Understanding Sovereign Debt

FOCUS on ECONOMY

Central Bank of Papua New Guinea the issuer of government securities. Picture by Raksy Heron

Standard and Poor (S&P) last month released the credit rating of Papua New Guinea (PNG) and Pacific Business Review reported the rating to be maintained at B. Before that, there have been intense debates recently on the 2014 deficit budget passed down by government in November last year. In the midst of all those intense discussions, the phrase sovereign debt seems to randomly appear. However, many people still don’t understand what sovereign debt is all about and how PNG is evaluated by international organizations about its credit worthiness. I cover in this article, sovereign debt and tie it to PNG’s credit rating given by S&P recently.

Sovereign debt

Sovereign debt is simply money or credit owed by a government to its creditors. These debts typically include securities, bonds or bills with maturity dates ranging from less than a year to more than ten years.  A source in Central Bank told me that the bank is the only issuer of government securities including the treasury bills and inscribed stocks. In another context, the phrase sovereign debt can also be used to describe future obligations like pensions, entitlement programs, and other goods and services that were contracted but not paid. Concerns around sovereign debt have been growing since World War II. During that time, many countries went into debt to finance either the war itself or the rebuilding efforts afterwards. The government of PNG, through the treasury department supports a fairly high level of public debt to pay for public investment in lean times under the premise that it can be paid back by the growth that follows. That is the reason the O’Neil Dion led coalition government pass down an historical 2.3 billion deficit budget.

Measuring Sovereign Debt

Speaking during the recently concluded Leaders Summit held in Port Moresby, acting secretary for treasury Mr Dairi Vele confirmed the credit rating of PNG to be maintained at B. How is the sovereign debt of a country measured and its credit rating given? Sovereign debt is can be measured using a variety of different metrics. Often times, these metrics are used in order to determine if a country's sovereign debt is too high given its gross domestic product (GDP) or abilities to tax its citizens. But these factors should also take into account a country' GDP growth rate, which can dramatically influence its future ability to repay debt.

The three most popular metrics are:

Total Public Debt - The total public debt is the total amount of debt outstanding. But without context, this figure isn't very informative and can be misleading. As a result, most experts look towards Debt-to-GDP and Debt per Capita as common measures.

Debt as a Percent of GDP - Debt as a percentage of gross domestic product is simply the total public debt divided by GDP. Countries with a debt greater than their GDP (or a ratio over 100%) are generally considered to be over indebted.

Debt per Capita - Debt per capita is simply the total debt divided by the number of citizens. A debt per capita that is in excess of per capita income reduces the likelihood that the government will be able to make up its shortfall through traditional taxation. Sovereign debt statistics for individual countries since World War II has been widely documented and you source them on or offline.

Sovereign Debt Ratings

Sovereign debts ratings can help investors determine the credit risks associated with a given country by taking into account not only debt levels, but political risk, regulatory risk and other factors. Some studies have shown that these ratings can influence debt costs by as much as 25% per notch. The three most popular credit rating agencies are Standard & Poor's, Moody's Investor Services, and Fitch Ratings.

Credit rating

A credit rating is an evaluation of the credit worthiness of a debtor, in this case, the government of PNG. The rafting given by S&P shows the government of PNG’s ability to pay back its debt and the likelihood of default. Credit ratings are not done using mathematical formulas. Instead, the analysts of credit rating agencies like S&P use their judgement and experience in determining what public and private information should be considered in giving a rating to a company or organization. That is how S&P came out to give the government of PNG a credit rating of B.

Excessive financial risks in Govt debt portfolio

From left to right- Prime Minister Peter O’Neill, Treasurer Don Polye and Governor Loi Bakani

The government of Papua New Guinea has piled up excessive financial risks in its debt portfolio.

The move by the incumbent government to update the Medium Term Debt Strategy (MTDS) 2013 – 2017 may be regarded by the unsuspecting eyes as a smart move by the O’Neill Dion government to effectively manage its debt at a sustainable level and ensure continues growth in the country’s economy.

To the prying eyes, what is left unsaid speaks volume that the government has piled up excessive risks in its debt portfolio that it must act swiftly to manage the risks. Failure to so could result in appalling consequences.

It has to be critical for Prime Minister Peter O’Neill to pull out the shelved MTDS 2013 – 2017 and update three important strategies which Treasurer Don Polye said would maintain the Government’s debt at a sustainable level, reduce the excessive debt portfolio, and to gradually make improvement in its domestic debt, which has a lot to improve.

A daily paper reported late last year on the government’s budget blow up due to overspending. Treasurer’s statement confirms that the government’s spending has gone out of hand and requires urgent measure to maintain the debt at a sustainable level and to continuously grow the economy.

“The first strategy is to maintain the government’s debt at a sustainable level. The next strategy is to reduce the excessive financial risks in debt portfolio” Treasurer Polye said.

Given the high level of debt the government has, its financials risks are also very high.

While the government brags on uninterrupted economic growth over the years, effective management of the financial risk remains a mammoth task for the government.

The high level of financial risks has forced the government to issue the biggest ever recorded inscribed stocks through Central Bank to collect enough revenue to manage its debts.

This paper was advised by Central Bank governor Loi Bakani that issuance of K1.9 billion inscribed stocks is the biggest ever.

“The IS issuance program for 2014 is a huge one, and gives the opportunity for PNG companies, businesses and ordinary people or mums and dads to participate” Mr Bakani said.

The issuance of the inscribed stocks has already begun according to Mr Bakani and is based on the 2014 projections as Treasurer Polye noted in his statement. Treasury Polye advised that any changes that results will be treated as part of the 2014 supplementary budget.

Despite, the update of the three key strategies of MTDS 2013-2017 and issuance of the historical K1.9 billion inscribed stocks, the financial risks in government’s debt portfolio remains excessive.  

Dibb resigns as CUE director

Timothy Dibb has recently resigned from his role as a director with CUE energy. Mr Dibb joined Cue board in November 2011 and has made a substantial contribution to the Company’s strong foundation for further growth until his recent resignation to take a senior role overseas.

Dibb is an Earth scientist with 28 years of experience in the oil and gas industry, both upstream and downstream. His experiences include working with Texaco, Amoseas, Fletcher Challenge Energy Ltd, Santos Ltd and most recently as New Ventures Manager for Upstream Energy and Resources Division of the Todd Corporations and also as consultant.

 Chairman Geoffrey King expressed his gratitude to Mr Dibb for his contribution to CUE in a recently releases statement.

“The Board thanks Tim for his contribution and commitment to the Company since he joined the Board. He leaves the Board with our best wishes. 

On a personal level, I would like to record my thanks to Tim for his commercial and geological insights, support and friendship during the past two years. 

We wish him well in his future personal and business endeavours for his contribution and commitment to the Company since he joined the Board” Mr King said. 

OSH performance at POMSox remains strong despite Arab takeover hype

The recent hype about fears of Oil Search Limited (OSH), a PNG based resource company being taken over by Arab overseas interest had no major impact on the performance of company’s ordinary shares at Port Moresby Stock Exchange (POMSox).

The managing director of Oil Search, Peter Botten, in a teleconference hosted in Brisbane, responded to a question raised by this paper that share performance at POMSox was not affected by the speculations.

“POMSox being a small market, there was not much difference in the share performance as compared to ASX (Australian Stock exchange)” Mr Botten said.

Oil Search on Tuesday, 25 February 2014 requested POMSox for an immediate halt in trading of its ordinary shares.

The request for a trading halt was made to allow Oil Search maintain orderly market in its shares prior to release of a major announcement which Mr Botten made on Thursday 27, February 2014. 

As a result, OSH’s share price at POMSox since Tuesday remained at K17.53 till Thursday.

The trading halt is believed to have prevented volatility in trading which could have happen if trading continued with the market speculating outcomes of the announcements which Mr Botten made on Thursday.

Another key announcement made was the acquisition of 22.835% gross interest in PRL 14, containing the Elk/Antelope gas discoveries, through the acquisition of the Pac Group for US$900 million.

The acquisition is believed to further improve the performance OSH’s share price in both POMSox and ASX. 

New woman chamber of commerce and industry

Board of PNGWCCI with Hammad Siddiqui (Back row, center). Picture by Raksy Heron

Leading Papua New Guinea woman entrepreneurs have taken a step forward in forming a new woman chamber of commerce and industry, the Papua New Guinea Woman Chamber of Commerce and Industry (PNGWCCI).

The PNGWCCI, which is the only woman chamber in PNG, seeks to empower and strengthen woman entrepreneurs and leaders to build their capacity, business networks and advocate innovatively to create wealth and prosperity in an enabling environment.

While the chamber is new, it has already received local and international recognition according to an international expert.

“You have been recognised by the local media. The US embassy and international organizations like CIPE. ” said Hammad Siddiqui, the senior program manager of the Center for International Private Enterprise (CIPE).

The Center for International Private Enterprise, an internationally recognised organization with over 30 years of accumulated experience and expertise in chamber formation and management is taking a keen interest in supporting and developing PNGWCCI to be one of the internationally recognised woman chambers in PNG.

The board of PNGWCCI received a special one week training from CIPE experts this week. The training exclusively covered topics on chamber formation, member recruiting and retention to strategic planning and management of the chamber.

The president of the PNGWCCI, Avia Koisen, vice president Janet Sios and the board members expressed gratitude to the CIPE for reaching out to help PNGWCCI.

Plans to move Newcrest out looms

Provincial assembly and landowners at helm

Ian D. Hetri

Sir Julius Chan

Sir Julius Chan. Photo by Raksy Heron

A planned radical stance backed by Governor of New Ireland Province, Sir Julius Chan and members of his provincial assembly, the chiefs and the local landowners to move Newcrest out of New Ireland Province is imminent.

“We are sick of the deceit, arrogance and incompetence you Newcrest have demonstrated since you took over Lihir” Sir Julius said.

Sir Julius said that his provincial government and the local land owners are taking necessary steps with relevant authorities to move Newcrest out of New Ireland Province.

Sir Julius stated the reason behind the move as being Newcrest not keeping its word to fund the Tax Credit Scheme (TCS) to implement developmental projects In New Ireland Province.

“In 2011 Newcrest told us they would provide K157 million over five years for the TCS.

Then earlier this year they told us there would be severe cuts in the TCS. We have waited for 18 years for the TCS to come onstream” Sir Julius said.

It is understood that Newcrest is not meeting its commitment to the province and the Governor and people of New Ireland are not happy.

Newcrest is believed to have asserted that The Bottom has Fallen out of the Price of Gold referring to the fall in prices of minerals in world market over the last few months.

Newcrest bought Lihir Gold in August 2010 at $US1200 per ounce. The price global gold price rose to $1400 per ounce in 2011 with Newcrest seeing a profit of $908 million. Then in 2012, the global gold price rose to $US1800 per ounce with the company making a profit of $A1.117 billion.

Between 2011 and 2013, Newcrest has seen a massive windfall. World gold price has since plummeted to $US1250 per ounce. Just $US250 above the purchase price in 2010 when Newcrest bought Lihir Gold.

Sir Julius also asserted that Newcrest is laying of hundreds of people to cut its workforce, particularly the expensive which are the expatriates.

“Newcrest does not need them anyway,, and this is a good opportunity to shed them” Sir Julius said.

Sir Julius also asserted that Newcrest has no money to keep to obligation to New Ireland. 

 

“They appear to have sufficient money to pay their executives not only large salaries but also outrageous bonuses, even in bad years. In 201o the top three executives in the company which Sir Julius named as Stephan Creese, Collin Moorhead and Deborah Sterling received $A75, 000 bonuses each in 2011. Then in 2012, even gold prices began to drop, they each got $A100, 000. And just two months ago, after Newcrest said the bottom has fallen out of the gold price, they each received the bonus of A$125, 000.

It is not only w are sceptical. The Australian Shareholders Association has said that it thinks this constitutes questionable practise” Sir Julius said. Sir Julius added that the industry can’t afford to pay 10% royalty.

“Our royalty rates are lowest in the world. African counties have raised their royalty rates to between 4% and 12% in the last few years. Even now, with gold trending down, Kenya just doubles the royalties to 5%. In the rest of the world, gold, copper, oil and gas range as high as 20%. We can do 5%. Newcrest can do it. They are here for the long term or we do not want them” Sir Julius concluded.

Connecting PNG businesses and individuals to opportunitiesIBBM

IBBM's Johnson Pundari 

Papua New Guinea‘s landowner companies have been around for a while, but the current resource boom, particularly the US15 billion (K37.5) PNG LNG project has significantly increased  their opportunities. Under the current public private partnership agenda driven by the incumbent government, many private sector organizations are partnering with the public sector organizations to ensure efficient delivery of basic goods and service to the mass and to boost the growth of private and the economy.

The IBBM Enterprise Centre established by the PNG LNG Project in partnership with the Institute of Banking and Business Management (IBBM) in 2009 is a driving force behind private sector growth in PNG.

TIM talked to IBBM’s manager Johnson Pundari about taking private sector growth, particularly, the Small Medium Enterprises (SMEs).

What are the core objectives of IBBM?

Pundari: The IBBM Enterprise Centre was established by the PNG LNG Project in partnership with the Institute of Banking and Business Management (IBBM) in 2009. Its main function was to help build the capacities of SMEs from the Project Impact Areas so that they can be able to participate in spin-off business opportunities from the LNG Project. IBBM works with the top 180 corporate organizations in PNG. Besides the Central Bank, the commercial banks have been the major clients and have their presence in our governing board. PNG LNG Project has a five year contract with IBBM Enterprise Centre. Other clients are Interoil, Nasfund, OTML, Coffey, PNG EPSP and other 150 SMEs. 

How do you conduct your capacity building programs?

One of the major functions of the centre is conducting of Business Assessment of SMEs. Eight global best practise criteria are used to assess performance and capabilities of companies and a star rating is awarded accordingly. This process identifies the strengths and weaknesses (GAP Analysis) of the assessed companies and business improvement is done to address the weaknesses. This is followed by recommendations of necessary capacity building programs to help close the GAPs. The Centre has assessed over 300 companies to date. It has then helped these companies in addressing the identified GAPs.

The assessment criteria are:

Governance and Organization

Business Management

Finance Management

Human Resource

Inventory Control

Quality

Safety Health and Environment

Reputation and Image

Most SMEs do not grow and mature into sustainable businesses due to lack of simple businesses process and procedures. Businesses are done on an ad hoc basis without adhering to proper businesses practices thus sustainability is an issue. Growth and development of SMEs in PNG will still be vague without proper capacity building programs.

Do you see PNG SMEs having the ability to sustain their businesses?

Pundari: Yes. They have the ability to prosper given enough support in terms of strengthening management and operations systems and processes. Most SMEs need initial guidance through capacity building programs so that they can be guided through sound business conducts and ethics. They need to focus on building strong practices around the eight key areas mentioned above.

PNG needs desperate investment infrastructures. What kind of roles should private sector play in this aspect? What role should the government play?

Pundari:  An ecosystem needs to be identified in the SME space. The different challenges of SMEs need to be identified. These include capacity, finance, management, operations, legislative framework etc…and identify organizations, either government or private or donor agencies that can effectively address each of these challenges. The government should provide an enabling environment through proper coordination of resources and legislations to enhance the growth of SMEs in the country.

Interview conducted by Ian D. Hetri