When Sukuk Default

As the sukuk market has developed a number of issued sukuk have defaulted for a variety of reasons.

1MDB – Malaysia

In one of the world’s biggest financial scandals, billions of dollars from state fund 1Malaysia Development Berhad (1MDB) disappeared into the shadows of the global financial system.

In 2016 as the scandal unfolded 1MDB defaulted on two sukuk it had issued for a combined value of 7.4 billion-ringgit.

The US Justice Department estimated about $4.5bn was diverted from 1MDB, $1bn of which may have been laundered in the country with the purchase of real estate, yachts, jewellery and works of art among other goods.

For its role in the scandal the Securities Commission Malaysia reprimanded Deloitte because it failed to report irregularities detected in the Sukuk Murabahah Programme

Later Goldman Sachs reached a $3.9bn settlement with the Malaysian government for its role in the scandal.

Riza Aziz, stepson of former Prime Minister Najib Razak agreed to pay back funds and was accused of money-laundering over a $250m payment from 1MDB.

Dana Gas – UAE

In 2016 Dana Gas made an application to declare its debt “unlawful and unenforceable” and halted its sukuk payments. It sought to replace two Mudaraba structured sukuk with bonds paying less than half of the sukuk profit rate.

Dana Gas had decided to go down “the Shariah” route after it had failed to get its sukuk holders to agree to a restructure, and stated it no longer considered two sukuk it had issued totalling $700 million as Shariah compliant under the UAE law.

The legal battle ended in 2018 when the English High Court ruled in favour of the sukuk holders. The sukuk were subsequently restructured and reduced to $530 million from USD 700 million using an Ijara structure.

Conflicting legal verdicts in UAE courts had a negative effect on the perception of the UAE as a reliable jurisdiction.

Investor confidence suffered as concern grew other firms with sukuk may attempt to justify not honouring obligations by claiming sharia-based financial standards had changed since the sukuk issuance.

Nakheel – UAE

A near-default on a $3.5 billion sukuk by Dubai’s state-owned property developer Nakheel occurred in 2009 after the government of Dubai requested a 6-month standstill for its parent company Dubai World.

The sukuk was repaid with a last-minute bailout from the Abu Dhabi government.

Despite the sukuk documentation stating otherwise, investors and the rating agency Standard and Poor’s had wrongly perceived the sukuk had a guarantee of the Dubai government via the parent Dubai World, a state-owned company.

Standard & Poor’s, gave an A+ rating to sukuk with a view ‘that the purchase undertaking provided to DP World Sukuk from its parent [Dubai World] also benefited from strong implicit government support’ (S&P 2007).

Golden Belt – Saudi Arabia

Saudi Arabia’s Saad Group defaulted on its $650 million Golden Belt sukuk in November 2009.

Corruption and fraud charges of $10 billion were filed against a Maan al-Sanea, the owner of Saad, for misuse of funds and the firm’s finances were frozen resulting in a sukuk default.

As investors sought to take enforcement action the sukuk structure was found not to be bankruptcy proof as a signature on a legal document was not genuine and unenforceable under Saudi Arabia law.

Sukuk investors sued BNP Paribas alleging that it had “negligently failed to take sufficient care or steps” to ensure that it had security over the assets of the sukuk. BNP Paribas had failed to get a “wet-ink” signature from al-Sanea which was necessary to make a contract binding under the laws of Saudi Arabia.

Investment Dar – Kuwait

Investment Dar, a Kuwaiti-based firm, defaulted on a $100 million sukuk in 2009, marking the first sukuk default in the Gulf region. It eventually restructured it in 2011, converting part of creditors’ claims into equity in the company.