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SINGAPORE/HONG KONG: Lurking beneath Malaysia’s solid investment-grade sovereign rating is a risk posed by a US$14 billion (RM45.24 billion) investment fund that is not even generating enough cash from operations to cover interest costs.

Regarded as a cross between a sovereign wealth fund and a private investment vehicle, with Prime Minister Datuk Seri Najib Razak chairing its advisory board, 1Malaysia Development Bhd (1MDB) is struggling under the burden of US$11 billion (RM35.42 billion) in borrowed money.

The government says it only guarantees around 14% of the debt. The investment community assumes it would provide more if needed, and it is the potential strain on Malaysia’s debt position from these contingent liabilities that raises concern.

“We don’t know how well 1MDB is doing,” said Christian de Guzman, senior analyst of sovereign risk group at ratings agency Moody’s Investors Service. “It does pose a risk in terms of the amount of borrowing they have made over the past few years.”

Controversy has dogged 1MDB almost since it was first set up months after Najib came to power in 2009, and used for funding projects that form part of his Economic Transformation Programme.

Critics have questioned its investment choices, the size of its debt, US$2.25 billion parked in a Cayman Island fund, hundreds of millions of dollars of revenue earned by Goldman Sachs for handling its bond issues, delays in its accounts, changes of auditors, and a perceived lack of transparency.

A US$1.9 billion bridging loan that fell due in November has been rolled over twice, most recently two weeks ago, in order to give 1MDB more time to launch a US$2 billion initial public offering that would reduce debt incurred buying 15 power plants. In a statement published on May 23, 1MDB said the IPO for its power division will take place in the second half of this year.

In 2013, 1MDB, with liabilities of more than US$13 billion, generated cash flow of RM860 million from operations, far below the annual interest outgo of RM1.62 billion. It would have made an RM1.85 billion loss, but for a RM2.7 billion revaluation of its property portfolio.

The Prime Minister’s Office and 1MDB did not respond to Reuters’ requests for comment.

1MDB defended itself in a statement released in February, saying that its power assets had strong growth potential.

But independent analysts also have voiced concern that 1MDB’s debts could be pushing Malaysia into risky territory.

“1MDB remains somewhat of an enigma,” Bank of America Merrill Lynch economist Chua Hak Bin said in a note. “What stands out, however, is 1MDB’s high leverage, which has raised concerns that 1MDB could emerge as a serious contingent liability for the government.”

“It can be viewed as a way to circumvent the 55% ceiling on government debt to GDP, while shielding this spending from parliamentary scrutiny,” said Prashant Singh, a fund manager at Neuberger Berman in Singapore.

Economists said a further delay to 1MDB’s IPO, weaker financial results and prospect of a further rollover of debt could put the government on the spot.

“The trigger points which could force investors to price 1MDB risk more seriously into the sovereign could come in various forms,” said Leong Lin-Jing, assistant investment manager at Aberdeen Asset Management Asia, based in Singapore.

Further explicit guarantees by the government for 1MDB projects that are regarded as not necessarily beneficial to the country would send a bad signal, Leong said.

“Malaysia’s negative outlook is driven by factors such as the rise in guaranteed and contingent liabilities like 1MDB, due to its sovereign ownership linkage, and the sharp erosion in current account surplus,” said Andrew Colquhoun, Fitch sovereign analyst for Malaysia. — Reuters


This article first appeared in The Edge Financial Daily, on June 03, 2014.


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