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€6.4 billion or 40%. S&Ppoints out that that is a 25%increase on 2002 figures. Asa direct consequence ofincreased fallen angelissuance the average dealsize in the European highyield market increased from€251 million in 2002 to €286million in 2003.Investors have beenunderstandably eager to buypaper from such issuers.“HeidelbergCement came tothe market at a time wheninvestors were looking for away to get a better yield ontheir investments,” saysChristian Kammann, grouptreasurer at the company.“HeidelbergCement alsostrongly pointed out thecommitment to go back toinvestment grade. The dealbrought by us was thelargest European high yielddeal then and in many waysset a market standard.”Issuance from fallenangels has not only swollenthe market’s overall size ithas coaxed other issuers intothe market. “Issuance fromhigh quality borrowers suchas HeidelbergCement andVivendi in 2003 helped to‘destigmatise’ the marketand it’s now a lot easier forCFOs to justify using themarket to their boards,” saysCoates. “The corporatesector will continue to bebuoyant as Europeancorporates increasingly viewthe high yield product as amainstream financing tool.”The use of that financingis expected to change, saysS&P’s Vazza. “The focus isshifting from refinancing tocapital spending. It can beexpected that the Europeanmarket will follow the US inthe move away fromrefinancing activity to fundexpenditure and M&Aactivity.” LNEurope – Structure changes benefit issuersThe European high yieldmarket has traditionallybeen dominated by 10-yearbonds with a five-year noncall.If issuers wanted toredeem before that five-yearcall they would have totender for the bonds – acostly process most wereeager to avoid. The rationalewas that a five-year call gaveissuers reasonable flexibilityto get their finances inorder and work their wayback to investment gradewhile investors would notget unduly punished bycompanies eager torefinance debt once theircredit quality hadimproved.Issuers are now in poleposition, with vastly moredemand than new issuesupply. As a consequence,issuers have been able toget better terms frominvestors. Instead of 10-yeardeals, issuers have begun tobring seven- or eight-yeardeals. Crucially, the calls onthese bonds are also shorter– giving finance executives’greater flexibility torefinance should theirfinancial and ratingposition improve.There has been a movetoward seven-year bondswith a four-year non-call athalf-coupon meaning thatinvestors get half thecoupon rate if the bonds arecalled. A number of issueshave also come with threeyearnon-calls at fullTimetable of a high yield bondHigh yield bonds takelonger to come to marketthan investment gradebonds for a number ofreasons. Chief among theseis that issuers arefrequently unrated beforethey issue. Meanwhile, thedocumentation andoffering circular must beput together by the issuer’sinvestment bank.Choosing your market isa key decision saysChristian Kammann, grouptreasurer atHeidelbergCement. He saysissuers should weigh upboth the cost and investorfamiliarity benefits. “TheEuropean investor base wasmore familiar to theHeidelbergCement credit.”He adds that the complexlegal environment in theUS market dissuaded thecompany from issuingthere. Simply printing a“144A issue [allowing thesale of a non-US marketbond to qualified USinvestors] makes the duediligence process moreextensive”. Although itallows issuers to benefitfrom the price tension thatreaching a broader investorbase creates.A further timeconsuming element of highyield bonds is that thecovenant package offeredto investors is frequentlymore complex than withinvestment grade issues.High yield issuers have ahigher risk of default andtherefore investors requiregreater protection, asKammann explains. “Highcoupon. Issuers might haveto pay a bit more to get thiseven shorter call, but itoffers them an enormousflexibility advantage over atraditional 10 year non-callfive bond. Understandably,investors are unhappy withthe changes but concedethat they are a function ofan efficient market.S&P notes the near-termoutlook for European highyield is benign “with theoutlook and CreditWatchdistribution indicating animprovement in creditquality relative to a yearago”. Only 25% ofspeculative rated issuerscurrently have a negativebias, compared to 30% ayear earlier.yield investors are morefocused on covenants andprotecting or keeping thecash flow in the companyfor debt reduction thatresults in a much moredetailed indenture.”The less developednature of the market alsomeans that some covenantpackages become a matterof negotiation withinvestors rather thansimply being drafted by theissuer. “Familiarity with thehigh-yield style ofdocumentation and crosscheckingwithoperational/strategic needsof the issuer group arevital,” Kammann says.From the awarding ofthe mandate to completion,a high yield issue shouldtake around two months.corporatefinancemag.com March 2004 cf 7
MARKETFOCUSDeal of the month: Yamanouchi PharmaceuticalPharma’s strength in numbersDEAL AT A GLANCE» $8 billion merger ofJapanese pharmas» Pharma consolidation inJapan set to risePharmaceutical companiesYamanouchi and Fujisawaagreed an $8 billion mergercreating Japan’s secondlargest pharma entity inFebruary.Yamanouchi andFujisawa PharmaceuticalsJapan’s third- and fifthrankeddrug makersrespectively, aim to reachan agreement by March2004 and integrateoperations by early 2005.Enhancing R&D andmarketing opportunitiesare the principal factorsbehind the merger whichwill see each Fujisawa shareexchanged for 0.71Yamanouchi shares. Thedeal will create the 17thlargest firm in the globalmarket. “From a businesspoint of view most peoplehave said it’s a very goodcombination, as well asfrom a geographic point ofview,” said a bankingsource close to the deal.Japan is the secondlargest pharmaceuticalmarket after the US, withsales of around $52 billionin 2002. Yet Japanesepharmas have never beenviewed as global players.Yamanouchi , for example,has been struggling in theUnited States. A core reasonfor this, is R&D spend. Theratio of R&D to total sales in2002 was 12.8% for Japan’spharmaceuticals,compared to an average ofover 17% for Westerncounterparts. And bylimiting the influence offoreign competition inJapan, governmentprotection has furtherlimited R&D investment tobelow that of foreign rivals.The merger will, analystshope, address the imbalance.(The acquisition of Pfizer byPharmacia in 2002 createdan R&D budget worth $6.5billion. The combined R&Dbudget for Yamanouchi andFujisawa will be ¥150 billion($1.3 billion)).“The merger shouldimprove the competitivenessof the new entity,”comments ShinsukeTanimoto, an analyst forMoody’s Japan. “The increasein the size of the businesswill, on a global basis,broaden sales coverage andstrengthen R&D capabilities.”It may also spark off moresector consolidation.Yamanouchi and Fujisawahave both admitted thatthey needed to merge tofend off overseascompetition in the world’ssecond-largest drugs market.And with the governmentactively promoting foreignshare-ownership andcompetition in the marketand western companiessuch as Merck, GSK andPfizer expanding theirmarketing in Japan, it islikely other Japanesecompanies will follow in itsfootsteps. Tanimoto agrees:“The merger of Yamanouchiand Fujisawa could affectthe balance of the marketcompetitiveness in the toptier players and mightaccelerate marketreorganisation.”Japan’s government isalso in the mood for change.It is has publicly stated thatit wants to see consolidationin the industry. It is slashingboth the number of drugswhich can be sold only byprescription, and theamount paid for drugsthrough the national healthsystem, both changes whichweaken domestic drugmakers in their battle withforeign drug companies.Yamanouchi’s president,Toichi Takenaka, willbecome chief executive ofthe new company, whichwill retain his company’sname. Fujisawa’s president,Hatsuo Aoki, will becomechairman.Morgan Stanley Japanadvised Yamanouchi;Lehman Brothers Japanadvised Fujisawa. RPGlobal Pharmaceutical sales by Region, 2002 (US$ bn)World Audited Market Sales Global Sales % Growth %North America 203.6 51 12Europe (EU) 90.6 22 8Rest of Europe 11.3 3 9Japan 46.9 12 1Asia, Africa and Australia 31.6 8 11Latin America 16.5 4 -10Total 400.6 100 8Source: IMS World Review 2003 and IMS ConsultingCOMPANY INFOYamanouchi is strong in ulcerand urinary treatments and isbest known for Harnal, amedicine for urinaryproblems. It was founded in1923; has capital ¥99,760million; total assets ¥890,525million; and 8,957 employees.»Fujisawa makes theimmuno-suppressant drugPrograf, and focuses onimmune-related treatments. Itwas founded in 1930; hascapital ¥38,589 million; totalassets ¥508,354 million; and8,059 employees.»Combined sales ofYamanouchi and Fujisawa inthe current financial year toMarch 2004 will likely reach¥920 billion ($8.4 billiondollars).»The two companies have¥890 billion in combinedsales, and the deal will allowthem to surpass the onetrillion mark. It will have thelargest market share amongJapanese pharmaceuticalcompanies.»It will be 17th in the globalpharmaceutical market»The combined companywill: have an annual R&Dbudget in excess of ¥150billion;have more than onetrillion yen for sales; and 25%as an operating margin.»In 1995 overseasshareholders held 17.1% ofYamanouchi stock. By 2002the figure had risen to 44.7%.Takeda, Japan’s leadingpharmaceutical, has seenforeign share ownership risefrom 10.1% to 29.6% in thesame period.8 cf March 2004 corporatefinancemag.com
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