Saturday, December 19, 2009
Transparency in Dubai, Part II. The Great Dubai Jewellery Heist of 2009
I apologize dear readers for the suspense in which I have been keeping you these past few days. I hope this post makes up for it at least a little. If you’re just logging in you might want to read the backstory. I would also like to apologize for the length.
As I was saying a story has come out that deals a blow, perhaps a lethal one, to the idea that the rule of law has any writ whatsoever inside the DIFC and therefore the creditors of Dubai World may not be able to sleep that easily despite Abu Dhabi’s billions which will keep Nakheel afloat until May.
Our story begins in the summer of 2008. In July of that year a Dubai based jewellery retailer called Damas conducted an IPO on the DIFX which has since been rebranded NASDAQ Dubai. Damas is a well known company in the region and you can see their stores in many of the malls in the region. Started as a family business in 1907, it had spread throughout the Gulf and was expanding into new jewellery markets as well. As you might imagine jewellery is a good business in the gulf and the competition for this IPO was fierce and my firm was in that competition. Ultimately we lost out to Credit Suisse, which as we will see, was probably for the best.
The IPO was for 270,000,000 shares representing 27% of the company for $1 apiece raising $235 million for the company and $35 million for a selling shareholder. Damas was a UAE company and therefore subject to a limitation on foreign ownership of a maximum of 49%. This was solved with a trust structure, the fact that only 27% of the company was being sold and the fact that three brothers from the original founding family would retain 17% each of the outstanding shares or 51%.
In a lot of ways this transaction is emblematic of the reasons the DIFX was created. A business owned by a local merchant family was able to avoid the local stock market where IPO valuations were determined by the government rather than an auction process (the subject for yet another post.) They were able to tap both local and international capital markets at the same time. In addition to local investors the Damas shareholder register includes names like Morgan Stanley Asset Management, T. Rowe Price, ING Bank, that is real money accounts from the West. The IPO enabled an outside investor to exit thus encouraging other private equity investments in the region and it supplied capital to Damas to finance its’ expansion and therefore create private sector employment in the region. It seems as though the DIFC and the DIFX are providing a valuable service to both Dubai and the wider region.
As with all offerings the prospectus described the use of proceeds and those were: “to fund its store network expansion, make further investments in its manufacturing platform, repay indebtedness, fund its ordinary working capital requirements, and for general corporate purposes.” So subscribers to the IPO believe they are financing the expansion of retail jewellery manufacture and distribution as well as everyone in Dubai’s favourite activity: debt reduction. Well, sadly, it was not to be.
On October 13th of this year the CEO of Damas Tawhid Abdullah stepped down. The reason given to the press was that he had been involved in some unauthorized transactions. Abduallah denied he had been involved but did not provide any further explanation as to his removal. Unauthorized transactions? Hmmm... and what might those have been? Well the first story to come out was that Damas was concerned about the effects on jewellery demand of higher gold prices and decided to diversify away from its core business. Sounds kind of reasonable, what were these investments. Well, a full list isn’t really available to the public or the shareholders but it would seem the investments were made into Dubai real estate and hotels as well as a shopping mall in Turkey.
Ahhh.... so how big were these investments and how are they doing? These transactions amount to $165 million or well over half the IPO proceeds and as mentioned it’s not known precisely what they are but the ones that are known seem to have declined in value. Not good news for the shareholders. They thought they were buying shares in a going concern but instead seem to have bought the top of the Dubai real estate market.
Well this is the DIFC not Dubai proper so what happened when this was announced? Well, as mentioned Tawhid Abdullah was removed as CEO, all well and good. He was replaced by the deputy CEO Hisham Ashour who retained PWC to look into the unauthorized transactions and announced that he was shutting down some unprofitable subsidiaries. A gentleman by the name of Tawfique Abduallah was made Managing Director responsible for day to day operations. All for the best, some suspicious transactions go on that seem to harm the shareholders and the CEO is removed. Sounds like perhaps a step forward for corporate governance in the region.
But wait a minute, it’s kind of funny how similar the names of the old CEO and the new MD are. Tawhid Abdullah and Tawfique Abdullah? Well they should be similar... they’re brothers. So $165 million of IPO proceeds are misspent and the CEO is removed but replaced by his brother? Yep.
Then to reassure the investors the company signs an agreement with the brothers to repay the $165 million by liquidating the assets and paying the company back. In the event that the brothers fail in their pledge they will hand over 350 million shares of the company. Not exactly international best practice but perhaps no harm no foul?
Hmmm... wait a minute! Hold the phone! If these assets were purchased with company funds doesn’t the company already own the assets? Why would the company need to sign an agreement with the brothers at all? Could it be that these asset purchases were made with company funds but in the name of the brothers Abdullah? This is a complicated matter but it can be described in very simple terms familiar to the general reader: “outright theft.”
But don’t worry shareholders the Abdullah brothers will pay you back. And if they don’t get you back your $165 million they’ve pledged to surrender 350 million shares of stock to you. Hmmm.... what are those shares worth? Well at Thursday’s closing price: $52 million so in the event that you are not paid back the brothers Abdullah will get away with a mere $113 million of your money. But wait a minute, is it even possible for international investors to take possession of 35% more of the company given that it has to be owned 51% by Emirati nationals? Time will tell.
Had I not worked tirelessly for years working on building up the DIFC I would think the story up to now was completely hilarious but it gets better. A lot better.
One of the investments made by Damas was an $80 million loan to a private equity firm named Dubai Ventures at a rate of 6%. Dubai Ventures never actually paid any of this interest it just added the interest to the principal so that Damas was owed $84 million. Over the summer Damas converted this loan into equity stake a Dubai Ventures investment vehicle over which Dubai Ventures had discretionary management powers. Once Mr. Abdullah resigned as CEO and Mr. Abdullah took over as MD, PWC made a phone call to Dubai Ventures and asked into what precisely they had invested their $84 million. The answer is quite a surprise.
I can only imagine this phone call would have sounded like a cross between an Abbot and Costello Routine and an automated voice mail.
DV: “Hello, Dubai Ventures.”
PWC: “Hello, I’m from PWC calling on behalf of Damas.”
DV: “Great, you guys are a big investor and a valued client. How can I help you?”
PWC: “Well it seems that we have $84 million in an investment vehicle that you guys manage and I’m calling to find out in what precisely we are invested in.”
PWC: “Yes, I represent Damas. But what are we invested in.”
PWC: “Exactly but what are we invested in?”
DV: “I told you, Damas.”
PWC: “No, that’s who I am but what am I invested in?”
DV: “Damas is what you’re invested in.”
PWC: “I’m invested in Damas? But I am Damas.”
PWC: “Wait a minute, what is the whole point of diversifying away from our main business by investing in private equity which then turns around and invests in my own publicly traded shares?”
DV: “Isn’t it obvious? If not, I think it’s a question for the brothers Abdullah.”
PWC: “Oh I see, I think we have a lot of questions for them. So in any case can you give me a valuation on the shares?”
DV: “Sure, let me check..... ah here it is: $20 million.”
PWC: “I’m sure there must be some mistake. We invested $84 million with you.”
DV: “That may be but what’s in your account is $20 million dollars worth of your own shares.”
PWC: “Surely there is some mistake, what else can you tell me?”
DV: “No further information is available.”
PWC: “Seriously? There has to be something, we’re talking about a serious amount of money here.”
DV: “No further information is available.”
PWC: “Are you f**cking kidding me? Where’s the rest of my $64 million?”
DV: click..... dial tone.
Yep. It’s true. Damas invested $84 million in a vehicle which seems to have invested in its own shares but at a 400% premium to their actual value. Or you could look at it another way and it seems as though the brothers Abdullah and Dubai Ventures have conspired to defraud the Damas shareholders of another $64 million.
At this point let's take a step back and ask ourselves who are these guys and what are the implications more generally for Dubai? Perhaps the brothers Abdullah are bit players in Dubai, small time grifters who just happened to have caught a few foreigners in their net this time. And how about these Dubai Ventures guys? Is that just some Bahraini shell company set up to facilitate the fraud?
Would that it were so. The brothers Abdullah are pillars of the Dubai financial community. Sheikh Mohammed himself awarded Tawhid Abdullah the best entrepreneurial mentor award at the Young Business Leaders Awards. He was named Businessman of the Year in 2006 at the Arabian Business Awards. Gosh if he was awarded Arabian Businessman of the year in 2006 what possible award could he win this year, the year in which he has almost certainly done his best or at least most creative work?
And how about Dubai Ventures? Is that some shell company? No. Quite the opposite. Dubai Ventures was a subsidiary of Dubai Group and has since been reorganized but is a subsidiary of Dubai Holding. Dubai Holding is personally owned by Sheikh Mohammed bin Rashid Al Maktoum the Ruler of Dubai.
Wait a minute! Does that mean that this is an outright theft from shareholders in a publicly listed company perpetrated by a prominent Dubai merchant family abetted by a private equity fund ultimately owned by Sheikh Mohammed himself? I'm not saying that but what does it look like to you?
Clearly if ever there were a time to show that the transparency and regulatory regime of the DIFC has teeth this is it. This fraud is a black eye for Dubai, the DIFC, the DFSA, and through Dubai Ventures, Dubai Group, and Dubai Holding for the ruler himself. Surely all the forces at the command of the DFSA are swinging into action, prosecutors are working around the clock building the case, the Dubai Police are kicking in the doors of the brothers Abdullah at 3AM, shaking them out of bed and searching their homes for the missing hundreds of millions. For this scandal that strikes into the heart of Dubai as a place to invest and do business. It threatens the very credibility of the state and the ruler. Surely the state will defend itself with all its’ resources so that Dubai can eventually recover from its’ current travails.
Well let’s have a look at the DFSA website. What do they have to say on the matter? Not much I’m afraid. All we have from them is a release dated October 13th saying: “The DFSA has been closely monitoring the situation and trading in the market. It has been proactive in ensuring that it discharges its role to maintain the integrity of the market.” I'm not sure what they mean by "being proactive" but their definition and mine I think are quite different.
Thus far no enforcement actions have been initiated in either Dubai or the DIFC. No official investigation. Nothing. Damas says that it is contemplating legal action against Dubai Ventures but as it is ultimately owned by the Ruler it is likely to struggle. Good luck.
So what does all this mean in the context of the wider struggle of Dubai under its’ massive debt burden? Well this actually says quite a lot to the creditors of Dubai World. The crown jewel of Dubai World, DPW is listed on the same exchange and is subject to the same regulatory regime as Damas. The same legal system that is engaged in the non-enforcement of its’ own laws, and non-investigation of this fraud with its’ links to the Dubai Holding is now responsible for adjudicating any suits against Dubai World or its’ subsidiaries which are ultimately owned by the government of Dubai.
It sounds to me that the creditors of Dubai World are in for more excitement when Abu Dhabi’s $10 billion runs out in April. If I were such a creditor I would be reaching for my stack of sell tickets. If I were an employee of the DFSA I would be either rolling up my sleeves or packing my bags and if I were the Ruler of Dubai I would be raining down fire and brimstone on all involved.
As it turns out I'm just me and unless some serious enforcement action gets going on this I'm probably going to have to pay off my friend Abdullah Al Gravedancer on our 1AED bet that that the DIFC was just another real estate play. I should point out that Abdullah is an observant Muslim and when we made the bet I mentioned that it was not Shariah compliant for him to gamble. He said, "This is no gamble, that the DIFC is a fraud is a sure thing." Its' not too late for Dubai to turn it around but the clock is ticking.