Chinatrust Commercial Bank set a new landmark for Taiwanese issuers late on Thursday (March 10) when it priced its long awaited perpetual step-up ten deal. Launch of the transaction had been delayed for over six months while the bank negotiated with the regulator over the contentious issue of a 20% witholding tax on coupon payments. It finally managed to get round the tax by securing approval to launch the deal through its Hong Kong branch office.
Funds will be used to bolster the bank's capital ratio at a time when consolidation in the Taiwanese financial sector is clearly gathering momentum as the government begins to offload its huge stakes in the financial sector. In order to remain Taiwan's largest private sector bank, Chinatrust has consistently kept itself at forefront of the consolidation process, most recently acquiring Grand Commercial Bank in 2003 for $655 million.
As result of the new upper tier 2 deal, it will increase its CAR from 10.7% to 12.2%. Tier 1 will comprise 8%, lower tier 2 - 2.7% and upper tier 2 - 1.5%.
The Baa1/A-BBB- rated deal (Moody's/Fitch/S&P) was led by JPMorgan and increased from $300 million to $500 million on the back of a mammoth $4 billion order book. Pricing was fixed at 99.118% on a coupon of 5.625% and yield of 5.743% to yield 128bp over Treasuries or 86bp over Libor. Fees on the 144a deal were 50bp.
About 155 accounts were allocated paper of which 38% were Asian, 32% European and 30% from the US. There was no demand from Taiwan as subordinated debt deals are deductible against capital for local banks.
In terms of mandatory deferral of interest payments, Taiwan uses the CAR test. This means interest is deferred if the CAR falls below 8% and the bank has negative reserves for more than six months. In the event of liquidation, the perpetual notes will rank pari passu to preference shares.
The two nearest pricing benchmarks are a perpetual step-up 10 deal for Japan's Chuo Mitsui Bank rated Baa2 and an extendible 30-year for Korea's Shinhan Bank rated BB+/Baa3. At the time of pricing the former was trading at 90bp over Libor and the latter at 88bp over Libor.
This means that Chinatrust priced only 3bp through Shinhan despite a two notch rating differential in its favour. However, the two are not exact comparables since Korea allows dated capital structures, which typically enable issuers to secure more aggressive pricing. Since Shinhan launched its $300 million hybrid tier 1 deal in late February, it has seen it tighten to a low of 82bp over Libor, before widening slightly in the run up to Chinatrust's offering when Treasury volatility pushed the market back out.
During Friday's trading, Chinatrust's deal traded in to 123bp/119bp over Treasuries and 78bp/74bp over Libor.
What the deal has in its favour is rarity value since it is the first of its kind from a market where there has been virtually no offshore debt thanks to the government's witholding taxes. And yet Taiwan should be a core holding for investors given its status as Asia's third largest banking market after Hong Kong and China, with total assets of $743 billion as of December 2004.
In the equity markets, Chinatrust has also long been a favourite with investors, who like its consumer banking franchise including a dominant market share in credit cards. Its current QFII holding is more than 50%, whereas that of the state-owned banks is negligible. Chinatrust is widely considered one of Taiwan's best managed banks and is currently the largest private sector bank by assets and the eighth largest overall with a 5.1% market share.
However, on the downside, Taiwan presents a potential minefield for unwary investors since the consolidation process is likely to be long drawn-out and the eventual winners are by no means clear. During investor roadshows Chinatrust management pointed out that potential acquisitions would likely dilute the bank's asset quality over the short-term and that merging with a state-owned bank would not be easy due to labour issues and a different cultural mindset.
Furthermore, the bank is currently owned by the Koo's family who may be wary of losing management control and do not have that much slack based on their current shareholding of 25%. But some would argue the family does not have much choice now the government has begun to dispose of its stakes in the financial sector and push consolidation more aggressively among the country's 49 banks.
Government-owned banks currently control 60% of banking sector assets. The government has said it hopes to halve the number of state-owned banks from 12 to six by the end of 2006 and went on a global roadshows to London and New York last week to emphasise the point.
Chinatrust also needs to bolster its franchise in Taipei, where the country's wealth is concentrated. Only 29 of its 101 branches are located in the capital city, where it ranks twelfth. Fubon is now top thanks to its acquisition of Taipei City Bank, which bumped its Taipei branch network up to 85.
In an influential report published in December McKinsey & Co highlighted the challenges and opportunities of the consolidation process. "While overall there are too many bank branches in Taipei, the branch networks of individual banks have yet to reach the scale required to tap the full potential of the market," it said.
"As the total number of branches scales down from 850 today to 500 in the near future, the number of branches that individual market leaders will need will rise considerably to about 75 to 100 for each of the four to seven large domestic and regional champions that should emerge post consolidation. Getting to that point, however, will require a lot more M&A transactions than the market has seen so far."