MANAGING CREDIT RISK

Chad-Cameron Pipeline Project Case study

Festus Efosa Efosa

University of West London, London

[22 May 2020]

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 TABLE OF CONTENTS
1. Introduction..................................................................................................................................4

2. The purpose of the project.......................................................................................................4

2.1 Project finance...................................................................................................................4

2.2 Reason for selecting the case.............................................................................................5

2.3 Analysis of purpose...........................................................................................................6

3. Distinctive features of the project............................................................................................6

4. Financing structure................................................................................................................10

4.1 Description of financing..................................................................................................10

4.2 Arrangement of finance...................................................................................................11

4.3 Extraction and calculation of ratios.................................................................................11

4.4 Appropriate analysis and evaluation................................................................................11

5. Ownership and the contractual relationship..........................................................................12

6. Discussion..............................................................................................................................12

7. Evidence................................................................................................................................13

8. Analysis.................................................................................................................................13

9. Principal problem...................................................................................................................14

10. Lesson learned.....................................................................................................................14

11. Project summary..................................................................................................................15

12. Conclusion...............................................................................................................................15

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13. References................................................................................................................................17

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1. Introduction

While investing in any sector or project, certain risks are meant to be considered by

investors. These risks are described in terms of debtors’ failure to meet the obligations of credit.

In delivering credit to the projects for their successful completion, the financial institutions

experience credit risks (Hu and Cheng, 2016). These risks are observed when the project is not

functioning properly and that may be because of several reasons including weak business case,

inadequate planning, and other issues. For reducing the level of credit risks in the project

effective risk, management practices are required to be performed so that the risk level can be

mitigated in an effective manner (Danenas and Garsva, 2015).

The current report is developed for identifying and mitigating the credit risks that arose

during the delivery of the Chad-Cameroon pipeline project. Furthermore, the report will explain

the project finances and its financing structure for understanding the ownership and the

contractual relationship between the investment parties. The report will also analyze the level of

risks along with the principal problem and it will end with a project summary and conclusion.

2. The purpose of the project

2.1 Project finance

The term project finance can be described as the funding or financing of industrial and

public service projects with limited resources of the financial structure based on the debt and

equity shared by the project investors. These debts and equity of the project investors are paid to

the financial institutions when the project starts to generate cash flows (Morrison, 2016). Delmon

(2015) had described project financing activities as a loan structure that is heavily dependent on

the cash flows delivered by the project performance.

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 Weber, Staub-Bisang and Alfen, (2016) discusses the fact that project finance usually

creates value for the project investors through the reduction in the costs of project funding,

reducing corporate taxes, improving risk management practices, and reducing the level of costs

associated with the market imperfection. Yet, Lu et al., (2015) had explained the fact that project

finance activities can be difficult for the project if it does not perform in the described manner.

This is because; it will increase the costs of operations in the project. Therefore, there is a need

for economic motivation so that the project investors can easily be motivated while making

investments in the project (Verdouw, Uzsoki and Ordoñez, 2015).

2.2 Reason for selecting the case

The selected case for understanding the management of credit risk is the Chad-Cameroon

Petroleum Development and Pipeline project which turns into different controversies while

performing its functions for increasing the production capacity of the oilfields of Doba, Chad to

the floating storage and offloading vessel at the Cost of Cameroon. The developed pipeline

project was around 1,070-kilometre long pipeline (Muñoz and Burnham, 2016). The

controversies that surround the pipeline project were related to corruption and diversion of

revenues acquired by the proper function of the project. Other controversies that were related to

the pipeline project were the adverse environmental effects caused by the construction of the

pipeline (Yonkeh, 2018). Different communities in Chad and Cameroon were against the project

operations as it was harming the natural habitats of the region, especially, the coastline of

Cameroon that was supporting the delivery of the produced oil. It was explained by Murrey,

(2015) that during the construction of the Chad-Cameroon pipeline, the community members of

Cameroon Coast thought that there could be oil leakage in the region. The community members’

speculation was confirmed correct in January 2007 and October 2010. Yet, the oil spill over was

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monitored and controlled by the authorities; but the community members of Cameroon observed

traces of oil spill near its coasts (Ryan, 2020).

2.3 Analysis of purpose

Chad and Cameroon Oil pipeline project is a $3.7 billion development project that was

supported by the practices of the World Bank and IMF for delivering the funds for the

development of a project (World Bank, 2000). The development of the project was done for

extracting oil from nearly 300 wells in Chad and deliver this oil to the Cameroon coastline where

oil-shipping vessel arrives. The basic purpose of the project was to support the economic

activities of Chad as it was a land lock from its surroundings and has experienced many civil

wars after its independence from France. It was thought that the development of the pipeline

project was supposed to bring economic improvement in the region (Marchal, 2016; Dimitriou,

Mourmouris and Sartzetaki, 2015).

3. Distinctive features of the project

When the pipeline project started its operation in 2004, the researchers identified

different distinctive features. These distinctive features can easily be described through the

benefits that have a favourable impact on the economy of the country (Murrey, 2015). First of

the benefit was described by the World Bank report of 2000 as the fact that the project has

captured the eyes of all the non-governmental organisations (NGOs) for helping the people of

Chad (World Bank, 2000). This brings in the concept of scrutiny in the country operations that

also supports the country’s transparency of its economic activities.

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Data Source: World Bank

Moreover, the Chad-Cameroon Pipeline Project (CCPP) helped Chad Gross Domestic Product

(GDP) growth. Evident from the charts and historical data above shows that before the onset and

start of the CCPP in 2000, Chad GDP was $1.39 billion while the GDP was $2.74 billion after

the project completion in the 2003 (Macrotrends, 2020). Subsequently, Chad GDP growth

increased tremendously by $4.41 billion in 2004 (Macrotrends, 2020). The increase in the GDP

makes Chad become one of the fastest-growing countries in the world (World Bank, 2000).

4. Financing structure

4.1 Description of financing

Financing can be described as the process of providing and delivering funds for doing

activities related to the project. Many financial institutions provide their financing services to

businesses and other investors so that their goals can easily be achieved (Chen et al., 2020). In

Chad GDP - Historical Data any economic system, the financing activities

Year GDP Per Capita Growth are performed to support the economic success
2018 $11.30B $730 2.64%
of the organization. Gitman, Juchau and
2017 $9.98B $664 -2.99%
2016 $10.09B $693 -6.26% Flanagan (2015), had identified two main
2015 $10.95B $776 2.77%
2014 $13.92B $1,019 6.90% types of financing for the business; the first
2013 $12.95B $980 5.70%
2012 $12.37B $967 8.88% type is equity financing and the other is debt
2011 $12.16B $983 0.08%
financing. Both financing techniques are
2010 $10.66B $892 13.55%
2009 $9.25B $800 4.22% performed after the calculation of weighted
2008 $10.35B $926 3.05%
2007 $8.64B $799 3.27%
2006 $7.42B $710 0.65%
2005 $6.65B $658 17.33%
2004 $4.41B $454 33.63%
2003 $2.74B $292 14.72% 9
2002 $1.99B $220 8.49%
2001 $1.71B $197 11.66%
2000 $1.39B $166 -0.88%
average costs of capital (WACC). These financing activities are performed in the project

financing structure (Isaac, 2015).

4.2 Arrangement of finance

In conducting the CCPP, the finances were arranged through loan agreements from the

International Bank of Reconstruction and Development (IBRD), European Investment Bank

(EIB), and International Finance Corporation (IFC). Moreover, Chad and Cameroon

governments developed equity stakes under the names of Tchad Oil Transportation Company

(TOTCO) and Cameroon Oil Transportation Company (COTCO) respectively (World Bank,

2000).

The loan provided by IFC was $100 million; this amount was sanctioned through 15

different banks and IBRD provided loans to Chad and Cameroon governments with the values of

$39.5 million and $53.4 million respectively (World Bank, 2000).

4.3 Extraction and calculation of ratios

As explained earlier, the capital to complete the total cost for the project was loaned from

different financial institutions (World Bank, 2000). The identified data for calculating the ratios

are as follows.

Table 1: Ratios Calculation.

TOTCO COTCO IFC IBRD

Debt ($ Million) 199 1201 100 92.9
Equity ($ Million) 123 680 46 17.5
Debt to equity ratio 161.79 176.62 217.39 530.86

4.4 Appropriate analysis and evaluation

From the above-determined table 1 of ratios calculation, it can be analyzed that the

evaluation is done based on the debt to equity ratio that has been calculated from the amount

provided in the previous quantitative articles published at the World Bank (Bettin, Presbitero,

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and Spatafora, 2017). The developed ratios calculation explains the analysis that the debts were

more than the amount of equity generated for acquiring the loans with the values reaching to

161.79% for TOTCO; 176.62% for COTCO; 217.39% for IFC; and 530.86% for IBRD. This

means that the country position was not sustainable to repay such loans if the project is not

completed successfully and start generating its cash flow.

5. Ownership and the contractual relationship

At the start of the project, government organizations like COTCO and TOTCO owned the

success of the project. The companies have a good contractual relationship with the banks that

have provided them with the loan to complete and successfully operate the CCPP project that has

benefited both countries in different economic and social platforms (Odumosu-Ayanu, 2019).

6. Discussion

At the initial stage of the CCPP, the economists of both countries commented that the

project can be a difficult task as the countries do not have much equity for acquiring the loan of

such quality from the World Bank (World Bank, 2000). This risk was supported by the rebellions

increase throughout the country. These rebellions were working under the order of the former

defence minister of Chad (Murrey, 2016). It was also discussed in the report that the CCPP

would involve the drilling of 300 oil wells in Chad, and these wells will help in extracting

225,000 barrels of oil per day (World Bank 2000). This sort of oil drilling will be performed

through the oil companies who will work for extracting and shipping the oil.

ExxonMobil, Chevron, and Malaysia PETRONAS were involved in making the project

to reach towards completion in a successful manner (Schritt and Behrends, 2018). Yet, the

Malaysian PETRONAS was separated from the contract, as they were not abiding by the policies

established by international law. Exxon assessed this outcome to be uncertain, and their

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Malaysian expenses increased. The rule of saving arrangement terms from one-sided adjustment

had not been supported (Gab-Leyba, and Laporte, 2015). With one company leaving the

contract, the operations of drilling, processing, and sending the oil to the vessel were performed

by the two remaining companies.

7. Evidence

It had been discussed in the World Bank report that the involvement of many financial

institutions and other oil extracting companies have supported the success of the project even

though it was at the brinks of collapse at the start (World Bank, 2000). This success was attained

when significant adjustments were made by COTCO and TOTCO alike. Moreover, the private

sponsors of the project and the Chad-Cameroon Government officials had taken the necessary

steps for making effective control of the prevailing situation (Kounga and Simo, 2019). It was

also mentioned in the report that the NGOs and the local public also support the actions of the

Government for managing the construction in an effective manner (World Bank, 2000). Such

involvement from banks and the Chad and Cameroon governments make it possible to reduce the

level of political risks that were raising concerns.

8. Analysis

Table 2: Risk analysis of CCPP

Key Risks Risk rating Credit risk rating

The commitment of private Significant High
sector investors
Increase in oil prices Significant Moderate
Cost overruns Moderate Moderate
Political risks Significant High
Project non-completion Low Low
Social risks Moderate Moderate.

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 From the above-developed table of risks, it is identified that the two key credit risks were

political risks and the commitment level of private sector investors. This is because, if the

political conditions are not supported by the CCPP, then the project can experience failure in the

very beginning, and the political instability will stop the investment from private investors.

Hence, this situation could create problems in the successful completion of the project.

Therefore, the political risks of the country must be resolved, and the political conditions must be

supportive of foreign private investment.

9. Principal problem

In Chad, the principal problem was poverty. This problem was identified by the World

Bank report in the poverty assessment report published in the year 1997 (World Bank, 2000).

The main reason behind such a problem was inadequate healthcare practices and education level.

This lack of education and poor healthcare system also became the problem of the CCPP to be

completed in the assigned time. However, after the project was completed, the poverty problem

was alleviated to a great extent.

10. Lesson learned

1. Selection of private investors must be done based on their investment level. This can help

in effective investment management practices (World Bank, 2000).

2. An accountable revenue management practice must be developed by the Government for

controlling the large change of revenues generated from project success (World Bank,

2000).

3. Keep a continued level of commitment among the investors of the project (World Bank,

2000).

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 4. A copy of records must be maintained by the government officials for distributing the

returns on investments (World Bank, 2000).

11. Project summary

Table 3: Project Summary

Headings Narrative Summary Monitoring Critical assumptions

1. CHAD Substantial revenue Developing quarterly Distributing the
generation. reports petroleum revenues for:
 Poverty
alleviation.
 Employment
opportunities.
 Infrastructure
development.

2. Cameroon Construction and Achieving targets under  Government

operation of the oil the World Bank commitment to
export system directives. support the
private sector.
 Employment
provision.
 Poverty
alleviation.
 Improvement of
infrastructure.

12. Conclusion

Whenever investments are made in the government or private sector projects, certain

risks hold great importance for the investors in making their investment. The project report starts

with the description of project finance and develops the path for selecting the case for making an

analytical report. The selected case was Chad and Cameroon Pipeline Project (CCPP) which

started to export the extracted oil from Chad and deliver it to the coasts of Cameroon without any

difficulty.

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 This project can increase the GDP of the chosen countries many times over. The project

was financed through the project finance structure. The finances for the project were acquired

from taking loans from banks and other financial institutions. This was done through effective

relation and contractual development between the parties of the contract. In the end, it was

evident that such project completion has reduced the level of poverty in the Chad region.

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