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Fitch Revises Nigeria's Outlook to Negative; Affirms at 'B+'

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Thursday, January 26, 2017 8.46 AM / Fitch Ratings

Fitch Ratings has revised the Outlook on Nigeria's Long-Term Foreign and Local Currency Issuer Default Ratings (IDRs) to Negative from Stable and affirmed the IDRs at 'B+'. The issue ratings on Nigeria's senior unsecured foreign currency bonds have also been affirmed at 'B+'. The Country Ceiling has been affirmed at 'B+' and the Short-Term Foreign and Local Currency IDRs have been affirmed at 'B'.

Key Rating Drivers 
The revision of the Outlook on Nigeria's Long-Term IDRs reflects the following key rating drivers:

Tight FX liquidity and low oil production contributed to Nigeria's first recession since 1994. The economy contracted through the first three quarters of 2016 and Fitch estimates GDP growth of -1.5% in 2016 as a whole. We expect a limited economic recovery in 2017, with growth of 1.5%, well below the 2011-15 annual growth average of 4.8%. The non-oil economy will continue to be constrained by tight foreign exchange liquidity. Inflationary pressures are high with year on year CPI inflation increased to 18.5% in December.

Access to foreign exchange will remain severely restricted until the Central Bank of Nigeria (CBN) can establish the credibility of the Interbank Foreign Exchange Market (IFEM) and bring down the spread between the official rate and the parallel market rates.

The spot rate for the naira has settled at a range of NGN305-NGN315 per USD in the official market, while the Bureau de Change (BDC) rate depreciated to as low as NGN490 per USD in November 2016. In an effort to work with the CBN to help the parallel market rates converge with the official, BDC operators subsequently adopted a reference rate of NGN400 per USD.

However, dollars continue to sell on the black market at rates of well above NGN400. The authorities have communicated a commitment to the current official exchange rate range, but the availability of hard currency at those rates is severely constrained.

Trading volumes in both the spot and derivative markets increased following the June changes to the official FX market, but remain low, at of USD8.4bn in December, compared to USD24bn in December 2014.

Gross general government debt increased to an estimated 17% of GDP at end-2016, from 13% at end-2015, although it remains well below the 'B' median of 56% and is a support to the rating.

However, the country's low revenues pose a risk to debt sustainability. Gross general government debt stands at 281% of revenues in 2016, above the 'B' median of 230%. Nigeria's government debt is 77% denominated in local currency, which makes it less susceptible to exchange rate risk, but the share of foreign currency debt is increasing. Additionally, the government faces contingent liabilities from approximately USD5.1bn in debt owed by the Nigeria National Petroleum Corporation to its joint venture partners.

Fitch forecasts that Nigeria's general government fiscal deficit will remain broadly stable in 2017, at 3.9% of GDP, just below the 'B' category median of 4.2%. Nigeria is likely to experience a recovery in oil revenues, but will continue to struggle with raising non-oil revenues.


Total revenues will rise to just 7.4% of GDP, up from 6.2% in 2016, but still below the 12.4% of GDP experienced in 2011-15. Import and excise duties have experienced a boost from the depreciation of the naira, but corporate taxes and the VAT will continue to underperform, owing to issues with implementation and compliance.

On the expenditure side, growing interest costs will increase current spending. Fitch forecasts the cost of debt servicing in 2017 will reach 1.4% of GDP, up from an average of 1.1% over the previous five years.

The Nigerian banking sector has experienced worsening asset quality as a result of the weakening economy, problems in the oil industry, and exchange rate pressures on borrowers to service their loans.

The CBN reported that industry NPLs grew to 11.7% of gross loans at end-June 2016, up from 5.3% at end-December 2015. Tight foreign currency liquidity has also led to some Nigerian banks experiencing difficulty in meeting their trade finance obligations which were either extended or refinanced with international correspondent banks.

Nigeria's 'B+' IDRs also reflect the following key rating drivers
Nigeria's fiscal policy has been predicated on finding sources of external funding to finance increases in capital spending. The draft federal budget for 2017 calls for total spending of NGN7.3trn in 2017, up from the NGN6.1tn contained in the 2016 budget. Fitch does not expect the government to fully execute the capital spending envisaged in the 2017 budget, approximately NGN1.8trn, or 1.5% of GDP, but it will have to finance an overall federal government deficit of approximately NGN2.6trn. 
 
The authorities' financing plan calls for borrowing between USD3bn-USD5bn from external sources to finance the 2017 deficit and parts of the 2016 budget. The bulk of external borrowing will come from multilateral development banks and the government is also likely to go to market with a Eurobond offering of USD1bn in 1Q17.

The Nigerian government has negotiated USD10.6bn in export credits for financing infrastructure development; which is currently awaiting parliamentary approval. The government's financing plans also call for domestic issuance of approximately NGN1.3bn in 2017 and use of its overdraft facility at the CBN, which the government reports is currently at NGN1.5trn.

Nigeria's oil sector will receive a boost from the improved security situation in the Niger Delta and Fitch expects oil production to average 2.2 million barrels per day (mbpd) in 2017. Oil production fell as low as 1.5 mbpd in August, before recovering to 1.8 as of October 2016.

The recovery in oil revenues and increased fiscal spending could boost the economy in 2017, if the government can arrange improve the execution of capital expenditures. However, the present lull in violence and oil infrastructure attacks will only hold if the government can come to a more permanent peace settlement with Niger Delta insurgents

The government's policy of import substitution has contributed to significant import compression, which allowed the current account deficit to narrow to an estimated 1% of GDP in 2016, down from 3.1% in 2016. The naira depreciation in June helped to slow the loss of reserves and forward operations by the CBN allowed the authorities to clear a large backlog of dollar demand. Gross international reserves of the CBN stood at USD27.7bn in late January, down from USD29bn at end-2015, but higher than the August 2016 position of USD24.2bn.
 
The oil sector has shrunk to account for about 10% of Nigeria's GDP, but the overall economy is still heavily dependent on oil, which accounts for up to 75% of current external receipts and 60% of general government revenues. The Nigerian senate has promised to pass the Petroleum Investment Bill (PIB) in early 2017. The PIB has been under consideration for nearly a decade and could help increase efficiency and transparency in the Nigerian National Petroleum Corporation. 
 
Nigeria's ratings are constrained by weak governance indicators, as measured by the World Bank, as well as low human development and business environment indicators and per capita income.

 
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 FC IDR scale. 
 
Fitch's sovereign rating committee did not adjust the output from the SRM to arrive at the final LT FC IDR.
 
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 a downgrade are:

- Failure to secure an improvement in economic growth, for example caused by continued tight FX liquidity.

- Failure to narrow the fiscal deficit leading to a marked increase in public debt. 

- A loss of foreign exchange reserves that increases vulnerability to external shocks.
 
- Worsening of political and security environment that reduces oil production for a prolonged period or worsens ethnic or sectarian tensions.
 
The current rating Outlook is Negative. Consequently, Fitch does not currently anticipate developments with a material likelihood of leading to an upgrade. However, the following factors could lead to positive rating action:
 
- A revival of economic growth supported by the sustained implementation of coherent macroeconomic policies.
 
- A reduction of the fiscal deficit and the maintenance of a manageable debt burden.
 
- Increase in foreign exchange reserves to a level that reduces vulnerability to external shocks.
 
- Successful implementation of economic or structural reforms, for instance raising non-oil revenues, increasing the execution of capital expenditures and passing the PIB.
 
Key Assumptions 
Fitch's forecasts are for Brent crude to average USD45/b in 2017 and USD55/b in 2018, based on the most recent Global Economic Outlook published in November 2016.

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