German SME high-yield retail platform criticised

Author: | Published: 15 Jul 2011
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Stuttgart Börse’s fledgling BondM platform has worried lawyers due to its ability to issue non-investment grade debt direct to retail investors.

The BondM platfiorm, launched in May, gives German mid-cap companies having trouble accessing bank finance the ability to sell bonds to retail investors directly, without the costs involved with having an investment bank underwriting the issue.

Issue sizes tend to be under €100 million, although Air Berlin launched an 8.25%, €150 million issue in April which was oversubscribed, indicating an increasing popularity for the market.

Documentation and covenants are also kept to a minimum to keep costs down.

Marc Plepelits of Shearman & Sterling in Frankfurt said that keeping covenants to a minimum may make the bonds easier for retail buyers to understand, but non-investment grade issuers can create problems.

"I’m not sure the retail market really appreciates the risks they’re taking with those issuances, especially without the covenant protection," said Plepelits.

He compares BondM to an equity market. "They have no covenant protection, and they’re relying on the research that’s in the market on the issuer," he said.

Issuers do need to draft a prospectus and require a rating. However a rating may be obtained from a small regional agency as opposed to a Moody’s or a Standard & Poor’s, and can be fairly generic and short.

Removing the gatekeepers

One bankers’ counsel was concerned that non-investment grade companies could issue what are effectively high-yield bonds to a retail market who may not have the wisdom or time to understand the level of due diligence or attend relevant roadshows.

"There’s also a wonderful pricing upside for the issuers because they can sell it to retail who really don’t know how to price it," said the counsel.

With the large underwriting banks effectively removed to save costs, Hendrik Haag of Hengeler Mueller in Frankfurt said a crucial protection has been removed from the issuing process.

"Stuttgart is doing away with the costs of the gatekeepers in the form of the underwriters, who would normally do a much stricter test on the issuer," said Haag.

However Haag notes that these large banks rarely work on deals below €100 million, so these issuers normally wouldn’t be able to access the debt market without the BondM platform.

Issuers do use financial advisers, which tend to be smaller German banks such as Close Brothers. However the fact that the larger German banks are not involved in deals in their own backyard is telling, said the bankers’ counsel.

"I thought that was an area best left to the German banks if they wanted to play as they understood the consumer protection environment better than we do," said a bank counsel. "But seemingly they don’t want to play."

The counsel added: "If it’s something that the Commerzbanks and the Deutsche Banks don’t do, you’d be fairly sure there’s a good reason for that."

Doing a Murdoch

The German market however does differ from other European markets, as retail investors are relatively comfortable buying bonds. Retail investors compare bonds with overnight deposits and short-term bank products.

The BondM platform therefore brings together investors looking for yield, and companies looking for cheap funding.

However for one in-house lawyer, the idea of mixing retail investors and non-investment grade issuers is just too much. "Retail is a very difficult subject at the best of times, and to add on to that a credit risk issue as well, it just becomes far too difficult," he said.

Given the lack of covenants, the real test for the market will if one of the issuers runs into trouble, said Haag. If one or two companies go belly up, he said, it will be a big blow for the market segment.

For the bankers’ counsel, the reputational risks are the biggest hurdle to getting involved. "In terms of risk-reward, where reputation is everything, as Murdoch is finding out, you only have to do one really crap deal to suffer a significant downside," said the counsel.