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Wednesday, 22 November 2017

Latin American Loans Roundtable 2007: Part 2

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IFR: What other sectors are particularly sensitive to the economic cycle and might undergo a rebalancing in their pricing equilibrium?

Rubio: I think construction, down the road, maybe. We’ll see.

IFR: What have been the benchmark transactions so far this year and which ones will be a gauge for sentiment in the second half?

Rubio: Well, I guess you have the Farac [the US$3.7bn peso-denominated syndicated loan via Santander that will be used to fund construction company ICA and Goldman Sach's US$4.02bn winning bid for what is the first of a series of toll-road concessions to be award by Mexican rescue trust Farac].

That is definitely going to set the pace, in many aspects, because it’s infrastructure finance. Personally, I think it’s very well structured. They are looking for a number of lenders, whose natural market is not the peso market.

So that’s going to be really interesting. It will be a new benchmark at least in Mexico, not only in terms of syndicating deals with Mexican base lenders, but this might open up opportunities for bringing in a bunch of international players to fund in pesos. That says a lot about the strength of the Mexican currency.

Donovan: It will also be a test on how well the swap markets work, and the depth of the swap markets. They are going to rely quite a bit on that.

Jakob: I would somewhat disagree that this sets the tone for the market. There are so many unique aspects to the Farac deal that it’s almost like an event unto itself. Gerdau's US$2.75bn term facility [which will help fund its acquisition of Chaparral Steel] is more indicative of what is happening. It is much more mainstream. I look at the Farac deal as unique as it is a toll-road transaction in pesos.

Yes, it will be a benchmark in whatever form or shape its gets done. It will say something about a very specific market.

But in the broader market, the tone is being set more by what you have going on in the general market such as Gerdau. Gerdau is the first time that you’ve actually seen a deal coming out of Brazil where prices are higher than in previous deals.

Vorona: I think Gerdau is based on CVRD, and the bridge exercise and the export finance was all based on the size of the facility, which was very big. So in that sense, the pricing was also adjusted. It was considered a good price for CVRD.

And Gerdau is pretty much the same. It's a pretty big deal, and of course it is based on CVRD's structure, except that this time around, instead of doing the bridge followed by the takeouts, we decided to do the bridge and the permanent financing at the same time. That is also very helpful for the rating agencies, and the possibility of whether or not they will downgrade the company. But yes, I think that Gerdau is definitely a benchmark, but led by CVRD’s experience.

Jakob: Yes I agree, but it is more directional in terms of pricing parameters, and so on.

Bouazza: I think you’re right. All eyes are on Gerdau, just because of timing and this is the first deal of size.

Donovan: Yes this is the first sizable deal since we have had this disruption in the market.

Rubio: As Katia and Marcia are saying, it’s a unique situation due to this moment in the market. Obviously if the circumstances were different the price would be different as well.

Bouazza: Part of what we’ve seen before the market disruption is that acquisition-led financing is always going to receive a different type of pricing structure, because you are doing it under a different time frame, different circumstances, and different amounts.

Now relatively speaking US$2.75bn is not a big size when compared with CVRD, but it is big for Gerdau. The last loan we did for them was US$400m. You do have the market element, but I think this is a deal structured for today. I don’t think that necessarily it’s a deal where we felt we needed to add so many basis points to make it today's new pricing. So that’s the little distinction. It’s priced for an acquisition finance, for sure, and that’s where the price parameters come from. It is really too early too tell, but we’re very pleased with the reception so far.

Donovan: The market is talking very positively about it. They have taken the pricing discussion out. You priced it where it should be, given what’s going on in the market, and any comments I get out of seeing new management on this, it’s nothing to do with the credit, nothing to do with the strategic acquisition. It’s the liquidity in the market, and that’s the concern coming out. But I think, again, you’ve taken the pricing off the table, because it’s an excellent pricing, and very fair pricing.

Bouazza: Keep in mind too, this is a solid structure, with the pre-export finance on most of the tranches that has stood the test of time, even when Brazil was experiencing less ideal moments. I think the market likes the structure to start off with. This was a good combination. Anyway we can come back in a month and tell you.

IFR: When the Chaparral Steel acquisition was first announced, JPMorgan provided about US$4.6bn in commitments and there was talk about possibly doing global benchmark bonds. It is now a US$2.75bn package that has come to the syndicated loan market via JPMorgan, ABN AMRO and HSBC. How have the borrower's views changed and is a bond still on the table?

Rubio: There’s a bunch of ideas. The company will make a decision depending on how the market behaves, so to speak, in the next few months.

IFR: Are there any other transactions done before the market turmoil that stand out?

Molina: I will say that more than a particular transaction, what we’re facing right now in Latin America is a different market than the one we saw one or two or three years ago. The diversity of deals that are out there is much more complex. We don't only have the high investment grade companies going out to the market now. We have the tier twos in Peru and Colombia which are more active. We have leveraged financing that we didn’t see before in Latin America and that we were starting to build up.

Again, with leverage it is going to be very interesting to see how it works. It’s much more structured than in the US. The participants are mainly banks, so it’s going to be interesting to see if they’ll continue to be open for that type of transaction. And then we’ll have high grades in Chile and Mexico to see what type of pricing they are going to get. And there is the tier two [names and countries] such as those in Peru and Colombia, so it’s going to be interesting to see.

IFR: Any particular transactions that stand out on the leveraged side?

Molina: Well, we have mentioned Lamosa and Lamosa went very well. Let’s see, going forward, what type of multiples and leverage we can finance only with banks, or if new investors will come to the region, like we saw in Lamosa. And that’s going to be interesting.

Wilds: Well, Ontario Teacher’s not a new investor to the region, right? They just did a very interesting trade.

Gracia: I thought that was a trend that we have been seeing in our market. We’ve been seeing new names coming to the market, both for consolidation or just to raise money, and probably that trend will continue. Banks will continue exploring opportunities with new issuers, and my guess is that everybody will continue trying to look for these new second-tier companies that the market has been trying to develop, but it hasn’t reached a level that people had been expecting.

IFR: The second tier market is on hold then?

Gracia: It has been put on hold but I think everybody was expecting the second tier market to develop faster than it did.

IFR: Are there particular reasons why that second-tier market hasn't developed that quickly? Is it mostly because of the recent market pullback.

Gracia: No, because, at the time, it was just that most of the banks continued to concentrate on the investment-grade, top-tier clients, although there were many economic incentives to get into second-tier names. But in my opinion most banks continue to be focused on top names.

Bouazza: What we consider in our market as second-tier names, or slightly more leveraged names, may be smaller companies but they are doing well and are well banked locally.

So our own banks are our main competitors in getting more of these names to the syndicated loan market. If they can lend US$50m–US$100m to the company, most of them don't see why they should bother doing a syndication. So most companies would rather just take the money, not bother with the additional documentation and the market elements of it.

And that has actually been the trend, and I believe that is one of the main reasons why that second-tier sector has not become mainstream in our business, as opposed to the top names that require size and that is where our market comes in.

Donovan: And most of these kinds of issuers generally need local currency financing. The depth of the local markets has been a tremendous foundation for the whole region.

Radzyminski: However, I still don't think it has grown as we expected, but over the last two or three years it has grown a lot. I have definitely seen the second-tier market growing a lot with more players. We will now have to see if they’re going to continue, and that’s a big question mark. Companies are trying to get more sophisticated in order to go to the international market and eventually to issue a bond.

IFR: What about local currency financing? How has that developed and what direction is it taking?

Molina: Well, we have very strong local markets all around the region: Mexico, Chile, Peru, Colombia and Brazil. They have liquidity in the bank market locally, so it’s an important source of financing for companies. Definitely I agree with that. That's what stopped the tier-two companies in the past few years coming into the international market. I see those second-tier companies only making opportunistic forays – for example, making an acquisition when liquidity in the local market is not enough, or when the price makes more sense internationally. But otherwise, they will have access to very strong financing locally.

Gracia: It will be interesting to see how the local markets react to this volatility. For instance, in Brazil you used to see some of the local banks doing transactions without covenants, at very tight pricing and being able to hold large amounts of the deal. It will be interesting to see if they will be affected, and if there will be turnaround as the international banks have experienced.

Radzyminski: I think that Argentina has already been affected in the local market. Definitely. You see that a bank that used to send proposals for three to five-year money is not available any more.

Tenors are shorter. Liquidity is concentrated in a handful of banks that had a big balance sheet in pesos and maybe they now only do two-year money -- if they can do it. So definitely, in Argentina, I see a change.

IFR: And any other countries like that? Or is it just Argentina in Latin America that’s really been hit so far?

Radzyminski: I’ve seen it mainly in Argentina, so far.

IFR: What about the entire Farac bidding process, which I understand will have generated up to US$40bn–US$50bn in financing needs by the time it is finished. Is there enough peso liquidity to absorb all that?

Rubio: The first concession was thought to be the most interesting package and that's why you saw so many heavy bidders. I think we have to wait a little bit until the first Farac financing package is absorbed by the local market. I think it’s a huge chunk to be digested.

Jakob: I think you have to look at the timeframe in which the whole thing is rolled out. However well the current deal does, if the programme is rolled out over a three-year period, you might have different market environments. So I think it's like looking into a crystal ball. There are so many variables over the rollout period of the entire programme.

If another deal was to come, say, in three months, I think the relevance of the current deal would certainly be there in terms of pricing and structure. If it’s in six, nine, or 12 months, it might be one data point, but not as relevant. So I wouldn’t dare to make a prediction about how much it impacts the entire privatisation programme. It is too hard to predict how the markets will look in six to 12 months time.

IFR: My understanding is the government’s obviously being very cautious and will not rush the Farac bidding process?

Bouazza: They have to be, especially if it is more geared towards the peso market. There has to be a certain discipline on the part of the government and on the part of the banks bringing these projects. Again, there is the peso loan market, and there is a peso bond market. But both of them are limited in terms of depth.

So it’s unlike the US market, where you can go out and maybe increase the price. In the peso market it is a question of time. So regardless of price, you still have to spread issuance out over a timeframe in which the market can absorb it, whether you’re bringing it to the loan or to the bond market.

So, as long as these projects are brought in a disciplined manner, then we may see it move along successfully. It's the day when somebody tries to unload two projects of size in the same market at the same time. That's when we’re going to start running into some hurdles in the capacity of the peso market.

The peso market has grown significantly in the last two or three years, and it continues to grow. But what Afores [pension funds] or banks can put into it is still limited per year. So you have to work around these restrictions. As long as the deals are structured well, Farac will eventually get done. It is just a matter of spreading this amount out over time. So if you’re talking about bringing all of the US$40bn, that’s an issue. But I think if you spread it over one per year, or one every couple years, I think that should be fine.

 

Click here for Part Three.

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