Acquisitions and refinancing top the agenda

Look to more foreign takeovers by mainland companies and banks boosting their capital as the coming year unfolds

PUBLISHED : Monday, 30 December, 2013, 1:27am
UPDATED : Monday, 30 December, 2013, 1:27am

M&A boom

China is going through a boom in offshore acquisitions. CNOOC's US$15.1 billion purchase of Calgary-based Nexen, which does oil drilling and tar sand extraction, defined the trend. This was the first major offshore deal by a mainland energy firm.

The move transformed CNOOC into a global entity with international management (the enlarged firm integrated Nexen management) with assets in Africa, Europe and North America.

"CNOOC was strong in offshore China before this transaction, but they were not an international energy firm. They became international after this deal closed," said Hansong Zhu, co-head of Goldman Sachs' natural resources group for Asia-Pacific ex-Japan, who advised on the deal.

Elsewhere, Shuanghui International's US$4.7 billion takeover of United States-listed Smithfield Foods underlined foreign banks' interest in underwriting these acquisitions. The deal - by which the world's biggest producer of pork products took over the biggest such firm in the United States - was backed by a US$4 billion syndicated loan.

Foreign banks used to be nervous about making big loans to Chinese firms because issuers were prohibited by capital controls to pledge onshore assets against offshore loans. Still, 32 banks participated in the Shuanghui loan, most of these international institutions.

Banks are simply getting more comfortable with these loans, on the view that the acquisitions are driven by Beijing and that a default would be politically embarrassing and therefore highly unlikely.

China issuers took down US$17 billion in loans for acquisitions this year. That was three times the volume seen for all of 2012, previously the peak year.

The year ahead will bring a lot more acquisitions by Chinese firms - it's a policy imperative - which will be well supported by offshore banks.

"Mainland firms are buying food-producing assets, energy and raw materials generally. They are also looking for world-class brands. The government wants China to do more than just manufacturing," said Anup Kuruvilla, managing director of Asia loan syndications at RBS, one of the bookrunners on the Shuanghui loan.

 

Eurotics

Asian trade is still overwhelmingly denominated in US dollars. Issuers historically have wanted to match the currency of their liabilities with the currency of their sales, to avoid mismatch. But the prospect of rising US interest rates has pushed Asian issuers to consider alternative currencies, such as euros.

"We have rising interest rates in US dollars, whereas the European interest rate cycle is 12 to 18 months behind. You get to diversify your investor pool, you get to raise more money without putting pressure on credit spreads, and you can price at any tenor you want without being penalised for an off-the-run issue," said Herman van den Wall Bake, head of Asian fixed income capital markets at Deutsche Bank.

Hutchison Whampoa did a €1.75 billion (HK$18.4 billion) perpetual bond in May - the first hybrid in euros to come out of Asia ex Japan.

That deal was followed by a US$2 billion-equivalent bond from CNOOC that included a €700 million tranche - the first euro-denominated bond from a Chinese state-owned enterprise, and a US$3.5 billion-equivalent bond from Sinopec in October with a €500 million tranche.

Now that the US Federal Reserve has gone officially into tapering mode, pushing up treasury yields and, therefore, funding costs in dollars, the outlook favours more deals in the currency. "We expect to see more euro issuance from China and wider Asia in 2014," said Adrian Khoo, Citi's co-head debt capital markets for Asia.

 

China bank refinancing, part I

China's banks need recapitalising. There is increasing concern about banks' non-performing loans following years of bullish lending and slowing growth in the mainland economy. The Big Four state banks added US$1 trillion in assets this year, a Fitch report estimates.

Regulators say they want a market solution to this problem, and not a broad government bailout as was seen in the mid-2000s, when state holding company Huijin spent US$60 billion recapitalising China Construction Bank, Bank of China and Industrial and Commercial Bank of China - all effectively insolvent.

In that vein, China Cinda Asset Management, set up in the late 1990s to take over an estimated 1.4 trillion yuan of bad assets from mainland banks, raised US$2.5 billion in a Hong Kong initial public offering this month The listing proceeds will boost its capital and give it a means to raise more money from offshore investors.

Cinda shares rose 25.7 per cent on their first day, but investors are not universally accepting of the recapitalisation theme.

Bank of Chongqing listed in Hong Kong in November, raising HK$4.25 billion. It was a tough sell. Investors were sceptical about any banks with significant exposure to local government debt.

The pessimism over Bank of Chongqing and other smaller local lenders was reinforced by the China Banking Regulatory Commission's call this month for banks to step up monitoring of local government borrowing and keep a close grip on loans to their financing vehicles. The warning followed the Central Economic Work Conference, which concluded that the country needed to tackle local government debt.

Bank of Chongqing's lending to local government financing platforms represented about a quarter of its loan book as of June, a typical level for city banks. Thus, there is a push to list the city banks just as regulators are highlighting the risk of municipal debt, the main asset held by the banks.

 

China bank refinancing, part II

The main job of recapitalising mainland banks will lie with a subordinated bond that was used for the first time in July, when Tianjin Binhai Rural Commercial Bank raised 1.5 billion yuan (HK$1.9 billion).

The deal was a Basel-III compliant hybrid, the first of its kind from China. Somewhat radically, the Tianjin Binhai deal included a clause that lets the CBRC force investors to take losses if it deems the issuer no longer viable. A decision to default would prove highly unpopular and political, and it now lies with a government agency.

"The consequences of using this type of instrument are quite dramatic. Once you decide that a bank has reached non-viability it means the management of the bank has failed and the regulations have failed. You can imagine that sending that type of message carries a risk to the regulator because it means there is an admission of failure," said a banker close to the issuer.

Nevertheless, the structure will be the workhorse for the critical job of refinancing banks. The top five mainland banks alone have about 1.25 trillion yuan in capital they need to replace with Basel III-compliant instruments, or face penalties. This means banks and investors will be getting very familiar with the Tianjin Binhai deal.

 

Infinite bookrunners and beyond

State-owned Galaxy Securities raised US$1.1 billion in a May listing. That was the good news. The bad news, for banks, was that no fewer than 21 bookrunners split an estimated US$42 million fee pool, meaning each institution made an average of US$2 million - a pittance for a transaction many months in the making.

Galaxy was an extreme case but it exemplified a trend for ever-expanding bookrunner pools in Hong Kong's bruisingly competitive IPO market.

Galaxy Securities originally mandated Goldman Sachs, JP Morgan and its own investment banking unit, China Galaxy International. It added 13 banks two months before the company kicked off marketing in May and a further five before deal launch.

Galaxy's army of bankers spoke to the sluggish state of Hong Kong's new listing market of the past two years. Although 2013 had a strong finish, equity fundraisings (including IPOs and equity blocks) are about half the level of the five-year average for Hong Kong-listed issuers. That is putting pressure on banks.

"Bankers are still competing to be on the more attractive deals and it costs nothing more to issuers to appoint a larger rather than a smaller number of lead banks. But the practice annoys investors and doesn't widen the pool of demand as invariably all the bookrunners end up talking to the same names," said Philippe Espinasse, author of IPO: A Global Guide.

The outlook for Hong Kong's IPO market is brightening, as evidenced by the fourth-quarter rush. However, the trend is for many more small deals, translating into the same work for lower fees. Banks can be counted on to pile into the rare US$1 billion-plus deal that rolls around.

 

The biggest deal

For all the themes and trends of 2013, one deal stood out just for its size. E-commerce giant Alibaba took down a US$8 billion syndicated loan in July, the largest marketed deal in Asia of any asset class in the year. The firm used most of the proceeds to refinance debt used to buy back Alibaba shares held by Yahoo.

Most of China Inc's big financings have historically come from state-owned enterprises that have implicit government backing.

Alibaba, as a privately owned firm, has all the subordination of an SOE with none of the state backing. This was the worst of both worlds, credit-wise.

Furthermore, as an internet firm, Alibaba is asset light to say the least. Even putting aside the subordination issue, there are few tangible assets to which creditors can lay claim in the event of a default.

"The deal opened the possibility of a private-sector company doing large deals that can get bank financing - it brought the Chinese loan market into the mainstream," a banker involved in the deal said.

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