Rags to Riches, Conventional Debt and Private Equity – The Inside Story To The Issa brothers’ Asda Takeover
Two Muslim brothers hailing from Blackburn have agreed, as part of a consortium, to buy a majority stake in Asda. They partnered up with TDR Capital – a private equity firm – to make the successful bid of £6.8bn. The deal is being financed through lending provided by a syndicate of banks including Barclays, ING, Lloyds Banking Group and Morgan Stanley.
The Issa brothers are a genuine rags to riches story – starting from humble beginnings with just one petrol station to building an empire that today generates revenues of over $25bn.
The Asda deal is a classic example of a leveraged buyout (“LBO”) – a private equity strategy that has been used by private equity firms to make significant returns over the last few decades. The EG Group (the Issa brothers’ company) itself has made over 10 such takeovers or mergers over the last few decades.
We have no reason to believe that EG Group and TDR used sharia-compliant finance to fund the acquisition of Asda. The FT reported that the deal was funded by a mixture of high-yield bonds and leveraged loans.
In this article we will explore:
- How private equity and LBOs work
- What role debt has had to play in the EG Group’s success
- Whether there were sharia-compliant alternatives open to EG Group; and
- How we as a community should approach and understand the complex issues around conventional financing in Muslim businesses.
How does private equity and LBOs work?
Private equity relies on debt financing to magnify its returns.
Let’s run an example to bring this to light.
If a company is making £10 profit and you buy it for £100, then the next year you make £10 and make a 10% return annually.
But now let’s use a LBO strategy. If you borrow £80 and just put down £20 of your own money, then you will have to pay an annual interest payment to the lender. Let’s say you pay 5% to the lender on their £80. You would have to pay £4 of the £10 profit you make. You would then be able to keep the remaining £6 as your own profit.
So now, having put down just £20, you get access to a return of £6, which is a 30% return. That is 3x more than you would have made.
So your money does more for you and you could buy 5 different businesses worth £100 now, putting down just £20 in each business.
You could end up making £30 profit from £100 investment instead of just £10. You could then use that £30 to finance further LBO deals to acquire more assets.
If things go well you could amass a huge empire very quickly with relatively little money.
But there is a big risk to this too.
If one year you do not make £10 profit – perhaps you make a £2 loss – you still have to pay £4 to the banks.
That means you have to conjure up money from outside of the business. And if you are heavily leveraged up already with all your cash tied up – that can be a very precarious position to be in.
LBO and debt-financing are a key part to the EG Group strategy
As this following excerpt from a BBC article explains, the EG Group has a significant amount of debt – £9 for every £1 of cash earnings in fact – and uses this debt to continue an aggressive growth strategy:
In 2019, EG Group reported sales of €20bn (£18bn), up from €12bn a year before. While fuel accounted for €16bn of sales, the business is geared towards adding on other sales, from brands including including Subway, Burger King and French supermarket Carrefour. Borrowing costs on €8bn of debt pushed the firm into a fiscal loss for the year, of €496m.
The firm has about £9 of debt for every £1 of cash earnings, says Azhar Hussain, head of global credit at Royal London Asset Management. Most companies would have £3-6 of debt for each pound earned before eyebrows are raised and questions are asked about repayment, he said.
This is a risky and bold business strategy. The idea is that EG Group uses debt to continue to acquire solid, cash-generative businesses. They can then use that cash to service their debt and continue acquiring.
This leads to (a) increasing economies of scale; (b) stronger negotiation power with producers of the products they stock; and (c) greater brand power.
Ultimately they can stop acquiring and actually reap in the profits – this then turns EG Group into a cash cow and over the course of a decade or so of reducing their debt mountain, EG Group becomes a much more stable and profitable business (they’re currently making a lot of revenues but posting a loss due to the debt payments).
The alternative move for the Issa brothers is to list the EG Group and cash in that way.
Are there alternative ways of structuring these deals that could make it sharia-compliant?
Okay, so it sounds like the EG Group has a bold (if risky) business strategy that is working. But what about the sharia compliance issues?
Firstly, to reiterate – we do not know for sure that this deal definitely involved haram financing – but we have every reason to believe that is the case.
EG Group is one of the biggest borrowers in the Euopean corporate leveraged loan and junk debt markets and has used LBO and conventional debt to buyout at least 10 previous companies.
Could they have structured this deal in a halal way?
Yes. Because the asset being bought here is considerable amounts of real estate. Asda, and any other large retailer is in fact a glorified real estate company if you study their economics and the way they operate as businesses.
Consequently, an ijarah (lease) structure could have been used quite easily.
Alternatively a Murabaha (mark-up sale) could have been used.
At worst, a commodity murabaha (a structure disliked by many scholars but ultimately seen as halal) could definitely have been deployed.
Yes – if the EG Group was doing a smaller deal and were a smaller company it would have been difficult to secure halal debt financing. But once you get into the £50m + range of debt-financing, it is very feasible to get the deal structured in a halal way.
The same corporate law firms, banks, and professionals involved for the mainstream debt have teams with expertise to structure in a halal way.
Additionally, given the scale and prestige of this deal they would have likely done it for the same rate. In any case, even if it cost a bit more – the costs would have been negligible relative to the scale of the deal.
But what about the pork?
There is an additional wrinkle around buying a business that sells haram products (e.g. alcohol and pork).
As these products likely do not constitute the majority of the business and are likely under 5% of the total revenue of the business the profits from these sources can be purified by giving them away. (We haven’t done the analysis on the revenues so this is an assumption. Public data on revenue breakdown between haram and halal is usually never provided by companies).
Where the profits are above 5% then it is a little bit more tricky but again working with experienced sharia scholars and corporate dealmakers can result in structures that allow for these sales whilst at the same time making sure that the money from such assets is not part of the actual profit of the business – certainly those portions of it that accrue to the Muslim shareholders.
So should we boycott Asda and criticise the brothers?
No – for a number of reasons.
Firstly, we should make as many excuses for our brothers and sister as possible. It is possible that for PR reasons the EG Group has actually used sharia-compliant debt but not disclosed that to the wider market. One could imagine the PR nightmare that would cause among certain Asda customers.
Secondly, we don’t criticise non-Muslim owners who did exactly the same thing. Why on earth would we now boycott or criticise Asda because someone else is doing the same thing?
Thirdly, the brothers give 2.5% of their profit to charity every year – amounting to £20m. That tells me that they clearly care about Islam and its teachings. Like any of us, they are not perfect, but clearly they are on a journey.
Fourthly, the brothers started off in a world where Islamic finance perhaps was not as prevalent (or they did not know about it) and have since built their business which has become completely wedded to conventional debt finance so much so that it is very difficult to extricate oneself now.
Fifthly, many many Muslims businesses also use conventional finance. So there is no reason to particularly censure these guys just because they’ve been particularly successful. Take any of the Muslims in the Sunday Times 100 rich list – and pretty much all will have used conventional finance.
So how do we respond to this news as Muslims then?
This news should be a wake-up call to us as a community about the incredible potential of halal investment and halal finance.
What EG Group did is possible with sharia-compliant debt too. But there’s a big problem.
Halal financing for businesses under the £50m mark (where you can negotiate bespoke terms) remains very few and far between in availability.
In absence of that, Muslims should of course avoid haram debt – but it also at least provides some understanding to why Muslim businessmen opt for conventional finance.
Sharia-compliant business finance is now slowly emerging with companies like:
- Qardus (who we point any of our SME finance queries to) and who provide short-term financing
- Izdihar who are still to launch but will provide a sharia-compliant equivalent to Clearbanc; and
- IFG.VC which provides equity finance to early-stage startups.
However we are barely scratching the surface. We still don’t have any substantial scale in the financing we provide to Muslim businesses, we don’t have anyone providing acquisition finance, long-term revolving facilities or finance between £500k – 50m.
So really practically then what do we do?
- If you are an investor – support people like Qardus and IFG.VC by adding to the liquidity available to provide financing to Muslims businesses. You can access both options on our halal investment platform here.
- If you are a Muslim business – fight tooth and nail to avoid riba as much as you can. It is possible if you really work at it. We are very sympathetic to your plight and doing all we can behind the scenes to support people who are working to bring viable solutions to the market.
- If you are an entrepreneur – try to solve this sharia-financing problem. It is a potentially massive market which is yet to be properly cracked. Try to solve this problem. Once you have put together a viable model and team – get in touch with us at IFG.VC. We’ll fund the best teams.
- If you are none of the above– don’t be quick to throw stones at people for doing haram. But also don’t be quick to celebrate business success based on conventional debt. It is a complicated, nuanced world out there.
We have asked the EG Group to comment on this article and will update it in light of their feedback.