Nakheel has to tackle its debts

The outlandish schemes developed by Dubai’s Nakheel became synonymous with the city’s boom. But the state-backed firm now risks becoming a symbol of the emirate’s fall from grace.

One of the developer’s problems is its failure to recognise the new realities of the real estate market. Up until late 2008, the company was planning to build the world’s tallest tower in Dubai even though real estate prices on its other projects were falling and it was being forced to lay off staff.

By early 2009, it had asked contractors to stop work on the tower. Chris O’Donnell, the company’s chief executive officer, has admitted that its signature developments, including the Tall Tower and Palm Deira, are on hold. Now, though, the company must face up to the future, which hinges on a recovery in Dubai’s real estate market.

O’Donnell says he expects this to occur by early 2010, but he is being optimistic; 2011 is a more likely date for a recovery.

In delaying repayment of a $1.2bn loan - as it is now trying to do, in addition to extending a $3.5bn sukuk (Islamic bond) - Nakheel could face some problems.

In effect, it will be asking banks to take a view on when the property market in Dubai will recover.

Appetite for exposure to Dubai real estate has died, and although the $1.2bn loan will probably be extended because the lenders have security over specific cash flows, extending the life of the sukuk will be much harder.

But it will be essential if Nakheel is to avoid its repayment commitments piling up to nearly $5bn at the end of year.

That would be half of Dubai’s $10bn federal bailout gone before Nakheel has even looked at paying its contractors.

But with Nakheel so wrapped up in Dubai’s success story, if it were to disappoint its creditors too much, it would also damage the prospects for its recovery.