Four years ago, the Saad/Algosaibi affairs revelation of significant debts racked up by two family-owned conglomerates spooked boardrooms and banks across Saudi Arabia. The embarrassing headlines generated by the debts incurred by the two groups, and the substantial exposure of banks, estimated in the region of $20 billion, caused prolonged soul searching in the Gulfs corridors of power.
More recent moves by the kingdoms government suggests a renewed readiness to step in to prevent large corporate failures affecting strategic economic sectors - even if, in the case of the 2009 crisis, there was little that the authorities could have done.
The governments decision in early June to provide financial support for Zain KSA, the local affiliate of which is controlled by Kuwaits mobile group Zain, is the clearest signal yet that Gulf states do not want defaults to seep into critical markets like telecoms. As Fitch notes, no Gulf government will want to allow a high-profile mobile operator to collapse, especially as authorities across the region are keen to improve infrastructure.
According to Fitch, the Saudi decision suggests that Gulf countries are increasingly willing to co-operate to support the telecoms sector. In the short-term, says the ratings agency, this will help limit the potential for defaults among troubled companies, while in the longer term it may result in governments pushing for cross-border mergers between sub-scale operators.
The Saudi mobile sector has been under pressure recently, amid suggestions of a saturation point nearing. The cellular subscriber base declined by 0.3 per cent in the first quarter of 2013, compared to the previous three months, to 53 million - though this was partly the effect of regulation on the sale and activation of pre-paid SIM cards, which led to companies deactivating unidentified SIM cards.
Zain had particular issues of its own to deal with, having failed to turn a profit in its five years of operation. It has been buffeted by intense competition from incumbent rivals Saudi Telecom Corporation (STC) and Mobily. Having had to pay a hefty $6 billion for the third mobile license back in 2007, it has laboured under a heavy financial burden from the outset. Zain KSA had repeatedly been forced to defer repayments on an SR9 billion ($2.4 billion) loan; after numerous failed attempts at refinancing, going back more than a year, in early June it finally signed an agreement with the Saudi finance ministry to allow it to keep going.
On 2 June, it struck the deal to postpone payments of the governments entitlements due from the company for the next seven years - amounting to a substantial SR800 million a year, representing a total of SR5.6 billion for the period. The postponed installments will be converted into a commercial loan, the first installment of which is due on 1 June 2021.
Zain KSA chairman Fahd bin Ibrahim al Dughaither said the deal would help Zain KSAs liquidity position, as it would reduce part of the financial obligations the company faces. This will in turn result in the reduction of financing costs and allow the company to use part of that liquidity to continue the expansion and development of its network. The company wants to use the state-licensed financial cushion to bolster its operations and develop better services to customers.
The $1.5 billion deferment in fee payments will clearly go a long way to helping turn around its performance, with the rescheduling of the payment of annual fees that will instead be treated as commercial loans.
But there are broader questions that the Zain KSA issue has raised about the sustainability of multi-operator telecoms sectors. In Fitchs view, most Gulf markets can only support two strong mobile telecoms operators in the long-term, due to their demographics and relatively small size. Countries like Saudi Arabia and Bahrain have more than two. Growth is slowing in these markets, causing third- and fourth-place operators to struggle, says Fitch, especially those that paid high fees for their operating licenses. These regions will also reach saturation relatively quickly, which will add to the pressure on all operators.
Above all, the Zain KSA deal shows that Gulf governments are wary of allowing such companies - rather like the bloated western banks before the financial crisis - to be allowed to go to the wall.
There are good reasons why they should be so concerned. First off, telecoms is an important sector, particularly the mobile segment. Smart phones are a desirable consumer item for many Gulf citizens. Indeed, the GCC has the worlds highest mobile penetration rate, after Europe. Its a strategic sector and not one that they would want any disruption to, says a former Saudi-based bank analyst.
According to Shrouk Diab, an equity analyst at NBK Capital, the Saudi government felt compelled to step in as the alternative of doing nothing carried too many risks - and healthy operators ultimately bring healthy revenues. The thing with telecoms is that ultimately governments see it as a cash cow, especially when they reach the point where they start giving out dividends and returning cash to investors.
State support for the sector will go beyond financial bailouts and easier repayment terms. According to Fitch, in the short-term there may be more inter-regional co-operation, but in the longer term governments may prefer to push for consolidation, rather than provide ongoing support for three or four operators in markets that can only realistically accommodate two.
Telecoms is not the only sector to have felt the heat of late. Saudi construction firms have also come under financial pressure, with some leading players reported to be experiencing cash flow issues, partly due to long project lead times. Some of the projects cash flows are pretty lumpy, and that causes problems for them, says the analyst.
Rumours have circulated that some of the largest contractors have been considered for government financial support in order to help overcome liquidity crunches, though nothing has been substantiated.
The harm done to Islamic banks in the wake of the financial crisis was real enough, however. Decisions by states to provide funding to keep some of them on life support has not been unanimously applauded. When Bahrains Arcapita Bank filed for Chapter 11 protection last year, it emerged that its biggest creditor was the central bank itself, owed about $250 million (granting the bank a $250 million murabaha facility). Some critics suggested this was not the best use of state financial resources. However, Bahrains central bank is adamant its strategy of placing deposits in local banks is the right one in the circumstances, underlining its support for the strategically vital banking sector in light of the financial crisis.
Despite the intimations of broader support for industries and companies facing financial duress, there does not yet seem to be a uniform bailout strategy among Gulf authorities, as to when governments will still step in and what the criteria for extending support is.
Zain KSA - though it has been the smallest of the three operators with just 14 per cent market share - remains integral to the competitiveness of that market. From the outset, Gulf governments did not want to create duopolies or uncompetitive market places.
According to one Gulf-based economist, mobile phones represent a special case and shouldnt imply wider availability. Its an industry which affects everyone in Saudi Arabia, and mobile penetration rates are very high there. Allowing a shock to the system such as through a collapse of an operator would be highly disruptive and would affect ordinary Saudis. That is something the government doesnt particularly want to countenance.
Another factor that may have influence the decision to extend a financial lifeline to Zain KSA is that telecoms operators - unlike the family-owned conglomerates - are publicly-listed and have proved to be popular investments. Zain is an actively traded stock on the Saudi stock market, and there is little inclination to allow both consumers and investors to get burned.
In contrast, the Saudi governments recent decision to move for the liquidation of a much smaller telecoms outfit suggests it is prepared to see investors take a hit - so long as the collateral damage does not extend too far. In the same week that details of Zains financial rescue was being made public, the Saudi authorities announced the halt of trading in Saudi Integrated Telecom Company (SITC), a start-up that floated its shares in an initial public offering in 2011. Shares were suspended by the Capital Market Authority (CMA) in February of this year.
The decision to liquidate provoked an impromptu demonstration outside the CMA headquarters by some SITC investors, angry at the prospect of losing their shares. According to one Riyadh-based investment banker, the liquidation raised questions about the Saudi regulatory environment, sending the wrong signal to market participants.
SITC was charged with operating without clearing some of the necessary measures to start up, such as having the relevant licenses in place. Allowing the initial license may have been the main error, says the banker.
SITCs forced delisting may send out a belated message that the Saudi market regulator is prepared to take tough action against corporates that have failed to meet registration requirements, but it also reveals the lack of uniform policy on what constitutes a valid case for bailout, even within the telecoms sector.
But change is underway. The Gulfs economy is in a different place to the early part of the 21st century, when IPOs were churning out on an almost daily basis. The low-hanging fruit has been picked, and the trend now is for consolidation.
The challenge now is to try to control the process, to ensure smoother management of prime economic assets. The Zain KSA intervention may represent an important starting point in that long-term development.
