Two of the best-known UK-based brands turned to the high-yield bond markets last week to shore up their finances in the wake of the economic damage caused by the coronavirus pandemic.
Rolls-Royce and Jaguar Land Rover both approached the market with the same aim – to boost liquidity and term out debt.
"Both credits are doing what prudent companies need to do, especially those facing more uncertainties," said Vivek Bommi, senior portfolio manager at Neuberger Berman.
However, while both companies have experienced difficulties since the onset of the pandemic, Rolls-Royce was already in a weakened state beforehand. Investors, therefore, see a lot more riding on the Derby-based aero-engine manufacturer's minimum £1bn-equivalent bond.
The bond funding is the first part of a £5bn capital raise that is seen as crucial to the company's survival.
"It's [a] name that's got some serious problems and it's a question of whether or not they can buy enough time to sort them out," said a high-yield investor.
The company and its bankers spent the second half of last week locked in calls with investors ahead of the funding that could include US dollars, euros and sterling, targeting long five-year and seven-year maturities. The deal is expected this week.
IN AND OUT
Indian-owned luxury car manufacturer Jaguar Land Rover, meanwhile, was in and out of the market in two days, raising US$700m through a five-year non-call two issue on Wednesday – although not without offering a yield of 7.75% to compensate investors for what remains an uncertain outlook for the company.
Still, the speed at which lower-rated Jaguar Land Rover (B1/B/B) was able to raise its funds, in stark contrast to the time being needed for Rolls-Royce (Ba3/BB–/BB+), is an illustration of the distinct problems facing the two companies.
Rolls-Royce's fortunes are linked to the aviation industry, but with long-haul travel remaining unpopular, it's hard to see how its finances can quickly recover. Jaguar Land Rover, on the other hand, has seen its sales begin to rise in recent months, boosted by a pick-up in demand in China.
Businesses that saw demand slump following the outbreak of the pandemic are now falling into two camps, said a second high-yield investor – those with clear survival issues and those that are simply suffering from short-term volatility.
"JLR is in the latter camp. Covid-19 has been horrific for car demand and production – but do we think there will be less car use over the next five years? Probably not," said the investor.
"But for Rolls-Royce, the question is: will long-haul air travel ever recover in the same way?"
CASH CUSHION
In the face of similar demand shocks, US corporates have issued record amounts of debt in both investment-grade and high-yield markets during the pandemic, to raise a cash cushion and take out upcoming debt maturities.
European-based companies, however, have been slower to come to the capital markets, preferring instead to seek state aid in the form of loans backed by government guarantees.
But more Rolls-Royce type deals could emerge, especially from consumer-related companies that have seen their finances collapse because of government-imposed lockdowns.
"We've been surprised and a bit disappointed by the level of activity in Europe," said a senior leveraged finance banker.
"But we might see a mini wave of rescue financings in the next two quarters, where these kind of consumer-facing businesses come back to the market after tapping government programmes, because they are slower to recover and more challenged than people thought."
Such deals will not be easy, though, given how exposed markets remain to further coronavirus outbreaks, as well as political and economic uncertainty in the US and elsewhere.
TIMING, TIMING
Rolls-Royce's capital raise, for example, has been expected since July. The delay has been painful for the company, which declared a record loss before tax of £5.4bn in the first half of the year, and has seen its market capitalisation halve to £2.5bn.
"From a high level, Rolls-Royce is a little late," said Bommi. "When you look at what has been going on in credit markets in the US, when the window to issue debt opened up, it's been a non-stop rush. Companies have been extraordinarily proactive."
The cost of waiting can be seen in secondary levels. In July, Rolls-Royce's €550m 1.625% May 2028s traded at a yield of about 3%. They are now at 4.5%, according to Tradeweb.
On the flipside, Jaguar Land Rover was seen by investors as being more pro-active even after the company decided against a US dollar offering in February, which would have been its first in almost three years.
At the time, concerns over the impact of Covid-19 on the company's supply chain and production soured investor interest in a possible eight-year bullet note, which had been talked in the 7.5%–8% range before being shelved.
"In February, the world was right at the beginning of Covid-19. While we saw production halts in China, we had no idea what was going to happen in Europe and the US," said Ilana Elbim, senior credit analyst at Federated Hermes.
"We've since seen a very fast recovery [in production numbers], and the situation is completely different in terms of unknown issues."
COVID IMPACT
Financial performance at Jaguar Land Rover was severely impacted by the pandemic through June.
A sharp drop in sales figures resulted in revenues falling to £2.859bn in the first quarter, down from £5.074bn year-on-year, according to an investor presentation.
That drove a post-tax loss of £648m compared with a post-tax loss of £402m in the same period last year.
However, conditions have improved in recent months with 98% of global dealerships open as of July 31, and manufacturing has resumed across all of its sites, Moody's said.
The company also has around £5bn of liquidity and expects to be cashflow positive for the remainder of the fiscal year, though challenges other than Covid-19 still need to be overcome.
"Notwithstanding Covid, Jaguar Land Rover does have a lot of headwinds as they're trying to reposition their portfolio and electrification. They are going to be consuming a lot of cash," said Bommi.
The company is also exposed to Brexit negotiations between the UK and EU, which could have an impact on tariffs, the value of sterling, and supply chains.
