June 11, 2019/Fitch Ratings
Fitch Ratings-Hong Kong-07 June 2019: Fitch Ratings has affirmed Nigeria’s Long-Term Foreign-Currency Issuer Default Rating (IDR) at ‘B+’ with a Stable Outlook.
A full list of rating actions is at the end of this rating action commentary.
KEY RATING DRIVERS
Nigeria’s ratings are supported by the large size of its economy, a track record of current account surpluses and a relatively low general government (GG) debt-to-GDP. This is balanced against poor governance and development indicators, structurally low fiscal revenues and high dependence on hydrocarbons. The rating is also weighed down by subdued GDP growth and inflation that is higher than in rating peers.
The 2019 general and gubernational elections passed relatively smoothly, despite technical disruptions and episodes of violence. The incumbent Muhammadu Buhari won a second term and his ruling All Progressives Congress (APC) regained its majority in both chambers of parliament. This could facilitate policy implementation, but weak party discipline in parliament and frequent disagreements between the presidency and legislature point to a continued high risk of delays to parliamentary approval of key legislation. Fitch expects policy continuity with the implementation of only piecemeal reforms, resulting in slow progress on tackling long-standing impediments to growth and weaknesses in macroeconomic management.
Nigeria’s fiscal performance mostly remains a function of fluctuations in oil revenues. However, the implicit subsidy of petrol prices (around 0.6% of GDP in 2018), the gradual clearance of joint-venture (JV) cash call arrears (outstanding stock of 1% of GDP at end-2018) and the conversion of government oil proceeds to naira at a below-market exchange rate continue to constrain budget receipts from hydrocarbon extraction. Fitch estimates that the GG deficit narrowed to 3.6% of GDP (federal government, FGN: 2.3% excluding transfers to state and local governments, SLGs) in 2018 from 4.5% in 2017 (FGN: 3.2%), mostly reflecting the recovery in oil prices.
Fitch forecasts the GG deficit to widen to 3.8% of GDP (FGN: 2.6%) in 2019 and further to 4.6% in 2020 (FGN: 3%) as the rise in oil production with the coming on stream of the Egina oilfield will be offset by the decline in oil prices under our baseline. Public finances are vulnerable to disruptions to production caused by recurrent acts of vandalism or other force majeure affecting Nigeria’s aging oil infrastructure. A USD10 change per barrel in the Brent oil price against our assumptions would, all else equal, impact the GG balance by around 0.6% of GDP.
Nigeria’s particularly low non-oil fiscal revenues averaging only 3.7% of GDP over 2016-2018 are a key rating weakness, reducing the fiscal space and resulting in a high fiscal Brent breakeven price of USD129 per barrel in 2019 and USD149 in 2020, according to Fitch’s estimates. A two-thirds rise in the minimum wage entered into force in April and could cause pressures on public finances, particularly for cash-strapped SLGs, although there is high uncertainty regarding its effective implementation date and fiscal cost. The government is contemplating offsetting measures, including a VAT rate increase, which faces strong opposition across the political spectrum.
Interest payments consumed 27% of GG revenues (FGN: 53%) in 2018 based on Fitch’s estimates, double the current ‘B’ median of 13% and will rise to 30% of revenues (FGN: 65.6%) in 2020, highlighting the risks to debt sustainability arising from low fiscal receipts. The authorities aim to contain the rise in the interest cost by substituting external concessional and commercial borrowing to onerous domestic financing. They also plan to reduce debt through partial privatisations of oil JV assets, which we do not expect to materially reduce their oil revenues.
GG debt will rise from 25% of GDP (FGN: 20%, including central bank overdrafts) in 2018 to 28.2% of GDP (FGN: 22.4%) in 2020, still well below the projected current ‘B’ median of 56%, under Fitch’s forecasts. Around 71% of GG debt was naira-denominated at end-2018, limiting refinancing and exchange rate risks but high direct and indirect foreign holdings of local-currency debt expose Nigeria to shifts in investor sentiment and global funding conditions. The debt of the Asset Management Corporation of Nigeria (AMCON) of 3.2% of GDP at end-2018 constitutes a contingent liability for the sovereign, and could rise in the context of high non-performing loans in the banking sector of 11.7% of total bank loans and an elevated proportion of restructured loans.
The Central Bank of Nigeria (CBN) operates a multiple exchange rate regime, which Fitch expects to be maintained for the foreseeable future. The naira exchange rate on the “Investors and Exporters” (I&E) window where most FX transactions take place, has remained stable in a narrow range since September 2017; the premium on parallel markets against the I&E rate has also mostly dissipated. These developments reflect improved FX availability supported by the recovery in oil prices and portfolio inflows, tight liquidity management and market interventions by the CBN as well as continued FX restrictions.
Continued high inflation could contribute to an overvaluation of the exchange rate and remains a credit weakness. Fitch projects inflation will average close to 12% in 2019-2020, well above the projected current ‘B’ median of 4.8%, propped up by cost-push factors. The impact of the monetary policy rate 50 basis-point cut in March on macroeconomic and financing conditions will be muted as the monetary policy stance is mostly determined by the CBN’s liquidity management operations.
Nigeria’s international reserves provide a sizeable external buffer, at USD42.8billion equivalent to six months of current account payments at end-2018, well above the current ‘B’ median of 3.5 months. However, Fitch notes that around USD6 billion of reserves are pledged in forward positions. Reserves are also buoyed by non-resident holdings of short-term CBN bills which amounted to USD15.8 billion (4% of GDP) at end-April, exacerbating susceptibility to reversals in volatile portfolio inflows and generating rollover risks. Non-resident holdings of CBN bills might not be entirely reflected in Nigeria’s external balance sheets statistics.
Nigeria’s long-standing net creditor external position has shifted to balance in 2018 reflecting a rapid rise in gross external debt, which has doubled in three years, increasing to 30.6% of GDP in 2018 from 15.3% in 2015. It still remains stronger than the current ‘B’ median of a net debtor position of 25% of GDP. Lower oil revenues will drive the current account close to balance in 2020 from an estimated surplus of 2.6% of GDP in 2018, under Fitch’s forecasts.
Nigeria will continue to experience a sluggish recovery driven by the rebound in oil prices and the expansion of services. Fitch forecasts GDP growth to average 2.2% in 2019-2020, below its previous 10-year average of 4.2% and the current ‘B’ median of 3.4%. High unemployment and inflation will constrain private consumption while investment is held back by tight credit supply, a weak business climate and regulatory uncertainty in the oil sector. A large infrastructure deficit, which is illustrated by acute power supply shortages and security challenges, also dampen the medium-term growth outlook.
SOVEREIGN RATING MODEL (SRM) and QUALITATIVE OVERLAY (QO)
Fitch’s proprietary SRM assigns Nigeria a score equivalent to a rating of ‘B’ on the Long-Term Foreign-Currency (LT FC) IDR scale.
In accordance with its rating criteria, Fitch’s sovereign rating committee decided not to adopt the score indicated by the SRM as the starting point for its analysis because the SRM output has migrated to ‘B’ from ‘B+’, but in our view this is potentially a temporary deterioration.
Assuming an SRM score equivalent to a rating of ‘B+’, Fitch’s sovereign rating committee did not adjust the output from the SRM to arrive at the final LT FC IDR.
The removal of a +1 notch on external finances reflects the upward revision to Nigeria’s external debt statistics based on IIP data published by the IMF and the CBN, which has led to a significant deterioration in Fitch’s estimate of Nigeria’s sovereign net foreign assets. The removal of a -1 notch on public finances reflects our view that risks to debt sustainability arising from Nigeria’s structurally low level of general government revenues are reflected by the rise in the general government interest payments-to-revenue ratio and are adequately captured in the SRM.
Fitch’s SRM is the agency’s proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch’s QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.
RATING SENSITIVITIES
The main factors that could lead to positive rating action are:
– A reduction of the fiscal deficit and stronger mobilisation of domestic non-oil revenues;
– Stronger growth potential for example due to implementation of structural reforms and macroeconomic policy adjustments.
The main factors that could lead to negative rating action are:
– Failure to achieve a sustainable fiscal consolidation leading to a marked rise in the ratios of government debt and interest payments to revenues.
– A loss of foreign exchange reserves that increases vulnerability to external shocks.
– Worsening of political and security environment that significantly disrupts oil production or economic activity for a prolonged period.
KEY ASSUMPTIONS
Oil and gas revenues accounted for 44% of general government revenues and 60% of current-account receipts over the last five years. Fitch forecasts a stable Nigerian oil production volume of 2 million barrels per day (mmbpd, including condensates) in 2019 and 2020 against a 2019 budget assumption of 2.3 mmbdp. The agency also projects Brent oil prices to average USD65/barrel in 2019 -against a budget projection of USD60- and USD62.5/barrel in 2020, down from USD71.6/barrel in 2018.
Other commodity prices and global economic trends are assumed to develop as outlined in Fitch’s most recent Global Economic Outlook published in March 2019.
Nigeria does not publish consolidated fiscal data on a general government basis, which complicates the assessment of fiscal performance. Fitch produces its own estimates for general government fiscal metrics based on disaggregated data on federal, state and local government revenue, spending and debt published by the Nigerian National Petroleum Corporation (NNPC), the CBN, the Debt Management Office (DMO), the Budget Office of the Federation (BOF), the National Bureau of Statistics (NBS) and the Office of the Auditor General for the Federation (OAGF).
The full list of rating actions is as follows:
Long-Term Foreign-Currency IDR affirmed at ‘B+’; Outlook Stable
Long-Term Local-Currency IDR affirmed at ‘B+’; Outlook Stable
Short-Term Foreign-Currency IDR affirmed at ‘B’
Short-Term Local-Currency IDR affirmed at ‘B’
Country Ceiling affirmed at ‘B+’
Issue ratings on long-term senior unsecured foreign-currency bonds affirmed at ‘B+’
