Risky business

05/05/2009 | Steve Garton

Risk aversion has begun to subside, but the international investors who had bankrolled Asia’s expansion over the last few years are notably absent. A wave of corporate defaults now looks imminent as companies that most need to raise capital are finding it the hardest

Risk aversion has begun to subside, but the international investors who had bankrolled Asia’s expansion over the last few years are notably absent. A wave of corporate defaults now looks imminent as companies that most need to raise capital are finding it the hardest.
Emerging market investors fled from Asia in late 2008, sparking fears of another Asian financial crisis a decade on. Those concerns may have started to ease, but the financial crisis has left a number of Asian companies teetering on the brink of collapse, with balance sheets stretched to breaking point by falling earnings and crippling funding costs.
Chinese property companies, Indian car makers and Indonesian mobile phone operators, to name just a few, have borrowed heavily to finance expansion projects and fund acquisitions, and those companies are now struggling to restructure their balance sheets to avoid falling into default.
FerroChina, a Singapore-listed Chinese steel producer, suspended production and called in administrators in October after lenders called in some of its working capital loans. One of the first Asian casualties of the credit crisis, FerroChina is trying to restructure Rmb5.2 billion ($766 million) of outstanding onshore and offshore debt that it said it was unable to repay, including a $200 million, three-year loan arranged by Credit Suisse as recently as August.
Asia Aluminum, the Chinese metal producer that delisted its Hong Kong shares in a management buy-out in 2007, asked a court to appoint provisional liquidators in March after efforts to restructure its $1.2 billion of offshore debt were blocked by foreign investors.
Both companies had been able to pile on debt with relative ease during the credit boom of 2004–07, but were undone when commodity prices slumped and that access to capital dried up. The two cases highlight the lack of refinancing options for Asia’s highly geared companies, and analysts are worried that more defaults will follow.
“Companies have to get their act together quickly and focus on survival, not expansion,” says Dilip Shahani, head of global research for Asia Pacific at HSBC in Hong Kong. “Refinancing risks will still be there in 2010 and 2011.”

Loan market shattered
Those risks were brought sharply into focus in the fourth quarter of 2008 by the collapse of the Asian loan market, as international lenders cut lines and retreated to their home markets.
Even though Asia’s banks survived the US subprime mortgage disaster mostly unscathed, the region’s loan market was rocked in September as dollar liquidity dried up. Deals that were being arranged in US dollars for Asian exporters were suddenly thrown into question as international banks turned their backs on the emerging markets, while local Asian lenders were unable to find the dollar funding they needed as the currency markets seized up.
In an unprecedented move, banks rushed to pass on their own higher funding costs to borrowers by invoking ‘market disruption clauses’ in loan agreements. Originally designed to protect lenders in the event of a disaster where the Libor base rate becomes unavailable, the clause was triggered by a group of mainly European banks who claimed the Libor rates no longer reflected their true cost of funding. It allowed lenders to set their own reference rate, typically adding 1–3% to interest margins.
Hon Hai Precision Industry, a Taiwanese mobile phone maker, found itself facing higher financing charges on a $1.035 billion syndicated loan, while Quanta Computer, another Taiwanese borrower, was hit with higher charges on a $360 million facility. Lenders also triggered market disruption clauses on the $1.25 billion facility for Wynn Macau, an offshoot of the Las Vegas gaming firm, as well as financings for several other Asian borrowers in India and elsewhere.
Singapore-listed First Ship Lease Trust, which charters ships and tankers, warned investors in October that it would have to cut its dividend for the fourth quarter after being forced to pay $680,000 of additional interest charges for the period.
“It introduced uncertainties into our business,” says Chen Fung Leng, a vice-president in charge of investor and public relations at First Ship Lease Trust in Singapore. “We had swapped our floating rate loans to fixed to minimize volatility, and this rendered some of this swapping ineffective, so it was a disruption to us.”
Chen says the impact of the revision was minimal, and the loans reverted to their normal rate for the first two quarters of 2009, but the move showed a big shift in the relationship between Asian companies and their banks, who had been falling over themselves in recent years to lend at ever lower rates.
The Libor system has since been patched up, but appetite for Asian loans remains thin on the ground. The Asian syndicated loan market was hit harder in the first quarter of 2009 than any other region, according to data company Dealogic. The volume of new loans signed in Asia Pacific excluding Japan fell by 70% compared with the first quarter of 2008, while in North America volumes plummeted 59%, and western European loans fell by 32%.
Some of the biggest lenders to Asian companies in recent years, including Royal Bank of Scotland and Citigroup, have scaled back their activities dramatically, while a number of European lenders such as Bayerische Landesbank and Iceland’s Landsbanki, which opened an office in Hong Kong in 2007, have closed their Asian operations altogether.

Local markets to the rescue?
The turmoil in the loan market has pushed some of Asia’s best-known companies to consider bonds, and some have been able to seal big capital-raising deals in Asia’s local currency markets.
“Asia’s local currency debt markets are growing at a rate of 12–13% a year, or 25% if you include the Chinese market,” says Deepak Kohli, global head of debt capital markets at Standard Chartered in Singapore. “There is good demand from retail, especially now that equity markets have taken a beating, and the corporatization of savings is driving growth across Asia.”
San Miguel Brewery completed a record-breaking P38.8 billion ($805 million) bond issue in the domestic Philippines market in March – by far the largest debt deal ever in pesos – as banks and individual buyers jumped at a rare chance to invest in one of the country’s top names.
San Miguel had initially lined up banks to arrange an international bond issue, but cancelled that deal when it became clear there was enough demand from domestic investors despite concerns over slowing economic growth and the global financial turmoil.
“For strong credits with a good local currency rating, the local markets are certainly open,” says Kohli. “Rates are coming down in a lot of Asian countries, so fixed income investors are seeing positive returns.”
Other local currency capital markets have shown similar positive signs. “Before 2008 deals worth over S$500 million were very rare, but last year we were able to print big deals for foreign and domestic issuers as risk aversion kept the US dollar market closed.”
“The SGD bond market might take a while more to get back to where it was in mid 2008, but there is definitely still substantial amounts of liquidity in Singapore. There are heaps of idle deposits in the banks here that need to be put to work,” says Clifford Lee, head of debt capital markets at DBS in Singapore.
DBS itself sold a S$1.5 billion hybrid tier one perpetual deal in May 2008, the biggest of its kind in the Singapore market. OCBC and Malaysia’s Maybank followed quickly with similar hybrids, while a S$640 million deal launched last August by Singapore Power was heavily oversubscribed.
The retail buyers that had supported many of those big debt issues disappeared after Lehman Brothers collapsed, nursing heavy losses on structured notes arranged by or referencing the bankrupt US investment bank, but bankers are confident of a recovery. “That market won’t be the first to come back, but there is definitely still liquidity in Singapore. Banks have heaps of deposits they need to put to work,” says Lee.
The bond markets, however, are not open for all, and lower-rated Asian companies will find it hard to match San Miguel’s success. “Asia’s local markets are not sophisticated enough to support sub-investment grade companies,” says Shahani at HSBC. “The high-quality names can choose to access local or international credit, but no high-yield borrowers or new names will be able to access the dollar markets.”

Refinancing risks remain
Companies that borrowed heavily in the last two or three years are the most exposed to refinancing risks.
Tata Motors, the Indian car maker, needs to refinance $2 billion of bridge loans it put in place last year to finance the acquisition of Jaguar Land Rover. It is looking to split that between a rupee debt issue and an international loan, but its efforts to refinance the short-term debt have been far from plain sailing. Last November’s rights issue wiped out around $800 million of the debt, but the response from Indian investors was disappointing, and Tata’s parent company had to step in to buy most of the deal.
Tata’s dollar lenders are pushing for better terms on the refinancing, which risks putting further pressure on the company’s balance sheet at a time when car sales are sliding. If it is unable to refinance the debt, it will need to repay the bridge loans on May 23.
The collapse of the structured finance market has also robbed Asian borrowers of another source of capital. Real estate investment trusts listed in Hong Kong and Singapore are facing a refinancing crunch, with mortgage-backed securities and loans worth S$16.6 billion set to mature in 2009 and 2010, according to the National University of Singapore. Asian banks, already wary of falling property prices, have been reluctant to provide replacement loans with Singapore’s CapitaCommercial Trust and Cambridge Reit, finding little enthusiasm for recent deals.
Winmall, another Singapore-listed property trust, priced notes backed by commercial mortgages at the end of April, in the first CMBS in the Singapore market for more than two years. The S$310 million deal is a modest size, but borrowers will be watching closely for any sign of a revival in Asian structured finance.

Debt buybacks
A handful of Asian companies has fallen into default since Lehman Brothers folded in September, including the two landmark cases of FerroChina and Asia Aluminum, Hong Kong retailer U-Right and swimwear maker Tack Fat, and Indonesian telecom company Mobile-8, which failed to repay $100 million of high-yield bonds after its controlling shareholder sold down its stake. But many others have been taking steps to restructure their businesses and reduce debt levels, restoring investors’ confidence in the process.
Galaxy Entertainment, the troubled Macau casino operator, repaid bonds worth $170 million in December after scaling back its expansion plans in Macau. Pakistan Mobile Communications, property developer Greentown China Holdings, Hong Kong’s City Telecom and others have since followed suit, booking one-off profits by buying back their debt at steep discounts to face value. Others, including Hong Kong-listed Chinese developer Shimao Holdings, have sold new shares to reduce gearing, and bankers expect many similar liability management exercises to follow.
Asian companies have begun to regain access to the international capital markets. China Zhongwang, an aluminium products maker, is set to list in Hong Kong on May 8 in the world’s largest initial public offering so far this year, while Hutchison Whampoa and Korean steelmaker Posco have each sold dollar bonds.
Corporate Asia is in much better health than it was in 1998, and fears for another Asian crisis have faded. But international investors remain cautious. “The deterioration of credit fundamentals and rise in defaults will happen here, too,” says Joel Kim, head of Asian fixed income at ING Investment Management in Hong Kong. “It is the companies that most need to raise capital that will find it the most difficult.”

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