2009 and the Challenge of Recovery

2008 has come and has (thankfully!!) gone, yet the scars and fears inflicted on us by 2008 are still clear and present.

In 2008, seizures hit the Global financial systems as a result of a Credit Crunch more severe than any the world has seen since the great depression of the early 1930s. If early 2008 marked the height of the global financial crisis, I believe 2009 may be the start of the recovery, starting with Financial Markets and then filtering into the Real Economy.

My belief in the resurgence of the Global and Nigerian Financial Markets are premised on two (2) main points: (1) assets may have been oversold and prices may reflect a worse situation than may be the case and (2) profit seeking investors (who still have access to funds) still need to make money and earn a decent return on their funds (this applies more for Global Markets than Nigerian markets though).

The crises witnessed in global credit and stock markets have led to unprecedented levels of risk aversion on the part of investors which has inevitably led to massive selling of securities with any hint of riskiness which is then followed by a swift flight to safety. A clear testament to this was the ever widening TED spread (difference between yields on 90-Day Treasuries and those on 90-Day LIBOR) and in Nigeria, the 46% decline in the NSE's ALl Share Index, spiking NIBOR rates and the practical collapse of the Nigerian Interbank Market. A further testament to the extreme risk aversion prevalent was the 29.1% Yield To Maturity on GTB's Eurobond (a yield reflecting an unrealistically high probability of default) and the low to mid single digit Price to Earnings (PE) multiples at which Nigerian Banks and Corporates are trading (which i also believe reflects unusually low estimates of growth prospects). The resulting effect of these activities have been a propensity for investors to hold cash or short term government securities which has made 90-Day US Treasury Bills to be priced at yields close to zero (in effect the US government is borrowing from the world at no cost!!) and FGN Bonds in Nigeria witnessing hitherto unprecedented levels of activity.

The fact that there has been such a high degree of "flight to safety" gives me the greatest belief in the resurgence of the Equity and Credit Markets. Many institutional investors always have access to liquidity even in the bleakest of times due to constant inflow of investible funds. Such investors include Pension Plan Funds (with constant monthly inflows from plan participants) and Insurance Companies (who receive periodic premium payments from policy holders irrespective of the states of the markets). These investors have been placing the bulk of their new inflows in short term government securities, which as discussed above are yielding next to nothing due to the heavy demand for them. I believe that the time is not far from now when such investors will realise that handing out all new inflows for free (i.e. at 0% yield) to governments which in turn invests these (costless) money into the same banks and corporates that the investors are avoiding like plaque, may not be the best allocation of their funds and may be stretching risk aversion to a near breaking point. This idea has started to gain some ground in the new year with the burst of activity witnessed in international debt markets prompting many analysts to speculate that January 2009 may be one of the most active months (in terms of new issues) in recent debt markets history. This "mini resurgence" has been due to the willingness of big institutional investors (e.g. Central Banks, Pension Funds and Insurance Companies) to buy the credit of high grade, blue chip companies, a situation which is a significant reversal from Q3 2008 when practically nobody could borrow without a sovereign (i.e. government) guarantee.

The problem with the application of the idea discussed in the preceding paragraph in Nigeria is the unrealistically high rates of interests which banks are willing to pay on term deposits. There are rumours that some banks are offering depositors (annualized) interest rates of up to 20% on 90 and 180 day deposits. An assured 20% return on a term deposit may incentivize people to stay out of the stocks, thus further delaying the recovery of the Stock Market

I believe that once gains occur in Financial Markets, the Real Economy will also pick up (as a result of the multiplicative effect of the financial industry's activities on the wider economy). However, improvements in the global economy may lag those in global financial markets and may make people wonder why the "stupid financiers" who put everybody in this "economic mess" have suddenly began to smile while the
general populace (which the financiers of course dragged into the mess) is still in teeth gnashing mode.

Book Review: Niall Ferguson's "The Ascent of Money"

I just finished reading this book during the New Year and Christmas holidays and i was very impressed by its depth, historical basis and contemporary relevance.

I was initially put off by the book's sub-title: "A financial history of the world", my initial thoughts were that writing a financial history of the world is such a major undertaking that whoever attempts to do so will fail and that the book will not live up to its promise. However, the book's author (Niall Ferguson, one of the most renowned economic historians in the world) has delivered on the promise of the book in a way that only an history professor who grew up in scotland, went to school in England and Germany and holds concurrent academic appointments in Oxford University, Stanford University, Harvard University and the Harvard Business School can.

Not only did he give an exacting historical background to the important role that money, financial instruments and financial markets have played and continue to play in modern societies, he delivered it in such an engaging way as to make the book simply "unputdownable"!.

• 
  The various sections of the book, include:
  
  Dreams of Avarice (basically an introduction to the rise of modern banking in medici-era Florence (in modern day Italy);
  Of Human Bondage (a chronicle of the rise and importance of Bond Markets and instruments);
  Blowing Bubbles (history of investment in stocks and behaviour of stock markets);
  The Return of Risk (history of the Insurance Industry and the concept of the "social safety net" (i.e. Social Security, National Pension Schemes etc))
  Safe as houses (description of mortgages and the housing finance industry)
  From empire to chimerica (overview of "emerging market" and cross border investments over the centuries and the unique role currently being played by America & China in the global economy); and
  The Descent of Money (sort of an epilogue to the whole book).

I really enjoyed reading the book as it reinforces my views (as an unashamedly ardent capitalist) that financial markets and innovation are the main contributors to the improvements witnessed in incomes, standards of living, longevity and even the rise of democratic systems in the modern world.

Above all, i recommend the book to the legion of "doomsdayists" currently predicting (or is it "prophesying"?) the ruin of financial markets. They will quickly learn from reading the book that crises are an integral part of Financial markets and that financial markets have (just in the space of the last 100 years) survived two world wars (one of which was tagged "the war to end all wars"), a great depression (during which unemployment rate crept to almost a third of the adult population), many recessions, earthquakes and other natural disasters, numerous sovereign bond defaults, widespread hyperinflation and even thieving dictators and strongmen.

There is no reason why international trade and finance should not recover, and even emerge stronger and better, from this current financial crisis. The world has witnessed and survived worse situations than this!!!!

Securitization: Implications for Economic Development in Nigeria

Securitization is chief among the many financial terms which have gain notoriety and new found (negative) meanings in light of the current global financial crisis, so it will seem very ambitious and even foolhardy to prescribe securitization as one of the tools and policies needed to drive Nigeria’s economic development.

Securitization in its most basic form involves the creation of securities from real assets, i.e. the process of turning real assets into tradeable securities. I believe the genesis of modern securitization is traceable to the pioneering work done on Wall Street to widen accessibility to mortgages by broadening the investor/creditor base for the mortgage markets. Prior to the creation of Mortgage Backed Securities (e.g. Pass through Securities and Collateralized Mortgage Obligations), lenders in the United States were constrained in their mortgage origination efforts by the size of their balance sheet as a result of this the mortgage business was largely a local business. This led to significant imbalances in the borrowing-lending dynamics, with regions of high savings and high growth not always colliding, i.e. there were regions with high savings rate (with large deposits in its lenders’ coffers) that did not have a high housing growth rate and as a result they had few mortgage lending originating opportunities. For a number of high growth regions the reverse was the case, the savings and deposit base was insufficient to fully utilize the mortgage lending opportunities. So there was a scarcity of mortgage lending opportunities in some regions, while there was a glut of mortgage lending opportunities in some other regions.

What securitization achieved was to create a system, whereby mortgage lenders in high growth areas could serve as “loan originators”, they originate mortgages which they repackage as securities which are then sold to investors from all over the world (particularly those from high savings regions such as the Far east). It is such a powerful tool because it creates a system whereby people savings can generate decent rates of return by funding growth opportunities in emerging/high opportunity markets. Through mortgage securitization, a pension fund or High Networth Individual in Norway or China can help finance the acquisition of a house or a car by someone living in the United States or United Kingdom.

Securitization is needed particularly for the Nigerian Housing industry to grow and for us to broaden home ownership in the country, it has been estimated that we may be a shortfall of about 12 Million housing units in the country presently. A conservative cost estimate of N3 Million naira per housing unit will imply that about N36 Trillion (roughly US$257 Billion) is needed to fix our housing deficiency. When this figure is juxtaposed with the 2009 Federal Budget of N2.87 Trillion (roughly US$20.5 Billion) and our current GDP of US$ 166 Billion, one quickly realizes that we are not dealing with small numbers. As the housing market stands, Primary Mortgage Institutions (PMI) who have the primary responsibility for housing finance are woefully under-capitalized (no PMI currently has total assets in excess of US$500 Million)and as such they are severely constrained in their mortgage underwriting efforts by the size of their balance sheets. This situation has led to a regime of a severely under-funded mortage market with full equity payments being the order of the day. In order to truly tap the opportunities inherent in the housing markets, we must broaden access to finance and apply the tools of the Capital Markets.

The Nigerian Capital Markets (i.e. both Equity and Debt Markets) are rapidly developing, with over N1 trillion (US$7 Billion) of Federal Government Bonds Outstanding and a Stock Market Capitalization in excess of US$48 Billion. Futhermore, Total Pension Assets are currently in excess of N1 Trillion (US$7 Billion) and is being projected to double within the next two years. A good way for the housing industry to grow is to develop a secondary market framework for the mortgages which are being created, this will allow the growing domestic and international investor base participate in the financing and development of this sector. If this Secondary Market framework is perfected, PMIs will be less constrained by the size of their asset base in originating mortgage loans. As they will be able to repackage the loans (which meet a certain underwriting standard) for on-selling on the secondary market to raise money for originating a new set of loans. This system will also provide investors (particularly Pension funds) with long term assets to invest their funds, these houses will then serve as a store of wealth whose equity can be tapped into by the homeowners for other productive ventures.

Although Securitization is now associated with unbridled greed and risk taking because of the role securities backed by sub-prime mortgage loans have played in this current economic crisis, it is still a very powerful and useful tool which can help harness savings potential in a country to aid its economic development.

Main Street and Wall Street: The $700 Billion Bailout "Saga"

It is no longer news that the United States Congress has passed the $700 Billion financial sector bailout bill, probably the biggest bailout of the private sector in America. What is noteworthy in the whole episode is the reaction from "Main Street" towards a government bailout of Wall Street Institutions, a reaction so fervent that it most probably led to the first defeat of the bill in the House of Representatives.

There is a tendency for "ordinary folks" and small business owners to dismiss the measures proposed by the Fed and Treasury as nothing more than a bailout of fat cats who ought to be made to suffer for their greed and excessive risk taking. While everybody (including myself) may feel entitled to some feeling of Schadenfraude towards traders who threw all caution to the wind in the urge to deliver record breaking profits and as a result reap obscene bonuses which are beyond the imagination of millions of honest hardworking people. To decide to allow the financial markets collapse in the pursuit of punishing a few thousand traders is tantamount to "cutting off the nose to spite the face" and can only lead to large scale self destruction.

So why should the "ordinary man" care about turbulent financial markets, since they may not even own stocks, not to talk of Collaterised Debt Obligations (CDOs) and other financial "jargons" which have proven to be as opaque and toxic as they sound?. The answer is that the average man should care and he should care a great deal about what is goind on, even though he may not own shares directly the odds are that he may be exposed to the financial markets indirectly either through a mutual fund, a pension plan, his insurance policy etc.

The world's financial markets have grown so interconnected that the phrase "no man is an island unto himself" is probably truer now than ever in global history. People's life insurance policies, college savings plans, mortgages, car loans, credit cards etc are all part of the global financial maze and decisions on Wall Street have real life implications for everyday people. The world has become increasinly dependent on the capacity and ability to securitise all kinds of things from mortgages to car and credit card loans and then trade them in a market. If the securitisation markets dry up completely as it is tending to do, people find that their ability to purchase a house will become severely constrained as mortgage lenders will become severely hampered in their origination efforts due to the absence of a secondary market in which it can sell mortgages to.

Even car ownership will also suffer, automobile manufacturers are very dependent on the ability to finance car purchases by consumers, as most consumers do not pay fully (i.e. 100%) of the car value, hence most manufactures now have fully well developed finance arms, which they have come to depend on in order to boost sales. These finance arms are in turn heavily dependendent on the Asset Backed Securities (ABS) market, in which they repackage the car loans they have originated into securities and sell to investors on wall street, they in tuirn use the proceeds of such sales to originate many more car loans which in turn boosts revenues, corporate profits and job creation efforts. If the ABS markets freeze totally, which might happen if the government bailout doesnt happen, car companies will also be severely constrained in their ability to originate new car loans.

A dearth of new car loans, will lead to a steep reduction in the number of cars sold which will in turn lead to the piling up of unsold inventory. Unsold invesntory coupled with a bleak sales outlook will inevitably lead to plant closures and the attendant loss of jobs by "ordinary people" worlwide who are very dependent on the automobile industry (i.e. auto companies, tyre companies, auto component manufacturers etc). In essence, while the man on the street may feel he has no business being concerned about the markets for "esoteric" ABS instruments on wall street, the truth is that his livelihood and the security of his unionised job (with benefits) may depend on it.

Although I believe that people should not be sheltered from the effects of their own folly, I believe that the government has a greater obligation to maintaining the stability and soundness of the markets than in seeing a couple of wall street execs suffer. I believe the US government should not just throw money at these firms, the government's bailout of the firms should come at a cost to these firms and their excesses should be curtailed and the environment which encouraged the excessive risk taking by these firms needs to be re-examined and rejigged to prevent insurance companies like AIG from acting like highly leveraged hedge funds in the future.

However, in the meantime the US Government should come to the rescue of the Financial Services Sector before it spreads contagion and economic depression to the rest of the world, even though it may seem that Wall Street just got a "get out of jail free" card.

Recent Turmoil in American Financial Markets: Implications for Investment Banking in Nigeria

158 year Old Lehman Brother's recent financial difficulties and eventual bankruptcy filing is a shocking testament to the adverse effects of untamed risk. The firm, one of the Oldest and largest companies, in Wall Street was forced to declare bankruptcy after unsuccessful attempts at getting a buyer for itself failed (due partly to the unwillingness of the US Treasury and Federal Reserve to protect potential buyers against all or some of the risk inherent in a purchase of the company).

Lehman Brothers, with total assets exceeding $630 Billion, represents the largest bankruptcy in US Corporate history and is estimated to be more than 10 times larger than the Enron Bankruptcy. The fact that a firm with less than 30,000 employees and only a couple of offices worldwide was able to generate over $630 Billion in assets, says a lot about its frenzied accumulation of assets and reckless embrace of risk. Lehman brothers, which is the 4th Largest pure play investment bank in America, had experienced rapid growth over the last few years and declared two consecutive full record profits in 2005 and 2006 and Q1 2007. In a bid to boost profitability and generate assets in order to play catch up with much larger rivals such as Goldman Sachs and Morgan Stanley, the company readily originated, underwrote and invested in increasingly opaque and illiquid mortgage instruments with highly questionable credit quality. As defaults from subprime borrowers rose, Lehman became particularly vulnerable as it was highly exposed to the mortgage markets and had invested heavily in the riskiest of these securities in order to boost profits, to cap it all the company was also highly leveraged. Highly Leveraged investments in illiquid securities that was supported by borrowings from subprime borrowers, must sure qualify as a perfect recipe for disaster.

The lessons for the Nigerian markets are quite significant, as the Lehman woes have come at a time when the Nigerian Equity Capital Markets are experiencing a market downturn. The most important lesson from Lehman's bankruptcy episode, is the need to balance revenue and profit growth with appropriate risk management and controls. If appropriate risk management had been deployed by the firm, it will not have invested highly leveraged funds in some of those mortgage securities, which turned out be its nemesis and ultimate undoing. Nigerian investment and securities firms will need to realise that abnormal profits from the stock market are an exception rather than the norm and they must learn to balance the urge for supernormal profits with the need to ensure that the company does not go bust. It is instructive that as late as April last year, Lehman Brothers had just declared the largest quarterly profit in its corporate history, and less than eighteen months later (September, 2008) it was already filing for bankruptcy.


Nigerian securities must start to build appropriate risk controls to manage their exposure to the capital markets, they must be able to have an idea of what their Value At Risk (VAR) is with certain percentage declines in the stock indices. Furthermore, investment and trading committees should include Risk Managers, as it is done in Goldman Sachs where traders and Risk Managers sit together on the trading floor and traders and risk managers are rotated together in positions. Furthermore, John Thain current CEO of Merrill Lynch, had served as both the Head of Mortgage trading and chief financial officer (with responsibility for risk management) at Goldman Sachs before he was appointed as President (number two man) at the investment banking. He therefore had a good grasp of both risk generation, through his trading career, and risk management (through his stint as Chief Financial Officer).

I believe this widespread difficulties being experienced by investment banks across the US should make Nigerian firms (particularly those with active trading operations) reflect on their own operations, strategies and investment policies. How many Nigerian firms know what their Value At Risk is at the end of every trading session or week?. How many of them have risk managers and are these risk managers an integral part of the investment decision process and what is their level of input to investment decision making? Does the firm balance the impulse to generate profits with the need to manage liquidity and ensure quality of risk assets. Are arguments for and against an investment opportunity presented at investment decision meetings? Are the potential upsides and downsides of an investment analyzed and argued before investment decisions are made (this was not done at Lehman brothers as the risk managers were relegated to the background and the traders took over all decision making and characteristically saw only the potential upsides in investing in the ultimately toxic securities)?

Every Nigerian investment house needs to ask itself these questions and answer them in the affirmative if it is to survive in the long term. The devastating effects of untamed risk has been proved by the fact that in April 2007, Lehman Brothers declared the highest quarterly profits in its 158 year history and eighteen months later (September 2008) the company is already in the bankruptcy courts fighting for its survival while talks of liquidation keeps going round.

Virgin Nigeria - "Relocation with Immediate Effect"! : Recent Lesson in Managing Foreign Investors

There has been a lot said and analysed on the recent disagreements between the Federal Government and Virgin Nigeria (a subsidiary of the United Kingdom's Virgin Atlantic Airways). The rift was centered on the initial unwillingness of Virgin Nigeria to move from the Murtala Mohammed Airport's International Airport to the newly Built Domestic wing of the Airport, which was built by a Private Developer under a Build, Operate and Transfer (BOT) agreement with the Federal Government of Nigeria.

The stance of Virgin Atlantic and its chairman, the British serial entrepreneur: Richard Branson, was that the agreement they had with the government at the point of investing in Nigeria stipulated that Virgin Nigeria will always operate from the International wing, while the new Federal Administration continued to insist that the airline move its domestic flight operations from the international wing to the new domestic terminal despite the agreements signed by both Virgin Nigeria and the previous administration of Chief Olusegun Obasanjo.

What I find particuarly disturbing in the entire episode, or should I say Saga, is the manner in which the Federal Government ensured Virgin Nigeria's compliance with its directive. The Federal Government, using security operatives, physically "stormed" the company's offices and grounded its operations. As a result of this, the company had to relocate to the new domestic terminal in order to continue its operations. I believe the government was very wrong in grounding the airline's operations in order to ensure its compliance. Most, if not all, agreements have arbitration clauses which stipulate modalities for resolving disputes and/or disagreements which may arise during the course of the relationship between the parties.

The government should have sought other legal means, including arbitration and litigation, to ensure that Virgin Nigeria complies with its directive. This government has set a bad precedent through its actions, as many foreign investors will be skeptical about investing in Nigeria as they will be unsure of what course of action the government might take in the event of a business dispute or disagreement after they have made their initial investment. In my view, I think it is very important that the Yar'Adua administration tread very softly in dealing with foreign investors, as we do not want to be viewed as being unfriendly to investors. Nigeria needs a lot of
foreign money and technical expertise to drive our economy and we will not advance our

developmental aspirations/plans and our drive for higher Foreign Direct Investments (FDI) by alienating the foreign investors that are already in our economy (as evidenced by indications that Virgin Atlantic may be seeking a buyer for its stake in Virgin Nigeria)

The rule of Law and the democtratic/judicial process may appear slow and inconvenient when we seek quick results, but it is still the fairest and most equitable for resolving business disputes. The earlier we embrace dialogue, eschew unilateral action and institute investment friendly laws and investments, the qucker we wil realise our developmental goals.

Recent Stock Price Declines and Implications for Capital Raising

The recent decline in prices of stocks listed on the Nigerian Stock Exchange has significant implications for capital raising activities. Though few market watchers expect a full blown credit crunch or drying of the capital markets as witnessed in the US and Europe in the last twelve (12) months, it is widely believed that the markets will be a little more discriminating about the quality of the issues that will get financed. What this means is that while high quality companies with well-priced and well packaged issues will still be able to raise equity
capital, it will be more difficult for poorly run companies with questionable valuations to raise capital from the Nigerian Equity Capital Markets.

I believe a relative scarcity of capital is a good thing, as access to capital should be a reward for competent management, clear vision and efficient execution. A number of poorly run companies have been able to raise capital easily in the last one (1) year through Private Placements that were many times over-subscribed as investors sought to take a position in the company pending the eventual listing, and almost certain price appreciation, of the company's ordinary shares. This mentality copupled with ever rising stock prices, led people to invest in companies
they did not particularly undertstand as long as the companies were going to list on the Stock Exchange and scarcity effect was going to push up its share price.

The end result of this over-optimism was that little or no due-dilligence was done by prospective investors and many poorly run or ill-prepared companies were able to raise large sums of money from investors. I believe this situation has grave consequences for corporate performance and the Nigerian Economy as a whole as companies without the structures or operations to deliver good returns on capital employed were raising large sums of money. I believe one of the hallmarks of capitalism is "creative destruction" or the ability to "shoot the mortally wounded"
situations through which companies with crumbling operations and incompetent management are denied funding and allowed to die (to make room for new and innovative companies) instead of being propped up with infusions of capital that will be eroded through bad results.Giving
huge sums of money, in form of equity subscription, to poorly performing companies with questionable strategy and incompetent managements who do not feel the pressure or obligation to deliver value to shareholders is like giving an M16 Assault Rifle to a child soldier and will eventually lead to destruction of shareholder value and long term negative return on capital invested.

The difficulties that I believe poor performing companies will have in raising capital in the near future will have practical implications for the development of Private Equity industry in Nigeria. The ease with which companies have been able to raise money, has placed Private Equity funds in an uncomfortable position as promoters of many small, struggling companies have not been willing to work with such funds. Many promoters and managers of private companies, if given the choice, will opt for private placements rather than receive funds from a Private Equity
Investor. This is because capital raised through Private Placements or Public Offers comes with fewer strings attached to it than Capital raised from Private Equity investors. This is mainly because Private Equity funds usually have higher due dilligence requirements and take a more hands-on approach in monitoring the performance of companies in which they invest and this may not sit down well with company promoters and management that may not want to share control of their companies with a PE investor.

However if struggling companies become constrained in raising capital, they may have to turn to one or more of the new Private Equity funds that have been launched in the last 18-36 months. Private Equity investments can be mutually beneficial to both the PE firms and company promoters and management. This is because PE funds tend to be hands-on investors with significant financial, strategic and operations competencies and are in a position to add some value, apart from capital infusions, to companies in which they invest. The increased levels of monitoring by PE firms, through board memberships and direct executive appointments, will put management "on their toes" and is likely to lead to more disciplined management with the resultant improvements to corporate performance and shareholder value.

Policy Pronouncements and the Recent Performance of Nigerian Equity Capital Markets

Equity Capital Markets in Nigeria have been under considerable strain in the last three (3) months with week after week of sustained price declines and losses. The All Share Index (ASI), the major stock index in Nigeria has witnessed a Year-to-date return of 13% as at Friday, 25th July. The recent deeps in the capital markets have demonstrated the potential downside in investing in equities, as many Nigerian investors have only experienced the upside potentials of the market.

The ever appreciating stock prices had pushed valuations to astronomical heights and led to a capital raising frenzy in the country and many investors and market analysts have been talking of an imminent market correction. In my view the bearish run witnessed on the Stock Exchange was not due to a market correction and return to fundamentals-based investing. I believe the market correction is yet to take place, as the bearish run was precipitated by tightening of credit brought about by policy changes.

The first policy change to hit the markets was the restriction placed on banks from extending margin facilities to Stockbroking firms and from operating margin accounts. Since a large portion of the gains in the markets over the past few months has been due to the activities of leveraged investors with easy access to credit which could be rolled over or paid off from gains from capital appreciation. Hence, a tightening of bank credit, as a matter of policy, will prevent investors from rolling over their margin facilities hence they will have to resort to selling their shares to repay the facilities. This widespread, sustained selling of equities placed an enormous downward pressure on equity prices and led to a freefall of the All Share Index.

The second major policy shift that contributed to the decline was the directive from the CBN that all Nigerian Banks harmonise their financial calendar by having a uniform financial year end pegged at 31st December. Considering the fierce competition in the Nigerian Banking sector and the urge of the various bank managers to be seen as having the largest asset base, it was clear that they will all engage in an all out battle for deposits. Nigerian banks have always engaged in the practice of obtaining huge funds from the Interbank market to beef up their balance sheets towards the end of their Financial years. The uniform year end directive from the CBN led to a near freezing of the Interbank market as banks became reluctant to lend to other banks.

The banks' reluctance to lend coupled with a clear willingness to to attract deposits to boost their balance sheets led to a spike in interest rates and a boom in Money Market activities. When rising deposit and money market rates are viewed in the light of declining stock prices it becomes clear that a good number of investors will move their funds from the stock markets into fixed deposits and money market instruments. This move into money markets resulted in more selling activity on the stock markets with attendant declines in share prices. These policy shifts coupled with already high market valuations led the All Share Index into a negative 11.7% year return.

However, the markets have rebounded in the last one week in the aftermath of the CBN's postponement of the implementation of the Uniform Year End directive to December 2008 to December 2009. This policy shift reduced the pressure on Nigerian banks to engage in aggressive deposit seeking, hence leading to lower fixed deposit and money market rates. The downward pressure on money market rates coupled with the willingness of banks to engage in Margin lending on the stock markets has made more people willing to invest once again in the stockmarket. The sharp increase in Buying activity has resulted in daily gains on the Nigerian Stock Exchange.

I think the overall lesson from this episode of "crashing" prices is the fact that the general investing public now knows that the markets can swing both ways and policymakers will become more aware of the fact that their policy pronouncements can have far reaching consequences and may have a direct, quick and measurable impact on the Financial markets as demonstrated by the CBN pronouncements and the performance of the Nigerian Stock Exchange

Private Equity Investment in Nigeria: Investing in Infrastructure the Best Bet

With Private Equity deals in the US and much of Europe going bust over inability of banks to syndicate the huge loans necessary to fund "the mega buyouts" that became the norm over the past few years and the slowing down of stockmarkets in the same markets, somepeople have written off the ability of the private equity industry to generate alpha returns to its investors.

However, I believe the hope for the Industry lies in exploring uncharted terrritories and extracting more value from their portfolio companies by working with management to improve the performance of such companies. In exploring uncharted territories, few terrains are as unchartered, in Private Equity terms, as Nigeria. There exist substantial opportunities for principal investors in the Nigerian economy to generate higher returns than may be obtainable in Europe or America.

In exploring PE opportunities in Nigeria, there are basically two options available to investors, these are: 1) Investments in Privately Held companies and 2) Investments in Infrastructure projects/deals. Although a number of PE firms, eg Helios, have made some investments in certain quoted companies such as FCMB, I believe this model will not generate superior returns to PE investors, once the Nigerian stock markets "cool down"and normalize. On the privately held company option, a major impediment will be the poor level of financial disclosure by priate companies in Nigeria. This coupled with their often weak corporate governance standards make investing in privately held companies in Nigeria a much more difficult exercise than is the norm in many parts of the world.

Investing in Infrastructure presents a very good investment opportunity, as Nigeria has extremely underdeveloped infrastructure and big rewards await those who can provide it. For instance, electricity supply in Nigeria falls far short of demand and as such most factories rely on "diesel guzzling" generators. There are a number of opportunities for PE firms to invest in Captive power plants that will generate electricity for sale to companies in a restricted area such as the Agbara Industrial area, Ikeja Industrial Estate etc. Furthermore, a company that can get a sustainable business model for providing a good transportation system for transporting large numbers of people in an efficient and comfortable manner.

An example of the gains from investing in Infrastructure is MTN Communications Nigeria, at the time of its creation in the year 2001, the country had less than 500,000 lines. In only Six years of operation, the company is probably the most important member of the MTN Group. The wide gap between the number of lines available and the effective demand for them, led to massive sales and very lucrative margins. Furthermore, PE firms can enter into Public-Private Partnerships to provide certain services to the populace. A very good example will be the concessioning of toll roads, a business model that has been perfected all over the world by Australia's Macquarie Bank, Airports, Sea ports etc. It is clear that Nigeria is on a path of sustained growth and it is clearer still that existing infrastructure in the country cannot keep up with the expected pace of growth. A good strategy may be to invest directly in infrastructure projects or to invest in companies, such as energy companies, port operators etc, with a high exposure to basic infrastructure.

There are profits to be made from investing in infrastructure and though it is not for the faint of heart, the likely gains compensate for the risks involved.

I have been reading the semi-biographical account of the Wall Street Powerhouse: Lazard Freres & Co. and it has been very interesting, informative and educating. It has given me an insight into the evolution of Investment Banking over the last century and traces the company's roots from its birth as a San-Francisco dry goods store to its role as , probably, the inventor of the M&A Advisory business as we know it today.

I have always been interested in Lazard as it was one of the firms that stressed Intellectual Capital over financial capital. It was for the greater part of the 20th century an advisory firm and executed very few financing manadates. It had a lot of confidence in the knowledge, insight and contacts of its key partners and in their ability to offer useful and strategic advice to major corporations and governments.

Such partners such as the famed "Great Men" of Lazard such as Andre Meyer, Felix Rohatyn ("The Saviour of New York") and now, probably the last "Great Man" in Investment Banking, Bruce Wasserstein. In the era of full-service firms or "financial supermarkets", firms like Lazard are fast becoming endangered species. Though I believe that the need for pure-play advisory firms has never been greater; corporations, governments and financial sponsors need knowledgable and insightful advice that is not clouded by conflicts that may arise from potential financing businesses.

An advisory firm with a well developed bonds operation may steer its client into raising debt financing, even if that is not the best option for the client, in order to bring in business for its bond desk. A firm with a substantial equity capital markets operation may also do the same, all these scenarios raise possible conflicts between interests of the adviser and the client.
However, Pure advisory firms should have none of these conflicts and should be able to access their clients' position and positions in a relatively unbiased manner.

"Corporate Social Responsibility": A fad or Sound Business Practice

It seems every decade must have its own managemen buzzwords and "Crporate Social Responsibility" or its shorter and sexier form: CSR may just be the one for the current decade.

However, to think that CSR is just another buzzword is to be overly cynical or even worse: naive.It is clear that many businessmen are ignorant or unmindful of the massive importance of being socially responsible. Even when major corporatons decide to be mindful of the role of CSR, they often do not do so in a holistic way. The fad now is to have CSR departments within the company or to have the CSR function performed by the Corporate Communiations or public relations departments.

I believe Corporate Social Responsibility should be a company-wide effort and should not be restricted to a department or unit. There should be a company-wide effort by management and staff to be socially reponsible and this effort should be shared by everyone, from the most junior employee to the C-Level executives. The need to be responsible to society and the community should be factored into most operational and strategic decisions. A good part of the Chief Executive's time should be spent on ensuring that workers imbibe the culture of social responsibility.

An Oil Company's drilling engineers should be aware of the Social and environmental aspects of their work, they need not wait for an "all knowing" CSR department to tell them so. Human Resource professionals should know that they have to seek a diverse workforce and hire, as much as possible, from their local communities. In essence CSR should be part of the employee's knowledge base and this knowledge should help to shape his everyday decisions.

Why is it so necessary for companies to be socially responsible? The answer is that it helps profitability in the long-run as sound and ethical business practices will most likely result inmore sustainable business model. The fate of a business or corporation is closely tied to that of the society in which it operates, to achieve long-term prosperity businesses must ensure that the society in which they operate is equally prosperous. A business model which degrades the environment or impoverishes the citizenery, cannot be a sustainable one. Henry Ford, who I believe was an early believer in CSR, when he decided to pay all the workers in his a factory a decent wage.

Henry Ford's action ultimately led to more profits for his company, as he had helped in creating a middle-class in early 20th Century America. The members of this class served as the bedrock of the demand for the automobile in the 20th Century. For a company in Southen Africa to contribute towards fighting the HIV/AIDS Scourge is a sound business decision and not a "nice thing" to do. If the HIV/AIDS andemic continues is not effectively tackled, it will drastically reduce both the labour force and the pool of potential customers.

Therefore, it may be that the surest way to long-term profitability is for a company to be mindful and responsive to the communities in which it operates. Because it is in the sustainable development and prosperity of those communities that its own prosperity and long-term profitability lies.

A sustainable business model for the Lagos Bus Rapid Transportation (BRT) Scheme

Residents of Lagos cannot help but notice the Long Red Buses, popularly called "BRT Buses" that ply dedicated routes in the metropolis. The buses are modeled after BRT Schemes in operation in cities around the world, and are meant to serve as a temporary solution to our traffic problems until a more lasting solution, such as the metro line, can be designed and implemented.

I believe the scheme holds a lot of promise, as many people should willingly keep their cars at home if they can be assured of a traffic-jam free ride on dedicated lanes in a decent and well kept bus. I believe the challenge lies in finding a sustainable and self-sustaining business model for the scheme. The buses are currently being run by a company called "LAGBUS Asset Management" in which the state government holds a substantial stake. The state through LAMATA, Lagos Metropolitan Transport Authority, also owns and maintains the dedicated corridors that the scheme's buses use.

As a result, the same entity serves as the beneficial owner, at least to a large extent, of both the Infrastructure and the sole service provider. The model I propose will lead to a separation of the infrastructure: the dedicated bus lines, and the service: the Rapid Bus scheme. I believe it will be more efficient for the government to sell its stake in LAGBUS and concentrate its efforts, through LAMATA, on maintaining the Infrastructure on which the Scheme will run. The current system,whereby LAGBUS is virtually a monopoly, will not augur well for the consumer.

The government should set minimum standards that would be operators of BRT buses have to maintain. These standards may include the use of brand new buses,regular safety training for drivers and a minimum capacity for BRT buses. The government could then issue an Expression Of Interest (EOI) advertisement in the media, for organisations that intend to participate. The state government could then offer four (4) licenses for example, for organisations to operate the scheme. The state government would then conduct a public auction to award these licenses to four(4) organisations to carry on business as BRT buses. The auction will provide the government with some revenue to be used in expanding the infrastructure.

LAMATA will then serve as the regulator of the scheme, ensuring that the licensees meet stipulated standards. The presence of multiple operators will infuse competition into the marketplace and ensure consumer choice. Each operator will strive to differentiate its service, either through price or some other metric, from those of its competitors. This will lead to greater customer satisfaction and free the government from the burden of operating and maintaining buses. Furthermore, the government could charge a fee, say 1% of each operator's revenues, to help to maintain the dedicated bus lanes and improve associated infrastructure such as streetlights etc.

I believe this model while not perfect, is an improvement over the current system that clumsily bundles a service with the infrastructure that enables it.

Irrational Exuberance?

The troubles in the US sub-prime markets and the woes it has unleashed on financial markets all over the world, have become part of my daily consciousness since I started an internship at an Investment Management Firm. The credit crunch is indicative of the effects of unbridled optimism and excessive risk-taking that has gone bad. The granting of mortgage loans to people who would normally not qualify for such loans, i.e. who have subprime credit rating, is a very dangerous business. Nevertheless, these people were still granted the loan, and they went on a spending-party. While the party lasted, the markets benefited,because sub-prime loans provide greater returns than normal loans do. Homebuilders also benefited, as these loans unleashed a feverish pace of home-building and -improvement activities across the United States.

These "dangerous" loans were then securitised, repackaged and sold to gullible "alpha seeking" investors. And it was fine while the party lasted, new financial products were created,home-builders stocks soared and asset managers earned fat fees. Every investment firm rushed to create a sub-prime mortgage fund, and to provide a basis(or raw material) for these funds, more loans were parceled out to even riskier creditors. However, when the "shit hit the fan", this precarious arrangement collapsed like a pile of cards. and the result was chaos across various sectors and markets all over the United States and the world at large.

This "sub-prime fiasco" brings my mind to the Nigerian stock market, which has been growing at a dizzying rate and generating fabulous profits. The banks are on a capital raising binge, having developed almost overnight a glutonous appetite for capital. And everybody from the man on the street, to "alpha seeking" foreign emerging markets funds have been pouring money into the market. Stocks have been appreciating at a pace which is out of synch with prevailing economic circumstances. Looking at the valuations of the stockmarket, the paper frofits and the very optimistic statements of people who should know better. The words spoken by Alan Greenspan, at the height of the US dot-com boom, come to mind: "IRRATIONAL EXUBERANCE". I don't want to sound like a spioi sport, but I feel a major market correction will take place to "burst our boom". The fact that it is unlikely for us to have the capacity and ability to withstand a market meltdown,makes the situation very scary.

Reflections on Tinapa

Tinapa which has been tagged "Africa's Premier business resort" by its promoters, has been commissioned earlier this month by no less a person than the President of Nigeria. It has been estimated that the project has so far gulped Fifty(50) Billion Naira, with a substantial portion of that being in the form of loans from commercial banks (such as UBA) and equity infusion from the Organised Private Sector. The project has been billed to serve as a business cum leisure hub for the West African Sub-region, in essence providing for West Africa, the niche filled by the Emirate of Dubai(part of the UAE).

I must say that I respect and salute the courage of Mr. Donald Duke (outgoing governor of Cross river state) for daring to dream in a society that views governance only as a mechanism for the payment of civil servants salaries and the unfailing "lining of politicians pockets". However, before this project can live up to its promise and justify the high expectations of Cross Riverians and Nigerians at large, certain limiting issues must be discussed and if possible mitigated.
The success of the Tinapa project is dependent almost entirely on the ability to generate and attract business and leisure "traffic". People must be willing to come to Tinapa for business and be willing to stay for a little more time than is absolutely necessary to conduct business, in order to relax and take advantage of the leisure facilities present in the resort. For this 'traffic" to materialize, people must find it convenient and safe to visit Tinapa from any part of the world. Secondly Tinapa must have what they are looking for, it must have high quality merchandise and services for sale at a rate that is very competitive (which has been Dubai's Unique Selling Point).

It is this "traffic" that I am doubtful Tinapa can attract, the Socio-economic status of the country is a key militating factor against this. The peculiar security situation of the surrounding Niger-Delta region, with incessant kidnappings, vandalisation and arson, will probably serve to scare potential visitors from outside the country. Although it can be argued that Cross-river state is itself is relatively peaceful when compared with the surrounding delta region. Apart from the peculiar situation of the Delta region, the uncertainties in the country as a whole has resulted in various travel warnings to European citizens.

More importantly, the pertinent question is: Can Tinapa attract the "big name" multinational retailers and corporations that will serve as a magnet to attract the traffic of people. The Calabar airport is not comparable to Dubai's airport, it is not even in the league of Nigeria's Murtala Mohammed International Airport. The Port at Calabar will need to be dredged to accommodate larger ocean-going vessels, which "pile em up, sell them cheap" retailers such as Wal-mart so greatly depend. If big name retailers are to be attracted they will be expecting near first world infrastructure in terms of reliable power, communications, financing and human capital. These infrastructure though achievable will probably come at great cost, which will increase the cost of doing business and with it a reduction of the expected competitive advantage of Tinapa.
Though I might be accused of being (or at least sounding like) a "prophet of doom". I still think it is important to view the "infectious" optimism that pervades the Tinapa project through the lens of our current socio-economic realities.

Accidental Investment Banker

I just spent the christmas break, reading the book: "Accidental Investment Banker: Inside the Decade that transformed Wall Street" by Jonathan Knee, a former Goldman, Sachs and Morgan Stanley banker, who is now a partner at a boutique advisory firm. I really found the book to be entertaining as well as informative, as the author wrote about investment banking, from the ringside view he had, while working in arguably the two most prestigious firms(Goldman & Morgan Stanley)on Wall Street. He gave a very entertaining account of his time at both firms, in two major financial capitals (London & New york).

I found very enlightenining his description of the conflicts inherent in the new found penchant for Investment Banks to act simultanously as advisers and principals on various deals. This is bound to raise certain suspicions on the part of Clients as they will always be unclear as to what the intentions of their bankers are eaxactly. Are they giving honest impartial advice or are they working to gain certain information, that the bank may use to win a deal somewhere as a principal.

It is not uncommon nowadays to see Investment banks compete head to head with their established clients in their new found role as Investing principals. One of these occasions prompted Vodafone to replace their longstanding adviser: Goldman Sachs. These conflicts were discussed in a report of The Economist on Goldman Sachs published in Mid-2006. With Investment banks having to rely more and more on profits generated by proprietary trading and principal investments, it is clear that the interests of both client and banker may not always be in alignment.Furthermore, with Investment bankers turning into Financial Supermarkets, "selling" all sorts of financial services. It is unclear if the advice provided to clients, is just that: an honest advice or a marketing ploy to sell other financial products.

It is self evident that this situation provides good grounds for the emergence of "pure advisory" firms that would be free from the conflicts itemised above. And the past few years has seen the emergence and growth of such firms such as: Greenhill & Co., Lazard Freres, Evercore Partners. If there performance in the past few years is an indication, we might be at the threshold of a new enduring and above all profitable business model.

However, the book spent a little too much time, discussing the history of Goldman sachs, that was not exactly material to the discussion in the book. Considering that I had read "Goldman Sachs: A culture of Success" by Lisa Endlich, the portions of the book seemed like a repeat performance and I had to skip a few pages. However as a whole, the book was a wonderful read and I recommend it to anyone interested in both the past and future of Investment Banking.

Banks and the rush for Foreign Partners

At the last count, more than ten (10) were in various stages of discussion with various transnational financial institutions such as HSBC, Goldman Sachs, Morgan Stanley, JPMorgan etcetera. What is yet to be very clear is if these partnerships are strictly for the purpose of having a shot at managing the country's increasing external reserves, which currently stand at over $28 billion, or if it will be more encompassing. I believe it will be in the best interest of the economy and the banks involved to have a more involving collaboration, even to the point of having foreign acquisitions.

There are two reasons I have for this: firstly, the foreign reserves custody business is a low-margin one the world over. secondly, increased foreign participation in the banking industry will open the banks and by extension the economy to cheaper sources of capital, than we have hitherto been used to.

Nigeria: The need for Buyout Firms

In the spirit of Gordon Gecko's(played by michael Douglas) speech in the movie: " Wall Street", to stockholders of the "Teldar Paper" Company, in which he famously declared that "greed is good". I began to ponder the relevance of corporate buyout firms and so called "asset strippers" to the proper functioning of corporate enterprise. Corporate raiders like Henry Kravis, Ivan Boesky ( on whom Gordon gecko is loosely based), helped to dismantle the inefficient corporations and conglomerates that held sway in the 80s in america.

The question you may ask is: Why will Corporate raiders be so effective at fixing problems?. Answer: GREED. Greed is in my opinion the greatest motivator in the history of man, corporate raiders usually target an undervalued company and borrow huge sums of money usually by issuing bonds or bank loans to purchase controlling shares. Now, they are incredibly motivated because they have borrowed huge sums of money, hence they must ensure that the acquired businesses generate a cash flow that is reliable enough to service the debt incurred by the Buyout firm.

However, before the buyout industry can become very profitable and entrenched, some factors such as the following must be present:
1.) The most important, availablity of Undervalued Companies.
2.) Access to Cheap capital.
3.) Venture Firms must be competent in not only investing in companies, but also restructuring & Fixing broken companies.

Point 1 is very important, as overvalued equities are not in anyway favourable to Buyout firms. Purchasing controlling shares in an overvalued company would make acquisitions more expensive as well as make it more difficult for Buyout firms to service and ultimately offset the debt incurred in the course of the acquisition process.

Cheap capital is also very important to private equity companies. For an example of the role of leverage in Principal Investing, consider this scenario. Buyout firm X has 100 million naira in capigtal, however it borrows a total of 900 million naira to buy a failing company (Assume this includes interest payments), it then restrucures & sells the company for 1.1 billion naira, which means it has made a profit of 100 million (1.1 billion-(900+100)) naira on the investment. However, this number is a little misleading, because the buyout firm actually made a Return On Invested Capital (ROIC) of 100 percent ( (Profit made)/(Firm's capital)). This is because the company only invested 100 million naira of its own money in the venture and generated 100 million naira in profit.

Also, it would be beneficial if there exists a well developed Bond market in the country, this is important because a Buyout firm cannot depend solely on short term commercial loans. The "Buyout boom" of the 80s in America was fuelled by readily available "junk" bonds (ie bonds that are not investment grade,& are not backed by solid assets), Buyout men like Henry Kravis, Michael Milken etc were able to take over large companies without the help of the established banks.

Finally, private equity funds must also develop capacity in the area of Corporate strategy and restructuring, to enable them add value to the companies that they purchase. Adding value to purchased companies is probably the surest recipe for profitability. As it is my belief that the only reason for the existence of a company is simply: the maximisation of shareholder value. Therefore buyout firms must be adept at finding ways of enhancing the profitability of acquired companies, by taking a more active role in the management of such companies. So it will be important for them to have workers that have both management consulting and Investment Banking experience.

Transcorp: Yet another white elephant Project?

By now the Transnational Corporation of Nigeria (Transcorp) is now an household name in the financial and business sectors of Nigeria. The company which was launched at a banquet by no less a personality as: President Olusegun Obasanjo on July 15, 2005, as as its aim, investment in areas like:Oil & Gas, Information Technology, Power,Agriculture and Free Trade Zone, in effect creating a national champion . Most observers would recognise the company as the new owners of Nicon Noga Hilton (since renamed Transcorp Hilton).

Now, this is my grouse with Transcorp, the company keeps shouting chaebol at me. My first reservation against the company, is the number of bankers on the board of the company. It is my belief that the major cardinal sin that can be committed by a capitalist is the inefficient use of capital. Having a disproportionate number of bankers on the board of a company, may reduce the level of due dilligence that their banks conduct, thereby throwing good money at potentially bad investments. This situation can be potentially disastrous, as is evident in Japan where some banks have been threatened to the point of extinction, because of the exposure to Bad debt incurred by companies, on whose boards their senior bankers sat on. That is why I am slightly uncomfortable with the fact that chief executives or board members of some of Nigeria's biggest banks such as Zenith, First bank,Standard Trust Bank and GTBank, sit on the board of Transcorp.

Furthermore, the need to create a National (Homegrown) business champion which is often cited as the motivation for the establishment of Transcorp is suspect. There already exist quite a number of homegrown industrial champions, that have emerged or are in advanced stages of emerging. Oando is an emerging national champion in the field of energy, the company's petroleum products retail network is steadily improving. It has an Exploration and Production subsidiary that has just been awarded Oil blocks. It has a power generating subsidiary, it is expanding across the West african region, running refineries and distribution outlets.

Another case in point, is the Dangote Group which has proven itself in the area of manufacturing, running perhaps the biggest cement project currently in Sub-Saharan Africa(Obajana). Globacom is another national champion in the area of telecommunications, the speed at which it has rolled out sophisticated services, is unmatched even by the south African backed companies. The question I have for the government is,given the few examples listed above is: why not actively promote these companies in the fields in which they have been showing leadership, rather than try to create an artificial Champion that pretends to be a Jack of all trades?. I think that is food for thought.