Sand Castles

The Dubai debt crisis has put a question mark on the sustainability of the emirate’s build-and-they-will-come development model. Mayank Singh reports

The sun never sets on Dubai World’ – the saying ringed hollow on November 25, 2009. On that fateful day, Dubai World asked its creditors for a standstill agreement till May 2010, as it sought to restructure debt to the tune of $26bn at Dubai World and property developers Nakheel and Limitless. Close to $60bn of Dubai’s $80bn debt is owned by Dubai World. The most affected among investors will be the holders of Nakheel, Dubai World’s property developer subsidiary. About $3.5bn of convertible bonds issued by Nakheel was due for repayment on December 14.

Adverse fallout
The developments affected markets across the globe, triggering fears that the global crisis had come to the Middle East. Markets across the world fell by five per cent on fears that this could delay the economic recovery for much longer and set off another recessionary trend. Such misgivings were soon dispelled as stock markets recovered sharply. Moody’s and S&P immediately cut their rating for Dubai-based government related entities and placed them on credit watch, with negative implications. According to a Financial Times report, The Royal Bank of Scotland was the most exposed foreign bank with $1bn-$2bn worth of loans. HSBC, Standard Chartered and Lloyds Banking Group followed with about $1 billion each.

The near default surprised some analysts, but not all. Dubai raised over $12bn in financing in 2009 alone and $36bn in syndicated loans between January 2007 and October 2009. On November 4, Barclay’s Capital recommended Dubai’s debt as a good investment, citing ‘several developments to act as positive catalysts’: the repayment of Nakheel’s sukuk or Islamic bond, the second tranche ($10bn) of a $20-billion loan from Abu Dhabi and a successful merger between Emaar and Dubai Holding, two other Dubai World companies. On the same day Moody’s slashed ratings on five of Dubai state-related entities. On November 25, Barclay’s Capital quickly backtracked on its earlier assessment stating – ‘The credibility of Abu Dhabi to support Dubai with respect to its financing needs is dented, in our view, eroding the main pillar of Dubai’s credit worthiness.’

One of the immediate consequences of the emirate’s decision to seek a standstill agreement with Dubai World’s creditors is that it will curtail its ability to raise financing through capital markets. Analysts say that in the current climate it will be almost impossible for Dubai to issue bonds and tap fresh loans because of the damage to its credibility. This in turn will affect its ability to refinance debts. On the positive side the emirate though has a number of respected businesses such as DP World, the ports company, Dewa the utilities company and Emirates Airlines and an unrivalled position as a regional tourist, trade and financial hub. But unlike its wealthy neighbours it has meager oil resources.

Dubai’s nominal GDP reportedly grew to $82bn (Dhs301.6bn) in 2008 with mining, oil and gas contributing just $1.76bn (Dhs6.37bn), while wholesale, retail trade and repairing accounted for $32.30bn (Dhs116.3bn) and real estate and business services $12.33bn (Dhs44.4bn). Dubai’s revenue has been largely dependent on government-related entities such as Dubai World, plus tourism and some customs and administration fees and road tolls. Part of Dubai’s success has been its tax free status, but that also means that it cannot raise taxes to meet any revenue shortfall.

One option would be to sell some of its assets which stretch beyond the UAE’s shores like its stake in retail brands such as Barney’s, a golf complex in South Africa, a holding in the Ski resort near Aspen in the US and the QE2 cruise liner. However given the slowdown in the West obtaining good valuations on these assets would be a steep challenge. Dubai World says that it has assets worth $75bn, but bankers say a large chunk of this is locked in hard-to-sell land bringing the value down to about $50bn.

Looking for a bailout
Given such a scenario, most investors were looking at the UAE as a lender of last resort for the emirate. On December 4, UAE handed a $10bn bailout to Dubai. An official statement said – “The government of Abu Dhabi has agreed to fund $10bn to the Dubai Financial Support Fund that will be used to satisfy a series of upcoming obligations on Dubai World. As a first action for the new fund, the government of Dubai has authorised $4.1bn to be used to pay sukuk (Nakheel Islamic bonds) obligations that are due today.”

Dubai has worked closely with the Central Bank of the UAE and the government of Abu Dhabi to find a solution to the debt problems said a statement issued by Sheikh Ahmed bin Saeed al Maktoum, head of the Dubai Supreme Financial Committee. The statement added that ‘the remainder of the $10bn will provide interest expenses and company working capital through April 30, 2010”, but it said that the latter will be “conditioned on the company being successful in negotiating a standstill as previously announced.” This means that Dubai World will still have to go back to creditors to restructure its remaining debt.
Dubai also set up a special court on December 4, 2009 to oversee the financial reorganisation of the $26bn debt owned by Dubai World. The special court or tribunal will use insolvency laws of the Dubai International Financial Centre to settle financial disputes between Dubai World and its creditors.

Contagion effect
Oman has little to fear from the crisis as it has a limited exposure to the crisis. On December 6, three of Oman’s banks announced that they had a total exposure of $77mn (29.64mn rials) to the troubled conglomerate. Bank Muscat, has a $50mn (19.25mn rials) exposure to a syndicated loan, followed by National Bank of Oman’s $22.6mn (8.7mn rials) and Bank Sohar $4.3mn (1.6mn rials) exposure. All the banks said that their loans were still being serviced. HE Hamood Sangour al-Zadjali, Executive President, Central Bank of Oman said, “The exposure announced by three banks was ‘about the total’ and that there was no need to require local banks to book provisions for their exposure as it was not related to loans under restructuring.” A CEO of a family owned firm feels that if distributors and marketers in Dubai start offloading merchandise at fire sale prices in the face of plummeting demand it may have some impact on Oman. But for now, Oman is sitting pretty. Unfortunately, the same cannot be said about Dubai.
 
 

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