kuwait investment sector

Kuwait Financial Centre “Markaz” R E S E A R C H

Kuwait Investment Sector Taking stock two years after the crisis

“Investment companies have become systemically important and constitute the second largest group of financial institutions. The systemic importance of the IC’s is evident in their interconnectedness with the banking sector and real economy through direct and indirect channels”...IMF, July 2010 “The impact of major losses faced by investment companies has yet to be addressed by the authorities. The authorities actions to promote financial stability have essentially focused on the banking system. Investment companies, on the other hand, have received no financial support, although they are regulated by the Central Bank”...IIF, June 2010 “Investment companies were among the most important economic sectors, it was important to ensure their strength” ...Sheik Salem Abdulaziz Al-Sabah, CBK Governor, August 2010

Since publishing our report on the Kuwait investment sector in June 2009,

things have changed a lot. Results published for the financial year 2009

gave a clear picture on the state of things: KD billion

2007 2008 2009 1H10 CAGR

%

Total Assets under management 18.56 14.21 12.7 10.21^ -12%

Total Assets 8.09 8.15 6.79 5.46 -6%

Total Equity 3.86 3.14 2.42 2.25 -14%

Net Income 0.846 (0.810) (0.778) (0.105) NM

^ Total AUM for 1H10 is an estimation based on historical relationship between Total Assets and AUM Source: Markaz Research

The vulnerabilities that led to the contraction in major metrics are still very much in place (lower oil revenues, tighter credit access, asset liability

mismatch, lackluster stock market performance, etc). In a recent action by the Central Bank, investment companies are now subjected to stress tests

on leverage and liquidity. For e.g., CBK guidelines stipulate a debt to equity ratio of 2x, with the sector average as a whole meeting the CBK guidelines

(1.84). However, the largest investment firms still remain highly leveraged.

Furthermore, the new IFRS 7 classification of assets/liabilities point that nearly 40% of investments at fair value are grouped under level 3, inputs

for which are not based on observable market data.

However, all is not lost. The sector managed to contain its investment

losses (major source of wealth destruction) from KD (176) mn in 2008 to just KD (1) mn in 2009. Also, conventional investment companies were

reasonably successful in restructuring their short-term debt to medium-term debt so much so that only 49% of total debt in 2009 is now short-term as

against 74% in 2008. While the sector may not limp back to profitability during 2010, the scale of loss will certainly be lower paving the way for

hope in 2011.

September 2010

Research Highlights:

Markaz Research is available on Bloomberg

Type “MRKZ” <Go>

M.R. Raghu CFA, FRM

Head of Research +965 2224 8280

[email protected]

Layla Al-Ammar Senior Analyst

+965 2224 8000 Ext. 1205

[email protected]

Kuwait Financial Centre

“Markaz”

P.O. Box 23444, Safat 13095,

Kuwait Tel: +965 2224 8000

Fax: +965 2242 5828 markaz.com

http://www.markaz.com/DesktopModules/CRD/Attachments/Kuwait%20Investment%20Sector%20-%20short%20version.pdf

R E S E A R C H September 2010

Kuwait Financial Centre “Markaz”

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1. Historical Performance of the Kuwait Investment Sector1

As of the date of this writing, 28 out of our study sample of 34 investment

companies had reported their 2Q10 earnings. The group reported a net loss of KD 105 mn in 2Q10, 2.5x that which was reported in 2Q09. However, on a half year

basis, the losses narrowed; 1H10 net loss was at KD 106.5 mn, 45% lower than

1H09.

Table1: 1H10 Performance Summary (KD mn)

1H10 1H09 YoY %

Total Assets 5,636 6,522 -14%

Equity 2,356 3,001 -22%

Total Liabilities 3,280 3,520 -7%

Net Income (107) (193) -45%

D/E 1.39 1.17

Quick Ratio 9.4% 10.0%

Source: Company Financials, CBK

Total Assets group were down 14% to KD 5.6 bn while Equity contracted 22% to

roughly KD 2.4 bn (Table 1). The larger contraction in Equity led to a slight increase

in the Debt to Equity ratio to 1.4 in 1H10 from 1.2 in the same period of the previous year. The Quick Ratio, as defined by the Central Bank of Kuwait in their

new regulations on the sector, dipped to 9.6% in 1H10 from 10.2% in 1H09. The CBK has set a minimum of 10% for the sector.

The bottom line of the Kuwait investment sector has swung wildly over the past five years, from a high of almost KD 950 mn net profit in 2005 to a KD 800 mn net loss

in 2008. The loss narrowed slightly in 2009, by 4%, to KD 778 mn and promises to be lower during 2010.

The high volatility in bottom line results can be directly attributed to the business model followed by the majority of firms in the sector, which places a heavy

dependence on Investment Income versus more stable, fee-based activities such as Fund/Portfolio Management, Placement and Advisory services. The result of which is

exceedingly high net income in boom periods followed by overwhelming wealth destruction in downturns.

Figure 1: Net Income Trend (KD mn)

Source: Reuters Knowledge, Company Financials

1 For consistency purposes, the “investment sector” figures are an aggregate of the figures for 34 listed investment firms with financials spanning the period between 2005-2009. These figures exclude 4 companies including The Investment Dar

Net Profit for the

investment sector has swung wildly over the past

5 years

The sector’s balance sheet

grew at a CAGR of 14% between 2005-2008

http://www.markaz.com/DesktopModules/CRD/Attachments/TheNewRegulationsforKuwaitInvestmentSector-MarkazCommentary-June2010.pdf



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The sector’s balance sheet grew at a CAGR of 14% between 2005-2008; with Total Assets peaking at over KD 8 bn before declining 17% to KD 6.8 bn in 2009 as

companies began aggressively writing off distressed/impaired assets.

Meanwhile, Assets under Management (AUM) also experienced high growth as gulf

economies boomed, peaking at KD 18.56 bn in 2007 before contracting 23% in 2008 as the KSE fell by 38% (Figure 2) followed by a further 10% contraction in

2009 (mirroring market return) to KD 12.7 bn as market conditions continued to

show tenuous and volatile returns. Figure 2: Total Assets/Assets under Management (AUM) Trend (KD mn)


The sector saw Total Liabilities steadily increase since 2005, at a CAGR of 26% between 2005-2008, peaking at KD 5 bn by the end 2008 (Figure 3). In 2009, Total

Liabilities for the sector declined by 13% to KD 4.37 bn. Equity has grown at a lesser pace, registering a CAGR of just 3% between 2005-2008, which is

understandable given the availability of cheap and easy credit in the market.

However, the unrealized losses of 2008 put erosive pressure on Equity, causing a decline of 19% in 2008 followed by a further decline of 24% in 2009 to KD 2.4 bn.

Consequently, the leverage ratio jumped from 0.72 in 2005 to 1.84 in 2009.

Figure 3: Investment Sector Liabilities/Equity Trend (KD mn)


Assets under Management experienced high growth as

gulf economies boomed, peaking at KD 18.56 bn in

2007

The leverage ratio jumped

from 0.72 in 2005 to 1.84 in 2009



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2. Looking back on 2009

After posting a loss of over KD 800 mn in 2008, investors and analysts alike were eager to come up with a 2009 expectation for the sector. In that vein, we

constructed a model which took into account quoted and unquoted asset

impairment/losses and their effect on the sector’s bottom line. At the time of our previous report, the sector was vulnerable to many factors both within and outside

its control, namely lower oil revenues, tighter credit access, asset/liability mismatch, weak disclosure and corporate governance etc; it must be noted that nearly two

years after the advent of the crisis, many of these factors remain firmly in place. The most blatant profit reducer is impairments/losses in quoted investments which

directly impact the bottom line; whereas unquoted investments impact the balance

sheet, mainly by eroding equity.

Based on the impact these two segments had on the investment sector’s bottom-line in 2008; we constructed a model to forecast the bottom-line that we could

expect to see in 2009 given various contraction/expansion levels for investments.

We had forecasted a worst case scenario loss of KD 85 mn for the sector, based on a 5% and 20% contraction in Quoted and Unquoted investments, respectively, in

2009. This did not materialize as the sector, in fact, lost KD 778 mn, due to a more severe contraction in quoted investments i.e. a larger write-off of impaired assets in

addition to weakness in the fee generating segment.

Table 2: 2009 Net Income

KD mn 2008 2009 % Change

Assets Under Management (AUM) 14,210 12,740 -10%

Fee Income 167 75 -55%

Investment Income -176 -1 -99%

Quoted Investments 1,182 816 -31%

Unquoted Investments 1,547 1,261 -18%

Net Income -810 -778 -4%

Note: Figures exclude firms with no full 2009 financials

Source: Zawya Investors; Company Financials; Markaz Research

In terms of quoted investments; which are tied to their respective markets, we had forecasted a bottoming out. This turned out not to be the case; taking stock of 33

companies whose full 2009 financials have been released, we find that Quoted

Investments actually declined by 31% in 2009 (against our 5% assumption) to KD 816 mn following a decline of 40% the previous year.

Unquoted investments, by nature, are harder to quantify; and many companies took

advantage of the IAS 39 amendments in order to minimize bottom line declines.

These IAS amendments were also used in the preparing of 2009 financials. Consequently, we saw Unquoted investments decline by 18% to KD 1.26 bn

(against our assumption of 20%).

All in all, the firms booked an investment loss of KD 1 mn versus KD 176 mn in 2008 as they continued to write off impaired investments. Investment firm’s other

source of income is derived from fees charged for management, advisory services

etc; this income is by nature more stable and less subject to volatility than the investment segment. However, poor regional stock market performance in 2009

resulted in a 10% decline in AUM to KD 12.7 bn, Fee income declined by more than half to KD 75 mn for the year.

The sector lost KD 778 mn

in 2009 due to a more

severe contraction in quoted investments

We saw Unquoted investments decline by

18% to KD 1.26 bn






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Classification of Investments

In 2009, the majority of Kuwait investment companies adopted the “Amendments IFRS 7 Financial Instruments; Disclosures” which require additional disclosures on

fair value measurements of certain investments, namely those held at Fair Value through Income Statement and Available for Sale (AFS). The fair value

measurements are classified in a three-level fair value heirarchy reflecting the

extent to which they are based on observable market data.

The fair value levels are measured as follows:

- Level I: Quoted prices (unadjusted) in active markets for identical assets or

liabilities - Level II: Inputs other than quoted prices included within Level I that are

observable for the asset/liability, either directly (prices) or indirectly (derived from prices)

- Level III: Inputs for the assets/liabilities that are not based on observable market data

A screening of the companies that have adopted the amendments showed that 41% (or KD 944 mn) of investments among listed firms were categorized as Level III

(Table 3) followed by 34% in Level I, i.e. quoted while the remaining KD 578 mn (25%) were within Level II.

Table 3: Classification of 2009 Investments

KD mn Investments (at FV through IS + AFS) % of Total

Level I 799 34%

Level II 578 25%

Level III 944 41%

Total 2,321

Source: Company Annual Reports

A further breakdown of investments by a majority of companies was given between those investments which are at Fair Value through the income statement versus

those which are Available for Sale (Table 4). We found that the majority of

investments were in the Available for Sale category (69%) which we would attribute to the adoption of the IAS 39 amendments which many investment companies

made use of. The IAS 39 amendments allowed for a reclassification of assets from “Held for Trading” to “Available for Sale”. Of those assets which are Available for

Sale, the majority (44%) are within Level III while the majority of Investment at Fair Value (37%) are in Level I, which is understandable given the nature of the

assets.

Table 4: Classification of Investments at Fair Value and Available for Sale (2009)

KD mn At Fair Value through IS

% of Total

Available for Sale % of Total

Level I 264 37% 535 33%

Level II 213 30% 365 23%

Level III 236 33% 708 44%

Total 713

1,607

% of Total Investments

31%

69%

Source: Company Annual Reports

41% (or KD 944 mn) of

investments among listed

firms were categorized as Level III

The majority of

investments were in the Available for Sale category (69%)



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GCC Comparison

The Kuwait investment sector loss continues to dwarf that of its neighbours, due to its large size as compared to the rest of the GCC. In 1H10, Kuwait has registered a

USD 371 mn loss. The GCC has shown an aggregate loss of USD 122 mn in 1H10, a 72% YOY narrowing. For 2009, Oman and Bahrain were the only other GCC nations

to post losses, the larger being the USD 1.5 bn loss in Bahrain due to losses

suffered by two of its largest investment firms2. Table 5: GCC Corporate Earnings - Investment Sector

USD mn

No. of companies

2008 2009 1H10 1H10 YOY Change%

KSA 5 (148) 23 10 28

UAE 7 554 316 182 (15)

Kuwait 27 (2,458) (2,052) (371) (45)

Qatar 4 66 40 43 102

Oman 22 86 (19) 32 (65)

Bahrain 9 369 (1,535) (18) (82)

Total 74 (1,531) (3,227) (122) (72)

Source: Reuters PowerPlus Pro; Markaz Research

3. Challenges The investment sector’s challenges for the coming years are summed up on the road towards full compliance with the Central Bank of Kuwait’s (CBK) new

regulations on the sector (deadline 2012). The regulations encompass the primary arenas which have led to the sector’s declining performance; namely, Leverage,

Asset/Liability Mismatch and Foreign Debt Exposure.

A. Leverage Leverage was the core problem for the industry beginning in 4Q08. Companies relied too heavily on debt to finance expansions, operations and even dividends as

credit was readily available and inexpensive to come by. This high leverage

continued into 2009, though the ratio’s expansion (from 1.59 in 2008 to 1.84 in 2009) was more a result of declining equity rather than increased borrowings.

The increased impairment in assets (booked as unrealized losses) continued to

erode the sectors’ equity which declined 24% in 2009 to KD 2.4 bn; meanwhile, Total Liabilities contracted 13% in 2009 after expanding 18% in the previous year.

CBK’s new regulations on the sector stipulate a maximum leverage ratio of 2, indicating that the sector as a whole has some wiggle room to endure a bit more

equity erosion should there be additional asset impairments. It must be noted that the three largest investment firms3 (by Total Assets) remain highly leveraged at an

average of 3.4x.

2 Investcorp Bank (USD 781 mn loss), Gulf Finance House (USD 728 mn loss) FY 2009 3 Global Investment House (TL/E = 4x), Aref Investment Group (TL/E = 2.8x), International Financial Advisors (TL/E = 3.3.x)

Table 6: The Investment Sector Balance Sheet

KD Mn Total Assets Total Liabilities Total Equity Debt/Equity

2007 8,095 4,236 3,859 1.10

2008 8,148 5,006 3,142 1.59

2009 6,788 4,371 2,374 1.84

Source: Company Filings, Markaz Research

Kuwait’s losses continue to dwarf those of its

neighbours

Total Liabilities contracted 13% in 2009 after

expanding 18% in the

previous year





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B. Asset/Liability Mismatch

Out of the 34 firms in our study, Total Assets for conventional firms (23 companies) amounted to KD 5.15 bn in 2009, 60% of which was Long-term (derived by

deducting quick assets and quoted investments from the Total Asset figure) while

out of Total Debt of roughly KD 2.5 bn, 50% was classified as Short-term Debt (Figure 4) down from a 74% proportion in 2008. There has been a significant move

by firms to restructure short-term debt and many have succeeded in rolling them to medium term maturities.

Figure 4: Asset/Liability Mismatch Conventional Firms


Our group of 11 listed Islamic investment companies (excluding, among others, The

Investment Dar for lack of full financials) showed Total Assets of KD 1.64 bn in 2009, 64% of which were long term in nature, up from 53% in 2008. Conversely,

Short term debt amounted to KD 738 mn or 79% of total debt in 2009, down from

83% in 2008. Figure 5: Asset/Liability Mismatch Islamic Firms


Total Assets for conventional firms

amounted to KD 5.15 bn in 2009

64% of Islamic firm assets

were long term in nature, up from 53% in 2008



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C. Funding Sources

About a quarter of conventional firms’ funding has come from foreign sources, which is in line with the newly stipulated Central Bank limit (50% of total equity or

25% of total liabilities given leverage ratio limit). According to Central Bank data on the Kuwait Investment Sector (listed & unlisted firms), total liabilities for

Conventional firms declined by 15% to KD 7.9 bn (Figure 6) due mainly to a 28%

decline in Local Funding, which has accounted for an average of 20% of conventional firm funding since 2007. Within Local Funding, the majority (about

80%) is made up of credit facilities from local banks; this segment saw a decline of 16% in 2009 while funding from local non-financial institutions contracted by half in

the same period.

Figure 6: Conventional Firm’s Funding Sources (KD mn)

Source: Central Bank of Kuwait

The rolling over and restructuring of short-term debt is the hot button topic at the

moment, with Dubai institutions dominating the headlines; locally however, Global Investment House completed a highly publicized restructuring of debt with its

creditors, payable over the next 3 years (See: Section D.1.), while The Investment Dar is undergoing restructuring under the Financial Stability Law.

As for Islamic firms, the reliance has been mainly on Local funding since 2004 (Figure 7), with little contribution from foreign sources (5% in 2004), however, the

portion of foreign funding jumped to 22% in 2009. Total Liabilities for Islamic firms declined 6% in 2009 to KD 7.2 bn where Local Funding declined 1% while Foreign

funding was up 2%. Figure 7: Islamic Investment Firm’s Funding Sources (KD mn)

Source: Central Bank of Kuwait

About a quarter of

conventional firms’ funding has come from foreign

sources, which is in line

with the newly stipulated Central Bank limit

As for Islamic firms, the

reliance has been mainly

on Local funding since 2004



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Going forward, we would expect local banks to remain fairly conservative in their lending practices while international institutions have engaged in restructuring of

debt with local companies but it remains to be seen whether they will be receptive

to opening new lines of credit. We expect the debt market to become a more attractive avenue for fund raising going forward.

It is also worth noting that the Financial Stability Law (FSL), which was passed in

March 2009, was meant to loosen credit lines by extending a partial guarantee of

local bank lending; however, this did not materialize as banks went into hyper-cautious mode and tightened credit especially to the investment sector whose

balance sheets continue to be opaque.

D. The Top “5”4 The top four investment companies in terms of Total Assets (Table 7) had assets

between KD 500 mn and KD 800 mn in 2009, whereas in 2008, a couple of firms

had equity of over KD 300 mn, by the end of 2009, the highest equity was just over KD 170 mn. Table 7: Top 5 Investment Companies in terms of Asset Size (KD mn)

Rank Name Structure

Total Assets

Total Equity Net Income

(Loss)

2009 2008 2009 2008 2009 2008

1 Global Investment House Conventional

834 1,255 163 304 (148) (255)

2 AREF Investment Group Conventional

653 746 173 302 (127) 16

3 International Financial Advisors Conventional

619 552 145 156 (17) (65)

4 Aayan Leasing & Inv Islamic 510 610 31 102 (77) 5

5 The Investment Dar Islamic NA 1,192 NA 167 NA (80)

Source: Reuters Knowledge

The Central Bank of Kuwait Guidelines

In early June 2010, the Central Bank of Kuwait issued a new set of regulations to increase transparency in the investment sector. The regulations are summed up in

three criteria spanning liquidity and leverage. A more detailed commentary on the new regulations can be found in our June note, “The New Regulations for Kuwait

Investment Sector”, for the purposes of this report, however, we have screened the

top 5 companies by Total Assets to ascertain their current level of compliance with the new regulations5.

Table 8: Top 5 Firms Compliance with CBK Guidelines

Leverage Ratio Quick Ratio

Global Investment House 4.11 17%

Aref Investment Group 2.78 16%

International Financial Advisors 3.28 9%

The Investment Dar^ 4.97 2%

Aayan Leasing & Investment Co 13.9 7%

Central Bank guidelines 2.00 10%

^ Represents 2008 figures

Note: All ratios calculated as per Central Bank of Kuwait's guidelines

Source: Reuters Knowledge, Annual Reports

4 The Investment Dar is placed 5th do to its large size though 2009 figures are unavailable 5 Foreign debt criteria not screened for as CBK regulations stipulate origin of debt which companies are not obligated to report

Going forward, we would

expect local banks to remain fairly conservative

in their lending practices

The top four investment

companies in terms of Total Assets had assets

between KD 500 mn and

KD 800 mn in 2009






10

The top 5 companies are, for the most part, currently non-compliant with the CBK regulations and newspaper reports have indicated that a handful of firms have

approached CBK stating that they will be unable to meet the June 2012 deadline for

full compliance. The CBK has appeared willing to exempt non-compliant firms so long as they make concerted efforts towards compliance.

Aayan Leasing & Investment had the highest leverage ratios, as per CBK

calculations. Global Investment House, the top firm by total assets in 2009, had a

leverage ratio of 4x, i.e. double that which is stipulated by the regulations.

The top 2 firms fare better on the Quick Ratio, which illustrates the availability of short-term assets (liquidate-able within a month) to cover liabilities; however, TID

and Aayan6, as per latest full financials, are below the CBK minimum coverage of

10%.

1. Global Investment House Following an over KD 250 mn loss in 2008, Global Investment House’s (Global)

stated its plan to focus on the more stable fee generating segment rather than the volatile investment segment (which yielded a loss of KD 105 mn for the firm in

2008) in order to shore up its bottom line while it moves to unload distressed assets. Global posted losses throughout 2009, culminating in a full year net loss of

KD 148 mn, a 42% narrowing of bottom line losses. The narrowing of the loss was due to lessening of investment losses which came in at KD 34 mn, 67% narrower

than the 2008 loss. Fee income declined in 2009 as well, due to continued instability

in global/regional markets.

Global posted a 1H10 net loss of KD 34 mn versus the net loss of KD 99 mn in the same period of the previous year (Table 9), implying a 2Q10 net loss of KD 20 mn,

43% higher than 1Q10. Principal Investments reported a loss of KD 41 mn in 1H,

half that which was registered in 1H09. Fee Income was up 2% to KD 12 mn for the period. Additionally, a 47% drop in Total Equity versus a 14% concurrent decline in

liabilities brought the D/E ratio to 4x versus 2.44x in 1H09. Table 9: 1H10 Results

KD Mn 1H09 1H10

% Change

Fee Income 11.7 12 2%

Principal Investment & Treasury (81) (41.1) -49%

Net Income/Loss (99) (34) -65%

AUM 2,074 1,518 -27%

Total Assets 1,011 774 -23%

Total Liabilities 717 619 -14%

D/E 2.44 4.00


Income Streams

The composition of Global’s total revenue was dominated by investment income during the boom years of 2005-2007 (Figure 8); this came to an end once the

global crisis struck in late 2008, resulting in a gross loss of KD 26 mn. This has continued, though to a lesser extent, in 2009 as the company continues to write-off

impaired assets. 2009 Total Revenue came in at a negative KD 13 mn, i.e. half the

2008 number. Investment losses narrowed 67% to KD 34 mn. Fee Income was down 58% to KD 21 mn in 2009, due primarily to weakness in Placement and

Advisory fees which declined 87% to KD 4 mn.

6 Aayan fully financials are not available for analysis

The top 5 companies are,

for the most part, currently

non-compliant with the CBK regulations



11

Figure 8: Breakdown of Total Revenue


Assets vs. Liabilities

Global’s Total Assets declined 34% to KD 827 mn in 2009 (Figure 9), the majority of which (80%) were in the form of Long-term Assets. Short-term assets amounted to

approximately KD 167 mn, which mainly took the form of quoted investments. The firm’s quoted investments contracted by 50% to KD 157 mn after shedding just

16% in 2008 while unquoted investments were down 40% to KD 121 mn after

expanding by 7% in 2008 (likely due to adoption of IAS 39 amendments).

On the liability side, 2009 Total Debt amounted to KD 606 mn, 82% of which is classified as long-term, a stark reversal from 2008 when 89% of debt was short-

term in nature.

Figure 9: Asset/Liability Mismatch (2008/09)

Source: Reuters Knowledge, Company Filings

The ratio between long and shot term has completely flipped, in 2009, 82% of debt

was classified as long-term (an outcome of the restructuring process detailed below) versus just 11% in 2008. In 2008, the company had KD 694 mn of debt

classified as short-term; in 2009, some of the short term debt was eliminated while the majority was converted to medium term as part of the restructuring facility.

The ratio between long and shot term has

completely flipped, in

2009, 82% of debt was classified as long-term

In 2009, some of the short term debt was eliminated

while the majority was converted to medium term

as part of the restructuring

facility



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Investment Classification

In adopting the IFRS 7 amendments, Global had 55% of its investments in Level III

while 28% were in Level I (Table 10). None of the company’s Available for Sale investments fell under Level II. Investments at Fair Value through IS made up the

bulk at 79% of total investments.

Table 10: 2009 Investment Classification (KD mn)

Level I Level II Level III Total

% of Total

Investments at Fair Value through IS 53 43 112 208 79%

Available for Sale 22 - 34 56 21%

Total 75 43 146 264

% of Total 28% 16% 55%

Source: 2009 Annual Report

Global Debt Restructuring

In December 2008, Global defaulted on the repayment of a USD 200 mn syndicated

facility. This capital repayment default triggered cross default provisions within Global’s other debt obligations, thereby resulting in a default of the firm’s entire

debt obligation. Consequently, the firm entered negotiations with lenders to restructure its debt.

The result of which “is a 27.5% reduction of consolidated borrowings by KD 220 mn through the following;

- Repayment of KD 20 mn bond that matured in Dec 2009, - Asset-swap transactions which eliminated KD 83 mn debt (connected to

acquisition of a subsidiary), - Elimination of KD 67 mn debt through off sets of deposits by lending

banks and short-term murabahas and repos,

“The remaining KD 495 mn (USD 1.7 bn) was restructured into a new multi-currency three-year amortizing facility. The facility is made up of substantially all of Global’s Principal Investment Business which are to be transferred to the Global Macro Fund. Global will manage the fund with the aim to disposing of the assets, the proceeds of which will be used to pay down debt. The Principal Investment Business is worth about KD 450 mn. The mandated minimum principal repayments are;

- Year 1: 10% - Year 2: 20% - 1H Year 3: 15% - 2H Year 3: 20% - End of Year 3: 35%7”

In addition to the 70% principal repayment due in Year 3 (2012), Global also has a KD 41 mn bond repayment due in that year. Global announced the second principal

repayment of USD 50 mn of its restructured debt, i.e. 46% of debt due by

December 20108.

7 Global Investment House, Annual Report 2008 & 2009 8 Global Investment House, 1H10 corporate results press release

Global had 55% of its investments in Level III

while 28% were in Level I



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2. AREF Investment Group Following a meager net profit of KD 5 mn, AREF Investment Group (ARIG) swung

decidedly into losses in 2009, posting a net loss of KD 127 mn. The firm’s revenue was a negative KD 41 mn, due to a KD 14 mn loss on sale of investments in

addition to the booking of KD 38 mn in losses from associates. A substantial hike in

operating expenses (related to Contract/Airline Operations) also dented bottom line figures.

In 1H10, ARIG posted a KD 21.4 mn loss, a 44% narrowing of losses from 1H09.

For 2Q10, the firm reported a loss of KD 16.9 mn, a 17% narrowing of losses from

the same period in 2009. No further details were provided. In 1Q 2010, ARIG posted a net loss of KD 4.5 mn, 75% narrower than the KD 17 mn loss posted in

1Q09. The firm posted total revenue of KD 33 mn, a 44% growth from 1Q09, driven by gain on sale of KD 21 mn. Meanwhile, contract revenue (the main source of

revenue) declined by 29% YoY to KD 15 mn.

Figure 10: ARIG Total Revenue Trend

Source: Company Filings

Balance Sheet

ARIG had total assets of KD 653 mn in 2009, a 14% decline from 2008 (Figure 11);

this was due to a 63% loss of value in Islamic Finance Receivables. ARIG’s Liabilities

are almost entirely in the form of Murabaha’s Payable, which are typically short-medium term in nature. Total Liabilities in 2009 were KD 448 mn, 77% of which are

short-term in nature. Figure 11: Asset/Debt Mismatch


Following a meager net profit of KD 5 mn, AREF

Investment Group posted a net loss of KD 127 mn in

2009

ARIG had total assets of

KD 653 mn in 2009, a 14% decline from 2008



14

ARIG recently presented 4 local banks, one of which is Kuwait Finance House, with

a 3 year restructuring plan to reschedule USD 250 mn of debt. The banks are

expected to sign off on the plan by the end of June 20109.


The majority (65%) of the company’s investments are held at Fair Value through

the income statement. Furthermore, 38% are under Level II followed by 33% which fall under Level III.



% of Total

Investments at Fair Value through IS 17 24 - 42 65%

Available for Sale 1 - 21 22 35%

Total 18 24 21 64

% of Total 28% 38% 33%


3. International Financial Advisors (IFA)

In 1H10, IFA reported a Net Loss of KD 11.7 mn, a tripling of the KD 3.64 mn loss

seen in 1H09. Total revenue was a negative KD 2 mn versus a positive KD 9 mn in

the same period of the previous year. Total revenue dropped into negative territory due to a KD 3.3 mn loss recognized in investments available for sale while share of

profits from associates showed a loss of KD 2.5 mn. Rental income more than doubled to KD 2 mn for the period whereas fee and commission income declined

27% YoY to KD 0.56 mn in 1H10. On the balance sheet, Total Assets increased 2%

while Total Liabilities were up 13%, bringing the D/E to 3.2x from 2.2x in 1H09.

2Q10 net loss was KD 8.3 mn versus a loss of KD 3.4 mn in 1Q10. Operating expenses were up 21% QoQ while total revenue was a negative KD 3.97 mn in

2Q10 driven by a KD 3.46 mn loss registered in available for sale investments.

Table 12: IFA 1H10 Results

USD Mn 1H09 1H10

% Change

Fee Income 1.68 2.62 56%

Investment Income/Loss 3.27 -5.06 NM

Gain/Loss from share of associates 1.73 -2.49 NM

Net Income/Loss -3.64 -12 221%

Total Assets 607 622 2%

Total Liabilities 420 473 13%

D/E 2.25 3.18


The majority of the company’s revenue comes from investment income (Figure 14),

with a non-material contribution from Fee-based Income, which peaked at KD 7 mn in 2008 and declined 47% to KD 4 mn in 2009. The firm’s total revenue is driven by

investment income, which propelled the former to a peak of over KD 190 mn in

2005. After registering negative revenue of KD 8 mn in 2008, IFA reported total revenue of KD 10 mn in 2009. Net loss for 2009 came in at KD 17 mn, a 74%

narrowing of the KD 65 mn loss in 2008.

9 AlQabas newspaper, 27th June 2010

In 1H10, IFA reported a Net Loss of KD 11.7 mn,

a tripling of the KD 3.64 mn loss seen in 1H09

The firm’s total revenue

is driven by investment income



15

Figure 14: Investment Income/Total Revenue Trend


Asset vs. Debt

In 2009, IFA had Total Assets of KD 618 mn, a 16% growth over 2008. 85% of total

assets were characterized as Long-term versus 81% in 2008. On the debt side, IFA had total borrowings of KD 180 mn, an increase of 16% from 2008, 77% of which

was considered long-term (with a maturity of over a year). Figure 15: Asset/Liability Match



The majority (68%) of IFA’s investments fall under Level 1 followed by 29% under Level III. IFA also has a fairly even split between investments held at Fair Value

through IS and Available for Sale investments at 57% and 43%, respectively.



% of Total

Investments at Fair Value through IS 16 1 18 34 57%

Available for Sale 25 1 - 26 43%

Total 41 2 18 60

% of Total 68% 3% 29%


In 2009, IFA had Total Assets of KD 618 mn, a

16% growth over 2008

The majority (68%) of

IFA’s investments fall under Level 1



16

4. Aayan Leasing & Investment Company In late July, Aayan Leasing & Investment Company (Aayan) announced its

preliminary full year 2009 results, showing a net loss of KD 73 mn; given that 9M09 losses were at KD 27 mn, this provides for a 4Q09 net loss of KD 46 mn. Since

these losses exceed 75% of the firm’s capital, it is compelled by the Ministry of

Commerce and Industry10 to call an extraordinary meeting of shareholder’s to propose a solution. Recourse for the firm would be through 1) raising new equity,

2) reducing capital 3) some combination of 1 & 2 or 4) dissolving the firm. The Ministry will set the agenda for the meeting, set for August, and will present its

report on the company to the shareholders. Aayan has nearly USD 1.4 bn of debt to restructure, the majority of which is short-term. Aayan’s 1Q10 loss was at KD 7.78

mn, a 38% narrowing from the KD 12.55 mn loss of 1Q09.

Figure 16: Revenue/Income Trend

Source: Company Filings, Reuters Knowledge


Aayan had total assets of KD 510 mn in 2009, a 15% decline from 2008. In 2009,

82% of total assets were Long-term in nature, up from 70% in 2008. However, Aayan has not been able to resolve the Debt issue as almost all of the company’s

debt is short-term in nature. Figure 17: Asset/Liability Mismatch


10 Article 171 of the Commercial Companies Law stipulates that an extraordinary shareholders meeting must be called in the event that a company’s losses exceed 75% of capital

Aayan had total assets of

KD 510 mn in 2009, a 15% decline from 2008

Almost all of the

company’s Debt is short-term in nature



17


All of Aayan’s investments are in the form of Available for Sale assets; given the

illiquid nature of such assets, it follows that the majority 51% and 47% fall under Levels II and III, respectively, while a mere 1% is under Level I.



% of Total

Investments at Fair Value through IS - - - - 0%

Available for Sale 1 16 15 32 100%

Total 1 16 15 32

% of Total 2% 51% 47%


5. The Investment Dar

In March 2010, The Investment Dar (TID) became the first firm to apply for

restructuring under the Financial Stability Law (FSL) in order to stay legal action against it by creditors until a debt restructuring plan has been approved. Under the

law, the Central Bank will monitor the restructuring process. TID announced that most aspects of the 5 year restructuring plan have been approved and that first

interest payment is expected in March 2011 with principal repayments beginning in

September of the same year. TID had announced in December 2008 that it was looking to restructure upwards of USD 1 bn in debt.

In April 2010, TID announced its 2008 financials showing a net loss of KD 80 mn

due to an investment loss of KD 9 mn and the booking of KD 87 mn as provisions

against the impairment of assets.

By the end of July, the Central Bank of Kuwait applied for a one-time four month extension to determine whether TID should be allowed to restructure under the

FSL. In August, TID held an extraordinary general shareholders meeting to discuss TID’s performance, restructuring etc. The meeting was attended by roughly 65% of

shareholders. 83% of TID’s creditors have approved the restructuring plan with the

inclusion of BLOM Bank.

Figure 18: TID Total Income Trend


In March 2010, The Investment Dar (TID)

became the first firm to apply for restructuring

under the Financial

Stability Law

Out of total assets worth

KD 1.2 bn, 97% were

categorized as Long-term while 91% of Total

Liabilities were short-term in nature



18


TID’s Asset/Liability mismatch is at the core of its financial issues and remains

evident as per 2008 financials (Figure 19); out of total assets worth KD 1.2 bn, 97% were categorized as Long-term while 91% of Total Liabilities (or KD 906 mn) were

short-term in nature, mostly in the form of Murabaha’s and Wakala’s.

Figure 19: Asset/Liabilities Mismatch


Conclusion

The investment sector in Kuwait has a long way to go on its path towards health especially in light of the Central Bank’s increased oversight on the sector, which

may lead to reduced activity among some firms that need to clean house. Given

how unpredictable and difficult the sector’s assets are to value, it is difficult to predict the future performance of the sector, especially given the wide variance in

case-by-case health.

We are optimistic that 2010 will show a further narrowing in bottom line losses,

though we remain skeptical of a return to profit. Not only will companies be looking to offload more of their investments, booking impairment losses in the process, but

regional/global equity markets have shown lackluster performance for the year, which may have an adverse impact on both the firm’s quoted investments in

addition to the AUMs (thereby reducing fee income), all of which will put downward pressure on the bottom line.



19

Appendix 1: Investment Classification in 2009 as per IFRS 7 Amendments

Investment Classification 2009

Company Level I Level II Level III

1 Global Investment House KSCC 28% 16% 55%

2 Aref Investment Group SAKC 28% 38% 33%

3 International Financial Advisors KSCC 68% 3% 29%

4 Aayan Leasing & Investment Co KSCC 2% 51% 47%

5 Commercial Facilities Co SAK 37% 15% 48%

6 Noor Financial Investment K.S.C.C 85% 5% 10%

7 Kuwait Investment Company SAK 12% 44% 44%

8 First Investment Company KSCC 30% 0% 70%

9 National Investments Company K.S.C.C. 55% 34% 12%

10 Housing Finance Company KSCC 15% 29% 56%

11 Al Mal Investment Company KSC 0% 33% 67%

12 Al Safat Investment Co KSCC 30% 2% 67%

13 Kuwait Finance & Investment Company KSCC 51% 49% 0%

14 Al Deera Holding Co KSC 98% 1% 0%

15 Kipco Asset Management Co KSCC 21% 28% 51%

16 Al Madina for Finance & Investment Co 18% 58% 24%

17 Coast Investment & Development Co KSCC 72% 28% 0%

18 Industrial & Financial Investments KSCC 38% 62% 0%

19 International Finance Company 75% 21% 4%

20 Al Tamdeen Investment Company KSCC 44% 6% 50%

21 Kuwait Financial Centre SAKC 12% 53% 35%

22 The International Investor Company KSC 50% 0% 50%

23 Sokouk Holding Co. S.A.K.C 100% 0% 0%

24 Gulf Investment House KSC 5% 0% 95%

25 Bayan Investment Company KSCC 84% 16% 0%

26 Kuwait & Middle East Fin Inv Co KSCC 33% 67% 0%

27 Kuwait Invest Holding Company KSCC 97% 1% 3%

28 Al Aman Investment Company KSCC 10% 89% 0%

29 National International Holding Company 13% 0% 87%

30 Al Qurain Holding Co KSCC 100% 0% 0%

31 Osoul Investment Co KSCC 15% 63% 22%

32 Gulfinvest International KSCC 100% 0% 0%

Total 34% 25% 41%

Source: Company Financials



20


Appendix 2: Kuwait Investment Companies –Key Financials (KD mn)

2009 Financials

sr. Company Total Assets

% Change

Total Liabilities

% Change

Total Equity

% Change

Net Income

% Change AUM

% Change

1 Global Investment House KSCC 826 -34% 664 -29% 161 -46% (148) -41% 1,709 -23%

2 Aref Investment Group SAKC 647 -12% 475 8% 171 -43% (125) NM NA NA

3 International Financial Advisors KSCC 613 12% 470 20% 143 -7% (22) -70% 109 -25%

4 Aayan Leasing & Investment Co KSCC 501 -17% 429 -15% 72 -29% (76) NM NA NA 5 Commercial Facilities Co SAK 319 -17% 168 -29% 151 2% 14 -6% NA NA 6 Noor Financial Investment K.S.C.C 284 -7% 202 -1% 82 -19% (28) -78% 339 -9%

7 Kuwait Investment Company SAK 272 -8% 165 -4% 106 -15% (13) -68% 2,500 -4%

8 First Investment Company KSCC 230 -7% 131 2% 98 -18% (22) NM 209 -3%

9 National Investments Company K.S.C.C. 216 -18% 42 -36% 174 -12% (26) 21% 2,573 15%

10 Housing Finance Company KSCC 202 -20% 181 -17% 21 -40% (14) NM NA NA

11 Al Mal Investment Company KSC 195 -12% 130 -13% 65 -9% (13) 62% 29 182%

12 Al Safat Investment Co KSCC 183 -11% 69 -17% 115 -6% (16) -35% 139 -17%

13 Kuwait Finance & Investment Company KSCC 177 -12% 158 -7% 19 -35% (14) -45% 348 -14%

14 Al Deera Holding Co KSC 171 15% 65 54% 106 0% (13) -78% NA NA

15 Kipco Asset Management Co KSCC 163 -8% 77 -11% 86 -6% 6 423% 2,200 -15%

16 Al Madina for Finance & Investment Co 161 -15% 94 -16% 67 -13% (10) NM 40 2%

17 Coast Investment & Development Co KSCC 143 -21% 95 -20% 48 -23% (13) -45% 257 -14%

18 Industrial & Financial Investments KSCC 134 -22% 88 -25% 46 -14% (8) 367% 82 -7%

19 International Finance Company 133 -13% 51 -27% 82 0% 0 NM 5 -32%

20 Al Tamdeen Investment Company KSCC 124 -19% 57 -20% 67 -19% 2 25% 113 -37%

21 Kuwait Financial Centre SAKC 118 -10% 37 -33% 81 10% 3 NM 799 -3%

22 The International Investor Company KSC 110 -24% 94 -12% 16 -57% (21) -28% 16 -39%

23 International Investment Group KSCC 105 -31% 82 -5% 23 -64% (36) 67% 105 -5%

24 Sokouk Holding Co. S.A.K.C 104 -23% 15 -18% 89 -23% (28) 85% NA NA

25 Gulf Investment House KSC 99 -14% 59 7% 40 -34% (19) NM 87 -2%

26 Bayan Investment Company KSCC 99 -20% 50 -21% 49 -20% (19) NM 21 -28%

27 Kuwait & Middle East Fin Inv Co KSCC 85 -9% 41 -3% 44 -15% (9) NM 690 -29%

28 Kuwait Invest Holding Company KSCC 62 -9% 17 -5% 45 -10% (5) -67% NA NA

29 Al Aman Investment Company KSCC 55 -23% 26 3% 29 -37% (17) 180% 366 -22%

30 National International Holding Company 53 -10% 7 -9% 46 -11% (5) -31% NA NA 31 Ekttitab Holding Company 48 -34% 18 -2% 30 -45% (14) NM NA NA 32 Al Qurain Holding Co KSCC 31 -72% 8 -88% 22 -43% (4) NM NA NA 33 Osoul Investment Co KSCC 26 -17% 8 -22% 18 -15% (4) -78% 2 -8%

34 Gulfinvest International KSCC 22 -68% 46 -10% (24) NM (42) -17% 240 -52%



Strategic Research

Kuwait Investment Sector – Update (Sept-10) The Golden Portfolio (Sept-10) The New Regulations on Kuwait Investment Sector (Jun-10) Persistence in Performance (Jun-10) Kuwait Capital Market Law (Mar-10) What to expect in 2010 (Jan-10) GCC Banks - Done with Provisions? (Jan-10) What is left for 2009? (Sept-09) Kuwait Investment Sector (Jun-09) Missing The Rally (Jun-09) Shelter in a Storm (Mar-09) Diworsification: The GCC Oil Stranglehold (Jan-09) This Too Shall Pass ( Jan-09) Fishing in Troubled Waters(Dec-08) Down and Out: Saudi Stock Outlook (Oct-08) Mr. GCC Market-Manic Depressive (Sept-08) Global Investment Themes (June-08) To Yield or Not To Yield (May-08) Banking Sweet spots (Apr-08) The “Vicious Square” Monetary Policy options for Kuwait (Feb-08) China and India: Too Much Too Fast (Oct-07) A Potential USD 140b Industry: Review of Asset Management Industry in Kuwait (Sep-07) A Gulf Emerging Portfolio: And Why Not? (Jun-07) To Leap or To Lag: Choices before GCC Regulators (Apr-07) Derivatives Market in GCC (Mar-07)

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