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Power Sector - Changing Potential to Reality

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Monday, August 14, 2017 1:25PM / CardinalStone Research

Investment Thesis - Reasons to be positive despite challenges
Nigeria's power market is fundamentally attractive for investment, given the country's growing demand for electricity. Nigerians use far less electricity per capita than citizens of comparable economies in Africa - only about 151 kilowatt hours (kWh) per capita, compared with 4,326 kWh per capita in South Africa and 1,697 kWh in Egypt.

The power sector offers significant long-term opportunities for bold investors as the Nigerian economy strives to evolve from its frontier status to an emerging economy.


With urbanization progressing at about 3.8% annually, which is higher than the country's annual population growth rate of 3%, more than 60% of Nigerians are projected to live in cities by 2030 pushing up demand for electricity in the residential areas.


The country's growing middle class estimated at c.23% of the population and youthful population further add up to the robust energy consumption story outlook.


Current State - Challenges and Threats

In spite of these opportunities, investors are wary about the viability of the electricity market in Nigeria for several reasons. The biggest of these is the financial viability of the distribution companies, which suffer large losses across the distribution system, for both technical and commercial reasons.

This has significantly impaired the ability of the generating and distribution companies to recover all costs and generate appropriate returns on investment. Electricity grids in developed markets expect losses below 15%, but the losses by Nigeria's utilities over the past five years has been as high as 30%. About one-third of that loss is technical, but the rest is lost to pilferage.


Also, the electricity pricing assumptions under the amended Multi-Year Tariff Order (MYTO) have been largely unrealistic as FX and inflation rates have breached the set levels without a complementary adjustment to electricity tariffs.


The impact has been lack of cost-reflective tariffs and accumulation of deficits by power companies which has caused liquidity strains and has reduced the attractiveness of the sector to lenders and investors.


PSRIP - Government's response to these challenges

To address the liquidity challenges, the Central Bank of Nigeria approved the N701 billion Power Assurance Guarantee fund primarily targeted at reducing the backlog owed to generating companies. The federal government also released the policy document titled "Power Sector Recovery and Implementation Program (PSRIP)" in March 2017, a series of carefully though-out policy actions and interventions to be implemented by the Federal Government to reset the Nigerian Electricity Supply Industry and address the financial viability of the sector.

The biggest component of the PSRIP in our view is the practical approach to resolving the market viability of the sector which will involve some form of government subsidy until the sector becomes investment-friendly again. The plan will be carried out over a five-year period.


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