Behind Credit Suisse’s Soured Mozambique Deals

Mozambique then-President Armando Guebuza, center, shakes hands with French President Francois Hollande, as defense contractor Iskandar Safa looks on at his shipyard in Cherbourg, France, in September 2013. Mr. Safa’s firm won a contract to build boats for Mozambique. Photo: Michel Euler/Associated Press

Bonds and loans totaling $2 billion helped boost fees for Swiss bank and funded contracts for a struggling defense contractor client

When a Lebanese defense contractor asked Credit Suisse Group AG to finance sales of military ships to Mozambique, it looked like an opportunity to turn a relationship with a wealthy businessman into a lucrative deal.

Instead, it has embroiled the bank in a scandal that has spread from the capital city of Maputo to financial centers around the world.

Credit Suisse and a partner, Russian bank VTB Group, arranged $2 billion in debt for three state-owned companies fully or partly owned by Mozambique’s intelligence service. The deals helped boost fees earned by Credit Suisse’s investment bank and funded important contracts for its client, Iskandar Safa, whose France-based military-shipbuilding company was struggling.

But the deals also ballooned Mozambique’s national debt by about 35% and financed military spending by the country as a decades-old civil conflict flared back up. Much of the debt was kept secret for more than a year, leading to a backlash from investors, international donors and the country’s Parliament after it was reported by The Wall Street Journal in April.

This account, based on interviews with people involved in the deals and offering documents, lays out the client relationships and financial incentives that led Credit Suisse to take on deals that have become an albatross for the bank. The transactions also cast a rare spotlight on the ties between banks, defense contractors and the countries they supply.

Mozambique now is struggling to repay the money it borrowed as it contends with drought-related food shortages and intensifying violence.

The U.K.’s Financial Conduct Authority has begun looking into whether Credit Suisse and VTB misled investors when some of the debt was raised and subsequently restructured, people familiar with the matter said. Credit Suisse is also the subject of an inquiry by Switzerland’s financial regulator, another person familiar with the matter said. Both banks used their U.K. operations to handle the bonds.

“We have been open and transparent with the regulator on the Mozambique transaction and are not aware of any investigations,” a spokeswoman for VTB said. Credit Suisse declined to comment.

Privately, Credit Suisse’s top executives have recently expressed concerns about the deals, calling them the wrong type of business for the bank.

“You’re talking about a country with extreme health and poverty needs,” said Anne Frühauf, head of southern Africa research at political risk consultant Teneo Intelligence. “If there had been a proper prioritization of public-investment needs, neither of these projects would have seen the light of day.”

The deals included $622 million in loans to buy military equipment and $850 million in bonds for tuna-boat purchases arranged by both banks in 2013. Some bond proceeds later went to military purchases. In early 2014, VTB arranged a $535 million loan to build a shipyard to service military and fishing fleets.

Speedboats belonging to a Mozambique state-owned company are seen on a quay at Maputo Harbour last April.
Speedboats belonging to a Mozambique state-owned company are seen on a quay at Maputo Harbour last April. Photo: Agence France-Presse/Getty Images

International pressure mounted this month for Mozambique to clarify how the money was spent. The International Monetary Fund, U.K. High Commissioner to Mozambique Joanna Kuenssberg and U.S. Ambassador Dean Pittman both called on Mozambique’s ruling party, Frelimo, to allow an independent forensic audit of the government’s accounts. The IMF and a dozen donors have cut off about $320 million in aid since the loans came to light.

The roots of the debt offerings go back to 2010 and the discovery of large offshore natural-gas fields in Mozambique, one of the world’s poorest countries with 27 million people and a gross domestic product of about $16 billion.

The prospect of new wealth fanned tensions between Frelimo and the opposition party, Renamo, which had fought a civil war until a 1992 truce. António do Rosário, chief executive officer of the three state-owned companies that borrowed the money, said the government wanted to protect the gas fields and invest in related businesses.

“Our country has massive resources,” Mr. do Rosário said. “In parallel to these resources, we have threats.”

The government picked Mr. Safa’s company, Privinvest, to supply ships, including patrol and surveillance vessels, and asked its help getting financing. The company disputes the characterization of the ships as military, saying they weren’t outfitted with weapons. Privinvest approached Credit Suisse about a loan for Mozambique, and a committee of senior executives, including then-CEO Gaël de Boissard, approved the deal.

Credit Suisse’s top brass signed off in part because the bank had pioneered a way to lend in developing countries without taking on much risk.

The bank found it could purchase sovereign-debt insurance through the Lloyd’s of London insurance market to hedge as much as 90% of the loans against default. Credit Suisse charged higher interest rates on the debt than its insurance premiums, pocketing the difference mostly risk free.

The insurance policies Credit Suisse used only covered governments. So when Mozambique wanted to borrow the money through state-owned companies instead, the bank came up with a twist: Mozambique would cosign.

Opposition politicians in Mozambique allege the administration structured the borrowings to keep them secret and illegally provided the government guarantee without Parliament’s approval.

“Information regarding these deals was carefully concealed from the public and opposition parties,” said Maria Ivone Soares, Renamo’s chairman in the Mozambican legislature, who is pushing for an investigation.

Mr. do Rosário, CEO of the companies that borrowed the debt, denies any wrongdoing. “The financings went through all legal procedures,” he said. “The specific nature of the debt and its holder were classified for national security purposes.”

Initially, the deals paid big dividends.

Credit Suisse collected fees from Privinvest and from Mozambique, interest payments on the loans and bonds it kept, and made trading profits on debt it sold to investors. Its revenue from issuing bonds and loans around the globe jumped 18% in 2013, the year Credit Suisse raised $1 billion of debt for Mozambique.

“The increase was driven by higher revenues in emerging markets, particularly in structured lending,” Credit Suisse said in its annual report.

The deals also were a windfall for Constructions Mécaniques de Normandie, a struggling subsidiary of Mr. Safa’s Privinvest that built some of the ships for Mozambique. CMN hadn’t won a major contract since 2003, former employees said. In 2014, CMN’s revenue jumped 186%, to €110 million ($124.3 million), well above the annual average of €46 million for the five years before Privinvest won the Mozambique contracts, according to data from S&P Global Market Intelligence.

“CMN represents only 10% of the Privinvest group, which counts many shipyards and facilities world-wide,” a Privinvest spokesman said.

Andrew Pearse, a former Credit Suisse banker who worked on some of the Mozambican loans, now runs an investment firm majority-owned by Mr. Safa’s Privinvest. Mr. Pearse managed Credit Suisse’s unit responsible for lending in Europe, the Middle East and Africa until June 2013, when he left to found the new firm, called Palomar Capital Advisors AG, with startup capital from Privinvest. Palomar later helped VTB arrange the shipyard loan.

In 2015, things began to fall apart for Mozambique and its lenders.

The three state-owned companies had planned to repay the debt by doing contract security work for international natural-gas companies and by catching tuna. But foreign energy companies have stopped most operations in Mozambique for now because of low gas prices, and the country’s tuna fishing fleet has been a bust.

The tuna enterprise, called Ematum, restructured its bonds this past April by converting them into sovereign bonds that Mozambique must eventually repay. Investors sold the new bonds for 70 cents on the dollar this week, reflecting fears of a default.

The shipyard company, called MAM, missed a $178 million payment on its loans in May and is negotiating a restructuring with VTB. “We are working on restructuring the operations, and we are optimistic of the future outcome,” Mr. Do Rosário said.

Meanwhile, conditions in Mozambique are worsening. Its foreign-currency reserves fell to $1.8 billion in May from $2 billion in January, and it is seeking $180 million in food aid. Intensified fighting has sent more than 10,000 refugees to neighboring Malawi, according to the U.N. High Commission for Refugees.

“We need to have clarity on how the loans were made, what the money was used for and if there’s a possibility to recuperate any of those funds,” said Mr. Pittman, the U.S. ambassador to Mozambique. “These were bad decisions, they were made in secret and they will have consequences.”