In the last couple of articles, I have explained the typical events of default inserted in the Sukuk documentation. A few more events are illustrated below. I have avoided giving complex examples for the sake of easy understanding:
(a) Breach of other obligations: the originator does not perform or comply with any one or more of its other obligations, including representation, warranties and covenants under the Sukuk documentation and that the failure continues unremedied for a certain number of business days.
(b) Unlawfulness or invalidity: the originator shall deny any of its obligations under the Sukuk documentation as a result of any change in, or amendment to, the laws or regulations of the Sukuk-issuing jurisdiction, or upon changes in the Shariah interpretation of the structure based on which the Sukuk have been issued.
(c) Judgment: if a judgment or order for the payment of any amount is rendered against the originator and continues unsatisfied for a certain number of business days after the date thereof.
(d) Liquidation or insolvency: upon the liquidation or insolvency of the originator or if an order is made or an effective resolution is passed for the winding-up, liquidation or dissolution of the originator.
(e) Seizure: if the originator is prevented by any person representing the national or local government from exercising normal control over all or a substantial part of its undertakings, assets and revenues.
(f) Investment plan: failure to (i) implement, or comply with the terms of the investment plan as part of the Sukuk documentation, (ii) failure to achieve the projections made in the investment plan, save for failure that is not due to any negligence or misconduct by the originator; and (iii) misrepresentation or breach by the originator in respect of the figures and representations made in the investment plan.
I think the examples should suffice for readers to understand the events of default perspective and how they are intended to safeguard investors’ interest. But before I move on, let me explain the background of item ‘b’.
I am sure readers remember the episode of a Sukuk originator’s ‘refusal to pay’ the redemption amount to Sukuk investors in 2017 on the plea that the transaction structure has since become non-Shariah compliant compared to when the Sukuk were issued. The originator reneged based on the advice received from its legal counsel.
The Sukuk issuance was based on a Mudarabah contract and the proceeds were invested in two projects outside the UAE in accordance with the investment plan shared with the investors. However, due to unforeseen situations, either of the investments could not be retrieved on time for redeeming to the Sukuk investors. This forced the originator to seek legal advice which was unfortunately not correctly provided.
All along, I have explained that if the obligor in an Islamic investment contract fails to meet with any financial deliverable due to no fault or negligence of it, it will not be held responsible for the delay or the partial or total loss of the Mudarabah, Wakalah or Musharakah capital. This is also clearly mentioned in item ‘f ii’ above.
Based on my own research and assessment, the originator of that Sukuk was not negligent — first in deploying the Sukuk proceeds, and then monitoring both the investments. Nonetheless, it had no control over getting the Sukuk capital to be timely repatriated from these foreign jurisdictions owing to the crash of the currency in one domain and the denial of payment in the other jurisdiction.
Had I been the company’s advisor, I would have taken the Shariah stance that as per Shariah principles, the Mudarib is not negligent since it had invested the Sukuk proceeds diligently as per the investment plan and that both situations were unexpected and beyond the Mudarib’s control.
Therefore, based on clearly established Shariah strictures, the Mudarib (the Sukuk originator) cannot be held liable to redeem the Sukuk until such time that it is able to repatriate the amount from both foreign jurisdictions. I am sure I would have been able to obtain the Fatwa from the renowned Shariah scholars in the originator’s favor.
Unfortunately, the incorrect advice brought unnecessary reflection on the Islamic finance industry but thankfully the impact was temporary and the industry was able to shrug it off fairly quickly. On the other hand, in due course, the originator commenced reaping the benefits of both investments and was able to fully settle the Sukuk with profit to investors. As such, it is important to seek advice from Shariah scholars in any matter of Islamic jurisprudence — including Islamic finance — instead of from the quarters which may not hold the knowledge, authenticity and expertise.
Next, I would like to describe what if any of the events of default took place and what should be the response or the course of action for it given the level of severity of the breach as some may be minor in nature.
The purpose of this educative series and the article is not to hurt any religious or commercial sentiments either consciously or even unwittingly.
Sohail Zubairi is an Islamic finance specialist and AAOIFI-certified Shariah advisor and auditor. He can be contacted at [email protected]
Next week: Discussion on the events of default in a Sukuk transaction shall continue.