seb hybrid seminar hybrid capital from a corporate perspective · announcement of the roadshow –...

SEB Hybrid Seminar Hybrid Capital from a Corporate perspective

Johan Gyllenhoff, Group Treasurer

31 May 2016

Vattenfall today

Key figures 2015

Net sales (MSEK) 164,510

Underlying operating profit (MSEK)1 20,541

Operating cash flow (MSEK) 40,934

Installed capacity, electricity (MW) 2 38,806

Installed capacity, heat (MW) 13,455

Length of electricity distribution networks (km) 259,000

CO2 emissions (Mtonnes) 3 83,4

Number of electricity customers ~ 6,200,000

Number of electricity network customers ~3,200,000

Number of gas customers ~2,100,000 1) Underlying operating profit, excluding items affecting comparability 2) Consolidated figure 3) Pro rata basis, corresponding to Vattenfall’s share of ownership

Hybrid Capital from a Corporate Perspective | 31 May 2016 2

What is a corporate hybrid bond?

Debt

Corporate Hybrid

Equity

…Instruments that exhibit characteristics of both debt and equity

... is issued in the form of debt and placed with fixed income investors

... is non-dilutive from a shareholder’s perspective (unlike other equity and equity-linked securities)

... is typically tax-deductible (remuneration)

...costs less than equivalent debt & equity package from a WACC perspective

... may be accounted for as “equity” (principal and periodic coupons): protection of financial covenants

… provides bank lenders with a capital buffer and an extra layer of protection

... may achieve up to 100% equity content by rating agencies (i.e. viewed equivalent to equity)


Corporate Hybrids Structural Risks for Investors H

ybrid

Ris

ks

Key

Miti

gant

s

Coupon Deferral Extension Risk Subordination

Arrears / Dividend Pusher Coupon Step-Up / Loss of equity credit

Deferrable Coupons Discretion of the Issuer

Cumulative or non-cumulative Usually cash-cumulative

Mandatory Coupon Deferrals

Either perpetual or long maturity Structured with call dates

Callable only by the Issuer… …with No Obligation to Call The market expects it to be

called and replaced at first call

Junior or Subordinated Most cases senior only to

ordinary share capital In insolvency or liquidation it will be serviced once all other

obligations have been paid

Structured to encompass mechanisms linking coupon and

dividend Dividend Pusher Mechanism Dividend Stopper Mechanism Arrears Pusher Mechanism

Incentives for Issuer to call Coupon step-up

Loss of equity credit from Rating Agencies


€0bn

€5bn

€10bn

€15bn

€20bn

€25bn

€30bn

€35bn

<2005 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015EUR GBP USD SEK

History of Corporate Hybrid Bonds

<2005: The Big Bang!

2005: The Birth

Investor Universe Expands - First GBP Hybrid

2006-2008: Expansion

2008-2010: Crisis Financial Crisis Strikes

2010: Stability Returns Utilities Opens up the

Market

2013: “Viva la France”

2014: Second Swedish Issuer

2015: Firsts First SEK Corporate

Hybrid First PP Hybrid

Source: BNP Paribas, Dealogic; Hybrid Supply = EUR, GBP, USD and SEK Denominated IG and Sub-IG Corporate Hybrids issued by European Corporates Hybrid Capital from a Corporate Perspective | 31 May 2016 5

EUR Hybrid Market

2005 2010 2015 # Issuers 8 6 24

Cumulative # of Issuers 11 31 83

Volume Issued €6bn €5bn €26bn Cumulative

Volume Issued €7bn €22bn €103bn Volume

Outstanding €7bn €22bn €90bn Hybrid Volume % Total IG EUR

Issuance 8% 4% 10%

# of “Hybrid Events” 0 3 11

“Hybrid Events” of Total Volume

Issued (%) 0% 5% 6%

Source: BNP Paribas, Bloomberg, Dealogic; Hybrid Supply = EUR Denominated IG and Sub-IG Corporate Hybrids issued Hybrid Capital from a Corporate Perspective | 31 May 2016 6

40 %

23 %

13 %

11 %

7 % 6 %

31 %

29 %

14 %

9 %

9 % 8 %

Hybrid Market Now for a Diversity of Issuers

Germany & Austria France Southern Europe UK Nordic BeNeLux Other

Utilities & Energy Industrial Telecom Oil, Gas & Com. Consumer Other

Split by Issuer Region Split by Issuer Sector

Other = 0.2%

Source: BNP Paribas, Dealogic; *Hybrid Supply = EUR, GBP, USD and SEK Denominated IG and Sub-IG Corporate Hybrids issued by European Corporates

~€120bn* of Hybrid Securities Issued By European Corporates


http://www.merck.de/de/

Rationale for issuers of Corporate Hybrid Bonds (1/2)

Hybrid Capital from a Corporate Perspective | 31 May 2016

Date Issuer Size (€mn) Support BS M&A Refi CAPEX GCP Rationale

Nov-15 OMV 1,500 Demonstrates OMV’s commitment to maintaining a strong

investment grade credit rating Further diversifies OMV’s funding sources

Nov-15 Solvay 1,000

Strengthen balance sheet, increase financial flexibility and complete the acquisition of Cytec

Attractive financing tool to increase financial flexibility in light of the strategic transformation

Nov-15 Vattenfall 372 eq. Strengthen financial flexibility GCP

Oct-15 BHP 5,667 eq.

Proactive balance sheet to achieve a robust, diversified capital structure, that provides support and flexibility for its business

Pre-fund FY16 and FY17 debt maturities at historically competitive prices

Sep-15 EDP 750 Support credit quality and underpin commitment to current

ratings Unique opportunity to diversify portfolio

Aug-15 Lufth 500

Enhance financial flexibility to implement strategy and investment requirements in a changing environment

Optimise Lufthansa’s capital structure through hybrid capital issuance

Jul-15 Boerse 600 Refinance existing indebtedness Partly finance the full acquisition of the joint venture companies

STOXX AG and Indexium AG from SIX Group AG Apr-15 Dong 600 Refinance 2015 callable hybrid notes

Apr-15 Eurofins 300 GCP

Apr-15 Gas Natural 500 Strengthen B/S and diversify funding source

Apr-15 Bertelsm 1,250 To strengthen its capital structure in order to increase the

firepower for future debt funded acquisitions such as the 50% stake in Penguin Random House

Source: BNP Paribas, Dealogic 8

Rationale for issuers of Corporate Hybrid Bonds (2/2)


Date Issuer Size (€mn) Support BS M&A Refi CAPEX GCP Rationale

Apr-15 RWE 1,250 Refinance 2015 callable hybrid notes

Apr-15 1,368

To support credit quality and underpin strong investment grade ratings

Enhance financial flexibility to implement strategy and investment requirements in a changing environment

Optimise capital structure through hybrid capital issuance

Mar-15 1,300 Refinance 2015 callable hybrid notes

Mar-15 600

Supports credit during the implementation of Perform 2020 plan Strengthen balance sheet with a new equity layer in the capital

structure (100% IFRS equity) Diversify funding sources

Mar-15 500 Buy back EUR 750mn subordinated fxd-to-frn notes issued in

Sept 2010 (at the time 450mn o/s)

Mar-15 2,000

To fund the Talisman acquisition, and with the objective of maintaining credit ratings

The Hybrid bond also allows it to strengthen its financial position and diversify its sources of finance

Mar-15 2,500 GCP

Mar-15 1,600 eq. Refinance 2015 callable hybrid notes and GCP

Feb-15 1,615 eq. Refinance 2015 callable hybrid notes

Feb-15 750 Acquisition of Get AS for a total of NOK 13.8bn

Feb-15 5000 Balance sheet strengthening and defend credit rating

Source: BNP Paribas, Dealogic 9

0%

2%

4%

6%

8%

10%

12%

14%

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

Cost-benefit-analysis – An Example


Basket C Hybrid Capital transaction will be classified as 50% debt and 50% equity by the rating agencies

Comparable to issuing 50% senior debt and 50% equity capital

Beneficial from economical perspective if: Cost of Capital of Hybrid < Cost of Capital of an equal

50/50 split of senior unsecured and equity capital issuance

Other Considerations includes: Equity / Debt Accounting

Replacement Cost of Hybrid Security

Messaging to Rating Agencies

Larger Tax Shield for Hybrid Securities

Swedish Tax rate : 22% Hybrid Coupon of 5% Pre-Tax (3.9% Post-Tax) Cost of Equity of 12% Cost of Senior Debt of 1.0% Pre-Tax (0.78% Post-Tax)

Assumptions

In this example the hybrid capital transaction achieves an annual cost saving (post-tax) of c. 249bps

Comparison of funding costs Graphical analysis of the cost benefit of hybrid capital

Straight Equity

50% Equity 50% Debt

Post-Tax Senior Debt

0.78%

3.90%

6.39%

12%

Cost Savings of 249bps

Hybrid Pricing

10

Pricing a Hybrid Security – An Example


0,0%

1,0%

2,0%

3,0%

4,0%

5,0%

6,0%

7yrReference

Rate

Senior CreditSpread

Sub-SeniorPremium

New IssuePremium

NC7 HybridCoupon

Pricing Rationale for a NC7 Hybrid

Reference Rate

As with a senior transaction a hybrid is priced over the reference rate

In Europe the reference rate is Mid-Swaps and in the US it is priced over Treasuries

Senior Credit Spread

Is the additional interest rate cost demanded by investors over the applicable reference rate

Compensates for the default risk of the issuer Relative value analysis on outstanding senior

unsecured securities

Sub-Senior Premium

Required by the investors for investing in the hybrid versus the senior debt of the issuer

Compensates for: o Coupon Deferral o Extension Risk, & o Subordination

Determined by looking at sub-senior premiums on outstanding hybrids in the same sector and rating category

New Issue Premium

Additional premium to incentivise investors to buy the new issue rather than outstanding hybrids

Regarded by investors as an insurance policy to ensure that they don’t lose money on a new issue

Subject to market sentiment and supply-demand dynamics

Sub-Senior Pricing Walkthrough

Hybrid securities are marketed on a coupon/yield basis

The security is priced to the next call date rather than to maturity

One of the more common pricing methodologies is by using the current Sub-Senior premium required in the market

Recently investors are more frequently looking at the Yield To Call on outstanding hybrids to determine relative value

11

Who are the Investors?


Country Investor Invests in Hybrid

Invests in Senior

Blackrock Invesco Perpetual

Fidelity Bluebay

Legal & General IM Deutsche AM / DWS

Union DEKA Invest

PIMCO / Allianz Gothaer Amundi Aviva

La Banque Postale AM Natixis AM

AXA IM Danske Capital

Nordea IM Pohjola

SEB Evli

Alecta APG (Netherlands) UBS (Switzerland)

Generali (Italy) Credit Suisse (Switzerland)

Lombard Odier (Switzerland)

Other

28%

22% 15%

9%

9%

5% 4%

3% 5%

UK & Ireland Germany & Austria FranceSwitzerland Italy NordicsNetherlands Spain & Portugal Other

Investor Split by Geography Some of the Most Active Hybrid Investors

Source: BNP Paribas 12

Vattenfall announced a triple tranche transaction in EUR and SEK denominations

Vattenfall announced a tender offer on its outstanding hybrid at announcement of the roadshow – final hit rate of ~50% at 0% yield premium was a very successful outcome

The transaction received strong demand from investors achieving a final coupon on the three tranches at 3.000%, 3.125% and Stibor+235bps

Vattenfall issuance in 2015 – Summary


Deal Related Roadshow Conducted over 4 Days – visiting the key locations in Europe

Although, Vattenfall’s hybrid refinancing was well flagged, it was important to meet investors and update them on the credit story

2

1

4

3 5

Roadshow: 6th to 11th March € & SEK Offering: 12th March Private Placement: 13th November

Vattenfall priced the first ever hybrid private placement

Placed under Regulation S in $ - sold outside the US

The transaction followed S&P’s Reclassification of Equity credit

Vattenfall issued a legally binding deed of undertaking on the 10th November – S&P reassigned equity credit on the same date as the transaction

Denominated in US$, the hybrid priced at a coupon of 6.10% with a 63NC8 structure

Swapped to 4% EUR Coupon

The transaction brought further investor diversification to Vattenfall’s hybrid portfolio

13

Vattenfall 2015 EUR & SEK Hybrid Issuance


Issuer: Vattenfall AB

Status and Ranking: Direct, unsecured and subordinated, senior to all

share capital and pari passu with Vattenfall's outstanding hybrid

Senior Rating: A3 stable (M) / A- stable (S&P)

Issue Rating (exp.): Baa2 (M) / BBB- (S&P)

Equity Credit (exp.): 50% / 50% until first call (M/S)

Size: €1bn SEK3bn SEK3bn

Format: 62NC12 62NC7 (Fxd) 62NC7 (Frn)

Settlement: T+5 T+5 T+5

IPTs: 3.250% area 3.125-3.25% Stibor eq.

Coupon: 3.000% 3.125% Stibor+235

Spread vs. MS: 226.1 234.5 -

Structuring Advisors: BARC / BNPP

Bookrunners: BARC / BNPP / Citi / Danske Bank / ING / SEB

Transaction Details

Tranche EUR SEK Fxd SEK FRN

Book Size: €5bn SEK3bn SEK3bn

# of Orders: #333 #50 #54

Book Analysis

Proceeds used for refinancing, balance sheet strengthening and GCP

First ever corporate hybrid bond issued in SEK

SEK tranche removed the need for swaps and associated swap charges

This was Vattenfall’s first EUR bond transaction since 2009

The transaction followed a successful refinancing by SSE in February

The tender was a large success: hit rate of ~50% at a premium of 0%

Transaction Details

Global Capital: “…the Swedish krona tranche had priced in line with the euro tranche, or even up to 5bps tighter”

Global Capital: “The krona market is a five-year market, so they were asking investors to go two years down the curve. It was

definitely a Swedish krona landmark”

22%

20%

19%

14%

10% 7%

8%

France UK GerNordic Ita SwitzerlandOther

60% 18%

9% 5% 8%

Fund Manager Ins/PFBank/PB HFOther

Distribution by Geography Distribution by Investor Type

14

Utility Hybrid Performance 2015 – 2016YTD


Hybrid Spread Performance (i-spread)

Source: BNP Paribas, Bloomberg 15

180bp

280bp

380bp

480bp

580bp

680bp

780bp

880bp

Mar-15 Apr-15 May-15 Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Mar-16 Apr-16 May-16

Vattenfall 3% NC2027

SSE 2.375% NC2021

Centrica 3% NC2021

EDF 5% NC2026

RWE 2.75% NC2020

RWE 3.5% NC2025

€ Non-Fin Hybrid Index

S&P Announcement on Corporate Hybrids


Focus is around certain definitions of special event calls relating to a loss in equity credit

Several hybrid issuers where affected totalling EUR21bn of hybrid capital were re-classified to 0% equity credit

This is not a change in its assessment criteria and as such call rights on many of the affected issues will not be triggered

Remedies: 1. Trustee or Issuer’s Ability to Accept on Noteholders’ Behalf 2. Deed Poll 3. Consent Solicitation

Issuer Press Release

Remedial Action Revised Equity Content

Date Remedy Equity Credit Date

CENTRICA 28-Oct 18-Nov Legally binding deed of undertaking 19-Nov-15

SSE 27-Oct 26-Nov Legally binding deed of undertaking 27-Nov-15

BERTELSMANN - 12-Nov Legally binding waiver 13-Nov-15

MERCK - 24-Nov Legally binding waiver 30-Nov-15

RWE AG 27-Oct 15-Dec Legally binding waiver 18-Dec-15

DONG 27-Oct 11-Nov Legally binding deed of undertaking 13-Nov-15

VATTENFALL 27-Oct 10-Nov Legally binding deed of undertaking 13-Nov-15

ALLIANDER - 11-Nov Legally binding waiver 13-Nov-15

TENNET 28-Oct 11-Dec Legally binding waiver 14-Dec-15

GAS NATURAL - N/A Deed of undertaking 12-Jan-16

TELEFONICA - 18-Nov Legally binding deed of covenant 20-Nov-15

Source: BNP Paribas 16

What is the Future for Hybrid Capital?


Debt

Corporate Hybrid

Equity

Drivers of Future Issuance

M&A

Refinancing of existing hybrids (S&P?!)

Rating Defence

Standardisation

Helpful for Liquidity

Must guard against complacency (devil maybe in the detail)

Standardisation allows for a long lasting product, appreciated by issuers and investors

Risks to Hybrid Capital

Criteria Change (rating agency, tax accounting)

Rising rates

Spread decompression trend

Call congestion

Continued Role of Hybrid Capital?

Managing credit profile

Not the holy grail

Permanent part of corporates balance sheets?

17

seb hybrid seminar hybrid capital from a corporate perspective · announcement of the roadshow –...

Documents