FINANCING GAS PROJECTS IN GHANA: Do the Ghanaian Banks have what it takes?

By Adwoa Oye Acquaiye

The advent of oil production in commercial quantities in Ghana requires the appropriate infrastructure to ensure the efficient operation of the oil industry. In the past years however, financing of such projects have been funded by grants and loans from foreign investment banks and multilateral agencies. With a 90% local content target by 2020, it is expected that Ghanaian Banks will play a major role in financing the oil and gas sector. After difficult transition of insolvency, illiquidity, credit rationing and interest rate controls, the banks in Ghana have been strengthened by better regulation. This paper assesses the banks operating in Ghana and their capacity in financing energy projects using the Jubilee Gas Field Development Project as a case study. 

Project Finance has in the last couple of years become particularly popular as a tool for

 economic development due to its ability to offer funding for the construction of green-field[1] projects with limited or no recourse to the project sponsors. Project financing precisely involves the funding of ‘a particular economic unit in which the lender is satisfied to look at the cash flows and earnings of that economic unit as a source of funds from which the loan will be repaid and to the assets of the economic unit as collateral for the loan.’[2]

This mode of financing also enables the sponsor to obtain finance to undertake such green field projects without the effort having an impact on the company’s balance sheet or credit worthiness.[3] Hitherto, most governments and companies especially in developing countries relied on the capital markets or their own coffers to finance such projects.[4] According to the International Finance Corporation(IFC), about 75% of infrastructure projects in Africa in 2006 were financed via loans from multilateral agencies such as the International Monetary Fund (IMF) and the African Development Bank (AfDB). 

 The advent of oil production in commercial quantities in Ghana requires the appropriate infrastructure to ensure the efficient operation of the oil industry. These infrastructure which are highly capital intensive cannot be solely financed by equity by the government. Although project financing is not a new phenomenon in Ghana, over the years such large scale infrastructure have been funded from foreign grants and loans from these multilateral institutions. With a 90% local content target by 2020, it is expected that Ghanaian Banks will play a major role in financing this sector. This has churned a lot of discussion with regards to the capability of these to finance these projects. The paper therefore will seek to assess the banks in operation in Ghana and their capacity to finance energy projects using the Gas Development Project as a case study. 

PROJECT FINANCING ENERGY PROJECTS 

Energy projects in both developed and developing countries like Ghana require large scale long-term financing- making project financing the dominant method of financing.[5] It also serves as a means of raising capital to fund projects which may be impossible to finance with equity especially where the sponsor is a government.[6] It creates the possibility to obtain financing with limited or no recourse to the sponsor where the cash flows of the project are the principal source of repayment.[7] The liability is thus limited to the assets of the project being financed.[8]

Project finance involves the institution of a ‘Special Purpose Vehicle’ (SPV) which takes charge of the operations of the project. An SPV may be enacted through a joint venture, incorporation of a limited liability body, a partnership or a limited partnership.[9] Perhaps, project financing owes its popularity to the fact that the recourse in lending is limited to the special purpose vehicle. It provides the sponsor an opportunity to have a project constructed without the debt affecting its balance sheet thus having little or no effect on its gearing,[10] whilst also enjoying tax shields on interest payments- a phenomenon which is nonexistent when equity is used. Moreover, the SPV is managed by specialist capabilities, skills and resources in creating and delivering major complex projects. 

Project finance is all about risks and return and how these risks are mitigated. It could be used as a tool for allocating the risks of the project to the party best able to manage it. It also enables the sponsor to insulate his/her entire business from any risk the project in question might bring. [11] Most projects which require this form of financing have a long lead time and require technical expertise to ensure the completion of the projects and repayment of loans in the long-run. 

Financing Arrangements 

Financing of a project takes various forms with the most commonly used methods being financing from commercial loans, bonds, export credit agencies, multilateral agencies, leasing companies etc.[12]

Figure 1 shows financing alternatives for oil and gas projects.[13]

Commercial bank loans have been the most popularly used financing although in recent years due to the current economic meltdown banks have reduced the level of lending due to the large sums and risks involved. [14] Commercial loans owe their popularity to the level of experience and expertise in risk appraisal by commercial banks. The tenor and interest rates for commercial loans are usually negotiated between the sponsor and the lending bank and is usually dependent on the risks associated with the project. 

Choosing a Bank 

The choice of a bank by a borrower is dependent on a number of criteria given that there is a whole range to choose from. Notwithstanding this, a borrower would want a bank with certain qualities and features to meet its lending needs. Considering the scale and scope of energy projects, the size of the bank is very important when selecting one for a project financed loan since they have exposure limits to the clients and sectors they finance. 

Borrowers prefer to deal with experienced banks. The level of experience in the business of financing the particular project will determine the bank’s commitment to taking the risk of financing since it would be in a better position to ascertain and deal with all the project risks which may arise. A borrower would also require a bank which is supportive; and would want a bank which would be willing to support the project even during an economic crunch[15]. 

What Lenders Look Out For 

Commercial banks in the early 1980’s played a major role in the financing mix of energy projects especially in developing countries. These banks undertook highly leveraged debt financing resulting in low returns and high risk loan portfolios.[16] It is no doubt they were badly affected by the debt crisis which resulted in huge losses later in the mid 1980s. These crises have made banks more risk averse emphasizing the development of stronger security and risk sharing methods. In this regard, banks usually conduct due diligence on the project being financed to ensure all possible risks are identified. 

Operators of banks act as agents to their shareholders thus must ensure repayment by borrowers. Banks therefore assess the viability of the project being financed. A number of factors such as capacity to pay, the collateral or security used, the character or track record of the borrower, the economic conditions prevalent at the time of borrowing, equity contribution, the purpose, amount and tenor may influence the bank’s evaluation of the project. Specific to the energy industry, a bank will ensure in natural gas financing for instance, that a gas processing plant secures long term/ take or pay contracts at agreed prices matching the tenor of the loan to ensure revenue to service the loan. 

 Loan Syndication 

The size of the lender in terms of capacity to lend is very crucial in project financing. Due to the risks and large scale nature of energy, infrastructure and other projects financed in this manner, very few banks are able to individually finance such projects. Even banks with the capacity to do so they are constrained by risk exposure and regulatory limits. In Ghana for instance, a bank may not be exposed to a single obligor by 10% or 25% of its shareholders funds for secured and unsecured debts respectively.[17] This necessitates the use of loan syndications. 

Loan syndication involves financing by a number of lenders using identical conditions for lending. This financing maybe administered and arranged by a number of commercial or investment banks known as the lead banks or the arranger. Syndicated loans are usually based on ‘a fixed spread based on an index.’[18] Most banks use the London Interbank Offer Rate (LIBOR). Loan syndication has over the years been a major means of raising large amounts of capital as well as risk transfer. Finance for the Eurotunnel for instance was raised via a consortium of some 255 banks.[19]

BANKING SECTOR IN GHANA 

Overview of Banking Industry 

The banking industry in Ghana in the last decade experienced significant change evolving from the traditional segmentation of the banks into commercial, development and merchant banks to the era of universal banking where one bank is able to offer the whole range of banking services such as retail, commercial and corporate banking. 

Prior to this the banking sector also went through a number of reforms. The Economic Recovery Programme (ERP)[20] and Financial Sector Adjustment Programme(FINSAP)[21] were both instruments used to restructure the financial sector between 1980s to 1990s after a period of inefficiencies in the banking sector. Coupled with the fact that the banks during this period practically stopped lending to the private sector, the long list of non-performing loans and very high interest rates rendered the industry uncompetitive.[22] Thus after difficult transition of insolvency, illiquidity, credit rationing and interest rate controls, the banks have been strengthened by better regulation. Most of these banks are now more competitive, profitable and efficient than they were a decade ago. 

The total assets of the banking industry in 2009 were about $18 million signifying an 82% growth from the period when banking was liberalised.[23] At present there are 26 licensed universal banks currently operating in the Ghanaian market with 135 rural Banks.[24] For the purposes of this research the banking sector will refer to only the universal banks. 

Ownership 

Unique to the Ghanaian banking sector unlike in most developing countries is the level of state ownership both for banks listed on the capital markets and privately owned ones. Out of the total of 26 universal banks operating in Ghana, the government has stakes in 5. 12 of the banks are Ghanaian owned with 7 listed on the capital market. The foreign banks are owned by international investors mostly from other African countries with Nigeria being the major investor. 

Capital Requirement 

As part of the Central Bank’s efforts to strengthen and increase the capacity of banks operating in Ghana, the minimum capital requirement to operate as a universal bank was increased to GHS 25million ($17.1 million) by 2010 and to GHS 60 million by 2012.[25] The recapitalization of banks in the industry has boosted the robustness of the banking sector, increasing the capital base of the banking industry; a fact which the central bank believes will put the banks in a better position to take advantage of likely business potential from the Oil and Gas industry. 

However, an issue identified with the recapitalisation is the fact that foreign banks although had a shorter deadline as compared with locally owned banks were at a greater advantage due to the financing they receive from their parent companies putting Ghanaian owned banks at a disadvantage. Presently some 7 Ghanaian owned banks are still struggling to raise the capital.[26]

Project Financing In Ghana by Ghanaian Banks 

Ghana has been a major producer of various minerals and metals with gold being one of the major foreign exchange earners. The exploration and production of these minerals necessitated the construction of large scale infrastructure with long lead time to ensure the efficient running of the industry. These projects however, have all been mostly financed by foreign banks. Disappointingly, the Ghanaian banking sector has not significantly contributed to the financing of these projects. 

The Ashanti Goldfields for instance raised a US$ 60m facility through a syndicate of foreign investors to enable it finance its new gold mine in Bibiani.[27] Sugri Limited also a member of the Goldfields Group raised US$60M through the French Societé Generale. The Goldfields Ghana a subsidiary of Goldfields South Africa also through N. M. Rothchild & Sons as its facility agent for some European Investment Banks arranged financing of US$75M for the expansion of the company’s open cast mines it had recently acquired from the state. 

 Other infrastructure projects like the country’s Ghana Energy Development and Access Project (GEDAP) are also being financed by the World Bank. Ghanaian banks have played very little role in the financing of infrastructure projects. The government has had to rely on foreign donors and loans to finance the construction of roads and other infrastructure. Perhaps, this is due to the high political risks associated with dealing with the government. The Daily Graphic, the national newspaper of Ghana reported that contractors had still not been paid for projects executed on behalf of the government as far back as 2007. These contractors who secured financing from banks are still paying high default interest rates on their loans which are due. 

The issue therefore is whether the low record of project financing by Ghanaian Banks is due to non and/or late payment by the government resulting in a high political risk or due to the fact that the banks generally do not have the capacity to lend such long term loans. 

NUTSHELL:

Adwoa sets the tone for an examination of the capacity for Ghanaian Banks to finance gas projects in-country. She examines the structure of project financing in Ghana and the industry disposition based on the onset of oil & gas in Ghana. Adwo asks: Will banks have the capacity to lend to operators in the oil and gas industry? Will the Ghanaian banks be in a position to finance the country’s gas processing plant which will play a key role in power generation? In her next and final installment on Financing Gas projects in Ghana Adwoa will examine the considerations for a bankable project, the role of ghanaian banks in the financing mix and the Ghana Gas Development Project.

[1] Greenfield projects are new projects new projects that are not constrained by any prior work. 

[2]Peter K. Nevitt and Frank J. Fabozzi, Project Financing . 7th Edition (Euromoney books, 2004) 

[3] International Financial Reporting Standards however mandates they are disclosed in notes. 

[4] Hossein Razavi, Financing Energy Projects in Emerging Economies. (Pennwell Publishing Tulsa, 1996) 

[5] Supra 3 

[6] Ibid 

[7] Milbank, Tweed, Hadley and McCloy., The Guide to Financing International Oil and Gas Projects. (Euromoney books, 1996) 

[8] Ibid 

[9] Graham D. Vinter, Project Finance. 2nd Edition ( Sweet & Maxwell, 1998) 

[10] International Financial Reporting Standards however mandates they are disclosed in notes 

[11] Milbank et al, 1996. Project Finance: The guide to financing international oil and gas projects 

[12] Nevitt P. K. and Fabozzi F. J., Project Financing 

[13] Financing oil and gas projects. Available at:<http://arpel.clk.com.uy/ppt/VIERNES%2024/Mesa%20redonda%207/Vogt.pdf> 

[14] Philip R Wood, Project Finance Subordinated Debt and State Loans (Sweet and Maxwell, 1995) 

[15] Supra note 13 

[16] Supra note 5 

[17] Banking Act of Ghana, 2004 

[18] Supra note 5 

[19] Supra note 3 

[20]Brownbridge, M. and A.F. Gockel (1996) ‘The Impact of Financial Sector Policies on Banking in Ghana’, IDS Working Paper, No. 38, Institute of Development Studies, Sussex University 

[21] Ibid 

[22] Ibid 

[23] PriceWaterCoopers, Ghana Banking Survey, 2010. 

[24] Ibid; Bank of Ghana, Register of Rural banks in Ghana available at:<http://www.bog.gov.gh/index1.php?linkid=276> (accessed 01-05-2010) 

[25] Foreign owned banks were required to meet the GHS 60million in December 2010. 

[26] Domestic Banks urged to merge. My Joy on line available at: <http://news.myjoyonline.com/business/201104/64927.asp > ( Last visited 01-05-2011) 

[27] Project Financing and Emerging Trend on the Ghanaian Mining Scene, available at:< http://www.fugarandcompany.com.gh/project-finance.doc> (accessed 01-05-2010)