Private Placements: A Market on the Move
The US Private Placement (USPP) market allows companies to issue long term debt to sophisticated institutional investors (primarily US insurance companies and pension funds), through a private debt offering.One of the key advantages of issuing debt through this market is that it is exempt from onerous SEC registration and reporting requirements under the Securities Act of 1933. This allows for issuers to keep confidential information within a controlled group of investors and out of the public domain.Another key advantage of a private placement is the lack of necessity to receive a public rating in conjunction with the offering.
USPPs are typically fixed rate, priced at a spread over US Treasuries, although floating rate issuances are increasingly common.Issuance size is flexible with the market currently allowing for issues from $10 million to $1 billion. This provides a key advantage when compared with the public markets, which often have minimum issuance requirements.Typical maturities are comparable to public bonds with a range from five to 30 years, with the most depth in the market at the five to 15 year maturity level.Separate tranches differentiated by price and maturity are also common in USPPs allowing companies to ladder maturities.
Unlike public bonds, USPPs allow an issuer a degree of customisation.Maturities, terms for interest payment (monthly, quarterly, semi-annually, etc.), type of interest (fixed vs. floating), amortisation, as well as covenants are all open for negotiation when completing a USPP.Although flexibility to tailor a USPP to an issuer’s needs suggests that it would require a long offering process, in actuality a transaction can be completed in six to ten weeks.The process generally involves preparing a confidential offering memorandum (comprehensive document outlining the issuer’s historic operations) and a note purchase agreement (which contains the terms and conditions of the offering).To achieve the most competitive pricing and optimal terms, most issuers engage an agent to assist in the process of structuring the issue, as well as marketing and negotiating the transaction to investors.Utilising an experienced and active placement agent allows a company to gain insight into market conditions including appropriate pricing levels relative to comparable transactions, and the most flexible covenant structures.
2003 | Dollar Volume | Issue Volume | ||||
Agent | Amount | Rank | Share | Number | Rank | Share |
Banc of America Securities | 9,180 | 1 | 20.1% | 97 | 1 | 32.2% |
Royal Bank of Scotland Group | 7,798 | 2 | 17.1% | 31 | 2 | 10.3% |
Barclays Capital | 3,616 | 3 | 7.9% | 19 | 5 | 6.3% |
BANK ONE | 3,016 | 4 | 6.6% | 27 | 3 | 9.0% |
Merrill Lynch | 2,767 | 5 | 6.1% | 16 | 8 | 5.3% |
Deutsche Bank | 2,672 | 6 | 5.9% | 16 | 9 | 5.3% |
JP Morgan | 2,648 | 7 | 5.8% | 24 | 4 | 8.0% |
ABN AMRO | 2,348 | 8 | 5.1% | 15 | 11 | 5.0% |
Citigroup | 2,308 | 9 | 5.1% | 16 | 10 | 5.3% |
Mitsubishi Tokyo Fin’l Group | 1,510 | 10 | 3.3% | 18 | 7 | 6.0% |
Wachovia | 1,346 | 11 | 2.9% | 19 | 6 | 6.3% |
SunTrust Banks | 1,054 | 12 | 2.3% | 15 | 12 | 5.0% |
HSBC | 995 | 13 | 2.2% | 6 | 14 | 2.0% |
Lehman Brothers | 787 | 14 | 1.7% | 7 | 13 | 2.3% |
ING | 617 | 15 | 1.4% | 2 | 15 | 0.7% |
Market Total | 45,667 | 301 |
Source: Thomson Financial Securities
The private placement market is characterised by a long history (it has existed for over 50 years in the US) as well as a stable flow of funds.The market has sustained its vibrancy through a number of market cycles, short term economic events, terrorism and the threats of war.For example, the private market continued to price and close deals through the Russian financial crisis (when the public markets stalled), September 11th attacks, and the current Iraqi conflict.The detailed credit analysis performed directly by investors, coupled with their ability to look beyond short term market events and focus on individual credit stories, is largely the reason for this stability.
Although a secondary market does exist for USPPs, there is far less liquidity than in the public markets.The primary driver behind this lack of liquidity is that investors’ strategies are ‘buy and hold’, a result of investors matching long term investments to long term liabilities.Many investors in private placements are life insurance companies which have long term liabilities and in turn need to find investments with cash flows to match these needs.As a by product of the ‘buy and hold’ strategy, private placements have a relationship component between investors and issuer similar to that of bank lending.
2003 marked an historic year for the private placement market with almost two thirds of all transactions being completed by non US issuers. The favourable interest rate environment combined with strong investor demand resulted in record total volume of $46 billion in 2003, versus $26 billion in 2002 and an average of $25 billion over the prior five years (1998 through 2002).Interestingly, cross border issuers (non-US issuers) account for approximately 60% of the dollar volume of transactions completed in 2003.
Despite the remarkable increase in issuances, one part of the USPP market has remained relatively unchanged; the investor base.The USPP investor base still remains dominated by US investors.Many may question how, with the remarkable increase in cross border issuers, non-US investors have remained on the sidelines.The reason is certainly not that the asset class does not offer adequate yield.Investor surveys suggest that the asset class offers superior risk adjusted yields when compared to public bonds.According to the 2004 Survey of European Private Placement Investors by Fitch, published on 9 March, the most significant reason for the lack of European participation in private placements is a lack of internal credit resources in European investor offices.Despite this lack of resources the survey also suggested that most investors believe that a European investor base will develop over time as credit staffs are built out and European issuers continue to access the market.
Post 2003, investors have expressed an increased demand for private placements as many asset managers have increased their 2004 private placement budgets over the record investment levels of 2003.Speculation is that it will be difficult for issuers to meet investors’ demands as many companies have already taken advantage of favourable rates in 2003 to opportunistically refinance 2003, 2004 and some 2005 debt maturities.The unprecedented demand for private placements in 2004, as well as stable if not reduced supply, has put continued pressure on credit spreads.For example during 2003, average credit spreads for NAIC-1 and NAIC-2 (ratings issued to private placements by the National Association of Insurance Commissioners) transactions declined by approximately 36 and 72 basis points respectively. In some instances, the private market demonstrated the ability to price transactions at comparable and, at times, tighter credit spreads than the public market, particularly for higher quality issuers in favoured industries.
Along with tighter overall credit spreads, current market conditions allow for issuers to take advantage of funding solutions such as alternative currency issues. In the past, private placement transactions were denominated primarily in US dollars and structured with fixed rate coupons.Today a large portion of deals are completed either entirely or partially in non-US currencies.Another recent development in the private placement market is a trend for investors to purchase floating rate notes.Broader demand for floating rate notes has allowed issuers to structure deals with multiple tranches, differentiated not only by maturity but by the terms of coupon payment (fixed vs. floating).These trends of alternative currency and floating rate coupon structures are expected to continue as long as non-US issuers make up a large portion of the private placement market, and investors’ strong appetite for private placement investment continues.
Examples of Recent Transactions / Alternative Funding Methods
All in all, attractive credit spreads, flexible terms, low US interest rates and expectations that US interest rate increases are on the horizon make 2004 the opportune time for companies to access the US private placement market.
Stan Hartman is a member of Bank of America Securities’ International Private Placement Group. Stan previously worked in Bank of America’s corporate workout division and was involved in corporate restructurings/bankruptcies throughout various industries ranging from energy/power to textile manufacturers. Stan currently resides in London and is exclusively focused on cross border private placements. Before joining Bank of America in July 2001, Stan graduated from the University of Colorado at Boulder with a major in Business Administration.