million, it recorded a 1284% increase in foreign exchange losses.

In today’s world, it is becoming increasingly tough for businesses to ward off the allure of foreign opportunities in trade as well as in the area of raising finance. While these, no doubt, have immense benefits to businesses, there’s a long list of reasons why staying home and penetrating local markets has been underrated. Being able to source inputs locally, produce locally, and even finance locally is becoming even more of a luxury to Nigerian companies especially given the challenges around the relatively weak currency to stronger currencies.

Okomu Oil plc is creating a sustainable market in Nigeria and its efforts are paying off. Until order is restored, an increasing focus on its domestic market will do the company more good. That said, the company is a great stock to have in your investment portfolio to serve as a hedge against companies that have been negatively impacted by the pandemic. Its current share price is N74.95. While its price to book ratio is high at 2.2857 hinting that it could be overvalued, its EPS is stable at 7.33.

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Why you should avoid investing long term in Nigeria’s stock market

The stock market is only as resilient as the economy.

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Thirteen years ago today, I was getting set to oversee a meeting with a group of partners in a newly formed investment club. About a dozen of us, young and just at the cusp of family hood thought it was important to come together and put money aside for the future.

We had several options such as real estate or treasury bills, but we settled for the Nigerian Stock market. The decision wasn’t difficult to make especially when you look at the performance. Stocks were up 37.8% in 2006 and will close the first half of 2007 55% up.

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Demand was high as everyone wanted a piece of what was then the fad. Private placements, right issues, IPOs were fast and coming and it was as if any offer placed in the table was sure to sell. The early signs that this was a bubble was when spare part traders abandoned their trade to get in on the gold rush.

READ MORE: Facebook, Microsoft, Amazon shares drop, top U.S official orders lockdown

The All Share index showed its first signs that the bears were around the corner when it fell by 5.15% in August 2007. As investors who were made to understand that investing in stocks for the long term was wise, we ignored the temptation to sell believing that stocks will rise again.

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It’s 13 years now and the Nigerian All Share Index is down 52% between June 2007 and June 2020. In hindsight, we should have sold everything we had and simply bought dollars and kept it under our pillows. The stocks, we had hoped will deliver compounding returns over the years have delivered nothing but losses.

The Nigerian Stock Exchange is not a long-term market. We learned this 13 years ago but believed that experience was just a massive correction and that things will change. It did not and is unlikely to change so long as we remain a highly import-dependent economy. The stock market is only as resilient as the economy. If you have an economy like Nigeria that is good at growing its population and not its economics, investments in capital and money markets is a risky activity.

READ MORE: Where to Invest N5 Million right now

The more we remain reliant on crude oil and high imports, the worse it gets and you lose more money. Thus, it is my firm belief that investing in Nigerian stocks for the long term is folly. There are much better investments out there that will deliver you better returns and reduce capital erosion, two of the major symptoms of the Nigerian Stock market. But why is this market not a long term investment?

The reasons…

Firstly, stocks rely heavily on foreign portfolio investors to drive demand up. Since former CBN Governor, Sanusi Lamido Sanusi allowed foreign investors to repatriate any portfolio investment into the country without restrictions, stocks have become heavily reliant on hot money to keep valuations high. Thus, when foreign investors exit, stocks suffer. They create a bubble when they enter our markets and leave bears to dominate when they exit, until they are ready to get back in again.

READ MORE: A New Wave: Where to Invest in H2 2020

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Secondly, Nigeria’s susceptibility to frequent currency devaluations keeps market valuations in perpetual risk of capital erosion. For example, if your portfolio was worth N165, 000 in 2013 it was the equivalent of $1,000. Today, that portfolio is worth just $412 assuming N400/1. So, even if you are lucky to have a portfolio that has performed well over the years, it will struggle to outperform dollar investments on the medium term.

Also, Nigerian companies are hardly accountable with the way their businesses are run. Insider trading persists without control and suspicions are immediately swept away. There are no consequences for reckless corporate behaviour. Most of the corporate fraud and unscrupulous activities perpetrated in the great stock market crash of 2008/2009 did not lead to a single jail term for anyone.

READ MORE: Eid-El-Kabir: Food prices surge, as ram traders decry low patronage

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Billions lost in stocks over the years have not been recovered. Whilst some companies have continued to grow their revenues and profits most remain unprofitable and lack the basics of corporate governance.

Investor protection is weak in this market as there are no reliable remedies for fraud induced market losses. The stock market is also very limited in the number of products available to buy. Apart from buying and owning stocks, there are little options to short-sell. We understand this is in the pipeline but it has remained there for years.

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These are examples that explain why investing for the long term cannot work in Nigeria for now. Buy and hold forever is a myth at least in today’s Nigeria. You will get burned and likely lose the value of your investments.

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