Summary: Crown Resorts has informed investors of its new subordinated notes issue, with the proceeds set to be used to bankroll new developments. Crown’s last notes offer attracted enough investor demand to increase the issue size, and the company will no doubt hope for a similar response this time.
Key take out: The structure of this issue is virtually the same as the previous issue, except a lower coupon is being offered.
Key beneficiaries: General investors. Category: Fixed interest.
New notes in the hybrid market have been thin on the ground in recent years. In fact to find the issuance in the corporate bond market – which was not from a bank – you'd have to go back to the Healthscope Subordinated Notes II, which raised $305 million in 2013.
Moreover, the really big year for ASX listed non-financial corporate bond issuance was 2012, when there were seven issues that raised a total of $2.85 billion. One of those issuers has now returned to the market.
Earlier this week Crown Resorts Limited advised the ASX of its new Subordinated Notes II issue. The notes will be used to bankroll new developments including a $2 billion hotel at Sydney's Barangaroo precinct and a new hotel in Perth.
In 2012, Crown Limited, as it was known then, sold $532 million of subordinated notes with a 60 year term to maturity and with deferrable but cumulative and compounding coupons, offering 5 per cent over the 90 day bank bill rate.
Despite the risk that the coupons may not be paid until the notes matured in 2072, investor demand was sufficient to increase the issue size from $400 million at launch. No doubt Crown is hoping for a similar response this time.
Crown is again seeking to raise at least $400 million and the structure of the issue is virtually identical to that of the Notes I, as they are now referred to. Except that this time around, a coupon of only 4 per cent to 4.2 per cent over the 90 day bank bill rate is being offered.
However, it should be pointed out that credit margins on all such instruments have contracted in the secondary market since 2012, as the search for yield has intensified. It's also interesting to see that James Packer who controls Crown will be on the hook for a substantial $50m after it was announced that interests connected with his private investment company will invest that amount in the note program representing one eighth of the entire amount raised.
With a market price of around $105.00, the trading margin on the Notes I is currently around 3.60 per cent.
The Notes II are callable after six years, there is a coupon step-up of 1 per cent that becomes payable if the Notes II are still outstanding after 26 years, and maturity will be reached in April 2075. Not that any of us will care at that time.
The coupons are deferrable at Crown’s discretion. If this occurs, Crown is prohibited from making any distributions on any equal (Notes I) or lower ranking instruments, and from paying dividends to shareholders. Crown says it intends to limit any deferral to a maximum of five years but has the option to defer coupons until maturity.
Coupons are also mandatorily deferrable should interest cover fall below 2.5 times (FY2014: 8.6 times) or leverage exceed five times for two consecutive quarters (FY2014: 1.9 times). However, there is no prohibition on the payment of dividends etc, under a mandatory deferral.
Deferred coupons are cumulative and compounding (i.e. additional interest will be paid on the amounts owing) but this will leave most investors even further out of pocket. Generally, the amounts owed will become taxable from the point of accrual (i.e. investors will incur a tax liability, even though no money has been received).
The funds raised from the Notes II issue will be used for general corporate purposes and the notes will be a component of Crown’s capital structure, given equity credit allowed by the major credit rating agencies. As with the Notes I, it is this equity credit that explains the structure of the two issues.
All three major rating agencies will allow Crown 50 per cent equity credit for the subordinated notes. This means that when considering Crown’s gearing, interest cover and overall debt service ability, 50 per cent of the subordinated debt will be counted as equity and 50 per cent included in Crown’s other debt.
Providing equity credit allows a company to increase its debt without threatening its credit ratings, as it would if the increased debt was senior ranking. But each rating agency has its own criteria for determining whether it will grant equity credit.
Thus to meet all rating agency criteria coupons must be deferrable but can be cumulative. Standard & Poor’s requires deferability for up to five years.
S&P will allow the debt to be called after five years but the debt must have a remaining term to maturity of at least 20 years to obtain 50 per cent equity credit. Fitch Ratings will grant 50 per cent equity credit for 20 years, provided the debt has a term to maturity of at least 25 years.
While Fitch will accept earlier call dates, it will not allow coupon step-ups to encourage a call to be made. And Moody’s Investor Service will give 50 per cent equity credit for fifty years, provided the term to maturity of the debt is at least 10 years later.
Thus, the Notes I and II are callable six years after issue, are callable again after 26 years after which a 1 per cent coupon step-up will come into effect if the notes are not called, and have a final maturity date 60 years from the date of issue.
The bookbuild to determine the margin to be paid over the bank bill rate is scheduled for next Tuesday and the offer will open on Wednesday. The offer is expected to close on April 14 with deferred settlement trading on the ASX scheduled to begin on April 24.
Philip Bayley is a former director of Standard & Poor's and now works as an independent consultant to debt capital market participants. He also writes on matters concerning debt capital markets and banking for various publications and is associated with Australia Ratings.