Rising Cost Of Debt Pushes Nigerian Corporates Away From Capital Market

Rising Cost Of Debt Pushes Nigerian Corporates Away From Capital Market

Following a series of interest rate hikes by the Central Bank of Nigeria (CBN), borrowing costs have surged significantly, leading Nigerian companies to steer clear of the capital market.

From January to May 2024, the CBN raised the monetary policy rate (MPR) by an astonishing 750 basis points to 26.25%. This sharp increase has greatly affected the cost of capital for both businesses and the government.

These rate hikes are part of the CBN’s strategy to combat soaring inflation and stabilize the national currency, which is currently at an all-time low.

Inflation in Nigeria surged to a record high of 34.19% in June 2024, while the naira trades above N1,500 per US dollar.

This aggressive monetary policy has led to higher borrowing costs, reflecting in the surge of government securities as well. Consequently, companies have become cautious about participating in the capital market.

The impact of this cautious approach is evident in the sharp decline in new listings of commercial papers and corporate bonds. According to FMDQ data, new listings of commercial papers dropped by 22.6% in the first five months of 2024, falling from N843.62 billion in the same period in 2023 to N653.1 billion. This significant decrease highlights the deterrent effect of high financing costs on companies seeking short-term debt.

The situation is even more severe in the corporate bond market, where new listings plummeted by 97.6%, amounting to only N6.65 billion. This sharp decline underscores companies’ reluctance to take on long-term debt amid rising interest rates.

Manufacturing and Telecom Sectors Struggling
The cautious stance of corporations can be attributed to the need to stay competitive in an environment with significantly higher borrowing costs. Elevated interest rates increase the cost of servicing debt, which can erode profit margins and hinder growth.

This challenge is compounded by rising production costs and foreign exchange (FX) losses, particularly affecting manufacturing and telecommunications companies. Financial analysis of major consumer, industrial goods, and telecom companies listed on the NGX shows an 86.8% year-on-year increase in cost of sales in Q1 2024. These companies also experienced a combined FX revaluation loss of N1.3 trillion in Q1 2024, compared to N37.9 billion in the same period of 2023. According to Nairalytics data, the companies reported a combined net loss of N600.8 billion in Q1 2024, a stark contrast to the N322 billion profit in Q1 2023.

The high cost of debt not only affects new project financing but also burdens existing debt obligations, especially for companies with floating-rate debt, which see increased interest expenses as rates rise.

This trend has broader economic implications. The capital market is crucial for providing long-term financing needed for business growth and economic development. A retreat by corporates from the capital market limits their ability to invest in expansion, innovation, and job creation.

Moreover, a decline in corporate debt issuance could reduce investment options for both institutional and retail investors, leading to a greater reliance on government securities and a less dynamic capital market.

Experts anticipate a continued decline in corporate debt market participation. Victor Onyema, Lead of Portfolio Management at Norrenberger Asset Management Limited (NAML), notes that the high yield on risk-free instruments has significantly impacted companies’ ability to raise debt capital affordably.

“Corporates are struggling with the high cost of capital, with average costs around 26-30% on short-term commercial papers. The high yields on Treasury bills and bonds are pressuring corporates to offer a premium over the risk-free rate, leading to fewer issuances this year. We expect this trend to continue until interest rates decrease,” Victor explained.

Bottom Line
Policymakers need to balance controlling inflation with maintaining a supportive environment for corporate financing. While the CBN’s interest rate hikes aim to stabilize the economy, it is crucial to consider their broader impact on corporate financing and the capital market.