Barry Martin
It is not yet mid-year and already, in the first quarter, R6.1 billion has been raised by companies on the corporate bond market, about the same figure as the total amount raised in the last six months of last year.
The boom in the corporate bond market comes as companies select this method of funding future growth and refinancing existing debt as opposed to previously more traditional methods such as bank loans, helped by almost perfect market conditions.
The perfect conditions are enhanced by another main difference between corporate bonds and bank loans, both of which are long-term forms of debt financing. Corporate bonds are usually credit rated and listed on an exchange (in South Africa this is done through the JSE) which makes them far more attractive to institutional investors such as pension funds, life companies and other types of investment vehicles.
The unprecedented boom in the corporate bond market is expected to continue with about R35bn in corporate issuances forecast for this year, compared with R27bn last year, which also experienced high levels of activity.
A dominant feature of the flood of corporate bond issuances has been the emergence of a second–tier level of first-time corporate entrants to the market, often low investment-grade rated or unrated companies. The trend was already evident last year, when the proportion of new debt rated AAA declined by 20 percent in comparison with 2011 while the volume of single A rated paper nearly doubled in rand terms, accounting for 27 percent of last year’s total issuances. BBB rated notes, being lower investment grade paper, made up 8.1 percent of the total compared with 3.6 percent the year before.
This year, companies such as job placement company Adcorp (R400 million raised), information technology provider Pinnacle Technology Holdings (R315m raised) and property group Hospitality (R270m raised in three issuances) have entered the market for the first time.
These companies, usually with issuances far smaller in size compared with the large groups, are using the corporate bond market as a means of diversifying their funding requirements from banks, where loans have become far more expensive as a result of Basel 3’s more stringent requirements for banks.
Smaller companies are taking advantage of the low interest rate environment and attractive credit margins, which when combined make it cheaper for them to raise debt, while institutional appetite for these bonds are at high levels because of the attraction of good yields or additional returns they provide when compared with better rated bonds.
South African companies have mostly held back on fixed investment since the global financial crisis and have built up cash reserves on their balance sheets to better absorb any further shocks in the global markets. More recently, however, a slight shift has taken place towards the investment in growth, such as expansion of plants and development of properties, which is important to further grow South Africa’s economy.
South Africa’s established and efficient debt capital market is a key competitive advantage for South African firms. While the low interest rate environment makes the debt markets attractive for issuers, the high yields that can be earned, particularly from the higher risk, low investment grade companies, are attracting institutional investors.
With interest rates likely to remain at current levels for some time, the impetus in corporate bond issuances is likely to continue providing a platform for more corporates, municipalities and state-owned enterprises to look to the debt capital markets to provide the essential longer-term funding to finance more projects and long-term investments within South Africa and on the African continent.
Barry Martin is the joint head of debt capital markets at Rand Merchant Bank.