After competing head to head with Sinopac Financial Holdings to launch the next finance convertible from Taiwan, Chinatrust successfully managed to clear a $350 million offering yesterday (Monday). However, it only managed to do so after considerably scaling back its ambitions to the extent of cutting the issue size in half and pricing a defensive deal at the wide end of terms.
For the nervous lead manager JPMorgan, it was a bold move to try and bring a deal in a market, which is clearly very clogged with paper and especially given its ambitions to build market share in Taiwan. Recent deals have been badly mauled by the market and another set back, or the nightmare scenario of a competing deal on the same day, would have not only dealt a blow to the lead manager's fledgling reputation, but undoubtedly closed the market down until after the summer.
But convertible bankers universally praised the structure of the deal, which was described by one participant as a "necessary gift for investors." Successful execution was aided in part by movements in US Treasuries and a very flexible borrower, which was prepared to amend terms. It also benefited from a strategy, which aimed to start small in the hope of building momentum, then increasing the deal up to $500 million and pricing at the tight end of terms.
But what pricing and the final distribution pattern show is that investors remain extremely wary even when the terms are extremely cheap. Consequently, with books closing just a couple of times oversubscribed, it was decided not to force additional paper onto the market, but wait and see if secondary market trading remains stable before exercising a $50 million greenshoe.
Terms for the BBB-/Baa2 rated deal comprise a five-year maturity with a zero coupon, a 20.3% conversion premium to an NT$30.9 close and a yield-to-maturity of 4.17% or 90bp over Treasuries. This compares to an indicative premium of 19% to 24% and a yield of 3.70% to 4.20%.
The deal is also callable after year three subject to a 130% trigger and has a three-year put priced at 113.18% and premium redemption at 112.9%.
Underlying assumptions comprise a bond floor of 96.2% (96.2% to 94.8% pre-marketed), implied volatility of 22% (20% to 25%) and theoretical value at 104.5%. This is based on a credit spread assumption of 160bp over Libor, zero dividend yield (there are full dividend protection measures), 5% stock borrow cost and volatility assumption of 30%.
As the stock has only been trading for a month, historic volatility assumptions are difficult, but observers say that Chinatrust Commercial Bank, which provides 90% of all revenues to the new holding company, typically traded around the 40% range.
The standout aspects of the transaction are the high bond floor, cheap equity option and generous yield, which would have been up to 40bp wider had US Treasuries not come off over the last month. As one Asian convertible head comments, "Four equity points for three years. Deals don't come much cheaper than this, but investors are very concerned about downside risk and this was what was needed."
Similarly China Development Financial Holdings (CDFH) priced a $450 million deal at the beginning of last month with a marginally higher bond floor of 96.4%. However, in a bid to marry cost-effective financing for the issuer with cheap terms for the market, the deal had a one-year puttable structure, which enabled the issuer to secure a zero yield.
But as one observer explains, "Investors are very conscious of how quickly the premium amortizes for names that are low volatility and difficult to hedge because stock borrow is limited. With the one-year deal for CDFH, they only had 12 months to amortize 3.6 points, whereas here they have three-years to amortize 3.8 points."
In terms of volatility, Chinatrust priced slightly wider than Fubon, but inside the levels of both Cathay Financial Holdings and CDFH. Fubon, for example was trading at 25.3% at the time of launch, while Cathay was on 18.2% and CDFH 19.6%.
Given the lack of borrow and stock trading history, one house commented that while the valuation appears reasonable, "We recommend some caution to hedge fund investors at the upper end of the valuation range."
At the time of Chinatrust's launch, Fubon which opened the sector in early April with a highly successful $420 million deal, was still trading above par at 102.25% to 103.25% and on a bond floor of 97.03%. Like most Taiwanese convertibles, however, the deal has shed most of its gains and is down from a 107% level just a month ago.
The other big difference between Fubon and Chinatrust is the number of investors that participated. Whereas Fubon secured 200 accounts, Chinatrust secured roughly 40 accounts for a similar issue size. Observers also report that the book was highly concentrated with about 10 anchor orders and majority distribution into Europe.
One key factor in being able to secure a couple of key investors was a roadshow the company embarked on last week. "A number of accounts met the management and felt the deal was being priced in the right way," says one observer. "They decided it was a smart strategic move to buy a company they liked at a time when the markets are tough and they would get additional value."
On full conversion (pre shoe), the transaction represents 6.44% of the equity capital of a group which has a current market capitalization of $4.4 billion, but a relatively large free float (roughly 60%) and high QFI holdings (30%). Unlike its predecessors, Chinatrust also offers almost pure commercial banking exposure.
Owned by the Koo group, Chinatrust is Taiwan's largest privately-held bank; the ninth largest overall by assets; the largest third party distributor of mutual funds and; the largest credit card issuer, with a 16% market share. It also has one of the lowest NPL ratios (3.1%) in a banking system marred by deteriorating asset quality.
Funds are being used to build up the group's capital base and fund acquisitions to increase market share. Pre-deal the group had a total CAR of 10.3% of which tier 1 comprised 7.5%.