“Boring” IMF Report Contains Interesting Information on Dubai

The typical reaction to a report issued by one of the multilateral agencies is a polite "yawn" as one consigns it to the bin. That is a mistake that both investors and lenders make because these reports often contain important information. Information the IMF gains through its special access to the sources.  And which often is better than that given creditors or rating agencies.

What can be learned from these reports? 

1. Insights into fundamental factors or conditions that can help one look beyond the current hype – whether it's irrational exuberance or unjustified pessimism. From these agencies' autopsies of earlier financial problems, one can develop an insight into the factors that were associated with problems in other countries. Not universal laws. Nor magic equations that infallibly predict the future. But reasonably good early warning indicators that help one identify situations that lead to potential problems or are themselves symptoms of such problems.  One can also develop some ideas about the likely exit path if a problem hits. What happened in other countries? How severe and how long were those problems? And some "back of the envelope" comparative metrics one can use to make directional (but not exact) predictions of the path and severity of a  similar problem in another country.  Or at least set bounds on the severity estimate and likely paths.  This information is not only useful when the crisis hits, but when one is considering whether to make the initial investment.  Or if one has made the initial investment (or loan) when might be a good time to get out. - hopefully before the crisis occurs.   For example of this sort of information see the comparative analysis of real estate crises in four countries on Page 23 which might give some insight into the potential impact on UAE banks.
2. Then robust data on that country with which to apply these insights - or at least as robust as the country is able or willing to disclose.  One can use that data to see if those same conditions that caused problems in other countries are developing in this country. To what extent? Or, if the crisis has hit, what are the new vulnerabilities and exit path? 
3. Finally, other information - facts and judgments. For example, this report contains  an estimate of the amount of debt of Dubai Inc and the Government of Dubai.  The maturity profile. And, as I've noted in earlier posts, sometimes in the diplomatic language of the reports, one can discern the multilateral agency's assessment of problems and it sconcerns.  In some cases pointing out problems.  In other cases pointing out trends that will lead to fundamental changes from past. behavior  As an example of the latter look at the discussion the labor market in structural issues below.

Here's the link to the IMF "Staff Report for the 2009 Article IV Consultation" with the UAE so you can not only follow the analysis below, but also read and "wring" out additional bits of information.  This post long as it is does not discuss every insight or bit of information in the Report.

Pages 38 to 49 contain a special section on the Dubai World Debt Situation. 

Let's take a look at these first as they are likely to be of the most immediate interest to most readers.  But don't skip the section after that which discusses the main body of the Report.  It has some interesting information.  

Now to the topic of keen interest - the Dubai World Restructuring.

1. Page 39 Paragraph 6 "Dubai Inc. dominates the economy of Dubai (Annex Box 1). Dubai Inc. is a network of commercial companies and investment arms owned directly or related closely to the Ruler of Dubai, his family, or the Government of Dubai (GD). At its simplest, Dubai Inc. consists of three holding companies, Dubai Holding (owned by the Ruler), Dubai World, and the Investment Corporation of Dubai (both owned by the GD). A few other companies are owned jointly. Each holding is present in Dubai's growth engines and this overlap has fostered competition as well as duplication. Each holding has choice assets with solid earnings, as well as start-ups requiring large amounts of capital upfront, particularly in property.3Dubai's private companies are mostly owned by old merchant families. The private sector is fairly small and dependent on Dubai Inc.'s business." What this suggests is that the collapse of the Dubai development model (leveraged real estate development) and the sharp decline in many (but not all) foreign assets are going to have a serious effects on Dubai until there is a turnaround in Dubai Inc's fortunes.  Probably not a near term event.
2. That's reinforced by Paragraph #8 on Page 40 "DW's real estate interests are concentrated in Nakheel Properties, Limitless World, and Istithmar World. Nakheel's focus is Dubai; Limitless World, a more recent company, has comparatively more overseas real estate ventures; and Istithmar World is an investment arm with several overseas property-related interests. Although consolidated financials of Dubai World are not public, Nakheel and Limitless likely constitute about half of Dubai World's assets, the rest being held mainly by DP World, JAFZ, and Istithmar. Nakheel's remaining interests in overseas properties were transferred to Istithmar in September 2008." Assuming the statement that troubled real estate assets are roughly 50% of Dubai Inc's holdings, there is going to be a substantial ongoing drag on the Emirate.  Cashflow from existing projects is likely to be negative - diminished cash from operations eroded by heavy financing  charges.  And limited opportunities to sell the assets.   As  new projects are likely to remain stalled.  Since property and construction have represented 25% of economic activity, a slowdown in new projects will be another stress on Dubai.  Even assuming a relatively quick agreement with creditors on a restructuring, these problems are going to weigh on Dubai. Talk of any sort of a rebound in 2012 seems very premature. 
3. On Page 41, you'll find a handy chart showing the companies belonging to each of the three holding companies: Dubai Holding, Dubai World, and ICD. And the following pages contain some additional information on the various entities in each of the three.
4. On Page 45 there is a breakdown of DW debt between local and foreign banks. "Information on debt within the DW standstill perimeter has become clearer than on debt of DW's consolidated or Dubai Inc.'s debt. At this time, and after the payment of the Nakheel 09, the standstill perimeter is about $22 billion (in local and foreign currencies), of which $12 billion is in the form of syndicated loans, $7.5 billion corresponds to bilateral loans and $2.5 billion to bonds. The share held by national banks is 45 percent of the total ($10 billion), of which 2/3 is to Dubai-based banks (6 percent of their book) and 1/3 to Abu Dhabi banks (3 percent of their book). The national banks also hold 80 percent of the Nakheel 10 and 11 sukuk bonds. The debt subject to negotiation is owed by Nakheel, Limitless, and by DW at the holding company level (DW Holding, DW Group Finance), the largest component being at the holding company level. The extent and form of the needed debt restructuring will become clearer as the negotiations between DW and its creditors progress."  This quantifies the UAE bank exposure and raises some questions about market access.  Was this exposure built up in the last few years as foreign creditors reduced appetite for DW debt? Were local banks "stuffees" on deals the market wouldn't absorb?
5. Page 49 has IMF estimates of the Emirate of Dubai's Debt with a breakout of Dubai Inc's debt.  And then a further allocation within the constituent parts of the Dubai Inc . The headline number which you've probably read elsewhere is some US$109.3 billion for the Emirate.   That is 130% of the Emirate's GDP - not a comforting ratio.  But the IMF estimate does NOT reflect all liabilities.  There are amounts due to contractors for work already performed.  Advance payments taken from customers for real estate purchases.  So the total amount of Dubai's liablities is likely to be much more.  The debt burden measured in US$ or in terms of percentage of GDP is therefore much more.  All of which implies a severe economic burden to unwind the position - to pay down the debt.  To de-leverage.   In an article today, The National estimates another US$ 60 billion.  Whether that's the right number or not isn't clear.  Unfortunately, the financial statements of DW, DH and ICD  are not available.  Otherwise one could use these to round out the liability estimate.   So with the caveat that US$109.3 billion may be significantly understated, let's drill down to see what additional ew can learn.  First a look at the overall composition of debt among the various Dubai Inc entities and the Government of Dubai.  A boom built on a "credit card".
   

Entity	Total Debt (US$ Billions)	Percentage
Dubai World Entities To Be Restructured	US$ 14.35	13.1%
Other Dubai World (DW Ports, etc)	US$ 11.69	10.7%
Dubai Holding	US$ 14.79	13.5%
ICD	US$ 20.40	18.7%
Other Dubai Inc	US$ 24.35	22.3%
Dubai Inc Total	US$ 85.59	78.3%
Government of Dubai	US$ 23.70	21.7%
Total All Govt Related Dubai Debt	US109.29	100.0%

Now an estimated maturity profile (amounts in US$ billions) to outline cashflow demands on Dubai.  For the DW entities to be restructured, their problem is a near term two-year window of "bunched" maturities.  This occurs at a time when there are much heavier cashflow demands on other Dubai Inc entities. It doesn't seem that there are resources that could be taken from other entities in the Group to tide over Nakheel, Limitless and Istithmar.  And with these sort of amounts, a clear need for refinancing.  The Emirate remains dependent on banks and investors - probably foreigners as the Central Bank of the UAE tamps down on credit from local banks.  At best higher margins.  At worst limited access which in itself might tip other entities into restructurings.  A difficult situation to navigate.

Entity	2010	2011	2012	2013	2014	Beyond
DW To Be Restructured	US$ 5.2	US$ 4.6	US$ 1.9	US$ 1.1	US$ 0.3	US$ 1.3
Other DW	US$ 0.2	US$ 2.0	US$ 5.7	US$ 0.5	US$ 0.0	US$ 3.2
Dubai Holding	US$ 3.5	US$ 3.2	US$ 0.8	US$ 0.5	US$ 2.1	US$ 4.6
ICD	US$ 2.0	US$ 5.8	US$ 5.7	US$ 3.0	US$ 0.1	US$ 3.8
Other Dubai Inc	US$ 4.7	US$ 8.8	US$ 4.9	US$ 1.8	US$ 0.6	US$ 3.6
Total Dubai Inc	US$15.5	US$24.4	US$19.0	US$ 6.9	US$ 3.2	US$16.5
Govt of Dubai	US$ 0.0	US$ 0.0	US$ 0.0	US$ 1.8	US$21.9	US$ 0.0
Total Dubai Govt Related	US$15.5	US$24.4	US$19.0	US$ 8.6	US$25.1	US$16.5

Note: Amounts do not add exactly due to rounding.

Now to the rest of the report.

1. Page 4: "With foreign investor confidence shaken and international capital markets less accessible, Abu Dhabi's policy of selective support to Dubai will play an important role in limiting contagion to the U.A.E. economy and the banking system." The key takeaway here in case anyone out there missed it is that Abu Dhabi is not writing a blank check to bail out its neighbor. And that reason for that is clear. In fact there are 109 billion reasons. 
2. Page 6: "The crisis unfolded with differential impact on Abu Dhabi and Dubai. It highlighted three key issues: (i) the contrast between growth based on hydrocarbon resources and that based on nonhydrocarbon diversification funded by maturity-mismatched leverage; (ii) the spillover effects and financial support structures in the federation; and (iii) the volatility of markets in response to a lack of information disclosure and transparency. In particular, the debt announcement undermined the widely held market perception of implicit government support, including from Abu Dhabi."  
3. Page 11 contains a series of charts that provide in graphic terms (sorry for the pun) an indication of the nature of the problem and some potential early warning indicators. First is the dramatic increase in foreign borrowing from BIS banks. The second is a chart showing the explosion in local borrowings beginning in 2004 where the growth curve moved from roughly a 6 degree angle to over 60 degrees. As noted in Paragraph #38 on Page 20 some US$ 100 billion of credit above the trend line was extended. Third is a dramatic rise in short term borrowings. Anyone familiar with the Asian Crisis of 1997 would recognize this pattern.  It's very similar to what happened in Thailand.  If that lesson had been assimilated, perhaps Dubai would not have crashed.  Or at least those who paid attention would have avoided the collapse.
4. Paragraph #21 on Page 13 brings home the point that while the IMF is projecting 0.5 percent growth for the UAE in 2010, that growth is going to be very uneven. Abu Dhabi's growth will be propelled by a significant public works program.  Dubai is going to stagnate.  Footnote 2 on Page 7 gives an indication of the growth differentials. If these 2009 statistics are any guide to the future, Dubai will experience negative growth again in 2010. Very roughly  8% or so negative assuming Abu Dhabi repeats 2009's 6% growth and using a very crude 60/40 split.
5. Page 14 contains a box with a detailed discussion of the  mechanics of the Dubai special insolvency regime for Dubai World. It also raises two questions as to whether its decisions will be recognized outside the Emirates (I'm guessing they will unless they seem to be overly slanted towards the borrower) and whether the special tribunal will enforce foreign judgments against DW entities. If the intent is that the tribunal is applying "global standards", then it should enforce foreign judgments - again presuming they are reasonable.  If one wants to play in the Premier League, one has to follow the rules.
6. Page 16 some quotes on the Dubai model of development. "Even though Dubai has achieved an impressive degree of diversification and has become a major trading and services regional hub, recent events call into question the sustainability of enhancing growth through large-scaled and highly leveraged property development. The Dubai authorities recognized that the recent events require a reassessment of Dubai's real estate sector to ensure the economic and financial viability of the emirate's corporate sector. As a result, over the medium term real growth was likely to be slower but more sustainable than in the period preceding the crisis. The authorities were of the view that Dubai had a top quality infrastructure, and that its hospitality, trade and logistics engines should continue to benefit from Asia's pull. Although the scope of the restructuring was still being defined, the focus would be on refinancing the property sector."  The question is what replaces the old model.  The implications for growth seem to be clear.  Less growth. Normal commercial activities are not going to deliver the growth that a speculative property boom did.   Less growth also has a negative implication for debt service abilities.  For the rise of asset values.
7. Page 18 a confirmation that the Dubai crisis has strengthened Abu Dhabi's hand. "The authorities emphasized that the crisis had encouraged greater cooperation between the federal and emirates levels of government and between the emirates themselves. Going forward, Abu Dhabi would continue to support Dubai in its efforts to achieve a viable position. However, the Abu Dhabi authorities emphasized that Abu Dhabi was not legally liable for DW debt and that any decision to extend support would be made on a case-by-case basis. In this regard, they stressed that they did not want to create moral hazard by supporting potentially nonviable corporations, but would provide support if necessary to limit contagion to the .A.E. economy and banking system." Greater co-operation will mean more centralization. Abu Dhabi will benefit from that. And "moral hazard" probably also encompasses the hazard to Abu Dhabi's check book given the size of Dubai's obligations. 
8. Page 20 gives some idea of the credit growth that lead to the crisis. " The U.A.E. financial system entered the global crisis exposed to a highly leveraged economy. The system is bank-based and focused on the domestic economy. Commercial banks expanded credit very aggressively during 2004–08, generating about $100 billion of credit above the underlying trend growth. Credit growth was the fastest among emerging markets by a good margin, and the capital base was disproportionately low for such growth (figure 4). During this period, banks by and large did not retain sufficient profits to maintain capital buffers, despite their exposure to an economy with significant leverage. Nevertheless, banks remained highly rated throughout 2004–08, in part reflecting perceived support from governments and in some cases government ownership. In addition, banks' liabilities (deposits and interbank loans) have been under 3-year blanket federal government guarantees since September 2008."  Hence the Central Bank of UAE initiatives to force banks to retain capital by limited cash dividends for 2009 and imposing tighter provision requirements.
9. Pages 23 to 25 present stress tests of the banking system for various haircuts. Paragraph 41 on Page 23: "However, the DW debt situation has increased the need for additional capital as these contingencies have become more likely to materialize. The uncertainty created by the prospective debt restructuring implies that banks may need material capital buffers above the regulatory minimum to maintain adequate ratings for dealing with market counterparties. To illustrate, assuming that banks need at least a 14 percent CAR, the additional capital needs would be about $6 billion or 2.7 percent of GDP. 5he possibility of a principal haircut on the DW debt subject to the standstill cannot be ruled out, an outcome which would have a significant effect on banks' provisioning. As an illustration, staff estimates that the capital top up could reach 3.4 percent of GDP for a 25 percent haircut and 4.3 percent of GDP for a 50 percent haircut of DW debt subject to the standstill."  Something every equity investor in UAE banks should be considering in terms of anticipated performance. As well as something for foreign counterparty banks to consider in terms of the amounts, types, and tenors of credit they extend.  While the UAE has demonstrated a very strong intent to support its banking system, a careful creditor always looks at the underlying strength of the obligor. 
10. Page 24 provides an assessment of the quality and capacity of the Central Bank of the UAE as a regulator. "While the extra capital need appears manageable, the exercise underscores the importance of contingency planning, supported by intensified supervision. The global financial crisis is testing the CBU as a regulator, as it did with many other regulators. The DW standstill has increased the potential for surprises and, consequently, the need for a more pro-active supervisory approach and effective enforcement. The CBU could for example use more systematically its power to block dividend distributions in the interest of building larger capital buffers. There may also be a need to re-assess how exemptions to large exposure limits are granted in the case of GREs. Finally, CBU inspections follow a traditional model of rolling examinations of individual institutions, whereas the current situation suggests the need for simultaneous cross-firm examinations of specific risks such as sectoral concentration, name-lending, or deteriorating funding standards. In the latter case, the CBU's limited resources, including for off-site analysis, hinders such an approach." A clear criticism of a failure to control banks' exposure to groups like DW.  The Central Bank of the UAE has taken the IMF's advice.  It has limitied2009 cash dividends.  Paragraph 45 on Page 25 details other measures it is implementing: a 1.25% general reserve on risk weighted assets and the new 90 day non accrual rule. 
11. Pages 26 and 27 discuss three structural issues. Labor markets and the need for uptiering skills. As this unfolds, it's likely that labor will be imported from different countries than it is now.  This is going to have some strong implications for those countries, e.g., a decline in worker remittances, loss of safety valve for unemployment, etc.  The need for long term financing and the lack of adequate local financing sources. Until markets for term financing can be developed, a dependence on foreign financing will remain - probably with the same short tenor preference on the part of foreign banks and investors which was in part responsible for the current crisis.  Inadequacy of data that limits the government's ability to monitor the economy and formulate policy. This issue is also related to debt management since each Emirate has been responsible for its own finances.  Without co-ordination (ideally central direction) there is a potential for problems.

Those 67 "boring" pages were packed with a lot of information and, as well, hopefully some lessons useful for future investment decisions - both at the underwriting as well as the monitoring stages.  And there's still more to "mine" from the report.

Arabtec Stops Work on Nakheel Project Due to Non Payment

This article from The National is not encouraging.  AlFurjan is one of Nakheel's largest projects (housing).

If Nakheel is unable to conduct its business, it's not going to generate a cash flow.  It's also going to have a knock-on effect on other firms.  Not good news for bankers. Especially since a promise was made to use the Abu Dhabi $10 billion contribution to pay suppliers and contractors.

Limitless Seeks to Negotiate Multi-Year Contractor Payments

The National reports that Limitless is approaching contractors reportedly seeking four year payment terms.

As well it seems Limitless is scaling back or perhaps canceling other projects.

What's also interesting is the comment that despite earlier talk about Nakheel settling with contractors no payments have been made.

When you don't have cash, you can't pay.  And then it makes eminent sense to scale back or halt current or new projects.

On the topic of Nakheel, I posted last December on how contrary to what one might expect it was actually a source of cash to the DW Group rather than a cash drain as it apparently upstreamed loans within the Group.  If the funds used to pay its recently matured Sukuk are treated as replacement debt rather than a return of funds owed it by the Group, then its financial position will not have really improved.  It will just be a case of rotation of creditors.

The National: "Dubai to Take a Hit on Debt Exposure"

Frank Kane over at The National newspaper in Abu Dhabi with an update on developments in the  Dubai World restructuring saga.   

The title carries a pretty strong implication that there will not be 100% recovery for the lenders.  Not from the assets of Nakheel and other subsidiaries to be restructured.  Nor from the Shaykh up the road in Abu Dhabi.   And certainly not from his less rich brother in Dubai. 

It sounds like the intent is to offer several restructuring options.  Another sign of less than a full recovery.  No doubt with the tenor of each and certainty of repayment inversely related to the offered recovery amount. 

That's coupled with the news that the DFSF will after all not require that its loans have priority over other lenders'.  As you'll recall that's been a sticking point with lenders.  Having DFSF ahead of them in priority of repayment would make the haircut even larger.  It's unclear to me why this was ever raised in the first place.  Didn't DW realize this would provoke howls of outrage from the lenders?  What were they thinking?  

Or was the strategy to create a controversy to distract the banks?

The step by the DFSF is a way of making the pain of the banks a bit more palatable.  And the retreat could be tactical.  Give the banks a victory on this issue.  Then hit them with the haircut, noting that the DFSF was also subject to it.

One can look at any potential "hit" to DFSF from several perspectives.

Of course, if the DFSF is pari passu with other creditors then it will be subject to the same menu of restructuring options.  One would expect that the DFSF will be willing to take the longer tranches and be more patient with ultimate recovery, including losses.  As a governmental entity,  it will not face the same constraints that commercially oriented lenders will face with regulatory authorities' capital requirements, Basel II, the strictures of IFRS, shareholders, etc.  So it's pain on these scores will be less.  And unlike the lenders who made a bone-headed underwriting decision, the Fund stepped in to save the day so its losses are calculated and done for the "greater good".

The total "hit" taken by lenders can be assumed to be an economic benefit to Dubai - money it would not have to pay to the lenders to make up for any shortfall in assets.  Say the DFSF provides $10 billion to the restructured companies bringing total restructured debt to $32 million.  If there is a 30%  haircut, its gain is 2/3 of the 30% .  That of course ignores the losses that will be felt in the local banks in which it has an ownership interest.  

On the other hand wise and brave lenders out there should be applying any cashflow from the companies against principal.   Those banks from jurisdictions that levy income taxes and allow provisions and write-offs as expenses will also get an offsetting benefit courtesy of the tax payers in those jurisdictions - assuming of course that they actually pay enough taxes.  And where jurisdictions don't allow provisions/write offs as an expense, then reducing interest income (by applying payments to principal) could be a way of generating an expense for tax purposes.

Another bit of news is that DW's expectations now appear to be to reach a comprehensive deal in a couple of months to four months.  My guess is that it will be the latter.  If the restructuring menu has several options, that will be more working parts for the banks to negotiate over.  And then of course more choices to be made with consequent time required to evaluate each.  

The Central Bank of the UAE and Abu Dhabi are being "kept part of the dialogue, like many other constituent parts of the UAE. When the time comes for a proposal, nothing in it will be a surprise to Abu Dhabi."  Which implies of course that in the past they were surprised perhaps unpleasantly by the goings on in the Emirate "down the road from them" with its debt management or perhaps more appropriately mis-management.

Finally, many of the themes sounded by the "government" source in the article are from the script recently recited by the Lord, the Deputy, the IMF, and the Financial Times.  Transparency, fairness, equal treatment, etc.  I guess the bully pulpit can have an effect. 

Dubai World's Consolidated Assets More Than Twice Its Consolidated Debt: So What?

 

 

You've probably seen the press reports carrying the "good news" that Dubai World's assets (even after the market decline) exceed US$120 billion and could therefore easily "cover" its debt of US$57 billion.  Here's one sample.

The original article is here in Al Ittihad.

As you might expect, I've got some comments on the headline.  More on that later.  In the interim,  two words neatly sum up my reaction: "so what?"

But first to the real meat of the article: a discussion of the restructuring negotations.

Quoting an unnamed source, the article states that DW has been involved in intensive negotiations with its creditors and has achieved "tangible progress" during the past 25 days.  Creditors have reportedly shown "positive reactions" to the proposals submitted by DW.  The Company is concentrating its efforts on convincing creditors of the high probability of success because of two key factors.  Sadly, only one of them is mentioned in the article - the durability of its real estate and investments assets which have begun to demonstrate recovery of value recently.  The strategic nature of investments was noted.  That would I suppose make the financings that support them "strategic" as well as the repayments.  I am not certain, though, if the margin on such a loan would be strategic or just tactical.  One hopes that DW does not consider itself a "day trader".

The article then states that DW is focusing restructuring on its two "real estate" subsidiaries: Nakheel and Istithmar (?: I think Istithmar has wise investments in a variety of non real estate ventures).  Specifically mentioned as being excluded were Dubai World Ports, JAFZA, and Dubai Drydocks - all of which are recording "excellent operating results despite the world financial crisis which has affected world trade and transport."  Hopefully their bottom lines (net income) are doing equally well.

No mention of a formal request for a debt standstill.  No mention of any sort of draft proposals.  It still seems to me - despite this article - that progress is painfully slow.  And largely at the "touchy - feely" stage.  With nothing concrete to respond to, bankers are of course going to evidence all sorts of "positive reactions", especially if the coffee is good.  Or reactions that might be interpreted as positive because since they have nothing in hand concrete, they have not rejected anything.

Of course, such negotiations are not going to be conducted in the media.  It's going to be difficult enough herding the creditor cats.  But one would expect that some news beyond this rather superficial account would be in the press if really serious results had been achieved.  In that regard, it seems to me that securing the debt standstill is a key initiative.  This should be the easiest to achieve of all that will have to be done.  Once done, it is a visible milestone.  An accomplishment that gives a bit of psychological momentum to the process.  We've seen the opposite of this effect at The Investment Dar - where the standstill process has been a negative rather than a positive.

That being said, Mr. Birkett is an expert in this field so clearly I am missing something. I sure hope so.

Now to my comments.

It makes no sense to talk about the consolidated assets of Dubai World versus its consolidated debts unless those assets are going to be applied to the US$22 billion of debt to be restructured.  To do that Dubai World needs to take certain steps.  If it does not, then lenders to Nakheel or Istithmar have cold comfort from assets at Dubai World Ports or any of DW's other subsidiaries.

Why?  Two words (actually five):  "A will and a way"

The Will:  The article itself reconfirms what DW has said earlier.  It is restructuring these companies. The other companies and their assets are outside the restructuring.  Just as the fact that Shaykh Mohammed is the owner of DW does not mean that his personal assets are available to pay or support the restructured debts.  DW has evidenced no desire to make these assets available. 

The Way:  But, more importantly, is the way this would be accomplished.  In that regard it seems there may be some confusion about a very fundamental issue:  the difference between an economic entity and a legal entity.  Understanding this distinction is critical to understanding the "way".

Consolidated financials do not represent a legal entity, they represent an economic entity.  DW Group is not a legal entity.  The legal entities in the Group are the various subsidiaries (and their subsidiaries and so on) and the parent company - Dubai World Holding.  The Group is a combination of all these legal entities into an "economic" entity. From a legal standpoint it is a fiction.

Legal entities - not economic entities - own assets.  Legal entities - not economic entities  -enter into contracts, including those for debt. It is the wise lender indeed who understands precisely what assets  the potential borrower owns.  And then reacts appropriately to that understanding.

As a holding company, Dubai World legally owns shares in Dubai World Ports, Nakheel, etc.  It does not directly own the assets of these companies.   Those companies do.  And, if they are holding companies, this same pattern repeats itself.

At each subsidiary level there are a variety of legal relationships and requirements governing those assets.

First, in a liquidation, each and every creditor of that subsidiary gets paid back before the shareholder gets a single fil.

Second, any transfer, pledge or other disposal of an asset owned by that company (the subsidiary) is subject to the completion of legal steps as required by the local law in the jurisdiction where that company is incorporated and where the asset is legally domiciled.  This is both a matter of corporate law (which governs how corporations conduct their affairs) and of laws setting forth the legal requirements for a sale, pledge, etc.  For example, if a US company owns an asset in England, then both US and English law will govern what is needed to be done to dispose of or otherwise deal in that asset. In some cases assets may be subject to additional requirements, such as those imposed by financial exchanges (stock markets), etc.

Third, contracts can create new requirements beyond those mentioned above.  For example, any sensible lender puts covenants in its loan contract restricting the borrower's ability to pay dividends or to transfer, sell  or pledge its assets.   Loan agreements typically include financial ratios (debt to equity) etc. which the company must maintain.  To do so the company has to take or refrain from taking certain actions.  A properly structured set of ratios can impose all sorts of constraints on a company - constraints that if enumerated might require volumes. 

Some hopefully illustrative examples.

Let's look at the 2008 financial report of JPMorgan Chase.

Total consolidated assets (of the economic entity, the JPMC "Group") are an impressive US2.2 trillion. (page 131).  Total assets (of the legal entity JPMC, the holding company) are US$436 billion (page 225).  20%!  As you look at these assets, you notice "Investments in Subsidiaries" is a major category.   It is here that JPMC the Holding Company's ownership (through equity shares) in the separate legal entity JPMorgan Bank, NA is reflected. 

And, it's important to note, that at these subsidiaries, the same pattern may apply.  Think of DW's subsidiary, Istithmar.  It owns a variety of investments, Cirque de Soleil, Barneys, etc.  Each of which is a separate legal entity.  In fact, it probably owns these companies through one or more intermediate holding companies (for tax and other reasons).  When Istithmar's NY hotel got into trouble, lenders were not able to force Istithmar to pay (as it had apparently not given a guarantee for the hotel's debt).  Nor could they attach assets at the Cirque  - taking, say, the lead acrobat or his safety net.

How then does a lender get access to the assets?

An indirect way is to get the holding (parent) company to give its guarantee.   This establishes the holding company's obligation to pay the loan if its subsidiary does not.  However, it gives only an imperfect and indirect access to the assets.  The lender is an unsecured creditor of the holding company, which as indicated above has its main assets in shares of other companies.  If the holding company defaults, the lender can take possession of the holding company's shares in the subsidiaries.  However, as a shareholder, the lender still remains subordinate to all the creditors at those subsidiaries.   In effect the lender has merely "stepped into the shoes" of the shareholder.

A "better" way is to get the subsidiaries themselves to provide a guarantee.  In this case then the lender becomes a creditor at the subsidiary level and has the direct  lender's access to the subsidiary's assets along with all other creditors of that subsidiary.

There are a variety of issues involved in implementing these two previous steps.  The most important of which is establishing the legal basis for the giving of the holding company or the subsidiary's guarantee  so that it is legally binding on the subsidiary.  "Consideration" in English or "US" law terms.  Other issues would be the existence of any restrictions put on the subsidiary by its existing creditors to prevent just such actions - out of their own concern to maximize their share of the company's assets.

Dubai: Abu Dhabi Support - US$5 Billion Less Than Meets the Eye

Very interesting news item in Monday's The National.

Probably, most observers out there including me assumed that the US$10 billion committed to by Abu Dhabi in December for the last minute payment of the Nakheel bonds was in addition to the November US$5 billion sale of bonds by Dubai to National Bank of Abu Dhabi and AlHilal Bank.  That is, that Abu Dhabi had provided US$10 billion in additional aid on top of the  US$5billion committed to by these two banks.  US$15 billion, which when considered alongside the US$10 billion purchase by the Central Bank of the UAE in February 2009 (fronting for Abu Dhabi) meant US$25 billion in assistance.

As to the actual payment of funds, in an analysis of the Government of Dubai's 14 December press release, I noted that the language used suggested that the entire US$10 billion had not been disbursed.

The first of these beliefs was wrong.  The second appears to have been right.

Instead of providing new money of US$10 billion, Abu Dhabi has apparently purchased the US$5 billion commitments of NBAD and AlHilal.   That means that the  December net commitment was only US$5 billion.  In other words the total  amount from Abu Dhabi Inc in November and December was US$10 billion not US$15 billion.  And, thus, the total aid to date is only US$20 billion not US$25 billion.

But there's more to the story:  the disbursement of funds.  Two points.  The quantum of funds disbursed so far.  The method of disbursement.  Both of which I think show that Abu Dhabi is keeping Dubai on a rather short leash.

As I commented in an earlier post, these two banks gave a commitment to buy the bonds over one year with a modest immediate cash payment. And, as I noted at the time, this gave Abu Dhabi continuing leverage over Dubai.  It seems that this pattern continues with the December US$10 billion.   Instead of cash disbursements of US$11 billion in November/December, the amount is roughly half that, leaving approximately US$5 billion to be drawn down over some unspecified period.

What's also intriguing is the comment attributed to unnamed bankers that the Abu Dhabi Department of Finance made the payment to settle Nakheel's bonds directly.  That sounds as though DOF paid the agent and did not remit the funds to Dubai to then pay the agent.  In this modern age there's no reason why the DOF couldn't have transferred the funds to Dubai and let Dubai make the payment.  There are really only two reasons why something like this would be done.  Either (and I think this is highly doubtful), Abu Dhabi was concerned that the funds would be diverted by Dubai.  Or to make the point of Dubai's dependence very clear to everyone.

My sense is that both of these tactics are intended as ways of keeping Dubai on a short leash.  A very short leash. The remaining US$4.9 billion will probably be disbursed on an "as needed" basis.  At each disbursement Dubai will have to ask for funds, probably provide some sort of justification/explanation and thus be reminded of its dependence.  As well, Abu Dhabi will be able to condition disbursement on compliance with previously agreed deliverables.   Or, if it wishes, to extract a new quid pro quo.

On that topic, I still think that Abu Dhabi's goal is primarily political, though I expect that Shaykh Khalifa is also keeping a sober eye on the absolute amount of spending devoted to Dubai.  It is the Abu Dhabi way.  And to be clear, I don't think Abu Dhabi intends to be vindictive with Dubai or needlessly embarrass the Emirate or Shaykh Mohammed.

A bit more on the article's explanation for the reason for buying out NBAD and AlHilal's commitments. As banks both institutions would have had to  reflect diminution in  value in Dubai bonds in their financials.   If held as trading assets through their income statements.  If as available for sale, through the fair value reserve.  And, if as held to maturity, by disclosing in a footnote current market price versus historical cost carrying value.  Any of these steps could potentially impact their credit ratings as well as their Basel II capital adequacy ratios.  As a government, Abu Dhabi is immune from the requirements of IFRS as well as  detailed disclosure of its financial affairs.

One final comment, I think it would be a very good idea for Dubai to reflect carefully on the handling of the December announcement of Abu Dhabi's support.  If the market finds out now that in effect only US$5 billion in additional aid was given instead of US$10 billion, then it may conclude that an attempt to mislead was made.  Or that there is some fairly basic skill lacking.  Neither of which will be helpful at this critical juncture - especially since so much confidence has already been eroded.

Nakheel Corruption Case: The Iceberg Just Got Bigger

Seems that six individuals have been accused of improriety not just one as mentioned in my earlier post.

I think though that we're still in the shallow end of the pool with the goldfish.

Dubai Assumes Leadership Role in Tackling Global Financial Crisis

(The following article has been prepared according to press guidelines at "Gulf News" for reporting on the non-crisis in Dubai. Delay in publication resulted from the normal review process to ensure that the article did not contain any deviant or incorrect thoughts).

14 December 2009 – Dateline Dubai, United Arab Emirates

Under the patronage of the wise and benevolent leadership of the Emirate of Dubai, the Government of Dubai graciously hosted a meeting for international bankers still reeling from the effects of the global financial crisis. While the meeting was called in part to afford international bankers an opportunity to enjoy the much warmer climes of Dubai during this winter season, the meeting had a much more serious purpose.

As a leading global financial centre, Dubai and its progressive leadership are well aware of the responsibilities such an unrivaled status places on their capable shoulders. Therefore, Dubai World took the unprecedented step of advising its creditors at this meeting that it was willing to extend the repayment tenor of its obligations. This generous sacrifice is being made in view of the desperate need of international and local creditors for high quality earning assets, saddled as they are with poor underwriting decisions made outside the UAE. A Dubai World spokesman was reported to have said that while this step was perhaps inconvenient for Dubai World and its subsidiaries "the decision was sound and favours all parties in long term and not short term as Dubai World Group has strategic projects."

Not unexpectedly, creditor response was enthusiastic.

One unnamed European banker said, "GLOBAL crisis or not, Dubai has done it again. It has once again shown the world, beyond doubt, its ability and willingness not only to meet its obligations but any challenge to its unrivalled status as the most dynamic global financial and trading hub in the Gulf region."

Another grateful banker noted: 'Usually, each of the world's countries has an icon to be proud of. Dubai has many, such as Burj Dubai, Burj Al Arab, Dubai Mall, as well as Dubai International Airport and the Emirates Airlines which are seen as major drivers for tourism."

A local banker from Dubai commented: "People try to pelt stones or anything else within their reach at a fruit bearing tree. Then how it will be when we have seven fruit-bearing trees or more? It is natural that we are exposed to all these exaggerations, which are far from reality".

One US investment firm with a sizeable position in Nakheel sukuks said: "However, the markets might react, this is Dubai we are talking about. An emirate that has redefined the terms "vision" and "ambition" for the world, which has given it the tallest tower, the largest mall, the tallest hotel, the largest man-made harbour and, in-the-making, the world's largest airport, among a host of other marvels. It has a track-record second to none. Dubai is one of the foremost centres of world gold trade and has indeed been gaining in importance as the preferred global destination for tourism, entrepot, real estate and construction activity, especially over the past three decades."

A banker with a faint Scots burr in his voice remarked: "The Dubai dream lives on. If anything, this latest episode is a sign of Dubai's economic maturity, a clear conscience and commercial intent." In a culturally uncharacteristic bit of loqaciousness, he continued: "Dubai World's debts are small and some companies have been saddled with debts more heavier than tnose of the Dubai Group."

Finally, another banker from Dubai neatly summed up the consensus of attendees at the meeting: "And I want to tell those people who nag about Dubai and Abu Dhabi to shut up."

(Editor's note: All quotes are actual verbatim statements made by various parties and reported in the press, though attribution may vary from that in the original reports).

When the Going Gets Tough, The Tough Shut Up Any Criticism

Rupert Bumfrey posted this gem about the new "style guide" at Dubai's "Gulf News" newspaper at his blog.

All the news that fits the government view is fit to print.

You can measure how bad a situation is by the attempt to control the press.

Though I suppose points should be given for upholding the sacred concept of lèse majesté.  They are often quite fragile I'm told.  A sad condition of those in power.

Dubai World - Off To A Running Start

Unclear which direction though at least per this article.

Ahead of the meeting, expectations fell for a quick resolution due to a Dubai email advising banks not to expect much from the event, and Dubai World moved to characterise the meeting as an "expectation management exercise".

"We got less out of it than we hoped for," said a representative of a European bank.

Perhaps from the unnamed European banker's comment above the expectation management exercise may have been successful after all.

Dubai World's Press Release on Today's Meeting with Creditors

Original text here.

Dec 21, 2009 - 09:04 -

Dubai, 21 Dec. 2009 (WAM) - Dubai World has announced that it today held a meeting in Dubai with its creditor banks involved in the restructuring of the Group's debt. The purpose of the meeting was to provide an update to the banks on the development of the Group's restructuring plans as it seeks to reach a standstill agreement with financial creditors.

Also in attendance were Dubai World's appointed advisers Deloitte, Rothschild and Clifford Chance.

As was confirmed in its statement of December 14th, Dubai World will continue to work with financial creditors to seek a standstill in an orderly way. As long as a standstill is successfully implemented, Dubai World has assurances that the Government of Dubai, through the DFSF, will provide financial support to cover working capital and interest expenses to ensure the continuity of key projects.

Dubai World is committed to working closely with the banks' appointed Coordinating Committee to work towards a consensual solution for the benefit of all lending banks, trade creditors and other stakeholders affected by the restructuring.

Dubai World Restructuring: No Restructuring Proposal Offered No Standstill Requested

Apparently, as per Reuters Dubai World did not formally request a standstill or offer any proposals on the restructuring today.

The latter is not surprising.

What's unclear is precisely what happened at the meeting.

Under best practice, Dubai World would have 

1. Introduced its internal team and external advisors with the goal of conveying a sense of competence and willingness to do business with its creditors in a transparent professional fashion.   
2. And, as is often appropriate (and seems to be the case here), introduce the new senior managers to confirm to the assembly that the ritual sacrifice of old management has been made.
   
3. Outlined its financial position: group structure, overall and subsidiary quantum of debt, debt maturities, asset values, cashflow as a way of framing future discussion over the restructuring.   (If DW and its subsidiaries still don't have an idea of what deal they are seeking at least in broad terms, that is not good.)
4. Requested the standstill.
5. Asked for the formation of a steering committee.
   

A real danger in a case like this is opening the floor for bright ideas.

This is the time for DW to recall that the bright folks who made the loans to them are by and large represented in the august body of creditors that will now decide their fate.  A realization that is perhaps a "la gota fria" moment.

Dubai World Debt Restructuring: Dubai World Statement

Something I missed but worth noting, a statement from Dubai World about Dubai Government support from 14 December.

Dubai World's "Small Debts"

HE Sultan AlMansouri sets the record straight for all the chicken littles out there:

"Dubai World's debts are small and some companies have been saddled with debts more heavier than those of the Dubai group, UAE Minister of Economy Sultan Al Mansouri affirmed today."

And to think I was worried.

Dubai World Restructuring - Options

The National (Abu Dhabi) has an article titled Full Repayment Is Option For Dubai that has left me scratching my head.

Here are three quotes along with some comments in blue italics.

1. “They made clear there were a number of options the Government of Dubai saw as feasible and desirable for Dubai World and repayment in full was one of them,” said a person at the talks who declined to be identified because the meetings were private.  AA:  That means the Government of Dubai sees other "feasible and desirable" options.  Would one of those be refusal to pay anything?  A haircut on principal?  Conversion of the debt into season passes at Wild Wadi?   
   
2. Full repayment would be the preferred option for the creditors, represented by the British banks RBS, Standard Chartered, Lloyds and HSBC, with the regional banks Abu Dhabi Commercial Bank and Emirates NBD representing the Gulf.  AA:  Great minds think alike.  That was AA's strategy as well when he was active in the underwriting and funding of debt.  In fact, getting back one's principal (plus interest) was a key business principle in the debt markets - at least at that time.     
   
3.  “We will have to see what timescale they [Dubai] are looking at as a feasible repayment period,” one banker who asked to remain anonymous said yesterday. “If they can come up with a plan to repay over a period of, say, five years, with a commitment to maintain interest payments over that period, we would have to consider that.”  AA:  Does this mean that if the proposed repayment were over six years, these banks would refuse to consider it?  And precisely what would they do in such a case?  Ask the BBA to write a letter to Lord Davies  so he would have a word with Shaykh Khalifa?  When AA was involved in debt restructurings, we generally began by constructing a reasonably based cashflow for the debtor.  After applying some margin of safety, we could pretty much determine the required repayment tenor.  Working the other way around by positing a repayment tenor without reference to reality is a bit riskier.
   

Dubai World Standstill

There's an interesting article in today's Gulf News "Bankers Expect "Standstill" Nod".

"Bankers expect Dubai World to make a formal request for a "standstill" on its $26-billion (Dh95.4-billion) debt at Monday's creditor meeting, but it could be more than a month before banks agree, bankers said yesterday."

As I read the law, all Nakheel and Limitless need to do to get an effective legal standstill in the UAE is to nip round to the special DIFC Court and persuade the judge to give them one as part of a company voluntary rescheduling proposal.  There is no requirement for any bank agreement to the standstill.  There is of course one to the voluntary rescheduling program - more than 75%.

And as I argued in my earlier post, it is likely that many jurisdictions will accept the DIFC proceedings as taking place under a reasonable regime and law.  Therefore, it's also likely that they will agree to hold enforcement in their own jurisdictions pending the resolution of the case in Dubai.

So this article is puzzling.  In effect the banks don't have to agree for a standstill to become effective.  Since they don't appear to have a  choice in the matter, what sense does it make to talk of the law as giving them an "incentive"?

I'd also note that in applying the DIFC bankruptcy law to these companies, the Government of Dubai has  in effect given itself the right to impose a standstill.  Though to be fair, the law includes important protections for lenders and represents an improvement over local law.

Analysis of Dubai Government 14 December Statement on Restructuring Dubai World

Below the dotted line is the text of the announcement made by the Dubai Government on 14 December 2009 regarding the US$10 billion  support from the Emirate of Abu Dhabi and the restructuring of Dubai  World. My comments are in blue italics. One caveat:  My analysis is based upon the press release having been  crafted with the import of each word and sentence carefully considered.   That may not have been the case for a variety of reasons, including time  pressure.  That theory is somewhat supported by the fact that there are  two almost identical press releases issued by Dubai within less than  one hour. ------------------------------------------------------------------------------------------------------------------------------

WAM Dubai, Dec14th, 2009 (WAM) --- Sheikh Ahmad Bin Saeed Al Maktoum, Chairman of the Dubai Supreme Fiscal Committee (SFC) reassured investors, financial and trade creditors, employees, and citizens all out support of the government and has said that Dubai is, and will continue to be, a strong and vibrant global financial center. "The Government of Dubai remains committed to its high standards and its obligations. We are confident in our economic model, and we are confident in the long-term health and outlook for our economy", he said in a statement on Monday. "The actions taken today are consistent with our market development, and we believe they are the actions that will best serve the interests of all stakeholders," he added.  AA:    With the apparent agreement of the Emirate of Dubai, Nakheel has paid the holders of its US$3.52 billion sukuk US$4.1 billion.   That is, the holders of the sukuk are not being asked to participate in the restructuring – either in terms of a retiming of their repayments, the interest rate thereon or the amount of any adjustment ("haircut") of principal. Assuming that the point of the rescheduling will be to ask other creditors to accept some or all of these steps, exactly how  are the interests of all stateholders being served? If this payment is a preference of one group of creditors over another, precisely what "high standards" have been applied?     The Government of Dubai, acting through the Supreme Fiscal Committee ("SFC"), today announced a set of actions in relation to Dubai World. Full text of Sheikh Ahmad Bin Saeed Al Maktoum, Chairman of the Dubai Supreme Fiscal Committee statement: Like other global financial centers, Dubai has faced recent market challenges driven by global economic slowdown and severe real estate market correction.  Recently, Dubai World announced that it might not be able to commercially support its obligations. Since that time, the Government of Dubai has worked closely with the Abu Dhabi Government and the UAE Central Bank addressing and assessing the impact of Dubai World on the UAE economy, banking system and investor confidence.   AA: This sounds the theme of separation between Dubai World and the Emirate. Something that I have noted that careful lenders and investors should have been aware of from day one. The following provides comprehensive set of actions: First, the Government of Abu Dhabi and the UAE Central Bank have agreed to provide important support. Specifically, the Government of Abu Dhabi has agreed to fund $10 billion to the Dubai Financial Support Fund that will be used to satisfy a series of upcoming obligations on Dubai World.  AA: Does this mean that other creditors (in addition to Nakheel sukuk-holders) will be paid their obligations.?   Simply because those obligations come due before others?  Meaning that those creditors whose obligations are not so temporally favored will have to reschedule their obligations?     Perhaps, more importantly, note the words "has agreed to fund".  This implies that the full US$10 billion has not yet been disbursed. As a first action for the new fund, the Government of Dubai has authorized $4.1 billion to be used to pay the sukuk obligations that are due today. The remaining funds would also provide for interest expenses and company working capital through April 30, 2010 - conditioned on the company being successful in negotiating a standstill as previously announced.  AA: This does not appear to contemplate any repayments of principal.  Yet the paragraph prior to this one specifically mentions "upcoming obligations". Are these only interest? Or do they just comprise trade creditor obligations?   Crtically, how is the support conditioned?   Will Abu Dhabi only disburse the funds if a standstill is negotiated? A bit of leverage to use against the creditors.  Though  this admission is a two edged sword.  If Dubai World cannot pay interest on its obligations absent this cash infusion, how will it pay the obligations themselves?  This deferred disbursement mechanism also gives Abu Dhabi significant leverage over Dubai.    In addition, the Government of Dubai is particularly focused on addressing the concerns of Dubai World trade creditors within the Emirate of Dubai. To help address these concerns, today the Government of Dubai is announcing that the remainder of the funds provided will be used for the satisfaction of obligations to existing trade creditors and contractors. Discussions with affected contractors will begin in short order.  AA: The concern is stated as being particularly for trade creditors within the Emirate of Dubai.  Does this mean that those outside will not receive the same treatment? It is also unclear how much is the amount (the "remainder of the remainder") to be devoted  to this group of creditors. Within DW's trade creditor group within the Emirate of Dubai, will only past due amounts be paid?  Here I have the same question about "preferences" though on a temporal basis rather than geographic basis. Next, the central bank is also prepared to provide support to local UAE banks.  AA: Two reasons this support might be necessary.  The first because other banks refuse to lend  some UAE banks over concern about  their creditworthiness related to exposure to Dubai World.  Here the CB UAE would provide liquidity support.   The second because the local banks were potentially subject to serious losses on their DW exposure.  Here the CB UAE would provide various forms of support including perhaps capital infusions. On 29 November the Central Bank announced additional liquidity support for both local and foreign banks in the UAE.   Is thie press release merely restating this support?  Or is this a new statement related to the second rationale for support? Finally, today the Government of Dubai will announce a comprehensive reorganization law, a framework that is based upon internationally accepted standards for transparency and creditor protection. This law will be available should Dubai World and its subsidiaries be unable to achieve an acceptable restructuring of its remaining obligations.   AA: A not too subtle hint to creditors: do a deal or face the consequences.  Realistically, the law and court will probably have to be resorted to in order to secure creditor approval of the restructuring package. The "new" law provides that if more than 75% of creditors vote for a reorganization plan it is accepted and binding on all creditors, which provides a much needed cramdown mechanism. Explained in more detail in this earlier post.   Today's actions, taken together, demonstrate our strong commitment as a global financial leader to transparency, good governance, and market principles. There will certainly be challenges periodically, just as there are challenges in other major financial centers around the globe. We believe today's actions will best serve the interests of all stakeholders.  We are here today to reassure investors, financial and trade creditors, employees, and our citizens that our government will act at all times in accordance with market principles and internationally accepted business practices. Dubai is, and will continue to be, a strong and vibrant global financial center. Our best days are yet to come.  The Government of Dubai remains committed to its high standards and its obligations. We are confident in our economic model, and we are confident in the long-term health and outlook for our economy. The actions taken today are consistent with our market development, and we believe they are the actions that will best serve the interests of all stakeholders." WAM/AMIR