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«Middle Africa Briefing Note | Energy, Oil and Gas 29 November 2013 Next Steps, Outlook for Nigeria’s Power Sector Privatisation Highlights On 1 ...»

Middle Africa Briefing Note | Energy, Oil and Gas 29 November 2013

Next Steps, Outlook for Nigeria’s Power Sector Privatisation

Highlights

On 1 March 2014, the second phase of Nigeria’s power sector privatization program - the

Transitional Electricity Market (TEM) - is expected to commence, following the handover on 1

November 2013 of privatised power assets to new owners.

Ahead of the second phase, the government has given the new owners of the generation  companies (“Gencos”) and distribution companies (“Discos”) four months to test-run their operations, and is working to improve transmission capacity.

The Gencos were sold at an average US$550,000/megawatt (MW), comparatively pricier than  similar acquisitions in frontier and emerging markets such as Cameroon and China.

Investors would have been attracted by the annual revenue potential of the 7 Gencos which we  estimate at $1.3 billion, but the role of Nigeria’s National Bulk Electricity Trader (NBET) will be a key factor in the success of these companies.

The government has provided over US$750 million in funding support to NBET, which could face  financial obligations of up to US$2 billion as new IPPs come online and generation capacity improves. The timing and level of cash payments by Discos could also impact NBET’s operations.

Ultimately, higher tariffs will benefit the Discos, but could affect the pace of collections as the  adequate metering of consumers has not yet been completed. Thus, tariff reviews will have to strike a balance between encouraging payments to NBET while enabling operators to earn a return on their investments.

Nigeria’s power sector set to take off On 1 March 2014, the Transitional Electricity Market (TEM), the second phase of Nigeria’s power sector privatisation will commence. Following the handover of the power assets to the new owners on 1 November 2013, the new operators have been given a four-month period to assess critical aspects of their operations and identify possible challenges that could affect their profitability. During this market testing phase, which will end on 28 February 2014, we expect the new companies to renegotiate Power Purchase Agreements (PPAs) with the bulk trader, the Nigerian Bulk Electricity Trader (NBET). Following which the bulk PPAs and vesting contracts, which authorize the Gencos to generate a specified level of power and sell to the Discos, will become operational, and the amended electricity market rules of the NERC will also become effective.

Table 1 - Assets sold under first phase of Nigeria’s power sector privatization Plant Type Capacity (MW) Winner Bids Paid, Capex Estimate, Customer Base

–  –  –

Source: Ecobank Research

SEE ANALYST(S) CERTIFICATION(S) AND IMPORTANT DISCLAIMERS & DISCLOSURES ON LAST PAGE

Ecobank Research | ecobankresearch@ecobank.com | Twitter: @EcobankResearch Middle Africa Briefing Note | Energy, Oil and Gas 29 November 2013 On the transmission front, the government in August has signed a memorandum of investment with Chinese firm, Xian Electric Engineering Company Ltd to upgrade the country’s transmission capacity to 20,000 MW. Over the next two years, the Chinese firm will work with the Transmission Company of Nigeria (TCN) and its Canadian managers Manitoba Hydro International (MHI) to execute various projects of up to $500 million to be funded the China Exim Bank. Over $1.6 billion from the sale of 10 new power plants under the National Integrated Power Projects (NIPP) scheme could also be deployed towards transmission network development.

In March 2014, when the TEM takes off, the electricity regulator, Nigerian Electricity Regulatory Commission (NERC) is likely to raise electricity tariffs to offer the new power companies more room to recoup investments and meet financial obligations from loans taken to finance the acquisitions.

As loans comprise 70% of the $2.7 billion paid, the new power companies are likely to require a significant level of liquidity or control over their cash flows to enable them to meet the covenants and repayment terms specified by their loan providers. Combined with the necessary cash injection required to bring back as much as 60% of installed capacity online, the financial needs of the sector over the next few months estimated at more than $1.8 billion, could present an investment opportunity for investors who missed out on the first phase of the privatization process. The development of the sector is also likely to spur the growth of some related industries such as the metering market or supply of gas turbines, transformers and distribution equipment.

Table 2 – How Nigeria’s power asset acquisition costs compare with selected countries

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Power generation will attract more investors The first seven Gencos, which have an installed generation capacity of 5,440MW were sold for a total sum of U$1.78 billion, and represent a valuation of $550,000/MW. Given the age of these assets and the operational status of the plants when they were privatized, they would appear to be overvalued. Similar assets divested in Cameroon and China were sold at lower prices. However, considering the revenue potential these assets probably represent a good investment. Based on our estimates, these assets could potentially generate about $1.2 billion in revenue from full year operations assuming at least 90% gas availability for the gas-fired plants and a 75% load factor all round.





The IPP plants being offered under the second phase of the power asset privatization could also yield estimated revenues of $1.1 billion. Compared to acquisition costs, this represents an estimated annual income of $229,190/MW, which could increase in 2014 when tariffs are revised upward.

–  –  –

Chart 1 - Estimated full year revenue of Gencos, $000 350,000 300,000 250,000 200,000 150,000 100,000 50,000 Sources: NERC, Ecobank Research estimates The NBET faces obligations of up to $2 billion However, investors are also likely to pay attention to the Nigerian Bulk Electricity Trader (NBET) which is expected to purchase power from the Gencos and sell to the Discos. Thus, the revenue of the Gencos represents claims on NBET’s cash inflow, which is expected to be comprised largely of collections from the Discos and budgetary support from the government. NBET is likely to face a matching challenge as the level of payment to the Gencos may not match the volume of funds from the Discos in the short term as they work to reduce the revenue losses resulting from technical challenges, inadequate equipment and poor collections – a combination of losses referred to as Aggregate Technical Commercial and Collection (AGC&C) losses. We anticipate that the loss reduction period could last a year and translate into lower than expected cash flows from the Discos to the NBET during that time.

–  –  –

The Discos need time Although investments in the Gencos are expected to lead investments in the power sector over the next few months, the success of the process will hinge on developments in the distribution segment of the sector. This is primarily because over the long term, cash collections by the Discos are expected to provide the source of repayment to the Gencos for power purchased by NBET. Thus, while expected higher tariffs may benefit the operators of generation companies they represent a higher cost for users on the distribution end and could result in slower collections for the Discos.

As a larger portion of the electricity consumption market is yet to be connected with the new prepaid meters, collection efficiency is likely to remain low and periodically undermined by power theft. This could result in slower payments by the distribution companies to the bulk trader. The tariff review would need to strike a balance between incentivizing the distribution companies to make timely payments to the NBET while allowing them enough revenue to earn a return on capital invested to reduce losses.

–  –  –

DISCLAIMER  This document was prepared under the supervision from the Research Division of EBI SA (a member of Ecobank Group), and is not necessarily definitive, current or authoritative. Data used in this document was gathered from reliable sources, but the analyst(s) and the publishers of this document do not hold themselves responsible for the accuracy or completeness of data used. The document provides the opinions, analyses and conclusions of the Research division only and is provided without any warranties of any kind.EBI SA and any member of Ecobank Group and its affiliates do not in any way endorse the findings, views and conclusions in this document.EBI SA, Ecobank Group and its affiliates' Directors, Employees or Agents do not accept any liability for any direct or remote loss or damage arising out of the use of all or any part of the information contained in this document.

 EBI SA is a credit institution authorized by the Autorité de contrôleprudentiel.

USE OF THIS PUBLICATION FOR THE PURPOSE OF MAKING INVESTMENT DECISION EXPOSES YOU TO SIGNIFICANT RISK OF LOSS.

 Reception of this publication does not make you a client or provide you with the protections afforded to clients of EBI SA (A member of Ecobank Group).When distributing this document, EBI SA or any member of Ecobank Group is not acting on behalf of the recipient of this document and will not be liable for providing investment advice to any recipient in relation to this document. Accordingly, EBI SA (A member of the Ecobank Group) will not be held accountable to any recipient for providing the protections afforded to its clients.

 This document is published for information purposes only and is not an offer to solicit, buy or sell any security of any kind. This document does not provide customised investment advice. It has been prepared without regard to the individual financial circumstances and risk and return objectives of individuals who receive it. The appropriateness of a particular investment will depend on an investor’s individual circumstances, risk tolerance and return objectives. The investments and shares referred to in this document may not be suitable for all or certain categories of investors.

 The Research Division and EBI SA have implemented Chinese walls procedures to prevent any conflict of interest. Additional information may be available to EBI SA or the Ecobank Group which is not discussed in this report. Further disclosure regarding Ecobank policy regarding potential conflicts of interest in the context of investment research and Ecobank policy on disclosure and conflicts in general are available on request.

 The opinions presented in this note may be changed without prior notice or cannot be depended upon if used in the place of the investor’s independent judgment.

 The historical performance of a security is not representative of the security’s future returns. Investment in securities can be highly risky as security prices may go down in value as well as up and you may not get back the full amount invested. Where an investment is denominated in a currency other than the local currency of the recipient of the research report, changes in the exchange rates may adversely affect the value, price or income of that investment. In case of illiquid investments for which there is no organized market it may be difficult for investors to exit investment positions or to obtain reliable information about its value or the extent of the risk to which it is exposed.

 The information contained in this document is confidential and is solely for use of those persons to whom it is addressed and may not be reproduced, further distributed to any other person or published, in whole or in part, for any purpose.

 © EBI SA Groupe Ecobank 2011.All Rights Reserved. This note has been prepared by Paul-Harry Aithnard and the Ecobank Research Division.

For any question, please contact: Paul-Harry Aithnard, Group Head, Research, Les Collines de l'Arche, 76 route de la Demi-Lune, 92057 Paris La Défense Cedex France

DISCLOSURES

Research analyst certification: The research analyst(s) primarily responsible for the preparation and content of all or any identified portion of this research report hereby certifies that all of the views expressed herein accurately reflect their personal views. Each research analyst(s) also certify that no part of their compensation was, is, or will be, directly or indirectly, related to the view(s) expressed by that research analyst in this research report.

Important disclosures I. The analyst(s) responsible for the preparation and content of this report (as shown on the disclaimer page of this report) holds personal positions in a class of common equity securities of the company.

II. The company beneficially owns more than 5% in EBI SA or Ecobank Group (“the Group”).

III. EBI SA or the Group is a market maker in the publicly traded equity securities of the company.

IV. EBI SA or the Group beneficially owns 5% or more of the equity securities of the company.

V. EBI SA or the Group beneficially holds a significant interest of the debt of the company.

VI. EBI SA or the Group has been lead manager or co-lead manager over the previous 12 months of any publicly disclosed offer of securities of the company.

VII. The company is a client of EBI SA or the Group.

VIII. EBI SA or the Group has lead managed or co-lead managed a public offering of the securities of the company within the last 12 months.

IX. EBI SA or the Group has received compensation for investment banking services from the company within the last 12 months.

X. EBI SA or the Group expects to receive, or intends to seek, compensation for investment banking services from the company during the next 3 months XI. EBI SA or the Group has any liquidity contract between EBI or related entity and the issuer XII. EBI SA and the issuer have agreed that EBI will produce and disseminate investment recommendations on the said issuer as a service to the issuer.



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