Post on 21-Dec-2015
Prof. Ian GiddyNew York University
Restructuringin Emerging Markets
Copyright ©2002 Ian H. Giddy Corporate Financial Restructuring 2
Why Financial Restructuring?
The Asian Bet The Solution, Part I: Recapitalization The Solution, Part II: Financial
Restructuring The Solution, Part III: Corporate
Restructuring
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The Asian Bet
High growth disguised speculative financing structures
Governments shielded companies and banks from capital market discipline
Too much debt Too much foreign-currency debt Closely held ownership relying on
reinvested earnings
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The Asian Bet
High growth disguised speculative financing structures
Governments shielded companies and banks from capital market discipline
Too much debt Too much foreign-currency debt Closely held ownership relying on
reinvested earnings
The three excesses Too much debt Too much labor Too much capacity
The three excesses Too much debt Too much labor Too much capacity
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How the Bet was Lost
Vulnerable economies, newly liberalized, succumbed to currency crises
Vulnerable corporate financial structures Companies were unable to service even
domestic debt, never mind foreign currency debt
Many Asian companies resisted reform even after the crisis, and remain misfinanced
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Today
Asia remains awash in bad debt that is putting its banks and economies at risk
Private estimates put the total at $2 trillion and growing
The region's banking culture often makes it difficult to collect.
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Bad Debt: It’s Worse Than They Think
Source: McKinsey Quarterly, 2002 Number 4
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Bad Old Debt Means Little New Credit
Source: McKinsey Quarterly, 2002 Number 4
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Official Restructuring: A Spotty Record
Source: McKinsey Quarterly, 2002 Number 4
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Tomorrow
Corporations must implement the key principles of corporate finance – estimate realistic cost of capital and discard investments below the WACC
Shareholders must exercise ownership rights Banks must break the link between loan
origination and collection Governments have to leave insolvent
borrowers to their fate Regulators should get tough on loan
classification standards.
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What is Corporate Restructuring?
Any substantial change in a company’s financial structure, or ownership or control, or business portfolio.
Designed to increase the value of the firm Restructuring
Improve
capitalization
Change ownership
and control
Improve
debt composition
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It’s All About Value
How can corporate and financial restructuring create value?
Operating
Cash
Flows
Debt
Equity
Assets Liabilities
Fix the business
Or fix the financing
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Restructuring Checklist
Figure out what the business is worth now
Use valuation model – present value of free cash flows
Fix the business mix – divestitures Value assets to be sold
Fix the business – strategic partner or merger
Value the merged firm with synergies
Fix the financing – improve D/E structure
Revalue firm under different leverage assumptions – lowest WACC
Fix the kind of equity What can be done to make the equity more valuable to investors?
Fix the kind of debt or hybrid financing
What mix of debt is best suited to this business?
Fix management or control Value the changes new control would produce
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Capital Structure: East vs West
VALUE OFTHE
FIRM
DEBT
RATIO
Optimal debt ratio?
Intel TPI
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Fixing the Capital Structure
Too little debt Managers like to control
shareholders’ funds Underestimate the cost
of equity
Produces Less discipline Excessive cost of
capital Takeover risk
Too much debt Close control of equity Easy money Underestimate business
or financial risks
Produces Risk of financial distress Excessive cost of
capital Destroy operating value Takeover risk
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When the Creditors are Prowling
Trouble!
The financing
is bad
The company
is bad
Business
mix is bad
Raise equity
or
Change debt mix
Change control
or management
through M&A
Sell some businesses
or assets
to pay down debt
Reason
Remedy
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The Three Excesses in Thailand
Labor Capacity Debt
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TPI’s Refinancing
Asia’s biggest debtor Almost $4 billion in foreign currency
debt financing domestic revenues Protracted rescheduling results in $360
million debt/equity swap No change in management or effective
control Still needs $1.2 billion new equity
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Typical Result: Debt-Equity Swaps
Cosmetic or real? Choices for company under siege
Raise new equity or quasi-equity to partially pay off creditors
Example: IridiumGive creditors equity in place of debt
Example: Sammi SteelBoth
Example: Alphatec
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What Do Debt-Equity Swaps Do?
Overleverage creates financial distressOverleverage creates financial distress
Actual or potential defaultActual or potential default
Lenders take equity in lieu of repaymentLenders take equity in lieu of repayment
Lenders hold equity passivelyLenders hold equity passively Lenders replace managementLenders replace management Lenders sell equityLenders sell equity
Existing management buys timeExisting management buys time Change of control
means restructuring
Change of control
means restructuring
Financial engineering Bottom line “rationalization” Divestitures & outsourcing
Financial engineering Bottom line “rationalization” Divestitures & outsourcing
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What Are The Alternatives?
Key: Make the new securities attractive to:Existing lendersNew lendersNew bond investorsNew equity investors
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The Financing SpectrumE
xpec
ted
Ret
urn
Risk
Senior Debt Returns independent
of the value of the business
Control through covenants
Senior Debt Returns independent
of the value of the business
Control through covenants
Equity Residual returns
after contractual claims
Control through voting rights
Equity Residual returns
after contractual claims
Control through voting rights
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The Financing SpectrumE
xpec
ted
Ret
urn
Risk
Senior secured debtSenior secured debt
EquityEquity
Senior unsecured debtSenior unsecured debt
Subordinated debtSubordinated debt
Preferred equityPreferred equity
Convertible debtConvertible debt
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The Financing SpectrumE
xpec
ted
Ret
urn
Risk
Senior secured debt
Equity
Senior unsecured debt
Subordinated debt
Preferred equity
Convertible debt
Asian bank NPLsAsian bank NPLs
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Restricted Stock: Pros and Cons
Advantages Overcome foreign
control restrictions Insiders retain
control If company well run,
value of control may be low
Disadvantages Nonvoting stock
trades at a discount Dual-class recaps
hurt stock price May allow
management to avoid needed reforms
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The Difference
“The Ministry of Finance received a preferred share while investors received a preferred share and a warrant allowing them to purchase the ministry's share at a 13.3% premium (equivalent to the cost of carry) during a three-year period. The preferred shares carry a 5.25% dividend and full voting rights”
"When institutions started buying the story, they bought the convertible bonds, the sub debt - you name it, they bought it."
Alternatives: Thai Farmers Bank: SLIPS, Bankok Bank: CAPs
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Transparency and Disclosure
A 275-page prospectus, which provided a breadth and depth of information previously unseen in an Asian issue.
"We went and looked back at US bank holding company offers -- those that were US SEC Grade 3 compliant. We also went back and looked at a lot of the prospectuses for the recaps of US banks, like Mellon and Citibank. We looked at the level of disclosure they achieved and committed ourselves to exceeding that -- which SCB did."
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MacroFactors
• Currency overvaluation• Capital restrictions
StructuralFactors
• Acctg & disclosure requirements• IAS compliance• Bankruptcy regime• Creditor rights• Govt-corporate nexus• Trading infrastructure
• Price-Value ratio, Sharpe ratio, EVA• D/E ratio• Currency & maturity mismatch• IAS conformity• Insider control• Objective research coverage• Trading liquidity
Firm-levelFactors
What Globally Mobile Investors Look At
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Debt
Equity
Domestic Market
Issue in Foreign Market(Depositary Receipts)
Unsponsored Private placement
Exchange traded
Exchange traded IPO
Private placement IPO
Global issue or GDR
Can the Form of Foreign Participation Make a Difference? (ADRs)
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The New Equity Option
Key: Make the new equity attractive to: Portfolio investors
DomesticInternationalReduce agency costs or we’ll “Just say
no!” Strategic/direct investors
DomesticInternationalCede control or we’ll go elsewhere
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PT Astra International
?
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PT Astra International
1997: Almost $2 billion USD debt 1998: Steep losses Mostly IDR revenues 1999: Debt restructuring, return to
profitability Bina Busana Internusa: February 1999 US $1 mio PT Astra International: June 1999 US $1,149 mio. Fuji Technica Indonesia: September 1999 US $16 mio Federal International Finance: December 1999 US $107 mio. Traktor Nusantara: December 1999 US $ 21 mio. Astra Graphia: December 1999 US $82 mio.
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New Equity for Astra
What investors?Portfolio investorsFinancial investorsCorporate investors
What returns should they expect?= Risk-free rate+ Corporate risk+ Financial risk (leverage/debt mismatch)+ “Agency cost” premium+ Country risk
What restructuring?
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Alphatec
What really caused Alphatec's collapse? What was the January 1999 rehabilitation
proposal? What, specifically, is the "performance-linked
obligation?" Does the January 1999 Rehabilitation Plan
meet investors’ expectations? Look at it from the point of view of:Existing creditorsNew equity investorsA possible management buyout
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Contact Info
Ian H. Giddy
NYU Stern School of Business
Tel 212-998-0426; Fax 212-995-4233
Ian.giddy@nyu.edu
http://giddy.org