PT Medco launches debt exchange and high yield bond

The Indonesian oil company launches a consent solicitation and exchange offering, as presentations kick off for a new high yield deal.

In a bid to lengthen its maturity schedule and gear up its balance sheet for capex, Indonesia's third largest oil group PT Medco Energi has launched a consent solicitation and exchange offering for a $100 million issue due March 2007 and will begin presentations on Monday for a new $150 million to $200 million seven-year bond.

The exchange offering was launched on Thursday under the lead management of UBS Warburg and investors have until May 16 to signal their consent to changes in the covenants of the original deal, which the company feels are overly restrictive. In particular, Medco wants to remove restrictions on its ability to build up debt at its subsidiaries.

Under the terms of the original deal, led by Credit Suisse First Boston, Medco is prevented from building up debt at its subsidiaries beyond an initial $15 million carve out. This restriction was included because of investor concerns about Asia Pulp & Paper (APP), which had fallen apart after both the holding company and subsidiaries (Indah Kiat and Tjiwi Kimia) leveraged up to unsustainable levels.

However, the company now hopes to change this part of the covenant package to a more standardized form for high yield bond issues and wants to limit subsidiary indebtedness to 20% of consolidated borrowings.

Investors have three options. For those that choose to keep the original bond issued in the name of MEI Euro Finance, they can either agree to the changes and receive a 1% fee plus an early bird fee of 50 cents, or not agree to any changes and receive nothing at all. Those investors who opt to exchange their existing bonds for a new 144a issue will receive a cash price for their existing bonds and a consent fee of 50 cents if they do so before the early bird cut off date. Those who wait until the new 144a deal is priced around May 16 will simply receive a cash price of 103%.

At the time the exchange offer was launched, Medco's 10% March 2007 issue was trading at 101%, meaning that investors will receive a fairly generous two point pick-up from the exchange. The original deal was priced last March at 98.09% to yield 10.5% or 585bp over Treasuries.

To undertake an exchange offer within a year of launch is considered fairly unusual. Also surprising is the exclusion of CSFB as lead manager, since the bank led the original deal, knows where the investors are and owns 19.9% of New Links Energy, a company which in turn owns 85% of Medco. A further 40% of New Links is owned by PTTE&P, Thailand's largest offshore E&P company, which purchased a strategic stake in October 2001. The remaining 40.1% is held by the original owners, the Panigoro family.

Some have attributed CSFB's exclusion to the company's displeasure at having to undertake such an expensive re-financing exercise within such a short period of time. But in the bank's defense, stringent covenants were needed to sell a deal, which represented only the second major dollar bond from the country since the Asian financial crisis. And even with the covenants, the five-year deal was still extremely difficult to sell, since the Panigoro family is considered to have as many enemies as friends within the Indonesian investor community.

Like much of the rest of corporate Indonesia, Medco has had a colourful history and in 1997 started floundering under a short-term debt load and banking sector unwilling to re-finance it. In was finally tripped up by Rp1.8 trillion ($171 million) in commercial paper, issued by Peregrine and guaranteed by state-owned insurance company Jasindo. Company founder Arifin Panigoro, a leading politician once associated with Suharto and latterly Megawati, was subsequently accused of corruption in relation to the controversial guarantee, but later cleared.

Since a debt restructuring in 1999, however, Medco has taken on board a major strategic investor and maintained a clean balance sheet - it was even in a net cash position in 2001. And as UBS Warburg wrote in a research report last year, "we believe Medco's conservative capital structure and favourable debt maturity profile provide debt capacity for the company to gear up in order to increase its oil and gas reserve."

In 2002, the company initiated an $800 million capital expenditure programme, which will be partially financed from proceeds of the new bond issue led by both CSFB and UBS Warburg. Presentations for the $200 million deal begin in Jakarta on Monday, with formal roadshows scheduled to begin on May 5. Under the current timetable, the company hopes to complete a full 144a roadshows and will bypass Hong Kong in order to undertake presentations in Europe.

Taken together with bonds submitted into the exchange, the new deal should create one of Indonesia's largest outstanding corporate bonds. The leads are also likely to be hoping that a new and significantly more liquid deal will enjoy a better secondary market performance than the original deal, which has underperformed its peers.

At the time B+ rated Medco priced its five-year deal at a 10.5% yield, the B3/CCC rated Indonesian sovereign issue due August 2006 was trading at 7.67%. One year later, Medco was trading at 9.6% bid compared to 5.38% for the sovereign. Likewise, the only outstanding corporate benchmark, a June 2006 issue for B3/B- rated Sampoerna, was trading at 9.16% last March. It now yields 6.25%.

Both the sovereign and Sampoera are considered extremely illiquid. Nevertheless, traders have bid them in by about 240bp on the hope of rating upgrades, whereas Medco has come in just 90bp.

In terms of the exchange, observers have high hopes of success, not least because investors will be fairly easy to track down. The original deal had an order book of just 18 investors, of which 94% came from Asia and 6% Europe. About 60% was said to have been sold offshore and 40% onshore. Since then, observers say that paper has migrated away from Indonesian investors predominantly into Asian private banking accounts and some regional funds.