Year: 2009

Moses Singo is an African exception. A black farmer with green fingers, he has probably had to overcome more obstacles than faced by most entrepreneurs anywhere else in the world to get his family business off the ground.

A little more than a decade since launching the Singoflora Nursery in Tswane (Pretoria), he now exports some four tonnes of lilies, agapanthus, strelitza, ruscus and snake grass to Europe, the Middle East and Asia every week.

From its origins as a humble plant farm the nursery has since expanded in size and scope, and now has its own export packing division and delivery trucks. It employees more than forty people. Today Mosses Singo is hailed as a pioneering black businessman and is celebrated as one of the most successful exporters of flowers and foliage in South Africa.

Success for this so-called small and medium enterprise (SME) has not come easily. Along with proving to a sceptical white audience that black people can indeed farm, he has had to prize every cent of the funding needed to grow his business from a largely aloof banking system which for decades neglected small black businesses in favour of the more comfortable and lucrative role of servicing governments, wealthy white corporates or high net worth individuals.

But South Africa at least has electricity, a national road network, functioning ports and airports, legally enforceable property rights, and a government bureaucracy which – while cumbersome by the standards of more developed economies – is nonetheless capable of running a reasonably efficient taxation system, an export-import sector and a commercial court dispute procedure on which a vibrant private sector depends. This is not the case in much of the rest of Africa.

Africa is, in this respect, a continent without a middle. SMEs are the backbone of the world economy and the primary engine of its economic growth. In high income countries, SMEs account for almost 50 percent of gross domestic product. In low income countries, the proportion is about 20 percent. But in impoverished Africa, it is less than 10 percent. Africa is host to most of the world’s multinational corporations at one end of the spectrum of economic activity, and a vast profusion of micro-enterprises at the other. Very little exists in between.

Dirk Willem te Velde, Programme Director of the London-based International Economic Development Group, an arm of Britain’s Overseas Development Institute which seeks to promote economic growth in developing countries, told World Finance: “African SMEs have not performed as well as SMEs in other parts of the world for a host of reasons.”

“Chief among these has been the difficulty they face accessing capital. The African financial sector is not developed enough to cater for the SME sector’s needs. Formal links between the banking sector and SMEs are few. The banks have traditionally prefered to lend to bigger firms. It’s more costly and riskier to lend to smaller ones.”

Lack of capital is compounded by other obstacles. “The business legal framework and administrative procedures have also been much weaker in Africa than say in Latin America or Asia,” Mr te Velde said. “It takes longer to start up a business, and longer to export and import in Africa than in other parts of the world. Then there are infrastructure constraints, roads and ports, and of course electricity. In some countries, power provision often covers less than 10 percent of the population. Add to this the widespread skill shortages. All of this has hampered the development of SMEs in the private sector hugely.”

But while the SME sector in sub-Saharan Africa remains small, it still accounts for the majority of private enterprises on the continent. Growing and developing African SMEs, many of which are family-run businesses struggling against seemingly insurmountable odds, is now increasingly being seen by governments, international donor countries, the multilateral development banks, the international commercial banks and other foreign investors as the key to Africa’s future economic development, and the only real chance of lifting the continent out of the poverty in which it has been trapped for decades.

Finally waking up

African governments have in recent years been seeking to alleviate poverty by reforming their legal structures to promote their own private sectors, and directing their financial and technical assistance towards SMEs. Host multinational corporations are under mounting political pressure to make a contribution towards promoting African economic development by including SMEs in their value chains, while African and international financial sectors are beginning to wake up to the huge potential market for credit among Africa’s small and medium enterprises.

According to the World Bank, 24 African countries – half the number on the continent – have embarked on far-reaching macro-economic and administrative reform programmes during the past decade, fostering a more pro-business climate for the private sector, thereby making it easier to start a business, strengthening property rights, improving investor protection, boosting access to credit and reducing the tax burden.

The Africa of today is not the Africa of thirty years ago – even if President Robert Mugabe of Zimbabwe appears to be one of the few people left on the continent not to have understood this. Things have moved on. The love affair with the Soviet-style command economy of the post-colonial era is dead in most African countries, and dying out in most of those that remain. Growing the private sector, especially SMEs, is now at the heart of many African governments economic development programmes.

Along with most other multilateral development banks, the International Finance Corporation, the private sector lending arm of the World Bank, has put nurturing SMEs at the centre of its strategy for promoting growth of the private sector in Africa. “Doing business in Africa was once seen as difficult and complex undertaking,” the Washington-based organisation says. “Red tape, a fragile investment climate, inadequate infrastructure, all contributed to this. But with fewer conflicts, more democratic elections, rising growth rates, that is all changing.”

The IFC has helped scores of family businesses across Africa gain access to the credit needed to make their businesses grow, an area in which an excessively risk-averse African banking sector has been hesitant to tread. Ten years ago the IFC’s Small and Medium Enterprises Solution Centre, through its SME Risk Capital Fund, provided Eddy Kimemia and his wife Diana Ndungu, the owners of a small Kenyan family construction firm, with a $6.6m loan needed to bid for a road construction project, putting the family business on the road to long-term commercial viability.

The IFC has also helped to finance Madagascar’s first commercial laundry company in Nosy Be, the country’s main tourist centre, which caters for the flourishing hotel and restaurant trade. In Uganda, it backed Samuel and Margaret Rugambwa’s soap and cleaning material business, helping it to expand from a $400 initial investment in 1990 to a $250,000 a year business – a one thousand fold increase – today. Success stories like these were few and far between three decades ago. Now they are increasing in frequency.
The reform impulse, fostered by the creation of the New Partnership for Africa’s Development, Africa’s home-grown blueprint for economic revival, has largely come from within. But it is being assisted by the world’s developed economies, partly out of guilt that Africa remains the least developed continent on Earth, but also out of a growing realisation that Africa’s population is fast approaching one billion people – which represents a vast, untapped, market of the future.

The Investment Climate Facility, the public-private sector partnership which came out of former British Prime Minister Tony Blair’s Commission for Africa, has been in the forefront of trying to improve Africa’s business climate to enable African SMEs to prosper and grow. In Rwanda, it has helped to establish a commercial court and an online business registration mechanism, the lack of which proved to be the single biggest obstacle inhibiting banks from lending to SMEs.

In Lesotho, it has helped to streamline and simplify the value added tax regime, which was drowning SMEs in red tape. In Liberia, where a staggering 90 percent of economic activity takes place in the informal sector, it has been helping SMEs to move into the formal economy, thereby providing the state with the beginnings of the tax base needed to fund public services. While in Tanzania, it is helping to computerise the judiciary – and the commercial courts – creating the legal environment within which property rights can be protected.

Some African banks and financial institutions have not been slow to capitalise on these emerging opportunities. Ecobank Transnational, the West African banking group, has long outgrown its modest roots in Togo, and now runs 500 branches in 26 countries, employing 10,000 people, with an asset base at the end of 2007 of more than $7bn. It was among the first to recognise that the sprawling cities scattered along West Africa’s Atlantic coast – one of the most vibrant commercial zones in the continent – offered tremendous potential for banking services.

Most of the trade on West Africa’s Atlantic seaboard is informal. But by servicing SMEs – mostly traders and manufacturers – as well as large corporations and wealthy individuals, Ecobank has been gradually luring the informal economy into its branch network by showing the owners and managers of SMEs that they can make a deposit in Monrovia or Freetown and withdraw it – for a fee – in Lagos or Accra.

Ecobank’s success in drawing SMEs into the formal sector has helped boost the company’s profits year after year, making it one of the most dynamic banking groups on the continent – a record other African and international banking groups are now seeking to emulate – while at the same time helping to fuel growth throughout the west African region and beyond.

But if Ecobank has demonstrated that there are serious profits to be made in providing African SMEs with financial services, the full potential of the sector is still only dimly appreciated. An estimated 600 million of Africa’s 900 million people are engaged in subsistence agriculture – by far the biggest and most neglected sector of the continent’s economy. As images of starving African children constantly remind us, Africa can barely feed itself. Yet it has the potential to triple or quadruple agricultural output, feeding itself, and helping to feed the rest of the world in the process.

Last year’s record rise in global food prices triggered renewed investor interest in African agriculture. The Alliance for a Green Revolution for Africa (AGRA), with start-up funding from the Rockefeller and Gates foundations, and chaired by Kofi Annan, the former UN Secretary-General, is building a continental network of 10,000 agricultural SMEs – small and medium-scale dealers to sell seeds, fertiliser, pesticides and other imputs such as farm machinery and irrigation systems to Africa’s vast army of agricultural workers – in an attempt to breath new life into Africa’s most important economic sector.

Investors across the world, from China to America, the Middle East and India, have taken note of AGRA’s initiative. Serious money is now starting to flow into African land assets, food processing, refining and distribution systems, in the expectation that African food production could finally be on the threshold of a revolution in output.

Africa’s agricultural SMEs, most of them small family interests which have barely kept their heads above water for decades, could now be about to experience an unprecedented expansion. For while global food prices have fallen from earlier peaks, few doubt that as the world’s population races towards seven billion and beyond, high prices will return. African banks were largely unaffected by the subprime contagion, due to tight exchange controls. But African economies are now being hit hard by the freezing of international credit markets and the dramatic fall in commodities. Most analysts expect lending to African SMEs to decline as a result.

But not for long. The sector, starved of cash for decades, is well placed to weather the storm. When the upturn comes, investors are likely to return to a long-neglected prospective growth sector, which had only just begun to tap its potential.

“We were all Keynesians now,” said Richard Nixon, back in 1969. If it was true then, it didn’t stay true for long. The rise of monetarism and neo-liberalism in the 1970s sidelined the once-dominant theories of British economist John Maynard Keynes

Nowhere was the decline of Keynes’ ideas, and their replacement with the ideology of neo-liberals like Ronald Reagan and Margaret Thatcher, more apparent than at the global financial institution created after the second World War to implement his style of economic management on a global stage: the International Monetary Fund.

Now the wheel has turned again. In our new financial crisis, Keynes has become fashionable. Politicians across the developed world – Gordon Brown and Barack Obama among them – are implementing massive borrow and spend programmes, as a way of replacing vanishing consumer demand and steering their economies out of recession.

This is exactly the kind of economic management that the IMF was created to enable. The Bretton Woods conference of 1944 established the IMF as a way of lending countries the money they needed to finance deficit spending, so long as it was aimed at stimulating economic recovery. Without this support, the argument went, countries would compete with each other in a slump – for example, by devaluing their currency to boost exports and deter imports. The IMF, it was believed, would ensure global financial stability.

That was the theory. But as neo-liberal politicians – and economists – rose to power, the IMF’s agenda gradually changed. Instead of lending money to finance spending and stimulate economic recoveries, its loans came with draconian strings attached. These “structural adjustments” forced recipient countries to adopt neo-liberal economics: governments were told to privatise states assets, such as power and telecommunications utilities, to implement austerity budgets, and reduce domestic subsidies for basics such as food.

Thomas Gangale of Alaska and San Francisco State University described a typical outcome of IMF assistance: “Government workers are laid off, creating unemployment. Government services are reduced, adversely affecting the poorest members of society. Government assets are sold off at fire sale prices to raise money to pay off debts. Often the private investors who take advantage of these opportunities cut services and raise prices in order to operate these formerly government-owned assets at a profit. Interest rates are driven up in order to attract foreign investment; however, doing so drives domestic companies out of business, creating even more unemployment.” The IMF, wrote Mr Gangale, became “a twisted child.”

The importance of adaptability

With Keynesianism back in the ascendancy, what future does the IMF have? At an event organised by the Per Jacobsson Foundation to debate the IMF’s future, Andrew Crockett, President of JP Morgan Chase International, said the fund, in the course of its 64-year history, had shown itself to be adaptable as the world economy changed. But this time, he said, according to a report of the event published by the IMF, “the transformation of the IMF’s role in the international financial system will need to be more wide-ranging than in the past.”

Speaking at the same event, Stanley Fischer, a former IMF First Deputy Managing Director and now Governor of the Bank of Israel, said there were good reasons why the IMF had not been successful in addressing the build-up in global imbalances that had preceded the crisis. “The fund’s role in patrolling the exchange rate system didn’t work – something we already know,” he said. “But we also know why it didn’t work. For the fund to have succeeded, it would have had to mediate between the country with the largest population in the world and the country with the largest GDP in the world, and get them to reach an agreement that they were incapable of reaching bilaterally. China was not willing to change its strategy of operating with an undervalued exchange rate, which has been an extremely successful one from the viewpoint of growth.”

The IMF wasn’t solely to blame for its lack of influence, said Jean Pisani-Ferry, Director of the Brussels-based think tank Bruegel. The IMF’s Spring 2007 Global Financial Stability Report had accurately described the first phases of the crisis, he told the event, and its Spring 2008 report had also been much more accurate than analysis provided by other international institutions and national governments. “The IMF has gained – or regained – intellectual credibility,” he claimed.

But does the world still need an IMF? Most speakers at the event said that it did, but the fund faced significant challenges in fulfilling its mandate in the world of today. As Mr Fischer put it: “How should the fund operate in the modern world in which financial markets are a much more important source of financing than they were 60 years ago, in which governments are less inclined to think in terms of what’s good for the international system as a whole, and in which there are many more international economic organisations? This is really at the heart of many of the dilemmas currently facing the fund.”

Dominique Strauss-Kahn, IMF Managing Director, tried to address that question in a recent speech on the future of the IMF – a future that he said “seems fluid and uncertain.” Mr Strauss-Kahn pointed to the fund’s founding Articles of Agreement, which stated the need to promote global financial stability and to help members to adjust their balance of payments “without resorting to measures destructive of national or international prosperity.” These objectives remain valid today, he said, as the fund tries to manage another chaotic period in the global economy: “The question is how to do it, in a global economy which is very different from that of the 1940s.”

Seasoning stability

The answer is twofold, argued Mr Strauss-Kahn: first, restore stability; second, “we must look ahead and design a financial architecture to make the global economy calmer and less prone to economic and financial instability.”

On the first point, the outlook is grim. The global economy is continuing to deteriorate, with 2009 set to be a very difficult year and no expectation of any recovery before the beginning of 2010 at the earliest. To prevent a global depression, there must be action in three areas, said Mr Strauss-Kahn: “We need financial market measures, in order to get credit flowing again. We need fiscal measures, to offset the abrupt fall in private demand. We need liquidity support for emerging market countries, to reduce the adverse effects of the widespread capital outflows triggered by the financial crisis.”

Governments around the world have endorsed this agenda, as has the G-20. Some have started to implement it, “But the actions taken so far are not enough. We need more,” said Mr Strauss-Kahn. The fund would help by monitoring risks at the global level and providing timely technical advice on financial market issues; deploying its expertise and experience on fiscal issues to help finance ministries find the best ways of calibrating and implementing fiscal stimulus; and by helping emerging economies design good economic programs, and by providing sufficient finance to support them, “with conditionality tailored to the goals of containing the crisis.”

One way of achieving these aims, said Mr Strauss-Kahn, is to help support aggregate demand – that’s good old fashioned Keynesianism. “Fiscal stimulus is now essential to restore global growth,” he said. However, the fund is still telling some countries to reign-in their budgets. Isn’t this a contradiction?

Mr Strauss-Kahn says not. Fiscal stimulus should be undertaken widely, and the more countries that engage in stimulus, the smaller will be the actions that any individual country will need. But not every country is in a position to join in. “There are some emerging market countries that have financing constraints – either high costs or inability to finance deficits at all – which mean that they need to contract their budgets rather than expand them. Others are constrained from fiscal stimulus by high levels of debt,” said Mr Strauss-Kahn. “It is cases like these that explain why in some of the programmes the fund is supporting at the moment, we are calling for some fiscal retrenchment, despite our call for global fiscal stimulus. If there was fiscal room for manoeuvre in these programme countries, we would say ‘use it’. But often there is no room for manoeuvre. In fact, in the absence of fund support, countries would have to contract even more, because financing is so tight.”

The need for this stimulus is urgent, said Mr Strauss-Kahn, as spending and investment dries up. “Every day brings additional indications that the psychology of individuals, households and firms has changed sharply in the past year,” he said. “The more profound that change, the greater the fiscal effort that will be needed to offset it and to restore confidence.” The world economy is facing “an unprecedented decline in output.” Substantial uncertainty is limiting the effectiveness of some fiscal policy measures, said Mr Strauss-Kahn, and the IMF anticipates that the negative growth effects will last for some time.

What do we need?

Bottom line: the global fiscal stimulus should be about two percent of world GDP – or $1.2trn, he said. “This may make a sizable difference to global growth prospects and substantially reduce the risks of a damaging global recession. But these two percent are an average, while some countries can’t do anything, others have to do more.”

So far, Keynes would approve. Mr Strauss-Kahn also said spending should be focused on troubled sectors like housing and finance and transfers to low-income households, because they are most likely to face credit constraints and because they would be most likely to raise their spending. Good examples would be greater higher unemployment benefits, increased tax benefits for low-wage earners, and expansion of in-kind benefits covering basic needs such as food, he said. He talked about the “multiplier effect”, whereby spending in certain areas is thought to give a higher bang for the buck. He also pointed to the value of investment spending, on areas such as state-funded capital projects. “Since the slowdown is expected to be long lasting, investment spending, which typically has a longer gestation period than many other measures, becomes a more appropriate policy tool in the current circumstances,” he said. “Investment projects that are already in the works and can be implemented quickly, and those with good long-run justification and likely positive effects on expectations of future growth, like President-elect Obama’s Manhattan Project for energy saving, are good ideas.” Again, all very Keynesian.

Temporary reductions in personal income and sales taxes “could also be envisaged,” he continued. “But we would not recommend reduction in corporate tax rates, dividends and capital gains taxes or special incentives for businesses. These are likely to be ineffective and difficult to reverse.” Not very neoliberal.

So perhaps the IMF has returned to its roots after all? “Good brakes are important too,” Mr Strauss-Kahn cautioned, and even advanced economies need to keep an eye on fiscal sustainability, in case their spending provokes an adverse reaction from the financial markets. But “At present, the most urgent need is for a strong foot on the accelerator of fiscal spending,” he said.

In a sense, it doesn’t really matter what the IMF’s exact role is. “What matters is that we make a useful contribution,” said Mr Strauss-Kahn. “We have the tools to do that. If we deploy them well, and help our members, then the IMF will have a good future. More importantly, it will be doing its job, and therefore give the world a better future. All around the planet, the people of the world have reacted to the crisis with feelings going from surprise to anger and from anger to fear. It is our responsibility to help building a world based more on humanity and cooperation than on opacity and greed.” Keynes would certainly approve of that.

Managers say the focus this year will be on restructuring and shopping for value assets. As heads of investment banking survey a new year, some of the most crucial documents in their possession are the detailed lists kept by their subordinates of the expected dealflow. These extensive lists, referred to as the pipeline, are kept rigorously up to date by all investment banking teams, but in 2009 they are looking thinner than in previous years.

Some managers say they might well be virtually useless in providing them with a guide to what activity to expect in the next 12 months.

Two years ago, in what must seem like another age, managers could leaf through page upon page of upcoming deals showing a record level of pent-up activity across their mergers and acquisitions and capital markets businesses, but in January 2009 the situation bears little comparison.

But despite the backdrop of a deteriorating world economy and a financial sector wrecked by more than $1trn of writedowns in 12 months, investment banks can continue to point to a small pipeline of mandates.

However, most companies are focusing their attention on the likely deluge of work from distressed corporate clients as the financial crisis ravages the real economy.

David Fass, Head of Global Banking Europe at Deutsche Bank, said: “This year is going to require the most complex and thoughtful approach we have seen in recent memory. As the world approaches the 24th month of the credit crunch, we are going to need to invent new solutions to work through the stresses and strains in the markets. For bankers, this means the amount of time we are going to spend thinking about how to help our clients will be many multiples of what it has been in recent years.”

Mr Fass mentions the increasing frequency of meetings between his teams of coverage bankers with their corporate clients, and says chief executives are eager for updates on the state of the financing markets and their options should they need to tap them.

Behind the scenes many companies have hired investment banks to examine their strategic options, from simple financing requirements to full-scale balance sheet restructuring and asset disposals.

One of the most obvious examples of this was German automotive components maker Schaeffler Group’s hire of JP Morgan late last year to examine its strategic options as its creditor banks pushed the company to provide them with more detail on how it would pay back the billions of euros they lent to support the acquisition of Continental.

Mark Aedy, head of Merrill Lynch and Bank of America’s combined European corporate investment banking operation, said: “In the past quarter, corporates have adjusted to market conditions and realised that this is a new world and they need to take action. Many of our clients have asked for full nuts and bolts reviews of their businesses and actionable business is coming out of this.”

For those companies prepared to be first movers the signs appear to be good. Bankers say the capital markets appear willing and able to buy new issues for those prepared to accept the new valuations on offer.

John Winter, head of investment banking for Europe, the Middle East and Africa at Barclays Capital, said: “The financing markets feel good at the moment. The bond market is clearly open for business, equity capital raising will be active and we think there are likely to be a lot of disposals related to corporate restructurings.”

The worry is that those that do not act swiftly to tap the markets and wait until the last minute might find the markets unforgiving and emergency capital raisings, forced asset disposals and even full-scale enforced takeovers are considered likely to be a major part of the market this year.

Mr Fass said: “There will be good companies out there that haven’t managed their balance sheet properly over the last couple of years and are going to find themselves in distressed situations. They are going to be unable to refinance and therefore they will have to take action quite quickly.”

Mr Aedy said his firm would be focusing on winning restructuring mandates in 2009, which the bank has identified as one of the biggest sources of investment banking fees over the next 12 months.

He said: “The focus will be on restructuring opportunities, but with a heavy emphasis on the capital markets and within that on equity capital raisings.”
Fishing for shares

The issue of how to position their businesses to capture the largest possible share of the fees on offer will be one of the biggest headaches for managers this year, particularly given that some are predicting a further 20 percent drop in the overall fee level in Europe this year.

Mr Winter said: “We are going to selectively reflect the market. We aren’t, for example, currently bringing issues for emerging market corporates but we will be when that market reopens. Meanwhile there are plenty of other areas where we are already very active.”

Geographically, the focus is likely to return to the large markets of the UK, France and Germany. Aside from the hundreds of billions of dollars of debt issued by the governments of each country, corporates in the developed markets are expected to provide the most business.

In the UK, which is regarded as the developed economy most exposed to the financial crisis, restructuring mandates will be the order of the day, while France and Germany may be relatively better off and able to take advantage of the opportunities the stressed markets are likely to provide.
 Charles Packshaw, head of UK corporate finance at HSBC, said: “Well-capitalised companies are likely to see opportunities to pick up undervalued assets in the UK. We generally expect UK deal activity to be pretty patchy, but there will be some strong sectors, such as consumer, resources and energy.”

ECM
Rights issues:
The busiest area by volume of the equity markets last year were capital increases and this shows no signs of changing this year, though the type of issues will be rather different.

If the past 12 months were dominated by multi-billion dollar capital raisings by distressed financial institutions, 2009 will be the year of corporate capital increases as a range of businesses tap the equity markets.

Emmanuel Gueroult, head of European ECM at Morgan Stanley, said: “Capital increases are likely to continue to be deeply discounted, but there is no shame attached and investors accept that the market has repriced over the last year.”

M&A
Mergers and acquisitions revenues in Europe fell by a third to $15.3bn last year as deal activity declined. Few bankers are predicting any improvement this year, but many are hopeful that things may be better than they seem.

Gordon Dyal, Global Head of M&A at Goldman Sachs, said: “The 2009 M&A market will most likely be a reflection of the global market dynamics; a balance between attractive valuations relative to historical levels and restricted liquidity. We expect 2009 M&A themes to be stock-for-stock transactions, fill-in acquisitions by large, well-capitalised corporates as well as emergency sellsides to address capital structure issues.”

Winning restructuring mandates is likely to be one of the keys to success this year, with many disposals being linked to working as an adviser on these types of transactions. The financial services sector is also expected to be another source of dealflow. A report published recently by US advisory firm Freeman & Co highlighted the continued need for consolidation among broker-dealers as well as the pressure on asset managers to merge.

Mr Freeman also predicts that stock exchanges will be active buyers of credit data-focused firms this year as they prepare for the advent of centralised clearing in the credit default swaps market.

Jumbo private equity deals may be dead, but with billions of dollars at their disposal bankers have not written financial sponsors out of their calculations for the next 12 months. Mr Freeman expects private equity firms to be active in the financial institutions sector as they use 2007 and 2008 vintage funds to buy assets on the cheap.

Convertible bonds
Equity-linked paper was one of the worst performers last year and convertible bond funds endured a torrid 2008. Analysts at Barclays Capital expect the convertible bond market to continue to shrink over the next 12 months as new supply continues to be exceeded by maturing issues.

Despite this, convertible bonds may continue to be one of the more active areas of the new issue market in 2009, as investors look for their combination of downside protection with the potential to profit from share price rises.

Several banks last year, including Barclays and UniCredit issued convertible bonds as part of their capital raising and bankers expect corporates to follow their lead.

Mr Gueroult said: “Though the equity-linked market has been very quiet, we think it could come back this year.”

Initial public offerings
Falling valuations and record volatility brought the new issues market to a virtual standstill last year and few expect an improvement any time soon.
Large issues such as the stock market listing of Deutsche Bahn have been postponed, with no date set for when they might return.

Thomas Gottstein, co-head of ECM for Europe, the Middle East and Africa at Credit Suisse, said: “There will need to be continued improvement in volatility, which has come down to below 40 percent, before the return of initial public offerings and there will need to be a clearer consensus about the length of the recession.

There is a lack of confidence in earnings or price to earnings valuations. A sustained recovery in equity markets isn’t likely until credit spreads have narrowed.”

A pipeline of issues is building from the Middle East with Dubai property developer Nakheel reported to be considering up to a $15bn flotation and several other smaller deals are in the pipeline.

Blocks
With bankers talking about a new-found realism among chief executives, expectations are growing that companies may be more prepared this year to accept the new valuations attached to their own shares and equity holdings.

UK utility Scottish and Southern recently accepted almost a 10 percent discount when selling a block of new shares to raise £479m and others are likely to follow as they attempt to finance ahead of the crowd.

Large block sales could also be back on the cards, sooner rather than later. UBS in a report published in January estimated that of the $1.5trn of European equities held by businesses, more than $160bn could be considered “loose” or under review for a possible sale.

Of this total, about 50 percent are held by corporates and, with many companies’ balance sheets under greater pressure than at any point in recent years, sales of these stakes this year are now considered more likely than they were last year, despite the fall in equity valuations.

Mr Gueroult said: “Sellers are now prepared to accept discounts on block trades. There is an acceptance that the market has repriced and that higher-valuation discounts may be required to complete trades.”

European government bond market
Analysts estimate a record €185bn was issued by the US and European governments in January, with up to €736bn expected to be issued by the end of the year from €576bn last year, according to calculations by Nordea analyst Jan von Gerich.

The four largest Eurozone economies will represent the biggest issuance, with Germany issuing up to €149bn of bonds, up by €8bn from last year, France issuing €145bn, up by €30bn, Italy €220bn, up by €20bn, and Spain €75bn, up by €15bn, according to analysts.

Germany and France are the main pillars of Eurozone issuance, rated triple A by rating agencies. Bankers said the recent failure of a €6bn auction by the German Government was not too serious. Less than a day later, a French issue was subscribed by investors.

Of France’s total financing need this year, €79.3bn results from the projected budget deficit for 2009 and €110.8bn from medium-term and long-term bond redemptions falling due in 2009. Other state commitments will amount to €1.6bn.

Germany’s financing plans this year give greater weight to short-term instruments as it faces rising financing needs in the economic downturn. Aside from capital market issuance of €149bn, its treasury bill, or Bubill issuance, is set to rise to €174bn from this year’s target of €72bn.

Several governments in Europe, including Germany, have moved to cover their rising financing needs in 2009 with higher issuance of treasury bills.

However, analysts warn it may prove problematic if governments rely on treasury bills and then have to return to market to continue financing in six or 12 months’ time, when yields could rise.

Corporate bond market
The European investment grade corporate bond market has reopened on stronger sentiment this year, but corporate treasurers, bond bankers and investors have their work cut out to navigate still treacherous new issue conditions.

Suki Mann, credit strategist at Société Générale in London, forecasts a possible low of €80bn – versus €133bn in 2008 – for investment grade non-financial bond supply this year.

Mr Mann said should the new issue window be open for longer, €120bn is reachable.

Top of investors’ wish lists for new issues are bonds from well-rated, well-known companies in non-cyclical industry sectors, with riskier credits rarely getting a look-in.

For industrials, bankers warn if conditions prove too onerous, companies may use free cashflow and/or draw on their bank lines instead of issuing bonds.
For utilities, forecasts are between €25bn and €40bn for supply due to redemptions and large M&A refinancing needs. Analysts believe E.ON and Enel have around €5bn available for funding. EDF, Iberdrola, Gas Natural and Vattenfall have €2bn to €3bn each to refinance and Nuon and EDP Group around €1bn to €1.5bn each. GDF Suez has another €1bn and EnBW around €500m.

Technology, media and telecoms issuance could reach €28bn, of which €22bn will come from telecoms groups, led by France Télécom, Deutsche Telekom and Vodafone.

In the motor vehicle sector, €18bn of potential supply is forecast, while €15bn is expected from the consumer and services sector this year.

Financial institution bond market
Issuance this year from the insurance sector may be a “difficult number to predict”, according to Barclays Capital, but issuance from the damaged banking sector could fill that void, as banks exploit government debt guarantees to raise capital.

Fritz Engelhard, head of European fixed-income strategy at Barclays Capital in Frankfurt, said: “It is not only a matter of how expensive the funding is, it is about accessing term funding and managing liquidity.”

European banks issued €40bn of government-backed bonds last November and December. This year, that could be €250bn, according to estimates from Frank Will, frequent borrower strategist at Royal Bank of Scotland. Other houses have forecast up to €500bn of supply.

In senior funding, the supply outlook is made more difficult by the prospect of government-guaranteed issues. However, Barclays said there was €270bn of senior redemptions this year, which indicates new supply.

For subordinated supply, Société Générale forecasts €13bn of lower tier two capital bonds, and €2bn – down from €6bn last year – of tier-one capital bonds.

Securitisation market
Securitisation was linked to the sub-prime crisis in the US and was a cause of wider economic malaise. As a result, the market was the hardest hit and has been at a standstill since the middle of 2007.

Bank issuance, however, has been hitting highs. Deutsche Bank research said €50bn of asset-backed securities were issued in the week starting November 9, an 18-month high. The reason for the spike is increasing use of central bank lending facilities, which now accept these securities as collateral for loans.
Merrill Lynch research published last week estimated 97.5 percent of securitisations in 2008, totalling €600bn, were retained by banks. Germany, Spain and Italy have announced specific funds aimed at purchasing ABS with a combined maximum total of €170bn. The UK is expected to follow.

Stuart Jennings, Structured Finance Risk Officer for Europe, Middle East and Africa at Fitch, said in a statement on January 7: “This is an apparent recognition that banks will have to continue to tap central bank funding for the foreseeable future.”

© eFinancial News, 2009. www.efinancialnews.com