NWS Holdings raised HK$1.35 billion ($173 million) from the convertible bond market yesterday (Monday) via house bank Morgan Stanley. Proceeds are being used to re-pay debt at the company, which is the second most heavily indebted entity of the New World Group.
In a bid to bring down high leverage, the Cheng family, which owns New World, restructured the group's entire business operations towards the end of 2002 and has recently adopted a variety of debt relieving measures. A convertible by NWS makes a lot of sense in the context of a share price that has rocketed over 350% in the space of a year.
Terms for the deal comprise a five-year maturity, with a two-year put and an 18 month call option subject to a 120% hurdle. The issue was priced at par, with a zero coupon, put price of 99% and redemption price of 97.53% to yield minus 0.50%.
The conversion premium was set at 25% over the stock's HK$10.90 close on Monday. There is also a HK$150 million ($19.2 million) greenshoe. This represents the outer end of a range, which encompassed a yield of minus 1% to minus 0.50% and conversion premium of 25% to 30%.
Underlying assumptions comprise a bond floor of 92.7%, implied volatility of 30% and theoretical value of 104.6%. This is based on a credit spread of 200bp over Libor, zero stock borrow, 3.74% dividend yield (HK$0.40) and volatility assumption of 45%.
After building a book for five hours and waiting for New York to open, the deal was closed one-and-a-half times oversubscribed, with participation from 50 investors. Geographically the book split two thirds Europe and one third Asia.
Specialists say there was assets swap demand for about $70 million and strong interest from fixed income investors on the other side. However, because there is no stock borrow, most funds were preparing to take a long equity position in the instrument, although it is possible to proxy hedge via the company's parent New World Development, which owns a 54% stake.
One of the main problems with NWS is that while the overall group is well known, very few houses cover NWS, including lead manager Morgan Stanley. Virtually all the investors were new to the company.
"This is an impressive result given that almost no-one covers this stock and it's difficult to hedge," says one observer. "What it shows is that investors are still looking for ways to play the Hong Kong equity market and a convertible instrument seems to have more certainty of execution in the difficult market environment we currently face."
Terms were aggressive given that the stock has performed so spectacularly over the past year and upside is capped by the short call option. A year ago, NWS was trading at HK$2.34. A month ago it was trading at HK$8.52 and today is valued at 7.8 times 2004 earnings.
However, some analysts have been arguing that the whole New World group will be re-rated if it can convincingly bring down debt. As of December 2003, the group ran a consolidated debt position of HK$30.1 billion ($3.9 billion), of which HK$7 billion ($894 million) was sitting in NWS.
This equated to a consolidated net gearing ratio of 63%, which the company has pledged to bring down to 40% by June this year. It hopes to achieve the figure through the combination of a rights offering at the holding company New World Development (NWD), the sale of certain infrastructure assets in China and a merger of its bus operations.
High leverage at NWS is a hangover from the group's restructuring in 2002. This was initiated with a view to simplifying New World's structure and matching assets with cash flow. The property assets were placed in NWD, the telecoms assets in New World Infrastructure (NWI) and all the services and infrastructure assets into NWS, which was re-branded from Pacific Ports.
NWS got a lot of the debt, but it also got a lot of the stable, cash generative assets - ports management, toll roads, water projects and construction. Analysts estimate that NWS is the main cash flow driver for NWD.
The company currently has a market capitalization of $1 billion and a freefloat of 50%. On full conversion, the new deal will, therefore, represent about 17%.
Until about a month ago, NWS had a BBB- rating, but strangely for a company that is placing greater emphasis on increased transparency, it chose not to renew it.