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The Logic and Practice of Financial Management
Ninth Edition
Foundations of Finance
The Pearson Series in Finance
Berk/DeMarzo
Corporate Finance*
Corporate Finance: The Core*
Berk/DeMarzo/Harford
Fundamentals of Corporate Finance*
Brooks
Financial Management: Core Concepts*
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Financial Theory and Corporate Policy

Dorfman/Cather
Introduction to Risk Management and
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Bond Markets: Analysis and Strategies
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Financial Management: Concepts and
Applications*
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Personal Finance
Gitman/Zutter
Principles of Managerial Finance*
Principles of Managerial Finance—Brief
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Haugen
The Inefficient Stock Market: What Pays Off
and Why
Modern Investment Theory
Holden
Excel Modeling in Corporate Finance
Excel Modeling in Investments
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International Banking: Text and Cases

Hull
Fundamentals of Futures and Options Markets
Options, Futures, and Other Derivatives
Keown
Personal Finance: Turning Money into
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Keown/Martin/Petty
Foundations of Finance: The Logic and
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Personal Finance*
Marthinsen
Risk Takers: Uses and Abuses of Financial
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McDonald
Derivatives Markets
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Financial Markets and Institutions
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Psychology of Investing
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Financial Management: Principles and
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The Logic and Practice of Financial Management
Ninth Edition
Boston Columbus Indianapolis New York San Francisco
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Arthur J. Keown
Virginia Polytechnic Institute and State University
R. B. Pamplin Professor of Finance
John D. Martin
Baylor University
Professor of Finance
Carr P. Collins Chair in Finance
J. William Petty
Baylor University
Professor of Finance
W. W. Caruth Chair in Entrepreneurship
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Library of Congress Cataloging-in-Publication Data

Names: Keown, Arthur J. | Martin, John D. | Petty, J. William
Title: Foundations of finance: the logic and practice of financial
management/Arthur J. Keown, John D. Martin, J. William Petty.
Description: Ninth Edition. | Boston : Pearson, 2016. | Series:
The pearson series in finance | Revised edition of Foundations
of finance, 2014.
| Includes bibliographical references and index.
Identifiers: LCCN 2015039822| ISBN 9780134083285 (alk.
paper) | ISBN 0134083288 (alk. paper)
Subjects: LCSH: Corporations–Finance.
Classification: LCC HG4026.F67 2016 | DDC 658.15–dc23
LC record available at http://lccn.loc.gov/2015039822
ISBN 10: 0-13-408328-8
ISBN 13: 978-0-13-408328-5
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To my parents, from whom I learned the most.
Arthur J. Keown
To the Martin women—wife Sally and daughter-in-law Mel, the
Martin men—sons Dave and Jess, and the Martin boys—
grandsons
Luke and Burke.
John D. Martin
To Jack Griggs, who has been a most loyal and dedicated friend
for
over 55 years, always placing my interests above his own, and

made
life’s journey a lot of fun along the way.
J. William Petty
vi
Arthur J. Keown is the Department Head and R. B. Pamplin
Professor of
Finance at Virginia Polytechnic Institute and State University.
He received his
bachelor’s degree from Ohio Wesleyan University, his M.B.A.
from the University of
Michigan, and his doctorate from Indiana University. An award-
winning teacher, he
is a member of the Academy of Teaching Excellence; has
received five Certificates of
Teaching Excellence at Virginia Tech, the W. E. Wine Award
for Teaching Excellence,
and the Alumni Teaching Excellence Award; and in 1999
received the Outstanding
Faculty Award from the State of Virginia. Professor Keown is
widely published
in academic journals. His work has appeared in the Journal of
Finance, Journal of
Financial Economics, Journal of Financial and Quantitative
Analysis, Journal of Financial
Research, Journal of Banking and Finance, Financial
Management, Journal of Portfolio
Management, and many others. In addition to Foundations of
Finance, two others of his
books are widely used in college finance classes all over the
country—Basic Financial
Management and Personal Finance: Turning Money into Wealth.

Professor Keown is a
Fellow of the Decision Sciences Institute, was a member of the
Board of Directors of
the Financial Management Association, and is the head of the
finance department
at Virginia Tech. In addition, he served as the co-editor of the
Journal of Financial
Research for 6½ years and as the co-editor of the Financial
Management Association’s
Survey and Synthesis series for 6 years. He lives with his wife
in Blacksburg, Virginia,
where he collects original art from Mad Magazine.
John D. Martin holds the Carr P. Collins Chair in Finance in the
Hankamer
School of Business at Baylor University, where he was selected
as the outstanding
professor in the EMBA program multiple times. Professor
Martin joined the Baylor
faculty in 1998 after spending 17 years on the faculty of the
University of Texas at
Austin. Over his career he has published over 50 articles in the
leading finance jour-
nals, including papers in the Journal of Finance, Journal of
Financial Economics, Journal
of Financial and Quantitative Analysis, Journal of Monetary
Economics, and Management
Science. His recent research has spanned issues related to the
economics of uncon-
ventional energy sources, the hidden cost of venture capital, and
the valuation of
firms filing Chapter 11. He is also co-author of several books,
including Financial
Management: Principles and Practice (13th ed., Prentice Hall),
(9th ed., Prentice Hall), Theory of Finance (Dryden Press),

Financial Analysis (3rd ed.,
McGraw-Hill), Valuation: The Art and Science of Corporate
Investment Decisions (3rd ed.,
Prentice Hall), and Value Based Management with Social
Responsibility (2nd ed., Oxford
University Press).
About the Authors
vii
J. William Petty, PhD, Baylor University, is Professor of
Finance and
W. W. Caruth Chair of Entrepreneurship. Dr. Petty teaches
entrepreneurial finance
at both the undergraduate and graduate levels. He is a
University Master Teacher.
In 2008, the Acton Foundation for Entrepreneurship Excellence
selected him as the
National Entrepreneurship Teacher of the Year. His research
interests include the
financing of entrepreneurial firms and shareholder value-based
management. He
has served as the co-editor for the Journal of Financial Research
and the editor of the
Journal of Entrepreneurial Finance. He has published articles in
various academic and
professional journals, including Journal of Financial and
Quantitative Analysis, Financial
Management, Journal of Portfolio Management, Journal of
Applied Corporate Finance, and
Accounting Review. Dr. Petty is co-author of a leading textbook
in small business and
entrepreneurship, Small Business Management: Launching and

Growing Entrepreneurial
Ventures. He also co-authored Value-Based Management:
Corporate America’s Response
to the Shareholder Revolution (2010). He serves on the Board of
Directors of a publicly
traded oil and gas firm. Finally, he serves on the Board of the
Baylor Angel Network,
a network of private investors who provide capital to start-ups
and early-stage
companies.
viii
Preface xvii
PART 1 The Scope and Environment
of Financial Management 2
1 An Introduction to the Foundations of Financial Management
2
2 The Financial Markets and Interest Rates 22
3 Understanding Financial Statements and Cash Flows 54
4 Evaluating a Firm’s Financial Performance 106
PART 2 The Valuation of Financial Assets 152
5 The Time Value of Money 152
6 The Meaning and Measurement of Risk and Return 196
7 The Valuation and Characteristics of Bonds 236
8 The Valuation and Characteristics of Stock 268
9 The Cost of Capital 294
PART 3 Investment in Long-Term Assets 326
10 Capital-Budgeting Techniques and Practice 326
11 Cash Flows and Other Topics in Capital Budgeting 368

PART 4 Capital Structure and Dividend Policy 406
12 Determining the Financing Mix 406
13 Dividend Policy and Internal Financing 444
PART 5 Working-Capital Management and International
Business Finance 466
14 Short-Term Financial Planning 466
15 Working-Capital Management 486
16 International Business Finance 514
Web 17 Cash, Receivables, and Inventory Management
Available online at www.myfinancelab.com
Web Appendix A Using a Calculator
Glossary 536
Indexes 545
Brief Contents
ix
Contents
Preface xvii
PART 1 The Scope and Environment
of Financial Management 2
1 An Introduction to the Foundations of Financial
Management 2

The Goal of the Firm 3
Five Principles That Form the Foundations of Finance 4
Principle 1: Cash Flow Is What Matters 4
Principle 2: Money Has a Time Value 5
Principle 3: Risk Requires a Reward 5
Principle 4: Market Prices Are Generally Right 6
Principle 5: Conflicts of Interest Cause Agency Problems 8
The Global Financial Crisis 9
Avoiding Financial Crisis—Back to the Principles 10
The Essential Elements of Ethics and Trust 11
The Role of Finance in Business 12
Why Study Finance? 12
The Role of the Financial Manager 13
The Legal Forms of Business Organization 14
Sole Proprietorships 14
Partnerships 14
Corporations 15
Organizational Form and Taxes: The Double Taxation on
Dividends 15
S-Corporations and Limited Liability Companies (LLCs) 16
Which Organizational Form Should Be Chosen? 16
Finance and the Multinational Firm: The New Role 17
Chapter Summaries 18 • Review Questions 20 • Mini Case 21
2 The Financial Markets and Interest Rates 22
Financing of Business: The Movement of Funds Through
the Economy 24
Public Offerings Versus Private Placements 25
Primary Markets Versus Secondary Markets 26
The Money Market Versus the Capital Market 27

Spot Markets Versus Futures Markets 27
Stock Exchanges: Organized Security Exchanges Versus Over-
the-Counter
Markets, a Blurring Difference 27
Selling Securities to the Public 29
Functions 29
Distribution Methods 30
Private Debt Placements 31
Flotation Costs 33
Regulation Aimed at Making the Goal of the Firm Work: The
Sarbanes-Oxley
Act 33
Rates of Return in the Financial Markets 34
Rates of Return over Long Periods 34
Interest Rate Levels in Recent Periods 35
Interest Rate Determinants in a Nutshell 38
Estimating Specific Interest Rates Using Risk Premiums 38
Real Risk-Free Interest Rate and the Risk-Free Interest Rate 39
Real and Nominal Rates of Interest 39
Inflation and Real Rates of Return: The Financial Analyst’s
Approach 41
The Term Structure of Interest Rates 43
Shifts in the Term Structures of Interest Rates 43
What Explains the Shape of the Term Structure? 45
Chapter Summaries 47 • Review Questions 50 • Study Problems
50 • Mini Case 53
3 Understanding Financial Statements and Cash

Flows 54
The Income Statement 56
Coca-Cola’s Income Statement 58
Restating Coca-Cola’s Income Statement 59
The Balance Sheet 61
Types of Assets 61
Types of Financing 63
Coca-Cola’s Balance Sheet 65
Working Capital 66
Measuring Cash Flows 69
Profits Versus Cash Flows 69
The Beginning Point: Knowing When a Change in the Balance
Sheet Is a Source
or Use of Cash 71
Statement of Cash Flows 71
Concluding Suggestions for Computing Cash Flows 78
What Have We Learned about Coca-Cola? 79
GAAP and IFRS 79
Income Taxes and Finance 80
Computing Taxable Income 80
Computing the Taxes Owed 81
The Limitations of Financial Statements and Accounting
Malpractice 83
Chapter Summaries 85 • Review Questions 88 • Study Problems
89 • Mini Case 97
Appendix 3A: Free Cash Flows 100
Computing Free Cash Flows 100

Computing Financing Cash Flows 105
Study Problems 104
4 Evaluating a Firm’s Financial Performance 106
The Purpose of Financial Analysis 106
Measuring Key Financial Relationships 110
Question 1: How Liquid Is the Firm—Can It Pay Its Bills? 111
Question 2: Are the Firm’s Managers Generating Adequate
Operating Profits
on the Company’s Assets? 116
Managing Operations 118
Managing Assets 119
Question 3: How Is the Firm Financing Its Assets? 123
Question 4: Are the Firm’s Managers Providing a Good Return
on the Capital
Provided by the Company’s Shareholders? 126
Question 5: Are the Firm’s Managers Creating Shareholder
Value? 131
x Contents
Contents xi
The Limitations of Financial Ratio Analysis 138
Chapter Summaries 139 • Review Questions 142 • Study
Problems 142
• Mini Case 150

PART 2 The Valuation of Financial Assets 152
5 The Time Value of Money 152
Compound Interest, Future Value, and Present Value 154
Using Timelines to Visualize Cash Flows 154
Techniques for Moving Money Through Time 157
Two Additional Types of Time Value of Money Problems 162
Applying Compounding to Things Other Than Money 163
Present Value 164
Annuities 168
Compound Annuities 168
The Present Value of an Annuity 170
Annuities Due 172
Amortized Loans 173
Making Interest Rates Comparable 175
Calculating the Interest Rate and Converting It to an EAR 177
Finding Present and Future Values With Nonannual Periods
178
Amortized Loans With Monthly Compounding 181
The Present Value of an Uneven Stream and Perpetuities 182
Perpetuities 183
Problems 187
• Mini Case 195
6 The Meaning and Measurement of Risk
and Return 196
Expected Return Defined and Measured 198
Risk Defined and Measured 201

Rates of Return: The Investor’s Experience 208
Risk and Diversification 209
Diversifying Away the Risk 210
Measuring Market Risk 211
Measuring a Portfolio’s Beta 218
Risk and Diversification Demonstrated 219
The Investor’s Required Rate of Return 222
The Required Rate of Return Concept 222
Measuring the Required Rate of Return 222
Problems 229
• Mini Case 234
7 The Valuation and Characteristics
of Bonds 236
Types of Bonds 237
Debentures 237
Subordinated Debentures 238
Mortgage Bonds 238
Eurobonds 238
Convertible Bonds 238
xii Contents
Terminology and Characteristics of Bonds 239
Claims on Assets and Income 239
Par Value 239
Coupon Interest Rate 240
Maturity 240
Call Provision 240

Indenture 240
Bond Ratings 241
Defining Value 242
What Determines Value? 244
Valuation: The Basic Process 245
Valuing Bonds 246
Bond Yields 252
Yield to Maturity 252
Current Yield 254
Bond Valuation: Three Important Relationships 255
Problems 264
• Mini Case 267
8 The Valuation and Characteristics
of Stock 268
Preferred Stock 269
The Characteristics of Preferred Stock 270
Valuing Preferred Stock 271
Common Stock 275
The Characteristics of Common Stock 275
Valuing Common Stock 277
The Expected Rate of Return of Stockholders 282
The Expected Rate of Return of Preferred Stockholders 283

The Expected Rate of Return of Common Stockholders 284
Problems 290
• Mini Case 293
9 The Cost of Capital 294
The Cost of Capital: Key Definitions and Concepts 295
Opportunity Costs, Required Rates of Return, and the Cost of
Capital 295
The Firm’s Financial Policy and the Cost of Capital 296
Determining the Costs of the Individual Sources
of Capital 297
The Cost of Debt 297
The Cost of Preferred Stock 299
The Cost of Common Equity 301
The Dividend Growth Model 302
Issues in Implementing the Dividend Growth Model 303
The Capital Asset Pricing Model 304
Issues in Implementing the CAPM 305
The Weighted Average Cost of Capital 307
Capital Structure Weights 308
Calculating the Weighted Average Cost of Capital 308
Contents xiii
Calculating Divisional Costs of Capital 311
Estimating Divisional Costs of Capital 311
Using Pure Play Firms to Estimate Divisional WACCs 311
Using a Firm’s Cost of Capital to Evaluate New Capital

Investments 313
Problems 320
• Mini Cases 324
PART 3 Investment in Long-Term Assets 326
10 Capital-Budgeting Techniques and Practice 326
Finding Profitable Projects 327
Capital-Budgeting Decision Criteria 328
The Payback Period 328
The Net Present Value 332
Using Spreadsheets to Calculate the Net Present Value 335
The Profitability Index (Benefit–Cost Ratio) 335
The Internal Rate of Return 338
Computing the IRR for Uneven Cash Flows with a Financial
Calculator 340
Viewing the NPV–IRR Relationship: The Net Present Value
Profile 341
Complications with the IRR: Multiple Rates of Return 343
The Modified Internal Rate of Return (MIRR) 344
Using Spreadsheets to Calculate the MIRR 347
A Last Word on the MIRR 347
Capital Rationing 348
The Rationale for Capital Rationing 349
Capital Rationing and Project Selection 349
Ranking Mutually Exclusive Projects 350
The Size-Disparity Problem 350
The Time-Disparity Problem 351
The Unequal-Lives Problem 352

Problems 359
• Mini Case 366
11 Cash Flows and Other Topics in Capital
Budgeting 368
Guidelines for Capital Budgeting 369
Use Free Cash Flows Rather Than Accounting Profits 369
Think Incrementally 369
Beware of Cash Flows Diverted from Existing Products 370
Look for Incidental or Synergistic Effects 370
Work in Working-Capital Requirements 370
Consider Incremental Expenses 371
Remember That Sunk Costs Are Not Incremental Cash Flows
371
Account for Opportunity Costs 371
Decide If Overhead Costs Are Truly Incremental Cash Flows
371
Ignore Interest Payments and Financing Flows 372
Calculating a Project’s Free Cash Flows 372
What Goes into the Initial Outlay 372
What Goes into the Annual Free Cash Flows over the Project’s
Life 373
What Goes into the Terminal Cash Flow 375
Calculating the Free Cash Flows 375
A Comprehensive Example: Calculating Free Cash Flows 379
Options in Capital Budgeting 382
The Option to Delay a Project 383
The Option to Expand a Project 383
The Option to Abandon a Project 384
Options in Capital Budgeting: The Bottom Line 384

xiv Contents
Risk and the Investment Decision 385
What Measure of Risk Is Relevant in Capital Budgeting? 386
Measuring Risk for Capital-Budgeting Purposes with a Dose of
Reality—Is
Systematic Risk All There Is? 387
Incorporating Risk into Capital Budgeting 387
Risk-Adjusted Discount Rates 387
Measuring a Project’s Systematic Risk 390
Using Accounting Data to Estimate a Project’s Beta 391
The Pure Play Method for Estimating Beta 391
Examining a Project’s Risk Through Simulation 391
Conducting a Sensitivity Analysis Through Simulation 393
Problems 396
• Mini Case 402
Appendix 11A: The Modified Accelerated Cost
Recovery System 404
What Does All This Mean? 405
Study Problems 405
PART 4 Capital Structure and Dividend Policy 406
12 Determining the Financing Mix 406
Understanding the Difference Between Business and Financial
Risk 408
Business Risk 409
Operating Risk 409
Break-Even Analysis 409

Essential Elements of the Break-Even Model 410
Finding the Break-Even Point 412
The Break-Even Point in Sales Dollars 413
Sources of Operating Leverage 414
Financial Leverage 416
Combining Operating and Financial Leverage 418
Capital Structure Theory 420
A Quick Look at Capital Structure Theory 422
The Importance of Capital Structure 422
Independence Position 422
The Moderate Position 424
Firm Value and Agency Costs 426
Agency Costs, Free Cash Flow, and Capital Structure 428
Managerial Implications 428
The Basic Tools of Capital Structure Management 429
EBIT-EPS Analysis 429
Comparative Leverage Ratios 432
Industry Norms 433
Net Debt and Balance-Sheet Leverage Ratios 433
A Glance at Actual Capital Structure Management 433
Problems 439
• Mini Cases 442
13 Dividend Policy and Internal Financing 444
Key Terms 445
Does Dividend Policy Matter to Stockholders? 446
Three Basic Views 446
Making Sense of Dividend Policy Theory 449
What Are We to Conclude? 451

Contents xv
The Dividend Decision in Practice 452
Legal Restrictions 452
Liquidity Constraints 452
Earnings Predictability 453
Maintaining Ownership Control 453
Alternative Dividend Policies 453
Dividend Payment Procedures 453
Stock Dividends and Stock Splits 454
Stock Repurchases 455
A Share Repurchase as a Dividend Decision 456
The Investor’s Choice 457
A Financing or an Investment Decision? 458
Practical Considerations—The Stock Repurchase Procedure 458
Problems 462
• Mini Case 465
PART 5 Working-Capital Management and International
Business Finance 466
14 Short-Term Financial Planning 466
Financial Forecasting 467
The Sales Forecast 467
Forecasting Financial Variables 467
The Percent of Sales Method of Financial Forecasting 468
Analyzing the Effects of Profitability and Dividend Policy
on DFN 469

Analyzing the Effects of Sales Growth on a Firm’s DFN 470
Limitations of the Percent of Sales Forecasting Method 473
Constructing and Using a Cash Budget 474
Budget Functions 474
The Cash Budget 475
Problems 479
• Mini Case 484
15 Working-Capital Management 486
Managing Current Assets and Liabilities 487
The Risk–Return Trade-Off 488
The Advantages of Current versus Long-term Liabilities: Return
488
The Disadvantages of Current versus Long-term Liabilities:
Risk 488
Determining the Appropriate Level of Working
Capital 489
The Hedging Principle 489
Permanent and Temporary Assets 490
Temporary, Permanent, and Spontaneous Sources of Financing
490
The Hedging Principle: A Graphic Illustration 491
The Cash Conversion Cycle 492
Estimating the Cost of Short-Term Credit Using the
Approximate
Cost-of-Credit Formula 494
Sources of Short-Term Credit 496

Unsecured Sources: Accrued Wages and Taxes 497
Unsecured Sources: Trade Credit 498
Unsecured Sources: Bank Credit 499
Unsecured Sources: Commercial Paper 501
xvi Contents
Secured Sources: Accounts-Receivable Loans 503
Secured Sources: Inventory Loans 505
Problems 510
16 International Business Finance 514
The Globalization of Product and Financial Markets 515
Foreign Exchange Markets and Currency Exchange Rates 516
Foreign Exchange Rates 517
What a Change in the Exchange Rate Means for Business 517
Exchange Rates and Arbitrage 520
Asked and Bid Rates 520
Cross Rates 520
Types of Foreign Exchange Transactions 522
Exchange Rate Risk 524
Interest Rate Parity 526
Purchasing-Power Parity and the Law of One Price 527
The International Fisher Effect 528
Capital Budgeting for Direct Foreign Investment 528
Foreign Investment Risks 529

Problems 533
• Mini Case 534
Web 17 Cash, Receivables, and Inventory Management
Web Appendix A Using a Calculator
Glossary 536
Indexes 545
xvii
The study of finance focuses on making decisions that enhance
the value of the firm.
This is done by providing customers with the best products and
services in a cost-
effective way. In a sense we, the authors of Foundations of
Finance, share the same
purpose. We have tried to create a product that provides value
to our customers—
both students and instructors who use the text. It was this …
Chapter 5
The Time Value
of Money

© 2017 Pearson Education, Inc. All rights reserved.
5-‹#›
Learning Objectives
Explain the mechanics of compounding, and bringing the value
of money back to the present.
Understand annuities.
Determine the future or present value of a sum when there are
nonannual compounding periods.
Determine the present value of an uneven stream of payments
and understand perpetuities.
5-‹#›
COMPOUND INTEREST, FUTURE, AND PRESENT VALUE
5-‹#›
Using Timelines to
Visualize Cash Flows
Timeline of cash flows
5-‹#›
Simple Interest
Interest is earned only on principal.
Example: Compute simple interest on $100 invested at 6% per
year for three years.

1st year interest is $6.00
2nd year interest is $6.00
3rd year interest is $6.00
Total interest earned: $18.00
5-‹#›
Compound Interest
Compounding is when interest paid on an investment during the
first period is added to the principal; then, during the second
period, interest is earned on the new sum (that includes the
principal and interest earned so far).
5-‹#›
Compound Interest
Example: Compute compound interest on $100 invested at 6%
for three years with annual compounding.
1st year interest is $6.00 Principal now is $106.00
2nd year interest is $6.36 Principal now is $112.36
3rd year interest is $6.74 Principal now is $119.10
Total interest earned: $19.10
5-‹#›
Future Value
Future Value is the amount a sum will grow to in a certain
number of years when compounded at a specific rate.
FVN = PV (1 + r)n

FVN = the future of the investment at the end of “n” years
r = the annual interest (or discount) rate
n = number of years
PV = the present value, or original amount invested at the
beginning of the first year
5-‹#›
Future Value Example
Example: What will be the FV of $100 in 2 years at interest rate
of 6%?
FV2 = PV(1 + r)2 = $100 (1 + 0.06)2
= $100 (1.06)2
= $112.36
5-‹#›
How to Increase the
Future Value?
Future Value can be increased by:
Increasing number of years of compounding (N)
Increasing the interest or discount rate (r)
Increasing the original investment (PV)
See example on next slide
5-‹#›
Changing R, N, and PV
a. You deposit $500 in bank for 2 years. What is the FV at

2%? What is the FV if you change interest rate to 6%?
FV at 2% = 500*(1.02)2 = $520.20
FV at 6% = 500*(1.06)2 = $561.80
b. Continue the same example but change time to 10 years.
What is the FV now?
FV = 500*(1.06)10= $895.42
c. Continue the same example but change contribution to
$1,500. What is the FV now?
FV = 1,500*(1.06)10 = $2,686.27
5-‹#›
5-‹#›
5-‹#›
Figure 5-2
Figure 5-2 illustrates that we can increase the FV by:
Increasing the number of years for which money is invested;
and/or
Investing at a higher interest rate.
5-‹#›

Computing Future Values using Calculator or Excel
Review discussion in the text book
Excel Function for FV:
= FV(rate,nper,pmt,pv)
5-‹#›
Present Value
Present value reflects the current value of a future payment or
receipt.
5-‹#›
Present Value
PV = FVn {1/(1 + r)n}
FVn = the future value of the investment at the end of n years
n = number of years until payment is received
r = the interest rate
PV = the present value of the future sum of money
5-‹#›
PV example
What will be the present value of $500 to be received 10 years
from today if the discount rate is 6%?

PV = $500 {1/(1+0.06)10}
= $500 (1/1.791)
= $500 (0.558)
= $279.00
5-‹#›
5-‹#›
Figure 5-3
Figure 5-3 illustrates that PV is lower if:
Time period is longer; and/or
Interest rate is higher.
5-‹#›
Using Excel
Excel Function for PV:
= PV(rate,nper,pmt,fv)
5-‹#›
ANNUITIES

5-‹#›
Annuity
An annuity is a series of equal dollar payments for a specified
number of years.
Ordinary annuity payments occur at the end of each period.
5-‹#›
FV of Annuity
Compound Annuity
Depositing or investing an equal sum of money at the end of
each year for a certain number of years and allowing it to grow.
5-‹#›
FV Annuity - Example
What will be the FV of a 5-year, $500 annuity compounded at
6%?
FV5 = $500 (1 + 0.06)4 + $500 (1 + 0.06)3
+ $500(1 + 0.06)2 + $500 (1 + 0.06) + $500
= $500 (1.262) + $500 (1.191) + $500 (1.124)
+ $500 (1.090) + $500
= $631.00 + $595.50 + $562.00 + $530.00 + $500
= $2,818.50
5-‹#›

5-‹#›
FV of an Annuity –
Using the Mathematical Formulas
FVn = PMT {(1 + r)n – 1/r}
FV n = the future of an annuity at the end of the nth year
PMT = the annuity payment deposited or received at
the end of each year
r = the annual interest (or discount) rate
n = the number of years
5-‹#›
FV of an Annuity –
What will $500 deposited in the bank every year for 5 years at
6% be worth?
FV = PMT ([(1 + r)n – 1]/r)
= $500 (5.637)
= $2,818.50
5-‹#›
FV of Annuity:
Changing PMT, N, and r

What will $5,000 deposited annually for 50 years be worth at
7%?
FV = $2,032,644
Contribution = $250,000 (= 5000*50)
Change PMT = $6,000 for 50 years at 7%
FV = $2,439,173
Contribution= $300,000 (= 6000*50)
5-‹#›
FV of Annuity:
Changing PMT, N, and r
3. Change time = 60 years, $6,000 at 7%
FV = $4,881,122
Contribution = $360,000 (= 6000*60)
4. Change r = 9%, 60 years, $6,000
FV = $11,668,753
Contribution = $360,000 (= 6000*60)
5-‹#›
Present Value of an Annuity
Pensions, insurance obligations, and interest owed on bonds are
all annuities. To compare these three types of investments we
need to know the present value (PV) of each.
5-‹#›

5-‹#›
PV of Annuity –
PV of Annuity = PMT {[1 – (1 + r)–1]}/r
= 500 (4.212)
= $2,106
5-‹#›
Annuities Due
Annuities due are ordinary annuities in which all payments have
been shifted forward by one time period. Thus, with annuity
due, each annuity payment occurs at the beginning of the period
rather than at the end of the period.
5-‹#›
Annuities Due
Continuing the same example: If we assume that $500 invested
every year for 5 years at 6% to be annuity due, the future value
will increase due to compounding for one additional year.
FV5 (annuity due) = PMT {[(1 + r)n – 1]/r} (1 + r)
= 500(5.637)(1.06)
= $2,987.61
(versus $2,818.80 for ordinary annuity)

5-‹#›
Amortized Loans
Loans paid off in equal installments over time are called
amortized loans.
Example: Home mortgages, auto loans.
Reducing the balance of a loan via annuity payments is called
amortizing.
5-‹#›
Amortized Loans
The periodic payment is fixed. However, different amounts of
each payment are applied toward the principal and interest.
With each payment, you owe less toward principal. As a result,
the amount that goes toward interest declines with every
payment (as seen in Figure 5-4).
5-‹#›
5-‹#›

Amortization Example
Example: If you want to finance a new machinery with a
purchase price of $6,000 at an interest rate of 15% over 4 years,
what will your annual payments be?
5-‹#›
Finding PMT –
Finding Payment: Payment amount can be found by solving for
PMT using PV of annuity formula.
PV of Annuity = PMT {1 – (1 + r)–4}/r
6,000 = PMT {1 – (1 + 0.15)–4}/0.15
6,000 = PMT (2.855)
PMT = 6,000/2.855
= $2,101.59
5-‹#›
5-‹#›
MAKING INTEREST
RATES COMPARABLE

5-‹#›
Making Interest Rates Comparable
We cannot compare rates with different compounding periods.
For example, 5% compounded annually is not the same as 5%
percent compounded quarterly.
To make the rates comparable, we compute the annual
percentage yield (APY) or effective annual rate (EAR).
5-‹#›
Quoted Rate versus
Effective Rate
Quoted rate could be very different from the effective rate if
compounding is not done annually.
Example: $1 invested at 1% per month will grow to $1.126825
(= $1.00(1.01)12) in one year. Thus even though the interest
rate may be quoted as 12% compounded monthly, the effective
annual rate or APY is 12.68%.
5-‹#›
Quoted Rate versus
Effective Rate
APY = (1 + quoted rate/m)m – 1
Where m = number of compounding periods
= (1 + 0.12/12)12 – 1
= (1.01)12 – 1
= .126825 or 12.6825%

5-‹#›
5-‹#›
Finding PV and FV with
Nonannual Periods
If interest is not paid annually, we need to change the interest
rate and time period to reflect the nonannual periods while
computing PV and FV.
r = stated rate/# of compounding periods
N = # of years * # of compounding periods in a year
Example: If your investment earns 10% a year, with quarterly
compounding for 10 years, what should we use for “r” and “N”?
r = 0.10/4 = 0.025 or 2.5%
N = 10*4 = 40 periods
5-‹#›
THE PRESENT VALUE
OF AN UNEVEN STREAM AND PERPETUITIES
5-‹#›
The Present Value of an Uneven Stream
Some cash flow stream may not follow a conventional pattern.
For example, the cash flows may be erratic (with some positive
cash flows and some negative cash flows) or cash flows may be
a combination of single cash flows and annuity (as illustrated in

Table 5-5).
5-‹#›
5-‹#›
5-‹#›
Perpetuity
A perpetuity is an annuity that continues forever.
The present value of a perpetuity is given by
PV = PP/r
PV = present value of the perpetuity
PP = constant dollar amount provided by the perpetuity
r = annual interest (or discount) rate
5-‹#›
Perpetuity
Example: What is the present value of $2,000 perpetuity
discounted back to the present at 10% interest rate?
= 2000/0.10
= $20,000

5-‹#›
5-‹#›
Key Terms
Amortized loan
Annuity
Annuity due
Annuity future value factor
Annuity present value factor
Compound annuity
Compound interest
Effective annual rate (EAR)
Future value
Future value factor
Ordinary annuity
Present value
Present value factor
Perpetuity
Simple interest
5-‹#›

measure
Winter 2013The Middle East Quarterly Bulletin
Kingdom of Saudi
Arabia – New
Mortgage, Real Estate
and Financing Laws
Locally Domiciled
Funds in the GCC
Case Study: Jabal
Omar, Makkah Al-
Mukarramah, the
Kingdom of Saudi
Arabia
New Rules to
Impact Banking and
Investment Funds
www.kslaw.com/measure
01 | measure
Foreword
This issue of measure focuses on new legal developments within
the
GCC region.
We have dedicated a significant portion of this issue to a special

article on the new mortgage, real estate and financing laws of
the
Kingdom of Saudi Arabia. These new laws are highly welcomed
pieces of legislation that have been anticipated for more than a
decade. I personally am looking forward to seeing the practical
effect
of these laws. As a firm, we anticipate a significant impact on
the
operations of both financiers and borrowers. These new
financing
laws will hopefully lay the groundwork for the further
development
of secured and structured financing deals within the Kingdom of
Saudi Arabia.
I am pleased to note the growth of the GCC domestic funds
industry, and one of our articles affords a snapshot of various
local
structures. We are particularly focused on this as we have one
of
the pre-eminent funds practices in the region and we are
assisting
our clients to develop new and innovative structures on an
almost
daily basis.
We have developed specialist knowledge of district cooling over
the past few years, and we have included a case study on one of
our
most recent and interesting projects in the region.
We also go back to our US roots by including a brief article on
FATCA, the new US certification, diligence and reporting rules
that
will affect virtually all non-US banks, investment funds,
investment

managers and insurers. This is recommended reading for anyone
operating within the financial services industry.
Jawad I. Ali
Managing Partner – Middle East Offices and
Deputy Practice Group Leader – Middle East &
Islamic Finance Practice Group
Volume 3: Issue 5
Copyright 2013, King & Spalding LLP. All rights reserved.
The information provided in this bulletin is intended to inform
but is not a
substitute for specific legal or other professional advice where
warranted by each
situation’s facts and circumstances. Under some Rules of
Professional Conduct, this
communication may constitute attorney advertising.
measure
CO-EDITOR
Phillip Sacks
[email protected]
CO-EDITOR
Sara Carmody
[email protected]
SUBSCRIPTIONS
Rachel Twomey
[email protected]
DESIGN
Laura Owens
[email protected]
Tashi English
[email protected]
James Hicks

[email protected]
COVER PHOTOGRAPHY
Courtesy of Thinkstock Photos;
Riyadh, the newly renovated
Qasr Al-Hokm
measure | 02
This Issue
03 Saudi Arabia
Kingdom of Saudi Arabia - New Mortgage,
Real Estate and Financing Laws
Mohammad Al-Ammar, Lidia Kamleh and Nabil Issa
summarize the new mortgage legislation in Saudi
Arabia.
12 Investment Funds
Locally Domiciled Funds in the GCC
James Stull and Phillip Sacks discuss various options
for domiciling investment funds within the GCC.
16 Energy
Case Study: Jabal Omar, Makkah Al-
Mukarramah, the Kingdom of Saudi Arabia
Tim Burbury and Khaled Dahlawi provide a
case study on a new district cooling project in
Saudi Arabia.
19 Banking and Finance
New Rules to Impact Banking and
Investment Funds
John Taylor discusses the new FATCA rules and
how they will impact non-US institutions.

21 endnotes
Upcoming Events and Our Practice
In the Chambers Global 2012
guide, King & Spalding lawyers
received 68 listings, including
eight of the firm’s lawyers
located in the Middle East.
Twenty-eight of the firm’s
practices were recognized as
leading practices globally.
On 13/08/1433H (corresponding
to 2 July 2012), the Kingdom
of Saudi Arabia (the Kingdom)
enacted the ‘real estate mortgage
law’. This law, which has been
debated for over a decade, was
held up due to the global real
estate market crises, the concerns
about providing mortgages within
the Kingdom in a Shari’ah-
compliant manner and balancing
the rights of both the borrower
and the financier.
According to Bloomberg,
less than 4 per cent of all home
purchases in the Kingdom are
financed through mortgages
(compared with 17 per cent
in the United Arab Emirates
and 70 per cent in the United

Kingdom). Currently the majority
of mortgages are provided by
the Kingdom’s Real Estate
Development Fund (the RED
Fund), which provides interest-
free loans to low-income owners.
The new laws are set to
improve the Kingdom’s overall
real estate and financing market
by introducing a system for
the provision of mortgages and
other financing arrangements by
financial companies. We envisage
that these laws will in particular
have a significant impact on
ensuring that the interests of
both financiers and borrowers
are protected and/or the further
development of secured and/
or structured financings in the
secondary market.
What is the real estate
mortgage law?
The real estate mortgage law is
actually a package of five separate
laws, collectively referred to as the
Real Estate and Financing Laws:
1. The Real Estate Registered
Mortgage Regulations No.
49, dated 13/08/1433H (the
Mortgage Law).

2. The Financing Lease
Regulations No. 48, dated
13/08/1433H (the Finance Lease
Law).
3. The Law on Supervision
of Finance Companies No. 51,
dated 13/08/1433H (the Finance
Companies Law).
4. The Real Estate Finance
Regulations No. 50, dated
13/08/1433H (the Real Estate
Finance Law).
5. The Execution Regulations
No. 53, dated 13/08/1433H (the
Execution Law).1
See Table 1: Summary (on page
06)of the Kingdom’s new package
of real estate and financing laws.
Why are the introductions of
these laws significant?
The Real Estate and Financing
Laws will overhaul the real
estate and financing market and,
although this may take some time,
provide clarity on the process to
be followed in order for financiers
to obtain recourse to the assets.
Specifically, the laws are trying
to ensure that both parties to
a financing transaction are of
‘clean hands’. Financiers need to

be qualified, honest and operate
in an equitable manner, and
borrowers need to have a credit
rating and adhere to the agreed
commercial terms.
Kingdom of Saudi
Arabia – New Mortgage,
Real Estate and
Financing Laws
New legislative reforms for mortgages, the real estate finance
industry in general
and a new future for financing
Saudi Arabia
03 | measure
1 Fattah Z. “Saudi Mortgage Law Opens Kingdom to Home
Lending Surge”, Businessweek, 4 July 2012.
One key provision of the Real
Estate and Financing Laws states
that financing arrangements (be
it real estate related or otherwise)
need to be undertaken in a
Shari’ah-compliant manner. Since
all laws in Saudi Arabia must
comply with the Shari’ah, this
requirement is not unusual in the
context of Saudi Arabia. While
there is much dicta on what this
could mean for the industry and
what the implications in practice

would be, the requirement of
Shari’ah compliance should
not be a deterrent for industry
participants. In fact, the inclusion
of such a requirement solidifies
equitable transactions, requires
upfront disclosure by parties and
protects both parties’ interests –
building upon the very premise
of Shari’ah principles. All five
laws take into consideration the
fairness of transactions.
The laws appear to deal
with the concerns that have
plagued the introduction of
the Real Estate and Financing
Laws for over a decade – that
the mistakes that occurred in
other jurisdictions that resulted
in the global financial crisis
do not occur in the Kingdom
(noting that the Kingdom was
fairly sheltered from the effects
of the global financial crisis).
Specifically, finance activities must
not prejudice the safety of the
financial system and fairness of
transactions. To address this, the
Finance Companies Law requires
Finance Companies (defined
herein) to diversify their risk,
with limitations being imposed
on the amounts a financier can
lend to a borrower or its related
entities. Details are expected to be

forthcoming in the Implementing
Regulations (defined herein).
The Saudi Arabian Monetary
Agency (SAMA) and other Saudi
Arabian authorities (including
the Ministry of Finance and the
Ministry of Justice) are entrusted
with implementing, supervising
and monitoring the Real Estate
and Financing Laws.
Real estate financing is
already available in the Kingdom;
however, the Real Estate and
Financing Laws are noteworthy
because they will regulate and
facilitate the creation of financial
products secured against property
and perfection of mortgages over
assets (including real property).
Further, the Real Estate and
Financing Laws open the market
for investors who wish to establish
finance companies.
When do they come into force?
With the exception of the
Execution Law, each of the
laws became effective 90 days
after publication in the Official
Gazette. The Execution Law
became effective 180 days after
publication in the Official Gazette.

Except for the Mortgage
Law, the laws provide that
implementing regulations
(in respect of the laws: the
Implementing Regulations)
should be issued within 90 days
of the laws becoming effective,
and in the case of the Execution
Law, within 180 days. On 19
November 2012, SAMA released
draft Implementing Regulations
for review and comment.
Points for consideration
1. The laws do not deal only
with real estate mortgages, they
will also cover other types of
financing arrangements and
assets (including movable assets
and intellectual property: see
sections titled “Finance Lease
Law” and “Finance Companies
Law” for further discussion).
2. While the Real Estate
and Financing Laws appear
to be opening the door to the
possibility of a secured and/or
structured financing industry,
the laws specifically mention that
foreign ownership restrictions
apply and that securitization will
be undertaken in accordance
with the Capital Market
Authority regulations.

3. While exemptions
will apply for registration
of mortgages in the context
of a secured and/or
structured financing (as
detailed below), zakat (a
form of Kingdom corporation
tax) will still be payable.
4. It is unclear to what extent
the rules and restrictions of the
Finance Companies Law will
apply to existing commercial
banks in the Kingdom.
5. We understand that some
banks would rather retain title
to the real estate asset (which is
currently common practice in
the Kingdom) rather than take
a mortgage over such property
or asset. However, it is not clear
if banks will be able to continue
with their current practices, as
there is a risk that a borrower
may have the right to invalidate
the bank’s ownership of the asset,
based on the Mortgage Law.
measure | 04
Specifically, Article 19 of the
Mortgage Law provides that the

agreement to own any mortgaged
property by the mortgagor shall
not be valid, and in that event
the mortgage will be valid but
the ownership right will be void.
Mortgage Law
What is this law about?
The Mortgage Law generally
regulates the creation and
recording of mortgages; the
rights and obligations of the
mortgagor, mortgagee and other
related third parties; and the
termination of mortgages.
Previous practice
Since the early 1980s, the public
notaries, who are responsible for
registering rights over properties
in the Kingdom, have generally
refused to record mortgages
on real property in the name
or on behalf of banks or other
commercial lenders on the
grounds that such banks and
lenders charge interest in violation
of Shari’ah principles and that
notaries should not be involved at
any level with such a violation.
Commercial lenders
(including banks) therefore have
typically either (i) recorded
the mortgage in the name of

a trusted lender employee or
director; or (ii) more commonly,
requested transfer of the title
of the real estate in favor of the
lender, with the agreement that
the title would be reconveyed
to the borrower upon payment
of all amounts outstanding with
respect to the related debt.
Due to developments in
the real estate market in the
Kingdom in the past ten years, it
became necessary to regulate the
mortgage of properties in a proper
manner. It is therefore anticipated
that the Mortgage Law will
regulate mortgages and increase
the comfort level for investors who
wish to invest in this vital sector.
New procedures under the
Mortgage Law
Essentially, the Mortgage Law
requires that in order for a
mortgage to be enforceable
against third parties, the
mortgage will need to be either
registered in the Real Estate
Register, which has not been fully
implemented yet, or recorded
in the records of a competent
notary public. Such registration
will give the mortgagee priority
over all other creditors with
respect to the mortgaged

property and will be limited
to the loan amount agreed in
the mortgage agreement. If a
registered property is mortgaged
in favor of several mortgagees,
the mortgagees will be ranked
according to the registration
number and date of the
respective mortgage agreements.
The Mortgage Law invalidates
any provision that allows the
mortgagee to acquire the
mortgaged property in the
event of default. Mortgagees
are therefore required to follow
the execution procedures under
the Execution Law to enforce
mortgages against properties. It is
not clear if financiers will be able
to continue securing their rights
by transferring ownership title
to a property in the name of a
trusted person (or a subsidiary).
However, such practice may be
considered a circumvention of
the Mortgage Law.
A mortgagor may be
the debtor himself or a real
guarantor, whereby the latter
may provide the property to
be mortgaged even without
the debtor’s permission.
Interestingly, the Mortgage

Law provides that a mortgage
can be taken over real property
that exists or that will possibly
exist. This may make it possible
to record mortgages over off-
plan properties. In the case of a
property that does not exist, the
Mortgage Law requires that the
property be properly described
in the mortgage agreement
and that it can independently
be subject to auction sale. The
Mortgage Law further provides
that utilization (i.e. usufruct)
rights may also be mortgaged
(such as the musataha).
Unless agreed otherwise, the
mortgage of a real property
will include attachments to the
property, including utilities and
improvements, subject to the
rights of third parties.
Debt, either payable
or promised, serves as
consideration of the mortgage,
and the amount should be
specified in the mortgage
agreement. Unless otherwise
agreed, every part of the
mortgaged property shall be
security for the whole debt, and
every part of the debt shall be
secured by the property.
05 | measure

“If a registered
property is
mortgaged in
favor of several
mortgagees,
the mortgagees
will be ranked
according to
the registration
number...”
Table 1: Summary of the Kingdom’s new package of real estate
and financing laws
What are the new laws? The Mortgage Law is actually a
package of five separate laws. The
package comprises the following:
The Mortgage
Law
This law introduces a new framework for financiers to mortgage
real estate (without taking
title), including the ability to take second-ranking mortgages.
This law is divided into four main
sections dealing with various items, including:
1. the creation and registration of a mortgage;
2. the rights and obligations of a mortgagor and mortgagee;
3. the effect of registration of a mortgage; and
4. the circumstances in which a mortgage is terminated.
The Real Estate
Finance Law

This law generally addresses:
1. the authority of SAMA in regulating the real estate mortgage
market (including banks,
finance companies, real estate refinancing companies and
cooperative insurance companies);
2. additional liquidity support to be provided by the
government through the RED Fund; and
3. the refinancing of transactions and the facilitation of
structured financing and securitizations.
The Finance
Lease Law
This law deals with Finance Lease Contracts in general and
extends beyond leases provided
regarding real estate to leases of immovable or movable assets,
utilities, services, or other rights
such as intellectual property. The law is divided into four main
sections dealing with:
1. what constitutes a finance lease contract and the
requirements for a valid finance lease
contract;
2. the responsibility of parties to a finance lease contract;
3. the establishment of a registry that will create a platform for
information relating to finance
lease contracts; and
4. violations of the laws and disputes arising with respect to a
finance lease contract.
The key provisions of this law include the rules and processes
regarding recovering an asset when
a borrower defaults.
The Finance
Companies Law

This law provides a framework for companies to provide
financing including, but not limited
to, real estate finance, general leasing finance, finance of credit
cards and consumer finance in a
Shari’ah-compliant manner. The law is divided into eight main
sections dealing with:
1. the application of the law (i.e. that the law applies to
licensed companies under this law);
2. the licensing of finance companies and the various
requirements of such finance companies;
3. the activities of finance companies and restrictions imposed
on the activities of finance
companies;
4. the management of finance companies, specifically how a
finance company’s board will
operate;
5. the supervision of finance companies by SAMA;
6. penalties for breach of the law and how disputes are to be
resolved;
7. provisions relating to financing provided by finance
companies in general; and
8. a grace period for companies established prior to the
enactment of the laws to comply with the
relevant provisions.
The law provides for the establishment of a new committee
formed specifically to hear disputes
(excluding real estate ownership and securities disputes) arising
under this law and the Finance
Lease Law.
The Execution
Law
This law complements the above four laws and, with the

exception of judgments and decisions
issued with respect to administrative and criminal claims,
permits an enforcement judge to carry
out and administer compulsory enforcement. This law will assist
in the recovery of an asset for
and on behalf of the financier upon a borrower’s default. The
law sets out, among other things,
the procedures, rules and regulations under which an
enforcement judge can operate and the
ambit of the judge’s powers.
measure | 06
The Mortgage Law allows for
the disposal of the mortgaged
real property subject to the
agreement of the parties.
The right of the mortgagee
in the proceeds of the
mortgaged property is not very
clear under the Mortgage Law.
The mortgagor of the
property is entitled to the
proceeds of the real property,
unless agreed otherwise,
including the proceeds derived
from the mortgage. The
Mortgage Law, however,
allows the mortgagee to collect
the proceeds but invalidates
a provision that allows the
mortgagee to use the proceeds.

The mortgagor is under
obligation to maintain the
mortgaged property, and the
mortgagee will have the right
to object to any action that may
negatively affect the value of
the property. If the value of the
property is diminished, or any
event occurs that may restrict
the mortgagee from foreclosure
of the property due to default
or deceit of the possessor of
the mortgaged property, the
mortgagee may request the
possessor of the property to
provide additional securities or
be subject to default under the
Finance Companies Law.
If a debtor fails to make
repayments, the mortgagee may,
pursuant to the Execution Law,
proceed toward compulsory
expropriation of the property
upon notice to the debtor and
any possessor.
II. Real Estate Finance Law
The Real Estate Finance Law
sets out SAMA’s responsibilities
in regulating and supervising real
estate finance companies seeking
to provide mortgages to customers

and, in doing so, expands upon
the current real estate financing
laws in the Kingdom.
SAMA’s role
The Real Estate Finance Law
sets out that SAMA will be
responsible for, among other
things:
1. allowing banks to own
real estate for the purposes of
undertaking real estate finance.
Specifically, the law states that
SAMA can exempt a company
from Article 10(5) of the
Banking Control Law, which
currently restricts banks from
owning real estate other than
their business premises;
2. licensing of companies
to undertake real estate finance
activities;
3. licensing of “one (or
more) joint stock company (or
companies) [dealing specifically
with refinancing] to undertake real
estate finance pursuant to the needs
of the market in whose ownership
the Public Investments Fund may
contribute.” We understand that
a state-run refinancing company
(referred to as the “Real Estate
Refinancing Corporation”) will

be established as part of this
provision. Part of the shares of
this company will be offered
for public subscription in
accordance with the provisions of
the Capital Market Law;
4. licensing of cooperative
insurance companies responsible
for insuring real estate finance
risk in accordance with
the Cooperative Insurance
Companies Control Law; and
5. issuing standards, rules,
instructions and procedures
relating to the real estate finance
sector and the review of real
estate finance forms issued by
real estate financiers to ensure
their conformity with required
standards and procedures.
This particular scope of work
is interesting because the law
specifically states that the review
process is aimed at ensuring the
due protection of consumers.
SAMA will also review the form
of real estate finance contracts
and will prescribe the minimum
information required in such
contracts. Industry participants
will need to wait to see how
this review process will work
in practice.

Accessibility to information
Previously in the Kingdom, any
information relating to a property
and its respective financing
arrangements was restricted.
Only through a power of attorney
from the owner of a property
could information be accessed.
One of the key provisions of
the Real Estate Finance Law
is accessibility of information
relating to properties.
In particular, SAMA will be
responsible for:
1. publishing data relating
to the real estate finance market
and sponsoring the development
of real estate finance techniques,
including techniques for
facilitating flow of data between
the primary market and the
secondary market; and
“The Mortgage
Law further
provides that
utilization
(i.e. usufruct)
rights may also
be mortgaged
(such as the
musataha).”

07 | measure
2. identifying the principles
of disclosure of the standards of
financing costs and the method
of their calculation to enable a
consumer to compare rates.
The law obliges authorities
responsible for registration of
the real estate (i.e. courts and
notaries public) to give real estate
financiers access to information
listed in the real estate registries.
Details of the process will be
set out in the forthcoming
Implementing Regulations and
will be in accord with the rules set
forth by the Ministry of Justice.
Another key area of the law
is that it requires the Ministry
of Commerce and Industry,
the Ministry of Justice, and the
General Housing Ministry to each
publish data relating to the real
estate market periodically.
Balancing rights
Interestingly, the Real Estate
Finance Law states that licensed
real estate finance companies
shall carry on the business of
real estate finance “without

prejudice to the rules of Sharia as
determined by the Sharia Committee
referred to in Article (Three) of
the Finance Companies Control
Law and without prejudice to the
safety of the financial system and
the fairness of transactions.” As
mentioned above, such clauses
are aimed at full disclosure by
financiers about the details of
the financing, their obligations
and their payment requirements.
In return, the law guards
financiers by ensuring that
borrowers have some sort of credit
record/rating before financing can
be extended to them. As of this
writing, SIMAH (the Saudi Credit
Bureau) is the responsible entity
for collating credit information.
The Implementing Regulations
to the Real Estate Finance Law
and various directives to be issued
by SAMA will provide further
details regarding the minimum
requirements that borrowers
should meet (e.g. minimum credit
history period) and the obligations
of lenders in updating the credit
information of the borrowers.
Secondary market -
securitizations and refinancing
The law provides real estate

finance companies with the
ability to refinance through (i)
another real estate financing
company or (ii) the issuance of
securities (including, but not
limited to, securitizations) in
accordance with the Capital
Market Law. This is indeed
a positive step in that the law
is not only dealing with the
primary market but also with
the secondary market, which
could develop into a very large
and lucrative industry within the
Kingdom.
Furthermore, the law
addresses one of the key concerns
faced by parties when structuring
secured and/or structured
financing transactions in that it
explicitly states that the transfer
of mortgages in the secondary
market shall be exempted from
registration fees in the real
property registration system. In
addition, the law provides the
Council of Ministers with the
ability to grant tax incentives for
securities issued with respect to
real estate financing.
III. Finance Lease Law

The Finance Lease Law sets
out the framework for finance
lease contracts (defined below)
entered into between financial
institutions (in their capacities as
lessors) and borrowers (in their
capacities as lessees) and the
responsibilities of parties under
finance lease contracts.
What is a Finance Lease
Contract?
A finance lease contract is
defined widely as a contract in
which a financier finances by
way of a lease any leased assets
(which is defined as immovable
or movable assets, benefits,
usufruct, services, and intangible
rights (such as intellectual
property)) to a third party
(which we understand refers to
the borrower).
A financier can lease the
leased asset as (i) owner, (ii)
owner of the benefit of such
leased asset, (iii) a leased asset
capable of being owned, or (iv)
a leased asset capable
of construction.
Details regarding the
formalities of a finance lease
contract will be set out in the
Implementing Regulations to the

Finance Lease Law; however,
from a Shari’ah perspective,
generally assets that do not
exist are subject to a forward
lease arrangement. Interestingly,
out of the five Real Estate and
Financing Laws, the Finance
Lease Law has no specific
measure | 08
reference to Shari’ah principles,
although we anticipate that the
implementation of the various
provisions will require parties to
adhere to Shari’ah principles.
Formalities of a Finance
Lease Contract
The law codifies the typical
provisions found in standard
finance lease contracts (such
as a detailed description of the
asset, the parties and other key
information).
The law also permits the
use of electronic finance lease
contracts in addition to the
typical written form of finance
lease contracts. As with many
developed real estate financing
laws, the Finance Lease
Law requires registration in

accordance with the provisions of
the law. Details of the process for
registration will be forthcoming
in the Implementing Regulations
to the Finance Lease Law.
Who is responsible for what?
The law sets out the
responsibilities of the financier
(in its capacity as a lessor) and
the borrower (in its capacity
as a lessee) with respect to the
leased asset. These are typical
provisions that are commonly
seen in standard Ijara contracts,
including that the risk of the
asset is that of the financier as
“owner” of the leased asset (who
would be responsible for major
maintenance of the leased asset),
while the borrower would be
responsible for the day-to-day use
of such leased asset.
Transfer of an asset
The law expressly states that
the leased asset can then be
transferred to a borrower in
accordance with the terms and
conditions of the finance lease
contract. This includes transfers
that are conditional upon (i) the
payment of installments, (ii) a
specified amount being paid, or
(iii) a promise to sell the asset at

a nominal price, a price agreed
in the finance lease contract or
the value of the asset on the day
the finance lease contract was
entered into.
Financier’s protection
Financiers can take comfort in
the following provisions:
Financier’s protection against …
This material is part of the Giving Voice to Values curriculum
collection (www.GivingVoiceToValues.org).
The Aspen Institute was founding partner, along with the Yale
School of Management, and incubator for Giving Voice to
Values (GVV).
Now Funded by Babson College.
Do not alter or distribute without permission. © Mary C.
Gentile, 2010
1
Exercise: A Tale of Two Stories
In your lives thus far, you have likely encountered situations at
school, with friends, in jobs or clubs,
when your values conflicted with what you were asked to do.
Often it is not easy to align your own
personal values and purpose with those of your classmates, co-

workers, friends, etc. This exercise is
designed to help you identify and develop the competencies
necessary to achieve that alignment.
Objectives
1. To reflect on your previous experiences, successful and less
so, at effectively voicing and acting on
your values in your lives.
2. To discover which conditions and problem definitions
empower you to effectively voice your values,
and which tend to inhibit that action.
Instructions1:
Part I
• Recall a time in your experiences in a summer job, an
internship, a student club, a student team
project, etc. when your values2 conflicted with what you were
expected to do in a particular, non-
trivial decision, and you spoke up and acted to resolve the
conflict.
• Consider the following 4 questions and write down your
thoughts and brief responses:
o What did you do, and what was the impact?
o What motivated you to speak up and act?
o How satisfied are you? How would you like to have
responded? (This question is not about
rejecting or defending past actions but rather about imagining
your Ideal Scenario.)
o What would have made it easier for you to speak/act?

� Things within your own control
� Things within the control of others
1 During this exercise, you are expressly cautioned not to
violate any obligations of confidentiality that you may have.
2 In this exercise, a “values conflict” refers to a disagreement
that has an ethical dimension to it. That is, I might disagree
with
your idea about the best way to promote a new club or program ,
but there is usually not an ethical component to that
decision. However, if one promotion plan was honest about the
club or program's mission and the other wasn't, for example,
even this disagreement might be appropriate here.
This material is part of the Giving Voice to Values curriculum
collection (www.GivingVoiceToValues.org).
The Aspen Institute was founding partner, along with the Yale
School of Management, and incubator for Giving Voice to
Values (GVV).
Now Funded by Babson College.
Do not alter or distribute without permission. © Mary C.
Gentile, 2010
2
Part II
• Recall a time in your experiences in a summer job, an
internship, a student club, a student team

project, etc. when your values conflicted with what you were
expected to do in a particular, non-
trivial decision, and you did not speak up or act to resolve the
conflict.
• Consider the following 4 questions and write down your
thoughts and brief responses:
o What happened?
o Why didn’t you speak up or act? What would have motivated
you to do so?
o How satisfied are you? How would you like to have
responded? (This question is not about
rejecting or defending past actions but rather about imagining
your Ideal Scenario.)
o What would have made it easier for you to speak/act?
� Things within your own control
� Things within the control of others
Last Revised: 07/01/2010

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