The International Investor

Islamic Finance

Equate Petrochemical Project• Initial agreement 1993 , Formation 1995• Agreement between Union Carbide Corporation & Petrochemical

Industries Company• EPC – to Finance, Construct & Operate the plants

Equate Petrochemical Company

ETHYLENECapacity-

650000 MTY

POLYETHYLENECapacity –

450000 MTY

ETHYLENE GLYCOL

Capacity- 340000MTY

CONTRACTORS

Brown & Roots (USA) -

Ethylene Cracker

Snamprogetti (Italy) -

Polyethylene

Foster Wheleer

( Italy subsidy of

USA)- Ethylene

glycol

•LUMP-SUM DEAL signed

•To deliver at a set date and a set price .

•Delay leads to penalty and advance completion leads to bonus.

Kuwait Petroleum Corporation (KPC)

Petrochemical Industries Company (PIC)

Boubyan Petrochemical Company (Boubyan)

Union Carbide Corporation

Equate Petrochemical Company (Equate)

Equate Marketing Company

100%

10%

10%45%45%

49.9%50.1%

Petrochemical Industries Company

• Established in 1963

• Manufacture petrochemical products , principally fertilizers, salt and chlorine.

• It’s creation was for reducing Kuwait dependence on oil production and refining.

• In early 1990 PIC got approval to build a big project which was stopped by Iraq invasion.

• 1993 PIC went into JV with Union Carbide because state-of-the art technology, access to foreign markets, and training Kuwaiti personnel.

Union Carbide Corporation

• It had operation in 40 countries and 11500 employees in 1995.

• Company had two units : Basic Chemical & Polymers and Specialties & Intermediates.

• BC&P - Conversion of hydrocarbon feedstocks into polyethylene and all for third party sales and for S&I .

• S&I – converts basic into chemical and polymer for industrial customers.

• It also licensed proprietary process such as Unipol process.

• It had Joint Ventures where it could use proprietary technologies and could source low-cost inputs for its S&I division.

• Joint Ventures in Italy , France , South Korea and Canada generated $ 2 billion in revenue and $200 million in net income in 1995.

And the Project Begins..

Market Scenario

• Petrochemical market in short-run is very volatile as it is defined by interaction of demand and supply.

• Current Market conditions are favorable.

• 20-25 new ethylene plants size of 500,000 MTY and equal number of polyethylene plant of similar size.

• Ethylene production would be with demand but other would exceed the demand leading to utilization rates to rise.

Project Market

• Equate Marketing Company was formed based in Bahrain to market plant output.

• 75% would be Middle East and Far East. 25 % would be in Europe and in dollar dominated transactions.

• Union Carbide agreed to purchase a minimum level of output as support to project.

• Equate will be low-cost producer because of its access to cheap ethane feedstock.

Financing The Giant

• PIC and Union Carbide had two major issues - PIC wanted to facilitate the involvement of a foreign partner , even though it could have financed the deal on its own

• Union Carbide , wanted to use project finance to limit its Kuwait exposure

• Agreement reached - 40% of funding from equity or other

subordinated debt . Of this , PIC provide 45 % , Union Carbide 45 % and Boubyan Petrochemical Company 10% ( it was public traded company formed in 1995 to make people invest in project.)

• Debt required completion guarantees from the sponsors which they agreed but not on joint basis.

• US Exim , Hermes of Germany and Sace of Italy were approached due to contractors nationalities and equipment.

• With no constructive negotiations there was a hunt for an alternative without credit agency.

The Alternate

• PIC wanted to use Islamic funds

• The sponsors awarded to Kuwait Finance House

• KFH - The only Islamic bank from kuwait for The International Investor (TII)

• Target was of $ 500 million which reduced to $100-$300 million

• Reasons – It would give sponsors a alternative source of funds

• Islamic financial institutions held $166 billion assets in 1995

• The project was in an Islamic country and government -owned entity as one of the sponsor

• It was difficult to integrate Islamic and conventional funds in a single project

• National Bank of Kuwait stepped in for the financing

• Fall 1995 , there were two trenches one led by Citicorp and other led by NBK . The international bank trench would be bigger but with shorter maturity of 8-9 years rather than 10-11 years

• To reduce Kuwait exposure sponsors maintained debt service reserve account containing 6 months of principal and interest to cover any shortfall

Spread for Loan• Determine a spread for the loan reflecting the perceived and project

risks

• Hub River Power project $ 686 million, 12 years commercial loan was priced at 200 bps over LIBOR in 1994

• Saudi Petrochemical Company $ 700 million , 8 and half years commercial loan at 125 bps over LIBOR for its Sadaf plant in 1995

• Reason for differences – Hub river was new borrower as Saudi was established credit. – Saudi Arabia as an investment grade country, Pakistan was B+/B1

• Equate was given a band of 160 bps -200 bps over six month LIBOR. bank charging 50 bp commitment fee for making funds available and 50bp-100bps as participation fee for disbursing funds

The Islamic Finance

Principles of Islamic Financing

Profit BasisStrict Collateral

Restricted Practices

Fiqh al-Muamalat

Islamic Finance

ProductsIjara

Murabaha

Istisna

• Ijara ( اإلجارة )

– Islamic bank would purchase a specific asset and then lease it to the project for specified period of time.

– For this asset has to be separable and should have economic value unto themselves.

– It is a variable-rate instrument that required periodical payments. Following payment date for fixed at each payment date.

– The leasing asset will be taken back by the bank at end of the lease

for nominal value thus it can be amortized fully with no residual value.

• Murbaha ( المرابحة)– (Cost-plus financing)

– Used for post construction financing – Islamic bank purchases an asset and re-sells it to the project company

at a higher price (cost -plus) – Deferred sale price is decided in advance

– bank collects payments at maturity or installments – Dollar dominated contract lasts for 1 -3 years with and average of 2

year

– Dinar dominated lasts longer period if acceptable risk

• Istisna ( االستصناع)-Product is manufactured for another party according to the detailed time and product specification

- Payment can be in advance , completion or over time based

- Customer agrees to buy an asset from Islamic Bank upon completion

- Islamic bank would agree to pay the manufacturer to build an asset in question

- Maturity is equal to the construction period and fixed rates that were on the day contracts were signed

Issues In Islamic Trench

1. To minimize the risks, KFH made a SPV with limited liability but did not test it in litigation, so court could pierce the corporate veil.

2. Selection of assets involved, caused many countries to prohibit foreign ownership of their natural asset which leads to shrink of the asset basket.

3. The separation of ownership creates incentive problem.

4. Unsuccessful negotiations with US EXIM bank

5. Others– General issues for law governance . – Events of Default issues were complicated. – Co-financed structure were uncertain and had high cost attached plus

difficult to operate.

Suggestions

• Ijara should be replaced by Istisna :• Quantity & Quality Pre-decided• Minimum output was bought by Union Carbide• Loans Maturity much longer

• Encash the competitive advantage of cost of feedstock + western technology

• Perfect synergy of Islamic funding and Commercial Funding

• Islamic funding should be applied Post-Construction too

Al Haqqالحق

• The construction phase the Istisna contract structure

• The post construction phase The Ijara structure

• The final deals :– a $400 million regional bank tranche and – a $600 million international bank tranche. – Each tranche also had a $100 million Islamic Ijara facility for a total

package of $1.2 billion

• In September 1996, EQUATE signed the largest, unsecured loan in the history of the Middle East

• A consortium of six leading Kuwaiti banks, a Kuwaiti Islamic bank, three US banks and five regional banking and investment companies was formed to provide 60% of the project's funding.

• In early 2004, greater challenge EQUATE‘s shareholders decided to appoint the company to manage, operate and maintain an expansion project that was being planned at its site in the Shauiba Industrial Area of Kuwait: The Greater EQUATE.

• In 2006 signed a financing agreement with 33 leading International, Regional and Local banks for a US$2.5 billion, 14 year loan to fund the expansion.

Kuwait Petroleum Corporation (KPC)

Petrochemical Industries Company

(PIC)

Boubyan Petrochemical

Company

Union Carbide Corporation

Equate Petrochemical Company (Equate)

100%

10%

9%42.5%42.5%

Qurain

6%

Thank You