As the exchange rate volatility that saw the naira surrender half its value against the dollar in 2016 cools, the business case for Nigeria is perhaps steaming hot.
In this interview, senior members of the private equity team of Lagos-based legal powerhouse, Udo Udoma and Belo Osagie (UUBO), talked to Lolade Akinmurele on recent trends in private equity.
Investor confidence on the rise
Private equity has been an integral part of the Nigerian and wider African growth story in recent years, peaking in 2015 and surviving the global oil price volatility that ushered Nigeria into a technical recession.
Notwithstanding recent economic challenges arising from global oil price volatility and Nigeria’s dependence on oil, various impactful steps – including the Central Bank of Nigeria (CBN)’s foreign exchange control policies aimed at addressing the resulting erosion of foreign investor confidence in Nigeria, the on-going legislative review of various company, investment and securities, trust, financial and competition laws – have been, and are being, taken to facilitate investment and the regulation of investments in Nigeria.
Like other investors, private equity investors variously experienced the same uncertainty over their ability to legally access foreign exchange to implement exits, further constrained by the defined 5 to 7-year investment horizon and exit windows on which they had based their investment and led in some instances to deferments and delays in exiting within previously expected timeframes. Such uncertainty also caused prospective investors to sit on the side-lines and ‘wait out’ the stabilisation of the forex market.
Nigeria is Africa’s largest and most populous economy, with demographics that make it an irresistible market, promising high returns. Some of the factors that appear to be restoring investor confidence in this market after the 2014 – 2016 dollar shortage are the steps that the CBN has taken to liberalise the foreign exchange market, which appears to have helped narrow the gap between the official market and the ‘black market’, as well as steadily rising oil prices. One invaluable takeaway from this period has been the discernible diversification in focus of investors and Nigerian entrepreneurs to nascent or fast-growing sectors such as agriculture and agribusiness, FMCG, FinTech and healthcare.
The Nigerian allure
The rising purchasing power of Nigeria’s burgeoning middle class has accounted for increased private equity activity in consumer-driven sectors such as e-commerce, retail, consumer goods and healthcare.
According to the McKinsey Global Institute, Nigeria was the largest consumer market on the continent in 2015, accounting for 26% of total household consumption on the continent, and the country is expected to retain this position through to 2025 which will account for 15% of the growth in consumer spending in Africa.
Substantial tax incentives and progressive government policies have also encouraged the growth of the agricultural sector which, in turn, generated a significant amount of PE activity in 2017.
This growth trajectory is also supported by a recent World Bank report which posits that sub-Saharan Africa’s total food and beverage market will reach US$1 trillion by 2030, up from US$313 billion in 2010, with cities expected to account for a greater part of the increased consumption.
Insufficient affordable housing in metropolitan cities such as Lagos and Abuja, has also driven increased interest in the real estate sector.
The power sector will also continue to be one of Nigeria’s most significant industries given the need to generate and provide uninterrupted electricity to consumers.
Gains of 2017 and outlook for 2018
The reforms in ease of doing business greatly contributed to restoring the confidence of private equity investors in the Nigerian market.
On 21 February 2017, the federal government, through the Presidential Enabling Business Environment Council, released a 60-day action plan to further facilitate doing business in Nigeria. Thirty-one reforms are proposed across eight priority areas: starting a business; construction permits; getting electricity; registering property; getting credit; paying taxes; trading across borders; and entry and exit of people. In addition, reforms implemented by the Corporate Affairs Commission include online business registration and company incorporation.
Other reforms include simplifying the business and tourist visa processes. Of great significance was the introduction by the CBN of new foreign exchange trading window (FX Window) for special investors and exporters with a view to boosting liquidity in the foreign exchange market, and ensuring timely execution and settlement for eligible transactions.
These reforms delivered visible gains as can be deduced from Nigeria’s improvement on the World Bank Ease of doing business index, where the country moved 24 spots to 145 in 2017 from 169 the year before.
Meanwhile, the steady rise in crude oil prices have increased Nigeria’s foreign reserves, strengthening the Naira and curtailing further inflation.
The government has paid more than lip service to the diversification of the economy, and the attainment of self-sufficiency with respect to food for this ballooning population. Local production of rice, a major staple food in Nigeria, is on the rise, as is the production and processing of tomatoes and other foods.
The legislative review of draft bills on investments and securities, the enactment of the Secured Transactions in Moveable Assets Act 2017, measures taken towards the liberalisation of the foreign exchange market, and the support that government – at the federal and state levels – are providing to the agriculture and other sectors in order to encourage the diversification of the economy have gone a long way in improving the investment climate and enhancing the overall outlook for inward investments generally and for private equity in particular, in Nigeria.
Impact of Investor and Exporter window
In the wake of the downturn in crude oil prices which led to a reduction in national revenues and consequent depletion of the foreign reserves, there was enormous pressure on the Naira due to an increasing demand for foreign exchange.
As the Naira lost up to 50% of its value, the CBN sought to defend the Naira and curb speculation in the currency which led to a widening gap between the rate at which foreign exchange could be obtained in the official market, and the rate quote on the street.
The difference between these rates meant that while foreign inflows from investors into the Nigerian economy would have been purchased for N305, this was not reflective of the real value of the Naira, which exchanged for much less in the unofficial market.
The artificial rate imposed by the CBN meant that on the day that a PE investor inflowed its funds and converted it into Naira, it made a significant loss on its investment, with a potential for even further losses if the Naira continued on its downward spiral. In April 2017, the CBN sought to address this by introducing the investors’ and exporters’ FX Window (I&E).
The main highlights of the I&E are the supply of foreign exchange to the FX Window by portfolio investors, exporters, authorised dealers and other parties, and the fact that rates at which transactions are carried out in the I&E are not dictated by the CBN or banks but rather, agreed between parties.
Eligible participants in the I&E can obtain foreign exchange for the remittance of principal amounts of loans, interest payments, dividends, capital and income remittances, consultancy, technology transfer and management services fees. The CBN has stated that it will participate in the I&E from time to time to promote liquidity and professional market conduct.
The period from 2015 to date has been characterized by a wave of changes to national foreign policy, leading to uncertainty as to the ability of investors to inflow and repatriate funds lawfully into, and out of the country. Coupled with a genuine scarcity of highly-demanded foreign exchange which led to seemingly endless queues of participants in the market, investors have been unwilling to bring new investments into Naira without clarity on their ability to exit such investments and repatriate their capital and earnings. In our view, the I&E has resolved this problem, and significantly improved investor confidence.
Low scale and upcoming elections top challenges to be faced by PE investors in 2018
The dearth of Nigerian businesses that have achieved sufficient scale to absorb significant PE investments, human capital constraints and relative underdevelopment of target / portfolio companies are some of the most recurring challenges.
Nigeria is approaching another presidential election, which, as previous experience indicates, usually leads to a reduction in new investments as investors wait out the election cycle to assess the fiscal and economic policies of the new government.