Sukuk Bankruptcies: East Cameron and Nakheel case studies Abu dhabi , UAE 22 April 2015

1. Sukuk Bankruptcies: East Cameron and Nakheel case studiesAbu dhabi, UAE22 April 2015 Sau Ngan Wong, Senior Counsel, Finance and Markets Global Practice The World Bank Group saunganwong@worldbank.org

2. Agenda Case Studies of East Cameron Partners & NakheelSukukDefault: Structure of Sukuk What were the main reasons for Sukukdefaults? How were the distress situations resolved? Did investors have any recourse to Sukukassets and if not, why not? How have Sukukbeen restructured after default events? Does the analysis of these distress situations and their resolution offer insights on the future of Islamic Finance?

4. Case study 1: East Cameron Partners (ECP) Sukuk ECP issued sukukof USD165.67 million in July 2006 with maturity period of 13 years Underlying contract was musharakah Sukukinvestors own Overriding Royalty Interest (ORRI) in two gas properties through an SPV acting as a trustee of sukukholders Louisiana state law recognizes ORRI as real property The originator also contributed its funds into the musharakah Assets of the musharakahwere co-owned by sukukholders and the originator company ECP Sukukwere secured by a mortgage on the assets of the issuer (ECG) which included the ORRI and secured accounts

5. East Cameron Partners (ECP) Sukuk

7. East Cameron Partners (ECP) Sukukcontd.

8. ECP Sukuk default… In 2008, ECP defaulted on periodic payments to sukukholders ECP filed a petition for bankruptcy protection under chapter 11 of US Bankruptcy Code in October 2008 ECP filed ‘adversary proceedings’ and requested the court to consider the primary sukuktransaction with the purchaser SPV as ‘secured loans’ and not as ‘true sale’ of assets This would imply that sukukholders were to share the assets with other creditors of the originator in liquidation process if the transaction is considered secured loan US Bankruptcy court rejected ECP argument saying that “ [sukuk] holders invested in the sukuk certificates in reliance on the characterization of the transfer of the royalty interest as a true sale” ECP then filed a revised lawsuit but stakeholders finally agreed to resolve the case through negotiations Underlying assets (ORRI) were finally transferred to the issuer for the benefit of sukukinvestors

9. Resolution of ECP Sukukdefault Set the precedent that asset backed Sukukare in fact “bankruptcy proof” Court approved the Asset Purchase & Sale Agreement between ECP and Offshore SPV which is owned by the Sukuk holders Transfer of assets to SukukSPV was shown to be safe from bankruptcy of the originator company Asset Purchase Agreement transferred the title over both leases (East Cameron block 71/72) to the Sukuk holders “The purchase price, which will not be paid in cash, includes the liabilities assumed by the buyers, as well as the $4.865 million extended as Debtor in Possession financing (DIP)” Sukukholders’ rights to assets were protected by a well-developed legal system of collateral and recognition of all the contracts by US Bankruptcy court

10. Agenda Case Study of East Cameron Partners Default: Structure of Sukuk What were the main reasons for Sukukdefaults? How were the distress situations resolved? Did investors have any recourse to Sukukassets and if not, why not? How have Sukukbeen restructured after default events? Does the analysis of these distress situations and their resolution offer insights on the future of Islamic Finance?

11. Case study 2: NakheelSukuk The Dubai-based NahkeelSukukwas issued in December 2006 for a period of 3 years maturing on 15 December 2009 to raise USD3.52 billion Sukukwere listed on the Dubai International Financial Center Main objective of the Sukukwas to finance a property development project ofNahkeelCo. PJSC The Sukukwere issued as asset based Ijarahmanfaa in which Sukukholders, via an SPV, buy the leasehold interest of the primary assets without transferring the titleof the assets to them Sukukholders only had rights on the stream of income generateby the assets and not on the assets themselves

13. The originator in this structure was Nakheel Holdings-1 LLC (Nakheel Holdings 1) Nakheel Holdings 1, Nakheel Holdings-2 LLC (Nakheel Holdings 2), and Nakheel Holdings-3 LLC (Nakheel Holdings 3) were subsidiaries of Nakheel World LLC (Nakheel World), which held 99% of the shares in all three Nakheel Holdings All three Nakheel Holdings had a subsidiary, Nakheel PJSC, which was operating in the real estate sector in Dubai The parent company and 100% shareholder of Nakheel World was Dubai World, a 100% state-owned company The SPV was Nakheel Development Limited (Nakheel SPV), a newly incorporated Free Zone company with limited liability in the Jebel Ali Free Zone

14. Pursuant to a purchase agreement – Nakheel Holdings 1 sold leasehold rights to the underlying tangible assets for a period of 50 years (the sukukassets) to Nakheel SPV Underlying tangible assets were land, buildings, and other property at Dubai Waterfront The aggregate amount for the entire lease period of 50 years was paid by Nakheel SPV to Nakheel Holdings 1. This amount was raised by the issuance of Sukuk NakheelSPV acted as agent and trustee for and on behalf of the Sukukholders, in accordance with an agency declaration and a declaration of trust. Hence, each sakkrepresented an undivided beneficial ownership of the trust assets held in trust for the Sukukholders

15. NakheelSPV, as lessor, leased Sukukassets to Nakheel Holdings 2, as lessee, for a period of three years. The lease comprised six consecutive periods of six months each In accordance with a servicing agency agreement, Nakheel Holdings 2 as the lessee was responsible for maintenance, structural repair, proprietorship taxes, and insurances in respect to the Sukukassets. NakheelSPV would pay the lease payments to the Sukukholders At redemption date, Nakheel Holdings 2 as the lessee had to purchase the Sukukassets from the lessor in accordance with a purchase undertaking at exercise price that was equal to the redemption amount of the sukuk Proceeds received by Nakheel Holdings 1 as lessor would be used to pay back principal amount to Sukukholders

16. NakheelSukuk Guarantee Structure

17. Nakheel Holdings 1, Nakheel Holdings 2, and Nakheel Holdings 3 (the co-obligors) granted a co-obligor guarantee to Nakheel SPV. Each of them jointly and severally guaranteed payment, delivery, and other obligations Under this co-obligor guarantee, the co-obligors entered into various covenants, such as a negative pledge, change of control provisions, limitations on financial indebtedness, asset sales, loans, dividends, the granting of security, and the granting of undertakings to maintain insurance and provide financial information In addition, Dubai World issued a guarantee to Nakheel SPV for the payment obligations of the co-obligors. Under that guarantee, Dubai World also entered into certain covenants such as a negative pledge and maintenance of ownership undertaking (stating that it would maintain ownership and control over its subsidiaries)

21. In December 2009, Abu Dhabi, also an emirate of the UAE, granted Dubai a $10 billion loan to repay some of its debts This loan was used to refund the Sukukholders their principal amount at maturity date, and the Sukukwere redeemed In March 2010, two other outstanding sukukof Nakheel that come due in 2010 and 2011: they will be paid back in full as well

23. Agenda Case Study NakheelSukukDefault: Structure of Sukuk What were the main reasons for Sukukdefaults? How were the distress situations resolved? Did investors have any recourse to Sukukassets and if not, why not? How have Sukukbeen restructured after default events? Does the analysis of these distress situations and their resolution offer insights on the future of Islamic Finance?