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January 14, 2021 /05:20 AM / By Proshare Research/ Header Image
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Oil & Gas and Financial Markets
Nigeria's
O&G sector has been a key driver of domestic economic growth in the last
four decades bringing huge foreign revenues but lacking complementary growth in
infrastructural and socio-economic development. The sector contributes less
than 10% to gross domestic product (GDP) in contrast to its agriculture sector
counterpart which contributes 24%.
The
alignment between the oil & gas sector and the financial services sector
mirrors an interesting misalignment between the financial services sector and
agriculture. While a large slice of loans and advances of deposit money banks
(DMBs) flowing to the oil & gas and power sectors, the agriculture sector
has had to rely on special lending arrangements supported by the Central Bank
of Nigeria (CBN) and its affiliate institutions.
The
oil & gas sector has been a poster child for growth in Nigeria but its weak
linkages with the rest of the economy have created a bizarre situation where
the growth of the sector has increased the size of the wallets of sector
participants but has not led to the required multiple benefits to the larger
society which wants to see a rise in living standards. Nigeria's oil sector
expansion has merely supported an accretion of funds to the Federal Allocation
Account (FAAC), which mainly goes into funding rising and bloated recurrent
expenditure of the government.
Nevertheless,
local banks still favour the oil & gas (upstream) sector as a linchpin of
domestic economic growth and allocate about a fifth of their loan book to the
sector. Another 7% of bank loans go to the mid and downstream segments of the
sector bringing total sectoral lending to 26.27% as of Q2 2020. Trailing the
oil & gas sector banks in 2020 have equally batted a favourable eye towards
the manufacturing sector despite a downturn in activities as a result of a
COVID-19-inspired fall in demand and disruption to local and foreign supply
chains. Roughly 16% of total bank credit went to the sector in Q2 2020 (see chart 6 below).
Chart 6: Choosing the Right Credit Jar; Nigerian Banks Still Favour Oil
Source: National Bureau of Statistics (NBS), Proshare Research
The
agricultural sector was able to muster a comparatively modest 4.8% of total
banking sector credit at the end of the second quarter of the year, suggesting
that banks have not been overly impressed with the suggestions given by the
federal government to increase sectoral credit exposure. The total credit to
the agricultural sector was about N903.7m in Q2 2020 as against credit to the
oil & gas sector of N3.6trn in Q2 2020 (see
chart 7 below).
Chart 7: Nigerian Bank Credit Q2 2020; A Look at The Sectoral Slices
Source: National Bureau of Statistics (NBS), Proshare Research
The
reluctance of banks to lend to the agricultural sector in comparison to the oil
& gas sector is understandable. The oil & gas sector, especially the
down and midstream segments of the sector do not throw up stellar returns (the
same is increasingly true of the upstream sector as costs grow steeper and
revenues turn flat), but they offer some notion (perhaps false) of stability
and predictability. Conversely, the agricultural sector is pepper-sprayed with
problems ranging from adverse seasonal weather conditions to poor storage
facilities, high transportation costs, lack of standardized contracts (leading
to highly variable incomes), and low farmgate margins.
The
relative exposure of banks to the two sectors also reflects in the relative
proportions of non-performing loans that banks carry on their books reflecting
the weight of sectoral lending. As of Q2 2020, the banking sector had a total
non-performing loan exposure to the oil & gas sector of N268.79bn. This was
followed by general commerce at N171.55bn and then construction at N167.86bn.
The fourth was general loans at N132.90bn and the fifth was manufacturing at
N117.26bn. The non-performing loans of the agricultural sector were eight at
N51.35bn (see chart 8 below).
Chart 8: Nigerian Bank Credit Q2 2020; When
Nigerian Bank Loans Go Bad
Source: National Bureau of Statistics (NBS), Proshare Research
The
total non-performing loans in the banking sector were N1.21trn in Q2 2020 with
the oil & gas sector representing 22.17% and the agriculture sector
representing 4.24% of bad domestic credit. General commerce represented
the second-largest slice of the non-performing loan pie at 14.15% with the
construction industry cutting in with a delinquent loan status of 13.85% (see chart 9 below).
Chart 9: Nigerian Domestic Credit; The Bad
Boys of Non-performing Loans (%)
Source: National Bureau of Statistics (NBS), Proshare Research
Of Banks, Bankers, and Oil & Gas
Banks
and bankers have not been able to shrug off the long-term romance with the oil
and gas sector that has spanned over five decades. The average banking officer
sees it as a stellar breakthrough to bring an oil loan into the bank's current
asset ledger. The excitement presumes that oil company revenues are large and
stable and would add sizeable value to the bank's profit and loss (P&L)
account. Unfortunately, this is usually fiction rather than fact.
The
global O&G sector in the last few years has been under intense pressure to
remain both stable and profitable. The rising costs of production and falling
revenues have squeezed operating margins thereby challenging the sustainability
of the sector. The pressure under which O&Gs operate is mirrored in the
proportion of non-performing loans (NPLs) associated with the sector on bank
loan books (see table 1 below).
Table 1: O&G and Banks: The
Tangled Relationship
To
wriggle out of the reshaped realities of the business, downstream oil & gas
businesses would have to adopt a three-phased approach to leaning into the
future according to analysts at a global research company, McKinsey Consulting.
The
McKinsey analysts argued that downstream oil firms will have to embark on the
following phased and overlapping measures:
Illustration 4: O&G Restrategizing: Thinking Across Three Horizons
Phase 1: Readjust
In this phase, downstream companies would be required to preserve cash
until a stronger indication of industry depression ends. The analysts
admonished that companies in the segment should "They should exercise the
full set of cash management levers, including reducing inventory positions,
lengthening suppliers' payment terms, reducing receivables terms, deferring
capital expenditures, and halting equity disbursements".
A few companies have already embarked on these measures, but this is
just a start to ensuring that businesses respond appropriately to the
imperatives of a shift in industry dynamics as they pull a few more levers.
Phase 2: Reimagine
The second phase of actions required to realign the downstream oil & gas business with changing supply and demand algorithms would include the following:
Globally downstream participants, particularly oil refiners, stand to
pump additional margins of between US$1.00 and US$1.50 if they can cap the
pressure of rising industry costs. A few ways of doing this would include, but
would not be limited to the following:
Phase 3: Reform
The third horizon of O&G executives in a volatile business
environment has to be reform. To assume that the old ways of doing business
would achieve the expected new results would be naive. The shifts in global oil
and gas demands and the evolution of energy use and technology would require
the O&G sector to rethink and reform its business because not doing so
would be like swimming happily while the tide is high only to realize that one
has no pants on when the tide runs out, many businesses will suffer this fate
as they remain oblivious of the technological Tsunami flooding their
doorsteps.
Downloadable Version of Oil and Gas: Working the New Normal in the Time of a Pandemic Report (PDF)
1. Full Report: Oil and Gas: Working the New Normal in the Time of a Pandemic - Jan 11, 2021
2. Executive Summary: Oil and Gas: Working the New Normal in the Time of a Pandemic - Jan 11, 2021
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