Download - 8 th Annual Gulf Ship Finance Forum
FINANCIAL INSTITUTIONSENERGYINFRASTRUCTURE, MINING AND COMMODITIESTRANSPORTTECHNOLOGY AND INNOVATIONPHARMACEUTICALS AND LIFE SCIENCES
8th Annual Gulf Ship Finance ForumIslamic Finance and Bond Finance: alternatives or compliments to traditional finance
Mohammed ParachaAlex RoussosNorton Rose (Middle East) LLP7 March 2012
FINANCIAL INSTITUTIONSENERGYINFRASTRUCTURE, MINING AND COMMODITIESTRANSPORTTECHNOLOGY AND INNOVATIONPHARMACEUTICALS AND LIFE SCIENCES
ContentsToday we will look at:1. The relevance of Islamic finance in today’s global economy2. Basic principles of Shari’ah3. Principal structures used in Islamic finance4. Combining Islamic equity and conventional debt5. Accessing the capital markets6. Conventional bonds7. Convertible bonds8. Structured finance techniques9. Sukuk
Dub#18790233
Why is it relevant? Growing demand for finance in many industrial sectors Islamic finance as a credible alternative source of funds Islamic finance needs tangible assets Islamic economic theory fully supports financing in many
industrial sectors where they add value and benefit to society Economic growth throughout the Muslim world Right deal, right place, right time…
Dub#18790234
The starting point….. The Christian faith was not without its own warnings against unfair
behaviour in the commercial context:
– “If thou lend money to any of my people that is poor by thee, thou shalt not be to him as an usurer, neither shalt thou lay upon him usury” (Exodus 22:25)
– “Thou shalt not give him [they brother] thy money upon usury, nor lend him thy victuals for increase” (Leviticus 25:37)
– “He that putteth not out his money to usury, nor taketh reward against the innocent. He that doeth these things shall never be moved” (Psalm 15)
– “He that hath not given forth upon usury, neither hath taken any increase … he is just, he shall surely live” (Ezekiel 18:8-9)
Although it is probably true to say that such prescriptions do not now apply in the secular world of modern finance
Dub#18790235
What is Shariah? Shariah - the principles of Islamic Law. Two main sources
– The Qur’an - the sacred book that records the word of God as revealed to the Prophet Muhammad (PBUH):
“… give up what remains of your demand for usury, if you are indeed believers. If you do not, take notice of war from Allah and His Apostle…” (Qur’an 2:278-279)“… God has permitted trade and forbidden interest…” (Qur’an 2:275)
– The Hadith - the body of documents that records the Sunnah (the practice) of the Prophet Muhammad (PBUH)
Dub#18790236
The main rulings of Shariah in finance Riba - the prohibition against the charging of interest but it is
wider than this - usury or unjust enrichment
Gharar - uncertainty - there must be full disclosure (e.g. certainty as to the subject matter or price of a contract)
Maisir - speculation or gambling - “obtaining something without risk/hard effort”
Unethical Investment - certain products prohibited (e.g. alcohol, armaments, pork) and activities (e.g. gambling, entertainment, hotels)
Dub#18790237
The key difference in practical terms
‘many products’
Bank Borrower
murabaha ijara
Istisna’a Istisna’a with ijara
‘one product’loan agreement
Dub#18790238
Asset Murabaha based ship financing
Seller Financier
Customer
(1) $100
(2) Title
(3) Title (4) $110
Security
NB: 1. Fixed term contract2. Difficult to restructure3. Suits short term financing only4. Can be syndicated
Dub#18790239
Commodity Murabaha ship financing
Vendor Financier Customer Third Party
Payment of purchase price
Payment of purchase pricePlus premium (deferred)
Payment of purchase price
Sale of commodity Sale of commoditySale of commodity
Acquisition of vessel/working capital
Funds utilisation
Dub#187902310
Istisna’a or manufacturer financing
Financier Manufacturer
Customer
$100
Title
Title
Notes1. Allows finance to be provided for pre-
delivery or manufacturing process2. Late delivery can be problematic3. Security can be given4. Sale or lease at delivery?
$110 1st istisna’a
2nd istisna’a
Dub#187902311
Ijara (finance lease) financing
Seller Financier
Customer
(2) Title
(3) Lease (4) Rent
(1) Purchase Price
Grant of options
Dub#187902312
Istisna’a with forward ijara
Customer Financier
Financier Customer
Operator
(2) Title
(1) Procurement Agreement to build ship/stage payments
‘during construction’
Step 1:
Step 2:put option/purchase undertaking
(3) Head Lease
(4) Rental
(5) Sub Lease
call option/sale undertaking ‘post-construction’
Dub#187902313
Combining Islamic equity & conventional debt
Financier
Lessee
SPV
Islamic Investor
LoanAgreement
$ Equity Contribution
Sub-lease
Option arrangements
Islamic Head Lease
DEBT EQUITY
Owner
Dub#187902314
Accessing the capital markets Why tap the bond markets?
– wider pool of investors, more liquid– easier access to funding / potentially better pricing terms– long tenors– build relationships with banking community
Good match for ship financing where longer term funding may be required
Restrictions on bank lending following credit crisis
Dub#187902315
Accessing the capital markets(1) Plain vanilla bonds
(i) Structures/methods of issuance– direct issuance by borrower– use of an SPV structure– stand-alone vs. medium term note programme– private placement vs. global offering– trustee vs. fiscal agency structure
(ii) Key parties– issuer/borrower– guarantor (typically encountered in SPV structure)– arrangers/lead managers/dealer group– trustee– paying agents– registrar– investors
Dub#187902316
(iii) Key documents– prospectus/offering circular (including terms and conditions of the securities)– dealer/subscription agreement– trust deed– agency agreement– mandate letter
(iv) Key considerations for issuers– responsibility for offering document– the diligence process– reps/warranties and covenants in the dealer agreement and the terms and
conditions– no security required– ratings– listing and continuing obligations
Dub#187902317
(2) Convertible bonds
(i) Key features and differences with plain vanilla bonds• What are convertible bonds?
– documentary and diligence process is much the same– however, main difference is that a CB allows the holder to convert the debt
to equity during a specified period in the future (the conversion period)• Examples of recent convertible bond issuances:
– USD150 million convertible bonds issued by Hanjin Shipping Co. Ltd in 2011
– USD110 million convertible bond issuance by Genco Shipping & Trading Limited in 2010
• determining the conversion price and the role of conversion price adjustment events
• offering document to contain disclosure on the company’s share capital and rights attaching to shares
• issuer call option and change of control provisions• key restrictions in doing a CB
Dub#187902318
(ii) Advantages and disadvantages of issuing convertible bonds– from the issuer’s perspective
• comparatively cheap method of funding• funding now for equity issued later• relative ease and speed of issuance• lower repayment risk• but risks of no conversion and dilution
– from the investor’s perspective• allows investors to hedge their investment risk and collect coupon during the
life of the bonds• downside risk relating to drop in share value, inability to liquidate or inability
to convert
Dub#187902319
(3) Sukuk Structures
Shariah–compliant bonds Key characteristics– asset-based instruments– must comply with laws of issuer’s and obligor’s jurisdictions, governing law, as
well as principles of Shariah– main structures encountered: Ijara, Mudaraba, Murabaha, Wakala– MT Venus Globy Sukuk example– the importance of obtaining a fatwa
• Documentation– diligence and disclosure similar to conventional debt– Islamic documentation in addition to capital markets documents
• Current market– liquidity and innovation
Dub#187902320
“Venus Glory” Al Safeena Ijara Sukuk
$ Rent Sub-Charter
Owner
Venus Navigation Ltd.BVI
Intermediate Charterer
Venus Shipping SAPan
Sub-ChartererVela International
Marine Ltd
[Lib]
100% shares
Charitable Trust
Jersey
2nd Int. Charterer Assignment
2nd Mortgage
2nd Owner Assignment
2nd Accounts Deed
2nd Accounts Deed
Service Agency Ag.
Call and Put Options
Call Option
Security AssignmentAssignment of Mortgage
Head Charterer
Al Safeena I LimitedJersey SPC
Offering Memo. Sakk InstrumentSubscription Ag.
$ Investment
Agency & Trust Deed
Head Charter
Intermediate Charter
$ Investment & $ Rent
$ Rent
$ ProfitSukuk investors
Notes 1. Parting with possession and charging
for use (usufruct)2. Enables a floating rate to apply3. Rental values may vary4. Insurance & maintenance5. Call option granted in a separate
contract6. On exercising the call the Lessee can
make a final payment to acquire title to the asset
Dub#187902321
(4) Structured finance Covered bonds: key characteristics– asset-backed securities assets, essentially comprising mortgages or other retail
or commercial loans– assets ring-fenced for investors in bankruptcy– can benefit from a credit rating which is higher than that of the issuer– used by shipping financiers e.g. HSH Norbank’s EUR 500 million covered bond
(June 2010)
Securitisation/off-balance sheet structured bonds– banks: true sale of shipping loans to offshore SPV which issues secured bonds– shipping companies: can use these structures to finance or re-finance vessels
or to securitise the cash flow generated by charter agreements (i.e. utilising the revenue stream). Title transferred to SPV which in turn issues the bonds. Bonds are secured over the vessels, earnings accounts, insurance policies and charter agreements.
– what a typical securitisation structure looks like:
Dub#187902322
“Classic” true sale structure
Servicer
Obligors Originator Issuer Noteholders
Note Trustee
Liquidity Provider
Security Trustee
£ + deferred consideration
Hedge Provider
interest + principal
£
sale of pool of loans
£
Dub#187902323
Conclusion
Significant opportunities for shipping companies and financiers
Bonds, convertibles, Sukuk, structured finance solutions all available to industry participants
Diversification necessary in current global economic conditions
Islamic finance and capital markets can complement traditional financing or independently fund the shipping industry
Dub#187902324
Disclaimer
The purpose of this presentation is to provide information as to developments in the law. It does not contain a full analysis of the law nor does it constitute an opinion of Norton Rose (Middle East) LLP on the points of law discussed.
No individual who is a member, partner, shareholder, director, employee or consultant of, in or to any constituent part of Norton Rose Group (whether or not such individual is described as a “partner”) accepts or assumes responsibility, or has any liability, to any person in respect of this presentation. Any reference to a partner or director is to a member, employee or consultant with equivalent standing and qualifications of, as the case may be, Norton Rose LLP or Norton Rose Australia or Norton Rose Canada LLP or Norton Rose South Africa (incorporated as Deneys Reitz Inc) or of one of their respective affiliates.