By Rashmi Kumar and Pan Yue
An unusual event rocked Asia’s loan market during the coronavirus crisis.
In March – more than a month after the Covid-19 outbreak had begun – new deal launches ground to a halt, site visits were scrapped and a handful of live dollar deals struggled to gain traction in syndication.
Taiwanese banks, which are among the largest pools of liquidity for Asian dollar loans, suddenly found that their US dollar funding costs had soared dramatically over a two-week period that month.
Facing a shortage of liquidity, a group of Taiwanese banks made a daring call.
The syndicate group behind Indonesian company BFI Finance’s $100 million loan successfully triggered a market disruption clause on the deal, which allows lenders to push for better pricing than was originally negotiated: 34.25% of the 12-member syndicate team signed off on the decision, beating the 33% minimum requirement.
This was a big jolt for Asia’s loan market.
The loan market was slow to react to the pandemic when compared to the equities or the bond markets, but when the impact hit, it hit very quickly- Head of loan syndicate for Asia Pacific
“When volatility was at its height in March, Taiwanese banks’ funding costs peaked, so they tried to invoke market disruption on some deals,” says a Hong Kong-based head of loan syndicate for Asia Pacific.
“Everything that happened in March came as a shock. The loan market was slow to react to the pandemic when compared to the equities or the bond markets, but when the impact hit, it hit very quickly.”
Market disruption clauses are seldom triggered, and only under extreme circumstances. But the situation in March, when some Taiwanese banks’ cost of funds shot up from about 50 basis points over Libor to a spread of 250bp within days, forced their hand.
The turbulence was short-lived. Funding costs began to steady from April, and bank treasury departments became more careful in monitoring their dollar reserves. But the implications for banks could be far reaching.
Matthew Liaw, CTBC Bank
Matthew Liaw, head of global structured finance at CTBC Bank (which was not involved in the BFI transaction), says the move to trigger market disruption clauses could affect banks’ relationships with borrowers.
Speaking to Asiamoney at the end of May, Taipei-based Liaw reckons this would be the case particularly when companies are picky about which banks to invite for deals; they may not want to include such banks on the list in future.
BFI’s deal – a $100 million loan split between a one-year and three-year portion – is one of the few loans where the banks succeeded in triggering the disruption clause.
This forced BFI to bolster its first interest payment on the loan, although the increase was by less than 1%, according to a banker familiar with the deal. The company reverted to the original blended margin of 113bp over dollar Libor as banks’ funding costs stabilized.
BFI declined to comment.
Some Taiwanese banks tried to enforce this clause in a handful of other deals as well, but failed to get the minimum approval required. It is clear, however, that the lending behaviour of Taiwanese banks has changed.
Change of approach
Taiwan’s banks have been a regular source of liquidity for Asian loans for a long time, but over the last few years they have changed their approach.
They previously joined deals at a junior level, and often had little or no relationship with the borrowers. But about five years ago, several were burned when they lent aggressively to Chinese privately owned companies doing debut deals. The borrowers breached the covenants on their loans, forcing Taiwanese firms started to reassess their approach.
Privately owned banks, such as Cathay United Bank, CTBC and E.Sun Commercial Bank in particular, started to build credible relationships not only with the borrowers, but also with the large banks arranging these loans.
Some also went from simply participating in deals to leading transactions as part of the bookrunning group or as sole bookrunners.
The outbreak of Covid-19 has put a brake on their ambitions to expand their role, instead pushing them to focus on maintaining a resilient balance sheet.
“Market activities dropped dramatically amid the pandemic,” says Lung-Cheng Lin, senior executive vice-president of corporate banking at E.Sun Bank. “Lockdown orders are imposed in many cities and people are working from home, which slows down business activities in many countries.”
Taiwan’s banks can’t sit on their hands for ever. They need to do international deals, especially as the onshore market is quite saturated- Matthew Liaw, CTBC Bank
In that kind of environment, borrowers are asking to renegotiate terms because of the rapid change in market conditions, adds Taipei-based Lin.
“New deals are either forced to delay launching or cancelled,” he says. “In addition, it is impossible to perform on-site due diligence because of travel restrictions, which makes credit analysis more difficult.”
Taiwanese banks are preparing for the worst. Banks are taking different approaches to syndicated loans, but there is a common theme: caution and prudence.
Lin says that E.Sun is taking risk management very seriously, conducting a thematic review of corporate and credit risk regularly.
At Cathay United Bank, Benny Miao, head of capital solutions department for the Hong Kong branch, says the bank’s lending criteria have been stepped up, with a focus on key relationship names as well as top-tier credits.
He adds that Cathay is still willing to do new loans, but the bank is more selective.
Liaw says CTBC is still assessing whether or not to gradually drop out from new lending to some industries and companies that are vulnerable to the pandemic.
“But given the uncertainty around the pandemic, we will opt for deals with higher spreads and shorter tenors, with more stringent covenants, and with smaller underwriting commitments and final holds,” he says.
“We will also ask: who are the arrangers in a transaction? If a local bank in the borrower’s country has not joined, that’s relevant for us because those banks know the borrower better than us.
“We are focused on portfolio management to manage our overall risk profile and to accommodate new lending capacity.”
Alex Tsai, associate executive vice-president of Bank SinoPac and leader of its offshore banking unit, says Covid-19 has made the deal selection process very difficult.
It certainly doesn’t help that banks across the board have been flooded with requests from companies to waive some of the covenants on their loans, as they try to navigate the woes caused by the virus.
For example, in April, mainland Chinese hotel company Huazhu Group asked lenders for their consent to waive some of the financial covenants on a $1 billion, dual-tranche loan sealed in February. It was seeking approval to cancel two reviews of its leverage ratio and interest coverage ratio.
SJM Holdings – the holding company for the gambling businesses of Stanley Ho, Macau’s casino king who died in late May – was in talks with lenders in early May to cancel two reviews of financial covenants on a HK$25 billion ($3.2 billion) loan signed in 2016.
Indonesian palm oil producer Perkebunan Nusantara III asked lenders on its $390.6 million loan to defer both interest and principal payments in May.
In all these cases, Taiwanese banks formed a large part of the syndicate group.
But these are just a handful of examples.
The real number of waiver requests is much higher, say bankers. Many borrowers are also increasingly drawing down on their existing credit lines in an attempt to build a liquidity cushion for their businesses.
“Banks are dealing with waivers of financial covenants breaches in a number of syndicated loans, or expectations of breaches,” says CTBC’s Liaw. “They are also proceeding with debt restructuring and organizing bailouts for some clients. This means that for new lending, lenders have become more cautious and conservative, with even more flight to quality.”
What does this mean in reality? A few banks are demanding about 10bp more on average on dollar syndicated loans. Others are seeking higher margins, of between 150bp and 200bp, to meet their higher funding costs.
In some cases, ancillary business has become even more important.
“The definition of ‘return’ for us is not strictly about the loan margin,” says Cathay’s Miao. “We follow the global investment banking model, where we look at the relationship. What other business do we get from this particular client? We look at it from a holistic relationship perspective, rather than just from a syndicated or bilateral loan.”
Lung-Cheng Lin, E.Sun Bank
And then there is the headache of dealing with the waiver requests and deciding between a yay or a nay.
E.Sun’s Lin says his firm separates companies into four categories when deciding on their waiver requests.
First are the top-tier companies whose businesses are not affected by Covid-19. The second tier covers firms that have taken some hit on operations but where revenues have declined by less than 15%.
The third category covers businesses where revenues have dropped by more than 15% due to the pandemic; the fourth includes those that were showing signs of stress even before Covid-19.
A large percentage of waivers are from aviation companies, among the hardest hit by the pandemic as global travel was grounded. SinoPac’s Tsai says that aviation companies typically ask for waivers of about three months.
In those cases, his firm tends to agree to the request, but in other situations, SinoPac puts together a medium- and long-term projection for the company.
“We’ll assume it will have a revenue decline of 50% or even 70%,” he adds. “We then see what their financial performance and business will be like, to decide whether to agree to their waivers or not.”
Despite the increasingly conservative approach by Taiwanese banks to lending during the Covid-19 outbreak, they remain an important part of the Asian loan market.
“Sure, they have become more conservative and have been on wait-and-see mode and become more selective,” says the Hong Kong-based head of loan syndicate, “but they can’t sit on their hands for ever. They need to do international deals, especially as the onshore market is quite saturated.”
One area that Taiwanese banks are setting their sights on is leveraged and structured finance, where the returns are juicier than in plain-vanilla deals.
As of the end of May, eight of 28 deals in Asia denominated in US dollars, euros or Hong Kong dollars and used for leveraged buyouts or acquisitions, involved Taiwanese banks.
At the moment, risk management is a priority due to Covid-19. Business development will come after- Lung-Cheng Lin, E.Sun Bank
They contributed 29% of total commitments. That is a jump from 13% during the same period last year and 15% the year before, according to Dealogic.
“In terms of LBO financing, there are only a few Taiwanese banks participating,” says CTBC’s Liaw, “but the syndicate group is growing as lenders get more familiar with structured financings.
“LBO financing is an area of focus for us, as well as solution-driven deals, for example, to meet supply-chain capex needs and acquisition-financing needs.”
In the turbulent market conditions of this year so far, LBO deals have been few and far between, but conversations are taking place behind the scenes as cheaper valuations make companies targets for acquisition or buyout.
Private equity firm MagiCapital, for example, is taking Taiwan-listed On-Bright Electronics, a semiconductor maker, private this year. It is seeking a $206 million loan to support the buyout; Taiwanese banks are playing a leading role in the transaction.
The risks involved in LBOs, however, are much higher, meaning Taiwanese banks are treading carefully, despite their eagerness to widen their portfolios.
Tsai says he favours deals from well-known sponsors with large assets under management and a good reputation. Picking the right sector becomes crucial, he says, with healthcare names holding the most appeal.
Taiwan’s banks have also pivoted over the last couple of years towards working with southeast Asian clients to improve diversification while also reducing their exposure to mainland clients.
That strategy remains important, say bankers. But as firms try to take a conservative approach to transactions and lending amid Covid-19, the focus has changed.
“At the moment, risk management is a priority due to Covid-19,” says E.Sun’s Lin. “Business development will come after.”