HSBC’s Asia-Pacific leveraged and
acquisition finance head, Lyndon Hsu, explains why the outlook
is unclear for regional markets
Lending activity in Asia Pacific reached record levels in the
first six months of 2013, with syndicated loans (excluding
Japan) totaling $164.5 billion.
This marks a year-on-year increase of 15.5%, and is thanks
primarily to a slew of large M&A financings. Indeed,
M&A lending made up 18.5% of Asia Pacific's total loan
volume in the first half of 2013, putting this year on track to
be the region's second biggest for M&A in a decade.
But is such growth sustainable? HSBC's Lyndon Hsu explains
what's next for the region.
Earlier this year, there were predictions of a pick-up in
Asian leveraged finance, as activity resumed
after a subdued 2012. To what extent has this come to
Asia's M&A debt financing market received a boost in
April with the provision of an $8 billion loan to Alibaba
Group. The facility was intended to refinance the Chinese
e-commerce company's existing debts and raise additional funds.
It was comprised of three tranches: a $2.5 billion three-year
term loan, a $4 billion five-year term loan and a $1.5 billion
three-year revolving credit facility.
That transaction – and particularly the fact that
it incorporated nine banks as lead underwriters – made
clear the level of goodwill prevailing in this space. It's
thanks in part to the intial public offering (IPO) connotations
that follow such deals; banks are happy to pursue such
transactions on the basis they get to play significant roles in
the ensuing IPO outcome.
Certainly in the months surrounding the Alibaba refinancing,
we've seen a slew of fairly large deals that would suggest much
higher activity this year as compared to the same period in
2012. These include the $6.6 billion acquisition of Thai
cash-and-carry wholesaler Siam Makro by Thailand's CP All; the
$1.5 billion takeover of Canadian oil and gas company, Nexen,
by Chinese state-owned entity (SOE) CNOOC; and the proposed
$4.7 billion acquisition of the US's Smithfield Foods by
China's Shanghui International.
But activity is not just focused on the headline
transactions; in the first half of 2013 there have also been a
number of smaller deals further fuelling liquidity in this
space. Australia's APA Group's $2 billion unsolicited all-share
merger with Envestra is a good example here.
We've also seen a rush of leveraged buyouts this year.
Highlight transactions include KKR's April purchase of a
controlling stake in Alliance Tire Group, from an affiliate of
Warburg Pincus; Baring Private Equity Asia's acquisition of a
14% stake in Lafarge India in June; and the $3.8 billion buyout
of China's digital advertiser Focus Media Holding by management
and a Carlyle Group-led private equity consortium.
In the last quarter of 2012, it became evident that regional
equity markets were starting to recover and Asia's bond markets
were beginning to reliquify, with yields being chased down as
global interest rates fell to record lows. That created a very
attractive environment for issuers to raise funds and
high-yield investors to tap new markets.
As we move further into the third quarter of 2013, it will
become increasingly difficult to assess how sustainable this
rebound is. Asia's high-yield and equity markets are already
starting to fall back, although there remains a lot of
available liquidity at higher pricing and less attractive terms
for those issues wishing to tap the US capital markets. This
could worsen as a result of the QE taper out of the US.
We're already seeing evidence of a mini-crisis in emerging
markets, with a number of investors pulling out of Asia
exposures or Asia-domiciled assets. That may well temper the
final deal tally for 2013 and negatively affect the deal
pipeline for 2014.
Private equity buyouts, particularly leveraged buyouts,
have been popular in the US and Europe, but less so in Asia.
There's certainly been more focus on LBO activity recently,
and we are beginning to see sponsors spending more time
selectively making controlled or buy-out investments.
That said, other more established markets, such as those in
the US, Europe or Australia benefit from one very important
factor – homogeneity. For example, take the US: it has
a very deep loan market, it has creditor-friendly laws, it has
a single currency and everyone respects the rule of law,
including the country's government authorities.
Across the Atlantic, LBOs were historically just a feature
of the UK sterling market. However, with the advent of the EU
and the introduction of its common currency, we began to see
more investors extend their geographic mandate from the US,
through to the UK and into the EU. That trend remained from
2003 through to the onset of the global financial crisis.
In contrast, Asia is a much more disparate region with a
diverse array of markets. They range from the mature or
maturing, such as Australia, New Zealand and Hong Kong, through
to jurisdictions with codified laws, like Japan and Korea, and
emerging markets operating under ancient or locally-adapted
colonial laws, such as Indonesia and Malaysia.
Then there's China, which has its own legal framework. India
is a highly idiosyncratic market too – it's relatively
insular and restricted, but remains attractive to sponsors
hopeful its current downtown will create lucrative investment
profits when market confidence returns. Southeast Asia is yet
another mix of different laws, cultures, languages, currencies
and regulatory regimes to control those currencies.
Add to this inconsistency the region's strong preference for
family-owned or private enterprises passed through generations,
and you have an environment in which there simply aren't enough
opportunities in the LBO space to create substantial deal flow.
That could change as the next generation of Asia's
professionally educated high-net-worth individuals come to
inherit these large businesses. Many may not wish to adopt a
managerial role, and that could free up more businesses for
sponsors and private equity houses.
How has the bond markets' increasing role in the provision
of leverage finance affected the market?
We only have to look at deals done from January to July this
year to note the bond markets' increasing activity.
Deals are primarily being placed in countries that have a
demonstrable and codified legal regime in place and are
typically better received by US investors.
continue to anchor Asia’s leveraged loan
Indeed, a mixture of US-listed and Chinese domestic
corporate issuers and sponsor-backed LBOs have tapped or intend
to tap the US term loan B and high-yield markets to secure
long-term financing. The decision by Australia's Nine
Entertainment to obtain a $700 million term loan B facility
earlier this year to refinance debt is a good example here. The
deal successfully demonstrated that for the right credit, in
the right circumstances, the economics of a high-yield bond or
term loan B facility may be worthwhile, notwithstanding the
absence of US dollar revenues.
We've seen favourable conditions in Asian markets recently,
with QE and the corresponding low interest rate environment
prompting issuers to take advantage of improved borrower terms
I'd expect more Chinese deals in the pipeline. For example,
the Focus Media LBO is bridged at the moment, but media reports
expect it to tap the US capital market. The same can be said
for AsiaInfo-Linkage, following the close of its $330 million
leveraged buyout loan in August.
To what extent did the Focus Media LBO loan attest to
China's potential for leveraged finance?
Focus Media's LBO loan was successful in terms of size,
challenges and the response from lenders. But it is important
to remember there were several previous similarly successful
deals in China's leveraged finance market. For example, Unitas
Capital's May 2011 purchase of Netherlands-based hydraulics
firm, Hyva Holdings, set a structural standard for future
acquisitions in the region. The $723 million acquisition from
3i was the first sponsor-backed acquisition in Asia to be
fully-financed by a high-yield bond.
People also forget these deals are structured as holdco
offshore loans, hence servicing of debt obligations is reliant
upon dividends expatriated from China onshore profits. These
are therefore high-risk transactions that rely on approval from
China's regulators or government entities for the offshore
issuance of dividends. We only have to look back to the
acrimonious debt restructuring of Asia Aluminum in 2009 to
ascertain the risks associated with these kinds of structure.
When these deals go wrong, they go very wrong.
My point is that the pricing on these transactions, whether
from the bank or bond market, has been similar to that offered
on LBO loans originating from codified-law countries, like
Australia, which have onshore OpCo security. There's clearly a
risk/return disconnect here.
Which other countries in the region stand out as potential
growthmarkets for leveraged financing?
China will continue to anchor Asia's leveraged loan market
over the next couple of years. Its size alone means that it has
a much higher-volume market than others in the region.
But I wouldn't rule out Australia as a source of activity in
the foreseeable future. The election of a majority government
will help to restore investor confidence and I expect strong
investment to follow, with a lot more leveraged financings as a
Hong Kong might offer some opportunities in the wholesale
retail and healthcare sectors. India and Japan will offer
opportunities as well, depending on the economic climates in
those two jurisdictions and sponsors' appetite to buy into
their corresponding risk profiles.
Indonesia and Malaysia may be somewhat overvalued presently
so there's a market view that activity may fall in those
markets accordingly. Singapore will continue to offer up the
occasional large transaction, such as ThaiBev's acquisition of
Fraser & Neave.
In truth, it's hard to predict. A lot will depend on the
impact of QE tapering and China's economic performance, because
of the potential knock-on effect on so many countries. The mere
threat of that impact recently changed the mentality of
emerging market investors, so we might see more jitters ahead
as the effects of the tapering come to fruition later this
How do you expect use of the US's term loan B and
high-yield market to develop in Asia?
So long as the prevailing low interest rate environment
continues, and we don't have setbacks with major financial
shocks, like the 1997/1998 crisis, or any extraneous factors
like the avian flu crisis, I expect those markets to develop
and mature. However, I expect that development to occur in a
much slower fashion than previously seen. It goes back to one
fundamental issue – the need for homogeneity in terms
of a regional currency and legal frameworks.
Without that in place, it's harder to create liquidity.
Funds will not mandate the region or the geography over and
above a far more developed market. Investors need to be able to
mark-to-market their investment; they need to see a price on an
exchange. However, exchange-traded Asian debt is not commonly
available anywhere in Asia.
Until we achieve some level of homogeneity – by,
for example, removing investment restrictions, removing
exchange controls and introducing more creditor-friendly laws,
as seen in Europe and the US – these factors will
continue to retard the growth of the Asian financial
How are covenant packages differing between Asia's private
company and sponsor-led borrowers?
In the bank market, covenant packages for US loans or
high-yield financing tend to conform, in that the transaction's
terms and conditions are driven by US counsel and tend to match
those on offer elsewhere in the market. The underwriting banks
see it as a distribution game as much as a risk game.
In light of that, there's a growing need to properly test
these packages in the Asian market, given the markedly
different geographies in which these deals are taking place.
For example, it's questionable whether applying US terms and
conditions to a Chinese transaction is appropriate for the
country's investment thesis.
How are international developments affecting Asia's
leveraged and acquisition financing markets?
In aggregate, Basel I, II and III have resulted in banks
ramping up their capital base. That has created a more
expensive lending environment. Combined with QE, and historic
crises in the US and EU, it has also helped to significantly
bolster the regional bond market.
Of course, banks will always have a role to play, but while the
cost of capital remains relatively high, their involvement will
be constrained – especially for capital allocations
outside of a bank's home region.
"Asia is likely
to be hit first by a large-scale capital
Certainly, it is critical that Asia's bond markets stay open
in order to satisfy the funding gap that banks can no longer
fill. After the widespread retrenchment of western banks
post-crisis, we are starting to see some of the French banks
reinvest in the region.
Even so, if Asian bond markets were to close down or
contract significantly, it would have a notable impact on
event-driven transactions, refinancing, and companies'
abilities to conduct liability management.
Some non-bank entities, such as ICG and Fortress, are active
in the loan market. We are also seeing some increased activity
from Australian pension funds, but this is limited typically to
investment-grade rated assets or small deals that barely affect
LBO volumes. There are not enough debt funds looking to Asia at
present in the LBO market.
Are there any other opportunities in terms of structural
trends and deal flow that might be of interest to foreign
investors looking to do business in the region?
At present, there's a notable uptick in foriegn direct
investment with a China nexus. As part of this continuing
trend, and given the slightly more austere environment in
China, I expect the country's SOEs will begin to refine their
approach to offshore purchases. That may well be offset by a
more focused investment strategy from China's privately-owned
entities. But deal volumes will depend on the liquidity of the
market and the related impact of QE tapering in the US. That
could well prompt a sharp pull-back from western investors to
home markets. In just the same way that a homeowner would sell
a holiday home first when times get tough, Asia is likely to be
hit first by a large-scale capital withdrawal.
Head of leveraged and acquisition financing,
Hong Kong, Hong Kong SAR
Lyndon Hsu joined HSBC in 2010 as leveraged and
acquisition finance head for Asia-Pacific.
Based in Hong Kong, he previously spent 14 years
with Credit Suisse, as the bank's head of leveraged
finance (non-Japan) Asia and prior to that Australia
head of leveraged finance.
Hsu has worked for ANZ Banking Group in its
institutional banking division.