UK debentures – trends in financing techniques Robert St. John of Greenwich NatWest discusses how greater choice, more flexibility and different structures are benefiting both investors and issuers.
he word debenture means differ- property companies, investment ent things to different people. In trusts, housing associations and FIGURE 1 Tthe US domestic bond market a brewers. Table 1 lists some compa- Sterling debenture issues – debenture is defined as: ‘a long-term, nies that have issued debentures new issues volumes corporate debt instrument issued with- within the past five years. 1400 out collateral and secured only by the The issues were in the range of 1200 1099 1318 general credit of the issuer’. In the UK, £15m–£250m, the majority being 1000 a debenture is widely accepted to be a £25m–£100m. In terms of maturi- 809 1099 bond that is specifically secured by des- ty, the range was 15–55 years, 800 608 1029 5 ignated assets or property of the issuer, 20–30 years being the norm. 600 809
pays interest semi-annually and is in Invariably, the security structure is Amount £m 400 608 registered rather than bearer form. My either a fixed charge on a desig- 564 200 focus in this article is on UK debentures. nated portfolio of assets (nearly In the days before eurobonds, the UK always property assets located in 0 bond market could be divided into two the UK) or a floating charge over 1993 1994 1995 1996 1997 1998 sectors: loan stocks comprising unse- all the assets of the issuer. cured issues and debentures, compris- Fixed-charge security is most ing secured issues. Debentures were appropriate for property companies, in a securitisation is on the cash flow (and are) favoured investments for life whereas floating charges are used by from those assets, whereas for a deben- companies and pension funds since investment trusts giving security over ture it is primarily the capital value of they provided a long-term source of their equities portfolios and brewers giv- the assets. Valuing assets for their cash- interest income and, because of the ing security over their portfolios of pubs. generative qualities rather than their security, a very low risk of loss. Hence, capital values has opened the market to debenture stocks became the classic Recent developments a wider range of asset class and securi- ‘widows and orphans’ investment. One factor, above all, has had an ty structure than is possible through a For the issuer, pledging assets to increasing influence on the debenture traditional debenture structure. secure its debt meant either that it could market over the past few years – securi- The result is that many borrowers are raise long-term finance, or by giving tisation or the process of pooling assets finding they can use their assets more security, it could reduce the cost of its and converting them into packages of effectively to raise debt finance by a borrowing. A wide range of corporates securities. securitisation rather than simply giving used the debenture market to raise debt Although both debentures and securi- security over a designated portfolio of capital. Past issuers include: Delta, BET, tisations require portfolios of assets as assets. Over the past five years the mar- Laporte, Albright & Wilson, Wolseley, security for debt finance, the emphasis ket has seen securitisations of assets Glynwed, Courtaulds, J Sainsbury, ranging from student, consumer and Tarmac, as well as others with issues still corporate loans to car leases and from outstanding, such as Bass, Whitbread VAT receivables to hotels. and Land Securities. The government’s PFI initiative and project financings have spawned a The market today series of other structures of bond issue, The sterling debenture market today with some element of collateral or cred- comprises a small and much more it enhancement, used to finance the focused segment of the overall sterling debt element of the project. These bond market. In 1998 there were 12 include power stations, waste water debenture issues with a combined value facilities, roads, rail links and hospitals. of £564m, which represented only The security is usually provided by cash around 1% of the total value of issuance flow generated by the project, which in in the sterling bond market of around the case of PFI projects is often support- £51bn. Issuers are now very largely ed, albeit indirectly, by the UK govern- concentrated in four market sectors: Robert St. John ment. As added protection, many of the
The Treasurer – July/August 1999 49 SPOTLIGHT Debt Finance
FIGURE 2 One advantage of structuring issues (and increasing) appetite for high-qual- with fixed and floating rate bonds is that ity, long-dated income streams provid- Sterling bond market – it is possible to tap a much wider range ing a better yield than gilts to meet their new issuance by of investor since those in floating rate pension and annuity liabilities. So long notes are very different to traditional UK as the security is robust, maturity long issuer type life and pension fund investors. enough and return competitive, they will 1993 Total £28.2bn Most securitisation issues have at least invest regardless of the transaction one external credit rating. Because the structure. Bank transactions often involve complex In view of this it is likely that tradition- Corporate structures, often with different tranches al debentures will continue to decline as Debenture (of size and maturity) carrying different a market sector whereas securitisation Securitisation credit risks investors expect ratings to will continue its recent rapid growth. Sovereigns & Supranational help in their own assessment of the However, while the largest transactions risks involved and to provide a yard- are likely to be structured as securitisa- 1998 Total £51.2bn stick for pricing. By comparison it is tions, there will be a place for tradition- rare for debentures to be rated since al sterling debentures particularly for the buyers of these issues are more issue sizes of less than £100m. familiar with the security structures and Borrowers looking for long-term debt bonds are credit-enhanced by US are therefore comfortable making their capital now have more choice than ever monoline insurance companies. One own assessment of the risks. before. Clearly it is important they con- recent PFI project bond, launched in As regards price, debentures general- sider all the options and choose the 1999 by Greenwich NatWest, was the ly trade at a tighter spread than securi- structure best suited to their own con- £97.19m issue for Catalyst Healthcare tisation transactions of an equivalent straints and the security they can offer. (Worcester) PLC with a final maturity in risk. This is partly because of the relative Two recent transactions illustrate this. 2030, guaranteed by Ambac. The bond scarcity of debenture issues and partly In March 1999, Burtonwood brewery provided finance for construction of because investors are more comfortable raised £25m through a 25-year deben- hospital facilities at Worcester. with security structures of debentures ture issue. It would have been possible There have also been bond issues to which are perceived as tried and tested. for Burtonwood to raise these funds finance pub portfolios, which were sold However, despite the advantages of through a securitisation of part of its by the major brewers in response to the debentures, the additional flexibility pub portfolio, but this would have had Beer Orders legislation. Over the past provided by some securitisation struc- several disadvantages. By contrast, four years bond issues for Phoenix Inns, tures has led to a rapid increase in this Paramount Hotels, which owns a portfo- Punch Taverns and Unique Pub Co, type of financing at the expense, to lio of eight hotels, decided on a securi- have raised nearly £1.6bn through some extent, of traditional debenture tisation rather than a debenture partly bond issues securitising pub portfolios. finance. Figure 2 shows the growth in because it enabled it to achieve a high- Often, the securitisations are struc- securitisation transactions and decline er loan to value on its assets and partly tured as long-term fixed-rate issues with in debentures between 1993 and 1998. because it did not want to be tied to security provided by fixed charges over some of the restrictions of a debenture portfolios of properties. In this sense Emerging patterns structure. As a result, in March 1999 they are the same as debentures and The pattern of the past few years in the a £52m issue was launched for the bonds are placed with the same sterling bond market has been the Hotel Securitisation No.1 – the first hotel group of UK institutional investors which growth in size, structure and complexity securitisation transaction in Europe. buy traditional debentures. However, in of bond issues which utilise security. There is every reason to believe this many cases these transactions are struc- Gone are the days when the market trend of greater choice, more flexibility tured as a number of different tranches divided into eurobonds, loan stock and and different structures will continue to with different amounts and maturities – debentures. There is now a seamless the advantage of both issuers, which some tranches fixed rate, others floating spectrum of unsecured eurobonds, are able to select the best alternative for rate. For example, the recent £1.54bn secured bonds structured as traditional them and investors, which will be securitisation of British Land’s domestic debentures, securitisations in offered a wider spectrum of investment Broadgate properties comprised seven eurobond format and eurobonds opportunity. ■ issues ranging in maturity from 2014 to secured on designated assets. 2038. Of these tranches, three were The major UK institutional investors Robert St. John is director, Capital floating- and four were fixed-rate. are indifferent. They have an ongoing Markets, at Greenwich NatWest. TABLE 1 Selected debenture issues in the past 5 years Investment trusts Brewers Housing associations Property companies ● Dunedin Smaller ● Burtonwood Brewery ● North British HA ● Asda Property Companies Investment Trust ● Eldridge Pope ● Northern Counties HA ● British Land ● Edinburgh Investment Trust ● Fuller, Smith & Turner ● Peabody Trust ● Eskmuir ● Invesco English & Intl. Trust ● Marston, Thompson & ● Sanctuary HA ● Great Portland Estate ● Monk Investment Trust Evershed ● The Housing Finance ● Hemingway Property ● Whitbread Corporation (THFC) ● J. Saville Gordon
50 The Treasurer – July/August 1999