Distressed-asset investors are beginning to look at the burgeoning number of defaulting loans at regional banks as a potential future windfall.
Essdar Capital, a Dubai investment and advisory company controlled by two members of the Abu Dhabi Royal Family, is planning a US$500 million (Dh1.83 billion) fund that would buy such loans at a severe discount. The fund would then restructure them or sell the underlying assets to turn a profit.
While the Central Bank puts the total amount of non-performing loans at banks at Dh37.2bn, Essdar predicts the amount will more than double in the near future when the full impact of the property downturn and global financial crisis on banks' balance sheets becomes clear. Suketu Sanghvi, a senior managing director at Essdar, pointed to the rising number of loans that are being restructured at UAE and Kuwaiti banks as a clear indication that things were going to get worse.
"There are a huge amount of problem assets that have not been written off yet," he said. "The advantage is that they are going to have new losses in the future when they provision these loans, and they will need new profits to offset these. We can buy the asset for 20 cents on the dollar and try and recover perhaps 40 cents from the loan." A market for these distressed assets would help ease the plight of banks, analysts said, but the significant rise of provisioning may mean a recovery in the economy could be pushed back by years.
The IMF predicted in a recent working paper that the number of non-performing loans would increase significantly in the GCC and lead to greater regulation of banks and supervision of the financial system. The study found a strong correlation between a rising number of non-performing loans and lower non-oil economic activity. Moody's Investors Service said in a June report it expected the number of problem loans to increase to 12.5 per cent of all loans by the end of the year, from 4.9 per cent at the end of last year.
Essdar's bad-loans fund would be a first for the UAE, said Terence Allen, the managing director of Allied Investment Partners, an investment bank in Abu Dhabi. "The private-sector banks would be quite interested in talking to a fund that buys non-performing loans," he said. "The snag would be if they had not already provisioned for the loans. Then they would have to take the losses either way." He estimated that about half of local banks were facing steep challenges with non-performing loans that would need to be addressed in the year ahead.
"Whether their accounts show it or they have creative accounting policies, these problems should come home to roost very soon," Mr Allen said. "One way or another, there has to be mergers. They are way overdue here." International banks that lent to companies in the region have managed to sell off troubled assets recently. Creditors of the Saad Group, the Saudi conglomerate owned by Maan al Sanea, recently sold a portion of debt for 15 cents on the dollar. The Saad Group began defaulting on its obligations last summer, and creditors have filed cases against the company in New York, London and the Cayman Islands.
Banks that lent to Dubai Holding, a large Dubai conglomerate, have been trying to sell loans for between 60 and 70 cents on the dollar. Essdar's fund would be different because it would target non-performing loans of UAE and regional banks, which have yet to begin selling them. Mr Sanghvi said the problems the banks were facing were nowhere near the scale of those faced by lenders in the US and Europe during the global financial crisis.
"At this stage, it doesn't appear to be as big a problem," he said. "You have a very strong government behind them and the exposure is not as large." Instead, the UAE would face a situation similar to that of Japan, which had a banking crisis in the 1990s, Mr Sanghvi said. During that time, the Japanese government frequently helped its banks with non-performing loan issues. "The issue of how the UAE is going to unlock its economy is an issue that will be given more and more importance in the next few years," he said. "That's the thought process decision makers will need to initiate in the near future."
