As quarterly earnings continue to impress and company guidance reveals strong growth prospects this year, capital raising through depositary receipts (DRs) can be expected to grow at a steady pace, J.P. Morgan says in a report due to be released today. And, as in the past few years, Asia-Pacific is expected to be the most active region for such capital-raising with China and India dominating the new issuance.
“Over the short, mid- and long-term, we expect that China and India will continue to consolidate their place as two of the world’s most dynamic and quickly growing economies. As we have seen, global enterprises are seeking to do more business with China, and Chinese enterprises are becoming an increasingly important part of the global economic landscape,” said Kenneth Tse, Asia-Pacific head of the depositary receipts group at J.P. Morgan, explaining why the bank believes the flow of issuance from these two economies will continue to drive the DR market.
In 2010, $7.9 billion was raised from primary and follow-on DR offerings by Asia-Pacific issuers, with China and India accounting for more than 90% of the total. The volumes raised were down from $9.2 billion in 2009, although in terms of new listings, China and India both set a new record with 36 and 34 IPOs respectively.
DRs are an efficient way for Asian issuers to access investors in the US (in the case of American depositary receipts) or Europe (in the case of global depositary receipts) that wouldn’t be able to, or would prefer not to, buy shares in these companies if they were listed offshore.
And as investors in these two markets have been keen to diversify their investments to new markets in search of higher returns in the wake of the global financial crisis, there has been a meeting of mind between buyers and sellers. As of the third quarter 2010, US holdings in foreign equities amounted to $4.1 trillion, according to Federal Reserve statistics, cited by J.P. Morgan. This is up more than $100 billion from the fourth quarter of 2009. Given that demand, it is no surprise that the US remains the preferred location for DR capital raising. Last year, this market alone accounted for $5.5 billion, or 69%, of the total capital raised by Asia-Pacific issuers.
Chinese issuers in particular are taking advantage of the US demand for growth equities, while Indian and Taiwan companies tend to prefer to issue GDRs. According to J.P. Morgan estimates, 36 Chinese companies completed ADR IPOs on either the New York Stock Exchange or Nasdaq last year, raising combined $4.1 billion. Meanwhile, 10 Chinese companies raised a total of $1.3 billion from ADR follow-ons. The largest IPO was China Ming Yang Wind Power Group’s $350 million offering in October, while the largest follow-on was a $236 million fund-raising by Ctrip.com International in March.
The start to this year has been quite slow, both in terms of Chinese ADR issuance and new filings, but J.P. Morgan is confident that the activity will pick up.
"The pipeline may look a bit thin right now, but it should be picking up in March when most companies have updated their full-year earnings. And since foreign issuers don’t have to publicly file with the SEC that early, they can come to market quite quickly thereafter -- a lead time of two to three weeks is often enough," said Tse. Indeed, based on the activity behind the scenes, Tse expects 2011 to be just as busy as 2010 in terms of new Chinese ADR listings in the US.
Aside from the Chinese and Indian issuers, companies in Taiwan, many of which operate in capital-intensive industries, also frequently turn to DRs to fund their growth. In addition to these established markets, J.P. Morgan believes that some of the smaller emerging markets in the region will begin to assert themselves on the global stage. Specifically, the report notes that Vietnam and Mongolia are expected to emerge as new DR markets in the next 12 to 24 months.
“Where there is a quickly growing economy, we’ll always find companies in need of capital raising, and so we think Vietnam’s financial market infrastructure will evolve perhaps more quickly over the coming years than it has in the past,” said Tse. “However, we do see that Vietnam needs to overcome some near-term challenges, including risks to growth posed by inflation.”
Mongolia, meanwhile, is sitting on a vast quantity of currently untapped mineral wealth, and with global demand for mineral commodities growing quickly, its medium- to long-term economic future is promising, J.P. Morgan argues. To fund the development of these resources, Mongolian companies are expected to turn to the international capital markets, but rather than look all the way to the US or Europe, they are expected to make use of the possibility to list DRs in Hong Kong, which will allow them to access Hong Kong retail investors, as well as international institutions.
“Much of Mongolia’s economic focus is on China, and as a result, Hong Kong will likely benefit in the coming years as a destination for Mongolian enterprises seeking to better align their growth strategy with China. As such, it follows that Hong Kong’s HDR platform will benefit from this alignment,” said Tse.
So far, Hong Kong has only seen the listing of one HDR, which took place in December last year when Brazilian mining company Vale started trading here. However, Vale didn’t issue any new shares in connection with the listing, which has led to low liquidity in the stock. It also means that the potential of the HDR market as a fundraising venue hasn’t yet been tested.
J.P. Morgan, which acted both as the depositary bank and the listing sponsor for Vale, is however optimistic about the development of this market.
“HDRs should continue to emerge as an alternative to ADRs and GDRs, as multinational companies with large existing sales operations in Asia, or those that would like to tap into the growing pool of liquidity in Asia, seek to list on the stock exchange of Hong Kong,” the bank says in the report.
In particular, HDRs will suit companies that are either unable to list common shares outside their domestic market because of regulatory restrictions, or that are already listed in another market.
According to Tse, J.P. Morgan is currently working on a number of HDR prospects, involving issuers both in Asia and in Latin America.
Similar optimism about the HDR market was expressed by Bank of New York Mellon in an interview with FinanceAsia last month. Greg Roath, head of Asia-Pacific depositary receipts at the bank, said BNY Mellon is seeing interest in HDRs from both Japan and Europe.