Hutchison Whampoa Case

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Q4. Compare the debt financing options. Explain why you are for/against Yankee Bond Issuance.

The company’s debt financing options are of the following;

- Syndicated bank financing

- Straight debt

- Eurobonds

- Yankee bonds

Syndicated bank financing could also be one option. This is when international banks as well as local ones work together to provide financing for the borrower. One drawback of this is that the loan period from banks is limited to approximately five years to seven years, and this is not feasible for Hutchison Whampoa because it requires at least a ten year or more type of loans with maturities.

Secondly, we can consider raising of debt from bonds which can be issued in Hong Kong and in local currency. Doing so is good because it would not need to further incur any promotional expenditure as HW is well known in its local market and thus, can be effective in terms of cost. However, Chinese companies’ increasing presence in the Hong Kong market may render this option less desirable, as they offer increased competition, as a result, causing an upward pressure on pricing.

Thirdly, we can consider opportunities in the EuroBond market. It has a good sized base in terms of investors, due to its bonds which were issued and offered simultaneously to various countries’ investor. The fact that this market has good growth has attracted many MNCs on board. However, this option might increase the cost for Hutchison Whampoa, both in terms of advertising and the more stringent requirements for compliance.

Fourthly, we can look at Yankee bonds as a viable option. This will allow Hutchison Whampoa to raise its debt in the US. Personally, we believe this is a good option to consider as doing so, in accordance with rule 144A, Hutchison Whampoa will be able to raise debt and not have to fulfil all the full requirements and obligations as stipulated by the Securities and Exchange Commission. With this, Hutchison Whampoa need not have to modify its financial statements so as to meet the requirements of US-GAAP, for it to issue to the large number of potential US institutional investors. This would imply effectiveness in terms of time and cost. Several advantages are apparent: US is one of the countries with the most developed bond market, so this would mean that raising the full USD 1 billion shouldn’t be an issue. Furthermore, the cost in issuance would also be substantially lesser than bond markets in other countries, and so borrowing would therefore be much cheaper. As the largest in the world, and it being traded the most as well, the US dollar could be ideally suited to the needs of Hutchison Whampoa. This implies that Hutchison Whampoa will be able to enjoy currency diversification. However, the downside of this option is that Hutchison Whampoa will now need to manage its foreign exchange risk. Nevertheless, we still believe that Hutchison Whampoa will benefit from this option the most if its portfolio already includes investments which are in USD.

Q5. What kind of capital structure would you recommend to HW & why?

We recommend to Hutchison Whampoa that it adopts the option of 100% external debt financing since it is no longer feasible for HW to use internally generated funds to fund its future growth. The addition of debt towards their capital structure can offer to Hutchison Whampoa a greater spread of possible choices which can help to provide a good equilibrium to their current capital structure, which rely mainly on equity financing. In contrast, equity offering may result in Hutchison Whampoa’s shareholders to experience dilution of control, which is clearly undesirable since there is more room for HW to take on more debt. Thus, debt financing would be an ideal solution for Hutchison Whampoa. This option will also be in line with the Pecking theory, which states that the company should finance itself internally first, followed by debt and lastly through equity so as to send the right signals to the investors and shareholders.

Going forward, Hutchison Whampoa also needs to evaluate its financial flexibility when it comes to taking on more debt for its future projects. This requires Hutchison Whampoa to consider their tolerance in how much more debt is possible since the cost of debt is highly dependent on the credit rating HW will be given. An increase in debt implies the decrease in cost of capital due to benefits of tax shield, but unfortunately to a limit. In addition, it will also increase the risk of default and therefore, constraint its financial flexibility. Ideally speaking, Hutchison Whampoa should analyse their comfort level in taking on more debt, so as not to compromise their investment grade rating of at least a BBB.

We recommend Yankee Bonds as a possible consideration for the bond issue. This is because of the reasons mentioned earlier, the relative ease of obtaining the bonds in the US bond market and the vast size of the market. Overall, the high liquidity and lowered debt cost would make this a desirable choice.