Published: June 01, 2010
TenneT is the high voltage grid operator of the Netherlands, with over 90% of revenues derived from regulated business. On 10 November 2009, TenneT announced the acquisition of the German high voltage grid of operator Transpower (formerly the high voltage grid of E.ON) for an agreed enterprise value of EUR885m. The acquisition creates Europe’s first cross-border TSO. In 2008, the company recognised that it was embarking on a period of expansion, and sought to introduce specialist financing experience into the team. As a result, Otto Jager joined TenneT as Group Treasurer in 2008 following a career in banking.
E.ON’s divestment of its high voltage business, Transpower, created a significant opportunity for TenneT to pursue its strategy for European integration of high voltage grids. The company had already established links with grids in Norway, Belgium, Germany and UK, but an international acquisition would be a major step in achieving its integration ambitions. However, it was immediately apparent that financing would be a hurdle to achieving this. In 2008, mergers and acquisitions had declined sharply, and deals that remained were difficult and expensive to conclude. To achieve the acquisition of Transpower, TenneT knew that it was likely to require up to EUR1bn in financing.
As a state-owned business, TenneT’s equity capital is owned by the State of the Netherlands, but its debt obligations are not guaranteed by the State. In line with Dutch government policy applicable to its corporate shareholdings, the company aims to maintain an A-range credit rating. The company could not simply borrow the full amount it required in the capital markets and maintain its rating, and therefore needed to strengthen its balance sheet through equity. TenneT’s senior management embarked on discussions with its shareholder regarding the supply of equity capital, but the timing of these discussions was inauspicious, with the country experiencing the effects of an economic downturn and a growing budget deficit. Consequently, the company entered into a special arrangement with the Dutch government which guaranteed an equity contribution equivalent to EUR300m from a foundation that holds funds on the company’s behalf. In addition, the company issued a EUR500m hybrid bond, providing 50% ‘equity credit’ from a rating agency perspective, to enable the company to maintain its rating. This provided the majority of the financing required to cover the EUR885m acquisition price and the remainder was financed through debt.[[[PAGE]]]
The result of this structure was that TenneT managed to maintain its strong credit profile and ensured continued access to debt financing in the future, therefore meeting its most important financing objectives.
The financial crisis had resulted in a complete collapse of the corporate hybrid market, with the last successful transaction in June 2008 by Deutsche Boerse for EUR550m. This was the first corporate hybrid that was compliant with S&P’s RCC requirement that was introduced in 2007. However, TenneT recognised the benefits of this approach and equally, it was ideally positioned to launch a hybrid issue as a state-owned business with regulated revenues, low business risk, moderate leverage and strong credit metrics, therefore meeting the investment criteria of potential investors. Within the current legal framework, the company was not in a position to issue external equity, but hybrid issuance quickly emerged as the most attractive option suited to the type of company it was, with competitive pricing and a tax-deductible coupon.
Arrangers ING and RBS had been informally engaging with potential investors for some time, and were therefore confident that there would be strong interest in the TenneT issue. Spreads on senior bonds had been reducing, and investors were seeking a competitive yield supported with a strong credit rating. Although hybrid bonds are rated lower than senior debt, this issue was still highly respected by investors and the deal was heavily oversubscribed, with orders of EUR3bn in the first 30 minutes.[[[PAGE]]]
Hybrid bonds can be a very useful tool for companies who lack easy access to other forms of equity or for whom equity issuance may not be cost-effective. Depending on structure, up to 100% of equity credit can be obtained, often while maintaining tax deductibility, which therefore makes it an economically attractive alternative. Hybrid bonds are complex, and in many cases, there is a lack of familiarity with these instruments amongst the corporate community, with 95% of hybrid bonds still issued by the financial sector. However, hybrid debt is attractive and could be used more widely. There are a range of factors to take into consideration: accounting; tax; ratings, and therefore corporate treasurers should seek specialist advice and arrangers with expertise in hybrid issuance in order that instruments are tailored to a company’s specific requirements. ING and RBS, who acted as arrangers for TenneT’s hybrid issuance were the company’s house banks and also arranged bridging finance. It was important to remain close to these key partners throughout the process and retain an open but confidential relationship.
As there are currently few corporate hybrid bond issues and they are typically not widely traded, it is difficult to establish a price comparison, so it is important to become familiar with the market and pricing of other issues in order that the final pricing achieved is defensible internally, which may be more difficult than with senior bonds.
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