Asia's most market savvy borrower has been forced to make a rare tactical withdrawal after volatile markets made it impossible to deliver the kind of size or pricing it was looking for. Plans for a Eu1 billion 10-year offering and Sterling 350 million to Sterling 500 million 12-year deal were effectively scratched within hours of bookbuilding on Monday, although the transaction was not formally postponed by the three leads - Deutsche Bank, HSBC and JPMorgan - until late on Tuesday evening.
In the context of the wider eurobond market, Hutchison is just one of many borrowers that have taken the sensible decision to pull back after a rout in the US equity market on Friday spilled over into the European equity and corporate bond markets on Monday. Hutch, meantime, had pressed on over the weekend and went out with indicative pricing of 215bp to 225bp over Euribor and 220bp to 230bp over Sterling swaps during Asian trading hours on Monday. But as Europe opened, observers say it quickly became clear that an impassable primary market was rapidly emptying the pipeline, with Hewlett Packard and Volvo both cancelling jumbo transactions.
Officials are said to be fairly sanguine about events, although the setback has come at an unfortunately critical juncture in the company's credit history. The A3/A rated conglomerate is on negative outlook from both agencies and needs to forestall a ratings downgrade to BBB levels that will result in the loss of key segments of its investor base. Having been plagued by negative headlines and spread widening for over a year, one of the most important aims of the new transaction should have been to reverse sentiment back in its favour and halt further deterioration in its credit spreads.
Many may now argue that such a bold strategic attempt to access the euro-denominated market was misguided and that the company has made life unnecessarily difficult for itself. "No-one is saying that Hutchison shouldn't build up its euro investor base at some point," says one credit analyst. "But at a time like this, it can't afford to make a wrong move and should have been thinking two steps ahead. It should have played to its natural investor base in Asia first and used a successful deal as a springboard into Europe slightly further down the road."
For the company's Treasury team, part of the rationale for a euro deal lay in the desire to deepen investor education in a region where revenues are growing rapidly (currently 29%), but the credit is still not that well known. The company's debut Eu500 million 2006 deal of March 1999 was led by Deutsche Bank and HSBC. However, since it came only a few months after the introduction of the new currency, the deal was largely placed with German and UK accounts and has seen little secondary market trading.
By contrast, the new transaction has been marketed across the whole continent, from Sweden, through France down to Italy and Spain. In a recent FinanceAsia interview, group finance director Frank Sixt also said that Hutch should grasp the opportunity to distinguish itself from Europe's heavily indebted telcos. As such, a number of analysts have wondered why then it chose to launch a new bond deal on the very day it started rolling out its 3G services in the UK.
"Hutchison is always hyper sensitive about being viewed as a telecom credit," says one. "It's therefore astounding that it should give the market such an easy opportunity to link the deal to its 3G services."
And while it has undoubtedly made inroads, it also seems the company still has some way to go persuading European fund managers that it is much more than a telecom operator. While expressing some surprise that Hutchison went out with indicative pricing above 200bp, most investors nevertheless proceed to hone in on negative aspects of the credit story.
Typical of the comments are one German fund manager, who wished to remain anonymous. "When we were talking to brokers we'd say, 'ok yes Hutchison Whampoa is a conglomerate, but upfront it looks like a telco. That's where the story's going to be over the short-term and therefore we want a pricing premium'."
He goes on to add, "Actually we then had to ask ourselves whether we really wanted a bond like this given current market conditions. Hutchison is a company with a lot of businesses in Asia and it feels like it's just that little bit too far away for us. For a credit we don't know that well, or aren't fully convinced about, we'd also rather have a shorter five or seven-year maturity."
His comments are echoed by a second German fund manager, who highlights the general nervousness of the European investor community. "Enron and Worldcom were both single-A rated credits in the months before they fell," he comments. "There are also investment grade rated credits trading as low as 60 cents on the dollar. Investors are suspicious of what they don't know."
Italian fund manager Marco Valsecchi, who works for Nextra, also cites the poor state of the Hong Kong economy and the company's underperformance relative to the Hang Seng Index. He adds, "Internally we jokingly call Hutchison a mostro atante teste, which means a monster with too many hats. The company has a complicated structure, which is not really that transparent, although no-one's suggesting that anything criminal is going on."
But the company's supporters argue the market is conveniently forgetting how many of these "hats" are significant revenue generators, which buffer each other against a downturn in individual sectors. A breakdown of first half earnings, for example, shows that although recurrent income fell 7% to $828 million, ports contributed roughly 33% of revenues, while Cheung Kong Infrastructure and through it, the extremely stable Hong Kong Electric, contributed 22%. On the other hand, telecoms and property, which are both out of favour, respectively contributed only 7% and 10%.
Some believe the market was overly spoilt by the huge cash flows generated by the company's asset disposal programme of 1999 to 2000 and is now latching onto subsequent declines in cash flow matched by an increase in debt as evidence of a credit problem, which is not really that meaningful.
Standard & Poor's in particular is said to be very focused on FFO (funds from operations) to gross debt, one of the most reliable credit indicators. Having reported a 35% to 40% ratio of FFO to gross debt pre-1999, analysts say that the figure has now slipped to 10.7%, making Hutchison look more like a triple-B credit than a single-A rated one.
The second perceived problem stems from the company's debt maturity profile. Some 66% of the company's $20.04 billion gross debt (June 2002) falls due over the next four years and $11.02 billion during the peak years of June 2003 to June 2005. In particular, a $3 billion exchangeable bond falls due in September 2003 and a second $1.5 billion exchangeable three months later.
"Together these two deals amount to just over a quarter of the company's famous $15.6 billion cash pile," one analyst points out. "Not an insignificant amount."
Others have previously highlighted that two thirds of the cash pile is in the form of marketable securities, which the company might not easily or quickly be able to get out of. Hutchison, however, has always maintained a policy of holdings its investments in highly liquid instruments to ensure a very strong liquidity cushion.
Goldman Sachs analyst Fan Jiang believes there has been no dent in the company's financial flexibility. "There's a lot of re-financing coming up and it also coincides with an increase in operational risk," he says. "But it's ridiculous to suggest that this is a limiting factor on Hutch. The company has the full financial and operational flexibility to weather it. All its 3G operations are fully funded - in the UK for five years and Italy for three."
A number of analysts point out that the group is a renowned world-class trader with a huge asset base that can trimmed to improve earnings in the event a downgrade really does appear to be looming.
Many also believe that current spread levels are completely wide of the mark and do not reflect the inherent strengths of the group. "The problem is a sentiment one," Fan Jiang continues. "Investors would rather wait for sentiment to turn and at the moment seem quite prepared to lose 50bp of the initial upside if it means they don't have to risk a further 20bp of downside."
At Asia's close on Wednesday, the group's benchmark February 2011 bond was bid at 251bp over Treasuries, a marginal 5bp tighter than the previous day's close. At these levels, the group is trading at a 163bp pick-up to Hong Kong's sovereign proxy, MTR Corp, where historically it has traded at a 40bp pick-up. Compared to Baa3/BBB rated Wharf, long considered the pariah of Hong Kong's international credits, Hutchison is trading at a 30bp pick-up. Compared to Baa1/BBB+ rated Malaysia Telekom, it is trading at 116bp pick-up.
According to BarclayÆs research, HutchÆs 2011 and 2017 bonds are AsiaÆs fifth and eight cheapest in terms of spread to Treasuries relative to rating. Observers also report that the company has even become the target of hedge funds, confident of being able to short down without getting caught.
Typically Asian credits trade through global comparables. Hutch trades wider. On a relative value basis, the company is cheaper than any of the industrial or telco credits used as comparables during the marketing process. Baa1/A- rated British Telecom, for example, has a 10-year deal bid nearly 50bp tighter at 175bp over mid swaps, while BBB+/A3 rated Daimler Chrysler has a 10-year deal at 130bp over.
But for many in the Asian market, the key question has been whether Hutch should have targeted dollars instead. Most conclude that the company could have printed a dollar deal only slightly wider than current secondary levels and would not have seen the Asian bid melt away as the European one did once market volatility increased. But even the company's detractors acknowledge that the company was primarily just unlucky.
Had the euro and sterling deals come a couple of weeks earlier, Hutchison would have fulfilled its strategic aims, priced both only a couple of basis points wider than dollar levels and diversified away from Asia, where a number of lenders have very full credit lines.
It chose not to force the issue this time and while the risk premium attached to its credit does not look it is going to go away any time soon, neither does Hutch. Observers say the company will watch how the market settles over the next couple of weeks and re-launch the deal under an accelerated timeframe should a new window appear.
"The company got its message across effectively, continued the process of investor education it set itself in Europe and started to build a book flat to where it was trading in the dollar markets," says one. "The sudden downturn in the equity and credit market made continuing impossible, but all that will be needed to come back is a refresher conference call."
And as a second says, "Let's not forget that the market is never rationale when it comes to credit sentiment. And also let's not forget that this is a very sophisticated and well managed company, with a world-class reputation for making money."
