Dana Gas Sukuk: The Providential Detection

Violation of Shariah Caught Just in Time

You’ve probably been reading articles-such as this, or this or this-- on Dana Gas’s 13 June announcement that its existing U.S.$425,040,000 Exchangeable Certificates and U.S.$425,040,000 Ordinary Certificates due October 2017 (together the “Sukuk”) are no longer Shari’ah compliant and therefore “illegal” under U.A.E. law, requiring their restructuring. 

As a consequence, the company announced it will not make the July “profit” payment or the October principal repayment.  This discovery appears to have been made during Ramadan.  Perhaps (but not likely) as a result of the company’s prayerful reflections during the holy month grounded in its fastidious adherence to both Shari’ah and UAE law.  

That this providential “detection” was made one month before payments are required under the allegedly “illegal” agreement is no doubt one of those “remarkable coincidences” that occur from time to time in the finance.

Apparently further compelled by its probity and piety, the company sought and obtained an injunction from the Sharjah courts that prohibits payment.  The courts will hear arguments on the case 25 December, that is roughly two months after the October principal due date.

Just coincidentally this will allow the company to conduct restructuring discussions with the certificate holders which Dana Gas asked for on 3 May 2017 before it seems it became aware of the “violation” of Shari’ah.  Then its only stated concern focused on more mundane cashflow related problems. 

Note that it gave its “solemn” word to proceed not only in a “practical” and “sensible” manner but to “balance the interests of all stakeholders”.  This probably does not apply.

“Dana Gas PJSC (the "Company"), the Middle East's largest regional independent natural gas company today announces that, due to continued challenges it faces around cash collections and resulting need to focus on short to medium term cash preservation, it will commence restructuring discussions with holders of its Sukuk dated 8^th May 2013.  The Company will be addressing the way forward on the Sukuk, which has a maturity date of 31^st October 2017 in a practical manner that balances the interests of all stakeholders. The remaining profit payments will be addressed sensibly as part of the solution.”

As near as AA can tell, the detection occurred sometime after that date and 13 June.  It wasn’t mentioned in the June 5 2017 press release announcing the appointment of Houlihan Lokey as financial advisors and Squire Patton Boggs as legal advisors.

AA sincerely hopes that neither of these firms advocated this transparent bit of Abu Yusuf-efry.  “Abu Yusuf” Yacub Ibn Ibrahim Ibn Habib Ibn Saad Al-Ansari for those who don’t immediately recognize the reference.

In a 13 June 2017 press release Dana broke the news about Shari’ah non-compliance.  AA comments in red boldface.  We’ll step through the press release one paragraph at a time.

“The Company has scheduled a call with the Committee for later today during which the Company will cover the following points and set out an initial proposal for restructuring the existing Sukuk based on these broad principles and terms: Due to the evolution and continual development of Islamic financial instruments and their interpretation, the Company has recently received legal advice that the Sukuk in its present form is not Shari'a compliant and is therefore unlawful under UAE law. As a result, a restructuring of the current Sukuk is necessary to ensure that it conforms to the relevant laws for the benefit of all stakeholders.

• As a legal matter and AA claims no expertise in UAE law, it would seem that if Dana’s assertion is true (which AA doubts) the sukuk then would become a non-Shariah bond and that the legal concept of equity would require that Dana honor the debt as per the existing contractual terms.  There is no doubt that Dana borrowed the money (or more precisely restructured an earlier borrowing), agreed to the terms, and agreed not to challenge the legality of any of the transaction documents (more on that below).  Assuming Dana’s legal arguments are valid, one might expect Shari’ah scholars to “grandfather” this transaction which has a scant five months to run but forbid future such transactions.  But الله أعلم    
• Dana’s assertion raises or should raise concerns among certificateholders that Dana will cite future such “continual development” and declare the replacement sukuk no longer “halal” to justify its non-payment in 2021.  See more on that below. 
• Unlike The Investment Dar in its attempt to deny BLOM repayment, Dana has not alleged that the transaction was contrary to Shariah from inception, but has become so with the “evolution” of “interpretation” of Islamic financial instruments.  A neat way of not casting aspersions on the work of Dar al Shariah or Shaikh Hussain Hamed  Hassan  head of DAS Shariah Advisory Board.  AA hopes though that it will meet with the same stern rejection that TID did.   

"The Company therefore proposes to exchange the Sukuk with a new enforceable, Shari'a compliant instrument, which would have a tenor of four years, confer rights to profit distributions at less than half of the current profit rates and without a conversion feature.  Such new profit payments will comprise a cash and PIK element. " 

• Dana does not appear to have provided details on why the existing sukuk is “illegal”. 
• According to Reuters,  “a source with direct knowledge of the situation said the firm planned to argue the sukuk were not sharia-compliant because their repurchase price was fixed, the coupon was the result of interest-based not profit-based calculations, and the coupon paid out regardless of Dana's financial performance.”
• The terms outlined above by Dana seem to mirror those of the existing transaction, albeit less generous than the existing sukuk as well as eliminating the conversion feature  
• Given this is a second restructuring, credit risk has increased justifying a higher not a lower margin or profit share, absent of course of application of 2.280. 
• But put that aside. 
• If eating a ham sandwich is not halal, what makes eating one-half of the sandwich halal?  Or in other words, if the problem is a fixed rate, then how does a lower fixed rate solve the problem? 
• If profit-sharing payments must be based on profit, don’t PIK (payment in kind) payments imply the company has not really realized profit?  And if so, will “evolving” legal advice in 2021 result not only in refusal to repay principal but also “invalidate” all the PIK payments.

"The new instrument would represent a fundamental improvement to the current situation for Holders as it would be enforceable and would provide repayment to Holders over time."

• Since the courts have not ruled on this matter, this statement is an opinion by a party (Dana) which the less charitable of you out there might believe is not completely disinterested in this matter. 
• Sharjah and the UAE still recognize conventional non-Islamic finance.   Thus, the local courts may rule that while the transaction is no longer “Islamic”, it is a debt Dana owes according to the contract signed by the parties.  

"As the Company's receivables and future damages payments may be unpredictable, Dana Gas proposes to make prepayments under the new Sukuk either in whole, or in part at par, prior to its maturity without any penalty thus providing a path for early pay-down for the Holders." 

• AA would advise the certificateholders to demand a cash sweep to make such payments mandatory and not rely on the company's good faith  of which there is scant evidence so far.  

"The next two Distributions scheduled for 31 July 2017 and 31 October 2017 cannot be paid now that the existing Sukuk is deemed unlawful but will be accounted for as part of the new Sukuk instrument."

• As the courts have not ruled and given the very real possibility of conflicting opinions on Shariah as there is no single central authority, this is a mere assertion not a legal determination. 
• Certificateholders should treat it with the derision it so richly deserves. 

"During the 2012 restructuring, representatives of the Holders unnecessarily declared a Technical Default while negotiations were still ongoing, causing lasting harm.  The Company now assures all parties that no Dissolution Event nor Technical Default has taken place, nor indeed can take place due to the unlawful nature of the Sukuk.  While the Company is keen to reach a consensual agreement with the Holders, Dana Gas has a duty to protect the assets of the Company for the benefit of all stakeholders and will take action to fulfill this duty.”

• Another assertion. 
• There is a very strong case for a default that’s default with a capital “D” not a “technical” default under transaction documents which are governed by English not local law which offer creditors a presumably easier path than the courts of Sharjah to call default.  And as outlined below default need not be called for a prospective (now) or actual (July) failure to pay.
• The Offering Memorandum  page 108 outlines  events of default.  Here are a quick three.   (a) “Non-payment”: either the Obligor or the Mudarib fails to pay any amount payable pursuant to any Transaction Document to which it is a party and/or either the Obligor or the Mudarib fails to pay any amount payable or deliver any shares pursuant to any Transaction Document to which it is a party within three days of the due date for payment or delivery thereof; or  (c) “Repudiation”: either the Obligor or the Mudarib repudiates or challenges the valid, legal, binding and enforceable nature of any or any part of a Transaction Document to which it is a party or does or causes to be done any act or thing evidencing an intention to repudiate or challenge the valid, legal, binding and enforceable nature of any Transaction Document to which it is a party; or (d) “Illegality”: at any time it is or will become unlawful for either the Obligor or the Mudarib to perform or comply with any or all of its obligations under the Transaction Documents to which it is a party, or any of the obligations of either the Obligor or the Mudarib under the Transaction Documents are not, or cease to be legal, valid, binding and enforceable;
• Dana has advised that it will not pay and has obtained a court injunction to engineer a legal obstacle to its payment.  The default under (a) will occur at the latest next month.    
• In refusing to pay and seeking the court injunction, it has repudiated the transaction documents (c) as of at least 13 June.  
• If on the other hand, its assertion that the transaction is illegal, then (d) is operative. By obtaining the injunction and applying for one in the BVI, the company is directly complicit in making its compliance with its obligations illegal.  It isn’t the Sharjah or UAE courts or a Shariah board which has initiated a legal action.  It is the company itself.
• Bond indentures generally have a lower threshold than syndicated loans for an instructing group – 25% is a typical number and that is reflected in the offering circular at least in respect of some transaction documents.  Thus, a relatively small number of certificateholders can call default.

In following post(s) I’ll take a look at the "winners" and "losers" of Dana’s “maneuver”.  The former will require much less comment than the latter, if any.

GFH Windfall Settlement Masks Operating Loss of US$192 Million for 2016

GFH’s reported US$ 233 million net income is very impressive on its face.

What’s behind the 20-fold jump in reported earnings to US $233 million? 

US$ 465 million in litigation settlements.   The business equivalent of buying a winning lottery ticket.

Because this unlikely to be a recurring event, we need to look at results from ongoing operations to form a proper view of GFH’s 2016 performance, achievement of its strategy, and prospects for the future.

On that basis how did GFH perform? 

Definitely less well (euphemism of the post).  

As outlined below, an operating loss of US$ 192 million.

Follow along referring to the bank’s, excuse me, financial group’s 2016 audited financials here.  

Operating revenues—ignoring litigation gains—were some US$ 114 million versus US$ 88 million the year before.  A 30% gain or US$ 26 million driven by the sale of some investment and development property.

Operating expenses were at US$ 125 million versus US$ 62 million the year before. 

But I don’t think it is necessarily fair to subtract this full amount from 2016 revenues –which results in an operating loss of US$ 11 million before impairment allowances.

Why?  Some of the increase in these expenses is related to the costs of pursuing the legal settlement or as a result of the legal settlement, i.e., accrued staff bonuses

Let’s look a bit closer at the reasons for the increase in operating expenses.

Roughly US$ 26 million in additional staff expense (note 21) which appears to be increased bonuses for staff (see Other Liabilities note 14) and US$14 million in additional legal costs.   It seems fair to consider these as not part of ongoing operating expenses.  

That leaves an increase of US$23 million –US$ 10 million in undescribed “other expenses” (both in note 22) and $10 million for “investment advisory expenses” (income statement).  That would make 2016 adjusted operating expenses some US$ 85 million, leaving net operating profit before impairments at US $29 million.

In 2016 impairment allowances jumped to US$221 million in 2016 versus US$ 17 million the year before (see note 23). 

Deducting the full amount, GFH’s net income from operations before the windfall gain is a loss of US$ 192 million. 

You can also see a very similar though larger figure in note 32 page 56, i.e. US$ 206 million.   GFH--less generous or perhaps rigorous than AA--did not allocate the US$14 million in legal expenses to the unallocated segment to “match” the litigation settlement revenues.  However, it did allocate the US$25 million bonus accrual to this "segment".

Side Note:  Proving to GFH’s Reported Results:  When the additional $40 million in litigation related expenses is netted from the US$ 465 in litigation “gains” and added to the US$ 192 million operating loss, the result is net income of US$233 million which “foots” to the net income figure in GFH’s income statement.

Let’s look in depth at impairment allowances.  

1. Financing Assets (note 5) were US$ 38 million.  I’m inclined based on my   earlier posts on KHCB’s credit quality, particularly this one on 2015 past due loans to see that as probably a justified “catch-up”.
2. Other Assets (note 11) US$72—US$45 million in Other Receivables and $26.5 million in Financing Projects.
3. Investment Securities (note 6) US$61 million.
4. Equity Accounted Investees (note 9) US$36 million.

The question is whether there is anything that suggests that these impairment allowances are overstated or should be adjusted for any other reason to determine GFH’s net income from operations – that is, excluding the windfall gains from the litigation settlement.

I don’t think there is but let’s start by examining three possible explanations for these provisions and their dramatic increase.

1. Formerly perfectly good assets that were carried at proper values in GFH’s prior year’s financials deteriorated sometime during 2016.  Thus, the provisions relate to the ongoing business and are a proper deduction from 2016 revenues, justifying the assumption of a US$ 192 million net loss on operations.  Under this scenario, it’s just a “remarkable coincidence” and nothing more that so many different types of assets declined so significantly during a single year. 
2. GFH is “taking a bath”, that is, writing down good assets below their realizable value to decrease 2016 net income (perhaps to moderate payment of dividends) and more importantly build up a “reserve” to artificially improve future years’ earnings through timely reversals of provisions.  In other words provisions are overstated to create a "reserve" to be used to manage future earnings.
3. In previous accounting periods the bank did not recognize impairments so it could artificially minimize or avoid losses in these prior periods. In this scenario, the windfall 2016 litigation settlement gave GFH the opportunity to clean its books.  As you may well expect from my 2010 posts on GFH’s financials and my recent analysis of GFH and KHCB financials as well as the “remarkable coincidence” mentioned above, I think there is a strong case to be made for this scenario playing a major role in 2016 allowances for impairment.  That is not to discount the likelihood that the other two scenarios also played roles. 

Note that Scenario #1 above is the only legitimate reason for provisions under generally accepted accounting principles. 

1MDB Scandal: "The UAE Connection"

This post deals with the second “phase” of the alleged misappropriation of funds from 1MDB and is based primarily on the US Department of Justice (DOJ) complaint against Red Granite, producers of The Wolf of Wall Street.    (the “Red Granite Complaint” or “Complaint”).   Paragraph not page numbers are used to cite the Complaint.  Where other sources are used, I’ve included links to websites, when possible.

Before I begin one very important note.

The US DoJ has filed complaints.  Certain parties mentioned in the complaints have been accused but have not been convicted of any crime, nor have they had a chance to neither respond to the charges made against them, nor have their responses and the original complaints tested by the judicial process.  At this stage all that can be said is that allegations have been made.  Please bear that in mind as you read this post. 

As before the focus is on connections to the GCC, though AA will be unable to resist excursions off his natural turf should the information be compelling.

In this post, I’ll look at the involvement of IPIC and Aabar, specifically that of two individuals who were officials of those companies at the time of the alleged misappropriation: 

· H.E. Khadem Abdulla Al-QUBAISI, Managing Director of IPIC (until 2015) and Chairman of Aabar (until 2013)  

· Mr. Mohamed Ahmed Badawy Al-HUSSEINY, CEO of Aabar until 2015.

I’d note that both these individuals’ names appear in the Complaint unlike the officers of PetroSaudi International (discussed in an earlier post) who were not explicitly named.

The Aabar Phase – Overview (Paras #9-10 and Paras #112-120)

During 2012, 1MDB raised US$3.5 billion in notes (laymanspeak “bonds”) arranged and underwritten by Goldman Sachs to fund the purchase of energy assets in Malaysia.  There were two issues each for US$1.75 billion.  IPIC guaranteed the issues either “directly or indirectly” as per the Complaint.  (Para 114).  1MDB also provided guarantees because the issuers of the Notes were newly created subsidiaries of 1MDB with no track records of their own.

The Complaint alleges that US$1.367 billion of the proceeds (39 percent of face value and 43 percent of estimated net proceeds) were diverted to a Swiss bank for the account of Aabar Investments PSJ in the British Virgin Islands (Aabar – BVI or BVI).  Despite the similarity to IPIC subsidiaries Aabar Investments and Aabar Investments PSJ, the BVI company was not owned by IPIC or Aabar. 

Funds were later allegedly transferred from the BVI account to an account controlled by TAN Kim Loong, described by the Complaint as an associate of Mr. LOW and further transferred presumably to disguise their origin and then used to acquire assets and transfers were made for the personal benefit of officials at 1MDB, IPIC, and Aabar.

The Aabar Phase Selected Details (Paras #121-227)

May 2012 US$1.75 Billion 5.99% Notes Issue Maturing 2022 (CUSIP XS0784926270)

Paras #122-127:  In order to fund its purchase of power generation assets from Tanjong Power, 1MDB decided to raise70 percent in Malaysian Ringgit (MR) from local banks and engaged Goldman Sachs (GS) to arrange and underwrite the Notes to fund the remainder.  After GS’s fees and transaction expenses, the net proceeds of the US$1.75 billion issue were estimated to be US$1,553,800,000.  Approximately, US$810 million of the proceeds were to be used for the purchase.   The remainder (US$744 million) was to be used for “general corporate purposes, which may include future acquisitions” as per the offering circular.  

AA side comment:  That is, almost half the proceeds were for unspecified “general corporate purposes”.  That pattern continued with the subsequent deals.  A natural question is why 1MDB continued to issue more Notes while accumulating an apparently ever increasing cash hoard.  There is a natural dilemma bankers face in structuring transactions.  The bigger the deal, the bigger the fees and, thus, the larger the personal bonuses.  On the other hand the banker has a duty to both the issuer and investors to ensure that amounts raised are appropriate.

Para #130 – Goldman earned US$192.5 million--11 percent of the Notes face amount--in fees (US$17.5 million) and commissions (US$175million). 

AA Side Comment:  Much has been made of the fees GS made on the three bonds it arranged for 1MDB.  The percentage appears “rich” but Goldman was underwriting the issues.  If it could not place the bonds, then it would wind up owning them itself.  It is also a fact that “debutante” (first time) issuers pay more in interest and fees than more “seasoned” issuers. Besides being a debutante, 1MDB presented a set of issues that increased the riskiness of the deal.  While it is owned by the Malaysian state, 1MDB is not full faith and credit.  As well, 1MDB had a very aggressive (risky) capital structure –one that would delight the heart of the stereotypical Kuwaiti “investor”:  maximum use of OPM --heavy on debt and low on equity.  1MDB’s fiscal year is 31 March so let’s use 2012 financials as a starting point. Then, before the Note issue, equity was already a scant twelve percent of total assets.  Not much structural balance sheet protection for lenders or bond investors.  By 31 March 2013, it was five percent.  Any banker or investor with a modicum of intelligence could have factored in this issue and seen that 1MDB’s already weak credit profile would be weaker after the issue. The riskier the issue, the higher the bankers’ fees. 

1MDB Financials here. 

Paras #129 and #146 – Within one day of closing of the issue (21 May 2012), 1MDB transferred approximately US$577 million to the Swiss account of Aabar Investments PJS – BVI. Note that Tanjong was paid US$650 million (Para #144).

Para #134 – 1MDB granted Aabar Investments PJS – BVI a ten year option to acquire up to 49 percent of these assets for a maximum of MR1,225,000,000.  Note that the compensation for the IPIC guarantee is going to an alleged unrelated party not to an IPIC or Aabar entity.

October 2012 US$1.75 Billion 5.75% Notes Issue Maturing 2022 (CUSIP XS0829573913)

Paras #137-139  This issue also for US$1.75 billion was arranged and underwritten by Goldman, guaranteed by 1MDB with “indirect” guarantee provided by IPIC.  The Notes were to fund the purchase of energy assets from Genting.  Net proceeds after expenses and Goldman’s fees were estimated at US$1,636,260,000 of which US$692,357,340 was for purchase of the Genting assets. As before the rest was for “general working capital purposes”.   Roughly fifty-eight percent of the issue.   This just reinforces the issue above about 1MDB’s real need for such large issues. 

AA Side Comment:  Assuming a rough US$4 million for expenses, as was the case with the first issue, Goldman’s fee was roughly US$110 million, six percent of the face amount of the Notes, and 57 percent of the fee on the first issue.  This validates the comments about debutante issues above. The lower fee may also be due to the support IPIC provided for the issue.  For more on that see below.

Para #141 – 1MDB guaranteed the Notes but IPIC did not.  IPIC “nevertheless agreed to privately secure the bonds on a bilateral basis with Goldman. No reference to IPIC’s indirect guarantee was included in the offering circular.”

AA Side Comment:   If IPIC originally provided credit support to the issue, it would seem that Goldman would have to disclose this to potential investors as a material fact.  However, if the support were in connection with the underwriting, then GS would not have had to disclose this information.  In an offering circular for the 1MDB guaranteed US$3 billion note 2013 issue by 1MDB Global Investments, the second US$1.75 billion is described as guaranteed only by 1MDB.  . 

This is all very strange “privately” securing the bonds “on a bilateral basis with Goldman” sounds as though IPIC is providing support for the underwriting.  This might have been structured as a “put” option.   If GS couldn’t place the Notes, it could exercise the option and “force” IPIC to buy the bonds immediately.  Perhaps, it was structured as a credit default swap, with GS being able to claim after default.  In any case, it doesn’t sound like IPIC’s undertaking extends to holders other than GS.

Para #141 – As compensation for procuring IPIC “indirect guarantee”, Aabar BVI was granted an option to acquire up to 49 percent of the Genting assets for up to ten years.  As the Complaint alleges, BVI is not an IPIC/Aabar entity and thus the compensation owed them was misappropriated.

Para #152 – One day after the second issue closed, 1MDB transferred US$790 million to Aabar BVI’s Swiss account, bringing the total transferred to US$1.367 billion.   Per Para #116, 1MDB recorded these transfers as “deposits” at Aabar Investments PJS in its financial statements. 

Disposition of Funds at Aabar – BVI

As outlined above, the Complaint alleges that US$1.367 billion was transferred to Aabar BVI’s Swiss account.  What happened to the funds?  I’m not going to recite details of the intermediary transfers, though I will make a general comment on the mechanics.

AA Side Comment: Not completely relevant to this post, but interesting.  The names of all the intermediaries allegedly used for the subsequent funds transfers make them sound like investment firms or funds.  (Paras 173-176) Two of them were actual investment funds according to the Complaint.  The Complaint notes that Aabar moved money into these two funds through CITCO.  That’s a tantalizing comment.  It suggests the possibility that these transfers did not pass through normal commercial banking payment channels, that is, Aabar moved funds to its account at CITCO and then instructed CITCO to credit accounts on its books. This would make detection harder.  In any case the use of “investment firms/funds” to move money provides an apparent justification for the transfers: investment firms (not individuals) making investments.  If true, a neat way to disguise the transactions and deflect any AML (anti-money laundering) queries.     

Para #181 and 182– US$473 million in four transfers between 29 May and 30 October 2012 to Bank Privee Edmond de Rothschild Luxembourg for the account of VASCO Investment Services SA, described as “affiliated with AL-QUBAISI” who is the “beneficial owner”.

Para #186  to 189 -US$55 million in four transfers between 29 May and 3 December 2012 to BHF Bank Frankfurt for Rayan Inc.  AL-HUSSEINY is identified as the “beneficial owner”. 

Paras #190-192 - US$11.6 million in two transfers 18 December 2012 and 22 January 2013 to Bank of America Texas for MB Consulting for “Services Rendered” of which AL-HUSSEINY is identified as “beneficial owner and sole signatory.”

Paras #194-196 - US$30 million to AMBank Malaysia for the account of Malaysian Official 1.  As per my post about PetroSaudi International, MO1 would appear to be the current Prime Minister of Malaysia.

Paras #197-198 – US$5 million to Falcon Bank Zurich for account of 1MBD Officer 3 identified as 1MDB’s General Counsel and Strategic Director in Para #27. 

Paras #202 – US$238 million to Red Granite Capital.  A portion of these funds are alleged to have been used to produce The Wolf of Wall Street, acquire assets, and fund a gambling vacation in Las Vegas.

AA Side Comment:  I can’t resist.  According to the Complaint, Paras #222-225 Red Granite transferred US$41 million to Alson Chance (AC) in June 2012.  On 10 July 2012 AC transferred US$11 million to the Venetian Casino in Las Vegas for deposit to LOW’s account.   On 15 July 2012, five days later, an apparently very unlucky LOW withdrew US$1.1 million from the Casino (US$0.5 million for the remainder of the deposit and US$0.65 million for chips.  Of course, gambling is not the only thing that one can spend money on in Las Vegas.  And Mr. LOW was hosting several people, including a former 1MDB officer and a famous movie star. On the other hand, chips are “bearer instruments”.   If I want to pay you, I can give you some chips.  When you cash them in, they are “winnings” and there is no obvious connection to the provider.  

The UAE Connection

Let’s look at some of the allegations made against AL-QUBAISI and AL-HUSSEINY as well as some other UAE connections.   Please note that AA’s comments are not assertions of wrong doing by the individuals named, but rather comments on what the allegations would mean, if they are indeed true. 

Para #115 - H.E. Khadem Abdulla ALQUBAISI and Mohamed Ahmed Badawy AL HUSSEINY were directors of Aabar Investments PSJ-British Virgin Islands, the company allegedly used as the first link the misappropriation of the US$1.367 billion.  They were at the same time officials of IPIC and/or Aabar, entities that were also defrauded in the scheme.  If the allegations are true, then they also participated in weakening 1MDB which could lead to calls under the guarantee.   See Para #162 for 1MDB’s claim that the BVI is indeed owned by Aabar/IPIC. 

Para #125 – When a Goldman MD met with Shaykh Mansour Bin Zayed, the Chairman of IPIC, to discuss the first bond issue, LOW was present, though “not involved in the deal” as “far as” the Goldman MD “was aware”. 

It’s interesting to speculate on how LOW became involved in the meeting.  Introduced by ALQUBAISI?  Direct relationship? 

What are the chances the LOW just popped by when Goldman’s MD came for a no doubt pre-arranged meeting to talk about the transaction?  Another “remarkable coincidence”?  That being said, Sh. Mansour is no doubt a very busy individual with many demands on his time.  Perhaps, he is double booking appointments as way of meeting all those who need to talk with him. 

Paras #131 and 141- 1MDB issued options as compensation for IPIC’s guarantees, but these were granted to the BVI which is not related to either IPIC or Aabar, according to the complaint.   The options granted the BVI the right to buy up to 49% of the two power projects financed with the bonds over a ten-year period.  For the Tanjong option, AL HUSSEINY allegedly signed on behalf of the BVI.  Thus, IPIC/Aabar was also a victim of “misappropriation”.   See also Para #162.

Paras #181-192- As outlined above, ALQUBAISI allegedly received US$473 million and ALHUSSEINY US$66.6 million.

AA Side Comment:  Geez we all want a bit when we retire, but US$473 million? Surely a lot more than 10,000 Swiss Francs a month.  Seems like a rather “princely” sum for a mere “excellency”.   As noted before on this blog, AL QUBAISI acted as an intermediary for Shaykh Mansour Bin Zayed on the Barclays capital raising.  If the 1MDB allegations are true, perhaps, he (QUBAISI, not Sh. Mansour) decided it was time to “wet only his beak”.  Rather a bold and highly risky move by an individual whose continued livelihood in the UAE depends on remaining in Sh. Mansour’s good graces. Sh. Mansour is personally committed to IPIC and the tarnishing of its name in a scandal is no doubt unwelcome as well as what would appear to be betrayal by a very trusted business partner.      

1MDB Scandal: The Curious Case of PetroSaudi International

If You Were Owed $700 Million, What Would You Do?

Much has been written following the US Department of Justice’s 20 July 2016 filing of (at least) sixteen complaints to seize assets alleged to have been purchased with the proceeds of an alleged misappropriation of $3.5 billion from 1MDB, Malaysia’s state-owned strategic investment and development fund.

List of Cases:  CV 16-05362; CV 16-05363; CV 16-05364; CV 16-05366; CV 16-05367; CV 16-05368; CV 16-05369; CV 16-05370; CV 16-05371; CV 16-05374; CV 16-05375; CV 16-05376; CV 16-05377; CV 16-05378; CV 16-05379; CV 16-05380.

Not one to be left behind, I’ll be contributing my own thoughts.

Given the focus of this blog, my initial posts will deal with GCC entities that were involved in transactions with 1MDB and thus may have wittingly or unwittingly participated in the misappropriation.

Unless otherwise noted, the primary source document I’m using is the DOJ complaint against Red Granite, producers of The Wolf of Wall Street (the “Red Granite Complaint” or “Complaint”).  I will cite sources paragraph numbers rather than page numbers as “sourcing” for various points.

Before I begin one very important note.

The US DoJ has filed complaints.  The parties mentioned in the complaints have not been convicted of any crime, nor have they had a chance to neither respond to the charges made against them, nor have their responses and the original complaints tested by the judicial process.  At this stage all that can be said is that allegations have been made.  Please bear that in mind as you read this post.

Let’s start with PetroSaudi International (“PSI”), a privately owned Saudi company founded in 2005, its CEO and founder and a Saudi royal prince described as the “PSI Co-Founder” in the Complaint.  While their names were not disclosed in the Red Granite Complaint, enough information was supplied so that they could be separately identified. 

• PSI’s website identifies Mr. Tarek Essam Ahmed Obaid as CEO and founder. 
• Press reports identify Amir Turki Bin Abdallah Al Saud as the co-founder of PSI.  But note he is not mentioned on PSI’s website.  The second link contains copies of documents from a variety of sources that purport to confirm Amir Turki’s role in the company.
• The Guardian
• The Rakyat Post.

The Complaint alleges that the misappropriation of funds took place in three phases: the Good Star Phase ($1 billion); the Aabar BVI Phase ($1.367 billion) and the Tanore Phase ($1.2 billion).

While I want to focus on what appears to be curious behavior by PSI and its principals in this post, let’s start with some details about the alleged misappropriation to provide context.

The Good Star Phase - Overview

Para #8 - In the Good Star Phase (2009-2011) more than $1 billion was illegally transferred to an account in Switzerland belong to Good Star Limited, which is alleged to have been under the control of LOW Taek Jho instead of to accounts of PSI or the 1MDB/PSI JV.  The transfers were in two tranches: $700 million (2009) and then $330 million (2011) as detailed below.  

First Tranche - $770 Million

Paras #40-112 contain a detailed analysis of the Good Star Phase including the alleged diversion of funds and use of the funds for asset acquisitions and payments to parties involved.

Para #60 – On 30 September 2009 1MDB issued two payment orders to Deutsche Bank Malaysia to pay: (a) $700 million to RBS Coutts Switzerland for the account of Good Star (the alleged fraud) and (b) $300 million to JP Morgan Suisse for the account of 1MDB/PSI JV (the “JV”).  This latter payment appears to be in line with the JV agreement and so is not described as fraudulent in the Complaint.  Note that 1MDB’s instructions did not specify the names of the beneficiary accounts only their account numbers.   

Paras #60-77 detail the compliance questions that Deutsche raised with 1MDB and Malaysia’s central bank and those RBS Coutts raised with Deutsche.  Both banks request the names of the beneficiaries of the payments not just account numbers as identifiers.  As per standard payment protocols, any compliance questions that Coutts had would have to be routed to/through Deutsche, not directly to 1MDB.  1MDB advises the names and that Good Star is owned by PSI.

Paras #81-90 detail questions raised by 1MDB’s Board about the $700 million transaction’s conformity with the JVA, including an unacted upon request that the $700 million be returned and paid “through the originally agreed channel” (Para #85).  This request was apparently turned aside by a 1MDB officer’s statement that funds had been paid to PSI.

Second Tranche - $330 Million

Para#94 – Between 20 May 2011 through 25 October 2011, 1MDB made five payments totaling $330 million to Good Star’s account for drawdowns by the 1MDB/PSI JV under a loan facility provided by 1MDB to the JV in June 2010 (Para #92).  A 1MDB official told 1MDB’s board that the JV had instructed that the payments go to PSI.  Once again the payments went to Good Star.

Curious Behavior by PSI and the PSI Co-Founder

Without prejudging their eventual responses to the Complaint, AA found two incidents of “curious” behavior by PSI and the PSI Co-Founder.

An apparent lack of follow-up on the $700 million shortfall initial JV payment due in September 2009.

Two payments made from the PSI Co-Founder’s account to a high ranking Malaysian official’s account at a Malaysian bank.

Apparent Lack of PSI Follow-Up on the $700 Million JV Payment

Para #52 – As per the JV Agreement 1MDB was to contribute $1 billion to the JV.  As per the Complaint the JV only received $300 million.  I didn’t see anything in the Complaint that PSI, its CEO, or any other PSI official ever contacted 1MDB about the shortfall.  AA finds it rather remarkable (hence this remark) that PSI did not press for the funds, perhaps contacting 1MDB’s Board or as a last resort going public.   A seventy percent shortfall and no apparent complaint.  AA will be mighty interested to read PSI’s response to learn what he’s missing.

Para #96 – In May 2011, the CEO of PSI requested that 1MDB inform Coutts that the first two payments (totaling $95 million) made to Good Star earlier that month were for Good Star and not PSI.  However did the CEO learn about these transfers to an account over which he had no control or ownership?  Even more remarkable at this juncture is that still short a “cool” $700 million from the initial JV payment, he apparently did not ask about the missing funds.  Or perhaps he did. Could it be that the DoJ didn’t consider that relevant to its case?  That seems unlikely because that would provide the DoJ another argument that the $700 million was “misappropriated”.

For the sake of completeness there is perhaps another reason why there was no complaint. Alleged internal PSI documents that were leaked/sold to a Malaysian website opposed to the current Malaysian Prime Minister purport to show the project had zero value. 

See the section below about blackmail.

Alleged Payments from PSI Co-Founder to Private Bank Customer in Malaysia

Para #101 on 18 February 2011 Good Star transferred $12.5 million to the account of the PSI Co-Founder at Riyad Bank.  On 23 February 2011, the Co-Founder’s account transferred $10 million to a private banking account at AM Bank Malaysia for Malaysian Official 1.  On 10 June 2011 Good Star transferred $12 million to the PSI Co-Founder’s same account.  On 13 June 2011 that account made a similar transfer to AM Bank Malaysia.  This formulation is meant to cover the possibility that another party was operating the account under a POA and that the PSI Co-Founder was unaware of and did not approve the transfers.

Para #102 the holder of the account at AM Bank is identified by the DoJ as Malaysian Official 1 who the Complaint alleges was the recipient of a $681 million transfer from Saudi Arabia in 2013.   That would appear to identify the holder as the current Prime Minister of Malaysia.  The Wall Street Journal. 

The reason for the payments from the PSI Co-Founder’s account is not specified in the Complaint.  Perhaps they were gifts as Malaysia’s Attorney General said was the case with the 2013 $681 million. 

Saudi royals would appear to be quite a generous lot.  Perhaps, this as well explains the apparent lack of follow-up by PSI on the “missing” $700 million JV payment.  AA definitely should cultivate more Saudi royal clients, though it would be just my luck that their innate generosity has been tempered by recent and no doubt unwarranted accusations of unethical behavior.

Perhaps like the famous Devonia transaction, the Saudi shaykh bought something from the holder of the AM private bank account and sold it to Good Star.  Shares in Sibneft?

For the sake of considering all the possibilities and not because AA has a suspicious mind, perhaps, it was a kickback of some sort.  Seems a rather meager commission on such a large amount.   Also it seems rather strange to one’s kickback payment transferred to an account in one’s own country easily identifiable.

If indeed it was a kickback, then the roughly 20% “commission” for making the payment is in line with Devonia precedent for the use of “shaykhly” accounts. 

• The Financial Times
• The Independent

Not Relevant But Too “Good” to Omit:  The Independent article claims that at a meeting among Shaykh Sultan, Mr Abramovich and Mr Berezovsky a bank compliance officer asked the good shaykh for a copy of his passport and proof of residence, the shaykh handed him some UAE dirhams and said “my face in on these”.  The article notes a hearty burst of laughter by the participants but is silent on whether other KYC documents were produced.    

Blackmail by Former PSI Employee

Just about one year ago (17 July to be precise), Singapore’s Straits Times reported on the apprehension of a former PSI employee who was arrested by the Royal Thai Police and charged with attempted blackmail of his former employer and the sale of PSI documents to opposition figures in Malaysia. Apparently the individual had secured an earlier payment from PSI.  The payments don’t necessarily prove any wrongdoing by PSI. The earlier payment may have been made for other reasons, e.g., to avoid a scandal that would tarnish one’s name and business opportunities even if it’s not true.

• The Straits Times

These would appear to be some of the alleged PSI documents sold by the former PSI employee.  Note the SR is part of the opposition in Malaysia.

• The Sarawak Report.