My word is my bond

On June 22, 2015, Ghelamco’s latest bond issue (series PPC) worth PLN 30 million became officially oversubscribed after the offer had been open to the public for a total of five days. Does this success show a pool of previously untapped private investors keen to locate their life savings in corporate bonds or is there some other explanation? By Alex Hyes Earlier that same month, the company’s previous offering worth PLN 50 million had also sold out in just four days. Ebullient with this success, Jarosław Jukiel, chief financial officer of Ghelamco Invest, stated that, “Coming onto the market with a new issue of series PPB bonds at this time and in these conditions turned out to be a very good decision. The group’s latest commercial successes and the conditions proposed by us were so interesting to individual investors that we finished subscriptions early.” Echo Investment, Ghelamco Invest and GTC are now the three biggest issuers of bonds among developers in Poland. Other developers that have issued bonds also include Robyg, Dom Development and LC Corp. There are good reasons why individuals might have discovered a voracious appetite for financial instruments such as bonds. With a rapidly aging population and doubts as to whether the government will be able to meet its pensions obligations from social security contributions, more and more people are looking for alternatives to secure their savings. However, Erez Boniel, the chief financial officer of GTC, believes that this time has yet to come. “It is beneficial to the country’s economy that its financial system will have an efficient bond market. One of the biggest advantages of bonds is that they are a tradable instrument. In Poland, the system is not yet fully developed. This is partially because of structural reasons within the capital market. However, Poland is definitely making strides to develop an efficient market,” he explained. Krzysztof Cipiur, manager of capital markets at Knight Frank, also believes that demand for financial products could well grow. “The level of financial education is low and that’s a reservoir for growth,” he claimed. Despite this, there can be little doubt that the Polish debt market is much more mature than most other markets in the CEE region. According to statistics by the Federation of European Securities Exchanges (FESE), in the 2010-2014 period, the number of bonds listed on the Catalyst market rose by 277.4 percent, representing an average increase of 41.4 percent per annum. The next highest growth in the region was by the Hungarian bond market, where the average increase stood at only 16.1 percent per year. Nevertheless, according to Boniel, many bonds in Poland are illiquid and stated that, “I look forward to a time in which households will be able to invest a part of their savings in corporate bonds, like in every mature market. Nowadays, a person who wants to invest his savings in such bonds, will typically realize that it is difficult to buy or sell them.” [caption id="attachment_77236" align="alignright" width="430"] Image:GTC[/caption] Banks or bonds? When it comes to project financing, GTC regards bank loans to be by far the most preferable form of financing. They are relatively simple to acquire and they also frequently involve third-party expertise with the bank providing its own experts and advice to safeguard the investment. “Banks also bring added value to the project, by supervising the investment process and advising on credit issues,” explained Boniel. The Robyg group also prefers bank loans, but does not regard them as simple: “Bank loans are a much more flexible option for obtaining money. However, they require a wider range of bureaucracy,” stated Artur Ceglarz, the chief financial officer at Robyg. After the financial crisis of 2007, many developers looked for alternative forms of financing and bonds were touted as one possible manner of raising financing when banks became more circumspect overnight. When asked if Ghelamco moved into bonds due to the financial crisis, Jukiel replied, “We wanted to continue to develop, acquire land and prepare projects for development. The limitations on bank financing for this stage of developing real estate projects was a signal to seek out alternative sources of funding, which for Ghelamco became bond issues.” However, for Cipiur, bonds are unsuitable for most forms of project financing: “It’s not an alternative, it’s like a complementary type of financing,” he explained. Moreover, he believes bank financing to be currently relatively easy to obtain. “It’s not difficult at all for someone who has a track record and can gain the trust of the bank,” he said. Bank loans are comparatively less complex than bonds, quicker to arrange and have a longer term than bonds since their repayment terms are directly connected to the life span of a given project. Bonds on the other hand are tailored to meet the demands of the investor and typically mature in three to four years. Moreover, bond issues are complex and can take even up to a year to organize. “You need expertise when you consider bond issuance. Prudent companies that do not have such expertise should seek external advice when necessary,” explained Boniel. This complexity and time all entails cost and there is no guarantee that investors will want to buy your paper. For GTC, which had its first issue in 2006, bonds provide the ready cash to react quickly to opportunities on the market. “It provided an opportunity to attract a large number of lenders in an efficient manner. Furthermore, it allowed a greater degree of flexibility to allocate the money without the restrictions that are often attached to banks’ project finance,” stated Boniel. However, Ghelamco appears to approach the financing issue differently: “We watch the market and try to use the available funding methods for the realization of our projects. At a time when the acquisition of bank financing is subject to relatively difficult conditions and there is a large supply of money on the market, bond issues become attractive,” explained Jukiel. … or mezzanine? Another possible form of financing projects is mezzanine. But this is a form of financing that has a number of drawbacks. With mezzanine, the investor can convert his debt directly into company stock if the company fails to pay back its debts. Mezzanine is typically offered by just one lender on a short term basis. It carries a high interest rate due to the extra perceived risk and is thus more expensive. This is why Boniel sees mezzanine as “pseudo equity,” good for short term emergency funding only. “It is a hybrid of debt and equity financing that is usually subordinated to debt provided by senior lenders. Mezzanine financing is usually provided to the borrower in a swift process with little to no collateral. Hence, this type of financing is aggressively priced, with the lender seeking a high return,” he explained. However, according to Cipiur, it has its uses. Developers might not be able to secure the necessary leasing level that would unlock the requisite loans for a particular project. So the only way a developer might be able to start building work is through mezzanine financing. Similarly, an apartment developer might need money to begin building work but will not want to mortgage the property because this might be required as collateral for a future bank loan, after work has begun. Ghelamco taps the markets Ghelamco deliberately kept the nominal value of the bonds in its latest issue low at PLN 100 in order to make them more attractive to individual rather than institutional investors. The company claims that it began to issue bonds to individuals primarily as a manner of diversifying risk. “A few years ago, we started with bond issues and offered them to institutional investors. The next step was the approval of the prospectus in 2014 and the issuance of bonds aimed at individual investors. The main objective is to diversify sources of financing,” explained Jukiel. However, there is little doubt that institutional investors also found the bonds attractive. The average size of the placement for Ghelamco’s PPC series bonds was PLN 76,800, which suggests that much of the offer was sold to those who were investing millions. The actual number of small investors might have been rather limited. Moreover, if the bond issue had been bought mainly by small investors, this still represents only a miniscule proportion of those individuals with money to invest. Cipiur regards the size of Ghelamco’s PPB bond offer as a mere drop in the ocean in comparison to the number of people investing in apartments. “If we assume that the average investment in an apartment in Warsaw is worth PLN 500,000 and the value of these bonds was PLN 50 million, then we are speaking about 100 apartments in Warsaw. Last year, more than half the acquisitions of apartments in Poland were done with cash,” he explained. Whether private investors are investing in Ghelamco or not, the success of its last bond offering speaks only of the track record of the company and the trust investors place in it.