श्रोत: आर्थिक अभियान

In the run-up to the third Nepal Investment Summit this weekend, there have been seminars, conferences and workshops where the discourse has revolved around the economy and the investment climate.

The consensus that Nepal needs foreign direct investments (FDI) to grow was repeated, and the familiar litany of reasons about why it has not been able to was discussed.

Policy advocates and regulators have understood that the lack of urgency is compounded by procedural inconsistencies, on top of the already deficient investment environment in the country.

It is a welcome change from what used to be flippantly accepting matters as given. There now seems to be a sense of urgency, with procedural inconsistencies and lack of harmonisation between various Acts and regulations openly discussed.

Government stakeholders also appear more willing to learn and attempt to be part of the solution. Whatever policy changes have been introduced in the past have been piecemeal and address the few rather than the entire industry. This left dual regulatory approaches aimed at similar players.

This time, unlike in the past two Summits, the government seems to be committed to amending 9 Acts, a positive step towards showing commitment to change. However, the deadline to do so during the winter session of Parliament is over. The option mooted has been to have it passed through ordinance, a lesser appealing step; albeit, a positive one moving forward.

To attract FDI in a competitive global market means that Nepal has to demonstrate that it is serious about bringing in investments with a more consultative and collaborative approach with investors. A departure from procedural to a result-oriented focus is needed.

To put issues in perspective, Nepal needs US$20 billion in investments to meet the UN’s Sustainable Development Goals (SDG) targets by 2030. If net-zero decarbonisation targets are to be met by 2045, another US$7 billion will be required annually.

Looking at our investment history and poor government capital expenditure, the gap is long and wide. In fiscal year 2022-23 Nepal booked a lamentable ~$59 million in FDI (equity). Nepal is in fact the lowest market in South Asia for FDI with 0.3% of the regional average.

What is it that we can do to fill the gap?

First, we need to move away from the notion that Nepal only needs large investments. This has proven to be a mistake, and time series data have proven that smaller investments, in aggregate, make a larger impact on economies.

We talk about an ‘enabling environment’ but without the right tools. We place restrictions on interest on debt ceiling (SOFR +5.5), without risk premium adjustments, we do not have an active secondary market for bond trading, nor do we have a yield curve, an integral part of the bond market, which is inhibiting us from tapping into the trillion dollar green bond market.

In order to attract green financing, Nepal needs to develop its bond market. Sovereign risk rating has been mooted and was expected to be operationalised before the Investment Summit.

However, to be rated in an adverse economic environment could further deteriorate investment potential due to a lesser-than-expected rating.

Hedging is another instrument that needs further research on. A commercial bank last year showcased the first risk-hedging mechanism for an investment of $8 million. This can be the beginning to expand on its modality.

Subordinated debt instruments have been introduced, but on a special nod basis, this now needs to be institutionalised as it is the most applicable form of investment after equity in a market that has volatile forex reserves.

Viability Gap Funding has been introduced by multilateral development agencies implemented in solar installations. It is a tool to incentivise the private sector to invest in projects that are not financially lucrative initially, but have potential for profitability in the long run. This needs to be scaled up and replicated in sectors like infrastructure, where returns may not be immediate.

Moving forward, to attract FDI, Nepal needs to tap into the funds that are available for the growth of small and medium enterprises (SMEs) and climate change. Alternative investments such as Private Equity Venture Capital (PEVC) have been around in a structured manner in Nepal for nearly a decade now.

These funds have blended finance components and have attracted climate funding as well. PEVC is a new asset class and can address the issues of penetrating into SME financing by incorporating environment, social and governance issues into their investment process.

SMEs are the backbone of any economy, PEVC comes with the ability not only to scale up the enterprise with risk capital, but with the ability to bring technical knowhow to enhance not only the enterprise but also the entrepreneur.

A differentiator from all other forms of financing available till date in Nepal. Blended finance is a way of de-risking investments, especially in frontier markets. Business Oxygen (BO2) is an example of blended finance with subordinated debt investments of IFC (World Bank Group) taking the lead and Climate Investment Funds along with FCDO as co-investors.

On a larger scale, the 216MW Upper Trisuli 1 is another example of blended finance with IFC, a Korean consortium and local investments. So far, we see that development finance Institutions have been taking the lead in Nepal as their risk appetite is greater than commercial investors and they are eager to help develop the financial markets.

In order to be sustainable, we need to step on this and attract commercial capital from all over the world. To do this there has to be political will to make that pivot.

Instead of being a means to an end, the two previous Investment Summits turned out to be intermittent and cosmetic, providing hardly any results. The third one’s success will depend on how the event will be implemented as a platform for continuous marketing for the country and facilitation for investors in future.

Nepal has outdone many countries in its macro-economic indicators, with sound forex reserves and a stellar history of debt payments to its creditors. This story needs to be propagated along with the drive for change to attract potential investors.

Siddhant Raj Pandey

writer

Siddhant Pandey is Chairman and CEO of Business Oxygen Pvt Ltd (BO2).

Source : https://nepalitimes.com/opinion/comment/nepal-looks-at-alternative-investments

Despite the impacts of COVID-19 on human health and economy, green finance is gaining increasing momentum around the world, including in the Asia & Pacific region, as a strategy to move countries towards a low-carbon economy cost effectively. In this context, Nepal has a unique opportunity to capitalize on this wave of green finance by resolving the barriers, innovating financial tools and technology and establishing effective partnerships globally, regionally and locally moving forward.

In Nepal, the current development of green finance is largely regulatory driven. At the same time, several Banks and Financial Institutions (BFIs) are also raising ambition by partnering with international institutions and developing green finance instruments. Other than a myriad of national level policies, frameworks and guidelines––such as Nepal’s Nationally Determined Contribution (NDC) to the Paris Agreement––the “Guidelines on Environmental and Social Risk Management for Banks and Financial Institutions (ESRM)” adopted by Nepal Rastra Bank (NRB) in 2018 and the subsequent directives for implementation have been the guiding force behind Nepal’s regulatory driven approach to green finance. According to the Sustainable Banking Network,¹ Nepal’s progress is largely regulatory driven and has evolved into the “Implementation Stage” towards a sustainable financial system. As next steps, Nepal is gearing towards the adoption of a national green finance roadmap and the issuance of its first green bond.

A International Finance Corporation (IFC) study from 2017 estimates a total climate-smart investment opportunity of USD 46 billion in Nepal from 2018 to 2030 which can be unlocked through green finance.² This is in the backdrop of an investment gap which has been estimated between 10-15 percent of GDP annually over the next decade.³ Given the potential of attracting new finance to fill the investment needs estimated, and the importance of such financing to be green, there is an immediate need to realize the progress already made in green financing while assessing existing challenges and gaps before developing strategies, priorities and action plans for the way forward.

Doing so requires an identification and implementation of green finance strategies while acknowledging that the context and national circumstances differ considerably for each country. This is particularly important in Nepal given the baseline portfolio of the country in terms of energy usage is largely green to begin with, which is rather unique when compared to other countries in the region. Nonetheless, the CO VID-19 pandemic provides an opportunity to adopt a green recovery path, with green finance at its core, in transitioning Nepal towards a green and circular economy.

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Deepak Sharma

Investment Director, Business Oxygen (BO2)

Understanding:

Private Equity and Venture Capital (PEVC) is gaining a lot of interest in Nepal and the number of PEVC firms has been growing. PEVC firms provide equity capital, also termed risk capital, to companies that are looking for capital to expand their businesses. Banks provide debts by collecting deposits from people, in the same analogy, PEVC firms provide equity investment to the companies from a pool of funds created from a limited number of investors. Banks provide debt to both entities and individuals while PEVCs provide investment to entities that are already established businesses or are on a path towards it. Private equity invests in more mature companies as venture capital invests in early-stage companies for higher returns.

Structure:

In a PEVC structure, the investors are the Limited Partners (LPs) and the fund managers are the General Partners (GP) of the fund. Funds are an investment pool created with significant commitments from LPs and small commitments from GPs. The role of LPs is limited and are not involved in the day-to-day operation of the fund, they do not take fiduciary risks. It is the responsibility of the GP to manage the fund, which involves deal sourcing, assessing investment proposals, deal structuring, deal negotiation, obtaining required approvals, investment decisions, and providing value-added services including monitoring the portfolio companies and ensuring the exit. It charges management fees to the fund for the fund management services. Traditionally, the 2/20 rule applies – 2% management fee along with 20% participation in profit as carry.

Investment Mandate:

Funds are a commercial finance first model i.e.; funds invest for return from the investment but at the same time they may also focus on the impact creation. Impact doesn’t mean subsidized or low-cost capital, funds may have an environment focus, climate focus, social impact, investments in line with SDGs, and ESG implementation among others. The impact is not a byproduct but a conscious outcome from investments along with the return. Funds have their own mandates and investment policies which define the sector and areas of investment, investment period, fund tenure, size of investment (ticket size), stage of the portfolio company to invest, and other investment criteria. The investment committee (IC) is the governing body of the fund and comprises senior members from the fund management team and independent experts. IC decides on the investment or divestment proposals from the fund manager and ensures that the fund is operated as per the mandate.

Investment Process:

PEVC investments take longer time compared to debt financing; as there is no collateral involved risk is high and the process is stringent. After an application is received thorough review of the financials and business plan is done by the fund manager, a site visit of the premise is conducted, several rounds of meetings are conducted to understand the business, industry, and investment needs, and an independent due diligence is done before final decision is made by the management. The management team then forwards the proposal to the IC which makes the final call.

Differentiator

PEVC investment is equity capital costlier than debt financing but less risky than debt financing. There are no collateral requirements, and no EMIs, and the structure can be customized in each deal in PEVC investment. Technical assistance (TA), network and handholding approach from investment to exit are the differentiators. The success of the fund depends on the success of the portfolio companies. Funds make money when the value of the portfolio company grows and the exit happens at higher multiples. Therefore, funds are equally involved and closely monitor the portfolio companies to help incorporate the best governance, financial, and management practices to prepare for the planned expansion. PEVC firms empower entrepreneurs to operate the business but funds cannot be expected to be involved in daily business operations.

Right capital Mix

Depending upon the existing capital mix, business plan, investment need, stage of the company, risk involved, gestation period, and need for collaboration, an entrepreneur can decide on the type of financing it needs. The right mix of debt and equity investment can provide a sustainable return at lesser risk. One of the fears of entrepreneurs for equity investment is dilution. PEVC funds are close-ended funds which means they have to close after a certain period. Hence, exit is mandatory, entrepreneurs have an opportunity to own 100% of their business at the end of the investment period.

Source : Nepal Private Equity Association (NPEA)

In the past few weeks as Nepal faces trying times with falling growth and high inflation, Kathmandu has witnessed numerous seminars, conferences and workshops with the discourse revolving around the economy and investments.

The consensus that Nepal needs foreign direct investments (FDI) to grow was once again repeated, and the familiar litany of reasons about why it has not been able to. Policy advocates and regulators have understood that the lack of urgency is compounded by procedural inconsistencies and added to the already deficient investment environment in the country.

It is a welcome change from what used to be flippantly accepting things as given that there is now a sense of urgency, with procedural inconsistencies and lack of harmonisation between various Acts and regulations openly discussed.

Furthermore, the desire from government stakeholders to learn and attempt to be part of the solution is also beginning to happen. Whatever policy changes have been introduced in the past have been piecemeal and address the few rather than the entire industry, thus leaving dual regulatory approaches aimed at similar players.

To attract FDI in a competitive global market means Nepal has to demonstrate that it is serious about bringing in investments with a more consultative and collaborative approach with investors. A departure from procedural to a result-oriented focus is needed.

To put issues in perspective, Nepal needs US$20 billion in investments to meet SDG (the UN’s Sustainable Development Goals) targets by 2030. If net-zero decarbonisation targets are to be met by 2045 another US$7 billion will be required annually.

Looking at our investment history and poor government capital expenditure, the gap is long and wide. Last week’s budget showed that in the nine months of this fiscal year, Nepal was able to book a lamentable US$9 million in FDI (equity) investments, a decrease of 98% from the corresponding period last year.

Nepal is in fact the lowest market in South Asia for FDI with 0.3% of the regional average. What is it that we can do to fill the gap?

First: we need to move away from the notion that Nepal only needs large investments. This has proven to be a mistake, and time series data have proven that smaller investments, in aggregate, make a larger impact to economies.

We talk about an ‘enabling environment’ but without the right tools. We place restrictions on interest on debt ceiling (Libor +5.5), without risk premium adjustments, we do not have an active secondary market for bond trading, nor do we have a yield curve, an integral part of the bond market.

In order to attract green financing, Nepal needs to develop its bond market. Billions of dollars of green climate funds are waiting to be tapped. Sovereign risk rating has been mooted, but to be rated in an adverse economic environment could further deteriorate investment potential due to a lesser than expected rating.

Hedging is another instrument that needs further research on. A commercial bank recently showcased the first risk hedging mechanism for an investment of $8 million. This can be the beginning to expand on its modality.

Subordinated debt instruments have been introduced, but on a special nod basis, this now needs to be institutionalised as it is the most applicable form of investments after equity in a market that has volatile forex reserves.

Viability Gap Funding has yet to be implemented and has been in active discussions for a few years now. This needs to come into effect to encourage solar installations in the country.

Moving forward, to attract FDI, Nepal needs to tap into the funds that are available for the growth of small and medium enterprises (SMEs) and climate change. Alternative investments such as Private Equity Venture Capital (PEVC) have been around in a structured manner in Nepal for nearly a decade now. These funds have blended finance components and have attracted climate funding as well.

PEVC is a new asset class and can address the issues of penetrating into SME financing by incorporating environment, social and governance issues into their investment process.  SMEs are the backbone of any economy, PEVC comes with the ability not only to scale up the enterprise with risk capital, but with the ability to bring technical know — how to enhance not only the enterprise, but also the entrepreneur.  A differentiator from all other forms of financing available till date in Nepal.

Blended finance is a way of de-risking investments especially in frontier markets. Business Oxygen (BO2) is an example of blended finance with subordinated debt investments of IFC (World Bank Group) taking the lead and Climate Investment Funds along with FCDO as co-investors.

On a larger scale, the 216MW Upper Trisuli1 is another example of blended finance with IFC, a Korean consortium and local investments.  So far, we see that development finance Institutions have been taking the lead in Nepal as their risk appetite is greater than commercial investors and they are eager to help develop the financial markets.

In order to be sustainable, we need to step on this and attract commercial capital from all over the world. To do this there has to be political will to make that pivot.

The recent budget has tried to address some issues in a cosmetic manner, and once again it lacks the overall approach to the problem.  Nepal has outdone many countries in its macro-economic indicators, with sound forex reserves and a stellar history of debt payments to its creditors. This story needs to be propagated along with the drive for change to attract potential investors.

Siddhant Raj Pandey
writer
Siddhant Pandey is CEO of Business Oxygen (BO2).

Source: 2019 Country (Nepal) Progress Report of SBN, Addendum to SBN Global Progress Report.

In 2020, NRB issued a Unified Directive to require all banks and financial institutions to integrate environmental and social risk management into their overall credit risk management process as well as policymaking.

Furthermore, the Netherlands Development Finance Company (FMO), has been collaborating with NMB Bank to work in renewable energy, hydropower, and green project financing. It is providing loans and equity investment for the Environmental and Social Management System (ESMS), and by doing so it will likely invite more equity investments in small and medium enterprises (SME).

Moreover, by providing credit to SME clients instead of big corporations, FMO supports equity investments in private equity funds such as Dolma Impact Fund I and II. Companies such as Nepal Invests aim to attract more capital from Development Finance Institution (DFI) to the Nepal financial system. However, to be eligible for loans by DFIs, ESMS is often a prerequisite. Nepal Invests is helping other banks to meet that necessary condition.

SMEs have been a crucial player in Nepal’s growth, making up about 20% of GDP and accounting for over 60% of employment opportunities in the country. In 2020, IFC provided a $25 million loan to NMB to help finance green projects and SMEs. This investment will expand NMB’s SME portfolio to over $1 billion by 2025 and generate 50,000 more jobs. The quantity of loans available to SMEs from NMB is expected to double as a result of the project.

“The chances of receiving funding will be exponential if SMEs are in sync with international best practices such as environmental, social and governance measures, we have demonstrated that risk capital can help mitigate climate change,” says says Siddhant Raj Pandey, CEO of Business Oxygen (Bo2), Nepal’s first international Private Equity Impact and Climate Related Fund. “To have an inclusive model, climate-smart approaches and transparent operations are critical to the success of companies.”

The critical next step for Nepal’s green finance will be expanding the adoption of the Environmental and Social Risk Management (ESRM) Guideline to other banks across the country. Building the capacity of regulators and financial institutions, strengthening implementation coordination, and developing a taxonomy of green and socially inclusive initiatives are among the central bank’s top priorities. These would provide a favorable and enabling environment for sustainable finance and open up green finance projects.

But for the private sector to invest in renewables and include green finance in their agenda, the government needs to provide them with incentives. For example, the other renewable energy sectors should get the same favorable treatment such as tax breaks much like hydropower. Private players such as Multilateral Development Banks (MDBs), industry associations, and local financial institutions can tap into the field.

Green banking has got a strong start in the public sector, but private parties are lagging behind and they should get on board to secure a better and safer financial system. Since private equity and venture capital are still relatively new concepts in Nepal, the role of the Nepal Private Equity Association (NPEA) become crucial in providing the ecosystem for a lobbying platform.

Business Oxygen, a climate-focused fund with investments from the IFC, Climate Investment Funds, and the FCDO, has been investing in and promoting climate-smart approaches. The firm measures investment’s success not only through impact numbers on the financial statements but also metrics in accordance with the UN’s Sustainable Development Goals.

It has a separate fund dedicated to providing technical support to companies whose financials are not able to comply with environmental, social and governance measures. ESG compliance monitoring is essential to the investment decision-making process. “Impact is an intentionality of our investment not just a by-product,” says Pandey of Bo2.

However, as a foreign direct investment (FDI) company, there are many policy and regulation challenges. Early on, Bo2 had a good pipeline of companies in the agricultural sector, but they were discontinued due to the Foreign Investment and Technology Transfer Act (FITTA) which prohibited FDI investment in agriculture. Later, the government raised the investment threshold limit from Rs5 million to Rs50 million which forced SME investors to diversify their strategies.

One area where Nepal is continuously and successfully bringing in investment is the green hydro project with experience of over 20 years. Investor trust is built upon sufficient human resources and a proper supply chain of equipment including turbines and hydro, mechanical and electromechanical machinery required.

“Even very risky hydro projects can still receive 70% of debt financing from local banks here in Nepal,” says Kushal Gurung, CEO of Windpower Nepal, adding that hydro projects are easily financed under an established ecosystem and intact supply chain.

But this is not the case for other green projects such as wind and solar where debt financing remains a challenge. The lack of trust from banks stems from a much shorter track record and low confidence in the revenue model.

But the good news is that such green projects need much lower investment. This allows private investors to come in and provide equity financing. “A solar project can be entirely financed by private equity investment with zero debt financing unlike hydropower where the opposite is true,” adds Gurung.

The climate crisis has added to problems like water availability, spatial-temporal distribution, and alteration in the hydrological cycle have been altered. Last year, Nepal’s electricity generation declined by 6.9% and this is expected to get worse, especially in the dry season. Nepal’s 15^th Five Year Plan (2019-2024) has set a key target to achieve a 12% share of renewable energy in overall energy consumption. In 2022, it is a mere 3.27%.

An energy resilient Nepal needs effective collaboration between public and private entities. Public financing is insufficient but by greening the system with government subsidies, will save both the ecology and economy.

Angel Li is a student at Pitzer College in California.