The Dana Gas ‘sukuk’ fallout may have implications for Dubai’s ambition of being a premier Islamic economy hub.

BELEAGUERED Sharjah-based Dana Gas PJSC, the Middle East’s first and largest regional private sector natural gas company, has thrown the United Arab Emirates’s (UAE’s) sukuk market into turmoil by inviting holders of its two outstanding sukuk tranches — US$350 million (RM1.4 billion) nine per cent ordinary certificates and US$350 million seven per cent exchangeable certificates, both of which mature on Oct 30 to open discussions on restructuring the payment of sukuk.

There is nothing wrong for an issuer going through tough times to try to restructure the payment of a bond or sukuk. This happens occasionally, short of a straight default. What is outrageous, as it is ridiculous, is the reason given by Dana Gas, publicly listed on the Abu Dhabi Securities Exchange, that sukuk, which was originally issued in October 2007 and restructured in May 2013, has now been declared non-syariah compliant and, therefore, not valid.

Dana Gas tried to defend the indefensible in a statement: “Due to the evolution and continual development of Islamic financial instruments and their interpretation, the Company has recently received legal advice that the sukuk in its present form is not syariah-compliant and is therefore unlawful under UAE law. As a result, a restructuring of the current sukuk is necessary to ensure that it conforms to the relevant laws for the benefit of all stakeholders.”

Not surprisingly, the Company has proposed to “exchange the sukuk with a new four-year enforceable, syariah-compliant instrument, which would confer rights to profit distributions at less than half of the current profit rates and without a conversion feature. Such new profit payments will comprise a cash and PIK (pay-in-kind) element”.

It seems that Dana Gas is trying to restructure cheap on the back of credit deterioration, hiding behind the façade of syariah validity and certainty of a transaction which the same UAE law and presumably the Syariah Advisory Boards and lawyers had countenanced first in 2007 and then in 2013.

To add insult to injury, the company has filed for protection in the Federal Court in Sharjah to impose its structuring plan on certificate holders. It has conjured up the amazing conclusion with an implicit threat that “no dissolution event nor technical default has taken place, nor indeed can take place due to the unlawful nature of the sukuk”, and “has a duty to protect the assets of the Company for the benefit of all stakeholders and will take action to fulfil this duty”.

I intentionally confined the immediate fallout of Dana Gas sukuk debacle to the UAE market, where it may have serious implications for Dubai’s ambitions of being a premier sukuk origination and Islamic economy hub. It is important that such episodes be put in their proper context. The international media, which are not necessarily natural allies of Islamic finance and oft headline seekers, have deemed the Dana Gas action as a blow to Islamic finance and sukuk market in general.

This is poppycock. Remember Maulana Taqi Usmani’s ill-timed declaration on musharaka and mudarabah sukuk, especially relating to guaranteeing of the principal, a few years ago?

That was a general issue whose impact after similar predictions of market mayhem merely resulted in a slight delay in the issuances of the maiden United Kingdom, South Africa and Luxembourg sovereign sukuk. The redeeming aspect was that the debate did clarify the issues at hand.

The sukuk industry remains sound and judging by the increased activity in the global market, including debut record issuances by sovereign Saudi Arabia and Saudi Aramco, the world’s largest oil company, for a combined total of US$10 billion, this year promises to be a better year for sukuk issuance compared with 2015-2016, perhaps even reaching the US$100 billion mark. Its growth trajectory is upwards following the identification of sukuk by the International Monetary Fund and Group of 20 as an ideal instrument to finance infrastructure.

Malaysia’s sukuk market is the most regulated and advanced in the world backed by world-class legal, regulatory, reporting and syariah governance frameworks, underpinned by the comprehensive Islamic Financial Services Act (IFSA) 2013 and a cornucopia of allied laws relating to Bank Negara Malaysia, Securities Commission, Islamic Capital Market, Bursa Malaysia, etc — all of which are in place to pre-empt the very debacle Dana Gas and the UAE as a jurisdiction is in.

Foreign regulators, syariah scholars and market players, and even the odd politician, regard IFSA as the industry standard for all to emulate and, at least as far as syariah certainty of transactions are concerned, the Malaysian market is insulated. Malaysian individuals and entities invested in Dana Gas sukuk are faced with this investment risk masquerading as syariah risk.

Thus far, there have been a mere three or four sukuk defaults — East Cameron sukuk in Louisiana (a dispute relating to the profit-sharing arrangement of the instrument); the Investment Dar sukuk (to do with cash flow problems of the company and its subsidiaries, albeit it had a side dispute with an investor, Blom Bank relating to the syariah aspects of the contracts); and the notorious Saad/Al Gosaibi sukuk default (more a market failure and an internecine dispute between the two Saudi partners).

The Dana Gas sukuk is a failure of inadequate capital market legal framework, underdeveloped regulatory framework and a serious lack of uniformity and substance of syariah governance framework. Good governance is a pervasive theme today and for Islamic banks, its importance cannot be overemphasised. Syariah governance is an integral part of corporate governance, which is unique to Islamic financial institutions serving as an extra tier of compliance.

The problem is that Islamic finance does not have a Basle Committee for Banking Regulation. The Kuala Lumpur-based multilateral Islamic Financial Services Board aspires to be but lacks the resources, capacity, mandate and political will. The institutionalisation of syariah governance in Islamic finance in most markets save Malaysia is at best piecemeal, ad hoc or in a very few instances non-existent. Herein lies the crux of the matter. In the absence of an Apex Syariah Body such as the SAC of BNM and the SC, you will have instances of Dana Gas surfacing occasionally. The danger is that it is the first time a company, which has been under financial pressure for over a decade, has used uncertainty over syariah compliance to impose a restructuring of a sukuk, which, if it is successful, sets a retrogressive precedent.

Given that the Dana Gas sukuk, like most international offerings, has English law as the governing law, the saga may yet shift from the Sharjah Court to the High Court in London!

Mushtak Parker is an independent London-based economist and writer. He can be reached via mushtakparker@yahoo.co.uk

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