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A World of Trouble

Europe and Asia agree: Credit is hard to come by and there is little relief in sight.
Jason Karaian and Don Durfee, CFO Magazine
March 1, 2009

All Stuart Hall wanted was a quiet drink. The CFO of Pace Plc, a Yorkshire, UK-based maker of digital TV set-top boxes, was relaxing in a hotel bar in Hong Kong late one night last October, having spent the day studying possible Chinese acquisition targets. Then his phone rang. It was a colleague in the UK, calling to tell him of rumors that British banks, already in meltdown, might soon be partly nationalized. "I thought that when I got back I'd see tumbleweeds flying down the street and buildings collapsed, like something out of Mad Max," Hall recalls.

Yet it was breaking news outside the UK that really concerned Hall, specifically the unfolding crisis in Iceland, where Landsbanki had entered receivership and had its UK assets frozen by the British government.

That was a problem for Pace, which had been using a $48 million asset-backed lending facility from Landsbanki Commercial Finance, a UK-based arm of the Icelandic bank.

Fortunately, Hall had prepared for a moment like this. Ever since Pace paid €95 million to acquire Philips's set-top box business at the end of 2007, the finance chief had wanted to bring in joint bankers. After all, he had reasoned, the company had doubled its revenue in 2007 and would double it again thanks to the acquisition.

But striking up a relationship with another financier was easier said than done. Despite agreeing with Landsbanki that it could bring in another bank, Pace found the demands of integrating the acquisition too much, and it did not sign agreements with any other banks. But it did keep talking to them, which meant that when the line with Landsbanki was pulled, Pace could immediately sit down with three domestic banks to discuss a replacement facility. Indeed, the company ended up with three offers from UK banks, including a £35 million revolving-credit facility from Royal Bank of Scotland (RBS), its existing clearing bank, which it signed in December.

Are concerns about bank stability making you reconsider where you keep your company's cash?

So everything worked out fine, right? Not quite. Even though Hall says Pace has a good arrangement with RBS — the credit line is cheaper than many he has heard of — getting there was tortuous, and constraining. "I have companies in Latin America, America, Malaysia, Hong Kong, China, France, Spain, Belgium," Hall says. "Every company is its own individual legal entity. The bank wants to try to tie you down all over the world with security. That whole process is very, very difficult and doesn't give you any flexibility. You've got to get the bank's permission for so much."

And yet Pace may be luckier than other companies. A December survey of UK firms found that banks had pulled unused credit lines on a third of respondents, and more than half said they did not expect to be able to renew current credit lines in full during the next 12 months.

Klaus Kremers, restructuring and turnaround partner at Roland Berger Strategy Consultants, which conducted the survey, says that "credit is being progressively eroded as the crisis continues." He predicts some "serious casualties" among UK businesses throughout 2009.

Across the Channel, Jean-Claude Suquet, CFO of Paris-based Carbone Lorraine, a €731 million advanced-materials and electrical-equipment firm, agrees the situation is deteriorating. He successfully renegotiated a syndicated loan last summer, months ahead of schedule, as he saw "the bank situation worsening quarter after quarter."

Intent on pursuing a growth strategy for its carbon products, which are a key component of solar-energy systems, the company struggled to find a solution. "Issuing new shares would be too dilutive," Suquet says, "because our price has gone down by 40 percent since September."

Instead, the company opted for an approach it had discussed years before with its key bank, Société Générale, but never implemented. Described as a "step-up equity facility," it is a two-year line of credit that Carbone Lorraine may or may not use. If it does choose to exercise it, the company will issue new shares to the bank based on the prevailing price at the time. This means the bank shares some upside if the company's share price rises, but also absorbs some risk, as evidenced by the fact that the terms allow for a 10 percent discount on the newly issued shares. Worth up to €75 million, or a maximum of 17.5 percent of the company's share capital, the facility is adequate for Carbone Lorraine today, and Suquet adds that, "if within six months or a year the market is less volatile and the risk is less for Société Générale, I can call and discuss a new, lower discount. It's very flexible."

Like Pace's Hall, Suquet was in a fortunate position, as banking relationships forged when times were better meant the firm had alternatives to turn to when the going got tough. But while quick-witted, forward-thinking CFOs are proving they can tap new funds even in today's dire circumstances, the broader outlook for Europe's corporates is less cheery. After the "near-closure of the capital markets and a collapse in confidence" following Lehman Brothers's bankruptcy last year, Moody's claims the scarcity and high cost of funding will continue to be the biggest challenge faced by companies in most industries across the continent this year.


Meanwhile, in Asia…
Michael Austin, the CFO of Top Form International, the world's largest brassiere OEM, lifts a document from his desk. "This is the first time we've received something like this," he says. It's an addendum to the annual renewal form for a trade finance line with a major international bank. "Here is some information they now require." He takes a breath. "Sales figures, updated management accounts, age analysis of trade debtors, orders on hand for the current year, average monthly wages, a list of our raw-materials suppliers, days of credit period for our largest suppliers. They also want to know who our other bankers are and what pricing they're offering."

He laughs at that last item, but he would be the first to agree that the banking situation in Asia is anything but funny. From Hong Kong, where Top Form is based, to Australia to Japan to the Philippines and certainly to China, the financial landscape is changing quickly as banks become more concerned about credit losses and tighten their lending practices accordingly.

Have your lenders recently enforced preexisting debt covenants more strictly?

"Financing has become very hard here," says Arvind Chandak, president of Aurobindo Pharma's China operations. The $700 million Indian-owned drug maker has a $100 million investment in a plant in Datong, a city in China's Shanxi province, and would like to increase capacity and manufacture additional products. But it is having trouble securing the 200 million RMB financing that project would require, not to mention the working-capital lines it needs for its current plant. A combination of factors stand in the way, including local bank reluctance to lend to the export sector, the difficulty of importing a large sum of foreign currency to convert into RMB (China has strict capital controls), and local rules in Datong that make it difficult for a corporate borrower to raise more than 100 million RMB from a local bank.

Aurobindo has plenty of company. At the Philippine operation of a European-owned garment exporter, the controller reports that the company can no longer get working-capital loans from the local banks they have long relied on. The banks keep asking for more documentation from the company yet don't grant the funding. "It's as if the bank doesn't want to release the loans," says the controller. "The banks are in a wait-and-see situation, especially for any firm that is engaged in exporting." To get by, the company is slowing down payments to its own suppliers. It has also secured some short-term loans from what the controller will only describe as "private individuals."

"The discussions in credit committees are getting tougher," says Matthew Austen, a partner with Oliver Wyman's corporate- and institutional-banking practice. "Covenants might well get tougher. Banks are looking at ways they can alter the terms and conditions and covenants to wrap the loans in protective padding."

Robert DeLuca, executive general manager of corporate financial services for Commonwealth Bank, one of Australia's big four banks, doesn't sugarcoat it. "The availability and the cost of capital have changed a hell of a lot over the past six months," he says. "It started last year at the high end and has now moved into the midmarket as well. There are a number of different factors. Obviously for our bank and other financial institutions, there's the ability to raise capital and what it's costing us to raise it in the wholesale market. We've also started to increase the risk margin. Terms and conditions have become a lot tighter. Previously, banks were prepared to give out credit on much looser terms regarding security and gearing levels and so forth. Now we're looking for more security, less gearing, and more guarantees from owners and directors of the company. We are also less prepared to back businesses that don't have a strong history of profit or cash flow."

How confident are you that lenders will be able to meet your funding needs in 2009?

While Asian banks are, like their U.S. and European counterparts, pulling back in response to the higher risk of defaults, most remain comparatively healthy. Indeed, the lone bright spot, experts say, is that the retrenchment on the part of large banks has given smaller regional players a chance to step in. Austen says that local banks see an opportunity to capture some market share. But, he adds, there's a danger that these banks will "dive in and catch all the credit losses that are expected in the next couple of years."

From a corporate perspective, any involvement is good involvement. When Straits Asia, a Singapore-listed coal-mining company that was spun off from Australia's Straits Resources in 2006, sought refinancing on a $300 million loan in late November, it got a hard lesson in just how bad things have gotten.

The company had to pay 325 basis points over LIBOR. And to convince its lender, Standard Chartered, to take the full loan onto its balance sheet, it issued 35 million warrants to the bank. The warrants (which have a strike price of 20 percent over Straits Asia's stock price at the time of the loan) mature when the loan comes due in May 2010.


It was hardly the deal that CFO Jim Carter hoped for, and just three months before the deal was struck he faced a far rosier scenario. Seeking, at that time, a five-year, $400 million loan to replace a $200 million bridge loan, Carter found that the members of the 10-bank syndicate that provided the original loan were receptive. "There were some core banks we had been building relationships with," he recalls. "They knew us and understood mining. A five-year loan for $400 million sounded achievable."

Then came September. "We just got hit with a tsunami. We were trying to refinance in the middle of the worst markets most of us have ever experienced. We saw banks falling away. Our banks were in pretty good shape, but there was a whole change in sentiment. It got worse and worse. By the last week of September, any company that had funding coming up in the next three months was getting hammered in the market. People were saying, 'You're not going to be able to refinance.' Credit committees had completely changed. The level of questioning and due diligence became a lot more detailed. People were saying that the syndicated market was closed for the year. We needed a Plan B."

That Plan B came when one — and only one — of Straits Asia's core banks came forward with the offer to do a bilateral loan for a smaller amount and shorter term than Carter had wanted.

The CFO had to address one potential wrinkle: issuing the warrants would dilute existing shareholders by 3 percent. Carter sounded out the company's major shareholders: How did they feel about the refinancing if it meant dilution? "The response was overwhelming," he says. "They said, 'If you can secure financing, do it. You can live to refinance in better times.'"

"We realized that it wasn't the time to be trying to screw the banks for the last basis point," Carter continues. "The equity markets are closed. The debt markets have been closed for a long time. There just aren't any other options."

Tim Burke and Jason Karaian, who wrote the Europe section of this article, are senior editor and deputy editor, respectively, at CFO Europe. Don Durfee, who wrote the Asia section, is editor-in-chief of CFO Asia.




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