Nepal looks at alternative investments

In the run-up to the third Nepal Investment Summit this weekend, there have been seminars, conferences and workshops where the discourse has revolved around the economy and the investment climate.

The consensus that Nepal needs foreign direct investments (FDI) to grow was repeated, and the familiar litany of reasons about why it has not been able to was discussed. 

Policy advocates and regulators have understood that the lack of urgency is compounded by procedural inconsistencies, on top of the already deficient investment environment in the country.

It is a welcome change from what used to be flippantly accepting matters as given. There now seems to be a sense of urgency, with procedural inconsistencies and lack of harmonisation between various Acts and regulations openly discussed. 

Government stakeholders also appear more willing to learn and attempt to be part of the solution. Whatever policy changes have been introduced in the past have been piecemeal and address the few rather than the entire industry. This left dual regulatory approaches aimed at similar players. 

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This time, unlike in the past two Summits, the government seems to be committed to amending 9 Acts, a positive step towards showing commitment to change. However, the deadline to do so during the winter session of Parliament is over. The option mooted has been to have it passed through ordinance, a lesser appealing step; albeit, a positive one moving forward. 

To attract FDI in a competitive global market means that Nepal has to demonstrate that it is serious about bringing in investments with a more consultative and collaborative approach with investors. A departure from procedural to a result-oriented focus is needed. 

To put issues in perspective, Nepal needs US$20 billion in investments to meet the UN’s Sustainable Development Goals (SDG) targets by 2030. If net-zero decarbonisation targets are to be met by 2045, another US$7 billion will be required annually. 

Looking at our investment history and poor government capital expenditure, the gap is long and wide. In fiscal year 2022-23 Nepal booked a lamentable ~$59 million in FDI (equity). Nepal is in fact the lowest market in South Asia for FDI with 0.3% of the regional average. 

What is it that we can do to fill the gap? 

First, we need to move away from the notion that Nepal only needs large investments. This has proven to be a mistake, and time series data have proven that smaller investments, in aggregate, make a larger impact on economies. 

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We talk about an ‘enabling environment’ but without the right tools. We place restrictions on interest on debt ceiling (SOFR +5.5), without risk premium adjustments, we do not have an active secondary market for bond trading, nor do we have a yield curve, an integral part of the bond market, which is inhibiting us from tapping into the trillion dollar green bond market. 

In order to attract green financing, Nepal needs to develop its bond market. Sovereign risk rating has been mooted and was expected to be operationalised before the Investment Summit. 

However, to be rated in an adverse economic environment could further deteriorate investment potential due to a lesser-than-expected rating. 

Hedging is another instrument that needs further research on. A commercial bank last year showcased the first risk-hedging mechanism for an investment of $8 million. This can be the beginning to expand on its modality.  

Subordinated debt instruments have been introduced, but on a special nod basis, this now needs to be institutionalised as it is the most applicable form of investment after equity in a market that has volatile forex reserves. 

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Viability Gap Funding has been introduced by multilateral development agencies implemented in solar installations. It is a tool to incentivise the private sector to invest in projects that are not financially lucrative initially, but have potential for profitability in the long run. This needs to be scaled up and replicated in sectors like infrastructure, where returns may not be immediate.

Moving forward, to attract FDI, Nepal needs to tap into the funds that are available for the growth of small and medium enterprises (SMEs) and climate change. Alternative investments such as Private Equity Venture Capital (PEVC) have been around in a structured manner in Nepal for nearly a decade now.

These funds have blended finance components and have attracted climate funding as well. PEVC is a new asset class and can address the issues of penetrating into SME financing by incorporating environment, social and governance issues into their investment process. 

SMEs are the backbone of any economy, PEVC comes with the ability not only to scale up the enterprise with risk capital, but with the ability to bring technical knowhow to enhance not only the enterprise but also the entrepreneur. 

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A differentiator from all other forms of financing available till date in Nepal. Blended finance is a way of de-risking investments, especially in frontier markets. Business Oxygen (BO2) is an example of blended finance with subordinated debt investments of IFC (World Bank Group) taking the lead and Climate Investment Funds along with FCDO as co-investors. 

On a larger scale, the 216MW Upper Trisuli 1 is another example of blended finance with IFC, a Korean consortium and local investments. So far, we see that development finance Institutions have been taking the lead in Nepal as their risk appetite is greater than commercial investors and they are eager to help develop the financial markets. 

In order to be sustainable, we need to step on this and attract commercial capital from all over the world. To do this there has to be political will to make that pivot. 

Instead of being a means to an end, the two previous Investment Summits turned out to be intermittent and cosmetic, providing hardly any results. The third one’s success will depend on how the event will be implemented as a platform for continuous marketing for the country and facilitation for investors in future. 

Nepal has outdone many countries in its macro-economic indicators, with sound forex reserves and a stellar history of debt payments to its creditors. This story needs to be propagated along with the drive for change to attract potential investors.

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