Federal Public Debt Law
On December 28, 2010, almost two years after the United Arab Emirates (UAE) Cabinet announced that its Ministry of Finance would prepare a draft law on public debt at federal level, the Federal National Council of the UAE approved an amended draft Public Debt Law (New Law). The thrust of the New Law is to establish a legal framework to authorize the UAE to borrow and to raise funds in a number of ways which should act as a catalyst to develop a local debt securities market. The New Law is now in its final stages before it comes into force.
The New Law will limit the level of public debt to the lower of (i) 25 per cent of Gross Domestic Product (GDP) of the UAE and (ii) US$2 billion. The figures, however, have been reduced from 45 per cent of GDP of the UAE and US$3 billion, respectively, over recent months in the wake of the global financial crisis. Having a prudent limit should provide market confidence in the UAE and in its debt securities. Limits for individual Emirates have been reported as unchanged at 15 per cent of GDP for each Emirate.
UAE's Next Steps
The UAE has to take two more steps before the law comes into force: (i) final approval from the UAE Cabinet; and (ii) signature of the President of the UAE, His Highness Sheikh Khalifa bin Zayed Al Nahyan. The New Law will then be in force and publicly available. The UAE has been working with the IMF, the World Bank and other institutions to reach this stage.
With planned infrastructure for the UAE, including transport and water projects needed, as well as a budget deficit of US$3 billion predicted, accessing financing from the debt capital markets for short and long term funding (from one to 30 years) and from a wider international institutional investor base could prove an advantage. Previously, large projects were financed from reserves created by oil wealth or by bank borrowing. To create a visibly stable economy, the White Paper on Local Currency Debt Market Development 2009 issued by the DIFC Working Group on Debt Market Development (White Paper) suggested that the UAE take the following steps:
- Access debt markets
- Access different types of international and institutional investor
- Issue debt securities of different tenor, e.g. one to five years and up to 30 years
- Retain sophisticated financial advisers with international experience
- List on NASDAQ Dubai if its criteria are met
- Seek a rating for its debt securities to make them available to a wider investor base
The White Paper recommended that the Government could issue bonds with a variety of maturity dates, suggesting one, two, five, seven, ten and 30 years. Once available, it will be interesting to note whether the New Law has followed this recommendation or included any limits on maturity.
The Ministry of Finance has to create a Public Debt Management Office (PDMO) to advise the UAE Federal Government on strategy, investment decisions, debt issuance and borrowing with short and long term financing options. It has already established one section within the Ministry of Finance called the Public Debt Management Unit to deal with middle office duties of advising the Government, planning and working out public debt strategy. The UAE Central Bank will manage both the front office duties of dealing with a particular debt issue and the back office duties of clearance, settlement and trading.
Each of the Emirates of Dubai and Abu Dhabi has already established its own PDMO in relation to public debt for the Government of Dubai and the Government of Abu Dhabi. Each has issued debt instruments into the international financial markets, the latest in September 2010 by the Government of Dubai in two tranches—the Dubai US$500 million 6.7 per cent bonds due 2015 and an issue of US$750 million 7.75 per cent bonds due 2017—both of which were oversubscribed, according to press reports.
The Emirate of Ras Al Khaimah has also accessed international debt capital markets recently. Acting through the Investment & Development Office, it undertook one of the first public structured liability management exercises in the sukuk market. The deal involved a tender and exchange offer to existing certificate holders and a consecutive consent solicitation, along with a concurrent new issue under the Government's RAK capital certificate issuance program. The exercise won "The Most Innovative Deal of the Year" at the Islamic Finance News Awards in 2011. SNR Denton advised the Government of Ras Al Khaimah. For more information see Ras Al Khaimah.
Once the federal PDMO is in place, a historic first government bond will need a PDMO approved prospectus before issue. Such a bond is likely to be unsecured (as is most sovereign debt) but may or may not have a credit rating. Obtaining a credit rating would expand the range of potential investors (e.g. pension schemes or funds) to include those which are only permitted to invest in securities with a recognized credit rating.
A Local Debt Securities Market
The UAE Government and the rulers of the UAE intend to develop a local debt securities market in UAE Dirhams. A pricing comparison with international markets will be possible as the UAE Dirham is pegged to the US Dollar. By issuing debt securities of different maturities, the local market will develop a benchmark for pricing corporate or bank bonds by reference to the UAE government bonds. A recognized benchmark should encourage not only investors but also potential new issuers into the local UAE capital markets.
As the New Law is not yet publicly available, the specific types of debt instruments or borrowing permitted under it are still uncertain. However, the White Paper suggested that simple, standardized issues e.g. zero coupon bills with short maturities, or bonds with semi-annual coupon bills, could be issued. Being within the GCC1, which is receptive to Shari'ah- compliant arrangements, the UAE Government may opt for a sukuk issue. It is likely that the New Law will give general powers to raise finance, borrow and issue debt instruments, along the lines of the public debt law for the Emirate of Dubai, without specifying which particular types of structures are permitted. We expect that the role of the PDMO will be to advise the UAE Government on suitable financing for particular situations and have the ability to look at a variety of financing options.
The White Paper discussed a "Local Currency Debt Market" in UAE Dirhams. However, it remains to be seen whether the UAE, at federal level, will also issue debt securities in foreign currency, e.g. US Dollars, as the Emirates of Dubai, Abu Dhabi and Ras Al Khaimah have now done.
Market participants will be eager to know how quickly a bond can be issued and the procedures and levels of consent needed under the New Law, but details of the procedures for approval of a particular issue are sketchy and may be finalized in regulations. This was the case with the law relating to Public Debt for the Emirate of Dubai, Law 7 of 2008.
Other Legal Issues
The White Paper from 2009 called for legal changes to create a sustainable market which include:
- Free flow of information to develop guide pricing
- Clear, effective rules on insider dealing
- Counterparty risk to be minimal
- Best international practices
- An objective regulator with international experience
- An effective bankruptcy regime
The Dubai Financial Services Authority (DFSA) is already recognized as an objective regulator employing professional staff trained in financial services authorities in the UK and in other established markets. NASDAQ Dubai is a recognized exchange conducting transactions and listings by international standards although not in the quantity of other established markets at the moment.
Further legislation is needed on procedures but the rulebook of DFSA and the NASDAQ Dubai rules may only need a few small adjustments, states the White Paper.
In relation to insolvency, the DIFC courts recently held a conference on reform entitled "Insolvency in the UAE and Across the World". On the same day, Reuters reported that an early draft of a new UAE bankruptcy law has been prepared. A review of insolvency law in the UAE now seems to be on the radar, but as yet no timetable for reform has been published.
Is it the UAE's Time to Launch its Own Debt Securities?
With the legal framework all but in place, the UAE can join its GCC neighbors in issuing government bonds. Any such issue would be likely to be of a fairly substantial size so that a secondary market can develop. A listing on NASDAQ Dubai, states the White Paper, would be of benefit to a government bond, as it can provide access to a local and international investor base through local and international members. A credit rating could make the bonds accessible to a wider range of investors and help to establish the benchmark for pricing. Crucial to the development of a government bond market in the UAE is the new PDMO with professional advisers who can look at all the options for short and long term financing and advise on fiscal policy, budget and government financing strategy for the UAE.
It will be interesting to see how a UAE government bond, which may be viewed by the markets as a consolidated sovereign credit, will perform against bonds issued by individual Emirates and other sovereign issuers. Currently, there is no indication as to how a UAE bond would be structured or the extent of any recourse to individual Emirates. It remains to be seen whether issues at the UAE federal level might crowd out bonds by individual Emirates.
We will be keeping a watch on the development of the legislation, any government bond issue in UAE Dirhams and any sovereign debt issue in a foreign currency from the UAE.
Click here to view table : Steps to Issue the First UAE Debt Securities
Click here to view table: Final Steps
In addition to the contacts listed above, the following lawyers significantly contributed to this publication: Jacqueline Cook.