How Dakar (almost) got its first municipal bond to market

This week, Dakar was all ready to celebrate a financial achievement that hardly gets noticed in today’s world when it happens in New York, Frankfurt or Tokyo. But it represented a first for cities in Senegal, as well as the great majority of Africa’s nations.

Dakar was about to sell a municipal bond.

A launch ceremony followed by a cocktail reception for locals and international observers was planned for Thursday afternoon at Dakar’s City Hall. But before it could begin, celebration turned into confusion: The national government of Senegal said the $40 million bond issue could not proceed.

The last-minute decision came as a shock to city officials and Mayor Khalifa Sall. They had been working for years to prepare Dakar’s finances and fiscal management to make the city, as a “sub-sovereign” borrower, creditworthy.They had already achieved an investment-grade credit rating. They were also sure that they had the legal authority under Senegal law to go to the bond market on their own.

Senegal’s finance minister disagreed, citing concerns about whether the national government could be held responsible for Dakar’s new debts. The dispute, which local media have likened to an “arm wrestling match” between the national and city governments, has the bond sale on hold for the time being. Both sides are taking their arguments to a regulatory body that oversees financial matters for eight West African countries, including Senegal.

Huge infrastructure needs

Dakar may yet get its bond to market — and cities across Africa are watching closely for the outcome. African cities, like many in the developing world are growing fast. With that growth comes expensive infrastructure needs. If they’re going to meet the challenge of building roads, transit lines or water and sewer systems, cities need to find new ways to finance it.

To pay for almost any major project, most African cities are at the mercy of their national governments. They can sometimes access loans through banks or development agencies. But Dakar is trying to show them a path  to paying lower interest rates while enjoying greater autonomy — Dakar’s seven-year bond is set to carry a favorable interest rate of 6.6 percent. If it gets off the ground, it will be the first municipal bond issue by a city in Sub-Saharan Africa outside of South Africa.

Dakar hopes to use the $40 million issuance to pay for a new market hall to which more than 4,000 street vendors will be relocated. Giving them a safe and central place to sell goods, rather than selling from tables and blankets on sidewalks and roadways, is seen as a step toward creating order on Dakar’s streets. It also would spin off a new revenue stream for the city from fees paid by vendors to set up shop at the market.

“The bond sale allows us to diversify our funding sources,” Khady Dia Sarr, director of the Dakar Municipal Finance Program, told Citiscope before this week’s bond fight broke out. “But it is also a strategic tool as the financial market offers us more affordable rates, longer monthly payments and limitless amounts. With commercial banks we cannot exceed 10 billion francs ($17 million) and they often require too many conditions.”

Experts caution that it’s a long road for developing cities to become creditworthy enough to convince investors to buy a bond. But if they put in the work Dakar has to get their fiscal houses in order, the ripple effects could be huge.

“It’s a sea change, in terms of the amount of money that can be borrowed and in terms of the rate of interest at which they can borrow,” says Franck Daphnis, president and CEO of Development Innovations Group, a U. S.-based firm that worked with Dakar on the project.

“It’s not rocket science,” Daphnis continues. “This is how cities finance themselves around the world. It allows you to invest in yourself. It allows you to do the kind of investments that, if you’re a mayor, are career-defining and legacy-defining.”

Market barriers

Why do cities in the developing world have trouble accessing municipal bond markets? There are several reasons.

The biggest is that quite often, they’re not allowed to. The laws or constitutions of many countries bar cities from incurring long-term debt — a condition that forces most major financial decisions to be funneled through central governments. Whether that’s true in Dakar’s case or not is essentially what this week’s bond disagreement is all about.

Fiscal handcuffs affect cities in other ways. Revenue collection in many developing countries is centralized, leaving cities to wait on remittances from their national governments. The timing and amount of those remittances can vary depending on the economic situation or politics of the moment. So cities often can’t control, let alone predict, their own revenues from year to year. That makes them a bad bet for potential bond investors, who want to see evidence of stable revenue streams — and a reasonable likelihood of seeing their investment repaid with interest.

City leaders also bear responsibility, owing to spotty financial management. Long-term planning of the sort investors find reassuring can be hard to find in developing cities. “Most cities that I’ve come across in the region lack long-term strategic plans,” says Jeremy Gorelick, who advised Dakar’s finance program and now works for the U. S.-based Affordable Housing Institute as the managing director of capital markets. “Or the strategic plans will often change from one municipal administration to the next. That’s an issue that needs to be overcome.”

So is sound budgeting and record keeping. “To this day,” says Daphnis, “most cities around the world are not able to give you an accurate picture of what the ins and the outs are.”

Daphnis points to Haiti, where he is from, as an example. “If you go to Port au Prince and say ‘What is your budget today?’ they will give you a set of numbers. But after five minutes you can start poking holes in it.”

A ripe place to experiment

Dakar overcame these hurdles thanks to several forces coming together. First was a dynamic mayor, Khalifa Sall, who took office in 2009 intent on making big improvements to Dakar’s infrastructure. (For example, hundreds of workers are rebuilding Dakar’s sidewalks and public plazas with decorative tiles, as Citiscope reported last year.)

Sall put together a management team to work on getting the city’s finances in order. That included drafting a strategic vision through 2025. It also required much coordination among city departments, including administration and finance, planning, urban development and communication. “Since we were preparing this important project of bond sales,” says Khady Dia Sarr, “it was necessary to harmonize speeches and messages, and have the whole city team at the same level in the management of this.”

Financial assistance came from the Bill & Melinda Gates Foundation, which contributed $5.5 million to the effort. The funds helped pay for technical assistance, feasibility studies and other front-end expenses such as staff study missions to Marseille and Johannesburg, which has been selling municipal bonds since 2004.

Brussels-based Cities Alliance managed the initiative for Gates. The goal was to make the Dakar bond sale more than just a one-off, but rather a chance to build local capacity and knowledge.

“There needs to be a system of municipal financial governance and a borrowing framework for the country,” says Omar Siddique, a senior urban specialist with Cities Alliance. “So that seven years from now, when the Dakar bond closes, other cities could go to market much easier and they won’t need the type of intensive support the Gates grant provided.”

Dakar seemed like a good place to try it. Senegal’s legal framework appeared to give cities the authority to borrow that is lacking in so many other countries. Even so, Dakar officials sought and received support from national authorities for the bond plan. The national government’s current objections may have a political dimension to them: Many observers believe Mayor Khalifa Sall is preparing to challenge Senegal’s incumbent president, Macky Sall, in the next election.

Senegal is one of the most politically stable countries in Africa, with a relatively strong economy — an important factor for investors. Dakar has a track record of solvency, decent record keeping and repaying debts. As far back as 2009, Dakar had taken out loans from commercial banks, the French Development Agency and the West African Development Bank. A project to install traffic lights was financed with a loan from the Islamic Bank of Senegal.

“Those borrowings made the city already need to be at a point where it had transparency, where it had strong fiscal and financial management,” Gorelick says. “All the things that would be critical to moving a city in the right direction.”

Lessons for other cities

Perhaps the most important move Dakar made was done in private. In 2012, the city paid the bond-ratings firm Moody’s to give the city a confidential credit rating. That gave city officials a full and independent assessment of their progress in tightening their financial management. It also gave them a roadmap of what things they still needed to improve — and some time to do it.

One adjustment Dakar made was to set up a separate fund earmarked to paying the debt service. That was intended to assure investors that the city won’t have to scrape money out of the budget to pay back the bonds. Another boost came when the U. S. Agency for International Development offered to back the bond with a 50 percent credit guarantee. This means that in the unlikely event that Dakar would default on the bond, U. S. taxpayers would pay back investors half of their investment.

In September, 2013, Dakar finally sought a public credit rating from Bloomfield Investment. The credit advisory firm gave a rating of BBB+, a middle-tier ranking that qualifies as “investment grade.”

Dakar is aiming to launch its bond on the Bourse Régionale des Valeurs Mobilières. That’s a regional securities market based in Abidjan, the capital of the Ivory Coast and the financial and regulatory hub for the 14 francophone countries of West and Central Africa. The countries share a common currency and a common securities regulator. All of that has been seen as an advantage for Dakar — and any other potential issuer from the region — because pension funds, banks and other potential bond buyers can come from anywhere in the region without facing currency risks.

“It broadens the market,” says Gorelick. “And in terms of sustainability and replicability, a lot of these other countries would presumably be able to mimic what was done in Dakar in a far more straightfoward fashion than if there was a totally different currency, totally different regulatory body and totally different investor base.”

Outlook across Africa

Whatever the outcome in Senegal, other cities in Africa are sure to want to try and sell their own bonds. Gorelick is cautious about other cities rushing too fast in that direction. Dakar showed that it takes time to put in place a methodical process of fiscal management. “This is not something you can accomplish in six months,” he says. “Cities shouldn’t look to go straight to the bond markets. They should start with setting up a loan with one other counterparty, whether it’s a multilateral or bilateral development institution. There should be that type of borrowing to start with. Then move to municipal bonds.”

Babacar Mbaye, finance program officer for the Dakar Municipal Finance Program, agrees. “When we present our project at international meetings, others cities are amazed at what Dakar, a city in West Africa, was able to imagine,” Mbaye says. “Many say they would like to come and see, discuss and learn from what we were able to do. We tell them they must be careful to plan before committing.”

Franck Daphnis says there are now perhaps eight or ten cities in Africa where a reasonable investor might want to buy a bond because the cities are solvent and the political situation is stable. But generally, the legal authority, stable revenue streams or sound fiscal management — or all of the above — are missing. He thinks some of those cities will be able to overcome the hurdles.

“I wouldn’t be surprised if in the next five years, four more cities in West Africa either have been successful in going to market or would be very close,” he says. “Ten years from now, I would not say it will be routine. But it won’t be something worth writing an article that a city is going to market. Now, it’s a big deal.”