Kenyan Sukuk: Kenya has indicated that it may issue Sukuk before the fiscal year ends to repay some of its liabilities. Market chatters revolve mostly on the East African nation’s crushing debt burden, but some see this as a chance to set a new tone for the country’s Islamic finance industry. VINEETA TAN has the story.

Investors are worried, and so is the Kenyan government. Dollar shortages, escalating energy and food import costs continue to deal paralyzing blows to the Kenyan economy, at a time when the government is scrambling to pay off a US$2 billion eurobond maturing this year.

President William Ruto’s administration is weighing several options including one where the government would buy back half of the US$2 billion eurobond, a plan that Moody’s Investors Service said it may treat as a default. Not surprisingly, Moody’s stance, which has, been called “premature” by the African Credit Rating Research & Advisory, triggered a selloff of the bond and yield spike.

Another option is to tap the international Islamic capital market through a sovereign Sukuk facility which has been on the cards for years. The government in its 2017 budget outlined measures to allow it to issue Sukuk as an alternative funding source.

Kenyan SUkuk

“An issuance of the long-awaited Sukuk by the Kenyan government would be a signal to Islamic financiers at large that the country is now ripe for Islamic financing. This may also stir direct Islamic investment in other sectors such as public infrastructure, as we have witnessed in other African countries that have embraced Islamic finance,” opines Anaciata Mbula, a senior partner at Mulu & Abuja Advocates. The impact could be wider, even bearing regional importance, believes Sheikh Mohamed Issa, CEO of Mayzuh Company, which is advising at least one Kenyan corporate on issuing Sukuk.

“The significance of Kenya issuing a Sukuk bond is huge. Kenya is an economic powerhouse in Africa and if it adopts Sukuk bonds like Nigeria, it will kick-start the Sukuk bond issuance race in Africa. Tanzania will soon be the next, and then a quasi sovereign Sukuk by the Zambian government, then we will see Uganda coming in.”
Regulatory readiness Wanting to take that Sukuk step is one thing, whether the country is ready and capable to do it is another.

For a population of about 53 million and only about 10% being Muslim, Kenya is ostensibly doing relatively well: it has three fully-fledged Islamic banks, two Takaful operators and a handful of Islamic banking and Islamic insurance windows as well as Islamic cooperatives.

But there is very little to show on the Sukuk front. Further, two of the Islamic banks are struggling financially, with one even being placed under receivership. Market practitioners do not think the legal infrastructure is quite ready to fully embrace Islamic finance and banking. “The local legislation is not robust enough to support fully compliant Islamic finance at the moment,” Anaciata tells IFN. “As much as the banking industry has partially embraced Islamic finance over the years, other supporting legislation such as tax laws, laws relating to securities and also the Kadhi’s court jurisdiction to hear matters arising out of Islamic finance are yet to be incorporated into the legislative efforts.”

Kadhi’s courts are a court system in Kenya that enforces Islamic law relating to inheritance, family and succession for Muslims. Technically, the government can issue sovereign Sukuk, but it will take more than that for the offering to materialize, according to Dr Aziza Yarlaeva Ebrahim, the strategy and Islamic finance advisor of the Islamic Finance Think Tank.

The treasury, central bank and Capital Market Authority all must be on board, and on the same page, to make this issuance happen. And the Islamic banking sector has to be more robust. “One has to note that Islamic financial institutions are currently only recognized through the regulations under the Banking Act but are not regulated by the Central Bank of Kenya; this is about to change [should] the parliament approve the bill and further [pave] the way for the inaugural Sukuk issuance, I believe,” Dr. Aziza shares with IFN.

Just two weeks ago, a member of parliament proposed an amendment to the Banking Act of Kenya to empower
the central bank to carve out a dedicated Islamic banking regulatory framework. The parliament also recently discussed a bill to establish a Shariah Advisory Council, which would be part of the journey to issue its first
sovereign Sukuk.

“The biggest challenge Kenya faces in the Islamic debt capital market is the novelty of the concept, in that it is not a ‘tried and tested’ product in the Kenyan market. As such, a lot of policies and laws need to be put in place to create an enabling environment that is certain and predictable. Once these policies have been put in place, the market will be ready for Islamic finance,” thinks Anaciata.

Credit concerns

But another dark heavy cloud looms over the East African country’s Sukuk dream: its deteriorating credit rating.
International rating agencies such as Fitch Ratings and Moody’s downgraded the sovereign’s credit status recently: Fitch revised the outlook on the country’s debt to negative while affirming its credit rating at ‘B’; Moody’s slashed debt and currency ratings to ‘B3’ from ‘B2’ while cutting its outlook to negative. S&P Global Ratings, which has assigned a negative outlook on the credit, is due to release a ratings update on the 25th August.
At the center of this are concerns over the country’s ability to settle the 2024 eurobond at a time when the central bank’s hard currency reserves stand at a mere US$7.4 billion which has investors on the edge.

It is no secret that African countries view credit opinions from foreign credit rating institutions with frustration and
exasperation. “There have been discussions among the African nations that the perception of risk continues to be higher than the actual risk in the region and that credit rating agencies are biased against Africa,” explains
Dr Aziza. “In a nutshell,  a ‘blanket approach’ that has been used by  the rating agencies, ignoring the good news coming out of Africa, left only two African countries rated decent, Botswana and Mauritius, making it very hard for other nations on the continent to recover post-COVID economic downturns.”

A rating downgrade will drive the cost of borrowing up, and this could potentially deter foreign direct investment (FDI), which would be a real hurdle for Kenya trying to access the international debt capital market. But Anaciata is cautiously optimistic. “Despite the slash in credit rating associated with a perceived political  instability and current national debt, the government of Kenya has assured investors that it is continuously putting in place financial policies to shield the country from a financial crunch, and to build on the forex reserves. Based on this, there may be slowed FDI, but a lot of debt providers are yet to shy away from the investment climate in the country that has been flourishing for a number of years,” Anaciata says.

Repeated recurrence

We are not certain yet whether the Kenyan government would actually raise Sukuk to repay its eurobond; it has
indicated a Samurai bond as another possibility. But what we do know is that the National Treasury is looking for lead arrangers to execute an international capital market deal before the end of June 2024. But in the event the government does decide to take the Islamic route, many believe that Sukuk would highly likely form a consistent feature of its financing strategy in the future, just like Nigeria.

“It won’t be a one-time issuance like South Africa,” thinks Sheikh Mohamed, referring to South Africa’s one and only sovereign Sukuk paper in 2014. “Kenya has a great need for funding for its development projects and the tone the current president is taking is Africa, Africa, Africa, rather than looking to western nations. Likely, Kenya has to turn to alternative finance and Sukuk is one of them.”