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Stephen Craig

The developer is offering investors stock at a steep discount but consider who has the most to gain

'O wad some power the giftie gie us

To see oursels as ithers see us!

It wad frae monie a blunder free us

An foolish notion ...'

From To a Louse Robert Burns

Scottish bard Robert Burns might never have been an investment analyst but his countenance of the wisdom of looking at ourselves as others see us provides some timeless insight.

For instance, if you really want to make sense of New World Development's $5.2 billion rights issue, minority equity holders should take a minute to consider how bond holders and bank creditors, the other parties who finance this indebted property developer, see things and them.

Typically, bankers have a different view  from equity investors - the glass will always look half empty rather than half full.

Foremost, the bankers are concerned about achieving a minimum level of return to cover the interest on their loan, although sometimes the bigger consideration can be to ensure there is no risk of financial failure.

Equity investors accept higher risk for the proffering of their uncollateralised monies but also expect higher returns.

It is not often these parties' interests are mismatched but in New World's case the request for repayment by one of these parties - bond holders - is causing some head scratching.

Come June, bond holders will  ask for $3.3 billion of principal and coupon on their unconverted convertible notes. It would be a surprise if New World's bankers are willing to cough up further.

The company's gearing ranges from 60 to 70 per cent, depending on whether  you include $5 billion of debt fielded out to associates. Even before last year's $4.8 billion exceptional charge, New World barely achieved the most basic health check - interest coverage.

With 70 per cent of its loans at a floating rate, any upswing in the interest-rate cycle will hit hard. Little comfort can be taken if you look at break up value; using its $20 billion market capitalisation as a rough proxy, not book value, gearing climbs well in excess of 100 per cent. A bond issue is a non starter as these figures will not merit a rating.

The equity tap still works - a placement  last October raised $1.25 billion  from 250 million shares at $5. But this now means future placements are limited to between $1 billion and $2 billion. Not enough to make a dent in that convertible liability.

So now we arrive at a rights issue. These have been less popular in Hong Kong as their democratic nature - allowing all shareholders to subscribe - can be cumbersome and sometimes less reliable if not fully subscribed.

The pricing of New World's two for five rights at a 38 per cent discount gives a powerful incentive to opt in as the penalty for opting out  - dilution - is high.

But will it be fully subscribed? The discount  indicates  a lack of appetite among existing shareholders, such as parent Chow Tai Fook  which seems reluctant to limit its underwriting commitments to an additional 69 million shares.

Investors should be concerned that they are being invited to this rights issue not so their interest can be maintained but because New World's creditors want their interest diluted.

Put yourself in the shoes of one of New World's principal bankers and lead underwriter HSBC and another perspective is possible.

The bank must have a powerful interest in ensuring new equity investors are brought in to alleviate the   risks of the maligned developer.

But when HSBC's chairman last week warned of a property bubble, what is the risk of buying equity in a highly geared developer at  this level?

For equity investors, the wisdom is to remember how the banks and controlling shareholder see you. It seems a foolish notion that this  issue represents a good deal.



Bankers' perspective takes shine off New World issue