In terms of dollar volume, the East Cameron Gas Co. Sukuk Trust is not exactly a big deal, at $165.6 million. Yet those involved with the transaction are billing it as the first true U.S.-based future-flow securitization backed by overriding royalty interests in gas resources, which also comply with shari'ah laws.

Essentially, sale proceeds from gas and oil compounds extracted from underground exploratory wells in the Gulf of Mexico will be packaged as overriding royalty interests (ORRI). Those interests will secure notes issued from East Cameron Gas Co. Sukuk Trust. Investors will receive a fixed quarterly return of 11.25%. Along with payment of residual return, the deal matures in July 2019. Merrill Lynch was the sole boookrunner. It also acted as co-arranger, along with Beirut-based BSEC-BEMO Securitization Sal.

The sukuk, or Islamic bond, market issued about $41 billion of debt by the end of May, according to a special report from Moody's Investors Service. Malaysia gave the sukuk market a big push with the issuance of RM120 million ($30 million) from a Shell Malaysia subsidiary in 1990. Since then, Malay bankers have grown increasingly ambitious with deal sizes, and recently completed the $2.7 billion RACB transaction. Some sukuk transactions have been done outside Islamic jurisdictions, such as the German state's Saxony-Anhalt issuance totaling 100 million ($125.3 million), according to Moody's.

East Cameron Partners, which is the originator in the private placement deal, is an independent oil and gas exploration and production company that operates the wells 20 miles off the shores of the Louisiana coast. Gas compounds represent 93% of the material in the exploratory well. Because the deal is financing oil and gas compounds in the Gulf, it meets one of the foremost rules of finance in Shari'ah, which stipulates that funding should be linked to specific and tangible assets. Other rules state that money does not qualify as an asset, but as a measuring tool for the value of the asset being financed, according to Moody's. Trading on debt is forbidden, as is charging interest-based late payment fees. Sukuks do, however, allow for delayed payment up to a threshold, after which a default is declared. Institutions sometimes provide incentive for timely payment by pre-setting a fixed amount, or charging fees that are later forwarded to charity.

East Cameron Gas Co. Sukuk Trust is a complicated structure that involves two special purpose vehicles and still allows it to stay compliant with Islamic finance regulations. Merrill Lynch and BSEC put in place a purchaser special purpose vehicle (SPV), Louisiana Offshore Holding, which plays several important roles in the deal. Louisiana Offshore will buy the royalty rights from East Cameron Partners, then sell certificates to Esat Cameron Gas Co. Sukuk Trust, the issuer SPV, which will then issue the bonds to the investors.

Standard & Poor's gave the deal a CCC+' rating, because significant amounts of the oil and gas compounds that collateralize the deal are still proven undeveloped (PUD). Proven developed collateral, on the other hand, are compounds that were successfully located underground and are being extracted.

Cedar Gas Co. and Shell Trading Co. will oversee collection of the gas and oil compounds, respectively, according to Standard & Poor's.

Also, the purchaser SPV provides several levels of credit enhancement, in the form of several accounts that will reside at Deutsche Bank. A $5 million Opex account will be funded with deposits from East Cameron Partners to cover operating expenses incurred by extracting the oil and gas compounds from the exploratory wells; a reserve account amounting to $9.5 million will function as a credit against sale proceeds of the gas and oil compounds; and a $38.2 million earnout account will pay East Cameron Partners as it fulfills obligations under the development plan, according to S&P.

East Cameron Partners also appointed Production Management Industries as a backup operator for Cedar Gas Co., because gas compounds comprise about 93% of the material in the exploratory well. There is no back-up collector for the oil, according to S&P.

(c) 2006 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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