Korea Hydro & Nuclear Power (KHNP), a unit of state-run Korea Electric Power Corporation (Kepco), priced a $1 billion five-year bond issue early this morning (Hong Kong time) at the tight end of late price guidance.
Despite the fact that Korean investors were excluded from the primary offering, the deal attracted around $8 billion worth of orders, led by a hefty bid from Asian accounts, according to people familiar with the deal. Irresistible momentum gathered, and the issue turned hot.
Roadshows for the power generating company (genco) kicked off in Hong Kong on June 4, before moving to Singapore, London and New York; but a planned visit to Boston was replaced by a conference call once it became clear how strong the demand for the issue was.
The level of demand suggests that Investors paid little attention to the fact that yields continue to rise in the US government bond market as market participants worry about the level of future US debt sales needed to fund recent federal government fiscal packages.
Responsible for the successful marketing exercise were joint-lead managers Barclays Capital, Citi, Deutsche Bank, Goldman Sachs and Korea Development Bank (KDB). The first four are joint-bookrunners. The final allocation placed bonds with 306 accounts, with 42% of the notes distributed in Asia, 32% in the United States and 26% in Europe.
Initial price talk at the end of last week indicated a spread of 400bp over the five-year US Treasury yield for a $500 million issue. But that quickly tightened to a range of 362.5bp-375bp yesterday, as lead mangers apparently tried to get approval to raise the deal size.
The Reg-S/Rule 144A deal was launched out of the company's $2 billion global medium-term note (GMTN) programme, and will be listed on the Singapore Stock Exchange. It pays a semi-annual coupon of 6.25% and was reoffered at 98.935 to yield 6.503% to a maturity date of June 17, 2014. That translates into a spread of 362.5bp over the benchmark five-year US Treasury note, which was fixed at 97-03+ and yielding 2.878%, and 309bp over mid-swaps.
Korea's five-year sovereign issue, sold in April as part of a $3 billion dual-tranche offering, was trading at 245bp-235bp over the US Treasury yield yesterday, while so-called "quasi-sovereigns", KDB and Export-Import Bank of Korea, which both issued five-year deals at the beginning of the year, were quoted at a mid-spread of 350bp. Posco's five-year corporate bond with the same tenor was bid at 390bp.
Brayan Lai, credit analyst at French investment bank Calyon, said about the revised pricing yesterday that "for fair-value purposes, it is expensive; however, markets and liquidity have just been too strong and have been defying gravity".
He added that: "Ideally, a nice 30bp premium would give the new bonds a 6.9%-7% yield." So, a yield of about 6.5% "is below its theoretical curve", when compared with outstanding -- albeit illiquid -- issues from the other Korean gencos [interpolating from their 2013-dated issues].
But Kepco's other five gencos are fired by fossil fuels, predominantly sourced from Australia, Indonesia and China. Kepco was restructured in April 2001, and the idea is those five gencos will be privatised. KHNP, on the other hand, will remain a subsidiary of Kepco because of safety concerns and its strategic importance, and so is likely to retain the sovereign credit rating.
Lai pointed out that KHNP also came inside Industrial Bank of Korea's (IBK) 2014 paper -- which was issued at a premium of 556.6bp over US Treasuries in April, but was bid at 408bp yesterday -- despite the latter's policy bank status and a law that maintains it that way. "At best," he argued, "despite being a wholly owned genco of Kepco and having a very important strategic status in Korea, the deal should have been priced flat with IBK."
On the other hand, he conceded: "KHNP has scarcity value going for it and is also a way for markets to get direct exposure to an Asian nuclear utility."
Fund managers took the bulk of the issue, with 57% allocated to them, while private banks bought 19%, pension funds and insurers 13% and commercial banks 11%.
Lai expects "a lot of fast money to pull out, although a bond such as this is still okay for traditional buy-and-hold accounts. And given the company specifics and overwhelming demand, it should still perform in the secondary despite the major revision in guidance".
But he points to a caveat. "If another quasi-sovereign corporate from Korea comes to the market and pays more [and the pipeline remains crowded], then we could potentially see some switching happen." KHNP's US dollar offering is the ninth so far this year by a Korean borrower, and others, including leading banks Shinhan and Woori, are planning to tap the capital markets soon.
Although there isn't a "change of control covenant" included in the GMTN offering circular, given the sensitive status of nuclear power throughout the Korean peninsula, a divestment by Kepco is unlikely in the near future.
At the beginning of the month, rating agencies Standard & Poor's and Moody's Investor Services, assigned the equivalent stable credit ratings of A and A2 respectively to KHNP's GMTN programme.
In a note on June 2, S&P said that the "rating on KHNP reflects the company's strong position as the nation's sole nuclear power generation company, producing about 40% of Korea's total electric power. Furthermore, the rating is underpinned by robust and stable cash flow generation and strong governmental support, which is based on the company's strategic importance to the nation's electricity supply".
The agency believes that KHNP is expected to remain a wholly owned subsidiary of Korea Electric Power Corp [also rated A], "owing to the Korean government's desire to maintain tight control over base load capacity and the nuclear generation sector. Environmental and safety risks associated with nuclear power are mitigated by a favourable regulatory regime and government-backed indemnity from nuclear liabilities. Both Kepco and the Korean government have a strong incentive to find solutions to any nuclear issues that may arise in the future", it said.
It warned, however, that "these strengths are offset by the company's continuous need for massive capital investments, as per the government's long-term electricity supply plan. The company is also inherently exposed to the environmental and safety risks associated with nuclear power generation".
Although KHNP has low levels of debt, with a total debt-to-capital ratio of 0.1% as of December 2008, debt levels "are expected to rise as KHNP plans to considerably increase annual capital expenditures over the next few years to between W5 trillion ($4 billion) and W6 trillion. This is compared to its average annual capital expenditure over the last three years of about W1.9 trillion", said S&P.
