DUBAI : THE EMIRATE HAS A LOT OF EXPLAINING TO DO / THE FINANCIAL TIMES

The emirate has a lot of explaining to do

By Roula Khalaf, Middle East Editor

Published: November 26 2009 10:50

It came in a short statement about the restructuring of Dubai World, one of the emirate’s biggest and best-known companies, with the big news buried towards the end.

But the decision to ask bondholders of the company and its most troubled subsidiary, Nakheel, to extend maturities from December to May 2010 was a bombshell. And the Middle East’s most glamorous and creative emirate will pay the price of its decision for a long time to come.

For months, all indications in Dubai were that the heavily indebted city-state, symbol of the rise of the region as an economic powerhouse as much as of the excesses of the pre-financial crunch days, would meet the obligations of the companies it owns, and that Nakheel’s $4bn debt due in December would be repaid.

Only a few weeks ago, bankers in the region were so upbeat some had suggested that Dubai might not even need to raise more funds to pay debts due this year.

It helped of course that the emirate was showing signs of recovery, with fewer expatriates packing their bags than had been expected, retail sales on the rise and the real estate sector, devastated by the economic crisis, beginning to stabilise. The government itself looked confident too, and it went to the markets to raise funds, bringing in $2bn in Islamic bonds last month.

As always, though, the problem in Dubai is that no one had all the facts, and perhaps some in the financial community had all the wrong assumptions. The whole affair, one financial analyst told me on Thursday, was “typical of the way things work in Dubai – top down and in a vacuum, and that makes it very difficult for investors”.

True, top officials had indicated repeatedly that Dubai would not default on its debt – and Nakheel, developer of the extravagant Palm real estate project, was too important for Dubai to allow it to default. What officials have not explicitly said, however, was that the repayments would be made on time.

Interestingly, moreover, the prospectus that Dubai recently issued to test market appetite for government bonds said that the government was “not legally obliged” to meet the obligations of related entities – what is commonly referred to as Dubai Inc – but might at its sole discretion decide to extend such support. Most of the funds raised in the past year – including from Abu Dhabi banks on Wednesday, the same day that Dubai said it intended to call a “standstill” until May 30 on all its Nakheel and Dubai World debt due in December – were by the government itself, rather than individual companies.

So what was Sheikh Mohammed bin Rashid, Dubai’s ruler, up to on Wednesday? Was he indicating, as some suggest, that the government would allow some of Dubai’s bad companies to suffer in order to save the good ones? Was he simply trying to force the hand of the Dubai World bondholders to buy himself some time and leave open the option of repaying the debt next month if forced to?

Whatever his intention, the way Dubai has gone about its financial business has dealt a severe blow to its reputation. Bankers and investors are furious, feeling they were led on the wrong path.

“The credibility of these guys has been found wanting,” said one senior analyst at an international bank. “Whether there is a default or not the biggest issue is going to be credibility.”

Analysts, meanwhile, were scrambling to reconsider the assessments they had recently made about Dubai.

Hugely damaging was that the assumption that Abu Dhabi would always stand by Dubai and its flagship companies suddenly became unsustainable. “The credibility of Abu Dhabi to support Dubai with respect to its financing needs is dented, in our view, eroding the main pillar of Dubai’s creditworthiness,” said one financial institution in a note.

Was this perhaps Abu Dhabi’s way of taking its revenge on Dubai for all the mistakes during the boom years? I seriously doubt it. The rivalry between the two emirates is less important than the impact of Dubai unravelling. The cost of insuring Abu Dhabi debt went up on the Dubai announcement on Wednesday and continued to rise on Thursday. And, it has to be remembered that many of Abu Dhabi’s companies are exposed to Dubai, having been some of the most enthusiastic investors. Whatever Dubai is up to, it needs to explain itself – and do it before even more damage is wreaked on its credibility.

Copyright The Financial Times Limited 2009