Bonds fund large-scale infrastructure projects in Kenya

In 2014 Kenya sold its maiden eurobond, raising $2.8bn in the process. It was an important step forward as accessing dollar-based credit has been crucial to scaling up infrastructure spending and has helped diversify funding sources.

Current State

As of late 2016 the total amount of debt as a percentage of GDP was well within manageable ranges, and Kenya’s sovereign credit ratings are among the highest in Africa. Kenya’s sovereign debt was rated “B+” by Standard & Poor’s and Fitch, and “B1” by Moody’s . Only Botswana, Morocco and South Africa had higher ratings as of late 2015. The IMF’s most recent debt sustainability analysis, conducted in March 2016, determined that under its baseline scenario of continued economic growth, Kenya’s debt levels are likely to remain manageable to 2025 and drop slowly after that.

Kenya’s debt-to-GDP ratio was 52.8% as of late 2015, and according to research from Exotix Partners, average maturities for domestic government bonds have been extended out beyond five years, leaving more room in the pay-back period. Debt servicing costs were at a manageable level of 9.4% of expenditure in the FY 2014/15 budget cycle. Almost half of debt is external and, apart from the eurobond and some other international loans, much of it was secured at concessional rates from various international aid agencies.

However, while there is no immediate cause for concern, debt levels will be closely watched in the coming years, particularly as heavy capital spending is likely to continue. Debt as a proportion of GDP may be low but it remains high in comparison with other countries in the region. Standard & Poor’s and Moody’s both downgraded the outlook for Kenya from stable to negative in 2015, on concerns about growing debts. However, in October 2016 Standard & Poor’s revised Kenya’s rating back to stable, citing improved fiscal and economic performance. Kenya may sell another eurobond, and also raised $750m in a syndicated loan in 2015.

The country also borrowed $3.6bn from Chinese state-owned entities to build the Standard-Gauge Railway (SGR), the country’s biggest infrastructure project, with some concerns that Kenya is paying too much. Ethiopia also contracted with Chinese firms to build a similar railroad and paid less on a per-kilometre basis, for example (see Transport chapter). “When you are embarking on a debt-driven investment drive, one of the key components is getting good value for what you are paying,’’ Aly-Khan Satchu, CEO of the Nairobi-based investment and consulting firm Rich Securities, told OBG. The SGR is expected to be operational in 2017, and to boost GDP by 1.5%, according to government projections. Fears could be eased if those gains are realised.

Spending Frugally

The government has also responded to debt concerns with lower spending in its FY 2016/17 budget. While top-line spending has risen, the proposed deficit spending is 6% lower than in the previous budget. Deficit spending had been on the rise, climbing from 1.2% of GDP in 2005 to more than 10% in 2014, a trend seen across sub-Saharan Africa. Nonetheless, the government’s tighter fiscal approach in the current cycle represents a change after 10 years of expansionary fiscal policy.

Comparison

The country stands out in a regional context as unlikely to struggle to finance that deficit, according to analysis from the ratings agency Moody’s, because its economy is not dependent on exporting raw materials and because it has a relatively developed domestic debt market in a sub-Saharan African context. Moody’s listed Angola, the Republic of Congo, Gabon, Zambia and Mozambique as countries more likely to struggle to make up budget deficits in 2017. The rating’s agency research wrote, “In all non-commodity-dependent countries, we expect liquidity pressures to remain broadly manageable in 2017. Many of these countries will benefit from relatively developed and liquid domestic capital markets, and bilateral and multilateral financing, by varying degrees.”

Regional Peers

Given its hopes to soon join the ranks of global oil producers, Kenya has also drawn parallels with Ghana, the West African country often cited as a comparison. Ghana became an oil producer in 2010, and the two countries have historically been seen as African leaders in terms of their democratic credentials and quality of governance.

However, Ghana found itself seeking an IMF bailout at a stage Kenya is at right now: with low debt, prior to producing oil and with an increased ability to sell bonds. Ghana sold a eurobond in September 2016 with a yield of 9.25%, triggering debate in Kenya about the rate it can expect.

Another point of similarity between Kenya and Ghana is that the entry of the countries into international debt markets has meant a change in their respective repayment profiles. Kenya’s debt repayment schedule includes a smooth profile of regular obligations from multilaterals and bilateral creditors, but commercial debt comes with a bigger challenge, according to the IMF, in the form of large bullet payments coming due. The 2014 eurobond, for example, was sold in part to fund the repayment of a previous loan on commercial terms. The debt profile features large payments due in 2017, 2019 and 2024, reported the IMF. “Commercial borrowing needs to be managed carefully to minimise the impact of repayment spikes,’’ according to the March 2016 debt-sustainability analysis.

Long Term

As of early 2017 it was expected that Kenya would sell KSh226bn ($2.2bn) in bonds on the domestic market in FY 2016/17, and raise KSh287bn ($2.8bn) externally. In FY 2017/18 expectations include more domestic debt, with the total rising to KSh320bn ($3.1bn), along with a drop in external borrowing, which is seen dropping to KS221bn ($2.15bn). The FY 2016/17 figures represent a downward revision from previous expectations shared with media — as of October 2016 the country had been planning KSh462bn ($4.5bn) in external borrowing. Cabinet secretary of the National Treasury Henry Rotich told media early in the month, before travelling to Washington DC for the annual meetings of the IMF, that he would be discussing a potential eurobond sale with investors there.

The IMF, for its part, believes that Kenya’s main debt-management challenge would come from international conditions rather than internal factors. In the long term Kenya would certainly be vulnerable in the case of any global financial crisis or a loss of access to global financing, as its current account deficit is typically financed by short-term capital inflows. This stands out as a potential vulnerability, according to research from the Brookings Institution, a Washington DC-based think tank.

However, there are also some Kenya-specific indicators in the future which stand out as relevant to watch. Another factor is the debt maturity schedule, which is not a smooth one. Payment obligations spike in 2017, when the syndicated loan matures, and in 2019 and 2024 when lump payments are due to eurobond holders. The IMF speculated that the country may opt for more syndicated loans as a way to boost external borrowing and lessen its reliance on domestic capital. If that happens, the fund recommends pushing for longer maturities.