Capital converter

More Chinese companies are using convertible bonds to raise funds


20 Jan 2012
Week in China

Insurance companies need cash. As we reported a few months ago (see issue WiC121), rapid industry growth means that insurers must raise capital to meet cash ratios – a regulatory requirement to cover a given level of claims. Standard & Poor's reckons that the Chinese insurers need more than Rmb110 billion ($17.3 billion) in additional capital over the next three years.

Ping An Insurance, like its peers, has also been monitoring its solvency ratio. But instead of tapping the equity markets directly, it is planning to issue a convertible bond that could raise as much as Rmb26 billion. The insurer announced the bond in late December and chose its underwriters last week.

The convertible is likely to be issued in June or July, reports FinanceAsia. It will have a six-year maturity, with an annual coupon of no more than 3%.

The convertible market is finally starting to grow...

At first glance, it seems an unlikely fund-raising strategy. If Ping An was to raise capital via a share placement, it would be able to count the cash immediately in its capital base. But with a convertible bond, the company has an obligation to repay the debt unless it is converted into equity – and only then will its solvency ratio get a boost.

There are a couple of reasons that Ping An could be taking this indirect route. The A-share market is still in a sorry state: a 3% jump on Tuesday only partially rectifies the 23% decline in 2011. Like many stocks, Ping An's shares are trading low, making an equity sale unattractive. Furthermore, there might not be sufficient investor appetite to absorb so much new stock.

Convertible bonds can be more attractive to investors because they offer a fixed return on the bond until the stock returns to a price where switching notes into equity becomes attractive.

Ping An is not the only large corporate planning convertible debt. Minsheng Bank also has approvals to launch a Rmb20 billion bond from the banking regulator. China Shipbuilding Industry Corporation and Tongrentang Group are looking to issue convertibles sized at Rmb8 billion and Rmb1.2 billion respectively.

As a result the convertible market is finally starting to grow, from Rmb4.15 billion in 2002 to more than Rmb100 billion last October.

It is rarely seen in history that convertible bonds plunge below par value collectively."

One challenge is that issuance is dominated by a few large entities that move the market with the announcement of each new deal. Last August, Sinopec announced plans to issue up to Rmb30 billion of convertibles over a six year period, having already issued Rmb23 billion of convertible debt a few months earlier. In the days that followed, the market tumbled, with the index for convertibles down by 3.6% on August 29 alone, the largest daily decline of 2011. The S&P/CITIC Convertible Bond Index dropped further, by almost 9%, with the investor base distinctly underwhelmed at the prospect of excessive supply. Investors were also concerned that Sinopec had issued a new bond before its older one had been redeemed or converted. It was, in effect, the first refinancing of a convertible bond in China.

"It is rarely seen in history that convertible bonds plunge below par value collectively," Liu Shudong, an analyst from Shihua Financial Information told Economy & Nation Weekly.

Since then there have been investor calls for growth in the convertible market to be more controlled. Companies have been using convertible bonds to "rake in money like crazy at low costs regardless of the capabilities of the capital market," one insider told Economy & Nation Weekly.

"Such a short-sighted approach goes against the development of the market."

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