Dangote Refinery: At Long Last

Dangote Refinery: At Long Last

A decade in the making, the Dangote Refinery was inaugurated by President Buhari on May 22, 2023, just one week before the end of his eight-year term. This symbolic and epoch-making event, signalled the end of an era and the dawn of another, and as such, it was accompanied by both cautious optimism and high expectations. Nigeria is largely pinning its hopes of attaining self-sufficiency in domestic crude oil refining on the completion of the 650,000 barrel per day (bpd) facility – the world’s largest single-train petroleum refinery. It is anticipated that the refinery would trigger a positive ripple effect across other sectors of the economy generating a minimum of 4,000 direct and 145,000 indirect jobs.

The new refinery, which includes petrochemical and fertilizer plants, is expected to produce Euro-V quality gasoline and diesel, in addition to jet fuel and polypropylene, and potentially have more than enough capacity to eliminate Nigeria’s petroleum import requirement, thereby bolstering the current-account position and foreign-exchange reserves. This, however, hinges crucially on the assumption of a shift to cost-reflective petrol pricing. Anything less, and the vast majority of output is likely to be exported.

Subsidy Removal – A doubled-edged Sword

With no provision for subsidies beyond June 2023, the decision to bite the bullet and deregulate pump prices beginning July 2023, opening up the door for the full implementation of the Petroleum Implementation Act (PIA), seemed on course. However, there now appears to be a cloud of uncertainty hanging over the plan as the implications are as significant as they are far-reaching. As articulated in one of our previous publications, Nigeria’s dire fiscal reality means the subsidy regime has simply become unsustainable and its removal is crucial to restoring balance to public finances regardless of its negative inflationary impact on the economy.

Nigeria’s cumulative subsidy bill between 2020 and 2022 was estimated at ₦6.3 trillion – surging from ₦107 billion in 2020 to reach ₦4.8 trillion in 2022. Petrol subsidies are forecast to gulp ₦3.36 trillion (15.4% of expenditure) in H1’23 alone and would be on course to exceed ₦6 trillion in 2023, continuing to limit expenditure on crucial infrastructure needed to galvanize sustainable long-term economic growth. Its removal will free up funds that could be deployed more productively to capital investment, or at least to narrow the fiscal deficit (estimated at 5.2% of GDP – higher than the fiscal guidance level of 3%) and lower the pressure to borrow money – sharpening the efficacy of fiscal policy instruments.

Market pricing is crucial to the deregulation of Nigeria’s downstream oil industry and is essential to the viability of the new profit-oriented state oil company “Nigerian National Petroleum Company Limited (NNPCL)” as currently configured in the Petroleum Industry Act (PIA).

Price liberalisation is also crucial to attracting investments in local petroleum refining, which is already yielding results as BUA Group is also building a 250,000bpd refinery and petrochemical plant in Akwa Ibom State that is expected to start operations in 2024. Below is a list of some operational modular refineries.

 

The other arguments against subsidies rest largely on the efficiency gains that a move towards a free market presents. As the competition for market share intensifies, efficiency and cost-optimisation become the primary basis of competition, the larger and more efficient industry players are better positioned to thrive while the less efficient ones are likely to only barely survive. As a result, we are likely to witness some level of industry consolidation.

Furthermore, the NNPC’s estimates indicate that Nigeria consumes approximately 66-68 million litres of petrol per day, which is raising eyebrows in the analyst community. How plausible is a 100% rise in fuel consumption in 8 years – from 35 million litres consumed daily in 2015? We believe the subsidy regime has presented a massive incentive for smuggling petrol across the border to neighbouring countries. This incentive has also triggered increasingly greater demand for fuel imports into Nigeria due to the huge arbitrage that exists for smugglers, further inflating the subsidy bill. In our opinion, the removal of the subsidy will provide a more accurate picture of Nigeria’s daily petrol consumption, which we estimate at approximately 50 million litres daily.

Upon reaching full operational capacity, the Dangote refinery is well-positioned to meet and surpass the aforementioned. Furthermore, the rehabilitation of state-owned refineries in Port Harcourt, Warri, and Kaduna, collectively offer an additional refining capacity of 445,000 barrels per day. According to NNPC, the Port Harcourt refinery is scheduled to be operational by the end of 2023, while the Warri and Kaduna refineries will begin production in 2024. With this development, Nigeria is now strategically positioned to emerge as not only a net exporter of refined petroleum products and petrochemicals but also as Africa’s largest crude oil refining hub by 2025.

While we draw optimism from what we know, our caution comes from what we don’t know:

How much will domestically refined petrol cost?

According to the Mele Kyari, Group Chief Executive of NNPC Ltd, in March 2022, at a crude oil price of $83 per barrel and an official exchange rate of ₦460/$, the landing cost of petrol was ₦315 per litre, costing the government ₦400 billion a month in subsidies. It is estimated that handling charges on petrol imports account for up to 27% of the pump price. This component is also denominated in US dollars, and backing it out would translate to a significant reduction in cost and exchange rate pressure.

The price of petrol ranges between $1.10 and $1.29 per litre across most of sub-Saharan Africa (SSA). Nigeria ($0.58) will most likely fall within that range, with the exchange rate playing a significant role in determining the cost of domestically refined petrol. If the downward shift in its exchange rate for airlines’ ticket sales, from ₦462/$ to ₦551/$, and then to ₦634/$ is anything to go by, then the CBN could be on the verge of commencing a systematic devaluation of the exchange rate, which could see the naira adjusted to ₦550-580/$, and significantly raise the retail price (in naira) of petrol.

While Nigeria would no longer need to import refined petroleum, it is worth stating that the country’s OPEC quota (1.8mbpd) is for production and not exports. This means, Nigeria would be faced with lower crude oil exports, as a part of crude oil production (300,000bpd – half the crude required by the plant) would be allocated as feedstock to the Dangote Refinery. There is a possibility that the government will sustain the swap agreement, which involves the exchange of the nation’s crude oil for refined products – supplanting European refineries with the Dangote Refinery. What remains unclear is if the feedstock will be valued in US dollars or in naira. The answer will be crucial in determining if refined products will be majorly sold locally or exported.

In addition, Nigeria’s declining crude oil output presents a challenge. Crude oil theft and vandalism on oil and gas infrastructure in the Niger Delta region have contributed immensely to limiting Nigeria’s crude oil output in recent times (to an average of 1.1 mbpd in 2022, 40% below quota), with production declining to about 1mbpd in April 2023 from 1.26mbpd in March 2023, falling behind African peer Angola (1.06mbpd in April 2023).

Is Dangote compelled to sell Petrol domestically?

This is another source of uncertainty, particularly given its massive US dollar-denominated loan obligations, which means US dollar revenues are crucial.  The NNPC’s 20% stake and board representation are expected to confer a degree of sway over the domestic sales of the refinery’s output. However, the ultimate decision will be primarily determined by the impact on financial performance, which may be contingent on the exchange rate employed for the transaction.

It is also worthy of note that petrol is just one of circa eight derivative products expected from the refinery, as it has a relatively high Nelson Complexity Index (NCI) of 10.5 (on a scale of 1 – 20), which is higher than the averages in the United States (US) and Europe of 9.5 and 6.5, respectively. The refinery’s high NCI reflects its ability to refine crude oil into a variety of high-value derivatives, ranging from the lightest to the heaviest, to meet the needs of captive or identified markets.

 

 

These derivatives include kerosene/jet fuel, diesel, propane/Liquefied Petroleum Gas (LPG), Polypropylene and other value-added fuels. The Dangote refinery has the ability to optimise its profits by adjusting its output of jet fuel/kerosene and directing it towards diesel production if necessary. It can also regulate its production of petrol and diesel to align with market demand. The unregulated pricing of these derivatives presents a lucrative opportunity for the refinery to generate profits. This gives the refinery a significant competitive advantage over the six older refineries in the West African sub-region, allowing it to leverage the African Continental Free Trade Agreement (AfCFTA) to position itself for regional dominance.

In conclusion, perhaps the most significant impact of the refinery is how it is poised to accelerate the pace of reforms to two of the most important factor prices in the economy – the exchange rate and the price of petrol, the long-term impact of which is difficult to aptly quantify.

 

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Finance & Leasing

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FundQuest Financial Services Limited Bbb- Jun 30 , 2024 Stable Nigeria
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UAC of Nigeria PLC A- Jun 30 , 2024 Stable Nigeria
Sundry Foods Limited A- Jun 30 , 2024 Stable Nigeria
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BUA Cement PLC A+ Jul 31 , 2024 Stable Nigeria
Johnvents Industries Limited Bbb Jun 30 , 2024 Stable Nigeria
MTN Nigeria Communications PLC Aa+ Jun 30 , 2024 Stable Nigeria
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TotalEnergies Marketing Nigeria Plc A- Jun 30 , 2024 Stable Nigeria
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GZ Industries Limited A Jun 30 , 2024 Stable Nigeria
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LFZC Funding SPV Plc’s ₦25 Billion Bond  Aaa Mar 16 , 2025 Stable Nigeria
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River Jamieson SPV Limited’s ₦24.5 Billion Bond Bbb Dec 31 , 2024 Stable Nigeria
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MTN Nigeria Communications Plc's ₦10 Billion Series 1 Bonds Due 2026 and ₦104.9 Billion Series 1 Bonds Aa+ Sep 30 , 2024 Stable Nigeria
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BUA Cement PLC’s ₦115 billion 7.5% Seven-Year Senior Unsecured Fixed Rate Bond Due 2027 A+ Dec 31 , 2024 Stable Nigeria
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NECIT Nigeria Limited's Up to ₦10 billion Commercial Papers under the ₦20 billion Programme A Jun 30 , 2024 Stable Nigeria
MTN Nigeria Communications PLC's ₦110 Billion Seven-Year 13% Senior Unsecured Fixed Rate Series 1 Bond Aa+ Jun 30 , 2024 Stable Nigeria
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