Author: Felix Salmon
Issuer: Ecuador
Deal: bond exchange
Amount: $4 billion
Global coordinator: Salomon Smith Barney
Joint dealer-manager: JP Morgan
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| Festekjian: "we had one chance" | It is the morning of August 23 2000. The prospectus is ready, the leads’ sales teams have been locked into their rooms, the Ecuadoran finance team has managed to keep the details of the deal secret. Michael Corbat, head of emerging-market sales and debt origination at Salomon Smith Barney, gives the order for the bank’s London office to issue the press release.
Ecuador and its bankers now have to persuade more than 1,700 often hostile bond holders to tender their Bradys and Eurobonds for $3.95 billion in new global bonds.
“We had one chance,” says Nazareth Festekjian, the Salomon managing director who was in charge of structuring the deal. “We had to close before the next coupon payment.” And the next coupon payment was only a month away. If Ecuador missed that coupon payment, it would never be able to afford to bring its bonds current, which would scupper the last chance of a market-based solution to the country’s difficulties. “It was very controversial within Ecuador,” recalls Corbat. “We needed $150 million in fresh cash. They were scraping and borrowing.”
When the offer is finally launched and the sales teams are let out of their rooms, the Brady market goes mad. Investors are trying to understand a term sheet bristling with untried bells and whistles such as exit consents, principal reinstatement features and even a smaller exchange offer within the larger one. Meanwhile, the value of the old, defaulted Brady bonds is soaring. By the end of the day, a successful exchange has been priced in.
In hindsight, the biggest risk had been that the market would get wind of some of the offer’s details before it launched. After all, the Brady market is notoriously leaky at the best of times, and Ecuador’s finance ministry is hardly a paragon of professionalism. “If the details of the deal were leaked to the market, and they’re expecting X and you deliver anything less than that, then they are unhappy,” says Festekjian. “The surprise element was very important and critical for Ecuador.”
The bond exchange was the culmination of more than a year of negotiation and execution efforts, during which Ecuador went through five finance ministers and a military coup that overthrew democratically elected president Jamil Mahuad. “This was totally uncharted waters,” says Corbat. “We were very much crafting the road map. You didn’t know how people would react.”
After all, Ecuador’s first attempt at financial wizardry had been roundly rejected by the market. It hadn’t wanted to default: what it wanted to do was get bond holder consent to use some of the collateral built in to some of its Brady bonds to make its coupon payment. Meanwhile, it would use new cash to pay the coupons on its uncollateralized Bradys. This went down like a lead balloon with bond holders, who accelerated Ecuador’s bonds instead, making the full principal amount due and payable immediately.
The received wisdom that bond holders were too diverse and anonymous to be able to organize at short notice was turned on its head. “You can envision a situation where investors will try to form a bond holder group to go against the deal,” says Festekjian.
But that didn’t happen. The exchange offer’s combination of carrots and sticks proved highly persuasive to bond holders, a staggering 97.1% of whom accepted it. Standard & Poor’s gave the country a single-B credit rating, despite the fact that there still was a handful of defaulted securities out there, and creditors who tendered into the exchange saw their new securities outperform just about every other emerging-market instrument over the following months.
There are many reasons why the deal was unique, and it certainly does not pave the way for similar exchange offers from beleaguered sovereign debtors in the future. But the fact that Ecuador managed a bond restructuring at all is reason enough to make the exchange the Latin American deal of the year.
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