GFH 2017 USD 314.5 MM Share Offering Unexplained Lower than Promised Pricing More than Triples Dilution

Sometimes Promises of Transparency are, well, so Transparent

You Can See Right through Them

In preparing the translation of GFH’s 2019 Annual General Meeting for Fiscal Year 2018, the lament of Abdul Muhsin adDarwiish, the representative of AlRajhi, about the drop in book value per share (dilution) caused by this transaction caught AA’s eye.

Just the first examination raised enough questions for AA to take a deeper look. So here we are again.

Summary

In 2017 GFH's Board of Directors proposed that shareholders authorize the issuance of up to USD 450.5 million in new shares to be priced at USD 0.953 each to be used to acquire certain infrastructure projects and investment funds.

Later that year GFH issued some 1,186,904,148 shares.

As per AA's calculation, these shares on average were issued at a discount to par, that is below USD 0.265 per share. “  

AA can find no explanation for this discrepancy.  

So what's the big deal?  

Well, if shares were issued at the promised USD 0.953 per share, the old shareholders to use Mr. Abdul Muhsin adDarwiish’s turn of phrase would own a lot more of GFH than they do now.  Roughly 88% versus 61%.

Interested?

AA has a typical long exposition for you right below.

Detailed Exposition   

According to GFH’s FY 2017 AR Note 18 page 44, GFH assessed the value of the assets acquired as USD 297.502 million.

According to the FY 2017 AR Consolidated Statement of Changes in Owners’ Equity, GFH issued USD 314.530 million in new shares (Share Capital), recognized USD 2.896 million in Share Premium and had an adjustment of negative USD 24.3 million in the Capital Adjustment Account for a net increase in Shareholders’ Equity of USD 293.106 million.

Doing the math, on average GFH issued the new shares at USD 0.2507 per share (using the USD 297.502 million asset valuation).  That’s roughly a 5% discount from par value of USD 0.265 per share.  Some 1,186,904,148 shares were issued.  Keep both amounts (average issue price and number of shares) in mind because we’re going to come back to them later.

AA is unable to definitively “account” (pun intended) for the USD 4.396 million (negative) difference between the increase in equity and the value of assets acquired.

But suspects that these are expenses associated with the exchange based on GFH’s 2017 AR Note 2 (u) page 26 which states that:  “Incremental costs directly attributable to the issue of an equity instrument are deducted from the initial measurement of the equity instruments.”

That’s about 1.5% of the value ascribed (USD 297.502 million).

AA thought that was the end of “intriguing” information in GFH’s AR, but then at the end of the note were two facts about the acquisition of a 56% stake in MGIC (Morocco Gateway Investment Company) and a much more modest 8% additional stake in KHCB.

1. The consideration for both of these was some USD 69.1 million and net assets (at book value) of USD 36.2 million acquired. No comment on the reason for the overpayment.  Nada.  Like GH it seems GFH was still carefully considering goodwill.  Presumably, the value of KHCB is known.  If not, that’s a serious matter.  So it’s the value of a “dream” by the Atlantic in Morocco.  As AA did with GH, he will do here. If one doesn’t know the value, how does one buy something?  Adding insult to injury the missing value here is some USD 32.9 million or some 48% of the amount paid.
2. GFH paid cash for KHCB and 203,291,786 GFH shares for an additional 56% in MGIC (roughly USD 53.8 million based on par value).

The immediate question is where did these shares come from?  

Treasury Shares?

That seems a good guess given the information we have in this Note and the CSOSE. In the sense that it doesn’t support these shares as having arisen from the share issuance/asset swap.

AA believes that there should be an adequate disclosure—the information in GFH’s 2017 AR falls quite short of that modest goal--somewhere about this transaction and more importantly about the issuance of USD 314.5 million in new shares. I didn’t find one so far. Nothing at the Bahrain Bourse or DFM, besides a very short woefully uninformative notice.

If you have seen more disclosure, let me know by leaving a comment.

So what do we do?

Dr. Abu Arqala Prepares to Go Back to the Past

Back to the Past.  To early 2017 when GFH’s Board first mooted this most excellent of ideas.

Here’s the agenda for the 2017 AGM and EGM announced 6 February 2017 on the Bahrain Bourse.

Items #2 and #3 in the EGM Agenda are pertinent to this study.

Item 2 -- “To increase the authorized capital of GFH from US$1,500,000,000 divided into 5,660,377,358 share to US$2,500,000,000 divided into 9,433,962,264 share at a nominal value of US$0.265 per share.

Item 3 -- “To discuss and approve GFH’s new strategy to acquire financial institutions, infrastructure investments, and investment assets by swapping the shares of the investors and shareholders of those companies with GFH shares through issuance of new shares by increasing the issued and paid up capital from US$ 597,994,604 to US$ 1,498,994,604 subject to obtaining all relevant authorities’ approvals, as follows:

1. Increasing the capital up to US$ 450,500,000 by way of issuance of up to 1,700,000,000 new share at a nominal value of US$ 0.265 in addition to a share premium of US$ 0.688 (total share value of US$ 0.953 – equivalent to 0.36 Bahraini Dinar / Emirati Dirham 3.5/ Kuwaiti Dinar 0.29) allocated for the acquisition of a number of infrastructure projects and investment funds.
2. Increasing the capital up to US$ 450,500,000 by way of issuance of up to 1,700,000,000 new shares at a nominal value of US$ 0.265 in addition to a share premium to be determined by the Board of Directors as per market conditions, to be allocated for the acquisition of a number of financial institutions and strategic assets.  If you look at the Arabic language EGM agenda, “strategic assets” are described as “and other investment assets (  واصول استثماریة اخرى).

So what GFH’s Board is proposing as of 6 February 2017, is to issue additional shares at USD 0.953 to acquire “a number of infrastructure projects and investment funds” as the first step. And then in second step issue an additional 1.7 billion in share at par plus a premium to be set by GFH’s Board as per market conditions.  

Why does AA say these are two steps?  

Well in the first case, GFH's Board has determined the premium so this step must proceed the second step where the premium is to be decided.  It would be "mighty strange" (to use a technical financial term) for the Board not to know what the premium is for an issuance today, but know what it will be in the future.  

Also if both steps were concurrent, it would seem "mighty strange" that the premium could be different.  What would the investors who paid USD 0.668 in premium think, if other investors were offered fine GFH shares at a premium of only USD 0,334 a month later?  Or offered shares at a discount?  Or either occurred concurrently with the USD 0.688 premium?

In neither of the proposals is there a mention of issuing at par or at a discount.  The use of the word premium implies to AA and AA would bet as well to the shareholders at the EGM that shares would NOT be issued a par or below par.

As noted above, according to information in GFH FY 2017 AR Note 16, during 2017 GFH issued some 1,186,904,148 shares and received according to AA’s analysis USD 297.502 million before assumed expenses (see above).  That is an average per share price of USD 0.2507, a 5% discount from par of USD 0.265.  After the expenses are deducted the average price per share is USD 0.244.

Now there is a share premium shown of USD 2.896 million.  If we assume that represents shares issued at USD 0.953 that would mean that roughly 4.2 million shares were issued at USD 0.953 per share resulting in an increase in share capital of USD 1.116 million with USD 2.896 million allocated to share premium for a total of USD 4.012 million. 

Pretty small beer. Roughly 0.35% (that is, 0.0035) of the total share issuance.  That is probably not what shareholders expected when they voted for this proposal. 

Based on GFH’s Board proposal they were expecting to issue up to USD 450.5 million. If they only needed one-one hundredth of that amount, surely they would have asked for a much smaller tranche.  Wouldn’t they?  That would be in the spirit of Chairman AlMutawa's statement about the new Board and management being "keen" on transparency. You'll see that just a bit further below. 

One more interim stop before we go to the minutes of the 2017 EGM. 

That is, press clarifications of an earlier clarification issued by GFH to both the DFM and Bahrain Bourse about the planned issue.

“The bank intends to increase the capital by way of issuance of new share in order to acquire infrastructure assets. The settlement (payment) to the shareholders of the infrastructure assets will be by way of issuance of new shares of GFH at rate of AED 3.5 per share. The entitlement for the new shares of GFH will only be for the shareholders of the infrastructure assets; hence the current shareholder of GFH will not be the ones subscribing to the new share issuance. It is to be noted that the new shares will be issued at fair value of the company at rate of AED 3.5 per share – as per the valuation of independent third party.”

There are two key points here:

1. Reaffirmation of the issuance of new shares at the USD 0.953 per share price.  Here expressed in AED. Now if GFH's intent was to issue only 4 million shares at this price and over 1 billion shares below par certainly they would have said something.  Wouldn't they? 
2. Even more importantly that the USD 0.953 per share price is “fair value” as determined by an independent third party.  The Board as stewards of shareholders’ interests would not issue shares at a price lower than fair market value.  Would it?

Of course, fair value could change.

While fair value and market value are not necessarily the same, let’s look at trading data from the Bahrain Bourse.   GFH’s price per share declined from USD 0.76 in early February to USD 0.50 on 14 August 2017.  A 34% decrease.

If we assume intrinsic value went from USD 0.953 in early February to USD 0.265 in August, that would be roughly a 72% decrease.  

AA’s experience with fair value theory and practice is that fair value is expected to be fairly accurate (accurate as any estimate can be) over a long period of time absent significant events.  It is an estimate of intrinsic value unaffected by market movements which are often if not always driven by sentiment as opposed to rational consideration, particularly in retail dominated markets such as those where GFH is listed.

AA would be surprised to see a drop of this nature because he is unaware of any dramatic non transitory event that might have caused this. It would have had to be quite an event to cause a drop in fair value by 72%.

Is anyone out there aware of such an event? Did AA miss something big, really big?

We’re still not finished because we know from GFH’s 2017 AR that they acquired TIBC and certain Indian assets as part of the share issuance/asset swap.  But do we know if these are the specific assets that GFH had in mind when it drafted point one to Agenda Item #3.  That is, which assets would be acquired by issuing shares at USD 0.953 per share.

Let’s take a look at the minutes for GFH’s 2017 EGM.  These are available on the Bahrain Bourse’s website, but in Arabic only.

Turn to page 5.  In the third paragraph, Mr. AlRayes, GFH’s CEO, says that the share issuance will be used to acquire infrastructure assets and investments funds similar to (a) the energy city fund in India, (b) Royal Ranches in Marrakesh, and (c) Tunis Financial Harbour Tunisia by issuing shares at USD 0.953 per share composed of par value of USD 0.265 and a premium of USD 0.688 and then goes on to give equivalents, e.g., KD 0.29, AED 3.5, and BD 0.360.  That seems crystal clear.

Looking back at GFH’s FY 2017 AR Note 18 page 44, the assets identified as having been acquired with the share issuance are:  TBIC (Tunis Bay Investment Company) and “India Projects”.

In Note 1 page 14 “India Projects” are defined as Energy City Navi Mumbai Investment Company and Mumbai IT & Telecom Technology Investment Company.PPThese seem to be just the assets Mr. AlRayes mentioned at the EGM.

No doubt some of you out there are saying. GFH got the fine assets they wanted. Stop quibbling over accounting entries.  Besides you told us that accounting and reality often don't coincide.

Quite.

But here there is a practical consequence in the real world. 

If the shares issued to purchase these assets were issued at USD 0.953 composed of USD 0.265 par value plus a premium of USD 0.688 then:

1. GFH would have issued only 312 million shares instead of 1,186.9 million. That is, it would have issued 26% of what it did issue.
2. “Old” shareholders to use Mr. Abdul Muhsin adDarwiish’s turn of phrase would own a lot more of GFH than they do now.  Roughly 88% versus 61%.  
3. BVPS would be higher. 
4. The "Old" shareholders share of future profits would be higher.

So the question is what happened?

How did USD 0.953 per share become roughly par value (USD 0.2505)?

It seems to AA that in order to issue the shares for these acquisitions at a price lower than USD 0.953 per share, GFH would have needed to call a second EGM to obtain shareholder approval.  GFH’s Board in their role as stewards of the shareholders’ money would have had to request another approval and as part of their keen adherence to transparency (شفافية) explained the unique circumstance or circumstance which caused “fair value” to change and therefore justified the change in price. Wouldn’t they?

But AA can’t find record of another EGM held by GFH prior to the August 2017 closing of the deal.

Nor do the EGM minutes appear to give the Board discretion in changing the USD 0.953 price.

And two final bon mots from the 2017 EGM, Mr. Ibrahim Salaah adDiin—apparently a long suffering shareholder since 2009 at least—noted that the previous management had in his view misled shareholders regarding GFH upcoming net losses and shareholders had endured a capital reorganization which cost them 75% of their shares in 2010 or 2011.  He noted that in 2015 the Board had stated it had no intent to increase capital.

Dr. Ahmed Mutawa, GFH’s Chairman, noted that there was a new board and new management that was (حريصين على شفافية).  Quite! The truth of that statement is evidenced in GFH’s annual reports, press releases, etc.  And, perhaps, just perhaps, on this topic as well.

Following that Mr. AlRayes, GFH’s CEO, made an argument for shareholders to approve the new strategy (Agenda Item #3) by noting the many achievements over the past few years.  And ended his comments by stating that the board’s new plan included reaching USD 4 billion in market value by 2019.  Note that is not a promise or a guarantee but merely the contents of the plan.

Could it be that the USD 0.953 issue price was also included in the board’s plan in the same way?

Kidding aside I’m sure there must be a good explanation.

Clearly, the CBB, MOICT, and authorities at the Bahrain Bourse, DFM, and Kuwait Bourse are not asleep at the switch.  They wouldn’t have allowed GFH to fail to implement the EGM resolution.

The problem is AA can’t find the explanation.

Sadly, sometimes when you’re looking for (شفافية) it is hard to find.  Perhaps, the explanation is the difference between (حارس الشفافية) and (حريص على الشفافية) (ولكن اَللّٰهُ أَعْلَم).  

That leads as you might expect to a rant.  Uncharacteristically in a separate post.

Dana Gas: Why Did They Do It?

It's More Than Just Hot Air

I promised in my first post to write again on the winners and losers from Dana Gas’s maneuver.  A post from Arkad has temporarily derailed that plan.

What I’d like to offer today is some hopefully intelligent speculation on DG’s motive for declaring the outstanding certificates as “illegal under Shari’ah and thus unenforceable” and obtaining court injunctions against payment, particularly because these two steps are almost certainly going to poison the relationship with creditors which is critical in a restructuring.

Dana’s 13 June 2017 press release offers two potential explanations: 

• An outflowing of piety perhaps triggered by prayerful meditation during the holy month of Ramadan.  “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.”
• A desire to avoid repeat alleged damage to the company because “During the 2012 restructuring, representatives of Holders unnecessarily declared a Technical Default while negotiations were still ongoing, causing lasting harm.” 

The press seems to share AA’s view that piety is not the motive and has seized upon the second: prevention of a Technical Default. 

AA thinks there’s more to the story.    

Simply put this is a maneuver to stop the creditors from exercising their rights under the security agreement to gain time and increase DG’s negotiating leverage in the restructuring.  

According to Reuters, last Sunday Dana advised that it has obtained an injunction from the High Court of Justice Commercial Division in British Virgin Islands (BVI) and a restraining order from the High Court of Justice in England blocking creditors from taking “hostile” action in addition to the Sharjah Court injunction. 

Why were these steps taken and why are they significant?

• The BVI is “home” to DG’s affiliates who conduct business in Iraq in territory of the so-called Kurdistan Regional Government and in Egypt and whose shares are “security” for the Sukuk.  USD 300 million of Egyptian receivables owed to Dana Egypt also part of the security package.   A BVI injunction complicates an already difficult road for creditors to realize the collateral whose enforcement (but only the first step) is subject to the jurisdiction of the BVI. 
• The laws of England and Wales apply to key transaction documents as I pointed out in my earlier post in particular those documents under which certificate holders would quite justifiably call a default.  

Another sign that protecting assets is a key concern are the steps Dana Gas has taken to minimize its exposure to potential actions by other creditors acting under cross default clauses.  This limits potential collateral (secondary) damage (pun intended).  It also lessens Sukuk holders’ negotiating leverage by reducing/eliminating this threat.

The step also prefers UAE creditors.  A step not likely to be received well by Sukuk holders. 

Let’s let DG make this case by using quotes from the Directors’ Report in its 1Q2017 interim unaudited financials.  As customary, red boldface to distinguish AA’s “distinguished” comments. Black boldface to highlight particularly relevant statements by DG. 

“Subsequent to quarter end, in early May, the Company prepaid the Zora outstanding loan amounting to USD 60 million (AED 220 million) plus applicable interests/costs.”    DG’s 1Q2107 financials were signed 11 May by the auditors which means that the prepayment took place before that date.  AA would hope that creditors would ask if that was before or after the 3 May announcement that the Sukuk was going to be rescheduled. 

But it gets even better.

After announcing the prepayment, in the very next sentence DG states: 

“On 3 May 2017 the Company announced that, due to continued challenges it faces around cash collections and the resulting need to focus on short to medium term cash preservation, it will commence restructuring discussions with the holders of both its Sukuk dated 8 May 2013.”

According to DG’s 1Q2017 interim report note 11, as per contractual terms, USD 33 million of the Zora facility was not due for repayment until 2018.  Zora is located in the UAE and the lending syndicate is composed of UAE banks.      

As a side note, interest due on the Sukuk next month would be approximately USD 14 million.  Apparently, the USD 14 million are worth more than the USD 33 million prepayment to local banks –roughly 2.4x as valuable – when it comes to cash “preservation”.    

Zora was secured by a very robust security package as is typical project finance structure.  Lots of tripwires and potential pain for DG. 

“Project Security covers, commercial mortgage over mortgage-able Zora gas field project assets (onshore & offshore), assignment of rights under Gas Sales Purchase Agreements, assignment of all Dana Gas Exploration FZE bank accounts, assignment of Zora Project Insurance proceeds, Project performance Guarantees from Contractors & Irrevocable Letter of Credits from Sharjah Petroleum Council. Dana Gas PJSC has pledged the shares of Dana Gas Explorations FZE in favour of security agent. Dana Gas PJSC is also a Guarantor for the entire tenure of the term facility”

As noted elsewhere in the note there was also a cash sweep mechanism. 

Prepayment neatly resolves the issue of cross default for an income earning project in the UAE albeit small “beer” earnings compared to its Iraqi and Egyptian operations. 

Dana also repaid roughly 84% of the FYE 2016 USD 12.5 million outstanding murabaha facility from Mashrekbank Egypt again as per note 11 1Q2017 financials.  This facility was cash collateralized. 

UAE banks’ exposure to Dana is eliminated or reduced.  Dana has clearly “preferred” UAE creditors over the Sukuk holders, though one might argue that these are relatively small amounts when compared to the approximate USD 700 million outstanding on the Sukuk and removing these makes the restructuring less complicated. 

Some USD 25 million of debt remains for two sale/lease back transactions for DG Egypt (DGE):  (a) a building in Egypt and (b) spare parts/equipment acquired some years ago that have yet to be used as per note 25 c.  Perhaps DGE would welcome returning the latter to the lessor. 

In following posts I’ll pick up the promised discussion of winners and losers, well mostly losers, from DG’s "clever boots" maneuver. 

Gulf Finance House to Ask Sukuk Holders for Three Year Extension

Reuters is quoting an unnamed GFH spokesman that the Bank intends to ask the holders of its US$200 million Sukuk issue (US$137 million outstanding) to roll the Sukuk on its original terms for three years.  That is, to extend the maturity from 2012 to 2015.

I'm not sure if "chuzpah" is an Islamic banking term, but it would sure seem to apply here.  The Sukuk is currently trading at around just a whisker over 50% of face value.

I'd also note that earlier this week GFH formally stated that it had not issued the information the Gulf Daily News report that it intended to either (a) sell assets to  US$90 million in debt next year or (b)  reschedule debt.   If you recall the original GDN article, there was a third alternative mentioned - which was extinguishing debt via asset transfers.  Interestingly enough, what is mentioned in the GDN article is precisely what I see  on page 13 in the copy of GFH's October 2010 "Return to Growth" Presentation to investors which I recently obtained. 

It is, I suppose, indeed sad that someone is issuing presentations using GFH's highly respected name in such a fashion.

As to pricing for GFH debt, please see my soon to be issued companion post on the draft terms for GFH's proposed new Sukuk.

"Islamic" Property Financing in Syria "This Time It's Different. Really, It Is."

Rasha AlAss over at The National has an interesting article on how the pricing on "Islamic" banks' real estate financing in Syria and Lebanon is much higher than at conventional banks.  While she doesn't give a reason, I'm guessing that it's their much higher cost of funds and not any desire to earn an outsize profit.  The latter of course would run afoul of prescriptions to deal fairly.  Wouldn't it?

A couple of quotes from "wise" local bankers:

Some bankers are pleased with this, pricing their products on the speculative idea that property prices will continue to rise. Explaining why the traditional mortgage rates are so high, one banker says: "Well, real estate in Syria keeps going up. So even with a high interest rate, the appreciation will still be higher." Mr Darkazally echoes this sentiment. "Real estate prices in Syria will never go down," he says.

So does this constitute aggressive lending? And could the speculative behaviour by customers and bankers on a property boom that has not yet gone bust lead down the same road that brought the world to its knees in the recent credit crunch? "Not in our day," says Mr Darkazally .

Normal financial laws apparently don't apply in Syria.  This time it really is different.

Oh, and if you want a real surprise on your "Islamic" real estate loan, buried there in the fine print is a "prepayment penalty" or perhaps something called a profit rate protection clause. 

The Investment Dar - Rumor of Restructuring Bombshell: Request for 50% Hiarcut

Major Al-Musallam Rides to Glory

Before we go further to be very clear this is an account which neither the Company, the Central Bank or the creditors have confirmed.
Update:  TID has denied this story.

Al Qabas reports that TID has submitted a completely new restructuring plan to the Central Bank of Kuwait which calls for lenders to forgive 50% of the existing debt, i.e. KD500 million.   According to the report, lenders were not consulted or advised prior to TID sending the proposal to the CBK.

What's going on here is anyone's guess.

Mine is that the Company and the lenders are jockeying from (what I think is) the fallout from the Ernst and Young report.  As you'll see below. TID and its lenders appear to have been discussing alternatives /modifications to the original plan. From the Al Qabas account these seem predicated on the fact that the Company cannot repay all the debt.  The unpayable quantum seems around a 50% or so.

I suspect that Ernst and Young came back with a very negative assessment of  TID's ability to repay in full and, thus, case serious doubt on the Company's ability to continue as a going concern.  As you're aware, the Financial Stability Law is designed to give protection to viable companies.  It is not intended as a mechanism to provide legal cover for disguised liquidations.  If I'm right (and as Umm Arqala will tell you that's a rare occurrence), a report like this would have thrown quite a large "wrench" into things, complicating the CBK's acceptance of the already agreed restructuring.  How could the Central Bank recommend to the Court that the Company be allowed under the FSL under such circumstances?

I'm also guessing this occurred prior to the end of the first four month period the CBK had for evaluation of the suitability of the original plan and of TID to enter finally under the FSL.

What leads credence to both assumptions are reports in the article that the lenders have floated some  proposals or modifications of their own and the timing of those negotiations.  One was the conversion of  roughly half the debt to equity with some preservation of the rights of the existing shareholders.  Presumably, the lenders could quite easily make the argument that if a debt conversion were required, the old equity has been lost .  And thus the old equity holders should be wiped out.  Their proposal is reported as more generous, though it's not clear what percentage they would allow the old shareholders in the post conversion equity.  Leaving 10% or 20% might for example be considered highly generous by the lenders and an "outrage" by the existing shareholders.  Negotiations on this proposal supposedly took place between July and September.  The story goes that TID's Board went back on a tentative agreement because some of the existing major shareholders did not want their equity interests diluted.  (Unclear to me how you dilute something worth nothing.  There's also a hint here that the major shareholders are very important people.   And, if you know Al Q's politics, you might suspect they are pointing the finger at regal personages).

As a second alternative, the lenders suggested taking some assets in exchange for the debt.  The article says  that E&Y determined that this proposal was acceptable under international principles.  Dar supposedly made a counter offer that brought things back to zero. 

At this point, the two sides are in a deadlock.  I think that TID's proposal (assuming the report is accurate) is more a negotiating tactic than a viable proposal.  Rather it is an attempt to break the logjam by setting forth a maximum position.  One they probably know both the lenders and the Central Bank would have a hard time accepting.  What this proposal does, though,  is shift the parameters of the debate.  While lenders may reject a 50% discount, it may be harder to avoid some meaningful haircut - particularly, if the choice is bankruptcy.  And in order to get itself out of having to make a decision that may prove wrong or hurt its and the country's reputation, the CBK may be inclined to lean on the parties to compromise.  TID has just set one bound on the compromise.

It could be that they are trying to play for time - hoping for a miracle.  Realistically playing for time  hurts all parties - TID, the lenders, Islamic Banking, and Kuwait.  But maybe that's the goal - to maintain the status quo.

The article describes the choices in front of the Central Bank as:

1. Issue a conditional acceptance of the proposal subject to conformity with accounting principles and the agreement of the lenders.  (Or in other words neatly pass the buck.  Or is that the dinar? As Al Q elegantly puts it, getting the lenders to agree may be very difficult given the Company's breach/violation of the existing agreement.  That raises AA's first law of underwriting and due diligence "know your customer".)
2. Reject the proposal.  In which case it's expected that TID will sue the CBK in an attempt to confuse the issue and buy more time.  As Al Qabas elegantly puts it الى ما لا نهاية . (Probably not a first choice. More likely is forcing the Company and its creditors back to the negotiating table.  Or putting them in a situation where they will decide the fate of TID, if that fate is to be bankruptcy).
3. Push the lenders to bankrupt the Company - which will lead to all sorts of negatives for all parties and harm the financial sector, Islamic Banking and the reputation of Kuwait. (I'm guessing not an alternative high on the CBK's list).
4. Convert TID to a holding company.  This would remove it from Central Bank supervision so that the lenders can apply the restructuring deal agreed.  Also the CBK's June ratios would not apply.  (This seems to me to be a bit of red herring.  The CBK can grant an exemption to TID as a finance company from the regulations.  Supposedly the lenders will reject this because they don't think the administration of the company is really interested in solving the problem.  The lenders have on more than one occasion made it quite clear what they think about management's ethics.  They began by asking the CBK to place a minder in the Company.  Then they pushed for the appointment of a Chief Restructuring Officer).
5. Force TID back to the negotiating table with the lenders to find a solution and return to the original plan.  (This seems contradictory.  The original plan is probably moot at this point.  I think the lenders are going to have to accept some changes - and these will be against their interests.  From the report of the alternatives they've offered already it seems pretty clear that they've accepted this - even if it was no doubt reluctantly.  The CBK may well force the parties back to the negotiating table but there will be a new deal.  Perhaps the CBK could impose a time limit for reaching an agreement using as the deadline some date prior to the date it's required to give a recommendation to the FSL Court).
6. Give TID an exemption from the new ratios saying the old plan was devised based on Central Bank advice to the lenders and thus it's not fair to change the rules on them.  As per the article, TID has apparently been saying that the original restructuring plan doesn't conform with the CBK's  "new rules".  The implication being the plan must be modified.   (I don't think that the CBK new rules are the real issue here.  The sticking point is TID's ability to pay and to continue as a going concern.  If the new rules were the only point, then I think the CBK would have given the exemption.  This could be quite easily fudged as an agreed plan to implement the new rules. And so it could be presented not so much as an exemption but a granting of additional time to achieve the goal.  When the debt is paid in full, TID will clearly be in compliance).
7. Exit TID from the FSL and leave it to its fate.  (The CBK probably doesn't want to be the one who puts down this dog.  Better to have the lenders do so.  The "trick" is to find a way to put the parties in a situation where they either come up with a solution or fail - a way which keeps the CBK's hands pristine.  The time limit for the CBK to give its recommendation to the FSL Court is a neat escape hatch.  If the parties haven't agreed by then, the CBK can tell the Court it cannot make a recommendation.  The Court should then refuse to allow TID final entry into the FSL.  Since this is the last extension allowed, the matter is out of the CBK's hands.  Nature and the courts then take their course.  That should be quite a frightening thought for the lenders .  As they stare into the abyss  of almost a complete loss, all sorts of discounts and compromises may become possible).

Finally to close out this post, a recap from the Creditors' Committee official letter to the Central Bank rejecting TID's new plan "in whole and in detail":

1. TID's proposal makes a gift of the money of others (the lenders) to the Company and strengthens (supports) the rights of equity at the expense of the lenders who have not received a single fils since the beginning of the crisis but only promises.  (But they were some really nice promises. Perhaps, even said with one's hand on the Qur'an).
2. TID's proposal is contrary to international and global practices (customary usage) and puts the lenders in the situation of a fait accompli with the proposal being put forward without their agreement or consultation.
3. TID's management is "hitting" (harming) the interests of the creditors and shareholders.  Therefore the lenders reject the idea of a discount which is unjust.
4. The Committee considers that TID's proposal ignores the repayment schedule already agreed.  10% in Year 1, 20% Year 2, 20% Year 3, 30% Year 4 and 20% Year 5.  (There seems to be an argument of a breach of faith here.  And, yes, while the lenders may be thinking of a breach of the agreed business contract for the rescheduling, AA also is thinking that in this context the term applies as well to  religion).
5. TID's proposal prefers (in the sense of giving priority) the shareholders over the lenders contrary to what was agreed previously.
6. The Company has wasted the shareholders' money hiring financial and legal advisors and wasted the banks time negotiating the past 18 months.  

This has been a bad situation from Day #1.  The passage of time has not made things better.  It's likely to get worse.

The lenders face a real dilemma.  Do they compromise to try and get back as much as they can?  Or at some point do they just bring down the house of cards?  With 18 months of time on their hands, lenders may have built rather hefty provisions against this name.  That may give them a bit more negotiating room.

The Central Bank is in the most uncomfortable of positions.  It's got to be hoping that third parties or events are dispositive and that it doesn't have to make a difficult decision.

Gulf Finance House - Ted Pretty Sees Pretty Good Times Coming

Al Watan has an interview with GFH"s Group CEO Ted Pretty.  They noted that he was a bit more optimistic with them than with the Western media he had met with.  Perhaps, things have improved.  Perhaps, it's a bit of market segmentation.

Here are the main points. My comments are in italics and contained within parentheses.

1. GFH faces difficulties but will regain health at the beginning of 2011.
2. In the past we bit off more than we could chew.
3. The current strategy is to focus on existing investments and projects, complete these and realize value. (AA:  More on strategy later this is not the complete picture).
4. GFH took action early and is starting to see the benefits.  Our 1H10 loss is smaller than 2009's.  Because of its wise actions, the bank is well positioned for profitability and growth in 2011.
5. GFH's 2010 priorities are:  restoring its operating model, reestablishing sources of income, cost control and rescheduling debt.
6. Going forward business activities will comprise as well raising financing, providing consulting services, managing assets, and the development of private capital (private equity), particularly in forming Islamic financial institutions.  He then noted that GFH had raised some US$2.5 billion in capital for a variety of firms:  First Energy Bank, Khaleej Commercial Bank, Bank Q Invest, First Leasing Bank, Asian Finance House, Arab Finance House and others.
7. He said that new capital is not required for and  will not be used to repay debts.   There's no need because the WestLB syndicate and LMC syndicate have been rescheduled.  (AA:  No doubt wishing to reassure investors.  The proceeds of the 2009 new capital were used to repay debt).

He also commented that fear was depressing economic and market activity.  However, he noted that several countries had proven that they were able to restart their economies without being dependent on recovery of the US economy.  And called for SWFs to do more to support and develop economic activity in the region noting that the average investor had a predilection to invest in Europe or the USA.

If you believe his pitch, this would be an excellent time to buy GFH shares.  They're selling below par.  Way below par.  US$0.125 on the BSE versus a par value of US$0.33.  The upside potential is unlimited as they say.

And since GFH has yet to publish its Basel II Pillar 3 disclosures as of 30 June 2010 as mandated by the Central Bank of Bahrain, many of you may be forgiven for assuming this means the bank has no risks to report - which, if true, could be a very positive "buy" signal.

Bahraini Regulatory Quiz: When Do Bahraini Banks Have to Publish Their 30 June Basel II Pillar 3 Disclosures?

As if there weren't enough excitement here at Suq Al Mal with compelling analyses of zakat payments, magical provisions, we're going to have a contest to liven things up a bit more.

My understanding was that locally incorporated banks in the Kingdom of Bahrain are required to publish their Basel II Pillar 3 disclosures concurrent with their 30 June financials.

But one firm noted for its unwavering verbal commitment to disclosure and transparency has yet to do so.  That obviously means that my understanding is wrong.

Hence, this competition.  

The first one to post the chapter and verse from the CBB's Rulebook will receive the grand prize --  a slightly worn "proven business model" formerly the property of a self-proclaimed world class "Islamic" investment bank.  Early responders may be eligible for a bonus prize - a half baked business plan for a US$4 billion energy city/financial and day care center.

Multiple entries are permitted.

The Investment Dar - Al-Musallam Denies Problems

This Thursday (26 August) TID held its 2008 shareholders' annual meeting (delayed because of the delay in finalizing its financials).   Both AlQabas and AlWatan have accounts of that meeting.  Some 73.11% of shareholders' interests were represented.  As per the KSE, the only disclosed major shareholders of TID are the Kuwaiti General Organization for Social Insurance (7.7%) and Efad Real Estate Company and associated companies (18.21%).  So there appears to have been broad shareholder participation.

AlQabas notes that the meeting was held in an atmosphere of "impressive calmness".   All items on the agenda were approved, including agreement with the Board's recommendation that no dividend be declared for 2008. (TID reported a net loss of  KD80.3 million for 2008 of which KD78.6 million is attributable to TID shareholders.  From 2007 to 2008 TID's total shareholders' equity declined from KD349.6 millionn to KD168.5 million due to KD52.9 million of 2007 dividends, KD 37.4 million of losses recorded directly in equity and net purchases of treasury shares of some KD12.2 million.)

The tenor and results of the meeting no doubt a clear reflection of shareholders' confidence in Mr. Al-Musallam's stewardship and performance.

Mr. Al-Musallam also took the opportunity to "set the record straight" on several points, including most of the assertions in a recent AlQabas article:

1. As he has on several earlier occasions, he noted that statements that TID was going to be liquidated were not true pointing out the strength of TID's assets.
2. The CCC is not discussing resigning.
3. In that connection he commented that TID is happy to have the Central Bank of Kuwait's supervisor, Dr. Abid AlThafiri, stay on, but that decision is solely the CBK's.
4. There are no differences with the CBK.  The CBK poses questions and TID answers them.
5. More than 83% of the creditors have agreed to participate in the rescheduling.  The remaining 17% represent only KD110 million.
6. He expects to achieve success with Commercial Bank of Kuwait and Cham Islamic Bank (Syria)  and then will have 89% agreement.
7. He's optimistic about obtaining the Central Bank of Kuwait's approval for TID to enter under the protection of the FSL.  
8. He noted that many of the creditors who have indicated they intend to pursue legal claims (the 17% soon to be 11%) were waiting to see the results of the current stage (presumably whether TID gets under the FSL) before proceeding.  The unspoken point here being that if TID enters the FSL, then perhaps some or all of these holdouts may join the rescheduling.  Not an unreasonable assumption.
9. Contrary to rumors, there is no raise for any senior member of TID's management.  Apparently, not even an "unrealized" one! 
10. TID is not late with its prior year's zakat.  Though the wording used here seems to imply that perhaps the committee has not yet distributed it - which would qualify as being "late" for a simple minded guy like me.  وأكد المسلم أنه لا يوجد تأخير في دفع الزكاة عن الشركة، مستشهداً برأي لجنة الفتوى والتشريع التي أكدت على ان الشركة لم تتأخر ولكن هذه الزكاة تعود الى السنوات الماضية، منوهاً الى ان اللجنة تقوم باخراج الزكاة من وقت الى آخر حسب الحالات التي تقوم بدراستها من وقت الى أخرى
11. Perhaps, the answer is that "class is not yet over" and the studies continue?  Anyone who can confirm or amend my translation, please jump in with a post.
12. He did take the time to point out that the 2008 loss (largely due to provisions of KD89.5 million) was not realized.  
13. Asked about 2009's financials and the CBK's requirements for additional provisions, he declined to answer, commenting that the Company respected its regulator's (the CBK's) views, would have the auditors review them. But in the final analysis will do what the CBK requires.
14. One other important "bit" he stated that the Company had appointed new auditors (dual case used).  In 2008 TID used the local incarnations of Deloitte and Touche and KPMG.  
15. The Ministry of Commerce and Industry raised comments during the meeting that the Board did not meet during 2008 (I take this to mean regarding 2008 financial performance not that there were no board meetings that year) and that TID failed to properly register its shares in Bahrain Islamic Bank,.  These shares (8.7% of BIsB) were acquired by TID in satisfaction of a financing receivable and are discussed in Note #8 to its 2008 financials. Mr. Al-Musallam said that the Board did not meet because the financials were not approved (presumably he's referring to the auditors and CBK).  The BIsB shares are in the process of being registered.

A new Board was elected as follows:

1. Adnan Abdul Qadir Mohammed Al Musallam, Chairman and MD
2. Rajam Al Roumi
3. Ghanem Al Ghanem
4. Adel Behbehani
5. Adnan Nisif
6. Musa'id AlMukhaytar
7. Nabil Abdul Rahim

And "reserve" directors (in case of need for a replacement of a sitting director):  Nabil Amin, and Abdul Muhsin Al Kandari.

Hopefully, this impressive performance (there's that word again) will silence the unfounded criticism of TID in the market, leaving only the founded sort.

Gulf Finance House - 1H10 Financials: Now You See It Now You Don't -- The Magical US$137 Million Provision

GFH has finally posted its 2Q10 interim report.

Let's get straight to the heart of the analysis and our headline, Note 15:

"During the period, the Group's credit enhancement amounting to US$ 102 million issued to financial institutions against credit facility arrangements for a project managed by the Group were enforced by the lenders due to contractual defaults by the project company.  Further, based on the Group's assessment of the likelihood that another project will be able to meet the financing when they fall due, the Group has estimated that its financial guarantee of US$ 35 million may be enforced.  In accordance with the requirements of IAS #37, Provisions, Contingent Liabilities and Contingent Assets, the Group has recognised a provision of US$ 137 million towards these liabilities until revised/ renegotiated terms are agreed with the lenders of the project companies.  The Group has recognised an equivalent amount of reimbursement right which has been included in other assets (note 8)."

Presto, changeo with a bit of Accounting Magic a potential US$ 137 million addition to 1H10's net loss is transformed into an asset!  What's even more astounding is that these projects that cannot meet their debt commitments (to the apparently impatient lenders) will nonetheless be able to honor GFH's reimbursement claim upon them.  Now that is truly magical!

(Side Note:  According to my copy of KPMG's Third Edition of "Insights into IFRS" page 635 commenting on IAS 37.35 (about the recognition of Contingent Assets), KPMG states:

"When realisation of a contingent asset is virtually certain, it is no longer considered contingent and is recognised.  In our view, virtually certain generally should be interpreted as a probability of greater than 90 percent."

Unfortunately, I don't have the latest edition so I would caveat that there may have been some new thinking on the topic of what constitutes "virtually certain".)

Taking this amount to the income statement would roughly triple GFH's loss.  It would also breach the US$400 million minimum shareholders' equity covenant.  But there's one more adverse effect making this US$137 million truly a "triple threat".

As we learn in Note #2 during the discussion of the going concern issue, GFH's capital adequacy ratio at 30 June was 12.92% - leaving little room for maneuver or in the words of KPMG "which restricts the Group's ability to absorb further losses or undertake additional exposures".   (Note to KPMG:  You need to amend the reference in your report to the matter of emphasis from Note #1 to Note #2.)

And I suppose -- to add a fourth reason -- such a loss and such consequent events might make a difficult capital raising exercise just a "wee bit" more difficult.

Where there is a need and a will, there is a way -- as the old saying goes.

Turning to the rest of the financials:

1. Note #5: US$115.4 million (95%) of 1H10's US$121.4 million of Placements with Banks and Other Financial Institutions is pledged against commitments and facilities of projects of the Group.   And so should be excluded from liquidity.  You'll notice it is in the Cashflow Statement.  Some might suggest that proper presentation would be to have these amounts in Other Assets.  And well they might but to no apparent avail.   Some of this cash may be pledged to those adversely affected projects discussed in Note #15.
2. Financing Receivables US$14 million decline (which took place between FYE09 and 1Q10) is still a mystery to me.  It's not in the cashflow statement so it must have been offset against something else?
3. Receivable from Investment Banking Services declined from US$85.3 million at 1Q10 to US$40.5 million at 2Q10.  I can find a provision of US$20 million but am unable to locate the remaining US$25 million in the cashflow statement.  Another magical offset?
4. Note #6:  Assets held for sale include Bahrain Financial Harbour Company (US$175 million), $50 million of GFH's long outstanding Receivable from Sale of Investments (now reduced to US$44.5 million and carried in Other Assets) plus US$35 million of Financing to Projects.  The first two items will be settled "against receipt of consideration in the form of cash and land plots."  Well, when you can't pay cash why not settle your obligation with a highly valuable piece of (no doubt) blank land.  The upside potential is, well, enormous, especially at current depressed prices! 
5. Other Assets - As noted above there are reductions of some US$85 million (See Point #4 above), against the introduction of reimbursement rights of US$137 million whose collection is no doubt at least virtually certain if not certain to a much higher degree.
6. Note 9 updates on the financing.  The LMC US$100 million facility (US$80 million outstanding) carries a "profit rate" (read interest rate of 8.5%!).   The rescheduled West LB facility a 3.75% profit rate (reduced from 5%).  This facility is now secured by GFH's shares in Khaleeji Commercial Bank, which no doubt explains why the promised sale of this asset suddenly was postponed.  Perhaps, the collateral will be sufficient cover to prevent an impairment under IAS #39. Also of note during 2Q10 some "wise" and brave lender has provided a US$16.64 million Murabaha financing due in November 2010.
7. Note #10:  Some 69% of Other income (1H10: US$8.6 million) is composed of income declared because certain liabilities were no longer payable (US$4.2 million) and from recoveries of project expenses (US$1.7 million).  

All in all quite a performance in 2Q10.  For those curious that's not a reference to financial performance but the magic of accounting.