Sukuk and Bankruptcy in the United Stated in East Cameron Partners L.P

Sukuk and bankruptcy in the United Stated in re East Cameron Partners L.P

Facts of the case

East Cameron Gas sukuk was issued USD165.67 million in June 2006 with a maturity period of 13 years, and be a first sukuk backed by assets in the US. The assets securitized were royalties from federal oil leases off the coast of Louisiana. East Cameron Partners L.P transferred the assets through a true sale to SPV at US and transferred it to an offshore SPV, a Cayman Islands LLC which issued the sukuk certificates.  The originator also contributed its funds into the musharakah. The sukuk were purchased by both Islamic and Western investors and it had a fixed payment at 11.25% annually. However, it also has variable component because it depends on the production quantities ORRI. From the beginning it was designed to ensure the bankruptcy remoteness of the Cayman Islands LLC. The Cayman exclusively possessed an interest in the royalties from the leases and did not took part in the productions. However, sukuk holder will bore certain risk because of asset backed by energy sector and this was the first sukuk issuances to be rated by Standard & Poor’s. On 16 October 2008, East Cameron Partners filed for bankruptcy under chapter 11 of the United States Bankruptcy Code in the United States Bankruptcy Court for the Western District of Louisiana claiming its inability to pay the periodic returns on its USD166 million sukuk issued.

Issues

The issues arise whether the sukuk certificates represented debt or equity had been ongoing in Islamic financial circles for the years. Opponents of sukuk had consistently taken the position that they were sham transactions disguising ownership of debt as equity interests, and therefore did not comply with Shari'ah. To comply with Shari'ah, the sukuk certificates in the East Cameron Gas sukuk issuance had to represent an undivided ownership interest in the royalties, as had been indicated by the fatwah and the marketing materials. The sukuk legal structure was in fact imperfect to some extent. For example and without going into details, there were two SPVs, one on- and the other offshore. As the transaction is asset-backed it should have made it easier for the Sukuk holders to trigger the bankruptcy and take control of the assets. However, due to legal flaws in the structure they had to wait a year and a half for resolution. In light of recent developments, it becomes clear a third SPV independent of the others needed to be formed under a Musharaka, which would have made the separation of the assets from the bankruptcy estate much easier.