Use with caution: SBLCs a help, not a cure, for CB jeebies
Bankers have begun using standby letters of credit (SBLCs) to price convertible bonds coming from sectors that might otherwise make investors a bit jittery. The tactic works when used responsibly, but bankers need to avoid it for companies that have no business being in the capital markets.
It is always nice to see a new type of borrower in the equity-linked sector. At last investors get some diversification from the run-of-the-mill China tech story that has tended to dominate new issues for the past year or so.
Recently that reprieve came in the form of a deal three weeks ago from China Yongda Automobiles Services Holdings, which priced a Rmb1bn ($161m) five year put three convertible bond. Notably, the deal came with an SBLC from DBS, which was a bookrunner alongside UBS. Without it, the bond couldn't have been priced — the company operates in China’s struggling automobile sector.
Yongda’s deal was followed by Taiwanese solar cells manufacturer Neo Solar Power Corporation just a couple of weeks later. This borrower raised NT$3.6bn ($120m) on July 10. And it too used an SBLC, this time provided by ING, a bookrunner alongside Daiwa. As with Yongda, Neo Solar's sector has been going through a rough patch thanks to an impending US anti-dumping ruling, which could see new duties imposed on the firm.
So far so good for SBLCs, then. Issuers get their cash, banks that stump up the SBLC get a bigger slice of the deal and investors go home safe in the knowledge that the risk they have bought into is rather better than the underlying stock would suggest.
The SBLCs don't magically make those companies completely safe, of course — there's still plenty of equity risk associated with them, even if the credit bit of the structure is taken care of. After all, China will continue its crackdown on car sales in its bid to clear up corruption, congestion and pollution, while the US anti-dumping decision will come out on July 24.
But nor are SBLC-backed deals mere examples of smoke and mirrors, to be automatically shunned by sensible investors. Neo Solar, for example, is Taiwan’s largest solar cell maker and also the fourth largest in the world in 2013, according to a study by market research and consultancy firm NPD Solarbuzz. Yes, revenues fell 16% in June, but it racked up record sales the month before.
There might be regulatory uncertainty, but Neo Solar is still a sound company belonging to a sector that is expected to grow strongly in the coming years. The World Trade Organisation (WTO) has recently ruled that previous tariffs imposed by the US on Chinese solar panels imports had been improperly applied — a decision that could have a huge impact on the impending US anti-dumping decision.
Against that background, issuing an SBLC for Neo Solar looks like it makes a lot of sense. ING is helping a firm that is experiencing short term volatility, rather than a long term decline.
The trick for bankers looking to help other issuers is to stick to these principles. Rather than being tempted to start sending out SBLC docs to all and sundry, they need to be responsible enough to differentiate between those that need a helping hand and those that should be pushed away.
If they don't, it won't be credit enhancement that investors see in an SBLC, but a warning sign.