The Potential of Sukuk as a Capital Raising Instrument for the United States

THE HISTORY OF SUKUK By: Camille Paldi

CEO of FAAIF

Chicago Islamic Finance Conference 2014

Chicago, Illinois, USA

INTRODUCTION: THE ORIGIN OF SUKUK

Sukuk is derived from the word sakk, which can mean legal instrument, deed, and cheque. Sakk can also mean to strike a seal on a paper document.

The first sukuk transaction took place in Damascus, Syria in the Great Mosque of Damascus (Umayyad Mosque) in the 7th Century AD. Syria is a treasure house of culture and history.

SHEIKH ZAYED MOSQUE, ABU DHABI, UAE

SUKUK LINGUISTIC ORIGIN AND DEFINITION

Tawriq (from wariq) means to render something into cash. Taskik (from Sakk) is also used as securitization though literally refers to the process of dividing the assets into papers (Sukuk).

Tawriq is defined as: “transforming a deferred debt for the period between the establishment of the debt and the maturity period into papers, which can be traded in the secondary market.” (in Majallah Majma ‘Al Fiqh’)

MAIN FUNCTION OF SUKUK

The main function of sukuk is to provide an alternative to conventional bonds, in other words, to provide the benefits associated with conventional bonds, but in a Shari’ah compliant manner.

SUKUK HISTORY

In 1990, in Malaysia Shell MDS Sdn Bhd issued a sukuk ijarah worth RM 125 million. Issuances grew 145% in 2006 compared to 2005 to reach US$27 Billion. The sukuk market peaked at US$47 Billion in 2007 and dropped by 55% to US$21 Billion in 2008.

The market recovered in 2009 to reach a total issuance of US$31 Billion, which was higher than the total issuance in 2006.

2012 saw US$110 Billion in sukuk issuances while 2013 tapered off with US$79 Billion.

HISTORY OF SUKUK IN THE USA

The US has seen two major sukuk issuances including the East Cameron Gas Sukuk, which was the first ever musharakah sukuk in America backed by oil and gas assets and the General Electric Sukuk, which is an ijarah sukuk backed by aircraft leases due for maturity in November, 2014.

Although the Cameron Gas Sukuk experienced some technical difficulties, the General Electric Sukuk is performing well and there is a large potential for sukuk in the United States as a capital raising instrument for American firms.

US STATE LEGISLATION FOR SUKUK

In fact, both the state of New York and the state of Illinois have initiated state bills in their legislatures enabling sukuk transactions.

Illinois Bill Title: Bill Islamic Finance Sukuk. New York Senate: Bill Introduced by Senator

Parker in the New York State Senate in 2011.

*Copies available upon Request.

EAST CAMERON GAS SUKUK

East Cameron Partners LP saw the sukuk issuance as an affordable and flexible finance opportunity through which it could raise the funds needed to purchase other shares from its non-operating partner, Macquarie Bank, whom wished to sell its share in the business.

East Cameron Partners LP (“ECP” or the “Originator”) is an independent oil and gas exploration and production company, based in Houston, Texas whose producing assets consisted of two gas properties located offshore of the State of Louisiana, USA.


East Cameron Partners (ECP) issued sukuk of USD165.67 million in June 2006 with a maturity period of 13 years.

This was the first sukuk issued by a company based in the United States and rated by Standard & Poor’s.

The underlying contract was musharakah (co-ownership/joint venture) in which sukuk investors own so called Overriding Royalty Interest (ORRI) in two gas properties located in the shallow waters offshore the State of Louisiana through an SPV acting as a trustee of sukuk holders.


The SPV was called East Cameron Gas Company (ECGP) and incorporated in the Cayman Islands.

The originator also contributed its funds into the musharakah.

The assets of the musharakah were co-owned by the sukuk holders and the originator company ECP.

The sukuk were secured by a mortgage on the assets of the issuer, which included the ORRI and secured accounts. The sukuk were initially rated CCC+ by Standard & Poor’s and then downgraded to CC and finally D.


The East Cameron Gas sukuk had a fixed payment of 11.25% annually. However, there was also a variable component because the sukuk returns depended upon the production quantities (the overriding royalty interest (ORRI) specified a fixed quantity of natural gas be delivered to the SPV).

It also contained a redemption feature by where a percentage of the sukuk would be redeemed if production exceeded a certain level.


Sukuk holders were also exposed to risks found in the energy sector (i.e.) the volatility of natural gas and condensate prices, which may adversely affect payments on the sukuk.

In order to hedge against severe price fluctuations in oil and gas markets, there was a Shariáh compliant hedge that established a price collar between $7 and $8 per million BTU (Mbtu) on half the expected products gas production and a put option at $6 per MMBtu for an additional quarter of anticipated production (Goud, 2009).

EAST CAMERON GAS SUKUK PARTIES

Originator: East Cameron PartnersIssuer: East Cameron Gas Company

EAST CAMERON GAS SUKUK SUMMARY

Sukuk Name: East Cameron Gas Company SukukIssue Size: USD $165,670,000Closing Date: 15 June 2006Shari’ah structure: MusharakahCurrency: USDMaturity/Tenor: 13 yearsUnderlying Assets: Oil and gasRated by: Standard & Poor’sRating: CCC+ to CC and in March 2009 DPayments: QuarterlyReturn: 11.25% (Courtesy of Jassim Mahadik)

EAST CAMERON GAS SUKUK Instead of being solely used to support the

capital and operating costs of drilling and operating wells in the Gulf of Mexico for East Cameron Partners, the proceeds were also used to pay most of the conventional debt of the company.

This brought the debt- to- equity ratio of the company to a Shariáh compliant level, however, also bankrupted the sukuk.


On October 16, 2008, East Cameron Partners filed for bankruptcy protection under chapter 11, claiming its inability to pay the periodic returns on its USD166 million sukuk issued in June 2006.

GENERAL ELECTRIC SUKUK PARTIES

Originator: Sukuk Aviation Leasing Inc through GE (SAL is a subsidiary of GE Capital).

Issuer: GE Capital Sukuk Limited

GENERAL ELECTRIC SUKUK SUMMARY

Sukuk Name: GE Capital SukukIssue Size: USD $500,000,000.00Closing Date: Shari’ah structure: IjarahCurrency: USDMaturity/Tenor: 5 years due for maturity in November 2014Underlying Assets: Aircraft leasesRated by: Standard & Poor’s Rating: AA+Payments: Semi- annually (May and November, due in 2014)Return: 3.875% (Courtesy of Jassim Mahadik)

POPULARITY OF SUKUK AND CONCLUSION

The sukuk instrument is growing in popularity around the world as an innovative financing instrument and a way to raise funds for various projects, business expansion, and increased competitiveness, which attracts ethical and creative investors worldwide. The UK just announced it is the first Western Nation to issue a sukuk (200 Million Pounds). The USA should join the competition.

THE END

AL HUDA CERTIFIED SUKUK PROFESSIONAL COURSE

FEEL FREE TO CONTACT ME AT [email protected]

The End

FAAIF TRAINING EVENTS OCTOBER 2014

Islamic Banking and Finance Workshop, FAAIF and Al Huda CIBE in conjunction with the University of New Orleans, October 6-7, 2014, New Orleans, USA.

Islamic Finance for Lawyers, FAAIF and Al Huda CIBE in conjunction with the School of Law, October 24-25, 2014, Lahore,

*Flyers Available Upon Request.

The Potential of Sukuk as a Capital Raising Instrument for the United States

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