PCCW (8) May Issue More Bonds
Jun 06, 2001 - 15:01:44 HKT
QuamResearch
Rumors and more rumors. This time, the HK iMail reported "a well placed source" as saying that the current rumor regarding a bond placement is essentially true.
Background for the New Bond (If There Is One)
The basic elements of the story are:
- PCCW has very large debt -- HK$37.7 billion in long term debt and another HK$14.4 billion in convertible bonds.* Of the HK$37.7 billion long term debt, HK$36.7 billion is the remaining portion of the bridge loan used to buy HKT.
- Interest rates have declined further but may have bottomed
- PCCW would like to issue US$2 billion (HK$15.6 billion) worth of bonds within the next 3 months
- Proceeds will be used to pay down long term debt
The bridge loan was partially paid off in cash, with Telstra's convertible bond helping, and partially refinanced into the current long-term debt situation. That HK$36.7 billion or US$4.7 billion was set up in three tranches to be repaid in three, five, and seven years.
- US$1.5 billion, 85 basis points above LIBOR, due in three years.
- US$2.3 billion, 115 basis points above LIBOR, due in five years
- US$900 million, 145 basis points above LIBOR, due in seven years.
The 3-Month LIBOR is currently 3.94%, down from 5.62% on January 8.
PCCW is not known for being a terribly open sort of company, so it's no surprise that there is no official word from them.
PCCW's Debt and Credibility
Towards the end of last year, PCCW was still talking about bringing its debt to under US$4 billion, but that goal was not met. However, with another bond, that dream will become very achievable, assuming the money is used for debt repayment. Of course, it also depends on the market's response to the issue. The telecom market is of course not riding high at the moment, and PCCW is arguably losing credibility. Richard Li is possibly stepping down, yet he'll remain on to do "strategy," and given his reputation as a somewhat mercurial boss, it is doubtful he will truly be out of the operational picture even if some big-name American telecom executive is hired to pick up the pieces.
Other Convertibles: Telstra Bond and the October Issue
It was not mentioned whether the bonds will be regular corporate bonds or convertible notes. Given the company's recent history, however, we figure they would prefer the convertible type.
- Telstra's US$750 million CB -- six-year instrument, 5% coupon rate for first four years and 7% for the final two years. Conversion price: unknown, but to be set at 15% above the average for the 45 days following the agreement, probably around $6 per share.
- US$1.1 billion CB -- last October -- 3.5% coupons, issued to Richard Li and institutional investors, conversion price set at (the now impossible) HK$7.865 per share. Along with a rights issue, PCCW should have received about US$1.63 billion (HK$14 billion) in cash.
If new convertible bonds are issued, one might expect rates similar but lower due to interest rate environment. On the other hand, the company may be overly optimistic. The October issue, it turns out, does not appear to have been well received. We thus expect potential subscribers -- if there are any -- to demand a better rate.
The Questionable October Bond
It escaped our attention before. In the October convertible bond and rights issue, there was a greenshoe option which, if taken up by institutional investors, would have meant an additional US$200 million in bond proceeds.
It was apparently not taken up.
The company's pro-forma balance sheet shows convertible bonds of HK$8.58 billion (US$1.1 billion -- the pre-greenshoe figure) along with post balance sheet CBs of HK$5.85 billion (US$750 million -- the Telstra CB). Had the greenshoe option been taken up, there should have been an additional US$200 million, HK$1.56 billion, in both the cash and CB entries.
This suggests to us that there was possibly some arm-twisting to get the institutional investors to go along with the first part of the convertible bond issue, but no amount of arm-twisting would get them to take up the greenshoe.
They've Got the Cash -- So Why So Much Debt? Other Plans?
The company must have decided not to apply all their proceeds from convertible bonds and right issues to paying down debt since their pro-forma cash position actually strengthened to HK$18.46 billion or US$2.37 billion. As noted above, the original target was to reduce debt to under US$4 billion. This has not yet been achieved despite the cash available to do so.
One may then wonder if the company is instead trying to shore up its cash position for something else -- another round of acquisitions, perhaps, or mayber there are some cash-intensive demands coming up very soon which we, as outsiders, are not aware.
Financing Costs
Using today's Libor -- since we don't know exactly which Libor is being used -- PCCW's debt for the bridge loans should be about HK$1.85 billion (or more). With its other short- and long-term debt and CBs, the annual interest burden should be around HK$2.9 billion (or more).
This compares with net finance charges for the 2000 fiscal year of HK$2.356 billion (click here for result announcement article). Interest expense and other bank charges amounted to HK$2.458 billion, and interest expenses relating to the bridge loan facility came to HK$2.215 billion. The picture, of course, has substantially changed by pushing debts into the non-current category.
New debt to pay down the bridge loan will probably not radically decrease that finance burden. What it is more likely to do is put off repayment for a little while longer, giving the company potentially critical time to improve its operations and generate enough cash internally to pay off the debt later while also raising the stock price -- hopefully -- so the bonds can be converted and a cash repayment avoided.
Conclusion
No profit estimate will be made for 2001 simply because there are too many factors for the accountants to play with. Whatever it is will be is virtually assured to be far better than 2000 simply because the company took such huge write-offs -- that, by the way, is not necessarily a good thing! In fact, Business Week did a story a few weeks ago discussing this phenomena as a part of interesting accounting tricks. They called it the "Big Bath" where a firm "takes a large write-off, booking costs now so that earnings and margins in the future ... unless operations improve, more charges must be taken to maintain earnings." (May 14, 2001 BW).
One cannot ignore the company's operational challenges, and by being so aggressive in taking over such a huge company, PCCW's focus now is probably more on its bankers than its customers and minority shareholders.
The bond story is still just a story -- a rumor that the iMail has run with due to the "well-placed source" we mentioned at the beginning. However, investors will want to keep watch, in part on that cash hoard PCCW has but has not applied to debt yet.
At HK$2.60, PCCW is capitalized at HK$58 billion. No, it is still not a buy.
Notes
*Note: This is the position of the company following the various post-balance sheet moves to pay off the immediate portions of the bridge loans used to buy HKT, including convertible bonds issued, debt refinancing, and sales of certain assets. As described in company announcement two days ago regarding the approval of certain stock exchange concessions, these specifically include:
- the disposal of 60% equity interest in the mobile business to Telstra
- the formation of Reach, containing the IP backbone businesses of the Group and Telstra;
- the issue of a US$750 million convertible bond to Telstra;
- the drawdown of US$4.7 billion under a syndicated loan facility by a subsidiary of the Company;
- the repayment of the outstanding short term loan as at 31 December 2000 of approximately US$7.66 billion.
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