PRI: a safety valve for Africa’s pressure cooker
a safety valve for Africa’s pressure cooker
From war-torn, economic basket case to investment darling. With increasing growth projections, improbable as it once seemed, Africa looks set to be the future hub of global growth. Political risks, however, remain the number one obstacle cited for foreign investment, according to the MIGA World Investment and Political Risk Survey 2012 and managing these risks is critical for unlocking the continent’s full growth potential. Increasingly, investors are turning to political risk insurance (PRI) as a key risk-mitigation tool and the market is changing in response. “Political risk insurance plays an increasingly significant role in mobilising private investment in sub-Saharan Africa,” confirms Alkan Shenyuz, head of global solutions at Veventis Risk Solutions, specialist providers of risk solutions for frontier markets. Globally, events in the Middle East and North Africa have raised the spectre of unanticipated events in seemingly stable political regimes; recent expropriations in Latin America; contract renegotiations in resource-rich economies; and capital constraints have increased demand for PRI to cover investments. According to Willis Re, for large scale projects, PRI is now an indispensable part of foreign large scale project finance and investment in Africa. The elevated political risk perceptions of investors have revved demand for existing products and given rise to new product offerings and substantial growth in capacity.
Industry growth and response
Arthur J Gallagher and Co. London brokers estimated in its July 2012 market update that capacity in the global private market increased by 19 per cent in the first six months of 2012 alone. Growing foreign direct investment (FDI) into developing markets as the markets of Europe and North America have stagnated, and riskier developing markets have surged ahead. Along with elevated global political risk perceptions, this has revved demand for both traditional and new forms of cover, giving rise to innovations in offering and extensions on existing cover to meet the requirements of new markets.
Traditionally, PRI has covered political violence (war and insurrection); nationalisation and expropriation of assets; and currency inconvertibility (the inability to convert local currency or transfer currency out of the country). These threats can destabilise entire investment projects as well as specific contractual agreements, such as large export orders. More recently, sovereign payment default risk cover has been added to the offering of many private and public providers. This provides coverage to financial institutions, contractors and exporters in the event of payment defaults by sovereign, subsovereign and/or state-owned entities in emerging markets.
According to Ana Cristina Borges, executive director at Angola-based risk consultant MDS Africa, “Recent events, those of the Arab Spring in particular, have increased investor demand for specialised lines such as civil unrest and terrorism coverage. Some investors are expanding the use of investment insurance products for assets such as oil rigs, mobile equipment and personal assets. Simultaneously, there is an increased demand for all risks policies and this is a new trend.” According to Evan Freely, global political risk and trade credit practice leader at Marsh, where multinational corporations in the past sought to predict the risks of particular countries and insure against countryspecific risks, there is now demand for multi-country all risks cover.
When it comes to the tailoring of products for local markets, “Regulatory differences are the key driver here,” says Anton Roux, CEO of Aon sub-Saharan Africa. “A policy needs to comply with the regulatory environment and requirements of whichever one of the continent’s 54 countries it is written for and requires bespoke wording and tailoring. This in turn is often linked to reinsurance arrangements and will depend on the treaty requirements of the underwriter.”
Risks on the rise
The 2013 edition of the Aon political risk map suggests that global political risk has levelled off, after an elevated few years following the events of the Arab Spring. However, African threats appear to have spread, with seven countries’ risk profiles downgraded since 2012. The downgrades were for Algeria, Cameroon, Chad, Ethiopia, Madagascar, Mali and Namibia.
“The fact that war between neighbouring countries has steadily decreased has not translated into an increase in stability,” says the Multilateral Investment Guarantee Agency (MIGA) World Investment and Political Risk Survey 2012. “The dismantling of security forces in response to more peaceful borderlines, coupled with the boon in commodities prices, has instead led to increased instability within national borders. Kidnap, coups, religious fundamentalism and corruption spurred on by the commodities race have created a tense political atmosphere capable of turning in on itself at any moment.”
Nationalisation and expropriation emerged as a rising risk in 2012, continuing into 2013, according to the Control Risks RiskMap Report 2013. Mining codes in Guinea, DRC and Mozambique have been under evaluation with governments reviewing mining contracts. Zimbabwe most recently announced an examination of controls over the sale of minerals.
Direct expropriation incidence have been increasing since the early 2000s, with countries including Ghana and South Africa having introduced new royalty regimes or taxation rules for mining companies or, as in Guinea and Zambia, new mining legislation that requires increased state participation in the extractive industries. However, the MIGA report suggests that rather than an outright confiscation of foreign investors’ assets, companies are more likely to witness, “an indirect or insidious form of government intervention known as creeping expropriation”. This refers to state conduct that substantially deprives a foreign investor of the use or benefit of their investments, even though formal legal title may continue to vest with the investor. “For example, such expropriation could take the form of the imposition of a punitive tax regime that is applied selectively against the foreign enterprise and which is not applied to local companies.”
Political violence and civil unrest is a second noted risk on the rise, driven by discontent over corruption and a lack of economic opportunities, as well as rising fuel and food prices. According to Elizabeth Stephens, head of credit and political risk analysis at insurance broker Jardine Lloyd Thomson, growing concerns about jobs, social inequality, elevated food prices, and nondemocratic political regimes have given rise to civil disturbances and political violence, often leading to property damage and business interruptions. During 2012, the continent saw a coup in Mali, throwing the country into political turmoil and elevating the surrounding region’s risk; a rise in terrorist groupings and activities in countries such as Northern Nigeria, Somalia and the Eastern DRC; while South Africa experienced severe labour stoppages and violent strikes across a number of sectors. In March of this year, a coup in the resource-rich Central African Republic saw rebels oust President François Bozizé, followed by days of violence and looting, leaving the country in shambles. According to global risk management consultancy Control Risks, these changes are often accentuated by risk contagion, where changes in the risk profile in one country can be easily transmitted and affect the risk profile of others.
“As a result of growing demand for PRI, the number of providers entering the market is expanding and capacity is ample,” says Conor Healy, senior risk officer for sub-Saharan Africa at MIGA. “However, many private providers are not willing to enter the riskier markets as a primary insurer. In these cases, public providers such as MIGA and export credit agencies can take the lead, ceding risk to other players in the market. Currently, $4.2 billion of MIGA’s exposure is reinsured.”
African private capacity for PRI remains largely non-existent, meaning the majority of investors still look to foreign markets for cover, says Paul Lewis, manager of African business at PRP Insurance Brokers. In 2009, Phyllis Mabasa, then managing director at Sasria, expressed concern that this lack of local capacity increases the cost of cover and limits the options available. Roux, however, points to the wisdom of placing cover on a market outside of the investment country. “Should a country’s policies change dramatically, the host government could expropriate the local underwriter, too; therefore it makes sense to have an external underwriter.”
According to Roux, going through a market such as Lloyd’s can offer a cost advantage. “The scale of cover the Lloyd’s market takes on creates an advantage in terms of premium costs over private insurers who might struggle to obtain enough capacity to cover their risk.” Steve Bessant, political violence broker at RK Harrison, confirms this, saying in a recent article for Lloyd’s News, “Rates for political violence are stable, but they have been increasing in countries where demand exceeds supply and where insurers are looking to manage their aggregate exposure.”
I would say risk, especially political risk, is a question of perception.
One thing there appears to be unanimous agreement about is that the Lloyd’s market certainly has the capacity to meet demand. Nonetheless, for FDI in Africa, cover is not always available, or is not available at an affordable price. “Cover is widely available, if the investor or business is willing to pay. But the cost can be prohibitive for certain regions and certain risks,” says Lewis. Likewise, Roux notes, that the cost of placing a risk in the DRC will be far higher than that of a risk in Kenya. For certain countries or industries, the risks are considered so great that cover is not available at all. “In South Africa and Zimbabwe, for instance, it is not possible to obtain cover for nationalisation because of the lack of clarity on policy in these countries,” Roux explains.
The growth of public capacity, however, has increased both cover options available and policy tenors within African markets. The African Trade Insurance Agency (ATI), founded in 2001, now provides cover for 10 member countries with a further eight countries in completing their membership. Backed by the World Bank, the ATI is the only Africa-based multilateral financial institution providing export credit insurance, political risk insurance and investment insurance. It recently increased its capital base after an investment from the African Development Bank. The agency has supported over $2.5 billion worth of trade and investments across the continent, providing cover for many previously uninsurable projects and businesses
With increased private capacity in international markets, international public providers have turned their focus to developing markets which attract less interest from private insurers. MIGA has numerous FDIs as well as a number of south-south projects, such as South African investments in sub-Saharan Africa. Although, as a rule, business models mirror the private market and its pricing, public providers of political-risk cover offer certain notable advantages. “Our comparative advantage comes in our standing as a member of the World Bank Group, which allows us to take on higher risk at longer tenors than the private market,” says Healy. This also allows MIGA to mediate disputes with host country governments. The majority of disputes are resolved between the insured party and the host government.
Perception versus reality
While the value of this kind of cover is clear, the increased perception of risk has been a noted boon for the insurance industry with some questioning whether risk has actually increased as greatly as demand and perception suggest. Roux suggests, “Africa needs a decent public relations agency. Africa is full of opportunities and we do not focus on these enough. As a recent report from Ernst and Young suggests, those doing business in Africa love it and those who aren’t think it is a basket case.” “I would say risk, especially political risk, is a question of perception,” says Shenyuz. “Africa is a vast continent of diverse people, cultures, geographies and systems of governance. I’m quite surprised to hear how frequently commentators bundle the risks associated with one region with those of another.” According to Shenyuz, the reason for the steady growth in risk management services supporting inward investment over the last few years is that no two projects are the same. Each project does come with its own set of risks.
In order to obtain the most cost-effective coverage, it is crucial that an investor or business carefully analyses and thoroughly understands the risks for their business in a particular country and area. “Not only are the threats different from country to country, but often from one part of the country to another, so it is important to avoid generalising a perceived risk. Better-informed clients who work on actual risks rather than perceived ones are more likely to require only the most suitable insurance products,” says Shenyuz. “A new investor may be equally concerned with the risk of nationalisation, expropriation and a state not honouring sovereign obligations. In reality, our analysis may enable them to pinpoint one risk and de-prioritise the others. This allows them to structure a risk management plan around the most logical threats to the project in question.”
Aon helps clients reduce the cost of cover through effective mitigation and management strategies. “We run a crisis management team and monitor movements and changes. Because a client can demonstrate a thorough strategy to handle rapid evacuation, for example, they will qualify for reduced premiums on cover.”
Foreign investors in Africa must consider a combination of techniques to ensure they are prepared for any eventuality, says Shenyuz. “This involves anything from ensuring they understand the government’s economic policy in order to help anticipate imminent currency or capital controls, to ensuring transport links to the port are safe and secure. A multi-layered risk management plan which anticipates a range of scenarios and utilises a range of mitigation techniques from security training to insurance which minimises the impact of expropriation is the most effective strategy for a capital project.”
Into the future
The World Investment and Political Risk Survey 2012 suggests that political risk poses a threat of potential loss of capital crucial for growth for the continent; and for investors, a loss of opportunities to capture potential high yields from a vast, still largely untapped market. According to the most recent Grant Thornton International Business Report, 32 per cent of foreign investors into Africa are putting off investment decisions because of current political conditions. However, with growth in the so-called tiger economies projected to be as high as 7.9 per cent in 2013 into 2014, it is likely that many investors will simply turn evermore to PRI.
“The demand for PRI will continue to grow as aid budgets shrink and countries look towards private investment and commercial debt to address their significant infrastructure deficits. PRI will continue to play a significant role for those investors who are looking at sub-Saharan Africa in search of higher yields,” concludes Healy.