“Repay debt and invest with subsidiary stakes” ... HD Hyundai Group’s EB follows a different calculus [fn Market Watch]

[Financial News]  A string of exchangeable bond (EB) issues by HD Hyundai Group has put the use of proceeds at odds with the potential overhang of shares coming onto the market. HD Hyundai is using stakes in a subsidiary to reduce borrowings, while HD Korea Shipbuilding & Offshore Engineering Co., Ltd. has secured funds for business expansion. The issuers gain financial and investment flexibility, but the possibility of shares entering the market in the future remains a concern for the subsidiaries whose shares are subject to exchange, HD Hyundai Marine Solution and HD Hyundai Heavy Industries.
According to people in the financial investment industry on the 28th, HD Hyundai decided the previous day to issue EBs worth approximately 588.7 billion won, with 2,383,269 shares of HD Hyundai Marine Solution that it holds as the underlying shares for exchange. The shares represent 5.32% of Marine Solution’s issued shares. Both the coupon rate and the yield to maturity are 0%, and the bonds mature in five years. The proceeds are intended for debt repayment. The exchange price is 247,000 won per share. It reflects a 30% premium to the disclosed reference price of 189,895 won; it is not simply a 30% markup on the closing price on the 26th, when the share price plunged.
Kim Yong-min, a researcher at Yuanta Securities Korea Co., Ltd., also analyzed that “given the method used to calculate the exchange price, the one-day plunge on the base date will have a limited impact on the final price.” In his view, the timing of the issuance alone does not justify concluding that the funds were raised by taking advantage of a share-price low.
Earlier, HD Korea Shipbuilding & Offshore Engineering Co., Ltd. (HDKSOE) issued EBs worth $1.55 billion, with shares of HD Hyundai Heavy Industries as the underlying asset. The exchange price is 523,125 won per share, and the shares subject to exchange represented about 4.32% of Hyundai Heavy Industries’ issued shares at the time. The company said it plans to use the funds raised to invest in future businesses, including eco-friendly ships, overseas shipyards, next-generation energy and Korea-U.S. shipbuilding cooperation projects.
The difference between the two transactions lies in where the funds go. HD Hyundai used subsidiary stakes to reduce its existing debt burden, while Korea Shipbuilding & Offshore Engineering Co., Ltd. used them to secure capacity for business expansion. Although both are EBs, they serve different purposes: improving the financial structure and funding new investment. The issuer’s fundraising results and the shareholder value of the subsidiary whose shares are subject to exchange should be considered separately, because the cash raised using a subsidiary’s shares does not flow directly to that subsidiary.
EBs typically involve transferring existing shares, so the number of shares outstanding does not increase as it would with a new share issuance. However, the possibility of shares entering the market after exchange rights are exercised, as well as investors’ hedging trades, can affect supply and demand for the stock. Thus, the issuer’s benefit of raising funds at no interest coexists with the potential share overhang for the subsidiary.
Researcher Kim said that “short-selling hedges by EB investors and similar activity could put downward pressure on the short-term share prices of HD Hyundai Heavy Industries and Marine Solution.” However, the size and timing of sales vary depending on investors’ strategies, the availability of stock borrowing and market prices, so the issuance alone does not mean share prices will necessarily fall.
By contrast, he focused on the possibility that Korea Shipbuilding & Offshore Engineering Co., Ltd. could turn the cash raised into business opportunities. Researcher Kim viewed the agreement to establish a shipbuilding joint venture with U.S.-based Kiewit as a step toward putting Korea-U.S. maritime and defense cooperation into practice, and also pointed to the possibility of increased shareholder returns at year-end.
The key factor shaping future assessments will be the results achieved after the funds are raised. The question for HD Hyundai is whether debt repayment leads to lower financing costs; for Korea Shipbuilding & Offshore Engineering Co., Ltd., it is whether the investment funds generate new revenue streams. The subsidiaries whose shares are subject to exchange will need business performance and improved corporate value sufficient to absorb the potential share supply.
An industry source in investment banking added, “EBs should be viewed by separately considering the interests of the issuer and the company whose shares are subject to exchange. The issuer secures cash, but the subsidiary is left with a potential share overhang without receiving any funds directly,” adding, “Even when the same subsidiary stake is used, the assessment of a transaction to repay debt and one to invest in future businesses will inevitably differ. What matters is what results are achieved with the cash raised, rather than the terms of the financing.” 


[email protected] Kim Kyung-a Reporter