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What does $10 billion buy? For the oil-rich emirate of Abu Dhabi, which recently came to the rescue of its heavily indebted neighbor Dubai, the answer seemed to be stability as well as political and commercial influence. But the cost of those precious commodities could be set to rise dramatically.
Within days of Abu Dhabi’s December bailout, Dubai renamed its new landmark 160-story tower the Burj Khalifa, in honor of Sheikh Khalifa bin Zayed Al Nahyan, the emir of Abu Dhabi. The assistance also calmed financial markets in the Gulf and around the world. Dubai’s financial condition appears to have deteriorated in subsequent weeks, however, fanning fears of a wider economic fallout in the region and prompting fresh speculation about whether, and under what conditions, Abu Dhabi will provide additional support.
Dubai World, the emirate’s flagship holding company, is seeking to negotiate a standstill agreement with lenders on $26 billion in debt after narrowly averting a default in December. The rescue came in the form of a $5 billion purchase of bonds by the Abu Dhabi central bank and a separate $5 billion purchase of bonds by the National Bank of Abu Dhabi and Al Hilal Bank, an Islamic lender owned by the government of the United Arab Emirates. Dubai’s debt woes extend well beyond that one company, though. Government-related entities have an estimated $6.6 billion in debt coming due this year and as much as $24 billion in 2011, according to estimates by bankers and rating agencies.
Uncertainty about Dubai’s ability to service its debt was heightened last month when Standard & Poor’s withdrew its ratings on another government-related entity, property developer and business park operator Dubai Holding Commercial Operations Group, after having slashed it to B from BB+. S&P said it acted because of a “lack of market transparency [and] reliable market data and the level of available financial information,” as well as “lower certainty about ongoing support from the Dubai government, which we previously factored into the rating as a key credit strength.”
The Dubai debt crisis comes at a time when countries in the Gulf are already grappling with the combined effects of the global financial crash and a wave of corporate scandals that have exposed woeful standards of governance and transparency. The consequence is that regional governments face a growing chorus of demands to adopt major reforms or risk having their access to international capital markets curtailed.
“International lenders are undertaking a reassessment of risk appetite toward the region,” says Julian Ashall, chief operating officer of Lloyds Banking Group in Dubai. “Events have cast a spotlight on the adequacy of bankruptcy provisions. The absence of bankruptcy laws and the untested nature of the region’s legal systems create an uncertainty that needs to feature prominently in risk assessment and pricing decisions.”
Mohieddine Kronfol, managing director of Algebra Capital, a Dubai-based asset management firm, says lenders and investors in the region can no longer allocate capital on the basis of implicit government guarantees, as was commonly done in the past. “The Dubai precedent confirms that sovereign credit needs to be priced differently from corporate credit, and will tremendously increase pressure to improve transparency and governance,” he contends.
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