Africa Israel's predicament should be a warning

By NITZAN COHEN
September 13, 2009 16:05

You can't say that Africa Israel's announcement about defaulting on its debt was a surprise. But still, when Lev Leviev addressed a press conference with a gloomy face and admitted he can't return the money he borrowed, local capital markets were shocked.


One of the nation's most prominent businessmen, once considered to be the richest person in Israel, has become the most prominent victim of the violent crisis that hit the global economy. Leviev is a classic self-made man from a small town who went from being a modest diamond cutter to a mogul running a multibillion-dollar empire of diamonds and real estate. But he is now one step away from complete bankruptcy and losing control of his Africa Israel global real-estate business - together with lost credibility and a stain on his good name.



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In short, what destroyed Africa Israel is the same thing behind the current severe recession: over-leveraging. Over the past five years, Africa Israel took part in dozens of ambitious real-estate projects in the United States and Russia. They were also very expansive, and the company made some serious investments in "hot" markets just when the global real-estate bubble was reaching its peak. But it seemed Leviev didn't care: financing was so easy to get and, in Israel, institutional investors (the guys who manage your pension money) had loads of spare cash to spend.



So all he had to do after reaching the limits of his bank's credit lines was to address these investors - backed with glowing reports and "independent evaluations" of his company's assets - and recruit many more billions of shekels, without even needing proper guarantees, except for his word of honor.



Indeed, Africa Israel's grim case is a good example of the terrible damage caused by adopting the shameful accounting practice known as IFRS (international financial reporting standards). Under this new practice, the "good old" accounting principle of conservatism has been abandoned, and companies are allowed to rewrite values of assets using up-to-date evaluations.



For a global real-estate giant like Africa Israel, this practice was used to upgrade the value of its books' assets by billions of dollars and use it for raising more billions in debt and in IPOs, such as the one by its subsidiary AFI Development in London last year.





In 2004, Africa Israel's total debt, including subsidiaries, was about NIS 6 billion. By late 2008, it was NIS 22.5b. Moreover, most of the company's assets by the time markets started to fall were only in the developing stage, especially in Russia. The ratio between these kind of assets to mature ones that yield steady cash inflows was getting risky. When real-estate prices started to fall, Africa Israel found itself caught between the worse market in decades in the US and a devastated market in Russia, where the economy had almost ground to a halt.



When the seriousness of this collapse became clear last September, anyone looking at Africa Israel's balance sheet should have seen a default coming. The company tried to calm things down, declaring it was "financially stable" and had been able to sell assets to inject much-needed money.



But even these actions, which provided some false support to its stock, were seen by many as a sign of weakness. One of Africa Israel's biggest problems was the shortage of income-producing properties; the sale of its Israeli crown jewel, the mall in Ramat Aviv, together with some other cash-bearing assets left it more cash-flow naked than ever.



So now the banks, institutional creditors and private investors are all trying to save something from the mess Leviev left them with. It has been said that all these lenders share a common interest of wanting to keep the company alive so that it can recover some of the money it owes.



But Africa Israel's ability to do that even if it is kept alive is very low. It doesn't have many more "live assets" left in its pipeline; most of the ones it still had were already given to the banks as collateral. That means its bondholders, to whom Africa Israel owes some NIS 9b., have little chance of getting their money back.



This is what makes the whole affair more significant than just another story about a business failure. It is clear that Africa Israel is not alone. Many other companies, especially in the global real-estate business, are facing the same problems Leviev has.



Fischman Group, Arazim, Azorim and lately even Zim, one of the Ofer family's leading companies, are struggling to survive in an environment of deteriorating business and huge debts. Many of them owe substantial amounts to unsecured bondholders.



Those "bondholders" are none other than you and me, whose money was involuntarily handed over to incompetent money managers of the provident, pension and insurance funds. Now these same people who invested our money so poorly are trying to make amends by fighting like lions over each shekel they can squeeze out of Africa Israel and Leviev.



One of the most curious questions is what's happening with Leviev's privately held businesses, especially the diamond business. When Leviev approached the capital market to raise money, he used his reputation and personal financial status to promote his new business ventures. So his creditors should now be very adamant and target some of his personal money - just in case Africa Israel's assets don't suffice.



The institutional investors should make Africa Israel's case an example for other companies with impending default announcements. If they let the beleaguered players - including Leviev and his foreign and local bank creditors - leave them in the lurch, we might soon witness a wave of such defaults.



But insisting on getting what they deserve at almost any cost - including confiscating Leviev's shares in Africa Israel, appointing a different management team and going after his private assets - would send a strong message to the business community and the public. And it would set a new standard for a more reasonable and moral world for the good days that will come when this painful crisis ends.



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