Europe to increasingly adopt hybrid bond use
14 AUGUST 2014 4:18 PM
In June, Accor did something new in the European hotel industry: an issue of hybrid bonds. Experts say the use of this financial tool will gain traction.
REPORT FROM EUROPE— On 23 June, Accor completed a first for the European hotel industry—it raised €900 million ($1.2 billion) via an issue of hybrid bonds.
This particular form of hybrid tool (“hybrid” refers to any such vehicle combining two or more financial instruments) has seen far more use in the United States, where it is commonly referred to as “mezzanine financing”
Sources said hybrid bonds, or mezzanine financing, permit companies to borrow without jeopardizing credit grading with ratings companies, as usually half the bond issue is regarded as equity, which results in rating companies viewing the issue’s indebtedness more favorably.
Hybrid bonds’ use in the European hotel industry is indicative of their continued movement in financial circles, experts said.
“Hybrid bonds had become a standardized part of the funding kit, but where in the past they were limited to utility and telecom companies, which had close sovereign links, today they are being used by a much wider range of business,” said Joseph Faith, credit strategist, Citigroup.
Andreas Michalitsianos, manager of J.P. Morgan UK Sterling Corporate Bond Fund, agreed.
While the bonds use was a “somewhat standard procedure in the United States, it looks as though (they are) making (their) way to Europe,” Michalitsianos said. “The advantage is if the company’s bond rating goes up, investors and the company stand to make more money if they put partial equity into the initial bond offering.”
“The announcement from Accor is indicative of hybrid bonds’ movement into a wider sphere. There is demand from investors at the moment, as these bonds generally appear to increase yields,” Faith said.
Ease of pressure
According to sources, the benefits of hybrid bonds are that they:
- bolster the balance sheet;
- are a new source of cash;
- are more economical to put into place that are issuances of actual equity;
- allow interest payments, or coupon payments, to be tax-deductible;
- are considered an “investment grade” financial tool;
- form an increasingly important component of benchmarking;
- have final maturity periods that are either long-dated or perpetual; and
- produce yields (usually) in excess of those of senior bonds, in which senior debt had priority over other forms of debt. (Accor’s first release of this type of bond, however, will “rank junior to all senior debt,” according to a news release.)
Sophie Stabile, Accor’s CFO, told HNN that the French hotel company had been looking for an opportunity to improve the financing conditions of its previous bonds issue (2009) and saw three main advantages in beginning to employ hybrid bonds.
“Because of their perpetual structure, hybrid bond issues do not have maturity dates; they simply have reset milestones. Second, they are 100% booked as equity, whereas rating agencies split them into 50% debt and 50% equity. Third, it enables (Accor) to reach new long-term investors and to diversify its funding sources to roll out strategy while keeping (its) BBB rating and ‘investment grade’ status,” she said.
Stabile said she, too, had seen the increasing appetite for hybrid bonds in Europe, adding that Accor’s financial policy would remain “agile and opportunistic.”
“The key change probably comes from the growing appetite of European credit investors, as interest rates have been low for quite some time and hybrids pay better returns,” she added.
Stabile said that in 2014 Accor added approximately €3.5 billion ($4.7 billion) to its cash reserves to reduce the cost of debt.
“These operations are fully in line with our goals of having resources at the best cost and keeping financials solid,” she said.
“Companies using hybrid bonds have a good idea of the treatment they’ll receive from the rating agencies, so expect to see more of them,” Citigroup’s Faith said.