Executive Insights

Ziad Ferzly

by Ziad Ferzly
written by Ziad Ferzly

The Middle East region, especially the Gulf, has experienced a great boom over the last few years. With rising oil prices and ambitious projects, many thought this would continue ad infinitum. However, the global economy has gone into a recession and the Middle East is not immune. The financial market crashes around the world and region have been followed by economic downturns that are having a severe impact on companies everywhere. As people come to grips with this shock to the system, they must adapt to new realities. This recession is real and must be dealt with decisively. Managers need to admit that there is a problem. It is important to avoid getting sucked into collective self-deception, whereby company stakeholders put on blinders and convince themselves that they are immune to the decline and can ride out the storm without consequence. Companies need to be as proactive as possible because the longer they wait, the more difficult it will be to recover.

During the boom, most companies grew, even if they were not professionally managed. Many investors made money whether they evaluated investments properly or not. As the saying goes, a rising tide lifts all ships. Yet things have changed. The wave has crashed. The ensuing flush of the system will help ensure that the stronger, better prepared players are the true survivors. Prudent companies are the ones who take this time to properly restructure their operations. Companies should follow these restructuring guidelines:
• Stabilize the situation — A company that is experiencing significant difficulties should first stabilize the situation. In extreme cases, the goal is to survive long enough to go through the restructuring process in a proper and timely fashion. Generating cash and cutting expenses are of paramount importance. The company should identify major problems and attack them quickly. It should address the root of the problem, not the symptoms.
• Appoint a restructuring team — This is the team that should lead the company out of trouble. With a combination of key internal managers and select outside restructuring advisors, this core group will be responsible for executing the entire restructuring program that will be put in place.
• Gather data — It is important to base plans on real life data collected internally from the relevant groups. Data should be gathered on production, sales, pricing, costs, customers, etc. The company must have a full understanding of the situation. Data will ensure that decisions are grounded in reality, not conjecture.
• Change leadership — Often, there needs to be a change in the top management of the company. Some managers can stay, while others must go. Strong and effective leadership should be established. The company cannot afford to have weak or incompetent management, especially in difficult times.
• Assess capabilities — The restructuring team will assess the company’s capabilities, strengths, and weaknesses. The team will then generate ideas on the options available. There needs to be a match between the capabilities of the company and the options chosen.
• Recalibrate strategy — How does the company create value? What changes need to be implemented? Where is the company headed? The restructuring team should clarify objectives and adjust strategies in a deliberate manner to focus operations and the organization on common goals.
• Develop a realistic plan — After assessment and strategic recalibration, the team should devise a playbook or turnaround plan for the company to follow. The goals should be realistic and achievable given the current state of the company and market conditions.
• Renew organization — The new vision and strategy for the company may require a new organizational structure for better execution. People need to be empowered and, at the same time, held accountable for their actions and decisions. Their rewards should be properly aligned with the company’s long-term performance.
• Improve processes — There are core processes to the business that need to be improved. Other processes might be outsourced. Whether improvement happens in terms of time, cost, or quality, addressing the different facets of the operation will produce a better run organization. This requires a thorough analysis of various processes and matching new processes to the capabilities of the employees in the new organizational structure.
• Conduct financial restructuring — The restructuring plan will inherently have a major financial component in place. Whether this relates to creditors, investors, employees, or suppliers, the financial plan that is put in place needs to go hand in hand with the strategic plan that the team has put in place. Proper financial management is critical to the success of this effort.
• Manage stakeholders — There is a wide variety of stakeholders for companies: from shareholders and employees to suppliers and customers. As the company goes through its restructuring process, it needs to effectively communicate with various stakeholders to make sure that they are aware of what is happening and, when possible, participate in helping the process succeed.
• Measure and show progress — The way to gauge progress is by measuring the results of decisions and actions taken. Whether the parameters chosen are financial, operational, customer-oriented, or otherwise, measuring performance is essential to tracking the restructuring effort. Data should be gathered throughout the process. Showing progress will excite stakeholders and will give the restructuring team the validation it needs to continue with the current plan.
Conglomerates and investment firms should consider a restructuring — as described above — of the parent, holding, or management company first, and then of the portfolio, i.e. the individual companies or investments. The restructuring team needs to:
• Decide on an overall strategy — The team should ask itself: What businesses or industries do we want to be in? Why these industries? What makes us qualified to hold and potentially manage all these companies? What is the right mix of company holdings that serves our overall strategy and goals?
• Review current holdings — The following questions should be asked: Does the current portfolio of companies and investments make sense in light of the prevailing conditions? Do the companies fit within our overall strategy? Are we too heavily skewed in one direction and do we need to make adjustments to our portfolio? Do we want to keep all the companies as they are today or do we want to entertain the idea of corporate transactions such as mergers, acquisitions, or divestitures?
• Set a strategy for each company — For each of the companies in the portfolio that the restructuring team decides to keep, they should put together a targeted strategy depending on internal data gathering, industry statistics, and market conditions. The team should follow the restructuring guidelines highlighted above.
Studies have shown that companies that went through successful restructuring efforts had a few characteristics in common:
• They were low cost producers, and had very efficient operations.
• The management teams led by example. They did what they asked their employees to do.
• They focused on the internal operations of the company addressing issues such as quality, productivity, and differentiation.
• They had an internally consistent strategic plan.
• They had a change in top management, used outside restructuring advisors, or both.
There are many companies that should have gone through a restructuring program over the last few years, but did not realize the need given their apparent success in the market. Now is a good time to act for those companies, and also for others that are experiencing difficulties because of the economic downturn. Many will not make it through this year. Companies need to ensure that they are strong enough, focused enough, and prepared to weather the storm. Those that restructure now will be well positioned to capitalize on opportunities ahead of their competitors as the economy improves. It is time to restructure.

Ziad Ferzly is managing director at Cedarwood Advisors, which provides strategic, financial, and investment management services to companies, investment firms, institutions, and governments around the globe.

 

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Executive Insights

Rethinking private equity – part I

by Imad Ghandour
written by Imad Ghandour

The sharp reversal of economic fortunes in the Gulf has sent all private equity (PE) houses back to the drawing board to redesign their investment strategy. Some are optimistic the Gulf will bounce back quickly, while conservative investors predict this recession will be deep and long and are waiting for the recession tornado to vanish so they can pick up from the carnage good companies at attractive valuations. The bulk of PE houses, however, are focusing on a selected number of defensive sectors to invest in, with the consensus being that education, healthcare, and fast moving consumer goods and related industries will survive the downturn.
Starting with education, this article is the first of a three-part series — which will also run in March and April issues of Executive — covering the dynamics of investing in each of these defensive sectors:

Back to school
Education is one of the largest global industries, yet one of the most fragmented. It is estimated that the global market size for education services is $2.5 trillion and it is ranked amongst the top three industries depending on how you count. Yet, it is one of the least represented sectors amongst listed companies. The largest education company by market cap is Apollo in the US, with a market cap of only around $7-10 billion. Just a handful of companies have revenues exceeding the billion-dollar mark.
Yet education takes a significant chunk of household and government expenditures. In Saudi Arabia, the education and vocational training budget comes second after defense, with more than a quarter of the budget allocated to it. In most societies, household spending on education is only exceeded by accommodation expenses. Furthermore, governments are offering subsidies to investors, and many are privatizing their educational system. This means an even larger pie for private sector operators.
The education sector is divided into several subsectors. The largest and the most fragmented is K-12, or primary and secondary education. Adult education and vocational training come second. Other notable sub-sectors are early childhood education (pre-school) and testing (e.g. GMAT, SAT, TOEFEL, etc).

Cash is king
From an investment point of view, education has very interesting characteristics. It has stable and predictable cash flows: students pay upfront for the service, and once a student enters a school or a university, he is likely to stay there until graduation. In the GCC, population growth and rising incomes imply continued growth in demand, and most likely shortage of supply.
Parents (clients) have limited price influence on tuition and thus tuitions increases are ahead of inflation and margins remain healthy and stable. In the GCC, for example, it is very common to have net margins of 25-35 percent.
The main challenges for institutions are the upfront investment in real estate and recruiting good teachers. Schools and universities, in particular, need a significant investment in purpose-built facilities, and investors have to balance the economics of being close to the urban demand centers and the escalating cost of land as you get closer to such centers. The other challenge is recruiting quality teachers in the wake of a shrinking global population of teachers but a growing population of students. Symptoms of teacher shortage are already evident, resulting in escalating costs.
Given the attractive investment characteristics of education and limited number of investment opportunities, listed educational institutions usually trade in the 20-30 times their earnings. This creates a significant arbitrage opportunity for investors who build new schools and eventually sell them at high valuations.
PE houses are not flocking to education for one main reason: opportunities are scarce. Yet the most creative PE players were able to enter the sector early, and will probably cash out handsomely, even in turbulent times!

Imad Ghandour is head of Statistics and Information Committee, Gulf Venture Capital Association and board member, Maarif Education and Training Holding Co, Saudi Arabia

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Executive Insights

Why Arabs lose the communication war

by Dima Itani & Ramsay G. Najjar
written by Dima Itani & Ramsay G. Najjar

How do we decide who wins a war? Do we wait for the white flag to be raised to declare a winner? Do we count the number of casualties? Do we count the number of survivors? Truth be told, in modern wars, the real winner is the side that wins the “communication war.”

Regardless of the toll a war takes on its victims, what remains in the minds of people once the fighting stops are the headlines. Who can forget the headlines about the massacres of men, women, children and elderly in Nazi concentration camps during World War II? The Jewish people have engaged over the years in massive and structured communication efforts, using powerful messages and impactful channels to portray themselves as the victims of atrocious acts and to remind the world of the horrible ordeal they experienced.
In large part thanks to this communication strategy, Israel today is a forceful and successful “brand” whose image is that of a nation pursuing stability and safety for its discriminated and persecuted people and is thus immunized against the negative publicity stemming from its military attacks. Just like the Jews’ situation during World War II, today Palestinians are facing massacres of their men, women, children and elderly. Unlike Israel and the West, however, who have always treated communication as an imperative and a top priority, the Arab world has yet to recognize the primordial importance of communication, especially in an era of globalization and the eradication of all boundaries.
To see how our region has fared in communicating its message throughout the Gaza conflict, we need to look no further than the TV screens, radios and newspaper front pages throughout the region: the messages that we see, hear and read all use the language, values and sensational rhetoric that appeal solely to the Arab audience. This “preaching to the converted” does little to reach out and change perceptions on the other side of the world. In the case of Arabs, there has been little or no effort made to understand Western audiences and identify what triggers their emotions and stirs their passions, to communicate with them and make a difference in how they see things.
This must change in order to get the message across when targeting communication to other cultures. The Arab world’s communication should use the audience’s language and idioms effectively, touch upon their values and use a discourse that resonates with them. In other words, rather than showing the same tragic images over and over again, and continuously referring to the innocent blood spilt, it would be far more powerful to draw a simple parallel between the children of Gaza and the children of the West, highlighting that while children in the US and Europe were preparing cookies and milk for Santa and waiting for their gifts, children in Gaza were trembling in fear and waiting only to see if they will live to see the next day.
Communicating effectively across cultures requires identifying a painful event in the audience’s history — one that they can relate to on a deeper level — and comparing it to the situation and difficulties faced by their counterparts in the present. Highlighting the likeness to a tragedy that the audience knows and understands goes a long way in creating a sense of responsibility for the current situation and a need to put an end to it for the sake of future generations. What is sad is that in the case of Israel’s communication, they have capitalized on past tragedies in such an influential way that it has given them a retroactive license to slay and shed the blood of innocent people and still be viewed as the victims.
However, even the most creative communication strategy that builds upon all these powerful messages cannot have an impact without the right channels to send its messages through. Although it can be said that the Arab world’s communication is leveraging new media channels along the lines of Facebook, YouTube and blogs, as citizens from around the region continue to upload photos, comments and video of their perspective on the Gaza conflict, even these channels are Western inventions that are merely being copied in the Arab world rather than being pioneered in the region. If the Arab World wants to get in on the communication game, it must work to create and innovate new channels that can grab audiences’ attention rather than trying to go through overused channels only to be drowned out by the endless numbers of other YouTube clips, Facebook groups and blog entries. Until then, the Arab world will continue to be in the backseat when it comes to communication, aggravating this region’s fears that it will never be seen from a just or human perspective.
Even if our part of the world succeeds in consolidating its messages, tailoring these to Western audiences and sending them out through the most impactful and innovative channels, we will still face another major obstacle: layers upon layers of negative prejudice accumulated over years of poor communication. But these prejudices only highlight the imperative need for effective communication strategies and immediate action in order to start tearing these misconceptions down.
Many may argue that regardless of the message, Arabs will never have the leverage or resources to carry out communication efforts that can match the impact of those carried out by the enemy. A strong narrative and story, however, spoken in the audience’s language and using themes that appeal to their deepest emotions can have just as much power as extensive, well-orchestrated, and costly campaigns.
Of course, we cannot ignore the fact that deeply ingrained perceptions seem to persist no matter how civilized or open-minded cultures get, as the side long-envisioned as the victim will always be a victim and the side seen for years as the murderer will always be the murderer. The only way to break this vicious cycle is through compelling communication that opens the door for another perspective.

Dima Itani & Ramsay G. Najjar, S2C

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Finance

IPO Watch – The time that bides

by Executive Staff
written by Executive Staff

As regional capital markets remain volatile, analysts say companies who are contemplating initial public offerings (IPOs) may not find enough takers for new equity in 2009. The IPO market had been a star in the bull markets for the last several years, but had lost its charm by mid-2008 and is likely to face bleak days ahead in 2009.
On the upside, there is still a large number of planned and announced IPOs for the first half of 2009. According to reports by Zawya Dow Jones, there are over 40 companies scheduled to launch their IPOs in the first half of 2009. Some market watchers are guardedly optimistic about this flotation pipeline, saying that investors’ sentiments are improving.
For the moment, however, all indications suggest that investors and capital seeking companies alike continue to remain on the sidelines waiting for capital markets to stabilize before they go after IPO opportunities in the region. A good example is that of Kuwait-based Burgan Bank, which cancelled its plans for a $697 million capital increase after the authorities decided against issuing a decree for the increase for reasons, observers say, “related to the turbulent regional and global market conditions.”
While there is no consensus as to when IPO activity will recover, however, announcement about new IPOs in January show that confidence in the IPO market is being built tick by tick. January witnessed the announcements of six new IPOs — much lower than the monthly average for most of 2008, which was around 10 IPOs.
“Companies are preparing for IPOs because the long-term strategic rationale for such transactions has not changed,” said Phil Gandier, a partner of transaction advisory services of Ernst & Young Middle East. Many companies are likely to push ahead with their plans in 2009 despite the global economic meltdown, Gandier added in a report in January.

Fresh announcements
Saudi Arabia, the region’s largest economy, which accounted for 78 percent of the cash raised through flotation in 2008, will be the host of an IPO of Etihad Atheeb Telecommunication Co. The company, one of three firms that were licensed to run a fixed-line network in Saudi Arabia, said it will offer 30 percent of its shares to the public in accordance with rules for new telecoms operators. The company scheduled its public offering to start on January 24 and to conclude on February 2, as it seeks to raise $80.08 million.
Also in line with regulatory requirements in Saudi Arabia, Al Alamiya for Commerce and Services, part of the Royal and Sun Alliance Insurance Group, is preparing to launch an IPO after it was granted a royal decree to operate as a licensed insurer in Saudi Arabia, the firm said.
While the measure is mandatory, sources close to the company say that they are optimistic that the offering will do well. Another insurance firm taking the dip after it was recently established with a capital of $53 million is the Global Company for Cooperative Insurance. The company did not provide details about the floatation but it was established by Riyad Bank who owns a 30 percent stake. The IPO is scheduled for the second half of 2009.
Moving to the most battered economy in the region from the global financial crisis, the UAE provided several announcements. The Kuwait-based Esdarat Holding Company plans to list on Nasdaq Dubai in the second half of 2009 to fund real estate development projects worth $2.8 billion. Although the company did hint at an IPO in June of 2008, instead it chose to go with a private placement first raising $110 million with Emirates NBD Capita in December.
But the amount raised in the private placement was only 37 percent of the original target of $300 million. “The management decided to raise the remaining amount though an IPO,” said Imad Awad, director and head of Equity Capital Markets at Emirates NBD Capita. Esdarat plans to launch the IPO in late 2009.
Mawarid Finance, a provider of Islamic credit and financing activities, said it will offer its shares to the public in 2009. The company will be listed on the Dubai Financial Market. Although there were no clear details as to the offering, the company’s CEO Mohammed Musabbeh Al Neaimi, told the press, “We intend to offer between 25 and 30 percent of shares to foreigners after getting approval from the general assembly.”
Meanwhile in the Levant, Syria finally launched the Damascus Stock Exchange in mid-January and is scheduled to begin experimental trading on the 29th. The launching of the exchange comes after a two year delay.
Among the first companies to be listed and the first brokerage firm to be licensed in Syria, Al Adham Foreign Exchange Company, said it will offer 70 percent of its shares to the public seeking to raise $3.69 million. It will offer 350,000 of its shares at a par value of $10.90 each. The remaining 30 percent will stay with the founders. The IPO will run from January 18 to February 6, a statement said.
Following suit, Syria’s Noor Takaful Insurance Co. also announced that it launched an IPO to sell 50 percent of its shares with an aim to raise $16.3 million. Noor has a capital of $31.5 million and is offering 1.5 million shares at $10.90 each. Noor Takaful Insurance is 20 percent owned by the Kuwait-based Noor Financial Investment Co.
Also in the Levant, Lebanon’s flagship carrier, Middle East Airlines (MEA), appears to be on and off the IPO bandwagon. Initially, MEA was scheduled to float its shares on the Beirut Stock Exchange (BSE) in 2008. But due to political instability the plans failed. And now, MEA’s Chairman Mohammed El Hout, said the company will not list its shares in 2009 due to the “unfavorable” market conditions. “We will not list part of the airline’s shares on the BSE because projections in the markets do not look very promising,” Hout said.
As far as IPO and stock market debuts, the MENA region started the year with a definite dry spell. The only noteworthy events in January were three rights issues in Kuwait and Egypt, while another rights issue on the Egyptian exchange appears to have been withdrawn. The two capital increases on the KSE accounted for almost 99 percent of the aggregate value of rights issues companies offered in January. Kuwait’s Abyaar Real Estate closed a 100 percent rights issue worth $242.5 million on January 8 and construction group MENA Holding launched its rights issue worth $316.8 million on January 13.

I see the tunnel, but where’s the light?
The IPO market in 2009 will be slow, but the few issues that come to market may provide significant returns, experts say. With many regional economies set to experience substantial growth this year it appears that 2009, or at least the second half of it, will offer fresh hope as far as new IPOs are concerned.
“With IPO volume low, many investors will be tempted to ignore the IPO market altogether as we move into 2009,” writes Renaissance Capital. “This may be a mistake. Historical precedent suggests that IPOs in periods of low issuance can generate very strong returns as companies are forced to become more realistic with their proposed valuations in order to successfully raise capital, thereby creating opportunities for investors.”
As can be surmised by the number of IPO announcements for January and the overall number for the first half of 2009, some industry players believe IPOs could pick up by the middle of the year. The MENA region is expected to possibly lead the bulk of IPOs globally in 2009.
Observers rightly point out that the region is where the faster growing companies reside. These companies need to tap the capital markets to fund expansion. As such, improved activities in the IPO market might be a clear indication that the doom and gloom of 2008 will soon be history.

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Finance

Lebanon – Banked for the storm

by Executive Staff
written by Executive Staff

While some experts believe this year will not be different than the last for Lebanon’s banking sector, others are not so sure. Most agree, however, that conservative policies set by the Lebanese Central Bank allowed the banking sector to avoid any major effects from the global financial crisis. Prohibiting Lebanese banks from purchasing subprime products in the US, building up its foreign reserves to $13 billion (acting as a preventive measure to guarantee the Lebanese lira’s stability), ordering banks to have a minimum of 30 percent of their total assets in cash and setting rigid loan level ceilings for real estate projects, the central bank has played it cool by keeping assets safe and close to home. As of November 26, 2008 Central Bank Governor Riad Salameh announced that the combined assets of Lebanon’s banks totaled more than $100 billion — four times the country’s GDP. Bankers in Lebanon have agreed that the central bank takes pride in shying away from complex investments and structured products that it does not understand, and with the international circumstances that unfolded, it was definitely the right move to make for the Lebanese banking sector. Unfortunately, one thing the central bank cannot protect the sector from is political instability.

Well-known for its volatile social and political environment, Lebanon made a recent comeback after the Doha Accords were signed at the end of May 2008. Foreign remittances by expatriates were the best proof that Lebanese abroad viewed local banks as safe havens, totaling $5.5 billion by July 2008. Those remittances are expected to have surpassed the $6 billion mark by the end of the fourth quarter 2008. In just the first nine months of 2008, deposits into Lebanese banks reached an astounding $7.8 billion — up from the previous record high $6.6 billion for the entire year of 2007. The Economist Intelligence Unit (EIU) predicts that with the June parliamentary elections approaching, a rise in political uncertainty this year is expected to have a negative impact on the flow of foreign remittances into Lebanon. Nassib Ghobril, head of economic research and analysis at Byblos Bank, believes deposit inflow is “likely to slowdown this year, because a big part of the deposit inflow is from the Lebanese diaspora,” adding that, “the key question is, will these expatriates have the same purchasing power and liquidity as they did before the global financial crisis?” He concluded, “this year is definitely going to be different, economically, than last year.”

A rock, but not an island
While the Lebanese banking sector has so far been insulated from the global financial crisis, it is not isolated. Lebanese banks will begin to feel the inevitable decline in economic growth in the coming months. The EIU forecasts economic growth in Lebanon to slow to 2.7 percent in 2009 — down from its previous outlook of 3.1 percent — while finance minister Mohamad Chatah projects a three to 3.5 percent growth rate, down from a previous estimate made in 2008 of five percent. Factors affecting the country’s growth are mainly due to political uncertainty, economic contraction of Western markets and sluggish growth rates in the Gulf. These elements are likely to have an implicit impact on Lebanon’s tourism, real estate, construction and financial sectors, according to the EIU. Despite high levels of liquidity, meager exposure to real estate lending, robust deposit bases and strong support from the central bank, Lebanese banks could be adversely affected by the high political risk and sudden outbreak of conflict that has threatened the country in the past, most recently in 2005, 2006 and 2007.
Beginning the New Year on uncertain ground, banks in Lebanon are still waiting for fourth quarter results to be announced. Ghobril asserts, “It is clear from the third quarter 2008 results that [fourth quarter outcomes] won’t match past results. The fourth quarter was more challenging than the third quarter.”
This year, banks will be even more prudent than before, as the global financial crisis has taught every bank lessons that can only be learned in the crucible. Ghobril highlighted the increased competition amongst domestic banks, as lending opportunities “will be scarcer.” Moreover Ghobril says, “banks will be more careful in scrutinizing their lending opportunities,” especially since “lending opportunities abroad are likely to decline.”
More crucially, Lebanese banks will need to manage their liquidity. “Another concern is the excess liquidity in Lebanese pounds that accelerated in recent months, and where to place this liquidity,” he contends, although the top priority on banks agendas this year will definitely be about “maintain[ing] liquidity over profiting,” Ghobril adds.

Bank stocks
Like most stocks on the Beirut Stock Exchange (BSE), bank shares are vulnerable to Lebanon’s political environment. Thomas Schellen — publishing editor at Zawya Dow Jones — contends that, “Share prices of Lebanese banks have definitely been sensitive to the political risk and other developments.” This was most evident in May 2008; after the Doha Accords were signed, bank shares shot up but have since declined. Schellen notes that major banks such as BLOM, Audi, and Byblos “have been on a rather steep slide” since the middle of last year.
Yet Ghobril points out that “stock markets have not really reflected the performance of the listed banks,” and that “they are doing much better than their share prices in terms of performance.” Due to the lack of liquidity and small size of the BSE, bankers seem to turn a blind eye to share prices as the sector has been outperforming itself in the last few years.

Forecasts
Overall, 2009 will be a year of vigilance for the banking sector in Lebanon. Schellen said he would prefer to “use dice or Chinese oracles” to predict what will happen this year, “because in the current economic environment — on a global scale — it’s very unlikely that anyone’s predictions will be on target for 2009. There are so many challenges.” Without a doubt, the most difficult hurdle to prepare for in Lebanon is political uncertainty. Ghobril said he “cannot overemphasize the importance of maintaining political stability,” as it is “key to increasing confidence, which in turn encourages new projects, investments and businesses to expand and consumers to borrow.” But, with Lebanon’s political history, one can never know. “With the elections approaching,” says Ghobril, “it is likely that consumers will be apprehensive and investors will take a ‘wait and see’ approach.” Marwan Mikhael, head of research at BLOMINVEST Bank, expected that as long as the political situation is secure, “2009 will be a record year” for Lebanese banks. If the environment does worsen, on top of slower growth, Mikhael foresees “a slowdown in the capital inflows to Lebanon.”
All in all, Ghobril trusts that this “year will be conservative and cautious, [as we wait] for things to clarify domestically — regarding the political front with the elections — and regionally, economically and financially.” On the bright side, Lebanon’s resilience to political impermanence has enabled the banking sector “to adjust in an environment of political instability,” notes Ghobril. With the unpredictable global financial events and domestic uncertainties, pragmatic approaches throughout the banking sector are indispensable this year. Schellen has faith in the country’s banks and concludes that “confidence in the banking sector does not seem to have waned, as far as I hear, as compared to confidence in banking sectors elsewhere, I think the Lebanese [banks] still shine and look like gold right now.”

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Finance

The Central Bank of Lebanon – Riad Salameh (Q&A)

by Executive Staff
written by Executive Staff

As governor of Lebanon’s central bank for the past 16 years, Riad Salameh has seen political and financial instability wrack his country, and he has been lauded by domestic and foreign observers for his steady hand during those times of crisis. Executive Magazine recently sat down with the governor to discuss deposit tax, remittances and strategy.

E At present, how is the Lebanese banking sector performing? When will it feel the impacts of the global financial crisis?
Lebanon will not feel the effects of the financial crisis, because we took the necessary measures preemptively. This crisis has turned out to be a confidence crisis. Confidence in the banking sector in Lebanon and in the monetary in general, is very high, as witnessed by the large conversions from dollars to the Lebanese pound. In 2008, de-dollarization was important and the central bank bought more than $8 billion from the markets. Dollarization rates in deposits in the banking sector dropped from 77 percent to around 69 percent during 2008. The measures that we took preemptively were essentially based on preventing the banking sector from leveraging its balance sheets and on the other side, regulating the structured products and forbidding the acquisition of toxic assets — like the sub-prime — by banks. So the banking sector in 2008 recorded profits that were over $1 billion, which was the best year for them. The liquidity that we do have in our system will prevent any crisis in 2009. As you know our GDP is driven, essentially, by consumption and we do not have a real estate bubble in the country, therefore we are still predicting a real rate of growth of four percent. The only risk for Lebanon is political or security, because the consumption sector is sensitive to events that are linked to these two elements.

E With the regional financial situation at hand, what is expected in terms of foreign remittances to Lebanon this year?
We have run a scenario here at the central bank that we call the ‘worst-case scenario,’ whereby the remittances would drop from $6 billion — which was the level of 2008, according to the World Bank — to $4 billion, which is almost a 30 percent drop. On the other side, we have also computed the import bill of the country, given the new prices of oil — which is a big import for Lebanon — and raw material in general, especially building material and foodstuffs. It turned out that in the worst-case scenario this is going to affect the balance of payment by around 10 to 15 percent. In 2008, our balance of payment closed with a surplus of $3.4 billion. Therefore, an effect of 10 or 15 percent on this balance of payment will not really be affecting the credit possibilities of our system, whether to the public or to the private sector. Now if some Lebanese would return to Lebanon, I personally view it as an opportunity to improve the productivity in our economic sector, because these people have talent, that’s why they were hired outside. Now they have experience and connections. The central bank, in agreement with the government, is going to take initiatives to facilitate credit for new businesses created in 2009.

E With the ongoing political situation in Lebanon — and the upcoming parliamentary elections in June – what are the implications for the Lebanese banking sector?
The elections should happen in a better situation now that we have the reconciliation that took place in Kuwait between Saudi Arabia and Syria. As you know, Lebanon is affected by regional tensions and it is positively perceived here when you have Arab reconciliations. So, the markets are telling us today that we don’t have a real problem in 2009 and we have seen through all the month of January, more conversions from dollar to Lebanese pound. I don’t foresee any negative implications on the banking sector.

E What strategies and regulations will the central bank be implementing this year that are different than the past?
The central bank will make sure that the credit market is working normally and that there are packages that could help to decrease the cost of borrowing, especially on newly created businesses. We do not anticipate any major or fundamental change in the model that we have built through the years. There is no need — given the stability we are seeing and the progress in the banking sector — for any new administrative decision. This year what we are looking at is… implementing Basel II, so we are looking to work more in the elaboration of circulars pertaining to the application of Basel II. We are going to improve on the payment system. We are working today with the Banking Association to introduce the iBank, which is a banking identity for each customer. This will improve the transparency and also the speed of payment. There is also going to be the introduction of what we have called the ‘city project’, which links online and real time the banks with the Central bank so they can have direct access to the information they need. Of course it’s secure access. So we are looking at some improvement, but no administrative measures.

E At a recent conference in Beirut, you announced your support for a single Gulf currency. What are the pros and cons of creating a Gulf Central bank? How will it affect Lebanon?
The Gulf countries have been working for many years to create this currency that we think is an important step forward that can be an advantage for all the Arab countries. The idea to create an Arab currency is based on creating an instrument that would help the Arab countries in the future to face any major crisis that could happen internationally. As you have seen today what saved the US and Europe was the fact that they had an instrument, a currency that was accepted worldwide. So they could create more of this currency and inject it into their economy and keep this economy afloat. You need a currency as an instrument for stability and development… This is a serious project, but also we all know that it will take many years if we start today in order to implement it. In Europe, it took them 50 years. I think it’s important to start laying the ground for that. The Gulf currency can be the first pillar for that project.

E The recently drafted five percent non-deductible tax on interest deposits — which is reportedly going to go up to seven percent – has left many bankers feeling uneasy. Some of them say it is unjustified and its benefits are outweighed by the negative impact it has on the banking sector and depositors. What is the reasoning behind this tax?
The government is seeking to create revenues, because one of the major vulnerabilities of our system is the deficit. The yearly deficit that is increasing and adding to the stock of debt — Lebanon can handle its stock of debt, but the markets need to see less deficit. Of course there are revenue measures, but there is also on the other side, an obligation to the government to rationalize its expenditures. I think that the banking sector that has lent consistently to the government is frustrated by the fact that they are not seeing reforms being implemented. This tax is part of the Paris III program, which was approved by the government, by the parliament and even approved by the banking sector at that time. Including this in the budget does not mean it’s going to be applied immediately because it is stated that it will be left to the Ministry of Finance to determine the proper timing. Certainly today everybody agrees that it is not the time to put more taxes on deposits and therefore on the liquidity of the country. Based on that, I believe this measure — and according to what I understand from the Minister of Finance and the government — will be enacted in the budget, but will not be applied as long as we have this worldwide environment of a crisis in the banking sector.

E With the low interest rate on the US dollar, dollarization of the Lebanese economy is decreasing and people are saving in Lebanese pounds to receive higher interest rates. How safe is the Lebanese pound?
The Lebanese pound is sound, safe and has weathered major crises in the past. The market is confident about the strength of the Lebanese pound. It’s not only an issue of interest rate spread, because you had in the region many currencies — or in emerging markets — that are paying now more interest than the Lebanese pound and yet they have not attracted conversions toward them. On the contrary, we see that their value is decreasing. You can site any emerging country in the past six months — we have seen their currency drop in a substantial way. So there is confidence from the market that the currency is sound and we are determined to keep the Lebanese pound stable and now we have more means to do that. As you know the balance sheet of the central bank is at an historical high. Our liquidity in foreign currency is approaching $20 billion, our gold stock is evaluated at more than $8 billion and we do have other assets that can add up to around $2 billion. So we have a balance sheet that is equal to the GDP of the country and that is a very rare situation in the world.

E The central bank has a lot of obligations in 2009. How are you looking to finance these payments? What should be done for Lebanon to start paying back its national debt?
In 2009, you have the foreign currency denominated debt and you have the Lebanese pound debt. On the foreign currency, the decision was taken to exchange all the bonds that are due in 2009 into maturities that are to be in five to 10 years. The exchange is presently taking place — the Ministry of Finance is preparing for that and we know from the banks that it’s going to be successful. On the Lebanese pound side, there is a heavy demand on treasury bills. I don’t think that the central bank will have to intervene to finance the government this year because of that demand and because the government is running a large surplus in its accounts in Lebanese pounds at the central bank. Our contribution would come in case the government does need foreign currency to pay the interest in foreign currency on the total debt for this year and to meet their demand to buy dollars from us for the import of fuel… As long as political and security situations are good, we view [2009] as a stable year.

E Will bank profits for this year be the same as last or will they slowdown?
I think the stress in 2009 — and I’ve spoken to the bankers about this — is not to fight to improve their profitability, because it is already in good shape, but more to have their attention on keeping good liquidity and not taking undue risks. Lebanon today is one of the rare countries that has excess liquidity, especially in the area. I know that they will be approached for financing in the region, so they have to be careful about their decisions. De-dollarization — and we encourage that — is helping us to decrease the risks, because once the savings are in Lebanese pounds, the usage of this currency is purely local and cannot be used regionally or internationally. So we want to be conservative in 2009.

E In all your years spent as governor of the central bank, what has been your biggest challenge to date?
I am maybe one of these governors who had a big challenge every year. If you want to go back the last 15 years, I have seen Israel invade Lebanon three times. I have seen crisis in the emerging markets — first in Asian markets, then in Eastern European markets, then in Latin American markets. We have lived through very hard political times — the country was always split in two. We have seen the assassination of Prime Minister Hariri and the assassination of many other prominent personalities. Blockades on Lebanon and the war in 2006. International crisis in 2008. A local political crisis with no institution functioning in 2007… I leave it to you to decide which one was the most difficult.

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Finance

Investment – Proceed with caution

by Executive Staff
written by Executive Staff

According to a UBS report entitled, “Proceed with Caution,” the year to come should be tackled carefully in terms of investment opportunities. The report identifies potential opportunities and highlights pitfalls to be avoided by investors as the global economy slides further into recession. It also looks beyond the present crisis of confidence occurring the world over and forecasts investment returns for major asset classes and regions. The report indicated it was time to calculate risk, noting “attractive valuations of certain assets must be weighed against the risks stemming from a global recession. We remain defensive overall but recommend increased exposure to corporate bonds.”


The autonomy of a price collapse
Bernhard Kern, executive director of Investment Solutions at UBS AG, remarked that over the past 129 years the SP 500 has had 44 negatives overall. “Among assets that have taken the hardest blow during the credit crisis are featured oil, followed by Middle East equities,” he pointed out. Kern emphasized that previous oil prices between $80 and $100 per barrel were driven by demand, while prices above this level had been mostly fueled by speculation. He explained that the price of oil would probably vary between $30 and $50 in coming months, but it would again witness levels of $100 per barrel in the next few years.
“The collapse of the financials culminated with the bankruptcy of Lehman brothers, which heralded the end of the brokerage model,” Kern pointed out.
The director explained that after September 15 — the date of the Lehman bankruptcy — trust had been significantly eroded, with lending plummeting, while equities were the only functioning market that had remained. He attributed the rally on the dollar partly to the fact that investors had sold off their foreign assets in order to bring their money closer to home.
Kern expected the real estate market to stabilize with the supply of new homes coming down. Regarding global growth levels, he pointed out that GDP growth levels in the developed world were below zero percent, while they remained far from their full potential in the developing world. He estimated that the first two quarters of the year would be difficult for global economies, while the recovery would be a gradual one.
Kern envisioned three possible economic scenarios for the crisis. The first was a V shaped economic recovery with economies picking-up relatively quickly, to which he attributed a 15 percent chance. The second scenario, the most probable according to Kern, would be a U shaped recovery accompanied by a fairly deep recession, which had a 60 percent probability. The final and most pessimistic recovery scenario, with a 25 percent probability, was defined by a deep recession followed by a prolonged period of stagnation.
Kern expected the economic situation to be difficult in the next few months, with stock markets possibly bottoming out yet again before recovery would kick in mid-2009.

Balancing risk
His views were backed by the UBS report — which underlined that improved valuation should be balanced against recession risks — and this has several implications for asset markets. The report noted that “besides their corrosive effect on fundamentals, they also lead to heightened risk aversion, driving investors to seek shelter in risk haven assets such as cash, gold and government bonds. This then causes the price of assets to fall. If so, some higher risk assets may reach a point where they deliver a long-term cash flow that commensurates with the increased level of risk they entail. Although we do not foresee a deflationary outcome, we think a defensive stance is still warranted, given the uncertainty about the depth and duration of the global recession.”
The report added that corporate bonds offered value despite higher defaults. “We recommend that investors start rebuilding equity cautiously with a focus on sectors where earnings contraction is likely to be less pronounced.” Such sectors were identified as healthcare, consumer staples and telecoms.
The report added that, “higher risk opportunity awaited further evidence. It is unclear whether an easing of monetary conditions as reflected in central banks’ interest rates will begin to have a positive impact in 2009. However, as money and credit markets start to normalize, financials and other cyclical exposed equity sectors could benefit from such a policy stance.”
Reflation as a risk factor of government bonds was a final point mentioned in the report. Although deep economic recessions are usually supportive for government bonds, the UBS report fully dismissed that reflationary policies would begin to take hold before the end of 2009, stating that “a cyclical recovery in the economy amid higher fiscal deficits would likely push government bond yields high and prices lower.”

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Society

A disagreeable diagnosis

by Josh Wood
written by Josh Wood

During the United Arab Emirate’s economic boom, Abu Dhabi and Dubai sought to bring the best of everything to their country — including healthcare.  With open checkbooks, both the government and private investors sought to make the UAE a regional medical hub. While the development of the healthcare sector has left it with a strong infrastructure, problems continue to confront the industry; the same deep pockets which allowed the country to develop world-class medical centers also resulted in lifestyles that sent the obesity rate (and its associated diseases) skyrocketing, and while the global financial crisis which devastated some of the UAE’s economic sectors was not quite as severe to healthcare, the industry has felt a bit of a pinch.

The UAE’s state news agency reported in December that the budget for state spending on healthcare was set for over $750 million, but the individual governments of each emirate — most notably Abu Dhabi and Dubai — supplemented this budget with additional funds. Today, according to the government, there are 40 hospitals, 115 primary care centers and thousands of private medical clinics in the UAE.

According to the World Health Organization’s (WHO) 2010 World Health Statistics report, there has been a definite trend toward private healthcare in the UAE. Private expenditure as a percentage of total spending on healthcare rose from 23.4 percent to 29.5 percent between the surveyed period of 2000 to 2007. Per capita expenditure on healthcare (taking purchasing power parity into account) stood at $982 in 2007 according to the report, while government spending per capita was $693. This represented 8.9 percent of total spending by the Emirati government, according to the WHO.

Fatally fat

While UAE citizens have a relatively high life expectancy of over 78 years, disease is taking its toll on the general population. Today, cardiovascular disease is the single largest killer in the country, accounting for more than 25 percent of the total deaths of Emirati citizens, according to statistics released by the government in 2010. Some non-governmental estimates place the ratio as high as 40 percent. It is also estimated that one in four Emiratis has diabetes. A December 2010 report released by UnitedHealth Group says that this number could rise to more than one third of the UAE’s national and expatriate population by 2020 if changes are not made and could cost over $8.5 billion.

Such diseases can be attributed to inactive lifestyles coupled with bad eating habits. Obesity — which is a contributing factor to both diabetes and cardiovascular disease — has been on the rise across the UAE, currently edging toward 70 percent of the national population.

The UAE’s Ministry of Health has begun efforts to educate the general population about the dangers of these diseases and has invited international health experts to conferences to discuss the problems. In 2006 the Abu Dhabi investment firm Mubadala Development brought the Imperial College London Diabetes Center to the UAE to further attempt to contain the disease. With such high rates of cardiovascular disease, diabetes and obesity, more money and efforts will be needed to put the lives of UAE citizens and residents on a healthy track.

Economic ailments

In recent years, the UAE was successful in attracting prominent foreign medical centers, such as the Cleveland Clinic, Johns Hopkins and the Minneapolis-based Mayo Clinic. But the aggressive expansion of the sector was not immune from the overall hit the country was dealt by the economic crisis.

In January 2010, the Mayo Clinic — part of Dubai’s $5.3 billion Dubai Healthcare City project — closed up shop. With strains on capital coming in to private healthcare initiatives and population growth lower than it had been, projects such as the Mayo Clinic’s Dubai outpost seemed to no longer be feasible.

Despite still having many brand name medical centers in their home country, many Emiratis still prefer heading abroad for specialized treatment. A December report by the Indian news agency PTI said that patients from the UAE spend $2 billion annually seeking medical care abroad — an amount that could benefit the UAE’s economy if such patients could be swayed to undergo treatment at home.

While medical treatment in the UAE is largely cheaper than it is in, say, North America or Europe, by regional standards it is still quite expensive as lower medical bills are a short flight away in countries like Jordan, Egypt and Lebanon, which deter patients from seeking treatment locally. Given the proliferation of top-notch medical treatment centers in the UAE and its central geographic location, the country could also further promote itself as a medical tourism destination and turn a better profit.

Road to recovery

Despite some cutbacks — such as the closure of the Mayo Clinic — UK Trade & Investment anticipates the UAE’s healthcare industry to boom in the coming years and rise to a total value of $15 billion by 2015.  In December 2010, the Dubai Healthcare Authority announced plans to implement $1 billion worth of healthcare projects over the coming year.

But healthcare spending across the rest of the GCC region remains high and it could be difficult for the UAE to compete with some of its neighbors that were not as adversely affected by the global financial crisis and continue to have excess money to spend.

Saudi Arabia alone anticipates completing 100 new hospitals by 2015, and there are currently $10 billion worth of healthcare projects either planned or underway across the region, as of late 2010. In a 2010 report, Alphen Capital estimated that the Gulf countries will require more than 25,000 additional hospital beds by 2020 to keep up with growing demands and populations.

For the healthcare sector to expand as much as was planned during the height of the UAE’s economic boom, the expatriate population of the country will need to continue to rise — a factor contingent on the yet to be fully reclaimed economic stability and success of the country. With healthcare infrastructure already largely developed, the question now remains as to whether the sector will be able to maintain or push past the status quo.

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Editorial

As the sky falls, the real stars will shine

by Yasser Akkaoui
written by Yasser Akkaoui

The Chinese may be calling it the Year of the Ox but in the Middle East — not to mention everywhere in the developed world — it will be the Year of the Real Man, a period in which the new austerity will have no time for fads. Straight talking, in-it-for-the-long-haul, is in; short term, fast buck is well and truly out. 

We are already seeing the wheat being threshed from the chaff; the men separated from the boys. Call it what you will. Quite simply, those who did not plan for the future, who did not factor-in a potential crisis, are paying the price. Those who did and who can endure, who can stick by their staff, their team and their suppliers will strengthen their market share when the economic sun will shine again. The market will respect their resilience in the buffeting winds of the global meltdown.

There have been the inevitable casualties. The rumor mill has been buzzing with speculation as to the number of job losses in the Gulf, especially among the legions of Lebanese expats. There has been an element of “we told you so” and “it wasn’t going to last forever.” But envy aside, what those Lebanese who didn’t indulge the Gulf’s fortunes are failing to grasp is that the experience gained by these people — waiters to CEOs — can be deployed to excellent effect both at home and abroad.

The Lebanese Central Bank should be applauded for issuing a circular to the local banks urging them to make funds available, should returning businessmen wish to plow the experienced gained in the Gulf back into the local economy.

Meanwhile, as the GCC licks its wounds and consolidates, it is surely the time for those pioneering Lebanese, as they have done for over a century, to seek out new opportunities in new, mouth-watering markets such as Libya, Iraq, Sudan and Algeria. These are markets rich in potential and high in risk. In other words: perfect for the hardworking Lebanese who from Brazil to Mali to Jeddah to Dubai have cornered the market in going where others will not. The Gulf will recover and it will prosper but it cannot expect the Lebanese entrepreneur to sit still.

Real men turn loss into investment and disaster into opportunity.

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Real Estate

Wan Mohamad Hasni Wan Suleiman

by Nada Nohra
written by Nada Nohra

Executive sat with Hasni to discuss the repercussions of the Dubai debt crisis on the emirate’s real estate market.

E  When Dubai World made the debt standstill announcement, what was the immediate effect on the market?

Concern about Dubai has been there for the last year or so…[but]  this came as a surprise to a lot of people due to the big impact on global financial markets: for example, the share prices in the Far East dropped a good percentage. The news became worse than the reality and that created a negative image of the Dubai market. Questions were raised by potential investors and people who dealt in the real estate market or were planning to participate in the Dubai market. They are more cautious now; they want to see how this is going to turn out.

E  Will Abu Dhabi’s bailout of Dubai restore confidence in the real estate market?

I’m not sure if the word “bailout” is correct, let’s call it assistance by Abu Dhabi, because the structure of how they are going to deal with it has not yet been revealed. We know Abu Dhabi has committed $10 billion, and Nakheel will use some of the money to pay its sukuk [an Islamic bond], suppliers and creditors. Nakheel is only part of the story, the overall picture still requires a lot of clarification.

E  How much does the lack of transparency in the UAE market affect investors’ perception?

Transparency is an issue. I believe that the bodies want to be transparent but the complexity of the matter doesn’t make it easy for them to be forthcoming. More important is the way they managed the issue, they suddenly made the announcement and on the next day made another announcement. That lack of clarification of the process was the issue. Transparency is not an easy word because how transparent [do] you want to be? That is not something that can be easily done. But the clarification of the process is [easy], and allows people to know what’s next. They could have managed it better — debt resolution is not something new. Take for example General Motors’ bankruptcy: they went through a process, and they told people about the process. Not declaring your steps will make people unsure. It is better if they clarify their steps, the market will be able to anticipate much better.

E  Are Nakheel property prices likely to be hit further?

Here I would like to differentiate between sector specific and developer  specific markets. For the sector specific (residential, hotels, etc.), overall, the demand and supply have been clear, so the there was not much impact: whether Nakheel [stalled payments] or not. But when we talk about developer specific, the problem becomes more serious. When the market adjustment happened some of the projects did not adjust as much as others; some of the big developers’ prices remained steady. They went down, but not much. In some locations, such as Dubai Marina, they dropped, [but] not as far as people say. With regard to Nakheel and their problems, the prices of their properties are, of course, going to have more of a downward impact.

E  Will people be scared that funding will not being available in the future?

The Dubai World debt is huge and will constrain the availability [of credit]. Banks will make provisions to adjust for the restructuring and so on, which will also impact their capital or profitability. This will also constrain banks from being able to lend their money to the real estate sector, even if it is unrelated to Nakheel.

E  Will the fact that Abu Dhabi is financially stronger than Dubai put its real estate market in a better position?

Abu Dhabi and Dubai are two separate real estate markets. It is all about market demand. The overall demand for real estate in the UAE has been on a downward trend so, regardless of whether Abu Dhabi is stronger financially or not, demand has fallen quite a lot; even Abu Dhabi has scaled down projects it had in the pipeline. Abu Dhabi is making sure the Dubai market doesn’t drop, which will, in turn, support the overall market of the UAE.

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