Gorilla of Hong Kong's wake-up call

Hutchison Whampoa's Frank Sixt is unlikely to forget October in a hurry. Instead of waxing lyrical about rolling out 3G services to select customers in the UK and the opening of a couple of 3G stores in the UK and Italy, the Hong Kong conglomerate's group finance director spent much of his time explaining his company's botched foray into international capital markets.

Late on September 30, Sixt took the unprecedented decision to cancel Hutchison's planned e1.5 billion multi-tranche bond issue. Against a backdrop of falling global equity markets and widening corporate bond spreads, he was left with little choice. But such treatment by the market was a sharp shock for an Asian corporate that is used to getting exactly what it wants.

As one analyst puts it: "The big gorilla of Hong Kong got a wake-up call. It now knows that, unlike in the domestic arena, it can't bully the international market into giving it the price it wants."

Other large Asian corporates planning similar ventures would be wise to take note of Hutchison's experience.

In public, Sixt, alongside his three joint lead arrangers - Deutsche Bank, HSBC and JPMorgan - lays all the blame for the pulling of the deal on market conditions. "The markets were horrendous," says a banker from one of the leads. "And far higher rated names were pulling deals, so you shouldn't look into it too deeply." Companies such as Volvo and Hewlett-Packard also had to postpone transactions.

It may also be the case, though, that Hutchison and its bankers between them misread the mood of the euro and sterling market.

Despite Hutchison's attempts to change the perception many in Europe hold of all telecommunications companies, and even though the conglomerate's activities are much more broadly based than many rivals', it is still viewed primarily as a telecom that's based in Asia with a huge $10 billion 3G exposure.

"There is very bearish sentiment regarding its overseas investments into 3G," says Cusson Leung, a conglomerates analyst with ING Barings. "The major assumption is that if 3G is not successful it will be a major drag on the company's cashflow which will have a long-term impact on Hutchison itself."

A banker from JPMorgan who worked on the bond deal admits: "We had not appreciated how much investor education was still required."

It's a surprising admission because it should have been obvious to all those concerned in the deal. The share price is down just under 40% year to date and Standard and Poor's and Moody's both have its single A/A3 rating on negative outlook.

Just speaking to a few investors in Europe would have given an idea of the amount of uncertainty about Hutchison's telecoms ventures. One investor, for example, believes that Hutchison is too bullish about its 3G operation at a time when operators such as KPN and DoCoMo are writing down 3G investments. "We want a bit more reality," he says. "Hutch can't continually be in the press every day with a view so far removed from what everyone else thinks and not be viewed as somewhat strange. They tell us they will make a business out of it but I'm the investor and I want to be paid for it."

The failure to educate the market meant that the only way Hutchison would have got the deal done was if it had been prepared to pay the price of a bombed-out European telecom.

But the diversified global conglomerate - which has major interests in ports, property, retail, manufacturing, energy and infrastructure as well as telecoms - did not want to do that. So now, behind closed doors, questions are being asked about who was to blame.

Hutchison's aim in tapping the euro and sterling markets was to broaden its investor base. With many of its assets now in Europe because of the large investment in 3G and considering its e1.3 billion acquisition of Kruidvat, a Dutch health and beauty business, that looks sensible.

Yet even several bankers involved in the deal are said to have been worried that entering the euro and sterling markets would be ill-advised given the level of market volatility.

Jason Carley, Merrill Lynch's head of fixed-income research, suggests why. "To go into the euro is something that has to be considered very carefully because there haven't been that many Asian issuers going to it before," he says. "And since the euro market is less developed for Asian borrowers you need to have more positive market conditions to get a deal done."

Ivan Lee, head of regional debt research at Salomon Smith Barney, agrees. "Tapping the euro market to broaden its funding base was exactly the right thing for Hutchison to do. But when markets are volatile the euro is a lot shallower than the dollar."

That was indeed the case. But as many participants in Hong Kong's financial sector will tell you, there is very little upside to be gained from telling Hutchison's management what it doesn't want to hear.

The head of debt capital markets at one of the lead banks, who doesn't wished to be named, explains very cautiously why his firm didn't advise Hutchison against going into these markets. "We were of the understanding that that's what they wanted to do and that it wasn't open to question," he says.

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Pressure from the banks?
There is another interpretation of events, however. A conglomerate analyst from a US house reports that Don Roberts, Sixt's number two, was on the telephone to him a few days after the deal was pulled. "I asked him what the hell they thought they were doing in the market at this time," says the analyst.

Roberts, he says, told him that the banks pushed Hutchison forward despite the corporate not being comfortable. "He said Hutch's management wanted to stop everything earlier but that their advisers said that the markets were not that bad and that they could continue."

Rival bankers suggest that a deal would have had more chance of success if everyone concerned had homed in on the small number of Asian investors that can take debt denominated in sterling and euro and had used that bid to drive the pricing into Europe.

Even after an extensive roadshow in Europe the deal failed to pick up the necessary momentum and the European book of demand remained weak, making pricing a challenge.

Following the tour, the leads set the price range for the e1 billion 10-year tranche at between 215bp and 225bp over Euribor and for the £300 million at 220bp to 230bp over sterling swaps.

Pricing was tricky because most of the issuer's liquid bonds are in dollars and held by Asian investors with a favourable view of the credit. But euro investors apparently concluded that European credit spreads had moved out to a point that meant even at these levels Hutchison wasn't great value.

"It's a single A name on a negative outlook and doesn't offer anything different from what you can get on your own doorstep," one banker says. "So the investor will always choose the single A from Germany rather than from Hong Kong. And also bear in mind that European investors have seen the telecom story blow up in their faces so they want to be paid for the risk."

It seems that those working on the deal may have become nervous about its prospects much earlier than any of them still care to admit.

On CNBC, a week before the proposed launch, a banker pointed out that in the secondary market Hutchison's bonds were trading at 250bp above treasuries.

As soon as he returned to his office he received a telephone call. "There was a guy from one of the leads on the line telling me to stop being so hostile towards the transaction," he says. "I told him that I wasn't because I don't see the point of dumping on a deal on TV.

"The moment a lead manager starts taking swipes like that, you know that they are in trouble. They were already looking for scapegoats for why it was failing."

Hutchison still persevered, aware that this might be its last opportunity to raise money in the euro market this year or until its 3G business was a proven success and before it was possibly downgraded to a BBB issuer.

Although most bankers agree that Hutchison made the right decision ultimately to withdraw from its planned issue, it's not without costs, says one head of debt capital markets. "That's because by pulling back it shows that they didn't have enough demand and they also didn't have a clue," he says. "Now that's not good for Hutchison because it has to go into defensive mode because it still has a lot of debt coming due and still faces the same pressures as before."

Over 60% of the company's total borrowings of $20 billion are coming due over the next four years. This includes the $3 billion exchangeable bond next September. But Hutchison has a liquid balance sheet with around $13 billion of cash, money market securities and high credit quality bonds.

Danie Schutte, a conglomerate analyst with CLSA, says: "Next year it has HK$23 billion (US$3 billion) to repay and it has the cash to do that. The following year it has HK$20 billion to repay and it has the cash to do that. It's in an extremely comfortable position to be in."

Does Hutchison's failure to complete its euro market deal raise the risk of a credit crunch for corporates as a whole in the region? Other Asian companies have less impressive balance sheets than Hutchison, after all.

However, because the region restructured so slowly following the 1997 financial crisis few corporates were ever in the position to get caught in the trend of gearing up the balance sheet. "We are not going to see a funding crisis," says one analyst. "There are not many that need to raise money and those that do are sovereigns. The corporate sector is in decent shape and there isn't a huge amount of debt coming due."

Quality will win out
The region's bankers also refuse to believe that just because Hutchison's deal was negatively perceived it has unduly affected international sentiment toward other Asian issuers. One banker, plainly desperate for a revival of deal flow, says: "Yes, markets are volatile but the markets remain open and will continue to remain open for high-quality issuers."

That's good news for Posco, Korea Development Bank, Korean Ministry of Finance, China Development Bank and PCCW, for example, all of which are rumoured to be looking to get bond deals away in the next few months.

Hutchison provides some lessons for any corporate from the region that is seeking to raise debt soon. "Issuers can't be arrogant," says a banker. "They need to know exactly the market they are capable of issuing in and be ready to jump very quickly. It's a window-driven market now, and sometimes the window doesn't stay open very long."

Hutchison Whampoa, which is a financially sophisticated and well-reputed borrower in Asian markets, is all too well aware of that now. And already some bankers believe that it is only a matter of time before it returns to the markets just to prove that it can do so.

Others, however, believe it would be well advised not to return until everyone has forgotten about its embarrassing last attempt.

That could take some some time.