National Bank of Umm Al Qaiwain 3Q10 Financials - Update on Global US$250 Million Deposit Dispute

NBUQ released its 3Q10 financials earlier today.  (Yes, I'm still stubbornly using that abbreviation even though their stock symbol is NBQ  But I will alternate today between the two to partially satisfy those who have "complained".)

The major focus is as usual on the dispute over the US$250 million "deposit" (if you're Global Investment House) or the "prepayment" (if you're NBUQ).  As you'll recall the dispute turns over whether an MOU between the two parties was a binding contract obliging GIH to buy securities convertible into NBQ equity.  Yet another example of poor transaction structuring and legal documentation involving this instrument - which has been a rather costly mistake for purchasers in the past.

You can find more on this topic by using the labels "Convertible Bonds" and "National Bank of Umm Al Qaiwain".

The relevant notes in their financials are Other Assets (Note 13) and Other Liabilities (Note 17).  

As per Note 17, NBQ is holding the funds in a non interest bearing account in the amount of AED918.25 million (equal to US$250 million at the FX rate as of 30 September).  But as you'll see from Note 13, it has deposited AED1,034 million with the First Instance Court of Dubai pursuant to an order from that Court.  

The difference (just under AED 116 million) is presumably interest and perhaps legal costs for Global.   The amount represents a little over one quarter's net income for NBUQ.

The Appeals Court is scheduled to hear NBQ's appeal on 8 November 2010.   The 29 September session adjourned without taking a decision and was designed to let NBQ object to both the decision in Global's favor and the interest payment.

You'll also note that in Other Assets, NBQ is showing some AED82.7 million in "split deals".  Shades of Mashreqbank and its deals with Awal Bank and with TIBC.

Gulf Finance House - Capital Reorganization and Raising - A Look "Behind the Curtain"

"Pay No Attention to the Man Behind the Curtain"

GFH published the agenda for its shareholders' general meeting on the capital reorganization/raising to be held 31 October.  So far only in Arabic on the DFM and on the KSE (copy below so you can follow along).  Strangely not yet on the BSE.

As the picture above suggests, by looking behind curtain we can get a real understanding of what's going on.

In brief the key points are:

1. The capital reorganization and US$500 murabaha are being structured to make them as attractive as possible to new investors.  That means that existing shareholders are being substantially diluted through a variety of clever means - which might not be apparent to most readers of the agenda for the shareholders' meeting. 
2. A share swap transaction between Mr. Janahi and GFH which seems designed to strengthen GFH's creditworthiness as well as provide some much needed "relief" on the CAR both in terms of risk weighted assets and potentially equity.

First, let's look at what's immediately visible:  the agenda for the shareholders meeting.   Shareholders are being asked to:

1. Approve a share swap between GFH and its Chairman/Executive CEO, Mr. Esam Janahi.  In return for his 104,923,734 shares in Khaleeji Commercial Bank ("KHCB"), GFH will give him 100% of its shares in AlAreen Company for Leisure and Tourism (whose main asset is the Lost Paradise of Dilmun Water Park in Bahrain) plus US$3 million.  The latter either in cash or Treasury Shares of GFH. 
2. Reduce the number of GFH's issued shares from 1,896,332,565 to 474,083,141 in a reverse 4:1 share split.
3. Reduce the paid in capital from US$625,789,746.45 to US$142,224,942.375.  A difference of US$483,564,804.075. 
4. Reduce the par value of shares to US$0.3075 from US$1.32.
5. Approve the issuance of up to US$500 million in a privately placed convertible murabaha through a special purpose company set up by the bank or established at its request.  (That is, the SPV will lend to GFH.  It will obtain its funding from various investors.)
6. The profit rate ("interest rate") on the murabaha to be the "market rate" according to the rate and formula established by the Board of Directors shortly before issuance.  Such profit rate to be payable in cash or additional GFH shares.
7. The conversion price to be between US$0.31 and US$0.40 per share - with the rate of discount not less than 20% to 40% of the market price of the shares - but not below the nominal share price.  The conversion price to be set by the Board shortly before issuance.
8. A tenor of 3.5 years.
9. Conversion at investors' option with right of Board to offer an early conversion "incentive" according to conditions the Board will set.  Note that means that the murabaha does not count as equity for either regulatory (CAR) or accounting purposes until it is converted.  For the latter, only the embedded equity option is counted as equity under IFRS.
10. Waiver of pre-emptive right of shareholders to new equity.
11. Authorization for Board or whoever it appoints to take necessary legal steps to implement and for Chairman or whoever he appoints to sign the necessary legal documents.
12. Conversion of GFH's share register to electronic form according to the rules of the Central Bank of Bahrain and the BSE.

Now a look behind the curtain via some hopefully informed analysis:

A.  Share Swap - KHCB for GFH

1. GFH gets several benefits from this transaction.
2. Immediate strengthening of GFH's creditstanding.  KHCB is a better asset than the Water Park, which is why the West LB syndicate asked for the former.  Probably better earnings and better future.  The Water Park like the Riffa Golf Course, no doubt, looked like a very "wise" idea on paper.  In the real world, it's probably not.
3. Regulatory relief on the CAR - a matter of great importance to GFH who sit right on the edge.  The first way this comes is by moving this "puppy" (the water park, which is risk weighted in the GFH's CAR calculation) to someone else's kennel (balance sheet).  In return GFH gets KHCB, increasing ts holding from 36.99% to 46.99%.  Currently, GFH partially consolidates  KHBC, and, thus,  it doesn't have to worry for CAR purposes about fluctuations in KHCB's share price - which has dropped by roughly 50% since last year this time.  Since KHCB's CAR is roughly 31% as at 30 June 2010, the impact on GFH's Risk Weighted Assets and thus its CAR should be positive.
4. As you'll notice, the US$3 million owed to Mr. Janahi can be paid in cash or GFH shares.  So there's a potential boost to equity if the latter can be used to settle this amount.  Treasury Shares are deducted from Shareholders' Equity at their cost. What this means is that if GFH gets more than zero in proceeds from the sale or conversion of Treasury Shares, the amount of its Shareholders' Equity will go up by the amount of the proceeds received.  This happened in 2Q10 where GFH sold US$29.1 million (original cost) of Treasury Shares for US$7.6 million and recognized a US$7.6 million consequent increase in Shareholders' Equity.  While admittedly a small card in the scheme of things, this could be just the thing that helps GFH keeps its head about the 12% threshold in a close situation.   As I suspect the 2Q10 Treasury Share sale was.
5. And, to round things out, a footnote on KHCB.  Without qualifying my opinion about the  credit benefit of acquiring KHCB, I call your attention to Note 3.4 in KHCB's Basel II Pillar 3 Disclosures as of 30 June 2010, which shows that some 24% of its Islamic Financing Assets are past due.  According to that information, some 42% of the past dues (BD47,385 - which is the total amount of the past due loans not just the past due installments which  are BD10,487) are up to 30 days late.  Proceeding cumulatively, 51% up to 60 days, and 72% up to 90 days.  According to KHCB's risk classification system, some 59% of the past dues are rated Credit Grades 1-6.  Personally, I would have thought a past due loan  would automatically go on the "watch list" (Credit Grades 7-8) but then I don't have the details of KHCB's loan portfolio including collateral.  In any  case those concerned with KHCB should keep an eye on this area to see if there is deterioration or improvement in the future.

B.  Capital Reorganization

1. Under the Bahraini Commercial Companies Law of 2001, GFH is obliged to take action now that accumulated losses are 75% or more of paid in capital. Approved methods for rectifying this situation are:  (a) reducing paid in capital by an amount sufficient to offset the losses and/or using other equity reserves (share premium, statutory or voluntary reserves), (b) raising additional capital and (c) a combination of (a) and (b).  Generally, financial institutions use Method (c).  In some cases a bank might get away with merely offsetting the losses against existing capital - assuming its pre-reorganization CAR were robust.  GFH's is not so it must do both.
2. As you'll notice, GFH is not using its reserves.  Why? Very simply put:  the path it has chosen is designed to make the murabaha more attractive to investors.  Under GFH's plan, they will get more of the total shareholding of the Bank for each dollar they contribute.  
3. 1H10 financials  provide the details of the components of GFH's capital.   If GFH were to use its US$206 million share premium and US$85 million statutory reserve  (total US$291 million), it would only have to "use" US$192 million of paid-in-capital.  Thus, leaving original shareholders holding US$433 million in common equity instead of US$142 million. 
4. To take control, the new money would have to put in US$433 million plus $1.  Under GFH's reorganization plan it only needs to put in US$142 million plus $1. 
5. Similarly, if the new investors put in the full US$500 million, under GFH's plan they get 78% of the total equity.  If the reserves were used as outlined above, they would only get 54%.
6. Clearly, there is a conflict here.  Existing shareholders want to be diluted as little as possible.  New shareholders want the most value for their new dollar.  Sadly for the existing shareholders, including the even "wiser" ones who invested in late 2009, their money is already spent.  The new and presumably much wiser investors need to be persuaded to part with their money.  GFH has set  the reorganization and the terms of the murabaha to make it as easy as possible to get the money that it desperately needs.

C.  US$500 Million Murabaha

1. Use of an SPV as the lender can be quite a useful device in shielding the identity of the new lenders/shareholders, particularly if the SPV is not incorporated in Bahrain.  It will depend on how much transparency the CBB wants to demand here and how far it can push this Bank which has an important and powerful friend in Bahrain.
2. One would expect the market rate for unsecured GFH debt to be rather hefty.  And the value ascribed to the option on GFH shares much less so.  The Board will price "at market" - which will mean in effect what investors demand. 
3. The approval also provides for a discount from market price of between 20% to 40%.   This is where the reverse split comes to play.  There is nothing in the Bahrain CCL that requires this as part of the capital reorganization.  I suspect GFH is hoping that  the reverse split will work a bit of magic on their market price.  Over the past two weeks, GFH has traded at KD0.033 (roughly US$0.11) per share.  A 4:1 reverse split should bring the price to say US$0.44 per share - allowing the Board to discount the conversion price to say just a whisker over par to make the transaction even more attractive. 
4. "But wait there's more" as they say on the late night TV ads for the ShamWOW!  The Board is allowed to offer an incentive (terms unspecified in the approval) for an early exercise.  That allows an even greater discount to attract new investors.  So, if the conversion price is set at a whisker over par, can the Board issue shares below par through this device? 
5. You ask about the hapless existing shareholders?  Well, GFH already has their money and needs more.  So they are out of luck.

KSE announcement below.

[12:17:53]  ِ.اجتماع الجمعية العمومية العادية و غير العادية لبيت التمويل الخليجي
يعلن سوق الكويت للأوراق الماليه بأن بيت التمويل الخليجي أفاده بأنه
سوف يتم عقد جمعية عمومية عادية و غير عادية للبنك في الساعه 9 من
صباح يوم الاحد الموافق 31-10-2010 في فندق منتجع و قصر العرين
وقد طلب البنك ايقاف التداول على اسهمه في السوق اعتبارا من اليوم
الاحد الموافق 17-10-2010 وحتى اشعار اخر حيث حصل على موافقة ‏
مصرف البحرين المركزي على ذلك .‏
هذا وسوف يتم خلال الجمعية العمومية مناقشة ما يلي
أولا : جدول اعمال الجمعية العامة العادية
ِ1- المصادقة على محضر الاجتماع السابق .‏
ِ2- المصادقه على معاملة استبدال الاسهم بين بيت التمويل الخليجي و رئيس
مجلس ادارته السيد /عصام جناحي و التى سيتم بموجبها تحويل حصته في المصرف
الخليجي التجاري ش.م.ب بالكامل (104.923.734 سهم ) الى بيت التمويل الخليجي
مقابل الحصول على حصه البنك في شركة العرين للترفيه و السياحه ش.غ.خ و ‏
البالغه 100% (جنة دلمون المفقودة) بالاضافه الى مبلغ 3 ملايين دولار تدفع
اما نقدا و / او بواسطة اسهم خزانه بيت التمويل الخليجي .‏
ِ3- الموافقة على تغيير سجل مساهمي البنك من سجل عادي الى الكتروني ‏
وفقا لاحكام مصرف البحرين المركزي و سوق البحرين للأوراق الماليه .‏
ثانيا : جدول اعمال الجمعيه العامه الغير عاديه ‏
ِ1- المصادقه على محضر الاجتماع السابق .‏
ِ2- التباحث في والمصادقه على دمج الاسهم الصادرة لبيت التمويل الخليجي ‏
بمعدل 4:1 لينتج عن ذلك تخفيض عدد الاسهم الصادرة من 1.896.332.565 سهم
الى 474.083.141 سهم .‏
ِ3- التباحث في والمصادقه على تخفيض راس المال المدفوع من 625,789,746.45 ‏
دولار امريكي الى 142,224,942.375 دولار امريكي بسبب الخسائر المتراكمه ‏
ِ(سيقدم المدقق الخارجي السادة كي بي ام جي بيانا مستقلا يتعلق بتاييدهم لهذا
التخفيض ) .‏
ِ4- التباحث في والمصادقه على خفض القيمة الاسمية الجديدة للاسهم والتي ‏
ستبلغ 1.32 دولار امريكي بعد الدمج و تخفيض راس المال المدفوع المشار اليه
في البندين 2 و 3 من بنود جدول الاعمال الى 0.3075 دولار امريكي .‏
ِ5- التباحث والمصادقه على قيام بيت التمويل الخليجي من خلال اية شركة
غرض خاص يؤسسها البنك او تؤسس بناء على طلبه لاقتراض ما يصل ‏
الى 500,000,000 دولار امريكي من خلال مرابحة تمويليه قابلة للتحويل
الى اسهم بناء على البنود و الشروط التاليه :‏
ِ- معدل ارباح يحدد وفقا لسعرالسوق ووفقا للمعدل والصيغه المحددة من قبل مجلس
الادارة قبل وقت قصير من تاريخ السحب . يمكن دفع  هذا الربح نقدا او في صورة
اسهم عينية في بيت التمويل الخليجي .‏
ِ- سعر تحويل يتراوح من (0.31 دولار امريكي الى 0.40 دولار امريكي) ‏
ِ(بمعدل خصم لا يقل عن 20% الى 40% من القيمة السوقيه في اعقاب
الدمج بحيث لا تقل عن القيمة الاسمية للسهم) فيما سيتم تحديد السعر النهائي ‏
من قبل مجلس الادارة قبل فترة قصيره من تاريخ السحب .‏
ِ- مدة تصل الى ثلاثة سنوات و نصف .‏
ِ- غير مضمونه و لكن قابله للتحويل بمحض خيار المستثمر الى اسهم في بيت
التمويل الخليجي قبل انتهاء المدة ووفقا للشروط التى يحددها مجلس الادارة.‏
ِ- حافز التحويل المبكر لتشجيع المستثمرين على التحويل الى اسهم قبل
نهاية المدة وفقا للشروط التى يحددها مجلس الادارة .‏
ِ6- منح التنازل عن حق الاولوية الخاص بمساهمي بيت التمويل الخليجي ‏
فيما يتعلق باصدار اسهم عادية جديده سيتم اصدارها عند تحويل تمويل المرابحه
وفقا لبنود الفقرة 5 من جدول الاعمال .‏
ِ7- تخويل مجلس الادارة و/او من ينوب عنه للقيام بجميع الاجرءات الرسمية ‏
المطلوبه و الصحيحه لتفعيل تمويل المرابحه بما في ذلك دون حصر تحديد و/او
تعديل شروط المرابحه والمستندات الاخرى ذات العلاقه .‏
ِ8- تخويل رئيس مجلس الادارة او من ينوب عنه بالتوقيع على تعديل عقد
التأسيس و النظام الاساسي نيابة عن المساهمين امام كاتب العدل فيما يتعلق ‏
بالتغييرات في راس المال لتعكس ما تقدم .‏
علما بأنه في حالة عدم اكتمال النصاب القانوني لهذه الجمعية سيكون الاجتماع ‏
الثاني يوم الاحد الموافق7-11-2010 في نفس الزمان والمكان وفي هذه الحاله ‏
ستسري احكام الماده 57 من النظام الاساسي للبنك. وفي حالة عدم اكتمال النصاب
القانوني في الاجتماع الثاني ، سيتم عقد اجتماع ثالث يوم الاحد الموافق ‏
ِ14-نوفمبر-2010 في نفس المكان و ذلك بسريان احكام المادة 57 من النظام
الاساسي للبنك . ‏

Dubai Courts: Potential Conflict of Jurisdiction Between Onshore and DIFC Court

Bradley Hope over at The National reports on the case between Taleem versus Deyaar and National Bonds.  In September the DIFC ruled that the case could be heard in its system.  Earlier National Bonds had sued Taleem in Dubai Civil Courts. 


Justice Chadwick of the DIFCC wisely did not issue an order to the DCC to stay their proceedings preferring sensibly to wait until he sees their ruling.  At that point if it is contrary to the DIFCC's then it will be time no doubt to seek the intervention of a higher power.  And hopefully this case will lead to a mechanism for co-ordination between the two courts on future such situations.

It seems this is all about a failure in precision to specify the governing law and judicial forum.  And so I'd mark this down to a lapse in one of the most routine matters of contract drafting.  As the episode of Shuaa's convertible securities, those of Citi Group, and those of  National Bank of Umm AlQaiwain show, it really does pay to pay attention.

And as with the examples cited above, the amount involved is no small beer -- AED236.6 million.  

Hard to understand this.  The parties to the examples mentioned above consider themselves sophisticated firms.  The amounts are substantial.  Yet they fall down on rookie mistakes?

Esterad Convertible Bond Offer Withdrawn

Further my earlier post, today Esterad announced on the BSE that it has withdrawn its Convertible Bond Offer due to "prevailing market conditions" and that BBK (the Collecting Bank) will return funds to those who did subscribe for the Offer.

As well, Esterad also announced that its ordinary general meeting of shareholders would be held on 30 March.  More importantly it disclosed that its Board had recommended against any cash distribution (dividends) for the fiscal year 2009.

That latter point is signficant, though not surprising.   

The company didn't pay dividends in 2008, a year in which it had a net loss of roughly BD 11 million (income statement) and a BD 14 million comprehensive loss.   For 2009, it had net loss of BD 3.8 million (income statement) and BD1 million in comprehensive loss.  The difference between net income or loss and comprehensive income is that comprehensive income  (or in this case loss) includes changes in equity, such as fair value changes,  that do not pass through the income statement.  

It should be noted that from at least 1975 through 2007, Esterad paid cash dividends each year with the latter years at a generous 45% distribution rate.

Esterad Rumored to Have Pulled Convertible Bond Issue

I heard that Esterad has announced that it is withdrawing its BD 7 million  (US$18.6 million) convertible bond offer and that the Collecting Bank (BBK)  will be returning subscription funds to investors.  I didn't see anything in the Bahraini press, though to be candid, I did not do an "e" - search. 

Earlier Esterad had extended the period for subscriptions saying that several institutional investors had asked for more time to complete due diligence.  At that time, I  took that to be a strong indication of less than robust demand.

There should be something in the press tomorrow (meaning Sunday's paper) or an announcement at the BSE so until then treat this as a market rumor.

Esterad Convertible Bond Offer Period Extended to 31 January

 

As per its announcement on the BSE today, Esterad has extended the offer period for its new convertible bond issue seven days (to 31 January) in response to a request by institutional investors for more time for due diligence.

Clearly, the issue is not flying off the shelves or Esterad would not be extending.  On a positive note, it's nice to see investors exercising a bit of due diligence before making a commitment.  Previous post here.

Esterad Bahrain Offers Convertible Bond

I thought that readers might find the transaction description of interest.  So here's the link.

The announcement provides a description of several of the requirements/features under Bahrain law:

1. Shareholder pre-emptive rights
2. Renunciation of those rights
3. Conversion mechanism (See comment below)
   

Regarding the conversion, you will notice it is at the option of the bondholder not the issuer.

And you will notice the strike price mechanism provides the buyer a bit of protection.  If the book price (and note that is not the same as the market price) goes below BD0.365 per share, the bondholder may convert at the book price.  Current trading range for the shares is around BD0.300 and the book value is close to the strike price.

Tie Your Camel First, Then Trust in God Part VI - The Implicit Guarantee Defense - Turnaround is Fair Play

According to the Financial Times, in deciding to make its investment in Citigroup the Emirate of Abu Dhabi "assumed the US government would make any investor in Citi whole".  They also apparently believed that "Citi is America" as the sophisticated head of another unnamed sovereign fund in the region so carefully summed up the matter.

The article also notes that ADIA plunked down US$7.5 billion after "only three days of due dilgence".

Seems it's not only sophisticated and sober investors and bankers from the West who believe in the implicit guarantee and apparently as well the Great Magic Pumpkin, though it may be lonely in the pumpkin patch at times.

Some hopefully helpful hints:

1. "Too big to fail" does not mean too big to have one's share price go down, way down.  
2. There appears to be a real unmet need in the region, particularly the UAE,  for courses in convertible bond/security basics and structuring. And thus a significant  business opportunity to be seized.
   

Earlier posts here and here.

ADIA Files Arbitration Claim to Terminate Citigroup Stock Purchase

Bloomberg reports that ADIA has filed an abitration to abrogate its obligation to purchase Citigroup stock at a price currently more than 9 times market.

Here's a more detailed report from Reuters.

As you'll recall, ADIA invested US$7.5 billion in Citicorp mandatory convertible securities in November 2007.  The strike price is a rather unattractive US$31.83 per share with the first purchases scheduled to begin in March 2010.      Earlier post here.   Citigroup is opening this morning around $3.47 share.

Another post on convertible securities and the importance of deal terms.

The Tail of Two Investments: Citibank and ADIA and KIA

No, AA's spell checker isn't off this morning, though it may take one more cup of Cafe Najjar to bring all the lights fully on.

Tail is a deliberate choice: 

1. Barring a miracle or a negotiated settlement with Citi, one is facing a substantial loss beginning next March.  
2. Another has just exited an from investment in Citibank at a hefty profit.   So we are at the tail of the investments.

The first is ADIA who back in November 2007 invested US$7.5 billion in Citibank mandatory convertible bond with an 11% coupon and conversion to take place between US$31.83 to US$37.24.  Around the time the deal was struck Citigroup was trading at $32 to $33 per share.  ADIA in effect sold Citi a put option (the right to sell Citi shares to ADIA at a fixed price).  As well  ADIA also gave Citi the first 17% of the upside (the movement in share price from $31.83 to $37.24).   ADIA only gets the upside  if the share price goes higher when for example say it would get Citi shares trading at $41 for $37.24.   An investor would do a deal like this if  its expectations for volatility in Citi's stock was low for  the option period. Or if it believed that volatility was all one way -- the upside.  ADIA recently was cashed out by Citi at the lower $31.83 price.  Citi's stock price is roughly US$4.00 now.  You can do the math on the  impending loss based on market price.   Here's an article from The National.  Recall AA's earlier post on the AED 1 billion camel.

The second are KIA who bought US$ 3billion  (I think Series B 1) from the US$12.5 billion convertible issue in January 2008 - roughly two months after ADIA's investment  The conversion price  was US$31.62 per share.  KIA has recently claimed a profit of US$1.1 billion.  Just in time for the interpellation sessions with the Majlis Al Umma.  You'll recall that earlier the MPs objected to the investment.   They say timing is everything! And that's not just investments but also politics.

Here's the WSJ article on KIA's US$1.1 billion profit.

So what happened?

As you'll recall, Citibank had an exchange offer mid year in connection with an "investment" by the US Government in its stock via the conversion of preferred shares.  Other preferred security holders were given the option of joining the deal. In fact it was a condition.  Uncle Sam agreed to match US$ for US$ any private sector conversions on these terms.  Some background here and here  and here.  In summary,  preferred securities could be exchanged for common shares at US$3.25 per share.  Citi was trading at approximately half that price at the time.

ADIA didn't participate in the exchange.  KIA did.

For the nominal value of its US$ 3billion of preferred stock, KIA would have gotten 923 million shares.   To reach the US$4.1 billion in sales proceeds mentioned in the articles, KIA would have had to sell at higher than the current US$4.06 per share.  Or  sell something over 1 million shares.  Perhaps it had an additional 86.8 million shares from capitalized preferred dividends?

Two questions remain:

1. Who bought KIA's stock?  At what price?
2. Can ADIA renegotiate its deal with Citi?  (It's unlikely the Citi's price is going to $31 in four months).
   

Global Investment House Kuwait - Seized Deposits

As per GIH's financials, two deposits totaling KD115 million (US$402.6 million) have been attached or otherwise seized by third parties and are now the subject of legal actions. 

KD71.75 million of this amount relates to an investment that GIH had intended to make in National Bank of Umm AlQawain ("NBQ") for KD183.6 million (US$642.5 million) to purchase a 20% stake.  The two parties signed an MOU in July 2008.  GIH placed the equivalent of KD 71.75 million (US$249.9 million)  with NBQ.  (I suspect the amount placed was US $ or AED as the amount fluctuates from one quarterly report to another.  It would not if the amount were denominated in KD). 

Subsequently, GIH obtained commitments for a US$410 million loan to fund the remaining amount of the purchase price.  In November 2008, it decided not to proceed, canceled the loan and asked for its deposit back.  

NBQ refused alleging breach of contract.  See NBQ's 2008 Annual Report Note #13. (You will have to page through this as it is interactive).

Reportedly, a court in the Emirates gave the first round to NBQ.  No doubt there will be several more rounds.  The two parties' legal arguments are summarized in this article.

The second amount, KD43.2 million (US$148 million), is a deposit placed with a Kuwaiti bank by a subsidiary of GIH (AlThouraia) which that bank offset against obligations owed to it by GIH.  

The total KD 115 million represents roughly 0.1% of GIH's total cash of KD89.6 billion.  From that standpoint it's not a highly significant amount.  

From an equity standpoint, if GIH were to lose the court case against the Kuwaiti bank, the result should be no impact on equity as it would merely be a substitution of liabilities - the liability of GIH towards the bank replaced with one towards AlThouraia.  At some point GIH would have to make its subsidiary whole by transferring funds or other value.

With respect to the NBQ case, it's difficult to make a statement.

It is hard to understand the basis for this lawsuit.  In other words hard to fathom how a properly worded MOU could create a contractual obligation.  But then again AA didn't understand the structure of the convertible bond agreed to by Shuaa Capital and Dubai Banking Group.  Since the NBQ/GIH deal is also structured as a convertible, it may be that some cutting edge financial innovation in the Gulf has produced  a breakthrough in convertible deal structuring.  Or then again maybe just a breakdown. 

In any case, it's hard to imagine the UAE court confiscating GIH's deposit in toto.   

However, even if it did, the damage should be containable.

The One Billion Dirham "Camel"

"Tie your camel first, then trust in God."

SRA

(Jami'y al-Tirmidhi)

Given the anniversary, a belated postmortem of the AED 1.5 billion convertible bond deal beween Dubai Banking Group ("DBG") and Shuaa Capital ("SC") and DBG's resulting AED 1.016 billion (US$277 million) loss - slightly more than the cost of the average camel.

On 31 October 2007, DBG and SC sign an agreement for a one-year convertible bond.  The bond has a quarterly 6% coupon and is convertible into 250 million SC shares.  The stated conversion price is AED 6.000 per share.  However, since as part of the deal DBG advanced SC another AED 176 million (so SC could terminate its stock option program), the effective strike price per share is AED 6.704 - approximately SC's market price at signing.

Fast forward to the maturity date one year later.  SC shares are trading at AED 2.71.

Not surprisingly, DBG has no interest in converting.  To do so would result in an immediate loss of AED 998.50 (US$272 million) - roughly 60% of the initial investment.

However, SC issues a conversion notice, advising DBG that the bond has been converted to shares.

What?  How could that happen?

Clause 6 in the Note Certificate allows both parties - SC and DBG - the right to force conversion.

DBG refuses, threatens litigation to force repayment.  The parties embark on a very public drawn out dispute.

On 25 June 2009 they announce a settlement:  the bond will be converted into 515 million SC shares.  The resulting strike price is billed at AED 2.91 per share - though when the extra AED 176 million is factored in, the strike price is actually AED 3.25 per share.  At this point SC's shares are trading at AED 1.28.

Using market value, DBG has just paid AED 1.676 billion for AED 659 million in shares - a loss of AED 1.017 billion (US$277 million) - 60% of its initial investment.   One heck of a "control" premium.  DBG's one consolation is that it owns a lot more of SC than it would have under the original conversion terms.  Somehow I'm suspecting that may be cold comfort.

Of course, markets move.  Anyone with a stock portfolio in October 2007 has seen some wide and painful movements.

But the whole point of a convertible bond is the structure is designed to give downside protection.   To combine the "safety" of a bond with an option to capture  potential price appreciation.   One only converts if the stock price is favorable.  If not, one cashes in the bond.

But for this to work,  one can't give the issuer of the bond the right to convert because as shown by the above example, the issuer has an incentive to convert when the market price of its stock is below the strike price. 

I'm at a loss to explain this transaction from any banking or finance principle I know.

If anyone out there can, please post.

To rephrase the hadith quote above:  "First, tie down you deal terms firmly, then trust in God".

For those interested in more background, additional documents and information can be found here as part of shareholder information for SC's March 2009 EGM.