Nigeria National Petroleum Corporation (NNPC) has signed a $1.5 billion cash-for-crude prepayment loan with the world’s top biggest independent oil trader Vitol Group and Nigeria’s Matrix Energy, a decision that comes with huge implications for Africa’s biggest economy.
Already cash-strapped and weighed down by billions of dollars in old debts, NNPC has been looking to bring in outside cash in a bid to cushion the effect of coronavirus (COVID-19) pandemic upending the finances of the Nigerian economy.
The deal
Starting from August, Vitol and Matrix will each get 15,000 barrels per day (bpd) of crude as repayment over five years from Nigeria, according to Reuters.
The financing package called Project Eagle will be backed by African Export-Import Bank (Afrexim) and United Bank for Africa (UBA).
Sources said British multinational Standard Chartered Bank was hired to advise on the oil prepayments, widely used in commodity finance by traders as banks consider them to be one of the more secure forms of lending in countries viewed as risky.
For trading firms such as Vitol, these loans are ideal for securing long-term supplies and boosting razor-thin margins.
The sources said NNPC planned to use a large portion of the money to pay taxes owed by its subsidiary Nigeria Petroleum Development Company (NPDC) while the remainder would go towards operational expenses, capital expenditure and upgrade of the Port Harcourt refinery.
Both sides benefit in prepayment deals
A prepayment deal would provide Nigeria with up-front cash and guaranteed revenue as it expands its budget. At the same time, an agreement would assure traders a source of supply at a discount for an extended period of time that they can use for resale in the global market.
Nigeria also enjoys the advantages of a close relationship with a major global oil exporter, giving them access to time-sensitive data that will boost their market intelligence and information flow.
Furthermore, prepayment deals allow traders to establish long-term relationships with producers.
Implication for Nigeria
Analysts and chief financial risk officers (CFOs) have said while the deal would provide immediate guaranteed revenue, Nigeria will likely weaken longer-term revenues since it will offer its oil at a reduced price and it will miss out on any price increases.
“With deals like this, future benefit of an increase in oil price will likely erode Nigeria, except there are options for contract renegotiations,” Kelvin Atafiri, who runs Cavazanni Human Capital Limited, an investment firm exposed to the oil and gas sector, said.
On the flip-side, others have raised concerns about the effect of oil price volatility on the load, while noting if oil prices decline, NNPC may still be obliged to service the loan at its original terms, thereby pouring limited revenues into repaying the loans.
Researchers from the Natural Resource Governance Institute (NRGI), a global extractive sector transparency group, cautioned that this kind of loan if not carefully structured and managed, could mortgage the country’s resource wealth without much productive return. It also poses major fiscal risks, especially to how much money the government collects from NNPC.
According to NRGI, lower revenues received by the Federal Government could mean that it is likely that proposed loans would be repaid at the government’s expense, making it likely in turn that the specific amount of oil would go toward repaying debts rather than funding budget priorities that will increase even further.
“This risk could be reduced if NNPC paid for loans with its own production (i.e., the production of its subsidiary NPDC),” NRGI said.
NRGI argued that oil-backed loans tend to be very opaque, preventing citizens and accountability actors from properly scrutinising the costs, repayment terms and utilisation of the loans.
“Opacity and politicised agendas could be another barrier,” according to NRGI.
Prepayment deals are not uncommon
Banks and bond markets remain the top source of financing for the oil and gas sector, but traders have become prominent in financing companies and petro-states.
Russia’s Rosneft signed a $10 billion deal with Vitol and Glencore in 2013, and made a similar agreement with Trafigura around the same time.
Other producers such as Venezuela, Ecuador, Congo, Colombia, Libya, and Algeria have also utilised similar pre-payment structures. Producers are particularly open to these types of agreements during oil price downturns, since prepayment deals are similar to a line of credit.
NRGI considered 52 resource-backed loans made between 2004 and 2018, with a total value of more than $164 billion; 30 of them, with a combined value of $66 billion, were made to sub-Saharan African countries.
“African leaders have often taken out these loans to help with their own short-term political ambitions, but their countries have ended up severely indebted and with the risk of losing collateral worth more than the value of the loan itself,” said Evelyne Tsague, an NRGI Africa co-director. “They should stop agreeing to such perilous deals, which are often negotiated by poorly managed state-owned enterprises that often bypass parliaments and national budgets.”
Lessons from Venezuela and Congo Brazzavile
Venezuela and Congo-Brazzaville’s experiences with such loans should serve as a cautionary tales for NNPC.
During the boom years prior to 2014, Venezuela borrowed nearly $50 billion from state-owned Chinese companies in exchange for oil, and borrowed about $5 billion from Russia’s Rosneft under similar terms.
Following the oil price slump and Venezuela’s subsequent economic crisis, the Venezuelan National Oil Company (PDVSA) fell months behind in its oil deliveries to China and Russia.
The defaults were blamed on PDVSA’s myriad operational and financial struggles and culminated in diminished production—averaging 2.5 million bpd in 2016, PDVSA’s lowest rate in two decades.
While Chinese and Russian diplomats have publicly asserted support for Venezuela, the terms of their loans would allow them to forcefully recover their funds by seizing projects or assets within or outside Venezuela’s oil sector.
In Congo Brazzaville, oil-backed loans have led to corruption in the country’s oil sector. Gunvor (a major Swiss commodity trading company with a speciality in trading Russian oil) secured untendered contracts for lifting 22 cargos of crude oil worth $2.2 billion from Congo-Brazzaville in exchange for six $125 million pre-financing deals ($750m in total).
Swiss law enforcement and non-governmental organisations have raised concerns that Gunvor made inappropriate payments to politically connected middlemen in order to secure these lucrative deals.
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