Issuer: Jazztel
Amount: €110 million and $100 million
Type of issue: high-yield bond
Date: April 8
Bookrunners: Credit Suisse First Boston, Merrill Lynch
In 1997 and early 1998, before it was virtually extinguished by last autumn's flight from credit, Europe's fledgling high-yield market found the bulk of its deals in telecoms. Now that the market is spluttering back into life, it is no surprise that telecoms deals are again leading the way. The deal that opened the market, for example, was for Dutch communications company Hermes Railtel in December. But the recent deal for the Spanish telecoms operator Jazztel is a little unusual.
Most obviously that's because it is Spain's first high-yield deal. But more importantly, it provides an example of an early-stage borrower raising money successfully by issuing bonds to European investors. Jazztel was formed in October 1997 and only begins offering a service to Spanish telephone customers this year.
The bond issue, which closed on April 8, had two tranches, one for €110 million and one for $100 million. Both were for 10 years, with a 14% coupon, and included warrants for equity. The two bonds combined could convert into a total of 10% of Jazztel's equity.
Jazztel could become the first of a new breed of high-yield issuers arising from the deregulation of the European telecoms market. The issuer's financing and development plans are modelled explicitly on US competitive telephone operators, known as competitive local exchange carriers (CLECs). "We are a US-style telecoms project," says Jazztel's vice-president Miguel Salís. "We have analyzed what other start-ups have done in the US and Canada and are replicating their financing strategy." Like many such North American companies, Jazztel is backed by private equity and is highly leveraged.
Never before have European investors in large numbers been willing to buy the bonds of such a risky venture. In fact, core European investors have proved unwilling to buy high-yield paper of any sort. The hype surrounding the emergence of junk in Europe disguises the fact that until now very little of the paper has found its way into the holdings of European institutional investors such as pension and mutual funds. In the early days, bank proprietary dealing desks were big buyers. And US investors have tended to prop up most deals.
So it was encouraging to the promoters of European high yield that Jazztel sold well in Europe. "Jazztel was an example of European investors taking leadership of a high-yield offering," says James Amine, managing director, head of European high yield, for Credit Suisse First Boston, bookrunner on the deal with Merrill Lynch. "Other recent European high-yield issues have had to rely primarily on the US investors." Amine reports strong demand from European investors, including those in Spain. "We sold it to core buy-and-hold accounts, including retail funds and pension funds," he says. More than half the deal was sold to Europe, the rest to the US.
Salís believes that even when there is strong demand from European investors, high-yield issues still need a US tranche. "These are relatively early days for the European high-yield market and investors look to their US counterparts before they buy into a deal," he says. "If the deal is being bought by seasoned US high-yield investors that gives European buyers a comfort factor."
Spain is not the only country in Europe deregulating its telephone market. Europe is awash with new telecoms companies looking to private-equity investors, small-cap stock markets and bond and loan markets for funds to build the infrastructure that will enable them to compete with national fixed-line operators such as Telefónica, France Télécom and Deutsche Telekom. The Netherlands' Detron Group and Germany's PrimaCom, for example, launched share offerings in February. The UK's Colt raised $1 billion through a combined share, bond and convertible issue last July.
But until now, start-up telecoms projects have not been able to access the bond markets in the way counterparts in the US would. As recently as January, for example, Salomon Smith Barney was marketing a high-yield issue to European investors for CompleTel, a French competitive local exchange carrier, that hoped to raise $300 million. Investors were wary. CompleTel eventually raised $75 million in the yankee market. Now Salomon is hoping to erase the memory of that deal with a European high-yield bond for Jazztel's rival Cableuropa.
One reason for Jazztel's success in attracting European investors is the calibre of its managers. It was founded by Martin Varsavsky, former chairman of Viatel, a long-distance operator based in New York that has expanded aggressively into Europe. Other founding partners include Antonio Carro, former CEO of Airtel, Spain and Optimus, Portugal and CFO Salís, previously an investment banker with Salomon Smith Barney.
The pedigree of Jazztel's managers and the strength of its business plan proved sufficient to allay doubts about creditworthiness. The unsolicited Moody's credit rating of Caa2 the bond received put off some buyers. But Moody's analyst Carlos Winzer believes the rating fairly reflects Jazztel's position. "We anticipate that there will be a number of new operators in the Spanish market," he says, "and the level of competition is clearly a factor which has an impact on a company's profitability. But I think the first operators to market, such as Jazztel and Colt, will have an advantage."
Plenty of investors have certainly been convinced that Jazztel can survive and repay them. The warrants on the bonds are a further enticement. "Most investors were valuing the issue on a total-return basis rather than in terms of a spread over government bonds," says Amine. "Investors were looking for a return on this investment of approximately 20%."
Jazztel will provide high-capacity connections to business customers in large cities only. "Our vision is to provide broadband access via state-of-the-art fibre networks to 100,000 of Spain's largest companies," says Salís. The company's conservative short-term target is to capture 5% of that market.
Immediate financing needs are $600 million. That will come from private-equity investors ($72 million of equity), the high-yield issue and the syndicated financing expected this month. The next stage could be an IPO. Salís has not yet firmed up his ideas about the most suitable market for this. But the company would like to build on the strong Spanish demand for the high-yield paper when the time comes to sell its equity. "We were particularly pleased to see that Spain was the third-largest source of investors after the US and the UK," he says.