Market rally triggers two Hong Kong placements

Li & Fung raises $350 million from a top-up placement, while Morgan Stanley sells $111.5 million worth of shares in China High Speed, allowing the company to partly unwind an equity swap with the bank.

Following a strong day in Asian equity markets yesterday, it wasn't surprising to see a couple of placements taking advantage not only of the gains themselves, but of the momentum created as investors who have been on the sidelines until now are being "forced" to join in to prevent being left too far behind.

Both deals were for companies listed in Hong Kong, where the benchmark index rallied 5.5% to its first close above 16,000 points since mid-October, and were completed after the market closed. Hong Kong sourcing company Li & Fung raised $350 million of new capital from a top-up placement, while Morgan Stanley sold $111.5 million worth of existing shares in China High Speed Transmission, a manufacturer of gearboxes for wind power turbines.

While the two deals confirm a recent trend whereby high-profile, liquid names have no problem attracting demand as long as their offerings are priced fairly, they also suggest that investors are becoming less price sensitive -- something which should help convince more companies and existing shareholders to come to the capital markets.

The China High Speed deal sent a positive signal by being priced at the tight end of the discount range and by being multiple times covered after less than one hour of bookbuilding, while Li & Fung pulled off going out with a tight range to begin with despite a 10.5% jump in its share price yesterday and a 20% gain over the past three trading sessions.

"The discount felt relatively punchy given that the stock was up so much and it felt even more punchy when Morgan Stanley came out with such a tight discount on their deal, but this is a liquid name with plenty of activity every day (the deal accounted for about 13 days worth of trading volume) and in the end, investors just piled in," says one source close to the Li & Fung offering.

The sourcing company offered the shares at a discount between 3.1% and 6.0% versus yesterday's close of HK$24 and fixed the final price at the wide end of that range for an absolute price of HK$22.55. The company didn't specify how many shares it intended to sell at the outset, but rather was targeting a total deal size of $350 million. At the final price this worked out to be approximately 120.3 million shares, or 3.3% of the existing share capital, and translated into a total deal size in Hong Kong dollars of HK$2.71 billion. The proceeds will be used as working capital and to strengthen its balance sheet.

The deal was done through a top-up placement, which means that an existing shareholder sold secondary shares last night but will later subscribe to the same number of new shares at the same price to ensure the money ends up with the company. Citi and Goldman Sachs acted as joint bookrunners for the offering.

The order books were kept open much longer than for China High Speed, which may have been partly due to the larger size -- this was the largest follow-on share sale in Asia year-to-date, not counting rights issues. More importantly though, the bookrunners wanted to give some of Li & Fung's key existing shareholders based on the US west coast a chance to look at the deal. In the end, the offer attracted more than 50 investors and was "comfortably" covered, according to sources.

US-based investors took about one-third of the deal, while the rest went to Asia. Li & Fung is not a big name in Europe and the interest from European investors was always going to be minimal. The total demand was split evenly between existing and new investors and included long-only funds as well as hedge funds and high-net-worth-type money, the sources say.

In terms of investor type, China High Speed attracted a similar mix, but geographically this deal went predominantly to Asia (including Asia-based global funds) with some interest from Europe. A Reg-S offering, the deal wasn't open to onshore US investors, but given that the book closed at 6.15pm Hong Kong time it would have been too early for most US investors to participate anyway. The number of European investors was likely limited by the fact that it was a holiday in the UK yesterday.

The deal comprised 65 million shares, which corresponded to 5.2% of the existing share capital or about 10 days worth of trading, based on the average daily volume over the past three months. They were offered in a range between HK$13.03 and HK$13.30, which translated into a discount of 8.3% to 10.1% versus yesterday's close of HK$14.50.

As mentioned earlier, the price was fixed at the tight end of the discount range (8.3%), for an absolute price of HK$13.30 and a total deal size of HK$864.5 million.

Despite the short bookbuilding, the deal was said to have been more than five times covered with more than 80 investors submitting orders.

Morgan Stanley acted as sole bookrunner for the transaction as well as the seller. However, the shares on offer were part of a bunch of stock that Morgan Stanley ended up with as a result of doing an equity swap with China High Speed in connection with the company's issuance of a Rmb2 billion ($285 million) convertible bond in April last year. China High Speed used half the bond proceeds to buy back shares in the market that they swapped with Morgan Stanley. The US investment bank then did a matching swap with the bond investors to pass on the short position and allow them to create a hedge for the equity portion of the CB.

Because of the sharp drop in China High Speed's share price in September and October last year, which made it less likely that the CB would convert into equity, the company has been buying back part of the CB to reduce its interest costs. As a result of the buy-backs, which have reduced the size of the outstanding CBs to about Rmb1.1 billion, there is consequently no longer a need for as many shares to hedge the outstanding positions. Thus the decision by Morgan Stanley to buy back about 80% of the 81 million shares that it initially received as a result of the swap. The remaining 16 million shares are still held by CB holders in the form of shorts for the purpose of hedging.

In other words, the proceeds from yesterday's transaction don't go to Morgan Stanley, but will eventually end up on China High Speed's balance sheet. However, the US investment bank will receive a fee for unwinding the majority of the swap agreement.

Investors buying the shares last night likely didn't worry too much about where shares came from, although the fact that the company was able to reduce its future interest costs and limit the annual non-cash losses related to the swap agreement ought to be positive. Indeed, China High Speed's share price has been on a steady upward trajectory since it hit a low of HK$4.70 in late October after the company started to buy back its CBs. China is also stepping up its focus on wind power, which is having a positive impact on the company's earnings.

Two weeks ago, the company reported a 139% improvement in recurring net profit in 2008 to Rmb446 million on an 80% increase in sales, which has helped underpin a 20% gain in the share price since then. It added 3.6% yesterday as equity markets in both Hong Kong and Asia as a whole staged a bit of a relief rally after the latest China purchasing managers' index signalled that the Chinese economy grew for a second straight month.

Given the sharp upward push in equities yesterday, it is likely that at least some investors were caught in a bit of a short squeeze and had to cut their losses. However, bankers say that the appetite among investors for capital markets deals is also picking up. And while the number of new share issues may be limited by the fact that many companies are still trading well below their peaks, existing shareholders are expected to continue to take profits whenever they can. Thus, more sell-downs are to be expected. 

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