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Debt workouts: 'Reputation' lending gets a bad name

The global financial crisis shook a small but significant group of the Gulf's family businesses to the core. During the boom years, some of the region's most well known family companies had enjoyed cheap credit, expanding their operations while increasing their debt load.

In those heady days, business plans were made on the expectation that growth would continue to accelerate. But then those plans were severely tested by the credit crunch. While many family businesses were able to ride out the crisis, others struggled to manage what they owed, serving as a cautionary tale for the wider sector.

While many of the troubled companies conducted their debt negotiations in private, some of those that had borrowed from international lenders found - somewhat uncomfortably - their affairs aired in public.

In Saudi Arabia, the multibillion dollar debt woes of Saad Group and Al Gosaibi overshadowed any other regional family debt crises. The two entities defaulted on payments to scores of domestic and international banks.

The scale of the problem rattled the Saudi banking system and the broader economy as credit markets seized up. International lenders are still waiting to be repaid years later.

Al-Tuwairqi Group, the steel manufacturer, announced a SR7.5bn ($2bn) debt restructuring deal in 2011 with 18 local and international banks.

As recently as November last year, Mohammed al-Mojil Group, the Saudi Arabian publicly-traded construction company, survived a call to break itself up after trading losses pushed it to the brink of collapse.

In the United Arab Emirates, Abu Dhabi-based Al Jaber Group - which rapidly expanded its business - remains in talks with banks on a $4.5bn debt restructuring. Debt talks with Fal Oil, owned by the Al-Sari family and originally based in Sharjah, are continuing after it resorted to court battles with the Sharjah government over allegedly unpaid dues.

Such large debt restructurings exposed the practice of name lending - extending loans based on reputation - at banks in the region. It had also seeped through to the international banks.

"It is the international banks that had the hardest lesson," says one senior investment banker in Dubai. While talks continue on many of the Gulf's debt workouts, international banks have had to write down a plethora of bad loans. Analysts say some of the region's local banks have delayed the problems of their exposure by rolling over loans that cannot be repaid - so-called "zombie loans".

Rating agencies have had to look more closely at how they assess the handful of companies they work with after Saad Group defaulted on rated debt. Tommy Trask, credit analyst at Standard & Poor's in Dubai says: "It's not good enough to make assumptions about these things. We need to have some tangibles to rely on."

S&P says the agency studies the owners and their wealth as well as their incentives for supporting the family business. This it does in a way similar to its method of gauging government support for state-related entities.

Many of the companies were able to survive the credit crunch by diverting capital from healthy businesses into their weaker units. "The ones that really struggled were mid-market and small caps - where the banks didn't have the credit appetite, or companies didn't have supporting shareholders," says Anthony Habis, managing director and head of family offices in the Middle East at Citigroup in Dubai.

As problems mounted, companies were forced to re-examine their management practices. "This whole period was fantastic for [families] to sit back, look at board governance, succession planning ... [and] major management changes," says Abdulla Al-Zamil, chief executive of Zamil Industrial.

Bankers tend to agree. Nicholas Levitt, head of UAE commercial banking at HSBC in Dubai, says the financial crisis highlighted the need to professionalise management and oversight at family-owned companies. "You needed to get people at the C-suite of executives with real teeth," he says. It was clear that "over-or under-involvement could also be dangerous to growth".

Some remain sceptical about how much has changed since the credit crunch. "There are changes but not fast enough," says Ahmad Alanani, senior executive officer in Dubai at Exotix, the emerging market investment bank that specialises in illiquid debt.

Companies have started to improve the amount of information that they are giving out, though a lot of their debt problems with local banks are not exposed because lenders keep extending repayment deadlines, he adds.

While there have been some high-profile debt restructurings, some family businesses were actually better placed than other small and medium-sized businesses to weather the financial crisis, says Mr Habis.

What he refers to as "sweat equity" boosted businesses because "the family is in control, they built it from scratch".

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