The recent flurry of project financing in Nigeria’s oil and gas sector has all the hall marks of a lively market. Oil and gas major Royal Dutch Shell is selling off a collection of onshore and shallow water assets to consortiums of small, indigenous oil groups. Local firms have swooped on acquisitions varying in size from between $200 million to over $1 billion.

It’s a process that has highlighted the buoyant domestic lending market and is also indicative of real optimism in the government’s ability to address the militancy in the Niger Delta, which has stymied the industry for years. Yet the bubbling deal flow is only surface deep. Delve down and the Nigerian market remains semi-paralysed by the stalled passage of key legislation on which so much new investment hinges. 

Shell sales spark local lending spree

Local banks, which have responded enthusiastically to the transactions, have dominated the financing of the Shell blocks, helped by their close relationships with the buyers, which are indigenous groups. All that is now needed, say bankers, is government approval of the deals. Nigerian banks have a clear understanding of the local onshore environment and are less worried about the risk compared to international banks, said one banker. Big lenders have grown wary of financing onshore and shallow water assets in the Niger Delta, where the insurgency has pushed projects offshore.

Local banks’ comfort with the risk has also helped them see off increased competition in the sector from Chinese banks, where appetite to finance oil and gas projects has picked up. “Chinese banks have been trying to finance some deals but they have fallen through because they were not happy with the security. Chinese banks are like the European and American banks a few years back. They have to realise that although things are not done in the same way it doesn’t mean the system doesn’t work,” said one banker.

Most of the Shell acquisitions have a debt equity split of 70:30 and are funded by 6-12 month bridge loans that will be refinanced with longer-term project finance debt with short five-year tenors. The pricing - the assets vary between those with good supporting cash flows and others requiring significant investment - is high at between 700bp and 800bp. A liquidity premium charged by local banks with higher funding costs means they have charged around 2% more than international competitors. Once the new operators have proven themselves and their risk profile falls project developers will likely seek cheaper financing from foreign banks on longer terms, although one Lagos-based expert predicts Nigerian banks will “jump straight back in.” 

Deals so far include Nigerian firm Nestoil and Poland’s Kulczyk Oil Ventures, an oil exploration company owned by Polish billionaire Jan Kulczyk, buying a 45% stake in OML 42 for an estimated $600 million. In April, Shell confirmed it had sold its stake, which it owns with Total and Eni, in block OML 40 to Elcrest, a joint venture between independent firm Eland Oil and local company Starcrest. A consortium of Niger Delta E&P and Petrolin are in the final stages of talks to buy another block. Elsewhere Conoil, a company owned by Nigerian billionaire Mike Adenuga, is close to completing a deal on OML 30, after submitting a bid of around $650 million. More blocks are also in the pipeline.

Bonds take off

Other bright spots in the sector include Pan-African oil and gas independent Afren’s recent foray into the capital markets. A first mover in the Nigerian market and a company whose growth trajectory blazes a trail for other independent oil groups in the region, successfully sold $450 million of senior secured notes earlier in the year. The hope is that other oil and gas corporates like indigenous energy group Onado, which has been hinting at a London listing for a while, will follow Afren’s lead and seek cheaper borrowing in the debt capital markets.

The Nigerian government’s debut $500 million Eurobond issue in January has set a benchmark to encourage more corporate borrowing and some issuers have already followed suit, like Guaranty Trust Bank. “A bond issue like Afren’s gives a corporate more room - these deals are more business-friendly. Banks are in your face 24/7, yet bond trustees are not quite so nosey,” said one Lagos-based lawyer.

The lead managers of the Afren bonds, due in 2016 and with an 11.5% coupon, are BNP Paribas, Deutsche and Goldman Sachs. The bond proceeds are likely to be used to refinance existing debt and for general corporate purposes and the issue is the same size as the $450 million borrowing base that Afren closed on its Ebok assets in Nigeria in May 2010. The lead arrangers of that five year loan, priced at 450-550bp over Libor, were BNP Paribas, Credit Agricole and Natixis. Afren has drawn down $107 million of that facility, and reported net corporate debt at the end of 2010 of $142 million.

Legislative logjam continues

The latest wave of deals has kept bankers busy but they only scratch the surface of a potential market which remains frustratingly out of reach. Nigeria’s oil and gas sector is in the grip of a suffocating deadlock that continues to stall the big deals. The Petroleum Industry Bill failed to pass before President Jonathan was sworn in for a new term at the end of May following Nigeria’s presidential, parliamentary and state governorship elections in April.

The risk is now that a new set of lawmakers will want to make amendments to the mammoth piece of legislation, which could delay it even more. “It begins an entirely new process. It will be reviewed by a different set of legislators,” despaired one banker. Uncertainty over the reforms, which could significantly increase the cost of operating in Africa’s biggest crude exporter, has put billions of dollars of potential investment on hold.

Positively, bankers predict more gas pipeline projects. AccuGas, owned by Seven Energy which trades as Septa Energy in Nigeria and the group behind a $70 million eight-year project financing with Stanbic IBTC Bank and United Bank for Africa last year, as well as Oando, are both reportedly looking for finance to expand existing pipelines. The bankability of pipeline projects lies in long-term off-take agreements that often stretch beyond the life span of the loan, the fact that the gas is sold at a fixed price that escalates over time, as well as state governments’ providing guarantees to protect lenders.

Priced at 800bp over Libor, the AccuGas project in Akwa Ibom state included the construction of a new 65km pipeline and a gas and liquids processing facility. It marked the first phase in Septa Energy’s plans to use the Niger Delta’s gas reserves to meet the growing energy demand from power plants and industrial users in the region, and it is these gas deals to supply industrial clusters that are attracting the most interest. Gas projects to feed power stations and Nigeria’s starved consumer market - where many endure blackouts and just a few hours of electricity a day - are still thin on the ground. Projects stall on uncertainty over gas supplies, fears that the price set by the government won’t guarantee a commercial rate and other unknowns including how best to collect payments from consumers.

Brass LNG tempts Asian contractors

Elsewhere stalled LNG projects are rumbling along. The $8.5 billion Brass LNG project, a joint venture between the Nigerian National Petroleum Corporation (NNPC), Agip, ConocoPhillips and Total is awaiting a final investment decision before it goes to the market, said one banker close to the deal. The project promoters will put in equity with the debt coming from international lenders with local banks putting in between $300-$500 million, he predicts.

The 10 million tonnes-per-year project which involves building a two-train liquefaction plant at Brass in Bayelsa state was first conceived in 2002 but the project stalled on insecurity in the Niger Delta as well as worries about the availability of gas after the government announced a push to divert more gas to go to the domestic market. Other concerns include a lack of government support for projects because LNG is not a “priority sector” or an important enough spur to job creation or economic growth.

However last year, in a clue that the Brass project was regaining momentum, South Korean and Japanese shipbuilders said they received a tender to serve the facility. Another spark came with the $1.1 billion debt financing for Nigeria’s state oil company NNPC and Exxon Mobil’s natural gas liquids project NGL2 at the end of last year.

Despite an industry-wide clamour for reform Nigeria’s long-awaited PIB remains elusive. In the meantime activity in the upstream sector has ground to a halt as international oil companies wait for clarity. Only Shell’s divestments, and other, small-scale projects, have kept the Nigerian oil and gas sector busy in a flow of deals that has allowed local lenders to flex their muscles. It will be these kinds of small deals that continue to characterise the industry in the months ahead. Some experts even go as far to suggest the industry would be better off working towards the concept that reform might never happen after all.  “I wouldn’t be surprised if it never passed,” said one UK-based banker. “It could drag on indefinitely.”