Funding in difficult time - Helena Keers' viewpoint

By: Wayne B. Little Posted on: 2008-08-11 ** Print Article ** ** Copy Article ** - Category Feed

Article Summary: The credit crunch has now reached its one-year birthday. Let's have a look at the article by Helena Keers about funding in this difficult circumstance.

The credit crunch has now reached its one-year birthday. Let's have a look at the article by Helena Keers about funding in this difficult circumstance.

The credit crunch is spreading worldwide and will probably last for years; some CFOs will have to
consider alternatives to debt markets, Helena Keers writes.
If you think the worst of the credit crunch is over, think again. Market experts believe that it may take
years for the Australian and global markets to return to more favourable conditions. And before that time
arrives, corporate and housing default rates are expected to snowball.
According to BlackRock United States president Robert Kapito, the credit crisis is less than halfway
through. Comparing it to a baseball game, which has nine innings, he says: "Some people think it's in
the eighth, I think it's in the fourth inning. Wait until you see the losses people are going to report this
quarter."
Kapito is not alone in his prognosis. A growing number of market watchers are warning that storm clouds
are gathering globally as unemployment levels creep up, and rising prices for commodities and food
buffet the worldwide economy.
On the Australian Securities Exchange, the All Ordinaries Index has recently plunged below the
psychological 5000 mark, as fears of further corporate write-downs have shaken investor confidence.
?Morgan Stanley equities strategist ?Gerard Minack thinks it is still early days for the credit crunch.
"Credit crunches follow economic downturns where lenders have taken losses," he says. "This time the
crunch started before economic growth deteriorated. As growth deteriorates - causing further losses -
lenders will likely become even more restrictive. Lenders have more to be concerned about. Their
principal customer, the consumer, is leveraged to an unprecedented extent, and is saddled with a
hugely overpriced 'asset' in residential housing.
"Lenders themselves also heavily depend on wholesale capital markets for their finance, and with capital
markets becoming skittish, they may find they are subject to a credit crunch, which they will pass on to
their customers."

CRISIS OF CONFIDENCE

Another commentator expects it to take years for markets to return to favourable conditions. ?AMP
Capital Investors head of investment strategy and chief economist ?Shane Oliver says, "The worst is over
but the credit crisis could continue for some time to come.
"If history is any guide, short-term-dated credit will be back to normal in about six months. But
long-term-dated credit could take years to bounce back.
"We haven't seen corporate or housing default rates peak yet, so lenders will be cautious for some time
to come."
Investors in Australia have been burnt by the failed Basis Capital and products such as cash
management trusts and enhanced funds. "Once the bubble bursts, it often takes a while for confidence to
return," Oliver says. "With economic conditions deteriorating, it could take investors time to warm again
to credit. So it will be at least two years before normal conditions return and another five to six before we
are back to favourable conditions."
Tellingly, consumer confidence has fallen to its lowest level in 16 years in the US, as uncertainty about
the true health of the economy gnaws away at investors. The US Conference Board, a non-profit
research body, reports that consumer confidence dropped sharply in June, to its lowest level since
mid 1992. It was the fifth-lowest reading since the series began in 1967.
Confidence has not been helped by news of the downgrading of US investment-bank debt, the purging
of staff at two large banks - Wachovia and Washington Mutual - and the troubles reported at Lehman
Brothers, the fourth-largest US sharebroking firm.
The US residential sector has also slumped. In the year to May, new housing starts were down more than
30 per cent, and sales of new homes were more than 40 per cent lower, compared with the same month
in 2007.
Investor confidence was further dented after OPEC president Chakib Khelil said oil prices "will not come
down" and that the oil cartel had done all it could on the matter. In the next few months, crude oil prices
are expected to test the $US150 ($156.35) a barrel mark.
The International Monetary Fund has also raised concerns about the full extent of the sub-prime issue. It
says that although the worst of the problem seems confined to the US and Europe, other regions may
still suffer from major write-downs by financial players. In its latest annual report, the Australian Prudential Regulation Authority found that although housing lending in this country was sound, there
were signs that risks of default by some borrowers were growing.
Australian consumer confidence has certainly been hit hard and is in decline, courtesy of the high price
of oil and rising interest rates, which have hit a 12-year high. The Westpac-Melbourne Institute index of
consumer sentiment fell to a 15-year low in June.
As consumer confidence wanes, investors are battening down the hatches and companies are struggling
with the market volatility and debt financing.
One sector in Australia that has been badly hit by the credit crunch is the highly geared $35 billion
infrastructure fund sector, which began to feel the strain of the global credit crisis in late 2007, amid
concerns about the rising cost of debt.
BOND INSURER woes add to pain
It was further hit when major credit ratings agencies downgraded the world's biggest bond insurers. This
meant another source of funding for infrastructure and energy groups dried up, sending the cost of debt
even higher.
Bond insurers have guaranteed more than $US2400 billion worth of bonds globally, and $20 billion
worth in this country.
Australian companies use bond insurers such as Ambac, MBIA and Financial Guaranty Insurance
Company to secure AAA ratings from Standard & Poor's for bond issues, rather than issuing at the
underlying credit rating, which may be as low as BBB+.
This enables corporations both to reduce their interest costs and access the deeper AAA bond market.
Australia's biggest users of bond insurers are its largest national gas distributor, Envestra, electricity
distributor Powercor, the NSW rolling stock public-private partnership Reliance Rail, energy company
Snowy Hydro and various Macquarie Bank infrastructure satellites.
?Merrill Lynch analyst ?Matt Spence wrote in a recent infrastructure report: "Although some debt
packages have been put together in recent months [for example, Hobart Airport, Brisbane's Airport Link]
it would be great to see some listed names successfully refinance. If Babcock & Brown Power), SP
AusNet or Australian Infrastructure Fund could close deals at reasonable margins, credit concerns could diminish. But [for now] the market continues to shun leveraged names."
Equity appeals
The rising cost of debt leads some companies to consider raising equity instead. Following turbulence in
global markets, Primary Health Care raised $1.2 billion from the equity markets earlier this year. And
forestry group Gunns is looking at equity and other alternatives for funding its proposed $2 billion pulp
mill. ?Wesfarmers also turned to equity to refinance most of the $4 billion bridging loan set up to support
its $20 billion acquisition of Coles Group.
"Following a review of the range of options available to complete the refinancing program and the
funding cost of those options," Wesfarmers chief executive ?Richard Goyder says, "the Wesfarmers board
believes an equity issue is in the best interests of shareholders, given a backdrop of ongoing volatility in
global debt capital markets."
Wesfarmers completed Australia's third-largest rights offering when it raised $2.57 billion from
shareholders in a one-for-eight fully underwritten, accelerated pro-rata entitlement offer, at $29 a share.
The advantages of a placement are that the issue can be made at a much lower discount to market than
is the case with a rights offering. Underwriters also prefer placements, because they are at risk for only a
day or so, compared with about four weeks for a rights offering. "The equity raising will strengthen the
Wesfarmers balance sheet and provide us with financial flexibility going forward," Goyder says.
The remaining refinancing of Wesfarmers' $4 billion bridging loan has been covered by a
$US650 million five-year bond issue launched in the US, as well as new commitments from bankers to
refinance $800 million worth at a margin of 100 basis points, including fees.
In the current funding crisis, other CFOs are turning to better cash-management strategies to tide
themselves over until the cost of raising debt falls.
Toll road operator ?Transurban, for example, recently announced plans to fund future shareholder
returns from true operating cash flow, rather than debt.
The company's decision to slash its 2008-09 distribution 60 per cent sent yield-hungry investors running
for cover and the shares plummeted 14 per cent on the day the news was announced.

Transurban plans to maintain its 2007-08 second-half distribution per stapled security at 29¢, but the
company has cut its 2008-09 dividend-a-share guidance by more than half, from 58¢ to 22¢.
"The model of borrowing money to pay distributions is not sustainable in this market," Transurban chief
executive ?Chris Lynch, formerly the chief financial officer for BHP Billiton, says.
Analysts support Transurban's new focus on cash management and funding future distributions from cash
flow rather than gearing.
The company is also raising close to $1 billion of fresh equity and has recently finalised a $659 million
placement to Canadian investors, at $5.49 a security.
Canada's Pension Plan Investment Board, which recently saw its bid for Auckland International Airport
rejected, took the entire placement, as local investors did not respond.
Five analysts recommend buying Transurban shares and value them at about $6 to $7 each. The
company's dividend decision has prompted Babcock & Brown Power, Macquarie Group-backed Duet
Group and Macquarie Media Group to announce
similar moves.
However, although cash management is at the top of the agenda for many companies, it is still too early
to say that the financial world has seen the end of the credit crunch.
Regulators' bail-outs raise concerns
The US Federal Reserve Board's bail-out of investment bank Bear Stearns in mid March implied that the
Fed would take action to prevent any systemic collapse, so investors welcomed the move.
Since then, however, the price of insuring against default has risen more than a third and the bail-out is
being questioned from outside and within the central bank.
Some say it has led to a deterioration in market discipline.
Investors fear more global banks will be forced to follow in the footsteps of Yorkshire-based bank Bradford
& Bingley and the Royal Bank of Scotland, and tap shareholders for extra capital. So what should central banks and regulators do when there is a problem in the market?
The Reserve Bank of Australia has followed its central bank counterparts in the United States and Britain
as a white knight for banks struggling to fund their structured mortgage products, making an
unprecedented $1.1 billion two-day intervention in the markets to buy tranches of mortgage-backed
securities.
Officially, the RBA is restoring liquidity. Instead of propping up any one institution, the bank has injected
liquidity into the market by lending against the security of the residential mortgage securities for more
than 12 months. This means it can deposit $100 million of these securities with the RBA, which in turn
will advance $90 million to the bank. This transaction is called a repo - a repurchase agreement.
But critics say the RBA is bailing out banks by removing assets from balance sheets, and many believe
the strategy will encourage a repeat of the profligate lending that gave rise to the global credit crisis.
Meanwhile, a radical 100-day rescue plan outlined in the Report on Enhancing Market and Institutional
Resilience is being put into action around the world to save the banking system from the credit crunch.
This report is the brainchild of the Financial Stability Forum and its target audience is the international
community, particularly the G7 and the International Monetary Fund.
The rescue plan is aimed at forcing early disclosure and certainty about the true financial status of banks
in this credit crunch, in order to put a stop to banks charging higher interest rates on loans they make
between themselves.
These sorts of strategies have been rife in the past because banks have been unsure and afraid of
undisclosed faults in each other's creditworthiness.
Other changes discussed in the report include eradicating the off-balance sheet shadow banking system
that evolved as a market for structured products: collateralised debt obligations, collateralised loan
obligations, conduits and structured investment vehicles.

Reader ROI
* Credit crunch pain will continue as economies deteriorate, and it may take years for debt markets to
return to favourable conditions.

* Highly leveraged companies are having difficulty refinancing and some are turning to equity raisings
instead.
* Savvy CFOs are also aiming to improve cash management, to take pressure off the need to find bank
funding.
* Well-managed companies are raising capital from large pension funds and sovereign wealth funds.

Article Source: http://www.upublish.info

About the Author:
Wayne B. Little
Originally by Helena Keers
http://www.afraccess.com/Launch.mxml?URL=EDP://20080801000030144373
Redistributed by Wayne B. Little
www.commoditycalendar.com

Keywords: fund, fund+management, credit+crunch

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