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This article first appeared in The Edge Malaysia Weekly on May 8, 2017 - May 14, 2017

IT was last minute and it was cutting it very close. And depending on your point of view, it was either overdue or just in time.

But on the morning of May 3, the consortium of Iskandar Waterfront Holdings Sdn Bhd (IWH) and China Railway Engineering Corp (CREC) finally managed to put together RM6.4 billion in financing that would make their 60% acquisition of Bandar Malaysia unconditional.

It had taken 16 months, but IWH CREC Sdn Bhd was ready to take the relationship to the next level.

CREC executive chairman Li Changjin had flown into Kuala Lumpur to observe the symbolic milestone with a site visit led by Prime Minister Datuk Seri Najib Razak.

But the meeting did not take place, cancelled at the very last moment.

Hours later, IWH received a fax informing that the RM7.41 billion share sale agreement (SSA) had lapsed due to failure to meet conditions precedent (CPs). A terse public statement by TRX City Sdn Bhd, the Ministry of Finance’s (MoF) subsidiary that owns Bandar Malaysia, followed.

Tan Sri Lim Kang Hoo was stunned.

The chairman and substantial shareholder of IWH had been enjoying an amazing run of deal-making in the past few years — Bandar Malaysia, new highway concessions and land deals in Johor.

He did not expect the rug to be pulled from under his feet so abruptly, let alone so coldly.

Fortunately, trading for the day had ended. Lim’s listed counters — Iskandar Waterfront City Bhd (IWC) and Ekovest Bhd — were quickly singled out as stocks to sell, even as the market tried to make sense of the sudden turn of events.

However, IWH CREC is not taking the termination of SSA lying down.

Last Friday, the consortium released a strongly worded statement: “TRX City’s unilateral declaration that the share sale agreement has lapsed is unacceptable.”

In fact, IWH CREC claims that it has met all CPs and asserts that the SSA is now unconditional.

But it is highly unlikely that TRX City will return to the negotiating table to resuscitate the SSA with IWH CREC. This leaves litigation as the most likely option going forward.

The unprecedented nature of the termination and the brewing conflict between a major Chinese investor and the government of Malaysia have certainly made the market jittery. And the lack of information from all relevant stakeholders is not helping.

Will IWH CREC sue the government? Did Lim fall out of favour? Will Malaysia’s ties with China cool off? Will there be uncertainty in other multibillion-ringgit projects?

Nonetheless, channel checks by The Edge have shed light on some of the most pressing questions raised by the sudden collapse of the deal.

 

Did the deal fail because IWH CREC lacked funds?

Short answer: No.

Long answer: For starters, the missed “payment obligations” mentioned in TRX City’s statement did not refer to a cash transaction that was due.

Sources familiar with the matter say IWH CREC was supposed to have prepared two financial commitments for the deal to go unconditional — a bank-backed guarantee for the balance RM4.5 billion deferred payment due in 2023, including interest of 6% per annum, and a RM1.9 billion facility to be utilised for the outstanding relocation of the Kuala Lumpur airbase (PUKL).

“Many have misinterpreted TRX City’s statement. It says IWH CREC has failed to meet payment obligations. The balance consideration was supposed to be settled on a deferred basis in 2023. It just needed a bank guarantee to show that the funds would be available by then,” explains an executive familiar with the deal.

It is worth noting that IWH CREC was planning to monetise about 150 acres of land in Phase 1 of the Bandar Malaysia development. This would have further reduced the financing requirements by 2023.

At the same time, the consortium was also responsible for preparing RM1.9 billion in funding to complete the relocation of PUKL.

For perspective, it is important to consider the sheer size of CREC, which is wholly owned by the Chinese government. It was ranked 57th in Fortune Global 500 last year, with US$99.4 billion in revenue and US$983 million in profit.

Also, it is interesting to note that Chinese state-owned banks like the Industrial and Commercial Bank of China (ICBC) were tasked with providing the necessary guarantees to facilitate the loan.

Takeaway: IWH and CREC are not cash-strapped.

 

Was the deal terminated because IWH CREC took too long?

Short answer: It depends on who you ask.

Long answer: IWH CREC is now strongly contesting TRX City’s assertion that it has failed to deliver on key obligations. Clearly, there is a difference in opinion that is likely to end up in court.

For context, it is firstly important to understand that numerous extensions are completely normal for a deal of this size as both parties move to complete the CPs. This will include securing the necessary approvals from regulatory bodies — for example, clearance from Bank Negara Malaysia for cross-border transactions.

Strictly speaking, the original deadline to close the deal was in mid-2016, giving both parties roughly only six months to meet all CPs.

However, both parties needed much more time to meet the CPs, say sources. MoF, which has taken control of TRX City from 1MDB, only managed to complete its CPs in end-2016.

It is understood that IWH CREC was given until the end of last month to meet its remaining CPs, including the aforementioned financing arrangements. This was to ensure that everything would be in order for the May 3 fanfare at Bandar Malaysia involving the prime minister, Li and a host of other VIP guests.

“When both parties are working in good faith to conclude a deal, they will make it happen. Even if it takes a little more time. They (IWH CREC) were effectively 99% of the way there, if not 100%. Ask anyone in the industry, there is no reason to terminate the deal at that point. It was an excuse to kill the deal, it isn’t a good one,” says a banker.

It could be argued that from MoF’s perspective, a miss is as good as a mile. After all, deadlines are deadlines and IWH CREC had been given more than a year.

However, when compared with the one year TRX City required to complete its CPs, IWH CREC only needed about 20% to 30% more time.

Takeaway: This will be a key point of contention between MoF and IWH CREC, especially if the dispute goes to court.

 

Does the termination jeopardise 1MDB or MoF?

Short answer: No. Not directly, anyway.

Long answer: TRX City has already been fully transferred to MoF in a right hand-to-left hand transaction. Along with the 483 acres of Bandar Malaysia land, MoF also inherited RM2.4 billion in debt — the Bandar Malaysia sukuk murabahah.

What about MoF? Will it be left high and dry without a buyer? What about the deposit?

Firstly, note that TRX City is under very different circumstances now that it is wholly owned by MoF. There is no longer any urgency to monetise the land to pay off 1MDB’s debt.

In fact, the RM2.4 billion Bandar Malaysia sukuk is effectively a zero-coupon bond with an interest rate of only 0.35% per annum. The bulk of the interest on these bonds is only paid when the bonds mature — RM950 million in 2021, RM450 million in 2023 and RM1 billion in 2024.

Hence, the sukuk is not very demanding from a cash-flow perspective.

MoF simply needs to refund the 10% deposit or RM741 million that IWH CREC placed.

Of course, IWH CREC has already begun to solicit interest for developments in Bandar Malaysia. CREC alone was planning to build a RM8.4 billion regional headquarters on a 30-acre parcel. This deal is likely to be off the table if relations with MoF sour further.

MoF should have no trouble finding new buyers, says another executive familiar with the project.

“When Bandar Malaysia was tendered back in 2015, it attracted over 40 bids. Today, the land is even more attractive. It does not have the 1MDB stigma. Furthermore, visibility has improved for turnkey projects like the high-speed rail and MRT,” he explains.

In fact, he argues that the land should be worth substantially more than the RM583.37 psf IWH CREC paid; possibly between RM800 and RM1,000 psf.

That would increase Bandar Malaysia’s value between 37% and 71% to between RM16.3 billion and RM20.4 billion. In that sense, MoF appears to be a beneficiary of the deal, assuming that it can monetise this difference.

The only caveat is that legal action by IWH CREC does not tie up the project.

Takeaway: Bandar Malaysia is back on the market.

 

But surely the termination has soured some relationships. What about China?

Short answer: It remains to be seen.

Long answer: The timing of the termination is very interesting. Next week (May 14 and 15), China will be hosting the Belt and Road Forum for International Cooperation in Beijing and Najib is expected to be in attendance.

Lim was supposed to attend the forum as well.

It would be absurd to spurn one of the largest Chinese companies in the world — CREC — one week before the forum, especially with the amount of Chinese investment that has been flowing into the country in recent years.

Surely, good sense dictates Putrajaya should give Beijing sufficient notice on the impending termination of the deal. In this case, CREC

appears to have been taken completely by surprise.

It is worth noting that Li is also the secretary to CREC’s Communist Party Committee, a politically appointed supervisory board for China’s state-owned enterprises.

All eyes will be on Najib as he attends the forum. How warmly he is received in Beijing will be a barometer of the two nations’ ties going forward.

That said, China has a strong interest to remain involved in Malaysia, especially with the KL-Singapore high speed rail project around the corner.

Nonetheless, such an abrupt termination has created uncertainty among foreign investors. A flip-flop of this magnitude is unprecedented.

Takeaway: Watch out for the Belt and Road Forum.

 

Will IWH CREC sue the government?

Short answer: Unlikely.

Long answer: Firstly, it is important to note that reconciliatory negotiations are an option. However, sources familiar with the matter say TRX City is not open to that option.

“They see more value in finding a new buyer and selling the land at higher prices with MoF owning 100% equity instead of 40%,” explains one source.

This leaves only two options for IWH CREC — walk away with the deposit or take the government to court. That would certainly be a tall order for a businessman like Lim, who has vast interests in Malaysia and requires a good working relationship with the government. In particular, his highway concession business under Ekovest Bhd.

For CREC, however, that may be a different matter.

One possibility is for IWH to recuse itself from the consortium and leave CREC to handle the legal battle.

However, there is still one other stakeholder in the background — the Sultan of Johor.

While Sultan Ibrahim Sultan Iskandar is not a shareholder in IWH, he is a figure that has been closely tied to IWH and Lim, given the sheer scale of IWH’s land bank in Johor. It is worth noting that Kumpulan Prasarana Rakyat Johor holds a 36.9% stake in IWH.

IWH is currently undertaking a series of corporate exercises, including a merger with its subsidiary, IWC. Sultan Ibrahim was supposed to inject land into the merged entity, granting him a large number of redeemable convertible preference shares. In turn, he would have had a substantial stake in IWH and an indirect stake in Bandar Malaysia if the SSA remains unconditional.

It is not clear if the Sultan will play a role in any potential conflict between IWH CREC and TRX City.

Takeaway: Lim will protect his broader interests.

 

But if foreign investors are spooked, who will undertake such a project?

Short answer: Locals, possibly.

Long answer: In its statement announcing the lapsed SSA, TRX City says it will be looking for a new master developer. Interestingly, it specifically noted that MoF plans to retain 100% equity in Bandar Malaysia.

This does not preclude MoF from selling off smaller parcels of land.

It is interesting to note that a master developer that does not have equity in Bandar Malaysia will not need a sizeable balance sheet to take on the project, unlike IWH CREC’s deal.

This opens numerous possibilities for local companies to take up a role in the project, even those with smaller balance sheets.

And with the general election around the corner, there is speculation that the role could be slated for a bumiputera company.

That said, checks with several local property developers show that many are cautious to consider such a project due to the potential political implications.

“What happened to Kang Hoo isn’t nice. And as a fellow businessman, I certainly wouldn’t want to take over the project under those

circumstances,” a chief executive of a major property company tells The Edge.

Takeaway: Watch out for Bandar Malaysia’s next master developer.

 

 

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