Africa embraces Islamic Finance

When the heads of state of African and Middle Eastern countries recently met in Kuwait for their third summit, both sides were more interested in talking about business than politics.

“Opportunities in Africa are starting to attract investments from Arab countries,” Sheikh Mohammed Abdullah Al-Sabah, minister of state for Cabinet Affairs of Kuwait, tell the Financial Times.

Until now, the Africa-Middle East business marriage has missed a crucial element: Islamic finance. Now, however, there are growing signs that Africa is for the first time embracing large-scale Islamic finance as it seeks to tap cash-rich Middle Eastern investors to finance their large infrastructure programmes.

Sheikh Al-Sabah says Islamic finance was a key talking point at the recent Kuwait summit. “We agreed to provide support to establish Islamic finance securities in Africa,” he says. This year, Nigeria became the first big economy in sub-Saharan Africa to use the $100bn a year market for sukuk, or Islamic bonds. Soon after, Senegal announced plans for its own sukuk in 2014. Crucially, South Africa, the region’s superpower, has indicated it is about to follow suit.

Pravin Gordhan, South Africa’s finance minister, says that his department is looking at the physical assets that will underpin the sukuk. “We are very close [to launching it],” he says. Until now only Gambia and Sudan have issued sukuk, and they were for tiny sums on a short-term basis. But Africa is home to roughly 400m Muslims – about a quarter of the world’s total – and analysts believe the Nigerian sharia-compliant bond issued by Osun state in the southwest of the country, while relatively small at $62m, is the start of a trend in favour of Islamic finance. Sukuk, commonly backed or based on property or infrastructure, are structured to pay a fixed profit rate rather than a coupon.

As such, analysts believe they are particularly suited for sub-Saharan Africa, a region that needs huge investments in infrastructure, from power stations and railways to ports and roads. Analysts say African countries are keen to tap into Islamic finance, partly because high demand means the cost of borrowing can be cheaper, particularly from the Middle East, analysts said. 

The use of Islamic finance on the continent could grow further as several north and sub-Saharan African countries – including Morocco, Tunisia and Kenya – are laying the legal groundwork to be able to issue sukuk, analysts say. The central banks of Nigeria and Mauritius are also shareholders in the Malaysia-based International Islamic Liquidity Management Corp, which has started to issue sukuk to help Islamic banks manage their finances. But Islamic finance is still in its infancy and bankers and lawyers caution it will take several years before it takes off across the continent.

Neil Miller, head of Islamic finance at law firm Linklaters, says that, while there are an increasing number of African states showing interest in Islamic finance, the “reality is that sukuk require a reasonably robust legal framework and many countries will need to pass a variety of laws and regulations” to enter the sector.

The region is already benefiting from ad hoc Islamic finance deals, particularly those targeting infrastructure projects.The Islamic Development Bank, for example, is lending $150m through sharia-compliant facilities for the new Lekki port in Nigeria. It also supported the construction of the Kenitra power plant in Morocco with a $200m loan.

If the development of the US dollar-denominated sovereign bond market is any guide, say analysts and officials, it could take at least five years for Islamic finance to win widespread acceptance.

The Seychelles and Ghana became the first countries in the region outside South Africa to issue global bonds, in 2006 and 2007 respectively, but it was not until 2011-12 that others followed en masse.

The arrival of Africa in the sukuk market comes after a decade of strong growth in the sector elsewhere, led by southeast Asia and the Middle East.

Khalid Howladar, a Dubai-based senior credit officer at Moody’s, the rating agency, says issuance of sukuk has grown at a compound annual rate of 38 per cent over the past decade, from $3.3bn in 2002 to a record high of $81bn in 2012.

“We expect sukuk issuance this year marginally to exceed the 2011 level of about $51bn,” he said in a report to clients, adding that the drop in 2013 “mainly reflects the more challenging conditions in emerging markets” in the second half of this year.

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