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HBOS hammers out capital structure in style

01 Mar 2006

2005 was a key year for UK-based bank HBOS. The issuer set out to optimize its capital structure and successfully achieved this by launching a number of eye-catching transactions which were praised by market participants. And indeed, they voted HBOS best financial institution of the year in EuroWeek's 2005 Top Borrowers' Poll. Hélène Durand examines the issuer's strategy.

Overall, HBOS brought £27bn worth of term funding in 2005 in a wide variety of asset classes. The financial institution was active not only in the senior market but also public MTNs, bank capital, RMBS and covered bonds. As far as its capital management strategy was concerned, HBOS started a share buyback programme to repay capital to its shareholders.

"Our capital profile was conservative and we felt that HBOS was under leveraged versus our peers," says Richard Shrimpton, head of treasury capital at HBOS in London. "As a result, we looked to tier one issuance as way of increasing our gearing. The key trades of 2005 were about all about capital management."

A £750m core tier one perpetual non-call 10 preference share transaction priced in April was one of the highlights for HBOS.

A two-pronged approach to the market was what made the issue so innovative. Indeed, HBOS was selling the bonds to both the institutional and the retail investor base. "We went through a comprehensive roadshow which incorporated visits to regional stockbrokers across the UK in order to capture both the institutional and retail audience," Shrimpton says. As a result, 15%-20% of the transaction was placed in retail hands, "a huge achievement in the context of the deal", Shrimpton adds.

The issue made sense from both a regulatory and accounting perspective. In UK regulator Financial Services Authority's eyes, for the bonds to be eligible as core tier one, they had to take the preference share format. Furthermore, there was a real incentive for HBOS to remain in its base currency from an IFRS hedge accounting point of view.

The Eu750m upper tier two perpetual non-call 10 for Clerical Medical, which was the largest perpetual hybrid issue in euros by a UK insurance company when it came, was another key transaction. The proceeds of the issue were used to refinance a £500m inter-company contingent loan from parent company HBOS.

"Insurance reforms in 2004 meant that insurance companies could tailor their capital structure in a way similar to banks. The proceeds of the transaction allowed us to repay a contingent loan back to the parent, therefore bolstering HBOS's capital ratios," Shrimpton says.

Again, the issuer went through a comprehensive roadshow throughout Europe, explaining the purpose of the deal. When Basle II is fully implemented, the deal will count as 50% tier one and 50% tier two capital.

"HBOS's appetite for innovation was reflected in the Eu750m upper tier two transaction launched in the name of Clerical Medical which released key tax efficient ratings and regulatory capital for the parent bank," says Siddarth Prasad, head of the financial institutions group at Merrill Lynch in London. "This was also the first banc-assurance capital deal under the new regulatory framework. The transaction was a great success and attracted Eu1.4bn in demand. Lloyds TSB trod a similar path a few months later, thereby highlighting the success of this transaction. The transaction was also used to reprofile Clerical Medical in the capital markets and the result is a credit that now performs as one of the best in class trading through peers such as Aviva and Allianz."

Having tapped both the sterling and euro market for capital, HBOS turned to the dollar market in September of last year. In an innovative move, the bank priced a dual tranche 144A perpetual tier one non-step-up preferred transaction, which included a non-call 10 piece and non-call 30 tranche.

"We received specific investor feedback asking for the non-call 10 to have discreet calls as it made the bonds more manageable for investors after year 10. We had the flexibility in our documentation in order to do so," Shrimpton says.

Away from the bank capital arena, HBOS's strategy was, as Simon White, senior director, MTNs and senior funding at HBOS, says, "to manage our issuance so as to be seen as not doing very much, when actually we were doing quite a lot."

HBOS printed £7bn of senior debt throughout the year, £2bn of which was in structured note format. The issuer did not issue any senior transaction in the dollar market and only printed a Eu1.25bn seven year in May. "The transaction was done at a time when volatility had subsided but there was still some execution risk and investor feedback drove us to print an FRN instead of the fixed rate issue we had originally planned," White says.

Looking at the year ahead, HBOS is planning to continue its share buyback programme and capital structure optimization. As for the senior world, HBOS is expecting to do a little more in the way of senior transactions as the curve flattening deters some investors from the structured note market. 

01 Mar 2006