Home Inns chooses home currency for CB

The deal attracts strong demand thanks to an aggressive expansion story and some scarcity of renminbi paper.
Nasdaq-listed Home Inns & Hotels Management last night raised about $150 million from a renminbi-denominated convertible bond, which met with strong demand despite the volatility in both credit and equity markets. As a result, the Chinese operator of budget hotels was able to exercise the upsize option and increase the deal from the base size of Rmb900 million ($121.6 million) to Rmb1.1 billion.

Sources say many of the investors who came into the deal did so for the equity story, but the thin supply of new renminbi CBs in recent months may also have attracted some CB-focused players. There have only been two deals since July; the other was a Rmb1.32 billion ($175 million) transaction for Fu Ji Food and Catering Services in mid-October.

Home Inns initially considered selling dollar-denominated bonds, but because of the more favourable accounting treatment with regard to the equity option for companies issuing in their functional currency, it eventually decided to go with the renminbi.

CB issuance by Chinese companies listed in the US is an even rarer phenomenon. So far this year only Suntech Power has opted to use convertible bonds to raise funds. The solar cell and modules manufacturer raised $500 million from that deal, which was completed in February. Meanwhile, integrated solar power company Yingli Green Energy Holding said in a filing with US regulators two weeks ago that it planned to sell $150 million worth of convertible bonds together with 7 million American depositary shares offered by a group of existing shareholders. That deal has yet to hit the market though.

The Home Inns CB had a fairly standard structure with a five-year maturity and a three-year put as well as a zero coupon and a call feature after three years subject to a 125% hurdle. Investors have also become quite familiar with the renminbi-denominated and US-dollar settled CB structure since the first such deal was issued back in January, but the Home Inns trade was a bit more challenging to value than usual because the non-deliverable renminbi swaps curve has gone negative with the three-year swaps rate at about minus 3%.

Because this market is quite illiquid, sources say investors valued the bonds using a slightly higher rate of minus 1.5%, however. As with the other CBs that have been issued recently, the bookrunners provided no credit bid but indicated to investors that they felt a spread of 400bp over the swaps curve was appropriate. Credit Suisse and Merrill Lynch were the joint arrangers. The two banks also led Home InnsÆ IPO in October 2006.

The conversion premium was fixed at 37% over MondayÆs close of $38.75, or just below the mid-point of the 35% to 40% indicated range. The yield too was set in the middle at 0.5%, versus an offering range of 0% to 1%.

The company was able to push the price away from the generous end thanks to the strong demand. One source says the final book was about five times covered with 45-50 investors participating.

The companyÆs expansion story is undoubtedly a key attraction and includes a plan to add another 160 to 180 new hotels in 2008. As of September 30, Home Inns had 201 hotels in operation and 96 hotels under development in 77 cities across China.

In a release issued last night in connection with the CB offering, Home Inns said the money raised from the deal will be used to fund further expansion both through the organic development of new hotels under the "Home Inn" brand and through acquisitions of other hotels. It also repeated its goal of having 1,000 hotels under management within the next three to four years.

"We are very encouraged by the development opportunities we are seeing in the markets right now. We also believe our industry will consolidate further," the release quoted David Sun, Home Inns' chief executive officer, as saying. ôWe want to be in a strong financial position to fully capture these opportunities. We are confident that we can continue to expand rapidly while maintaining consistent hotel performance.ö

The positive growth outlook aside, the share price has been very volatile since listing. At present, investors who bought at the IPO price of $13.80 are sitting on a 180% gain. However, the stock has traded as high as $50 and as low as $24 in the past 12 months. The share price tumbled 5% overnight after the CB was completed to a close of $36.81.

The benefit of the CB is that investors will get a chance to participate in any further equity upside, while having some protection on the downside. There will be no real opportunity to trade the volatility, however, because of a limited supply of stocks to borrow.

Based on a credit spread of 400bp over, a stock borrow cost of 5% and a full dividend pass-through, the bond floor is about 94% and the implied volatility just below 30%. The historic volatility is more than twice that.
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