CHIJIOKE MAMA, founder and managing director at MeiraCopp Nigeria Limited [MNL] and a Doctoral Researcher at the University of Port Harcourt, Nigeria in this interview with BusinessDay’s ISAAC ANYAOGU highlights ways investors can secure financing for gas projects at a time the government is seeking to deepen domestic gas use locally.
What is the outlook for raising gas project capital in Nigeria?
For Nigerian project sponsors, raising capital for natural gas projects is arguably a difficult hurdle. Fertilizer plants, Methanol plants, Ethylene plants, Power plants, LNG for export, Onshore LNG, Natural Gas Liquids [NGL] plants, Floating LNG [FLNG] and CNG plants, are the possible natural gas value chain projects in Nigeria – but the finance puzzle has to be solved.
Recent developments around the world have transformed “Fossil finance”. Capital is proving to be more difficult to rally for Oil and Gas projects, both domestically and internationally. Whether it is large, circa 1 billion USD projects such as fertilizer, methanol or LNG plants; Midstream gas processing projects that cost USD 300 to 500 million or even smaller projects such as upstream drilling projects or flare commercialization projects that may cost less that USD 50 million.
The old logic for raising capital as well as the definitions of Bankable, Viable or Profitable is continuously shifting for lenders and sponsors alike. To optimize gas projects, sponsors and lenders will need to be at home with the transactional dynamics, especially in Nigeria. While there are larger macroeconomic factors that influence access to debt and equity capital, project specific issues may be paramount.
What do you consider the preferred model for financing gas projects?
Natural gas has several use scenarios, but in majority of the scenarios, demand is inelastic, technological risks generally low [except in the case of nascent FLNG] and project assets have long economic life for instance, processing plants, gas pipelines, Liquefaction facilities, Regas facilities or LNG vessels.
These conditions make gas projects a very good fit for Project Finance [in contrast to Corporate Finance]. Since cash flow can be steady and predictable. In addition, certain risks are also predictable due to mature technologies being applied and project assets typically have long economic life that outlives the loan life. As a result, natural gas projects requiring large capital outlay have strategic fit with project finance.
Other structures are nevertheless possible. However, with Project Finance comes the obligation to fulfill stringent expectations from lenders’ and co-sponsors [equity partners], including the navigation of the complex web of contracts used to de-risk the project.
In the last decade, of the $1.5trn capital deployed through project finance globally, an estimated 20 percent was in the oil and gas sector. The challenge with alternative structures such as Corporate Finance, which will require reliance on sponsor’s balance sheet, old cash flows and assets with commensurate collateral value; is that these conditions may be difficult for most sponsors to meet when you are looking to raise huge capital.
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How has the Nigerian Debt and Equity market performed in this space?
Every project sponsor intends to raise adequate capital, cost effectively and this can be achieved through the use of proper commercial structures for the project. Nigerian financial institutions do not often have the capacity to independently finance project with huge initial capital requirement. Export-focused gas projects such as cross border pipelines, large methanol plants, urea plants and LNG, will undoubtedly benefit from foreign co-sponsors.
These co-sponsors are often more capable of securing private or public capital. This includes financial support from Export Credit Agencies [ECAs], such as loans, loan guarantee or contract financing, which can in turn facilitate the entry of other lenders, especially local lenders.
For instance, majority of the top, global LNG project lenders are Japanese banks & financial institutions, underscoring the importance of LNG to Japan and the strategic opportunity of partnering Japanese companies either as project co-sponsors, equipment supplies or EPC partners. Recently, Yemen LNG secured a 15 year 1.7bn debt, half of which was backed by an ECA. Similarly, global lending for the shipping component of the LNG value chain is dominated by South Korean banks, explained by Korea’s capability in building LNG ships. This trend can also be seen in other gas-use scenarios, such as gas processing plants made by OEMs in North America, which may be supported by US or Canadian ECAs.
What are the critical strategies for enhancing project attractiveness?
There are many factors, from using proper GSPAs, to the right commercial structures, but lenders and co-sponsors will knock hard on the door of bankable offtake contracts. If your project is not export-focused, catalyzing meaningful and long term offtake contracts in the domestic market is an early stage project huddle.
While there are several approaches, a sponsor’s ability to contract “Finance-for-Gas” is considered critical. In this scenario, credit worthy end-users could join the project sponsor as co-sponsor [acquiring equity] or provide debt capital in exchange for produced gas or gas-based products such as NGLs, methanol, electricity, fertilizer, olefins or other byproducts.
For ambitious projects like FLNG and LNG projects that are export-focused, credit enhancement [in a project finance structure] can be achieved through the participation of foreign companies that could offer funding in exchange for Gas. This often appeals to organizations from major gas demand centers such as China, Japan and South Korea.
In 2006, the 7.8mtpa Qatargas 3, raised $1.5bn from banks, while project co-sponsor ConocoPhillips put in $1.2 billion and as well, pledged to buy the gas under a 25 year contract. Firm offtake contracts facilitate the entry of lenders & equity sponsors, and could lower the cost of finance. A suit of offtake contracts in the case of export products may be preferred to single offtake contract, where country-specific economic downturns or geopolitical risks could hinder performance.
What are lenders’ concerns around gas supply frameworks?
The nature of the contracts that govern the supply of gas to a plant or pipeline is not only fundamental but also critical. GSPAs and GTAs [Gas Sales and Purchase Agreements & Gas Transportation Agreement] and their terms have to be congruent with overall project economics.
This is particularly true with respect to gas prizing since NPVs and ROIs are known to have significant sensitivities to gas price – particularly for large projects. In the case of midstream projects, one of the most critical project issues is the source of gas and the profile of the producer which literally translates to supply reliability concerns.
Evidence of geological risks being properly managed has to be explicit, along with demonstration of thorough understanding of all other above-ground risks facing the producer. There is dual challenge in this regard, since project sponsors have to provide gas supply reliability assurances to lenders and in turn, provide financial capability assurances to the gas producer within the GSPA.
What is a lender’s perception of the risks inherent in gas projects?
Arrays of risks are associated with gas projects, however of the known risks, lenders may critically require the greater assurance on a handful, including construction risk, completion risks and foreign exchange risk [for funds received in foreign currency].
Construction risks will require commensurate mitigation measures to be put in place, usually with insurance policies such as Construction All Risk [CAR] insurance and Erection All Risk [EAR] insurance, for plants and pipelines. This is because Risk of Delay in Start-up [DSU] will directly impact loan repayment plans. The risk of time and budget overruns that may be tied to contractor or sub-contractor underperformance must be optimally mitigated, likewise foreign exchange risks that arise when project cash flow and the received funds are in different currency.
