Lead managers Credit Suisse First Boston and Lehman Brothers launched a consent solicitation yesterday (Thursday) covering 19 Eurobonds and Yankee bonds issued by Korean electricity utility Kepco. The solicitation has been prompted by the restructuring of Korea's domestic electricity industry, which will see five generating companies split from the transmission and distribution company, Kepco, and sold to third party investors.
However, before the next stage of the restructuring can proceed, two main issues need investors' consent. The first one comprises the "joint and several liabilities" clauses which exist between Kepco and the gencos.
When the gencos were initially hived off from the parent in 2001, a series of cross guarantees were put in place to compensate the gencos for being assigned the same debt to capitalization ratio as the integrated entity prior to the split. This meant that all debt incurred prior to April 2001 had cross guarantees with the parent and also with each other.
Since no outside investor would purchase a company holding such huge contingent liabilities on its books, the cross guarantees needed to be unwound and in their place, the Korea Development Bank (KDB) stepped in to provide its own guarantee to all parent and genco debt that had previously had a cross guarantee.
The second issue concerns covenants on some of Kepco's Eurobonds and Yankee bonds. These include provisions requiring the maintainance of majority government ownership. Should the government's stake fall below 51%, investors holding some of these bonds have the right to accelerate re-payment of interest and principal under event-of-default clauses.
Kepco hopes to amend bond documentation and use the same covenants package it has applied to all new debt undertaken over the past two years and which allows full privatization.
In 1999, Kepco launched a similar consent solicitation to seek a waiver to amend event-of-default clauses that might have been triggered by major assets sales. However it failed to get enough bondholders to approve the waiver and was forced to launch a tender offer for the bonds in question.
This time round, it hopes the enticement of a KDB guarantee and an improving credit profile will be enough of a sweetener. Currently Kepco has a Baa2/A- rating, two notches lower than the sovereign on Moody's side. A successful resolution of the two issues should see it regain the sovereign ceiling and narrow the spread gap between Kepco and KDB debt.
The traditional differential between the two averages about 15bp to 25bp on a like-for-like basis. In Asian trading yesterday, Kepco's September 2007 bond was bid at 4.25% to yield 139bp over Treasuries, while KDB's November 2006 was bid at 3.8% to yield 99bp over Treasuries.
Observers also argue that a successful international solicitation followed by a successful domestic one will immediately improve Kepco's credit profile. This is because the latter solicitation for $3 billion of domestic debt will remove all contingent liabilities (guarantees of genco debt) from Kepco's balance sheet. Hyundai Securities and KDB Securities will lead manage the domestic offering, while Daiwa Securities will also launch a separate solicitation for $400 million equivalent in Samurai bonds.
As each genco is then sold off, proceeds will be used to re-pay more debt and further improve the company's credit ratios.
The international solicitation will run until December 12, followed by a bondholders meeting on December 16. Under Korean law, the leads need to form a quorum of at least one third of all bondholders and then get two thirds of this number to agree to remove the "joint and several liabilities clauses."
Where the Yankee bonds are concerned, the leads need to get a simple majority of investors to vote in favour. Where the Eurobonds are concerned, they need to obtain participation from 50% of holders and then get 75% of this number to vote in favour.
