Author: afridi-angell

Netting arrangements in qualified financial contracts made enforceable

For decades, banks and other counterparties in the UAE have obtained financial services from foreign financial institutions. Industry bodies, such as the International Swaps and Derivatives Association (ISDA), the International Capital Market Association and the International Securities Lending Association, have developed standard documentation for these kinds of transactions. A new statute in the UAE makes it clear for the first time that the netting and setoff provisions in such documentation are valid and enforceable under UAE law. Among other matters, this clarity should reduce the cost to UAE counterparties of obtaining these financial services.

 

Federal Decree-Law 10 of 2018 on Netting (the Netting Law) was published in the UAE Federal Gazette on 30 September 2018 and will take effect on 30 October 2018 (the Effective Date). It is a significant development to the derivatives framework in the UAE, in terms of both the legal enforceability of such arrangements and the ability to implement close-out netting (i.e., netting of obligations following an event of default or termination event), particularly following the bankruptcy of one of the parties. The Netting Law is closely modelled on the 2018 ISDA Model Netting Act and Guide (as published by ISDA) and applies to all Qualified Financial Contracts, Netting Agreements or Collateral Arrangements entered into by a person or entity in the UAE (other than persons and entities located in financial free zones, i.e., the DIFC and ADGM, which have separate netting regulations).

 

Netting

 

The Netting Law allows parties to enter into Netting Agreements for the purposes of netting off their payment and delivery obligations under Qualified Financial Contracts (Netting). A Netting provision may include the following features:

 

(a) any termination, liquidation and/or acceleration of payment/delivery rights or obligations under Qualified Financial Contracts entered into under a Netting Agreement or to which a Netting Agreement applies;

 

(b) calculation, estimation or adoption of an index of close-out or termination value, market value, liquidation value or any other relevant value, which may arise from a party’s failure to enter into or perform a transaction under a Netting Agreement, where the rights and/or obligations of the parties under such Netting Agreement have been terminated, liquidated and/or accelerated under point (a), above;

 

(c) conversion of the values calculated under point (b), above, into a single currency;

 

(d) determination of the net balance of values calculated under point (b), above, as converted under point (c), above, whether by operation of setoff or netting; and

 

(e) entry into an arrangement whereby the net amount calculated above becomes payable directly or as part of either the (i) consideration for a specific asset or (ii) damages for non-performance of such transaction.

 

The Netting Law currently identifies 23 categories of agreements as Qualified Financial Contracts (which create either a right to receive or an obligation to make a payment or delivery or to transfer title to assets/commodities for consideration) including all types of swaps (in relation to currencies, interest rates, basis rates or commodities), forward rate agreements, currency or interest rate futures, currency or interest rate options, derivatives (relating to bonds, energy, bandwidth, freight, emissions and property index), securities contracts, Collateral Arrangements,1   commodities related contracts and any Shari’ah compliant equivalent of the above agreements. This list may be expanded by the Committee for Designation of Qualified Financial Contracts (the Committee), which will be formed under a resolution issued by the UAE Minister of Finance (the Resolution).

 

Under the Netting Law, Netting Agreements include:

 

(a) any agreement between two parties for Netting of present or future rights to or obligations for payments or delivery, or transfer of title arising in connection with one or more Qualified Financial Contract between the parties (a Master Agreement);

 

(b) any agreement providing for the Netting of amounts due under two or more Master Netting Agreements (a Master Netting Agreement);

 

(c) any Collateral Arrangements relating to or forming part of a Master Netting Agreement or Master Agreement;

 

(d) any Shari’ah compliant agreement or arrangement which is intended to have a similar effect as an agreement under points (a) through (c) above or any other Netting Agreement; and

 

(e) any agreements, contracts or transactions which falls within the definition of a Qualified Financial Contract.

 

A Netting Agreement and all Qualified Financial Contracts to which it applies will constitute a single agreement.

 

Legal Recognition

 

Under UAE law, futures, margin trading and derivatives transactions generally have been viewed as potentially unenforceable due to perceived gharar, an unacceptable level of risk or uncertainty that undermines contract formation. For this reason, the potential exists – and UAE courts have held in some instances – that derivatives are unenforceable “contracts of risk,” even when used to manage risk (as in hedging contracts) rather than to create risk or to speculate. Even for Shari’ah compliant hedging products in the market (for example, the ISDA/IIFM Tahawwut Master Agreement), which are supported by fatwas confirming that such products are Shari’ah compliant and free of gharar, there was no certainty on how the courts would hold. The Netting Law has minimized, if not eliminated, these uncertainties by providing that Qualified Financial Contracts shall not be void, unenforceable, or not final by reason of gharar under the UAE Civil Code.

 

Bankruptcy

 

Under the UAE Bankruptcy Law, a debtor and creditor may only set off obligations (i) if the conditions for exercising the setoff are satisfied before initiating procedures under the UAE Bankruptcy Law, (ii) if conducted as part of the implementation of a preventative composition or restructuring scheme or (iii) as approved by the court.

 

The Netting Law provides that the provisions of a Netting Agreement shall be deemed final and enforceable (including against a third party security provider, even if such third party becomes insolvent), even following the insolvency of one of the parties thereto. The arrangements under a Netting Agreement may not be suspended, delayed or made conditional merely by the appointment of a liquidator or the initiation of bankruptcy proceedings or under any other law applicable to insolvent parties. Insolvency and/or bankruptcy proceedings will not affect the Netting arrangements under a Netting Agreement or a Qualified Financial Contract (or any other financial contract) to which a Netting Agreement applies. Similarly, the provisions of a Netting Agreement shall not be affected by any limitations on setoff or netting imposed under any insolvency or bankruptcy laws.

 

In case of procedures under the UAE Bankruptcy Law, the liquidator or trustee of a party to a Netting Agreement (the Insolvent Party) may annul, stop or refuse the performance of a transaction constituting a preference to a non-insolvent third party (the Third Party). For example, such a transaction could be the transfer of cash, assets, property or collateral from the Insolvent Party to the Third Party under a Netting Agreement. However, the liquidator or trustee may do so only on the basis of clear and convincing evidence that such Third Party entered into the transaction with the intention to prevent, hinder or delay debt recovery by a current or future creditor of the Insolvent Party. There is no definition of “clear and convincing evidence” (a term that has no antecedent in UAE law), but the concept would appear to present a higher hurdle than a mere preponderance of evidence. Significantly, there are no other grounds in the Netting Law for a liquidator or trustee to fail to implement Netting.

 

Multi-Branch Netting

 

In line with the 2018 ISDA Model Netting Act and Guide, the Netting Law has recognized Multi-Branch Netting Agreements (the MBNA) as Netting Agreements under which a party can enter into Qualified Financial Contracts through its Home Office (i.e., the office in its Home Country) and one of its branches or agencies in countries other than its Home Country (i.e., the jurisdiction where such party is incorporated regulated or duly registered).

 

In the event of the insolvency of a foreign party’s branch/agency (the Branch), its liability (or the liability of its liquidator in the UAE) to the non-insolvent counterparty (the Counterparty) shall be calculated on the date of the termination of the Qualified Financial Contract under the MBNA and limited to the lesser of (i) the foreign party’s net payment obligations2 (as adjusted by any payments to the Counterparty and the fair market value of any collateral provided by the foreign party under the MBNA) or (ii) the Branch’s net payment obligation.3  The foreign party’s net payment entitlement4 from the Counterparty (as adjusted by any payments made to the liquidator of the foreign party and the fair market value of any collateral provided by the Counterparty under the MBNA) shall be netted against the Counterparty’s net payment entitlement from the foreign party. The Counterparty may liquidate any collateral (provided under an MBNA) and apply the proceeds against settlement of sums due from the foreign party under any related Qualified Financial Contracts. Any excess collateral shall be returned.

 

The Committee

 

The Committee shall undertake the following responsibilities in accordance with the mechanisms outlined in the Resolution:

 

(a) providing opinions on topics relating to Qualified Financial Contracts;

 

(b) designating any additional financial agreement, contract or transaction as a Qualified Financial Contract;

 

(c) amending the list of Qualified Financial Contracts; and

 

(d) any other function designated by the UAE Cabinet.

 

Conclusion

 

The introduction of the Netting Law is a sign of the UAE’s desire to participate fully in international markets for financial services. UAE counterparties will now be able, more readily and presumably at lower cost, to take advantage of the full range of products that are available.

 

Nevertheless, it remains to be seen how the Netting Law will be implemented by the courts in specific cases. Financial contracts concluded before the Effective Date that qualify as Netting Agreements or Qualified Financial Contracts should now be enforceable, even though enforceability might have been uncertain when the contracts were first concluded. Proceedings under the UAE Bankruptcy Law will be governed by the Netting Law as of the Effective Date, but trustee, liquidator or court actions taken before the Effective Date would presumably remain undisturbed even if inconsistent with the Netting Law. We will continue to report as these and other issues are addressed in the coming weeks and months. ■

 

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1 The Netting Law defines a Collateral Arrangement as a margin, variation margin, collateral or security procedure or other credit enhancement tool relating to a Netting Agreement or Qualified Financial Contract entered into under a Netting Agreement or to which a Netting Agreement applies, including (a) pledges, mortgages and charges (whether possessory or non-possessory), (b) Title Transfer Collateral Arrangements (as defined in the Netting Law) and (c) any guarantee, letter of credit or reimbursement obligation by or to a party to a Qualified Financial Contract, in connection with such Qualified Financial Contract.
2 The aggregate of all amounts owed by the foreign party (including subsidiaries and affiliates) to the Counterparty after giving effect to the Netting provisions under the MBNA and all related Qualified Financial Contracts.
3 The amount (if any) owed by the Counterparty to the Branch under a MBNA after giving effect to the Netting provisions under all related Qualified Financial Contracts between the Counterparty and Branch.
4 (i) The aggregate of all amounts owed by the Counterparty (including to any subsidiaries and affiliates of the foreign party) to the foreign party after giving effect to the Netting provisions under the MBNA and all related Qualified Financial Contracts or (ii) the aggregate amount owed if the MBNA contained provisions providing for payments to the parties, upon termination of related Qualified Financial Contracts.

ADGM announces tech start-up licensing regime

The Abu Dhabi Global Market (the ADGM) recently announced the launch of a commercial license specifically catered towards tech start-ups that allows entrepreneurs to obtain an operational license in the ADGM and access to a Professional Services Support Program aimed at allowing entrepreneurs entry to a community of businesses, financial services and professional advisors.

 

The license is available to entrepreneurs of all nationalities floating technology driven start-ups with scalable innovative business concepts that can be deployed in the UAE and contribute to the development of the local economy. Demonstrable evidence of the progress of such technology (such as a prototype or market traction) will be required along with a clearly defined business plan with relevant forecasts.

 

Registering under the license offers the following benefits:

 

• a fully operational commercial license for two years;

 

• annual fee of USD700 (as opposed to the USD10,300 initial registration fee and USD8,100 annual renewal fee ordinarily  applicable);

 

• registration with a virtual office address (business centre or agent/advisor registered address) or physical working space  (micro-office);

 

• access to ADGM’s Professional Services Support Program; and

 

• the option to obtain up to four employee visas.

 

The registration process remains the same as the current online procedure used for ordinary commercial licenses (involving submission of an application form and business plan, initial screening and pre-approval, final approval and issuance of license after registration and incorporation). After two years, if the start-up is able to show progress such as revenue or a sufficient level of investments, it will either be converted to a traditional operational entity on normal license terms or a holding company.

 

The Professional Services Support Program is a unique partnership between the ADGM and leading local and international advisers, established to help entrepreneurs enhance the scalability of their ventures, build business skills and provide guidance in the fields of accounting, compliance, finance, legal and VAT.

 

These developments come on the back of a number of initiatives by the ADGM to address set-up costs, access to funding and business support for start-ups (such as the FinTech RegLab programme). They are also in line with the UAE’s National Innovation Strategy to make the UAE a more attractive base for new businesses and ultimately promote economic diversification, foster growth and stimulate the region’s innovation environment. ■

Dubai relaxes rules on filing appeals before the Court of Cassation

On 19 September 2018, H.H. Sheikh Mohammed Bin Rashid Al Maktoum, the Ruler of Dubai, issued Decree No. 28 of 2018 concerning the Acceptance of the Civil Petitions before Dubai Courts (the Decree). The Decree was issued by His Highness to address the procedures in filing appeals to the Court of Cassation. The Court of Cassation is the highest court in Dubai.

 

Article No. 173 of Federal Law No. 11 of 1992 (as amended) (the Civil Procedures Law) provides that appeals to the Court of Cassation must be filed within 60 days of the judgment of the Court of Appeal. A matter is appealable to the Court of Cassation on questions of law, and provided that the value of the dispute exceeds AED 200,000 (Article 176).

 

Prior to the Decree, appellants were required to make payment of the Court of Cassation fee of approximately AED 6,000 and file a detailed petition of appeal before the expiry of the 60 day deadline. Over the past few years, several appeals were rejected by the Dubai Court of Cassation because the payment of the Cassation Court fee was delayed beyond the 60 day deadline, even though the petition of appeal itself was filed in time.

 

The Decree seeks to address this issue by clarifying that the Cassation Court fee may be paid within three working days of the Case Management Office requiring the petitioner to pay the fee, irrespective of the 60 day limit to file the appeal. The Head of the Dubai Court is given discretion to amend this time frame. Going forward, parties wishing to appeal to the Court of Cassation are still required to file the appeal petition within the 60 day deadline, but only need to make arrangements to ensure that payment is made as soon as the Case Management Office requires it.

 

The Decree further provides that a party which had its petition dismissed for reasons of delay in payment of the Cassation Court fee after 3 May 2015 may apply to the Court of Cassation for reconsideration of the dismissed petition. Such applications must be made within 30 days of the Decree coming into effect. This option is not available where the Cassation petition itself was delayed for more than 60 days (i.e. as opposed to the payment of the fee).

 

The Decree will come into force upon being published in the Gazette, which is yet to occur. Dubai is not part of the Federal Court structure, and the Decree is applicable only with respect to proceedings before the Dubai Court of Cassation. ■

Islamic structured products: too complex for their own good? – Islamic Finance News

There is no doubt that Sukuk continue to be the star performer of the Islamic finance industry, and are regularly deployed for an array of transactions including infrastructure development, Basel III liquidity requirements and even social welfare funding. However, other Islamic structured products have simply not attracted a similar level of interest in the UAE, despite the obvious advantages these products offer to companies looking to manage risk exposure (particularly in the context of trade finance, where plain vanilla hedging instruments may not be
sufficient) and to sophisticated investors looking to customize their investment portfolio to meet specific risk return objectives. Rahat Dar asks; why haven’t these Islamic structured products found a ready market in the UAE?

Qatar sanctions – new developments

The political dispute between Qatar and its neighbors escalated on Saturday 26 May 2018 with the announcement by Qatar that it would impose a ban on goods from the four boycotting countries, the UAE, Saudi Arabia, Bahrain and Egypt.

 

As we reported earlier, these four countries imposed a trade embargo on Qatar on 5 June 2017. The measures that were introduced prohibited the direct shipment of goods and the direct transport of passengers to or from Qatar and closed the land border between Qatar and Saudi Arabia. Ships and aircraft registered in Qatar were prohibited from entering the territories of the boycotting countries, and vice versa. Qatari diplomatic personnel and most Qatari nationals were compelled to depart from the boycotting countries.

 

Financial transactions were also affected, although payments by Qatari parties denominated in foreign currencies (such as Euros and Dollars) nevertheless proceeded.

 

These measures compelled the business community to implement a series of somewhat uncomfortable adjustments. Businesses in Dubai were particularly affected, as many operations based in Dubai serve customers around the Gulf, including Qatar. None of the adjustments that businesses put in place, such as the routing of shipments through non-boycotting countries, enjoyed official approval.

 

The new measures announced by Qatar could well cast doubt on the viability of a number of these adjustments. In Saturday’s announcement, the Ministry of Economy and Commerce of Qatar stated that the sale of products imported from the UAE, Saudi Arabia, Bahrain or Egypt would be prohibited. Retailers are directed to remove such items from their shelves. The Ministry would conduct inspections to ensure compliance. The Government of Qatar also announced that dairy products imported from Saudi Arabia via third countries would be prohibited. Somewhat more modest measures were also reported – that products from the boycotting countries would not benefit from GCC Customs treatment, and that the Government of Qatar has issued a directive that buyers should find new suppliers for the products that are impacted.

 

These measures appear to be aimed at consumer and retail products manufactured in the boycotting countries. It is unclear whether they will extend to other goods from those four countries that are not shipped directly. It is also unclear whether the new measures will impact existing supply contracts or only new supply contracts with customers in Qatar.

 

We will continue to monitor developments as they are reported. For the time being, parties with ongoing supply obligations to customers in Qatar must likewise watch developments closely, as many options for serving customers in Qatar might no longer be available. ■

Cautious optimism on 100 per cent foreign ownership

Recent media reports have suggested that 100 per cent foreign ownership of companies in the UAE will now be permitted. The reports are based on a government press release regarding a UAE Federal Cabinet (Cabinet) meeting held on 20 May 2018.

 

The press release states that the Cabinet announced changes in the system of foreign ownership in the UAE allowing global investors to own 100 per cent of companies by the end of the current year. While this is welcome news, some media reports and expert analysis have jumped the gun giving the impression that 100 per cent foreign ownership is a done deal. This news is better understood as a statement of intent and is not confirmation that the relevant legislation is already in place.

 

Companies incorporated in the UAE require a minimum of 51 per cent UAE ownership. This long-standing rule is set out in Article 10 of Federal Law 2 of 2015 on Commercial Companies, as amended (the Companies Law). The previous Companies Law (Federal Law 8 of 1984) contained a similar restriction. As an exception to this rule, 100 per cent foreign ownership is permitted in free zones.

 

An amendment to Article 10 of the Companies Law adopted in September of 2017 (pursuant to Federal Decree-Law 18 of 2017) stipulates that the Cabinet may adopt resolutions permitting greater than 49 per cent foreign ownership. Under the revised Article 10, the Cabinet has discretion to determine what types of companies may be majority or wholly owned by foreigners.

 

The idea of giving the Cabinet the power to designate companies in certain sectors as being eligible for 100 per cent foreign ownership is not new. For example, in September of 2011, following announcements by the Ministry of Economy regarding a series of forthcoming new laws, media reports circulated that a new foreign investment law giving the Cabinet the power to allow 100 per cent foreign ownership of certain companies was being drafted.

 

As of this time, no foreign investment law has been enacted. Instead, the mechanism for permitting the Cabinet to designate the sectors eligible for majority and 100 per cent foreign ownership has been inserted into the Companies Law.

 

While 100 per cent foreign ownership would be a welcome development, it is not yet a reality. Some reports may give the impression that a Cabinet Resolution that would allow implementation of 100 per cent foreign ownership is already in place. Such reports are misleading. A committee is currently studying the issue with a view to making recommendations but the Cabinet has not yet issued any resolutions stipulating that specific types of companies are eligible for 100 per cent foreign ownership. Until this happens, 100 per cent foreign ownership will be a goal rather than a reality.

 

Reports about new legislation in the UAE should always be treated with caution until the actual legislation is published in the Official Gazette. In some cases, rumored legislation never materialises. In other cases it takes much longer than predicted. For example, there were many reports going back well over a decade that the new Companies Law was imminent before it was finally promulgated in 2015. In the current case, the government’s press release indicates that the Cabinet has set a goal of implementing 100 per cent foreign ownership by the end of the year. Whether or not this goal will be achieved remains to be seen.

 

Permitting 100 per cent foreign ownership in certain sectors would be a major development. Not only have the relevant sectors not yet been identified, if and when such sectors are identified the government may get resistance from existing companies operating in these sectors. Industry resistance is a potential obstacle to implementation. The relevant business sectors must be identified and then the Cabinet must agree with the recommendations and adopt a resolution.

 

The recent news is cause for optimism that 100 per cent foreign ownership will eventually be implemented in certain sectors but 100 per cent foreign ownership is not yet a reality. ■