Reviews & Outlooks | |
Reviews & Outlooks | |
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Tuesday, January
22, 2019 11:28 AM / ARM Research
Executive Summary
In our H2 18 strategy
report, we had estimated fiscal deficit over 2018 to print at N1.8 trillion –
from our revenue expectation of N5.1 trillion and expenditure of N6.9 trillion
– which basically formed our domestic borrowing expectation of N388 billion
over 2018 after adjusting for CBN funding of 50% of the projected domestic
borrowing N775 billion. Coming into 2018, actual fiscal deficit in the first
nine months of 2018 printed at N1.1 trillion as higher government outlay during
the period exceeded FG receipts over the same period. In a deviation from the
prior year wherein the deficit was finance solely by borrowings, domestic
borrowing came in significantly lower (with net issuance of N84.5 billion, 9M
17: N969.6) with the remaining deficit largely financed by CBN as FGN far
exceeded its statutory limit, with net increase in the apex bank’s ways and
means advances of N1.19 trillion.
Coalescing our expected
average crude oil price of $55.95/bbl. in 2019 and our forecast crude oil
production of 2.07mbpd, we project oil revenue of N2 trillion relative to
budget estimate of N3.69 trillion. On non-oil revenue, following the kick-off
of the divestment process of FG’s equity stake in JV oil assets in 2018, we see
some room for completion during the year, albeit at a lower valuation. Overall,
we estimate FG’s total revenue of N4.36 trillion, compared to budget estimate
of N6.97 trillion. With our modelled budget implementation of 82%, we estimate
that fiscal deficit could range between N1.83 trillion and N3.76 trillion with
our base case of N2.89 trillion. In terms of financing, on the sale &
privatization of government assets where FG expects N210 billion, we forecast
no sale and project foreign borrowing of $2.7 billion (N825 billion) over the
second half of the year. With regard the balance of N2.1 trillion which should
ordinarily be financed through domestic borrowing, we assume 34%-part funding
by the CBN which suggests that the government could possibly net issue ~N1.4
trillion over 2019 under our base scenario.
A leapfrog in
Federation account amid fudge in assumptions
The first-nine months of
2018 (9M 18) recorded a boost in federation account as gross federallycollected
revenue expanded 32% YoY to N6.49 trillion, though lower than the prorated
budget estimate of N9.8 trillion. The jump in finances cuts across both oil and
non-oil revenue. Oil revenue stood at N4.1 trillion compared to N2.9 trillion
in 9M 17 while non-oil revenue printed at N2.4 trillion compared to N2.1
trillion in the matching period of 2017. The drivers for the expansion in oil
revenue are higher crude oil prices and relatively stable crude oil production
which supported improved crude oil and gas sales, while expansion in VAT, custom
revenues and CIT buoyed the increase in non-oil revenue. In terms of the
deviation between the budget and actual, this was from both oil and non-oil
assumptions. On the oil leg, the shortfall stemmed from petroleum profit &
gas taxes, royalties (oil & gas), rent and gas flared penalty – all of
which had fallen below the projected revenue by 35% over H1 18. Elsewhere, the
shortfall was due to the aggressive assumptions on VAT, and Taxes & Custom
duties both of which fell short of projection by N628 billion as at H1 18.
Also, expected revenue from government’s investment, mining, and surcharge on
luxury items valued at N187 billion came in at zero. In terms of revenue
distribution, net distributable revenue among the three tiers of
government was N5.7 trillion, higher than N3.7 trillion in 9M 17.
Consequently, the Federal
government’s (FG) retained revenue over 9M 18 was N2.8 trillion1, which is 12%
higher than retained revenue in 9M 17 of N2.5 trillion. FG share of oil revenue
printed at N1.5 trillion (+101% higher than N749 billion in 9M 17) on the back
of higher oil receipts from stable production and higher prices.
Similarly, FG share of non-oil receipts improved marginally by 12% to N793
billion propelled by improvements in VAT (+5% YoY), custom revenues (+20% YoY)
and CIT (+23% YoY). That said, the deviation in projected revenue of N5.4
trillion to actual of N2.8 trillion was on the back of a N733.9 billion and
N429 billion shortfalls in oil and non-oil revenue. The deviation stemmed from
deductions for PMS under-recovery, delay in the restructuring of FG’s equity
ownership in JV oil assets, and other ambitious projections of one-offs in 2017
related to NNPC refund and exchange rate difference.
Fiscal Outlay
on a breather
Total FGN expenditure of
N3.9 trillion over 9M 18 came in below the level same period in prior year by
14% and fell short of the prorated budget estimate by 43%. On further
breakdown, recurrent expenditure took priority in line with historical trends,
with the lion share directed towards personnel cost and debt service (~56% of
total 9M 18 revenue) with implementation of recurrent expenditure settling at
81% compared to 91% in 9M 17. Elsewhere, following the delayed passage of the
2018 budget, capital expenditure of N514 billion, came in far lower than the
prorated budget estimate by 76% and lower than same period in the prior year by
47% – actual implementation for the review period printed at 24% (25% in 9M
17).
Consequently, we estimate
that FG’s fiscal deficit amounted to N1.1 trillion (-59% YoY) tracking below
N1.5 trillion allotted in the budget. In a deviation from the prior year
wherein the deficit was finance solely by borrowings (domestic: N1.2 trillion
and Foreign: N721 billion), domestic borrowing came in significantly lower
(with net issuance of N84.5 billion, 9M 17: N969.6) due to treasury bills
refinancing via $3.0 billion Eurobond issued between 2017 and 2018 which
resulted in treasury bills total redemption of N849 billion as at June 2018.
Notably, the remaining deficit was largely financed by CBN as FGN far exceeded
its statutory limit, with net increase in the apex bank’s ways and means
advances of N1.19 trillion.
2019 Proposed
Budget: Budget Fudge or Fiscal Splurge?
On the 19th of December,
President Buhari presented the proposed appropriation bill for 2019 to the
National Assembly. In the proposed budget (tagged “Budget of Continuity”),
aggregate expenditure is projected to decline N294 billion to N8.83 trillion
due to cut back in capital spending by 27.1%, while retained revenues is
expected to decline marginally by 2.8% YoY to N6.97 trillion, translating to a
proposed budget deficit of N1.86 trillion (2.6% of our forecast GDP vs 2018:
2.8%). In a slight twist to previous appropriation bills, the proposed 2019
budget incorporated expenditure and revenue by top nine government owned
enterprises (GOEs) of N955.36 billion. Also, counterparty funding of key
projects of N1.51 trillion was included in the proposed capital expenditure.
Thus, including GOE expenditures and counterparty funding of some capital
spending (capex), total proposed expenditure for 2019 is N10.34 trillion
(+13.4% YoY) and revenue of N7.92 trillion (+10.6% YoY), with fiscal deficit of
N2.42 trillion (3.4% of our forecast GDP vs 2018: 2.8%).
Distilling the
spending numbers reveals total recurrent expenditure increase by 14% YoY to
N6.3 trillion, largely reflecting higher budgeted spending for non-debt
recurrent expenditure which expanded 14.9% YoY to N4.04 trillion (to account
for 46% of total expenditure) while total debt service) is projected to grow
modestly (+2.7% YoY to N2.26 trillion. Elsewhere, statutory transfers
(excluding capital projects) declined by 9.9% YoY to N240 billion. Further
breakdown of the nondebt expenditure showed an increase of 8% YoY to N2.6
trillion in personnel and overhead expenses (with the percentage proportion of
non-debt recurrent expenditure of 63% from 67% in FY 17) and jump in “other
allocations”2 to N1.49 trillion (N1.15 trillion in FY 18). While the budget
presentation stated appropriate provisions have been made for the
implementation of the proposed increase in minimum wage, we note that this is
yet to be factored into the proposed budget. For context, following the
increase in minimum wage by 140% in 2011 (from N7,500 to N18,000), personnel
expense in the 2011 budget increased 85% (from N1.1 trillion in 2010 to N1.9
trillion in 2011). As such, we note that for the FG to implement the promised
67% minimum wage (from N18,000 to N30,000) in 2018, we estimate additional
increase in personnel cost of N1.4 trillion from 2018 levels to N3.5 trillion.
For the 2019 budget
specifically, as stated above, the FG reduced its planned capital expenditure
to N2.28 trillion (2017: N3.13 trillion) with capex contribution of overall
spending declining by 848bps YoY to 25.9%. That said, including the capital
spending for the top-nine GOEs (N275 billion) and counterparty funded projects
of N556 billion, capital spending increases to N3.03 trillion with capex
contribution of overall spending of 30.1%. In line with trends over the last
four years, the FG continues to prioritize capital spending on power, works and
housing, transportation, defense and special intervention programme, which
jointly constitutes 45% of proposed capital spending for 2019. While new
projects are expected to be funded in the 2019 fiscal year, attention is
expected to be focused on the completion of existing projects. Focus on
transport reveals that all railway projects expected for counterpart funding in
the 2018 budget3 are still ongoing while new projects indicated in the 2018
budget for counterpart funding which were not funded4 and now being included in
the 2019 budget.
Another
Flowery revenue assumption
The FGN in the proposed
2019 budget projects oil revenue of N3.69 trillion, which is 30% higher than
the budgeted oil revenue in the 2018 budget and 83% higher than annualized
nine-month 2018 oil revenue of N2.01 trillion, due to oil price and production
assumption.
Further breakdown proposes
total non-oil revenue of N3.28 trillion (84.7% higher than nine-month 2018
annualized numbers). The quantum leap in the projection stemmed from aggressive
expectation on “other revenue” of N1.27 trillion (+305.6% YoY to 2018 estimate)
following expected proceeds from the completion of restructuring of FG’s equity
ownership in JV oil assets of N710 billion, recoveries of N203 billion,
signature bonus of N84.2 billion and grants of N209 billion. Non-oil revenue
from the federation account is forecast to expand 25% from 9M 18 annualized
numbers to N1.3 billion reflective of an aggressive expectation on VAT
collections of N229 billion (71% higher than annualized 9M 18 number), CIT is
expected to grow by 19.6% to N800 billion, while a modest decline of 1.2% is
expected for customs remittance to N303 billion. Elsewhere, independent revenue
is projected to touch an historic high of N624 billion (higher than 9M 18
annualized numbers by 76.4%) compared to average annual remittance of N246
billion.
Actual
revenue will come in shy of projection
Following the kick-off of
the divestment process of FG’s equity stake in JV oil assets in 2018, we see
some room for completion during the year, albeit at a lower valuation. However,
in our base case scenario, we project a haircut from current valuation to N500
billion. On recoveries, with details of the source of such remittance
unavailable and zero inflow as at 9M numbers, we do not expect any revenue on
the line. Also, we expect zero balance on signature bonus and donor funding
following absence of both in 2017 and nine-month 2018 numbers. On the positive,
we expect positive values on VAIDS, and special levies. In sum, we project
revenue from other sources at N813 billion which implies a 36% shortfall of FY
19 budgeted “other revenue”.
Elsewhere, the deliberate
efforts of the FG to increase the tax collection base amidst improving
corporate profits have resulted in steady increases in FG’s share of non-oil
receipts (with 5-year CAGR of 5.9%). However, we think projected numbers are
overly optimistic. In terms of realistic estimate, we are slightly more optimistic
on custom revenue compared to the proposed budget as we expect the increase in
excise duty rates on alcohol & tobacco which came into effect mid-2018 to
take its full course in 2019 and additional increase starting 2019. However, we
made slight downward revision to import duties following our expectation of
lower imports ex-one offs (-6.9% to $35.45 billion). On VAT and CIT, we share a
different view from the proposed budget estimates. While we are also bullish on
CIT following our expectation of improved performance of the non-oil sector and
consumption in 2019, the projected income on CIT and VAT suggests shortfall of
15.5% and 35.8% respectively in 2019 from our estimates. Overall, on our base
case scenario, we project 2018 non-oil revenue at N2.3 trillion, which
translates to a 29.1% shortfall of FY 19 budgeted nonoil receipts.
Oil revenue
assumptions, a delusion of grandeur
We believe the oil price
assumption is aggressive given the free fall in crude prices in the last few
months and our expectation of mean crude oil price of $56/bl. in 2019. While
noting the additional 200kbpd production from the new Egina oil field and the
relative calm in the oil producing areas, we believe FGN’s oil production
assumption is highly optimistic. On OPEC’s recent production cut agreement, we
expect Nigeria’s share of the cut of ~43,000bpd with full implementation
expected from March 2019. Coalescing our expected average crude oil price of
$55.95/bbl. in 2019 and our forecast crude oil production of 2.07mbpd, we project
oil revenue of N2 trillion relative to budget estimate of N3.69trillion.
Overall, we estimate FG’s total revenue of N4.36 trillion, compared to budget
estimate of N4.32 trillion.
Elsewhere, given the
historical partial implementation of the budget (especially capital
expenditures with average of 58.9%), we assume budget implementation of 85.7%
(average: 85.8%). Thus, we estimate total expenditure of N7.57 trillion
(excluding capital expenditures by top top-nine GOEs and counterparty funded
projects) in 2019. Overlaying the projected expenditure on our revenue
scenarios suggests that the fiscal deficit could range between N1.83 trillion
and N3.76 trillion.
Optimal debt
ratio, looks like a stone throw away
Following the issuance of
the last Eurobond in 2018, the FG made an improvement in its debt mix to 33:67
split between external and domestic borrowings (vs 30:70 prior to the Eurobond
issuances) from 31:69 split in 2017. The increasing optimal debt mix is in line
with FG’s Debt Management Strategy (2016-2019) aimed at rebalancing total
public debt stock to achieve an optimal ratio of 60:40 for domestic to external
debt, and moderate debt service costs. In financing the fiscal deficit of N1.86
trillion, the FG plans to improve on its optimal debt mix, with part funding
via borrowings of N1.65 trillion expected to be funded 50:50 by domestic and
foreign borrowings.
With the excess of N210
billion expected to be funded from the privatization of some non-oil assets by
the Bureau of Public Enterprises (BPE).
Dissecting planned
borrowings, the share of the external borrowings suggests additional $2.7
billion to the current foreign debt stock of $24.45 billion. We believe market
reception at the last Eurobond in 2018 (with 3.2x over-subscription), suggests
a successful issuance of the additional borrowing is achievable, even via the
Eurobond, albeit at a relatively higher cost compared to the last issue. For
context, despite the oversubscription at the last issue, average spread between
Nigeria’s Eurobond rates and comparable US treasury expanded to 576bps compared
to 442bps at the February 2018 issue. Also supporting our view of relatively
higher cost of borrowing is the free fall in crude oil prices and the
possibility of two more rates hike in the US (after four hikes in 2018) in
2019, both of which could have severe impact on the gross external reserves
(both from lower revenue and exits of offshore funds) which could overstate
valuation for Nigeria’s foreign issues. Also, concerns over the rising debt
service to earned revenue ratio (55.9% as at 9M 18) in Nigeria, and the risk of
default could drive Eurobond yields higher in 2019.
While noting the reported
fiscal deficit by FGN, we played out different scenarios of possible domestic
paper issuance to finance our estimated fiscal deficit under our base case
scenario of N3.36 trillion for 2019. We estimate that to finance the budget,
the net debt issue could range between N1.57 trillion and N2.23 trillion which
is already higher than 2018 net issuance of N189 billion. In sum, our scenario
analysis guides to a significantly higher domestic borrowings in 2019, which
could in a deviation from the proposed debt mix.
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