Monday, March 8, 2010

Bring on the Creditors! Let the games begin!



The FT reported last night that Dubai World executives are in London this week presenting their proposals for the Dubai World restructurings to the various creditors of Dubai World. This is the opening move what is likely to be the final act in the Dubai World saga. Nothing has been communicated to the public but the possible structures of the restructuring have been fed to the press and commented on in this blog and others. They are generally that the terms of the proposal may include some or all of the following: extensions of term, haircuts, government guarantees, securities swaps. It is also likely that there will be choices between degree of those things such as those who accept longer terms have greater return of principal and perhaps a government guarantee. I have no idea or special insight into what will be proposed or what will transpire but I want to point out a few things that might be helpful as the drama unfolds.

For all their outward unity Dubai and Abu Dhabi have very different objectives in resolving the crisis.
It’s like the roles of the chicken and the pig in making your breakfast of bacon and eggs. The chicken is involved, the pig is committed. For Abu Dhabi this is an exercise in reputation management, for Dubai it is life and death. In the event of a a litigious liquidation of Dubai World Abu Dhabi will be deeply embarrassed. Dubai would be destroyed by that outcome, even if the parent company were saved but there was a messy unwind of one of the subsidiaries that threw into question the security of creditors in Dubai. This is because this would likely shut the capital markets to Dubai and its infrastructure based development would grind to a halt.

All Creditors are not created equal.
The creditors will have varying degrees of power relative to the degree to which they have recourse to assets held outside the UAE. This is because they can litigate in those jurisdictions and achieve a greater recovery. I think it was a good step for the Dubai to establish the DIFC Tribunal for claims against Dubai World but it is untried and it is probably still likely to confer a, let’s call it “home field advantage” in litigation with creditors. Dubai’s power with the creditors varies to the degree that the creditor is interested in maintaining a relationship with Dubai or perceives that strong arming Dubai will damage its relationship with Abu Dhabi. The bank lenders at the holding company level probably have the most to gain in international litigation but the most to lose in terms of damage to their relationships if they do that. The hedge funds who have bought Nakheel sukuks don’t care about their relationship with Dubai but have recourse only to non-existent Arabian/Persian Gulf islands and therefore, in my opinion, are screwed.

More people can buy the bonds than can take possession of the collateral.
This is an issue that I have not really seen raised as yet but I think that in the event of a liquidation of any of the real estate subsidiaries a disconnection between the ability of someone to lend money against an asset they cannot possess may have a sever effect on real estate throughout the region. This is an important but subtle point that may best be addressed through an example. There are no restrictions on who can own the Nakheel Sukuks. Anyone can buy them, indeed a great many of them are held by western hedge funds at this stage of the game. The land which secures them however can only be legally owned by GCC nationals. This means that the supply of capital to finance real estate is vastly greater than the supply of capital which can actually take possession of that real estate in event of default. This may mean that the debt is overpriced relative to the assets that secure it. In the event that Nakheel is liquidated the prices that result at auction to GCC nationals will probably be vastly less than if they were held in an open auction at which anyone could purchase them. This has the potential to illustrate to other international creditors the disconnect between owning debt and having recourse to the securing asset. This may choke off international finance to local real estate projects and further depress prices.

It is overwhelmingly likely some, perhaps a great many, of the creditors will refuse the terms on offer and seek to litigate.
This is just my opinion but I think that the facts are generally the following: things at Nakheel are far worse than most of the creditors understand. What seems clear is that whatever Dubai offers most of the creditors are going to have to take very substantial losses. I think the Dubai Inc. marketing machine and the generally opaque nature of its financial disclosure has created an unrealistic sense among creditors as to how likely they are to be repaid. Add to this the fact that Dubai has significantly damaged its credibility over the past few months. The creditors may be tempted to believe that Dubai Inc. is just leading with an aggressive bid to establish a strong negotiating position. This may lead them to call what they consider to be Dubai’s bluff. The only way for the cards of either side to be shown is in a liquidation and that is where I think we are going at least in the case of Nakheel.

12 comments:

Brendan said...

But I thought the _Romans_ won the battle of Carthage!

Ken said...

They did. I think the Carthaginian bondholders didn't do too well out of that either.

Anonymous said...

What about Ras Al Khaimah and other emirates, are they the audience which claps whenever a gladiator wins

Brendan said...

That was just my favorite line from Gladiator. (Uttered during the "Battle of Carthage" re-enactment.)

Anonymous said...

Interesting article Ken! I like the deep anaylsis. I was dicussing the article with my partner here who is also a banker who mentioned that the bondholders collateral is mainly real estate in freehold zones which we think allows foreign ownership of real assets. Isn't this a solid counter arguments to your thesis?

Amin said...

Fantastic blog. Keep it up!

One point/question regarding the issue you mention of land ownership as it related to collateral on a defaulted sukuk.

I thought Dubai did permit land ownership through the 99 year lease? Particularly, don't foreign nationals own land in the Emirates Hills? As I'm sure you know, article 4 of law 7 states?

The right to own Land in the Emirate shall be restricted to citizens of the
United Arab Emirates, citizens of the Cooperation Council for the Arab States
of the Gulf, the companies totally owned by any of the foregoing, and public
joint stock companies. Foreign Persons may, subject to the approval of the
Ruler, be granted in certain areas the following rights:
(a) The right to acquire absolute ownership of Land without restrictions as
to time.
(b) The right to acquire usufruct or leasehold of Land for a period not
exceeding 99 years.

Is there something I'm missing? Seems like the bond holders, particularly foreign holders, would have the same rights as everyone else. Worst case scenario is the right to use the land for 99years.

Anonymous said...

A friend of mine who used to live in a neighboring Gulf country bought a property in Dubai in late 2008. He is now in a bind and afraid that he can be arrested as a check bouncer, if for any reason, he is passing through Dubai.

The story: He was in Dubai on a visit, and carried away with the hype of Dubai, he signed a contract with a little known developer and wrote a number of post-dated checks. The developer did not give him a signed copy of the contract, saying that they will mail it to him after some head office formalities. He returned home and more than a month-and-half passed but the contract never came despite many queries.

He concerns were not misplaced:
after all he had only met two Indian gentlemen in a small non-descript office in a strip mall (nice gentlemen they were), not the company headquarters (which they said was in Abu Dhabi),
the company was not known in Dubai at all; they said it was their first Dubai project,
there was no RERA at the time to “stamp” the company as reliable,
he was never shown the property (“not started yet”) or its location; all he had was a bunch of brochures,
and most importantly, he had no signed contract in his hands!

All his friends and well-wishers advised him not to proceed; especially, since he was not a Dubai resident, it would have been extremely difficult for him to get his money back (and, it was not small change, we are talking about AED2.5 million+) once it got into their hands (happening to many others now). So, he put a stop payment on the post-dated checks.

To make things complicated, he lost his job towards the end of the year and he had to go back to his home country. And, it seems that the company went out of business in Dubai thereafter: its website is gone, emails return undelivered, and the property does not seem to exist.

Now, he is back again in the neighborhood and he has the following questions if you could kindly answer or point to directions:

(1)Is there anyway to find out anonymously, and without arousing suspicion, if his/his wife’s names are in the list of check bouncers (they kept her passport number too)? It is possible that the developer never gave the name to the police, since there was no signed contract, the project was still not off the ground so that they could have easily sold the unit to another person, and, anyway, he was out of their reach?
(2)As a “check bouncer”, will he/his wife be arrested and taken to jail as soon as he lands in Dubai airport?

(3)What if they are in transit thru Dubai, going somewhere else?
(5)Since the company apparently is not existent anymore, will the police take his name off the list?
(6)How long is a person’s name supposed to remain on the list?
(7)If he lands up in court, will they force him to stick to the original “contract”, and honor all those checks, or, can he renegotiate the deal and buy at current prices (he wouldn’t mind buying again, provided everything are in order, but not at the old high price).

Amin said...

Fantastic blog. Keep it up!

One point/question regarding the issue you mention of land ownership as it related to collateral on a defaulted sukuk.

I thought Dubai did permit land ownership through the 99 year lease? Particularly, don't foreign nationals own land in the Emirates Hills? As I'm sure you know, article 4 of law 7 states?

The right to own Land in the Emirate shall be restricted to citizens of the
United Arab Emirates, citizens of the Cooperation Council for the Arab States
of the Gulf, the companies totally owned by any of the foregoing, and public
joint stock companies. Foreign Persons may, subject to the approval of the
Ruler, be granted in certain areas the following rights:
(a) The right to acquire absolute ownership of Land without restrictions as
to time.
(b) The right to acquire usufruct or leasehold of Land for a period not
exceeding 99 years.

Is there something I'm missing? Seems like the bond holders, particularly foreign holders, would have the same rights as everyone else. Worst case scenario is the right to use the land for 99years.

Ken said...

No, they're secured by raw land in Dubai Waterfront.

Abu 'Arqala said...

As usual, thought provoking post. It's always a pleasure to read your work.

A couple of thoughts on the potential for realization of collateral by Nahkeel bondholders.

(1) Economic Value
I think this will be the major driver.
A potential buyer has to believe he can make a decent ROE. The problem is what project makes sense. Does Dubai need another mega mall? Housing development? Office building? And with the waterfront property it's not a question of one or two projects, but filling up a rather large blank piece of land.

(2) Debt Financing
This important part of any financing package is likely to be constrained - amounts, tenors, rates, and other conditions. Thus driving down IRR and economic value.

Abu 'Arqala said...

As to the potential for litigation, a few thoughts as well.

The DIFC Insolvency Law - which is being applied to DW as a special case - provides for a Chapter 11-like cramdown of dissident creditors if more than 75% of creditors vote for the plan.

I'm betting that since the DIFC law is modeled on English Law and the judges in the special tribunal are recognized names in the West that other jurisdictions will recognize the DIFC proceedings. And, will thus, stay legal actions in their jurisdictions.

If that's the case, unless the dissident creditor group reaches the 25% threshold, the Plan passes.

How likely is that to happen?

Local and regional banks have an incentive to play along. Major international banks as well. Also we may find that a good amount of bonds - especially those issued recently - were tucked in local pockets.

Dissidents may be dissuaded from voting against the plan by the realization that imagined islands in the Gulf or a rather large blank piece of land on the waterfront likely offer limited recovery.

I think that the extent of secondary sales will be critical. If it gets to be right on the wire, a friend -real or hired - might buy a bit of debt at a preferential rate to tip the scales - though the scope for this sort of action is probably limited given the sheet quantum of the debt.

Ken said...

I agree with you that the holding company debt holders will likely play ball. In the Nakheel sukuks I think the Vulture Funds have already acquired a 25% blocking position which is why the Dubai World folks have been asking for their identities. Personally I think those guys are going to get wrecked because I think they are overestimating the degree to which the Emiratis will not put a knife in them. I think that once they secure the preservation of the parent a prepackaged default of Nakheel is the most likely outcome.