A 104 million share offering for Korean chip manufacturer Hynix Semiconductor was priced after Seoul's close yesterday (October 26) raising $1.9 billion for the company's bank creditors. The sale of a 23.4% stake was described as a struggle, but eventually came together on the final day of the bookbuild after the leads incorporated a relatively generous discount to counter poor market conditions.
Hynix has not had much success timing recent capital markets deals. Back in July it had to pay a hefty premium for a $500 million high yield bond deal, which has since tightened over 200bp in the secondary market.
This time round it hit the market at a time when equities have been subject to heavy profit taking and many investors have withdrawn to the sidelines of the primary market. Nevertheless, the group's creditors are likely to view their first equity divestment as a singular success. Short term issues concerning the timing of the debt and equity issues are nothing when set against the spectacular returns they have made from a company the market had given up for dead only four years ago.
As one commentator concludes, "The creditor group got Hynix as a penny stock and thought they would have to completely write it off on their balance sheets. Instead it's turned out to be the best investment they ever made. Full marks to them."
In the space of four years, company management and the domestic creditor banks have turned Hynix into a global success story, leapfrogging international competitors such as Micron and Infineon. Such a recovery has been particularly galling for Micron, which failed to buy the whole of Hynix for $3.4 billion in the spring of 2002 and subsequently persuaded the US government to impose countervailing tariffs on the company, which still stand today.
Indeed, Hynix marks a rare instance where it has been domestic creditors that have financially benefited from the transformation of corporate Korea rather then the international private equity groups that poured into the country after the financial crisis. Hynix has seen its stock price re-bound from well below Won1,000 at the end of 2001when the company went into receivership to a high of Won25,550 earlier this summer.
Year-to-date it is up 79.9% and this outperformance provided one of the main complicating factors for global co-ordinator Merrill Lynch and domestic lead managers Daewoo, Good Morning and Woori, plus international lead managers Citigroup, Credit Suisse First Boston and Deutsche Bank. Many investors are said to have felt they had missed the rally and were wary of buying into the stock at its current valuation and at a time when it is difficult to play a momentum trade.
At the beginning of pre-marketing in late September, Hynix was trading around the Won22,800 level. Over the course of roadshows, the stock was volatile, but on a consistently downward trend, dropping to Won21,500 by October 19.
However, it then spiked back up 9% over the course of Thursday and Friday of last week, plus Monday of this week. Specialists say this sudden re-bound almost completely killed the momentum in the order book as most fundamental investors did not want to buy the stock above Won20,000.
What saved them was a renewed drop of 3% on Tuesday and 7.3% on Wednesday, which encouraged some investors back into the book and made the eventual discount look less steep than it would have otherwise been. In the end, the deal was priced at Won19,300 per share, which represented a 7.9% discount to the stock's Won20,950 close on Wednesday.
"Having a 19 handle on the deal was important for investors' psychology," reports one observer. "They feel like they've got a good discount."
In terms of the GDR, there is a ratio of one share per unit, with pricing equating to a unit price of $18.40. When Salomon Smith Barney priced a lifeline equity offering for Hynix in July 2001, the deal came at $12 per unit, but sank below $1 by the year-end.
The international order book for the new deal closed 1.3 times covered with participation by 116 accounts, of which 60% came from Asia and the rest were evenly split between the US and Europe. In turn about 60% to 65% of demand came from hedge funds and 30% to 35% from long-only funds.
International investors were allocated 69% of the deal and domestic investors the remaining 31% after putting in orders for about $1 billion. Says one observer, "Domestic demand was stronger than initially expected, but actually not that surprising when you consider it's been local investment pushing up the stock market all year."
He adds that there was a good spread of accounts, with most orders falling in the $10 million to $40 million range and only four large orders, none of which accounted for more than 10% of the deal.
As a result of the offering, Hynix creditors will see their stake drop from 74% to 51% and the freefloat will effectively double. However, bankers do not believe the deal will be hard for the secondary market to digest since the stock's average daily trading volume amounts to roughly $200 million.
How the creditors handle the sale of their remaining stake will be a major performance driver for the stock going forwards. Rumours abound of plans to sell the stake to a single investor or consortium of investors, thereby ceding management control. However, in some ways Hynix has been a victim of its own success with that stake now worth a hefty $4.2 billion at today's market prices.
At Won20,950 per share, Hynix is valued at around seven times 2005 earnings. This places it at a discount to comparables such as Micron (over 50 times earnings), ProMOS (97 times), Nan Ya (13 times) and Samsung (9.1 times).
On a price to book basis it looks more expensive - 1.7 times versus 1.4 times for Micron, 2.4 times for Samsung and just below book value for the Taiwanese DRAM manufacturers. But specialists say book value is not a good metric for the company in recovery mode, since it has no reserves and had to write down its assets.
On a PER basis and relative to its market share, Hynix, therefore, looks cheap even after factoring in the need for a Korea discount. It is now the world's second largest DRAM manufacturer after Samsung and the world's third largest NAND manufacturer after Samsung and Toshiba.
But many investors and analysts are worried the cycle has turned. DRAM stocks tend to closely track ASP's (Average Selling Prices) and analysts say chip demand tends to peak in the third to fourth quarter and trough in the second quarter.
A number of houses are forecasting a DRAM glut in the first half of 2006 that will put further pressure on prices at a time of seasonally weak demand. Samsung has also re-confirmed its legendary reputation for engaging in spoiling tactics, by signalling its belief that NAND prices will soften on the day that Hynix priced.
Balancing this, Hynix has increasingly surprised investors on the upside in recent years. Third quarter results, for example, beat analysts' expectations, with net profit falling just 3.5% to Won511.5 billion ($489 million).
The company said that DRAM priced had dropped 3% year-on-year, but were up 8% on the second quarter. More worrying, however, was an 18% quarter-on-quarter fall in NAND chip prices.
Countering this, Hynix's NAND shipments rose 80% quarter-on-quarter, nearly double early guidance. Analysts say increasing shipment growth could help mitigate pricing pressure over the next couple of quarters.
The company will also have to deal with new tariff pressures after the Japanese government decided to impose countervailing tariffs. In 2003, Micron successfully persuaded the US government to impose a 44.29% tariff on Hynix's DRAM chips on the basis that the company had been unfairly bailed out by the Korean government as a result of its takeover by the domestic banking sector.
In tandem with Elpida, its Japanese offshoot has now succeeded in persuading the Japanese government to follow suit and a 27.2% tariff will be imposed early next year. However, analysts believe it will only have a marginally negative effect on Hynix since neither tariff applies to NAND chips and Hynix will soon be able to get round the DRAM restriction by shipping chips from its new Taiwan fab in early 2006 and new China fab in late 2006.
Its $1.9 billion equity deal is a landmark for the company and represents the second largest tech deal from Asia this year following LG Philip's $2.189 billion offering in July. Yet bankers say its completion should not be taken as a signal that investors are receptive to tech deals again.
"This was very company specific," says one. "Investors were buying this as a recovery play not as a tech stock. The sector is not in vogue and the focus remains on energy, infrastructure and property stocks in this region."
