Bank Mandiri to raise subordinated dollar debt

Indonesian credits continue to take centre stage, with Bank Mandiri planning to raise lower tier 2 debt.

UBS Warburg was mandated yesterday (Thursday) for a $150 million issue, which is expected launch within the next month. The emergence of the deal is linked to news that the state-owned bank's IPO is being postponed until later this year and is, therefore, more a reflection of Mandiri's desire to make use of the documentation and stay visible with investors rather than any pressing need for fresh capital.

The bank currently has one of the highest capital adequacy ratios of any of the large Indonesian banks. This is because it also has the highest level of government re-capitalization bonds relative to overall assets. These interest bearing bonds carry zero risk weightings and were pumped in by the government at the time of the Mandiri's creation in July 1999 through the merger of four state-owned banks - BDNI, BBD, Bapindo and BEII.

Since then, Mandiri has been slowly able to grow its loan portfolio, but the difficulties all Indonesian banks face trying to find "clean" credits mean that capital adequacy ratios are only likely to fall very slowly. Mandiri, for example, has reported that its CAR fell from 31.29% at the end of 2000 to 29.1% as of June 2001 and 26.44% by year-end 2001, of which tier 1 accounted for 15.24% and tier 2 11.2%.

At the same time, total assets rose from Rp253 trillion in 2000 to Rp262.3 trillion ($30.38 billion) at the end of 2001, of which government re-capitalization bonds amounted to about Rp170 trillion ($19.69 billion), a 65% ratio of government bonds to overall assets.

By contrast BNI, which is also planning to tap the sub debt markets with a $100 million issue, reported a total CAR of 15.62% at the end of 2001 and a 48% ratio of government bonds to total assets. Other banks such as BCA and Bank Danamon have high CARs, but also lower ratios than Mandiri. BCA, for instance, reported a 32.64% CAR at the end of 2001 and 59% ratio, while Danamon reported a 34.5% CAR and 53% ratio.

For the lead manager the main challenge structuring and executing the new deal will be the government's shifting attitude to bank capital regulation. Local experts say the government remains undecided whether it will allow domestic banks to hold sub debt on their books without taking a capital hit and is also not sure whether it will change regulations currently allowing short-dated transactions to retain full capital treatment.

The former issue will be key to the distribution pattern. When Mandiri re-opened the international bond markets for Indonesian credits in December, it came with a $125 million FRN that classified as senior debt and could be held by local banks on a 20% risk weighting. This meant that the five-year deal, with three year call and puts, had very heavy onshore distribution to local banks and attracted a total of 21 investors, of whom 60% came from Indonesia and 79% were banks.

If, however, domestic banks have to take a capital hit for holding the new deal, then Mandiri will need to follow Telkomsel and more recently Indofood in securing a wider international audience. In this respect, UBS Warburg holds a slight advantage because it ran the books for Telkomsel where there was stronger than expected distribution to Europe (27% of the $150 million deal).

Where the latter issue is concerned, experts say it makes much more sense to allow short dated capital instruments, since many are unsure whether international investors are quite yet ready for a 10 non-call five instrument by an Indonesian bank. Should the regulations remain as they are, bankers say a straight five-year bullet deal makes the most sense.

As it is, the deal will rank as the first ever non-investment grade subordinated debt issue from a country, which similarly does not have an investment grade rating. In some respects this makes the deal a tougher challenge than the subordinated debt issues for the Korean banks back in 2000, which also had non-investment grade ratings, but were launched at a time when Korea itself was investment grade rated.

Bank Mandiri presently has the sovereign's B3/B- rating, or it will when Standard & Poor's lifts the sovereign from selective default. Its existing December 2006 issue is trading at around 400bp over Libor, a 200bp contraction from its launch yield of 600bp over.

In terms of pricing the new issue, bankers say that a five-year deal will have to come at least 100bp and maybe up to 200bp wider. Given that five-years swaps are currently quoted at 4.72%, this would price it in a 9.72% to 10.72% range.

At these levels, it would fall wider than Telkomsel, whose 2007 issue is currently bid around the 9.226% mark, but could possibly come tighter than both Indofood and PT Medco, which are respectively trading around the 10.625% and 10.674% levels.

Given that Mandiri will be viewed as a much purer leveraged sovereign play than any of the three corporates, some believe that it will be able to get away with pricing at the tighter the end. This argument is also made all the more stronger by the tight trading levels of the outstanding but highly illiquid August 2006 sovereign bond, which closed trading in Asia yesterday at 7.89% or 363bp over Treasuries.

For UBS Warburg, winning the Mandiri deal builds on a reputation forged through the hugely successful syndication of PT Telkomsel's deal in April. Like so many deals in Asia, however, it is also likely to be a reflection of a relatively low fee for a sub debt deal (1.35%).

Other banks in the running for the deal would have included Credit Suisse First Boston, the lead manager of its prospective IPO, HSBC, the lead manager of its December FRN and JPMorgan, which has previously helped amend its capital structure.