Shui On is only the third corporate in Asia ex-Japan to sell a perpetual CB. Sino Ocean Land pioneered the structure in 2010 with a $900m bond that was quickly snapped up. That was followed months later by a $600m issue from Franshion Properties.
Unlike Shui On, Sino Ocean and Franshion went out with fixed terms and offered no step-up on the coupon if the securities were not called. But all three had a common cause for going with a hybrid bond — the ability to use equity accounting.
Perpetual CBs are treated as equity on the balance sheet, allowing the issuer to raise money without increasing its gearing or diluting shareholders, whereas a regular CB is treated as debt until converted into equity.
The structure remains a rarity even in Europe. Only two have been priced in Europe over the past eight years, according to an equity-linked banker who has worked on one of them. Both those deals sold well and enjoyed a steady aftermarket.
“They didn’t leave a bad taste in the mouth, but they weren’t easy to do either,” he said. “In some jurisdictions in Europe, there is the added advantage of tax savings, in which interest payments can be deducted from taxable income, which means issuers don’t have to pay the full coupon.”
Hot reception
In Asia, despite the five year drought in fresh perpetual CB supply, the market has evolved. “The straight perpetual market only took off in 2010, after Cheung Kong Infrastructure ended a 13 year hiatus in Asian perpetual bonds,” said a Hong Kong-based CB banker.
“There’s a bigger investor base for it now. It was only 18 months ago that hedge funds started trading Franshion’s perpetual CB because straight bond investors have also become buyers. So even if the bond is not called back, they know they can sell it to the bond guys.”
This was also why unrated Shui On found willing buyers when it launched the trade on May 21 via sole global co-ordinator JP Morgan and bookrunner Standard Chartered. They marketed the non-call five bond with a coupon and yield of 7.5%-7.75% and conversion premium of 20%-25%.
Fixed terms included an issue price at par and a step-up on the coupon of 3% every five years, although this included a deferral option, a common feature for perpetual bonds. The conversion ratio was 600,433.705 shares per $250m security.
The lead first approached investors with a base offer of $175m and an upsize option of $25m, but demand was so robust that it was finally expanded to $225m. Sources say momentum was strong from the time it launched, resulting in a very well covered book.
The bond priced at the investor-friendly end of its conversion premium, at 20%, and the issuer-friendly end for its coupon, at 7.5%. Allocations went largely to hedge funds, but also high net worth accounts and a good number of institutions, said bankers close to the trade.
“Shui On was well received because of the big fat coupon on offer,” said a banker away from the deal. “Moreover, investors were not put off by the unusual structure since the issuer is a name that people know, and it has a capital market profile and a track record of meeting bond obligations.”
The bond helped Shui On achieve considerable savings. It has an outstanding $500m perpetual callable in December 2017 with a coupon of 10.125%, meaning a new straight perpetual would have cost about 11%-12%, bankers reckon.
Not an outlier
That success is spurring other issuers, say bankers. “There will be more. We are sitting on a mandate right now for a perpetual CB, and a couple more are in the works,” said the Hong Kong-based banker.
“We see interest from investment grade names because they can issue at half the cost of straight debt and yet have equity treatment on the balance sheet, without incurring any additional leverage that could put their ratings at risk.”
A third equity-linked banker away from the deal said the perpetual CB was a structure that appealed to the Chinese property sector, which has seen its leverage expand heavily over the past few years as developers soaked up debt in a bid to expand.
“Many companies are now quite leveraged, which makes sense for fundraising via perpetual CBs, and it will also appeal to those with major shareholders who are leery of getting diluted by a straight equity offering,” the banker said.
Not everyone is convinced. Some bankers are of the view that this was a Shui On-only trade, and they say issuers will need more evidence than a single transaction before they pile into equity-linked perpetual bonds.
“It was a very esoteric deal with a very specific purpose,” the second banker said. “Shui On would also probably have had a hard time if it hadn't included a low conversion premium and the step-up, which is essentially an assurance to investors that it will call the bonds back in five years.
“The whole tenet of the perpetual market is built on the assumption that the issuer will call back the bond,” he added. “Once the stock borrow runs out in five years and if the issuer fails to call it back, then it could have a huge knock-on impact on the entire market.”
Still, because of the dearth of supply, the market remains very much in the hands of issuers, a situation that helped even aggressive deals, like CapitaLand’s 10 year non-put seven and United Microelectronics Corp’s (UMW) $600m CB, get across the line.
“CB investors are not picky because they are starving,” said the second banker. “It’s scarcity that’s driving demand, and secondary is expensive. So it doesn’t really matter where new paper comes from, so long as valuations are not insane.”
This momentum is expected to continue or even accelerate, given the more than $24bn CBs that are up for redemption next year, and the $7bn deficit between new issues and redemption in 2014.
“That’s an awful lot of secondary paper that will disappear if it doesn’t get replaced,” said the Hong Kong-based banker.