Since January last year corporate bond issues across the globe have boomed. And as the fixed income market has grown it has changed the way in which issuers relate to their bondholders.
In 1998 the aggregate value of new international corporate bond issues totaled just over $144 bn, according to Capital Data, the bond market research house. In the following year the comparable figure was more than double, at $321 bn. This high level of activity has continued into 2000, with $82 bn worth of new bonds having already been issued in the first quarter of this year.
The message these numbers transmit is loud and clear: there is plenty of borrower supply and investor demand for corporate fixed income paper. The reasons for the growth in the market are several fold.
Carlos Winzer, senior VP at Moody’s Investor Service, explains that the single European currency launched on January 1, 1999 opened up cross-border investment and so enabled issuers to reach a wider investor base. At the same time the spate of privatizations, liberalizations and mergers and acquisitions gave rise to the need for large funding programs. In particular, much M&A activity in sectors such as utilities was funded initially by bank bridging facilities, which were later refinanced through fixed income issues. ‘More and more investors have come to the bond markets,’ explains Winzer, ‘and there has also been less and less intermediation by banks.’
The rating agencies, such as Moody’s and Standard & Poor’s, have benefited from this activity since the demand for ratings has rocketed. However, the nature of corporate bond investors has changed in recent years. In the past bondholders were typically characterized as more conservative than their equity counterparts. According to the stereotype, they were more risk averse and inclined to rely on the rating of the paper they invested in.
Many still are; but now the range and depth of corporate risk available to bond investors has widened and deepened. Some bondholders have become more like equity holders in their desire for exceptional yields on their holdings; and if higher yield means higher risk, then an increased level of activity in fixed income research into corporate issuers is clearly going to be necessary.
Issuer nature
This inevitably has required something of a change in investor relations practice, although the precise nature and extent of that change rather depends on the nature of the issuer. At the headquarters of global fast food giant McDonald’s Corp in Oakbrook, Illinois, Richard Armstrong is a part of the investor relations team concerned with the company’s equity investors. ‘Our bondholders come under the jurisdiction of our treasury,’ he explains. ‘Bondholders are mainly concerned with income and preservation of capital – we are renting money from them. But our common stockholders are owners of our business and require a different level of information.’
Armstrong notes that as bonds may also be placed privately with banks, it makes sense for staff in the treasury department to handle fixed income investor relations. After all, they are the principal custodians of the firm’s banking relationships.
McDonald’s however is AAA-rated. Its most recent five-year Japanese Yen bonds were priced to yield a mere 18 basis points over Japanese government bonds at comparable maturity – not what you would call particularly high risk. Although McDonald’s commendably maintains toll-free investor relations numbers for both its shareholders and its bondholders, with its credit strength and long-term track record it can easily afford to be traditional in maintaining the distinction between the different investor relations approaches that are used for the two types of investor groups.
But this is not necessarily the case in every company anymore. On March 28 this year, AA-rated France Telecom announced a two-tranche issue of E4 bn and $1 bn worth of 18-month floating rate bonds. This was the largest bond issue ever by a French corporate and was used to refinance part of its string of recent acquisitions including the remaining shares of Global One, from Sprint Communications and Deutsche Telekom, and the 28.5 percent stake that it owns in German telecommunications company MobilCom.
Group treasurer Michel Poirier says that the issue was a short-term one, designed to fill a gap in France Telecom’s funding plan until disposal of non-core assets has been achieved. ‘In the near past bond investors were rating driven. There was a wall between issuers and investors. This has now changed completely. The investors do not rely only on ratings and they ask to understand better the implications on the debt side of the strategy of the issuer. It’s more comparable with equity research. Fixed income analysts now want to come along to our equity investor presentations.’
Poirier believes, however, that the equity markets will still remain more volatile, providing scope for added value for investors; meanwhile, he believes that ratings will continue to be important for bond investors. But he adds that the corporate bond markets in Europe will evolve in a way which is comparable to the US where there is a considerable amount of credit research available to bond investors.
Risky business
If Poirier’s experience as the company treasurer at a firm as large and as well known as France Telecom is anything to go by, it seems likely that it represents just the tip of the iceberg for issuers of high yield instruments whose risk is less well understood.
Jazztel, the Spanish cable and telecoms service provider, issued two tranches of ten year, 14 percent bonds of E110 mn and $100 mn in March 1999. Nine months later a further E400 mn ten year issue was priced at 13.25 percent. This tells a story of both demand for higher yielding paper and of improved credit perception. For Jazztel, as for other smaller, lower rated firms, investor relations is an increasingly vital part of the corporate finance team. Ignacio Portela is part of Jazztel’s five-person team which deals with both equity and bond investors: ‘Bondholders are far more focused on the infrastructure of the business. They are senior to equity holders and other debtors and very keen to monitor our execution of our medium-term construction program and to ensure that we meet out targets.’
He explains that they require quarterly numbers and typically look carefully at the overall revenues to the business and pre-tax earnings. Portela notes that equity investors, however, are much more concerned with the positioning of the business for future growth in the Iberian peninsula, for instance, and with the company’s internet strategy. The story Jazztel is delivering to its bondholders seems to be being well received, judging by the fact that the December issues were both substantially oversubscribed.
Portela and his colleagues meanwhile split their presentations between new investors from both camps and existing investors who need updating – rather than between bondholders and equity investors. At the same time the company continues to provide information to the rating agencies to reinforce its rating and, as bondholders would hope, improve on it.
Food rating
But corporate debt issues are playing an important role in other sectors too. The recent e300 mn five-year issue by northern Italy-based international food processor Parmalat has also been well received.
The company is not rated although commentators observe that the pricing suggests a BBB grading. A spokesperson for Parmalat says that whereas the specific debt-related questions that cannot be handled by the agent bank for the issue are dealt with by the firm’s treasury, it is increasingly the case that bondholders and equity investors are looking for pretty much the same information.
In Parmalat’s case the popularity of its bonds may also reflect an increasing tendency for investors to seek out corporate fixed interest securities because of the low yield on government instruments. The investing habits of funds and private individuals in Italy – as throughout much of the rest of continental Europe – have historically tended toward government stock. However, with euro interest rates hovering at a low level and a Europe-wide restriction on public borrowing investors are having to look elsewhere. Where better to invest than in brands with strong high street recognition where the yield is acceptable?
This deepening demand for corporate paper and need for acquisition funding has encouraged better-known issuers to raise funding in increasing amounts. BAT International Finance, the A-rated arm of British American Tobacco, raised the equivalent of $729 mn in 1998. Last year this shot up to over $4.8 bn with maturity profiles out to 30 years. The 1999 issues, incidentally, were denominated only in US dollars and euros; whereas in 1998 the issues were either in US dollars, or in pesetas, lira, marks and Ecus – all four of which have since been superseded by the euro. This illustrates why the euro has, in just one year, become the currency of issuers’ choice.
The currency is important because it is another aspect of investor preference. For issuers and investors whose funds are based in the eurozone’s eleven member countries or who account in euros, the single currency removes currency risk and is the passport to a huge pan-European capital market.
But perhaps the combination of the new currency and the feverish dot-com mentality has also changed the way in which investors now view investment in bonds. They are no longer seen as a no-risk investment for the fabled Belgian dentist.
Rather they are part of a panoply of investment opportunities including both debt and equities where discerning investors will make their own investment decisions. As such, bonds will need reinforcing with increasing amounts of information and research to encourage investors to choose them from among the range of options.
So where once this area was almost invariably the preserve of the corporate treasury department, today it seems to fall more fairly and squarely on the shoulders of the investor relations department.
