Asia-Pacific Structured Equity House
THE MUSCLEMEN - Citigroup dominated Asia-Pacific equity-linked markets in 2006. It finished the year a clear number one, with US$4.2bn of league-table credit spread over 26 deals. The bank outpaced all rivals by a wide margin and, more impressively, cranked out its deals without a single mispricing. For raw league table and execution power, Citigroup is IFR’s Asia-Pacific Structured Equity House of the Year.
Big, strong and effective, Citigroup in 2006 put maximum emphasis on efficiency and results in its Asian equity-linked business, and the firm started the year with its strength fully on display. Bringing the full might of its corporate banking strength to bear in India, the bank left all rivals in the dust by leveraging its vast network of corporate relationships.
There are 9,000 firms listed in India. Most are tiny, highly marginal credits unworthy of even cursory attention. Buried within that mass are hundreds of small but promising companies that are creditworthy and have excellent growth prospects. They are, in other words, ideal equity-linked candidates.
But which companies? Citi is among the few that can confidently read the vast Indian corporate landscape to know which issuers could feasibly be brought to market and where an asset swap might be credibly indicated (or perhaps underwritten).
The Indian CB market comprised 12% of Asia-Pac CB issuance volumes in during the 2006 awards period, and Citi captured just over a quarter of that. That volume is remarkable considering it was done largely in the first four months of 2006 – the market went into hiatus in May after Indian was hit hard by a regional equities market meltdown.
While India continues to be Asia’s most important equity-linked market, investors have become increasingly skittish about the deals brought there. Hedge funds are swimming in expensive Indian paper. It has become increasingly difficult for banks to reconcile issuers’ high pricing expectations with investors’ repulsion for yet another aggressively priced CB from an unrated, unhedgeable Indian credit.
Deutsche and Barclays visibly pulled back from the market when they struggled to sell large deals for Reliance Communication Ventures and Vedanta Resources, respectively. The banks were heavily rumoured to have absorbed big losses underwriting those deals, but they were by no means on their own.
The Reliance and Vedanta bonds just capped a long series of badly executed, over-priced deals in India. Investors were left astounded that banks kept agreeing to underwrite zero-yield, high-premium deals at what were clearly uneconomic levels.
“There is a quote from the movie Scarface – don’t get high on your own supply. A lot of banks forgot that lesson this year,” said Ronnie Potel, Citi’s head of equity-linked origination and execution for Asia.
The pure investment banks such as Merrill Lynch, Morgan Stanley, Goldman Sachs and UBS largely pulled out of that market on the view that the fees did not justify the heavy slogging and risks involved in competing there. ABN AMRO Rothschild also became visibly cautious in India in 2006 on concerns about the quality of issuers in light of their stratospheric pricing expectations.
That has increasingly left the market wide open to Citi. The bank is the axe in Indian credit, and has a vastly better read of the broad swathe of middling Indian corporates that populate the Sensex. No bank better understands the Indian credit universe, which means Citi can bring finely priced deals quickly, and that investors can feel more confident in Citi’s pricing indications.
But Citi brought more to the table than a keen read of Indian credit. It also managed to price a large number of deals in that market without a single execution blunder.
Its closest call was a co-books role on a US$400m CB for Ranbaxy Laboratories, which was reoffered at 99 and traded immediately to 98-1/8. Citi and its co-bookrunners (Deutsche Bank, Morgan Stanley and UBS) took the deal knowing that they would have to re-offer the deal below par, with the view that they could cover the bond within the 1% fee. It was not a particularly shrewd trade but most accepted the theory that the bookrunners got out without a loss.
And elsewhere?
The big question was whether Citi was too dependent on just India, and whether it could be effective elsewhere when that market shut down last spring.
It certainly struggled initially to ramp up its business in other markets, but then Nikko Citigroup, the firm's joint venture in Japan, took up the slack. It priced an impressive number of deals in 2006 including Sanyo Chemical, Ebara Corp and the super-sized ¥150bn (US$1.31bn) Suzuki CB. In a market where the battle lines between domestic and euro-yen CBs are clearly drawn, Nikko Citigroup was one of the few houses to throw its hat into both arenas and succeed.
As sole bookrunner on Suzuki's seven-year offering, Nikko Citigroup steered the deal through a 6% fall in the Nikkei 225 during the marketing period to price at the top of the range with the books eight times covered. Suzuki's plain vanilla, retail focused offering may have lacked a little in innovation but its monster size meant that the $270m institutional tranche was still worth more than many other CBs this year.
Nikko Citigroup cemented its strong position on the domestic scene as senior co-lead on the other mammoth deal of the year, Sharp's ¥200bn seven year offering.
Citigroup also saw its euro-yen business flourish in 2006 with a series of strongly supported converts including Ebara Corp's ¥20.5bn deal in September and Nippon Denpa Kogyo's ¥11.3bn offering in August. With the books covered 10 times and seven times respectively the deals proved the versatility of the firm's equity linked armoury.
The momentum of Citigroup's euro-yen business continued outside the award period with Kenedix's ¥20bn CB in November generating little price movement and a good quality book which was 12 times covered.
Meanwhile, in the Australian market, Citigroup was involved in three hybrid fundings, one of which stood out. The bank, alongside Macquarie, in February priced an A$400m (US$295.8m) hybrid for the explosives firm Orica. The transaction was the first Australian hybrid to take advantage of changes in the credit rating agencies’ treatment of hybrid capital.
The transaction is in most ways was very vanilla – it was a perpetual non-call five with a step-up. But it contained structuring innovations including tweaks on the remarketing mechanism that managed the otherwise binary outcome of calling the hybrid or allowing a step-up in coupon payments. Second, it was the first Australian hybrid to incorporate replacement language, by which the issuer promised to replace the hybrid with an instrument of equal equity credit if it called the deal at year five.
The structuring encouraged S&P to assign an intermediate-equity content to the hybrid. The outcome gave the instrument much of the gearing and ratings impact of equity without the dilution or excessive cost. The deal was shortly followed by a series of similarly structured hybrids in Australia that likewise captured this high-equity characteristic.
That transaction addressed what rivals sometimes identify as a weak spot in Citi’s equity-linked franchise – a lack of innovation. It is clear that the bank can innovate when called upon to do so, but the structuring has to address sensibly an otherwise insoluble problem.
“Across Asia there has not been much innovation in equity-linked,” said Potel. “There has been a long tenor here, or a tweak of some sort there, and sometimes you do need to introduce an innovation to get around a problem. But otherwise you don’t structure for the sake of it.”
Diversity is beauty
In the autumn of 2006 the bank began to show its strength in the wider Asian arena. It brought in quick succession a sole books dual-tranche CB for Singapore’s United Test and Assembly Center. The US$165m CB had the longest tenor (to put or maturity) for an Asian tech issuer this year, where the two tranches both had seven-year maturities and puts in years four and five, respectively.
Shortly thereafter, Citi came out with a US$200m five-year CB for the Taiwanese cable-maker Walsin Lihwa which showed that zero-yield bonds were marketable in Taiwan. The structure is tax efficient and popular with Taiwan issuers, but in the context of rising US-dollar interest rates they had been difficult to bring.
Around that time the bank also secured a US$500m sole books mandate for Malaysian palm-oil plantation operator IOI Corp. The bank came close to launching CBs for Hong Kong/China issuers – such as Shenzhen Investment – but a rising market converted these deals at the last moment into equity deals. Issuers saw the essential logic of capitalising on extraordinarily flush equity conditions.
All said, Citi made its point in 2006, demonstrating that it also had a healthy Asian CB franchise outside India. And the firm enters 2007 with gathering institutional strength. It had better flow business than anyone, and it was proving at last the potency of investment banking arm when combined with the corporate banking operation and credit teams. Always a contender, Citi emerged in 2006 as the champ to beat.
- Jasper Moiseiwitsch, Govinda Finn