(Clarifies that fair value estimate given in research note)
* Company expected to stay highly leveraged for years
* But sukuk aided by limited supply, liquidity
* Benefits from general improvement in Dubai sentiment
* Analysts see fair value at 6.4-6.75 percent
By Mala Pancholia and Rachna Uppal
DUBAI, June 14 An oversubscribed sukuk from
state-owned Jebel Ali Free Zone (JAFZA), sold on Tuesday, looks
set to continue attracting demand in the secondary market, where
it has already been bid higher post-issue.
JAFZA, an industrial park on the outskirts of Dubai and part
of state-owned conglomerate Dubai World, priced its
$650 million, seven-year sukuk at 7.00 percent, at the tighter
end of guidance, with an order book that was more than three
The company will use proceeds from the issue plus a $1.2
billion Islamic financing facility to repay a $2
billion-equivalent sukuk maturing later this year, which was
previously seen as one of corporate Dubai's most difficult debt
maturities of 2012. The rest of the maturing sukuk will be
repaid with internal cash resources.
The new sukuk, issued at par, was trading at 101 levels on
Wednesday, according to two Dubai-based traders.
"When all is said and done, the deal will do well and will
probably trade up on the secondary and with it lift the rest of
the GREs (government-related enterprises)," Ahmed Alanani,
senior executive officer at investment bank Exotix, said in a
note on Tuesday.
Compared to Dubai Holding Commercial Operations Group's
(DHCOG) 500 million sterling-denominated bond, maturing 2017
with a coupon of 6 percent and now yielding over
10 percent, JAFZA did not pay a generous premium for its issue.
Both bonds are rated B2 by Moody's and fully government-owned.
However, DHCOG's yield needs to account for currency risk
and an illiquidity premium. Although both credits are exposed to
Dubai's real estate market, JAFZA's strategic importance to the
state's infrastructure scores it above DHCOG.
Another Dubai Inc credit, state monopoly Dubai Electricity
and Water Authority (DEWA), rated a few notches above JAFZA at
BBB-, has seen yields on its outstanding 2020 maturity tighten
in recent weeks.
Some bankers still consider the $1.5 billion, 6.375 percent
bond cheap at current levels of 106 cents on the
dollar to yield 6.43 percent. Yields have tightened about 20
basis points since June 5, when JAFZA's new issue was announced.
Other factors are attractive in the JAFZA sukuk. The deal's
size of $650 million means limited supply, while the company is
seen by many investors as strategically important to Dubai's
"JAFZ's baseline credit assessment continues to rely on its
inherently strong business model, which in turn rests on a large
pool of rental contracts with diversified tenants that exhibit
high occupancy levels and, to date, low churn rates," Moody's
said earlier this month.
Furthermore, a general improvement in investor sentiment
towards Dubai over the last several months, thanks to its
progress in restructuring corporate debt and its image as a safe
haven amid regional instability, are helping JAFZA.
"JAFZ is statement of trust and confidence in Dubai. The
paper will eventually settle in the region of 6.60-6.75
percent," said Sufyan Sadiq, capital markets manager at
Commercial Bank International in Dubai.
Dubai's five-year credit default swaps, the
cost of insuring against a sovereign default, were bid at 360
bps on Wednesday, 33 bps tighter since the beginning of this
month and over 80 bps tighter since the start of this year - a
particularly impressive performance during a global financial
Alanani said the company's problems, especially the fact
that it remained highly leveraged, would continue to weigh on
JAFZA's leverage post-refinancing will stand at an elevated
six times earnings before interest, taxes, depreciation, and
amortisation (EBITDA), which is not a meaningful reduction from
the current 6.5 times, Exotix said. Its interest burden is
expected to remain high for the next seven years.
"Once the euphoria dies down and reality sets in, we will
all realise that little has fundamentally changed with this
credit and management have their job cut out for them in the
coming years," Alanani said.
Many local investors, however, do not attach much weight to
the leveraging figures because they do not see JAFZA as a
standalone credit. Instead, they think it enjoys the implicit
backing of the Dubai government, which appears ready to do what
it is necessary to prevent any corporate bond defaults that
could destabilise markets.
The perception of a close link between JAFZA and the
government can be seen in the performance of Dubai's 4.9
percent, $600 million 2017 sovereign sukuk. It
was yielding 4.25 percent on Wednesday, having widened about 6
bps since JAFZA set its price guidance on June 11.
At a z-spread of 546 bps, the JAFZA sukuk offers
approximately 190 bps of pick-up over the interpolated spread
curve of Dubai government sukuk, Zafar Nazim of J.P. Morgan
Securities wrote in a research note released on Wednesday.
"We believe that fair value for this instrument is 30-40 bps
tighter at a yield of 6.4-6.5 percent," he said.
In the short term, the new JAFZA sukuk may get a liquidity
boost in the secondary market from the fact that several
regional sukuk are being repaid in the current period. DIFC
Investments repaid its $1.25 billion sukuk on Wednesday, having
secured funding to refinance it in early June; Emirates airline
will repay a $550 million sukuk due June 16.
Repayment of JAFZA's old sukuk next week, earlier than the
original November maturity date, will also free up liquidity.
"Local investors tend to have a home bias in their
investment allocations, so I would expect much of the funds from
maturing bonds that they hold to be reinvested into local fixed
income," Nick Stadtmiller, head of fixed income research at
Emirates NBD, said late last month.
"Given the already strong demand for sukuk, the additional
money from maturing paper may give sukuk a boost in the
(Editing by Andrew Torchia)