China Evergrande Group is the latest to join the convertible craze after the highly-leveraged home seller raised HK$18 billion ($2.3 billion) from a five-year issue on Tuesday, becoming the fifth Chinese property developer to tap the primary market this month.
Evergrande’s new deal came hot on the heels of a pair of its smaller rivals, namely Future Land and Powerlong Real Estate, which printed $555 million worth of one-year convertible bonds on Monday. That was after Cifi Holdings sold $357 million of bonds last week and Country Garden pulled off a $2 billion deal two weeks earlier.
Guangdong-based Evergrande was a clear candidate for equity financing given its highly-leveraged balance sheet. The company, which ranked third in home sales last year, was China’s most indebted developer with a debt-to-equity ratio of 400.5% as of the end of June last year. That figure will now be lower after it secured Rmb60 billion ($9.5 billion) of strategic investment in November.
Still, few would have envisaged a deal would materialise given the company is in the process of a backdoor listing in China. That, together with the massive scale, helped create a buzz when the deal was launched late on Tuesday afternoon. What followed, however, was far from smooth.
Rare deal
Evergrande did not follow its peers in issuing short-dated bonds for its equity-linked debut, but opted for a perpetual deal when the initial terms were sent out late Tuesday afternoon. The B1/B/B+ rated developer sounded out a whopping $3 billion deal at launch, which would have made it the largest perpetual convertible security ever issued in Asia.
The perpetual was pitched at a coupon range of 3% to 4% and a conversion premium of 50% to 60% over Evergrande’s Tuesday close of HK$27.85. That would have potentially settled for a strike price of as high as HK$44.56 – nearly 13 times its listing price of HK$3.5 and 41% higher than its all-time high of HK$31.55.
Like other perpetual securities, the new bond included an issuer call at par after three years, but there was no put option attached. It featured a 4% step-up in coupon every three years, technically making it a high-yield instrument after 2021.
These terms were quickly given the cold shoulder by prospective investors, citing in particular the lack of flexibility for a perpetual bond and the aggressive conversion premium on the back of the stock’s 510% rally over the past 12 months.
Meanwhile, the fact both Future Land and Powerlong’s new deals fell below par on Tuesday trading did not help with Evergrande’s offering.
Structure reset
The lacklustre demand forced Evergrande to execute a massive restructuring late on Tuesday night that changed almost every aspect of the bond. In particular, the perpetual deal was restructured into a standard five-year deal with a three-year put option, while the indicative size was slashed by a third to $2 billion.
At the same time, the developer guided investors with a new coupon range of 3.75% to 4.25% per annum, which represented a 25- to 75-basis point pickup to the initial offering. The conversion premium was squeezed to 40% to 45%.
There were also changes in the syndicate. Credit Suisse, UBS and Haitong International were joint bookrunners of the perpetual offering, but they were joined by Bank of America Merrill Lynch, Citigroup and Deutsche Bank in the revised deal.
With this structure, Evergrande was able to close the deal at a final size of $2.3 billion. Unsurprisingly the final terms were all set at the investor-friendly end, including a 4.25% coupon and a 40% premium that ended up with a HK$38.99 strike price.
One bond trader told FinanceAsia the perpetual structure was likely the main concern for prospective investors.
“If you look at it carefully, the revised deal (4.25%) actually pays only a slightly higher coupon than the initial deal (4%) on a three-year basis,” said the bond trader. “But the perp structure means bondholders will have no control over exiting the investment, which is a big concern for many money managers in a volatile market like this.”
Expected slowdown
As it stands, Tuesday’s deal took Asia ex-Japan’s equity-linked issue volume to $6.8 billion in January alone, just 7% off last year’s total volume of $7.3 billion and 6% off the $7.2 billion raised in 2016.
But market participants are generally expecting deal flow to slow down in February since it is typically the quiet season for equity capital markets. Meanwhile, Hong Kong-listed companies, which contributed to the bulk of issuance this month, will enter a blackout period ahead of their quarterly result announcements, further decreasing the likelihood of any new issuance.
With most of the issuance coming from the Chinese property sector, one market participant commented that some other sectors would have to pick up the momentum if the flow is to be continued.
“You can see most Chinese developers have already raised cash so I don’t expect any major deals coming from this sector any more,” the market participant said.
This article was amended to reflect the fact that Evergrande was the fifth developer to issue convertible bonds this month.
