Global Bio-Chem Technology Group, the Hong Kong-listed biotechnology firm which became the first company to breach an offshore renminbi bond covenant, is offering to buy back its outstanding bonds at par despite trading in the secondary market at 88.5.
The move is a major bid by the company to preserve its reputation in the offshore capital markets, say dealers – and is a show of financial health to reassure global investors of its stability.
“The feedback from investors is extremely positive, and it is a very positive strategy to strengthen the company’s name in the capital market,” said one high yield debt specialist. “The bonds are trading below par but the advantage of buying back at par does compensate investors for their refinancing risk and is a good gesture … it’s the right thing to do and the company has the ability and the willingness to repay it, rather than just walking away and taking advantage of investors and then try to buy back the bonds at a discount.”
Debt capital market (DCM) sources agree that the move is a valid way for Global Bio-Chem to prove its financial strength. “It’s interesting to note they actually have cash to buy back,” wrote one banker away from the deal in an email, while another wrote, “That’s decent of them to pay 100. Many issuers don’t!”
The analysis comes two and a half months after Global Bio-Chem gave indication that it would breach the covenant of its three-year, Rmb450 million (US$72 million) bond sold May 2011 on technical grounds. On August 21, Global Bio-Chem announced that it was facing a possible breach, marking a first in the offshore renminbi, or dim sum, market. Ten days later it proceeded to fully breach the covenant.
Fixed income sources with knowledge of the event said at the time that Global Bio-Chem was in technical breach of a maintenance covenant after its earnings before interest, taxes, depreciation and amortisation (Ebidta) dropped below a pre-determined level, attributed to increasing costs of raw materials and the drop in lysine products, which is central to its business.
Despite the breach, the company maintained a strong business pipeline and positive balance sheet fundamentals, which never endangered investors to a default. Yet the structure of the covenants means that a change in Ebitda would cause a breach.
Following the announcement, the company was obligated to meet with bond investors over the next step to take, which could have involved full repayment for some.
DCM sources indicate that Global Bio-Chem’s decision to buy back bonds was the result of discussions with key investors.
Throughout its process of dealing with the breach, Global Bio-Chem was been praised it for its forthright strategy communicating to investors. And observers note that this attitude has continued with its buyback programme.
“This sort of thing does help,” said one fixed income portfolio manager. “These things leave a bitter taste if bond issuers try to take advantage of the situation at buying back at discounted levels, and if investors feel as though they haven’t been compensated for their loss. But what we’ve seen all along with Global Bio-Chem is that it is building currency so if it ever wants to come back with a new issue investors will have more confidence in them because they’re showing a willingness to do the right thing now.”
According to Global Bio-Chem’s terms, the company will pay 100 for its outstanding bonds, which have been trading between 82-88 in the secondary market over the past year. It will also pay a HKD0.10 consent fee to investors.
If 75% of investors agree to this tender, the terms of the contract for existing investors who opted out of the buyback also change. Global Bio-Chem would reserve the right to redeem its remaining bonds at any time and would only be required to pay 95.
Legal analysts say this caveat is not meant to be unfair to continuing investors. Rather, it is to incentivise all investors to take Global Bio-Chem up on its offer, as the cost of maintaining the bond would be expensive.
“It sounds like a good deal for a bondholder,” said one Hong Kong-based debt-focused lawyer. “In an extreme case, if the bond were to default then investors would demand the principal and plus any accrued interest. And that’s exactly what investors are getting here.”
A full buyback was not Global Bio-Chem’s only option.
The lawyer explains that that company could have offered a consensus fee of HKD0.05 on the dollar for their burden following the breach. And Global Bio-Chem could stipulate that investors would only receive the fee if they agreed to widen the covenant to be less rigid, hopefully thwarting a technical breach in the future.
Instead the company decided on a strategy that would allow it to remove its bond from the market. The benefits could be to refinance with a cheaper bank loan onshore, and to retreat the dim sum market with hopes of starting afresh in the future.