Cobalt IPO Follow-Up

Here's the first day's trading results.

Generally IPO offering prices are set so that there is an initial price rise.

Anyways, don't be discouraged.  This time it's different.  It really is.  Trust me.

Tie Your Camel First, Then Trust in God Part VI - The Implicit Guarantee Defense - Turnaround is Fair Play

According to the Financial Times, in deciding to make its investment in Citigroup the Emirate of Abu Dhabi "assumed the US government would make any investor in Citi whole".  They also apparently believed that "Citi is America" as the sophisticated head of another unnamed sovereign fund in the region so carefully summed up the matter.

The article also notes that ADIA plunked down US$7.5 billion after "only three days of due dilgence".

Seems it's not only sophisticated and sober investors and bankers from the West who believe in the implicit guarantee and apparently as well the Great Magic Pumpkin, though it may be lonely in the pumpkin patch at times.

Some hopefully helpful hints:

1. "Too big to fail" does not mean too big to have one's share price go down, way down.  
2. There appears to be a real unmet need in the region, particularly the UAE,  for courses in convertible bond/security basics and structuring. And thus a significant  business opportunity to be seized.
   

Earlier posts here and here.

Cobalt IPO

I had mentioned this "compelling" investment opportunity earlier.

Seems the IPO was priced at US$13.50 per share below the initial price talk range of US$ 15-17 and even then only raised US$850.5 million.

This NY Times article has some quite apt quotes.

1. Cobalt International Energy Inc. hoped investors would contribute more than $1 billion to its search for oil miles beneath the ocean even though it has no proven reserves and it expects no revenue for at least another two years.  
   
2. Cobalt is a risky bet, say analysts who research IPOs.
3. ''IPO buyers are looking for financials that are tangible, a revenue stream that's visible and profits. They're not looking for concepts right now,'' said Scott Sweet.  It is unusual for an oil and gas company to go to the public markets without reserves in place or production under way, said research analyst Nick Einhorn of Renaissance Capital based in Greenwich, Conn.   ''There's a lot of risks but I think for an investor who kind of believes in this deepwater opportunity, it is a good way to get 100 percent exposure to that,'' he said.

I particularly like this last quote.  It is indeed an excellent way to get 100% exposure to risks that one kind of believes in.

Nonetheless, US$850.5 million was raised.  

Qatar Sovereign Bond Successful - US$7 billion + Long Tenor

Qatar's sovereign bond offering was a roaring success:

1. US$3.5 billion Maturity 2015 Margin 185bps
2. US$2.5 billion Maturity 2020 Margin 195bps
3. US$1.0 billion Maturity 2040 Margin 215bps

Note the 30 year maturity on the last tranche.

There have been some press reports which have noted that this bond is now the largest US$ bond issuance by an emerging market investor as it surpassed the US$6.1 billion in bonds issued by the PRC's Ministry of Railways back in November 2007.

But, let's look at the details of that issue to see that more than size matters with Qatar.

The PRC issue consisted of and were priced as follows:

1. US$1.2 billion 7 year bonds at 5.38% (fixed rate)
2. US$3.5 billion 10 year bonds at 5.6% (fixed rate)
3. US$1.4 billion 15 year bonds at 5.75% (also fixed)

Much longer tenors.

Yemen LNG US$2.8 Billion Financing in Yemen - How'd They Ever Pull That Off?

When you read my earlier post about the first LNG shipment from Yemen, did you wonder how the project was able to raise its financing?

Yemen LNG posed some difficult financing challenges:

1. Size:  US$ 5 billion dollars with a high percentage of foreign costs which can't be financed in local currency.   So quite sizable foreign currency loans are required.  Raising a loan 1% this amount would be a challenge.
   
2. Tenor:  A project like this requires long tenors.  To compound matters bankers aren't keen to even make short term loans in the country. 
   
3. Yemen:  Lots of problems - economic, political, social.  A weak country = a weak sovereign credit.  Not exactly a prime target for bankers.
   

Standard and Poor's, Moody's and Fitch do not bother to issue a credit rating for Yemen.  There really isn't any demand.   Other ratings agencies do.  But the ratings are not good.   Capital Intelligence assigns Yemen a "B" and the Economist Intelligence Unit "CCC".   Unlike the academic world, a  credit rating of "B" is not a passing grade.  Except perhaps in the sense that bankers usually  "pass" on the opportunities to extend credit to borrowers with that grade.

Putting aside the project finance structuring issues (upon which I'm sure you can imagine I could wax, if not eloquently, at least profusely), there are two answers to how the deal got done - both of which gladden the heart of flinty-eyed bankers:

1. Equity - To provide a cushion to lenders: project cashflow pays lenders first before it pays shareholders.   The more equity the less risky the project.   If you were a lender, which of two identical US$1 billion projects (except for equity) would you prefer to lend  to?  The one with  $500 million in equity?  Or the one with  $100 million?  But there's more to equity.  It's not just the quantum of equity provided up front but also the credit quality of the shareholders that comforts lenders.  Having parties with both a significant monetary interest in the project (something to protect) and the capacity ("deep pockets") to lend a helping hand if the project hits a rough spot is very good.   Securing this kind of quality shareholder is a common goal in project finance everywhere.  In Yemen it was, no doubt, even more important.  Both  to the commercial lenders and the export credit agencies ("ECAs") involved in the transaction.
   
2. Guarantees - There's nothing that makes a banker's life easier than someone else taking the difficult bits of risk.  In this case 100%.   Especially if the guarantors are major sovereigns  acting through their ECAs or a major MNC like Total. 

Yemen LNG reports that the project has 40% equity (US$2 billion) and 60% debt (roughly US$3 billion).

Let's look at the equity first.

Shareholders are:

1. Total France - 39.6% (International oil and gas major, active in the ME since 1924 and Yemen since 1987.  Other LNG projects in the GCC - Qatargas, Dolphin).
2. Hunt Oil USA - 17.2% (Founded by HL Hunt.  Ray Hunt supposedly is on a first name basis with the President of Yemen.  Active in the country since 1981.  Hunt Oil, that is, not Ali).
3. Korea "Inc" - 21.5%   (SK at 9.6%, Korea Gas at 6.0% and Hyundai at 5.9%)
4. Yemen Gas Company - 16.7%. (Yemeni Government company).
   
5. GASSP (Yemen) - 5% - Yemen's General Authority for Social Security and Pensions.

More details on these entities here.

The majority foreign ownership involving oil companies like Total and Hunt would give lenders  and ECAs comfort.  Why?  They have demonstrated technical competence with similar projects from discovery through successful commercial operation as well as marketing of the offtake -the project product, LNG.  If something goes wrong (and bankers should always worry about that), these shareholders should be able to fix the problem if indeed the problem can be fixed.

Kogas is a major buyer of LNG.  Having it as a shareholder, gives it incentive to continue to buy from the project.  If suddenly it needs less LNG, instead of canceling its contract with Yemen LNG, it could cancel its contract with another seller (unless of course it's a shareholder there as well).   In the case of a problem with another offtaker, Kogas might step up to buy more to protect its equity in this project.  (As an aside, the offtakers are:  Kogas at 31%. of planned project production.  Total 31%.  And Suez 38%.  Twenty year contracts with highly credit worthy parties -- another comfort to those holding project risk).

The other two Korean parties were involved in the construction.  By buying equity they have reinvested part of their profit into the company.  If the project fails, they lose all or part of their profit margin - an incentive for them to help to make the project work if it has problems.

The Yemen government agencies mean the government has a direct stake in the project's success.  It's not just in their country.  They're owners.

Turning to the project debt, US$2.8 billion was raised.

1. US$1.3 billion in senior limited recourse project finance facilities extended by a group of international banks but bearing comprehensive risk cover (both political and commercial). This  cover is being provided by the official export promotion programs of France (Coface for US$648 million), Japan (Nexi for US$80 million), Korea (KEXIM for US$160 million).  The lead banks involved are Bank of Tokyo Mitsubishi, BNP Paribas, Citigroup, ING, Royal Bank of Scotland, Societe Generale, Lloyds TSB, and SMBC (Japan).  They make  and administer loans to the project.  In the event of project non payment, they can call upon the ECAs to repay their loans.
   
2. US$240 million direct loan to the project from KEXIM (the Korean Government ECA).
3. US$120 million direct loan to Yemen LNG from JBIC (the Japanese ECA).
4. US$1.1 billion commercial facility guaranteed by Total France. Same banks as in #1 above.  I'll comment a bit later about an interesting feature of this guarantee.
   

It's clear that Total did the heavy lifting necessary to make the project a success:  contributing the majority of the equity and guaranteeing the US$1.1 billion loan.  

Most reviews of this transaction - at least the ones I have seen - don't  discuss the fact that Total has counterguarantees in its favor for roughly 32% of its US$1.1 billion guarantee from other equity partners in the deal.  One alternative would be for all the parties to give guarantees to the lenders:  Total for 68% of the amount and the other shareholders for 32%.

But that would pose some problems.  First, some of the shareholders are not acceptable to lenders for any amount or tenor.  That would mean a loan for less than US$1.1 billion (and remember the project needs US$1.1 billion not less).  Second, Total's credit rating is easily higher than the other shareholders.  It can get the best terms - the best interest rate and the longest tenor.

By giving its guarantee for 100% of the loan, Total substitutes its credit for its partners.   In effect Total is intermediating credit risk .  It accepts the relatively weaker credit risk of its partners (the 32% counterguarantee) so the lenders don't have to. If Total's guarantee is called by the lenders, it is obligated to pay whether or not the other shareholders honor their counterguarantee to it.

And one final comment.  The Yemen LNG financing won several awards in 2008 for "Deal of the Year".  Since bankers like to give themselves awards (and who doesn't),  there are a large variety of contests and awards, though as of yet I don't believe Donald Trump is hosting any of them.  Besides that bankers also devote their creative talents to designing titles for participants in a deal.  Having a fancy title and a good position on the deal "tombstone" (on the left at the top of the list of the banks is preferred in case you're wondering) is very important.  Some of the most intense discussions in a deal are not with the borrower or issuer but among the banks.  On one deal we contented one bank with the title "Technical Modeling Bank".

Trackback to previous related post.

Yemen LNG Makes First Shipment

A bit of good news for this beleaguered country - which is desperately in need of hard currency earnings, not to mention water, peace, progress .....

Most estimates are that over its 20 year or so life the Yemen LNG project will generate US$20 billion for Yemen.  The Yemeni Government's own "conservative projections" estimate US$30 to US$50 billion.

Much needed because oil exports, Yemen's current major source of FX revenues (roughly 90%),  are rapidly running out.  Estimates are for 10 years more production, though the Yemeni Government disputes these figures.

Anyways a few random data points to illustrate the importance of Yemen LNG to the country:

1. In 2003 Yemen exported 450,000 barrels of oil per day.  In January 2009 the total was down to 280,000 bpd.
2. During the first six months of 2009, FX earnings from oil exports were down 75% from the same period in 2008.  Most of that is due to the decline in oil prices, but a worrying 25% drop in volumes exported was also a major cause.
   

So Yemen LNG's first shipment is good news for Yemen.  A substitute for dwindling oil exports.

For those interested in more on Yemen LNG, here's a link to their website.

The project has been "kicking around" since the 1990's.  As one might expect, putting a deal of this magnitude together in Yemen is not an easy task.  The shareholders' group has been a bit of a revolving door - ExxonMobil withdrew after the 1994 civil war.  Enron sniffed around a bit but declined. At one point Hunt Oil (an old Yemeni hand) was rumored to be contemplating withdrawing from the project.  Competition from Qatargas and Dolphin in which Total (the major shareholder in Yemen LNG) has interests also were obstacles.

For those interested in a bit more information on Yemen, two suggestions:

1. Christopher Boucek's "Yemen Avoiding a Downward Spiral" at Carnegie.
2. The IMF's Public Information Notice ("PIN") on  Article IV Consultations with Yemen released this March.
   

Boucek's piece is an overall analysis of all factors - political, economic, and social.   It is also written to promote a particular policy response so factor into your evaluation how that goal may affect his diagnosis and conclusions.

The IMF PIN is focused on economics only.

Some background on the Article IV process and PINs.

Each country that has joined the IMF  (there are 186 or so) undertakes certain obligations with respect to the conduct of its affairs.  A key part of those are reflected in Article IV.   Each year the IMF "consults" with countries about their obligations focusing on Article IV. Member countries have the right to decide how much detail is released to the public about the results of those consultations.

Two other things are relevant to Article IV consultations.

1. Diplomatic Speak:  The position of the IMF is couched in diplomatic language.  Criticisms come in the form of "encouragements" or "strong encouragements".  Issues are described in similar gentle language.  Instead of stating that a member country's economic statistics are deficient, the PIN will speak about improving the timeliness and accuracy of statistics. 
2. Mathhab:  The IMF holds more or less to a certain economic philosophy.  It's important to understand this when reading both their diagnosis and prescriptions. 
   

A second post will follow to hopefully shed some light on the intriguing story of how US$2.8 billion in long term financing was raised for a project finance in a country in Yemen's situation.

First Asset Backed Securitization in Lebanon

Not strictly the GCC, but this is my blog and I have strong affection for Lebanon.

BEMO Securitization SAL announced the closing of Rymco Drive 1 for Rasamny Younis Motor Company ("RYMCO"),  Lebanon's authorized GMC, Nissan and Infiniti dealer.

This deal is a first for two reasons:

• It's the first auto receivable asset backed security ("ABS") in the country.  
• And the first term securitization under Law 705 of 2005.

The total transaction is for US$13.1 million, divided into two tranches:

• A senior tranche, Tranche A, at 77.5% of the transaction - roughly $10.5 million - with an average life of 3.7 years.
• A subordinated tranche, Tranche B, at 22.5% - roughly US$3.0 million-  to be retained by RYMCO which provides an effective first loss credit enhancement for Tranche A holders.

During the coming three year period, additional auto receivables may be incorporated into the structure resulting in US$40 million in aggregate funding for RYMCO.

The deal also includes some other protective features:  a funded cash reserve and an "excess" interest capture.

Congrats to BESC for a landmark deal.

And, as always, a pleasure to see the distinguished banking name, Obegi, in the press!

The One Billion Dirham "Camel"

"Tie your camel first, then trust in God."

SRA

(Jami'y al-Tirmidhi)

Given the anniversary, a belated postmortem of the AED 1.5 billion convertible bond deal beween Dubai Banking Group ("DBG") and Shuaa Capital ("SC") and DBG's resulting AED 1.016 billion (US$277 million) loss - slightly more than the cost of the average camel.

On 31 October 2007, DBG and SC sign an agreement for a one-year convertible bond.  The bond has a quarterly 6% coupon and is convertible into 250 million SC shares.  The stated conversion price is AED 6.000 per share.  However, since as part of the deal DBG advanced SC another AED 176 million (so SC could terminate its stock option program), the effective strike price per share is AED 6.704 - approximately SC's market price at signing.

Fast forward to the maturity date one year later.  SC shares are trading at AED 2.71.

Not surprisingly, DBG has no interest in converting.  To do so would result in an immediate loss of AED 998.50 (US$272 million) - roughly 60% of the initial investment.

However, SC issues a conversion notice, advising DBG that the bond has been converted to shares.

What?  How could that happen?

Clause 6 in the Note Certificate allows both parties - SC and DBG - the right to force conversion.

DBG refuses, threatens litigation to force repayment.  The parties embark on a very public drawn out dispute.

On 25 June 2009 they announce a settlement:  the bond will be converted into 515 million SC shares.  The resulting strike price is billed at AED 2.91 per share - though when the extra AED 176 million is factored in, the strike price is actually AED 3.25 per share.  At this point SC's shares are trading at AED 1.28.

Using market value, DBG has just paid AED 1.676 billion for AED 659 million in shares - a loss of AED 1.017 billion (US$277 million) - 60% of its initial investment.   One heck of a "control" premium.  DBG's one consolation is that it owns a lot more of SC than it would have under the original conversion terms.  Somehow I'm suspecting that may be cold comfort.

Of course, markets move.  Anyone with a stock portfolio in October 2007 has seen some wide and painful movements.

But the whole point of a convertible bond is the structure is designed to give downside protection.   To combine the "safety" of a bond with an option to capture  potential price appreciation.   One only converts if the stock price is favorable.  If not, one cashes in the bond.

But for this to work,  one can't give the issuer of the bond the right to convert because as shown by the above example, the issuer has an incentive to convert when the market price of its stock is below the strike price. 

I'm at a loss to explain this transaction from any banking or finance principle I know.

If anyone out there can, please post.

To rephrase the hadith quote above:  "First, tie down you deal terms firmly, then trust in God".

For those interested in more background, additional documents and information can be found here as part of shareholder information for SC's March 2009 EGM.