Coal prices in China have dropped since the beginning of the year but Yanzhou Coal still managed to price its first ever $300 million hybrid note on Thursday, receiving an orderbook that is nine times oversubscribed.
The perpetual bond, which is callable in year two, marks Yanzhou’s first foray into the dollar market since 2012 when it raised a $1 billion dual-tranche note. The transaction also caught a good window when 10-year US Treasury yields dipped to the lowest levels in six months, syndicate bankers said.
“Broader market conditions are looking more conducive right now and I do expect more deals to come to the market,” said a syndicate banker. “We expect to see more investment grade names coming and high-yield is going to be more sporadic.”
Ten-year US Treasury yields dropped 4.5bp to 2.49% on Thursday and even touched an intraday low of 2.47%, which is the lowest since October amid speculation of impending ECB monetary easing as European growth flails, according to Bloomberg.
The Eurozone’s first-quarter growth revealed that the Italian economy unexpectedly contracted 0.5% year-on-year, dragged down by manufacturing data, while France stagnated after a revised 0.2% gain in the fourth quarter of 2013 amid tax increases.
This is in sharp contrast with Germany, which accelerated from 0.4% to 0.8%, reflecting the divergent fortunes of the Eurozone economies.
Coal industry down-cycle
Although the rates environment is favourable for Yanzhou’s bond issuance, China’s coal industry is not.
Miners in the world’s largest coal-consuming country are struggling as excess supply depresses prices. A new tax on the sector, likely to take effect soon, could also increase pressures further, squeezing out small or weak producers, according to Fitch in a note on May 14.
“While Fitch expects coal prices to stabilise as customers start re-stocking and more of the smaller miners in China close, market conditions are not likely to improve meaningfully in the next 12 to 24 months,” said Edwin Lam, primary analyst at Fitch.
“Fitch believes cost control is the only lever coal producers still have to weather the weak market conditions over the next two to three years, in the absence of any strong policy support to curb cheaper coal imports,” he added.
Moody’s has also placed Yanzhou’s Ba1 on review for a potential downgrade due to the fact that the company’s credit profile has weakened materially because of higher-than-expected debt level at end-2013. This was a result of significantly higher level of total capital expenditure, and the difficult operating environment for the coal sector.
Overall debt has risen to Rmb55 billion ($8.8 billion) from Rmb41 billion in 2012. Yanzhou's capex in 2013, including acquisition costs, was Rmb12.3 billion, double that of the company's earlier guidance.
Nonetheless, the perpetual bond provides additional liquidity to Yanzhou to weather the more challenging business conditions and reduces refinancing pressure on the company for the next 12 months, Fitch notes.
According to the China Coal Industry Association (CCIA), China Coal Price Index plunged 17.3 points year-on-year to 150.1 points on April 25, while combined first-quarter profits of major coal miners fell 41.2%.
Strong order book
Despite the challenges, Yanzhou’s perpetual note received a positive response from investors, achieving a total order book of $2.7 billion from more than 150 accounts, according to a source close to the deal.
This is because investors are comforted by the fact that the company has a strong incentive to redeem the hybrid securities on the first call date, which therefore means minimal equity content, Standard & Poor’s said in a note on May 14.
The perpetual notes have an additional 500bp step-up coupon — in addition to an initial spread of 682.9bp plus prevailing two-year UST — if they’re not called in year two, according to the term sheet.
Also, rarity factor plays another strong role in supporting the transaction. “It’s an industrial name that is non-real estate, so investors obviously do get to diversify their portfolio,” a source close to the deal said. “It is also a state-owned enterprise name. From a credit perspective, investors are generally comfortable with that.”
According to Dealogic data, the metal and steel sector accounts for less than 1% of total Asia ex-Japan dollar bond volume, which is currently at $85 billion year-to-date. The finance and real estate industry dominates the region’s dollar bond market with a market share of 32.9% and 16.5% respectively for the same period.
Yanzhou priced the notes 30bp tighter than its initial price guidance of 7.5%. Comparables such as Chalco’s existing two perpetual bonds both callable in 2017 were used and were trading at a yield-to-call of 6.25% to 6.37% before announcement, according to a source familiar with the matter. Yanzhou’s outstanding senior notes expiring in 2017 were also used as comparables and were trading at a yield of 5.19%.
Asian investors subscribed to 85% of the offering, and the rest went to European investors, according to a term sheet. Fund managers bought 64% of the paper, followed by private banks 22%, financial institutions 5%, insurers 4% and corporate plus others 5%.
In secondary market, Yanzhou’s perpetual bonds have traded up to a cash price of 101.40 from par, indicating continued strong demand for the offering.
Yanzhou Coal Mining, the third largest coal producer in China, is 56.5% directly and indirectly-owned by the Yankuang Group, a state-owned enterprise that is wholly owned by the Shandong Provincial State-Owned Assets Supervision and Administration Commission.
Credit Suisse, Deutsche Bank and UBS were the joint global coordinators and bookrunners of the offering.