Yue Yuen pockets $361 million from equity and CB sale

Strong demand boosts the size of the convertible bond by 84%. The share component attracts less interest.
Hong Kong-listed athletic shoe maker Yue Yuen Industrial has raised $361 million from a combined sale of new shares and convertible bonds, which was the first such trade in Hong Kong since the beginning of 2004.

The Hong Kong-dollar denominated offer, which was completed last Friday, came on the heals of a strong run-up in the share price over the past four months and only six months after the controlling shareholders cashed in part of their holdings, which likely contributed to the somewhat lukewarm reception for the top-up placement. The CB, though, was in great demand which allowed sole bookrunner Merrill Lynch to increase the original size by 84%.

The bookrunner also attached an upsize option of $39 million to the offer, which, if exercised, will more than double the initial bond size. Sources familiar with the deal say investors subscribed to close to five times the amount of bonds available, which meant the company could have raised the entire amount through convertibles alone.

However, it obviously had its mind set on putting some equity on its books right now and, according to a source, it also wanted to broaden is shareholder base in the US. To achieve this, the bookrunners kept the order book open through the US trading day û on the east and west coasts - and also for a few more hours early Friday to catch any Asian accounts that might have missed it the previous day. In the end, the books closed at 10.30am Hong Kong time on Friday.

The fact that the company is after equity was also evident by the fact that bonds have a low conversion premium and an early issuer call after only one year, subject to a hurdle of 120%.

The term sheet that went out after the market closed on Thursday said the company was looking to raise at least $125 million from the share sale and $125 million from the convertible, but would total a combined minimum of $300 million. In the end, it sold $130 million worth of shares and $231 million worth of bonds, representing about 8% of the company.

The placement attracted 20-25 investors and about two times the initial amount of shares offered, which allowed it to be priced roughly at the mid-point of the offered price range for a 3.96% discount to ThursdayÆs closing price of $24.

This left the price at HK$23.05. The 43.88 million shares were offered in a range between HK$22.80 and HK$23.30, or at a discount of 3%-5%.

The zero-coupon five-year bonds, which have a three-year put, were then priced with a conversion premium of 16.05% above the placement price, or towards the bottom of the 15% to 20% range where they were marketed. The yield was fixed at the top of a 1.75% to 2.50% offering range. The bonds were sold at par.

While the wide-end pricing seemingly ran counter to the strong demand, one observer notes that the size of the bond issue was significantly increased while the original terms were kept unchanged. About 40 investors bought into the bonds, which were not offered to onshore-US investors. Consequently, 70%-80% of the demand came from Asia-based accounts with the remainder split between European and offshore US investors.

About 50%-60% of the share placement went to onshore US investors with the rest ending up in Asia. European-based accounts were fairly absent, the source says.

The CB assumptions included a credit spread of 110 basis points over Hibor, which was based on an exiting convertible issued by the company in 2003 through Credit Suisse. That bond, which was partly put back to the company last year, still has some $225 million outstanding and trades at about 110-120 basis points over the Hong Kong interbank offered rate.

Merrill Lynch was said to have provided asset swaps for about 30% of the original size at 110bp, but there were also other offers in the market at between 100 and 110bp, which would have made investors fairly comfortable about the credit risk. There is also quite active lending in the stock which kept the stock borrow cost at 0.75%. Investors will be compensated for a gradually rising dividend payout ratio that equates to a yield of about 3.3%.

This gave a bond floor of 91.5% and an implied volatility of 25%, which was slightly below the 100-day volatility of 27% and in line with the 50-day vol at 24%.

The decline in the oil price would have helped attract investors to both the placement and the CB. Yue Yuen has a high sensitivity to the cost of oil which is the base for many of the raw materials that the company uses for its shoe manufacturing. But one observer notes that the companyÆs recent move into retail businesses is also seen as a positive.

ôThere are good prospects for the company to grow its business in China and the move from being a pure manufacturing-focused company to one which is starting retail operations in the Mainland could lead to an expansion of (price) multiples as well,ö he says.

As of the end of March, the company had 600 self-run and 200 franchised shops in China. It also had about 1,800 distributors for its three licensed brands for Converse, Hush Puppies and Wolverine in the Greater China region.

The company, which makes shoes for Nike, Adidas and Reebok among others, is also in the process of expanding its manufacturing capacity in Indonesia to compensate for European Union anti-dumping duties on footwear made in China and Vietnam from the start of April.

In the nine months to June, 2006, it posted a 17.2% rise in net profit to $266.3 million. Turnover increased by the same percentage to $2.74 billion.

According to the term sheet the money from the placement will go towards capital expenditures, business expansion, repayment of existing debt as well as general working capital.

The combination sale was clouded in some early mystery as the term sheet said Citigroup was involved as a joint lead manager and would get 15% of the economics. Citigroup denied that this was the case, however, and when the final term sheet was published on Friday, CitiÆs name was no longer on it. According to sources, Citigroup was among a number of banks pitching for the bond issue and while it didnÆt win, Yue Yuen was said to have requested that the US investment bank be included because of a close relationship between the two.

Some sources said Merrill had invited Citigroup on board as a bookrunner, but requested that it didnÆt market the bonds, at which point Citigroup said æno thank youÆ. The reason why its name went on the term sheet anyway is still unclear, although one can suspect that the bankÆs strong presence as an arranger of CBs in the public markets this year, including a few combined equity and CB offerings out of India, would have played a role.

The most recent concurrent equity and CB sale in Hong Kong was arranged for the Shangri-La group in February 2004 by JPMorgan, although by the same CB bankers who are now working for Merrill Lynch.

FridayÆs placement price was virtually identical to the HK$23.10 at which the Tsai family, which founded the company back in 1988, sold $167 million worth of secondary shares at the end of April. At that time the discount to the market price was 5.3%. The share price fell 6.8% on the first day after that placement and then dropped further to a low of HK$19.90 in June.

Since then, it has bounced back with the rest of the market and is now up 10.8% year-to-date. The gains were especially strong in the two weeks leading up to September 21, when the stock closed at a record high of HK$25. Those gains were driven primarily by a more than 10% decline in the oil price to about $60 from $67.32.

Yue YuenÆs shares were suspended from trading on Friday to complete the placement, but the convertible bond was trading at about 100.25% to 100.75% of face value in the aftermarket. Whether it can hold that going into this week will depend on whether the share price can stay above the placement price this time.
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