Many of Nigeria’s big firms have succumbed to massive losses following the devaluation of the naira by the Central Bank of Nigeria. Financial experts have mooted hedging as a strategy to avoid future losses, writes EDIDIONG IKPOTO
Recently, one of Nigeria’s foremost Fast Moving Consumer Goods firms, Nestle Nigeria made the headlines following the publication of the company’s financial statement for the first half of the year.
Having established itself over the years as a multinational gaining widespread currency within the Nigerian market, the company had become accustomed to posting profits on its financials.
However, in its H1 financial statement, Nestle Nigeria — the largest FMCG company listed on the NGX by market capitalisation, reported a pre-tax loss of N86.5bn. The loss was mainly due to a forex loss of N123.7bn. With retained earnings of -N49bn, the company faces an uphill battle of paying shareholders’ dividends this year.
Nigerian Breweries were closely following Nestle on the list of biggest losers in the first half of the year. The company reported a net loss on foreign exchange transactions of N85.2bn billion in the second quarter of 2022.
The company’s retained earnings declined to N32.59bn in H1 2023 from N99.56bn in the same period of 2022.
Unilever Nigeria was another company which took a hit as the company’s revaluation loss increased to N14.36bn in the second quarter of 2023 from N1.06bn in Q1 2023.
The company said the revaluation loss arose from foreign currency-denominated balances related to trade loans.
Following the suspension of former Governor of the Central Bank of Nigeria, Godwin Emefiele, the apex bank moved to swiftly float the naira and allow the currency to find its true value based on market-determined forces.
The decision was a long-awaited one and was welcomed by investors who rallied to cause a bull run that raised the market capitalisation of the Nigerian Exchange Limited to an all-time high.
However, despite the long-term benefits which experts believe the decision will occasion, the short-term repercussions have been devastating for firms who have seen their dollar-denominated obligations rise.
For manufacturers, the continued devaluation of the naira had led to increased costs with regard to the importation of raw materials for production needs. However, the most immediate consequence has been the erosion of profits as seen in the financial statements posted by listed firms on the NGX.
Not even Nigeria’s largest conglomerate, Dangote Industries Limited was spared by the whirlwind of the forex crisis that came with the decision of the apex bank to float the naira.
Dangote Cement’s net exchange loss on foreign-denominated transactions stood at N113.63bn in H1 2023, up from N40.66bn in the same period of 2022.
Dangote Sugar’s exchange loss was N83.1bn in H1 2023, up from N4.92 bn in the same period of 2022. The company’s retained earnings decreased to N112.64bn from N124.35bn.
As some of Nigeria’s biggest corporations continue to reel from these significant losses, financial experts believe that even though the circumstances responsible for the losses were inevitable, companies could still play a number of cards that could help them hedge against exchange rate fluctuations.
Speaking with The PUNCH on the primary reason behind the losses recorded by the firms, a finance expert at the Pan-Atlantic University, Lagos, Associate Professor Olusegun Vincent blamed foreign currency-denominated commitments made by the companies.
According to him, for companies to avoid being caught in this whirlwind, conscious efforts must be made to hedge against currency devaluation. The efforts, he said, may include making investments in foreign currencies and avoiding too many foreign debts.
Vincent said, “When the exchange rate is floated in a country like ours, we are bound to face consequences. The consequences of such will permeate both the government and the corporate bodies. Everybody will suffer from it.
“At the corporate level, many companies are bound to experience loss because there is that exposure when you have some of your debt denominated in foreign currency. Many of our companies have loans and commitments in their books that are denominated in dollars. By accounting standards and accounting practices, the fair value of such transactions has gone up. That is the provision of accounting.”
The Vice Chairman of Highcap Securities Limited, David Adonri, in a chat with The PUNCH, equally espoused the idea. According to him, hedging against currency-related remains the most potent means to insulate a company from losses that may arise as a result of currency devaluation.
In his recommendation, Adonri admonished firms to consider hedging tools such as currency-forward contracts, which by design, are immune to exchange rate swings.
He said, “The foreign currency market is now predictable because of the fact that the rate is now market-determined. So, the financial manager in an enterprise that relies a lot on foreign exchange can now analyse the market with data and then hedge against currency risks.
“They can hedge against currency risks. Right now as we speak, FMDQ Securities Exchange is trading on the dollar-naira futures contract. It is a hedging tool which a lot of these enterprises can use.”
According to a financial media website, Investopedia, hedging strategies can protect firms from currency risk for when the funds are converted back into the investor’s home currency.
A forward contract is an agreement between two parties to buy or sell a currency at a preset exchange rate and a predetermined future date. Forwards can be customised by amount and date as long as the settlement date is a working business day in both countries.
Forward contracts can be used for hedging purposes and enable an investor to lock in a specific currency’s exchange rate. Typically, these contracts require a deposit amount with the currency broker.
Currency futures are exchange-traded futures contract that specifies the price in one currency at which another currency can be bought or sold at a future date.
Currency futures contracts are legally binding and counterparties that are still holding the contracts on the expiration date must deliver the currency amount at the specified price on the specified delivery date. Currency futures can be used to hedge other trades or currency risks or to speculate on price movements in currencies.
In Nigeria, the only available currency futures exchange is the Naira-Settled OTC FX Futures of the FMDQ Exchange.
The Naira-settled OTC FX Futures product was introduced in 2016, with the Central Bank of Nigeria as the pioneer seller of the OTC FX Futures contracts.
The apex bank currently offers non-standardised amounts for different tenors, from one month through to 60 months to authorised dealers, who in turn offer the same to customers with trade-backed transactions or trade same with other authorised dealers; settling on bespoke maturity dates.
Naira-settled OTC FX Futures are non-deliverable forwards (i.e. contracts where parties agree to an exchange rate for a predetermined date in the future, without the obligation to deliver the underlying US Dollar (notional amount) on the maturity/settlement date).
Upon maturity, both parties are assumed to have transacted at the Spot FX market rate. OTC FX Futures contracts are cash-settled in naira and the differential between the contract rate and the NAFEX (Nigerian Autonomous Foreign Exchange Fixing) rate on the maturity day determines the settlement amount, i.e. the gain/loss inherent in the contract.
According to Adonri, a major contributing cause of the losses suffered by these major corporations arose due to the lack of deployment of the available hedging measures, such as the FMDQ Futures Contract.
He added, “One of the reasons a lot of these companies ran into foreign currency risks is because they did not undertake appropriate risk management with respect to hedging against their foreign currency risks. But now, with the way the market is; being market-determined, financial managers can predict better now.”
Speaking further, Adonri noted that another approach firms can employ to hedge against currency devaluation would be to design a business strategy which helps them earn foreign currency. The earned forex, according to him, could be used to settle dollar-denominated obligations as against sourcing foreign exchange from the market.
“There is an unwritten rule in commerce which demands that enterprises that consume a lot of foreign currency also earn their income in foreign currency so that if they have foreign currency obligations, their foreign currency earning will be used to pay those foreign currency obligations. It is an unwritten rule which so many enterprises here don’t really understand.
“For example, if Dangote refinery is also going to be importing a special kind of crude from Venezuela, the refinery will have to spend dollars. So, Dangote refinery is now positioning itself to also earn in dollars so that it can pay its expenses in dollars.”