Corporate Bonds and Sukuk Issues Developing the Market in Maldives Rabel Akhund 7 May 2008 Male

Corporate Bonds Bond is a debt instrument. Issuer of bonds obliged to pay holders of the bonds interest and principal on specified repayment dates. Bond markets are a core sector of any capital market. Conventionally, there are two ways of raising finance. Equities Debt

Corporate Bonds Bonds are tradable debt securities. In that way different from bank financing. Issuers can use bonds for both general purposes and specific projects and assets.

Corporate Bonds for Investors For investors bonds are an important savings product. Offer investors higher return than a cash deposit but lower risk than equities. Predicatable cashflows make it a suitable investment for pension funds and insurance companies. Returns on bonds vary, they can be zero coupon, fixed rated or benchmarked to a floating interest rate.

Corporate Bonds for Issuers Maturities can also differ. Will depend on nature and objectives of the Issuer. Government bonds usually have 30 year maturities. Corporate bonds can have maturities of 5-10 years. Short term bonds are not being considered here. Presence of covenants affect the risk profile of bonds. Negative covenants restrict future actions of issuer, e.g., future debt issues by Issuer and future dividend payments by Issuer.

Types of Bonds Government Bonds Investment grade Corporate Bonds High yield (more risky) Corporate Bonds Asset backed Bonds (Project Specific)

Historical Background - Sukuks Need for liquidity and good liquidity management Different periods between maturities of assets and deposits – resulting in either surplus of non performing cash or a shortage of cash to fund investments Lack of: active interbank and secondary market (mostly primary market trading) acceptable Shariah compliant instruments acceptable regulatory conditions limited available agency credit ratings unsophisticated market limited information flow The need for a more sophisticated capital, financial and insurance market.  

Sukuks – Legal Meaning All this changed with the development of the Sukuks. Definitions: a) “Participation Securities, coupons, investment certificates” b) “Certificates of equal value, representing an undivided beneficial ownership in the underlying assets”

Types of Sukuks MUDARABA SUKUK IJARA SUKUK A mudaraba is a partnership for profit between capital employed on one hand and work on the other. Mudarib/Rabbul-Mal IJARA SUKUK An ijara is essentially an Islamic leasing transaction which can be used as a financing tool. DEVELOPMENT SUKUK (ISTISNA) Istisna is defined as a contract of sale of specified goods to be manufactured with an obligation on the manufacturer to deliver them upon completion. Like turnkey projects. MUSHRAKA SUKUK Musharaka is a form of partnership whereby each party contributes assets or capital with a view to establishing a project or to share in an existing one.

Ijara (Leasing) Sukuk Can be used for long term infrastructure projects by the mobilisation of short term deposits i.e. securitisation of Government tangible assets Possible use in project financings, e.g. development of a Tourist Resort.

Typical Project Financing Structure CONTRACTING AUTHORITY SPONSOR Services (and other) Direct Agreements Security FINANCING BANKS PROJECT COMPANY Debt Finance Agreement Contractor Direct Agreement Sub Contractor Sub Contractor Sub Contractor Sub Contractor Hard PM Soft PM

Ijara (Leasing) Sukuk – Case Study for a Project Financing of a Tourist Resort. Works as follows:- sale of tangible assets to a special purpose restricted Mudaraba (SPV) assets are then leased to the interested parties through a Ijara lease the MUDARABA participation SUKUK will be issued and sold to public/investors with a guarantee of payments (usually from Government or international bank) required security will be given to SUKUK holders MUDARABA managed (on behalf of SUKUK holders) by MUDARIB MUDARIB signs and executes all relevant contracts ensures Shariah compliance transparency and efficient operation

Leasing Sukuk - Tourist Resort SUKUK Holders Periodic rentals and capital amount payments Sukuk proceeds Periodic rentals and capital amount payments Lessee (Project Operator) MUDARIB Seller Assets/Hotel (Beds) Sold MUDARABA (SPV) Project Assets Sukuk proceeds IJARA Lease For a fixed period of time and service agency

Legal Requirements for Bonds and Sukuks Laws must allow the concept of trust. Important for Sukuks and Bonds. Contract law must recognise debt obligations and repayment obligations. Property laws must recognise the concept of security interests. Insolvency laws must give priority to security holders in the event of the insolvency of Issuers.

Market Requirements for Corporate Bonds and Sukuks. A sufficient number of investors. A sufficient number of issuers. Investment professionals and other professional advisers available to advise on structures, e.g. lawyers and accountants. The need for a secondary trading market to provide liquidity. Listing rules similar to your stock exchange listing rules. Effective legal documentation. Credit rating. Transparent dealings. Adequate investor protection

Enforcement The need for a suitable enforcement regime. Protection of creditors’ rights. Enforcement of judgments in a timely and efficient manner. Possibility of foreign arbitration. Consider sovereign guarantee for sukuk issues.

Debt outstanding versus stock market capitalisation (in billions of Euros) 2004

E-mail: r.akhund@taylorwessing.com RABEL AKHUND Taylor Wessing Carmelite 50 Victoria Embankment Blackfriars London EC4Y 0DX Tel: 0207 300 7000 Fax: 0207 300 7100 Direct Dial: 0207 300 7096 E-mail: r.akhund@taylorwessing.com Web: www.taylorwessing.com