This is the third installment in my series on Islamic Financing and Restructuring.
Today's it's the Saad Group's turn, specifically, Saad Trading Contracting and Financial Services Company (a limited partnership formed in Saudi Arabia) ("Saad") and Mr. Maan AlSanea.
Our "kit" is a bit lighter than our last excursion (TID Global Sukuk 1) as all I could find was the
Offering Circular ("OC"). The OC is well done - no doubt a combination of Bahrain legal requirements and the professionalism of the parties involved in the transaction. The Risks Section is particularly robust and clear.
Just in case, you left the AAOIFI principles behind on our last journey, here's
another copy.
And before we start, just one disclosure. While I watched Boston Legal carefully, I am not a lawyer so don't rely on this or earlier comments as legal advice. What follows is based on practical business experience not legal training. If you want Denny and Alan, you will have to hire them. And probably for this transaction you'd be better served by Nigel or Neale.
Short details on the transaction:
- US$650 million in principal.
- Five year maturity with Periodic Distribution Amounts (in a non Shari'ah compliant transaction that would be called interest) paid every 15 May and November at Libor plus 0.85%.
- Final maturity 15 May 2012. Single bullet payment of principal on that date.
- Islamic Structure: Ijara (rent transaction). Maan AlSanea as Chairman of Saad leases (the Head Lease) certain land (ex buildings) in Saudi Arabia to the Issuer (a special purpose Bahraini company) who in turn sub leases it back to Saad. The net proceeds of the Sukuk issue (keep the word "net" in the back of your mind as it will come up again) are paid to Saad as the advance lease rental for the Head Lease. A single payment up front. This gets him his "loan" if we were using non Shari'ah financing. The payments under the Sub Lease are the origin of the debt service for the Sukuk.
- Legal Structure: Limited recourse certificates (Trust Assets only) with a Saad purchase obligation. Under the Sub Lease Agreement, the certificates are redeemed at face value plus any unpaid Periodic Distribution Amounts. See the OC Section 9 "Termination Sum" on page 38. Such purchase can take place either at maturity (scheduled dissolution) or prior thereto in certain cases (unscheduled dissolution after the occurrence of dissolution events and a vote to terminate by holders of at least 25% of the sukuk amount). In effect this is a form of guarantee just like the structure in TID Global Sukuk 1, though we won't call it that.
- Governing Law: English Law for the Head Lease, the Sub Lease, Certificate Purchase Agreement (agreement with banks who placed the deal), Service Agreement (Saad to maintain properties including any major maintenance) and the Costs Undertaking (Saad to pay the various service providers, e.g., Ohad, Citicorp). All these documents are part of the Trust Assets. The Corporate Services Agreement (Ohad and the Issuer for Ohad's services) under Bahrain Law. And finally Saudi Law for the Promissory Note and Note Issuance Agreement and each Payable Rental Promissory Note (for the next rental payment due under the Sub Lease).
Let's turn to the detail.
(1) The Trust Assets
As per the OC page 19 "Recourse to the Issuer is limited to the Trust Assets and the proceeds of the Trust Assets are the sole source of payments on the Certificates. Upon the occurrence of a Sub-Lease Termination Event which constitutes a Dissolution Event, the only remedy available to Certificateholders will be to require the Sub-Lessor (or the Delegate acting on its behalf) to invoke its rights against the Sub-Lessee to pay the Termination Sum due pursuant to the rights granted in favour of the Sub-Lessor under the Sub-Lease Agreement."
So what are the Trust Assets?
Title to land parcels in Saudi? No. As per the OC page 26, the land parcels are recorded in the name of Mr. AlSanea. And there they shall apparently stay.
As per the OC page 17 "The ‘‘Trust Assets’’ consist of all of the Issuer’s rights, interest and benefit, present and future, in, to and under the Head Lease Agreement, the Sub-Lease Agreement, the Promissory Note, each Payable Rental Promissory Note, each of the other Transaction Documents, all monies standing to the credit of the Transaction Account, and all proceeds of the foregoing."
The investors' security then is in the strength of these contracts.
(2) The Purchase Obligation
Under the Sub Lease, the Issuer may call upon Saad to redeem the certificates prior to maturity if there is a Dissolution Event and at least 25% of Sukuk holders vote to terminate. OC Section 9.2 page 38.
Dissolution Events (in a non Shari'ah compliant financing "Events of Default") are detailed in OC Section 12 page 39. These contain the normal non payment (7 day grace). as well as several others . This Section does not contain any general covenants on Saad nor any cross default language. However, Section 12 (c) contains reference to Sub Lease Termination Events also triggering a Dissolution Event. Flipping to Section 3.5 pages 68-71 we find the usual event of default matters covered under Sub Lease Termination Events.
(3) Promissory Notes
To support the purchase obligation there is a note for US$650 million. Note that is for the gross proceeds of the issue not the net proceeds. It will become clear why I keep hitting this point later.
At the beginning of each rental period, Saad will execute an additional promissory note for the Payable Rental Amount which is the funding for the Periodic Distribution Amount (in a non Shari'ah compliant transaction that would be called interest).
This is a "neat" drafting approach. In the event that Saad doesn't pay, instead of hauling a stack of complicated documents subject to English Law into a Saudi Court, the intent appears to be to have a straightforward and simple document that clearly evidences Saad's obligation to pay. Of course, the borrower would very likely try to get all the documents into court to prolong the case and seek whatever advantage he could.
(4) Restructuring Issues
First, some background points from the OC.
(a) Page 25 - "The calculation of the Payable Rental Amounts is not directly linked to the value of the Land Parcels, and as a result should the calculation of the Payable Rental Amounts be challenged by the Sub-Lessee there is a risk that the Saudi courts may apply the principles of equity." Recall that the rental payment is being reverse engineered. We know where we want to get. The investors want a return of Libor plus 0.85% per annum paid to them. The borrower wants US$650 million. This issue arises strictly because of the "Islamic" nature of the transaction. There can be no interest, but the investors want a certain return. The Promissory Notes are designed to overcome this issue in a Saudi Court by reducing the "case" to one of an unpaid debt acknowledged by Saad for a sum certain.
(b) Page 28-29 - There is a good description of enforcement of obligations in Saudi Arabia. This is key because as the OC's Risk Section points out, most of Saad's assets are in Saudi Arabia. The key sentence in this section is "The courts and judicial committees of the Kingdom of Saudi Arabia have the discretion to deny the enforcement of any contractual or other obligations, if, in their discretion, the enforcement thereof would be contrary to the principles of Islamic law." An issue that faces every creditor whether he extends under Shari'ah compliant or non Shari'ah compliant structures.
(c) Page 30 - Another key sentence: "The concept of trust as deemed in common law jurisdictions does not exist in Saudi Arabian law."
(d) Page 45 Use of Proceeds - The net proceeds are estimated to be US$645,750,000 or US$4,250,000 less than the gross proceeds. The difference is for the banks' placement fees as well as legal and other costs.
Second, as the Lease and Sub Lease are the heart of the security for the transaction, these would be a target for an attack. Can a party overturn the Sub Lease contract on the basis of equity using an argument that the rental is not fair given the value of the land? If Saad is insolvent, can a creditor argue that the rental payments are a lesser obligation than that creditor's debt and that the creditor should be paid first. Here again the Promissory Notes are a defense that the rental payment is just as valid a debt as the creditor's loan.
This is also where the difference between gross and net proceeds finally comes in. The Promissory Note is for US$650 million. But the amount Saad received was US$4.25 million less. In Saudi Courts borrowers have been known to produce an accounting of all cash flows in an effort to reduce the amount they owe the lender. The bank gave me a $100 loan and over the years I paid them back $100 (the borrower would list all payments to the bank irrespective of whether they were principal or interest). Since the Shari'ah doesn't recognize interest, the Court could assume that all cash flows were principal. Once a banker from a neighboring country told me that a borrower had pulled this ploy and the court ordered his bank to refund the overpayment! That is, the bank wound up owing money to a non paying borrower. If Saudi courts still might take this stance, then Saad could charge that he only received US$645.75 million not US$650 million - and therefore there was something wrong with the Note and the transaction. I think if the gross proceeds were desposited to Saad account and he paid the US$4.25 million in fees, there would be a stronger case than if he only received the net. This is not an issue particular to this transaction, even a conventional non-Shari'ah bond could run aground on this shoal.
(6) Other Interesting Points from the OC
(a) OC page 14 Ownership of the Issuer. AlGosaibi Investment Holding EC Bahrain ("AGIH") owns 99%. Those of you who have been following the legal battle between AlGosaibi and Mr. AlSanea know that AlGosaibi has accused him of undertaking transactions in AlGosaibi companies without their knowledge. It would be very interesting to know who at AGIH authorized this transaction. Without that information, we can't draw any conclusions.
(b) OC page 22-23 Shari'ah Opinion. The last paragraph gives an insight into the practical approach taken: "The Shari’ah Board also took into consideration (i) the legal constraints under which this product is being developed; (ii) the need to facilitate and bring ease to the Islamic financial institutions and others who are determined to raise financing according to Shari’ah principles; and (iii) the prevailing conditions and a¡airs of the Ummah and the need to remove them from the shackles of riba. And Allah Knows Best."
For those interested there is a description of the Saad Group as well as some now dated financials at the end of the OC.
If there are any trained lawyers out there, I'd love to hear your thoughts on Golden Belt as well as on my previous post on
TID Global Sukuk 1. All without attribution and as well pro bono.
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