Dylan Coke |Local capital markets in the time of coronavirus
INVESTMENT BANKERS play a critical role in the functioning of capital markets. Their chief responsibility is to act as the conceptualisers and arrangers of transactions outside of the regular commercial banking framework, where they connect companies in need of capital with investors looking to invest their funds.
As intermediaries, they play a critical role in economic downturns by finding creative ways to funnel capital to companies so they can not only fund working capital and capital expenditure, but, for companies with existing securities, help them avoid defaults, which are harmful to companies and investors alike.
If the local capital markets resemble a street dance then, in some ways, investment bankers are the promoters.
Given the severity of the economic downturn, investment bankers are likely to find themselves spending more time than they typically would in advising clients who have difficulty meeting covenants or who may have trouble paying out debt at maturity. This work is typically less lucrative than structuring new offers, but is essential for preserving client relationships and for ensuring order in the markets.
As investment bankers help clients resolve these issues, they will also be watching the markets to determine when they will reopen and what terms will work best in new transactions. Among other things, they will be calculating what interest rates to attach to debt offers. Bankers typically calculate these rates by taking the Government of Jamaica risk-free rate and adding a premium thereto for repayment risk and future inflation - factors which are now more difficult to price than usual, particularly for longer-term securities.
Pricing is even more challenging when a specific issuers, or industries, are experiencing deteriorating performance. In the international markets, companies such as Royal Caribbean and Norwegian Cruise Line, for example, have been paying eye-popping interest rates in order to sell debt to gun-shy investors.
Investment bankers know better than most, however, that a crisis always presents new opportunities. Mergers and acquisitions may prove a source of such opportunities, as companies seek advice on acquisitions as they come to terms with the fact that, in some industries, having significant scale may be the only way to survive. Similarly, opportunities to structure private equity transactions may arise as companies experiencing temporary distress become more willing to consider parting with equity in return for cash infusions.
MAJOR FACTORS FOR GROWTH
There is a small group of local attorneys whose practices have focused on capital markets transactions and their responsiveness, erudition and creativity have been major factors in the growth of local markets. They can be compared to sound engineers and lighting specialists, who are often behind the scenes, but who are nonetheless critical to the success of the ‘dance’. These lawyers may find that the nature of their business will change in the coming months, as they spend less time on offers of new securities and more time working with bankers and regulators to restructure and refinance companies.
Securities lawyers will be called upon to advise on the implications of failing to meet debt covenants, the timelines required for advising trustees and investors of covenant breaches and defaults, steps needed to remedy defaults, and the implications of cross-default provisions. They will also be called on to guide issuers through the process of amending shareholder agreements, increasing share capital, calling shareholder meetings and the various steps involved in issuing additional equity to be used to shore up balance sheets and pay out debt. While many pending offers may be shelved, the time can also be used by attorneys to prepare documentation and obtain regulatory approvals with a view to executing planned offers when markets are more receptive. Generally speaking, capital markets regulators have the job of setting and enforcing the rules of the markets (because every dance needs security). More specifically, the Financial Services Commission has oversight for non-deposit-taking financial institutions, while the Jamaica Stock Exchange has oversight and management of the various markets which make up the exchange. As the main regulators of the local markets, they may see some respite in the stream of urgent registration requests from investment bankers as deal flows slow down and, instead, may see more requests to register transactions aimed at restructuring debt, along with requests for direction on the interpretation of various rules and guidelines. In response, they will no doubt exercise their usual responsiveness and measured guidance.
As investor appetite may remain muted for some time, companies may not be able to execute transactions in the sizes to which they were accustomed, and they may, therefore, need to approach the markets more than once, as liquidity and investor appetite allow. With that in mind, it may be useful for the regulators to consider making provision for ‘shelf’ registrations, which allow issuers to register an offer once and raise funds in tranches over a period of time, with the issuer providing updates at the opening of each tranche. This would allow issuers to move quickly when market conditions provide an opening.
Although there are significant challenges, with creativity and patience our markets will not only survive this latest difficulty, but emerge even stronger. Key to surviving this challenging time will be the efficient management of the complex, overlapping relationships of the various market stakeholders. In international markets, we are seeing market players working together to raise capital to fund acquisitions and capital expenditure, issuing equity to pay down debt, and even creating funds to buy distressed debt. The markets are, therefore, not closed, but have changed their focus in response to current conditions. The ‘dance might lock off’ for the moment, but we expect that the ‘sound soon string up’ again.
Dylan Coke is an attorney-at-law and deputy general manager, investment banking & sales, JN Fund Managers Ltd.