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Firms turn to convertible bonds for cheaper financing
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Year-to-date convertibles sales in EMEA higher than
pre-COVID
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Investment-grade and high-yield issuers looking at
convertibles
By Pablo Mayo Cerqueiro and Chiara Elisei
LONDON, Feb 17 (Reuters) - European firms are selling
debt that can be converted into their own shares at an
unrelenting pace, as they seek shelter from the fastest
escalation in interest rates by major central banks since the
1980s.
After borrowing heavily during years of rock-bottom interest
rates, businesses are feeling the pinch of rising debt costs and
some are turning to convertible bonds - a form of junior debt
that can be converted into a company's equity.
Convertibles can offer corporations cheaper funding but risk
diluting earnings and tilting the balance of power among
shareholders if investors invoke their conversion rights.
These "bonds with a twist", as fund manager Schroders once put it, have historically been associated with
companies that may lack other sources of funding and were
perceived by some as an "admission of weakness".
But in the current environment, this kind of cheaper
financing is increasingly popular among traditional bond issuers
too.
Since January, companies in Europe, the Middle East and
Africa (EMEA) have raised $2.9 billion through seven convertible
deals, significantly above this time last year and higher than
levels seen before the COVID-19 pandemic, according to Dealogic
data.
The region is also slightly ahead of the United States in
terms of capital raised via convertible bonds, something that
market participants describe as rare, illustrating the strong
appetite from companies on this side of the Atlantic.
"Issuance in Europe was extremely low last year. But a lot
of issuers are now looking at convertible bonds to reduce their
financing costs, as they face upcoming debt maturities," said
Stephanie Zwick, Head of Convertible Bonds at Fisch Asset
Management, which oversees more than 4 billion Swiss francs
($4.34 billion) in convertible debt.
Corporate debt issuance dried up in the market turmoil
following Russia's invasion of Ukraine, but momentum for
equity-linked deals – as the asset class is also known – started
to pick up in the latter part of 2022 and has carried into the
new year.
Repeat issuers like Germany-based food delivery group
Delivery Hero have come to market to refinance
maturing deals, but there are also new names, like French
industrials company Spie .
While tighter central bank policy has forced companies to
bump up interest payments on new convertibles, the average
coupon is still about half that paid in the junk, or
sub-investment grade, bond market, according to market
participants.
The asset class has also caught the eye of higher-rated
issuers, said Ismail Iraqi, Head of Equity-Linked in EMEA at
JPMorgan.
"Both investment grade and high yield issuers are currently
looking at convertible bonds to fund growth, diversify their
funding or refinance outstanding debt at lower cash coupons than
traditional debt," Iraqi said. This includes financing for
mergers and acquisitions, he added.
In January, German arms manufacturer Rheinmetall ,
which sits at the bottom of Moody's investment grade rating
scale, raised 1 billion euros ($1.07 billion) through two
convertible bonds to fund its acquisition of Expal Systems.
The bonds were sold with a coupon of 1.88% and 2.25%,
respectively, and a conversion premium of 45%, representing the
extra cost over the company's share price that investors paid
for their conversion privileges.
Last year's equity market slump meant many convertible bonds
lost value by wiping out the possibility of converting them
profitably into shares, but the recent rebound in stocks could
further incentivise debt issuers and investors to return.
"For us, it's interesting to look at new deals with more
balanced terms, and we've invested in some of the latest
issues," Fisch's Zwick said.
This week, Delivery Hero placed a 1 billion euro deal to
replace existing convertible notes nearing maturity, which were
effectively trading like regular debt securities after a drop in
the company's share price depleted their equity value.
However, the company, which is not yet profitable, offered investors an annual coupon of 3.25%, higher than on past issues. Despite the prevalence of industrial names coming to market in recent weeks, more deals may come from the tech and healthcare sectors, which are recurrent issuers of convertible debt, said Sriram Reddy, Managing Director of Credit at Man GLG, part of investment manager Man Group . "The zero-rate environment of the past decade induced businesses to issue straight debt almost at will," Reddy said. "Now that we have a material cost of capital again, we expect new convertible issuance to become a more popular option." ($1 = 0.9214 Swiss francs) ($1 = 0.9338 euros) <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^ EMEA Convertible Bond Proceeds Year to Date: 2019-23 EMEA Total Convertible Bond Proceeds by Year: 2019-23 ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^> (Reporting by Pablo Mayo Cerqueiro and Chiara Elisei, Editing by John O'Donnell and Kirsten Donovan)
