Exchangeable into YTL Corp upsized to $300 million

Credit Suisse and CIMB replace JPMorgan to complete the Malaysian deal which has been pending for almost 12 months.
A subsidiary of MalaysiaÆs YTL Corporation last night issued $300 million worth of bonds exchangeable into existing shares of the parent company through Credit Suisse and CIMB. Being the first equity-linked issue out of Malaysia this year, and only the third since the beginning of 2006, the deal was well received by CB specialist investors, which allowed the bookrunners to exercise the $50 million overallotment option immediately.

According to a source, the initial base size of $250 million was about three times covered. The deal, which was issued by YTL Corp Finance but guaranteed by YTL Corp, was open for approximately three hours yesterday evening and attracted about 55 investors.

The demand for the infrastructure conglomerate was in stark contrast to the lack of interest for a CB launched by Indonesian coal producer PT Bumi Resources two weeks ago that had to be pulled after investors deemed some of the terms too aggressive. In particular, they objected to the fact that they wouldnÆt be compensated for a possible special dividend following the completion of an ongoing coal mine divestment. Credit Suisse was to have been the sole arranger for that transaction.

The YTL deal had no such potentially upsetting features and was launched with a very reasonable fixed exchange price of M$10. That absolute price was said to have been a request by the company, and based on yesterdayÆs closing price of M$8.10 it translates into an exchange premium of 23.5%. It is unclear when the company decided on that specific exchange price, but with the share price having gained 7.3% over the past two trading days, the M$10 target has come closer.

On the other hand, investors had to accept a mandatory exchange feature after two years if the share price has risen to at least 120% of the exchange price. Investors tend not to like this kind of feature as it doesnÆt give them the option to have the issuer redeem the bonds as with a normal call option. The YTL bonds are non-callable for the first two years.

The zero coupon bonds have a five-year maturity, but can be put back to the issuer after three years for a yield of 2.8%. The yield was fixed at the upper end of a range that started at 2.3%.

Many of the investors bought the bonds on an outright basis on the back of what is perceived to be a strong equity story and a generally bullish mood about the economic growth potential in Malaysia. However, the strong credit helped to attract interest as it does offer real downside protection in case the share price doesnÆt perform.

The bookrunners used a credit spread of Libor plus 70 basis points û asset swaps were provided for one-third of the deal - a stock borrow cost of 5% and a dividend protection that kicks in if the payout ratio exceeds 25%, which at current prices equals a dividend yield of about 1.5%. This gave a bond floor of 91.7% and an implied volatility of 29.8%.

Those terms look steep in comparison with a historic volatility of about 20%, but the share price has become much more volatile over the past six months as YTL has made a series of announcements related to new parts of its business that have the potential to boost the pace of earnings growth.

On Monday, the companyÆs UK-based water supply and waste water treatment subsidiary, Wessex Water, won a $300 million government contract for the clean-up of rivers in Malaysia. YTL is also making forays within telecommunications and recently secured a WiMax license.

YTLÆs profit growth has traditionally been steady but slow as about two thirds of the profit has come from the power generating subsidiary YTL Power. With other parts of the business now becoming more important, the share price has risen some 28% this year

At present, the 260-day volatility stands at about 31%, while the 100-day volatility is just over 40%. Because stock borrow isnÆt yet allowed in Malaysia, this is currently a bit academic, but there is some expectations that the regulators will give the final nod to such transactions later this year, in which case the EB terms will start to look more attractive. YTL is on the list of stocks eligible for short-selling when that happens.

In a report last month initiating coverage on YTL, JPMorgan argued that the company offers an annuity-like earnings stream from YTL Power that is more secure and visible that that of its peers, while its cyclical businesses of cement, property, and construction simultaneously add an earnings uptick on the back of increased investment spending in Malaysia.

ôWorking off a larger and more robust asset base, the quality and sustainability of this next earnings cycle could be better than the 1990s. We currently forecast a three-year EPS CAGR of 19%,ö JPMorgan analyst Lucius Chong told investors when the report was issued.

The investment bank set a target price of M$9.20, but said a re-rating of the stock is possible this year if YTL Power embarks on more M&A activities or the planned bullet train from Kuala Lumpur to Singapore does go ahead. YTL is believed to be a front-runner to win infrastructure contracts for the high-speed railway.

The use of the proceeds wasnÆt specified, but the term sheet said they will be lent on to subsidiaries of the guarantor to finance future investments and projects both in Malaysian and offshore.

Credit Suisse and CIMB got on to this deal only recently after the original bookrunner JPMorgan never launched the offering. The US investment bank was mandated to do an exchangeable of up to $300 million in May 2006 and YTL secured approval from its shareholders for the deal in June last year. After that, not much happened, except JPMorgan was said to be sounding out the market towards the end of last year. The terms on offer were believed to have been viewed as too aggressive, however, and the bonds never hit the market.
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