Vingroup bond prices capital fairly

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Vincom CenterVingroup (ex-Vincom)’s dollar junk bond yielding 11.875 per cent on issuance late October 2013 illustrates a Vietnamese corporate paying a reasonable cost of capital. The price is significantly above what a number of local companies expect to raise debt funds at. However, we believe that this price makes a lot of sense and pushes Vingroup management to only allocate capital to specific retail projects that generate the high double digit returns which such projects should generate. The price in theory has the right disciplining effect which capital must have.

Flush of money for Vietnam

Much like how the cheap access to credit of state-owned enterprises (SOEs) can distort decision making and corporate behavior, the flush of easy cash from private funds can have a distortive effect on the market. One area where ABB Merchant Banking sees that firms have had access to easy cash in Vietnam is from the early generation of ‘private equity funds’. In 2005-2007 there was a flush of cash raised for Vietnamese private equity funds. Cash deployed by these funds has to a large extent mispriced capital.

Examples of mispricing by private equity managers

As an example from 2003 to 2007, Vinacapital raised $0.5 billion from investors for their flagship London-listed Vietnam Opportunity Fund (VOF:LN).  The London-listing and liquidity of the investment structure is the primary advantage of such a fund. However, from an investor perspective, the fund has been a disaster. Dividends have never been paid from the fund and the performance has remained under the targeted 8% compound annual growth rate, with the manager having no right to performance fees since the 2007 bubble days.

Lately share buybacks have returned around $140 million to investors, but depending on investor’s entry price, this has been a mixed blessing for such a high risk fund. The current price per share of $2.22 is significantly less than the $3.28 price which the funded ended at in 2007 and the standard deviation of returns has been around 30 per cent in the last seven years!

Despite having been in the market for such a long time, the fund has not been able to profitably divest many of its assets and since 2005 there remains a net cash outflow from investing of over $300 million. In the end investors are left with a balance sheet with some listed assets, some real estate and some private equity assets at ‘fair value’.  Of the $772 million of assets in the fund, only $42 million (5 per cent) are actually in so-called private equity assets.

Around one-fourth of assets are in real estate and the bulk of assets (over 50 per cent) are in ‘capital markets’ investments which are basically blocks of large blue chip Vietnamese stocks such as Vinamilk, Eximbank, Kinh Do which are publicly listed on the stock exchange. These stocks are quite easy for investors to get access to, and the access through a fund such as VOF comes at a hefty management fee.

Managers not investors have benefited

Since 2006 the fund has rewarded its managers handsomely. The managers have collected around $200 million in fees!

Management fees have recently been reduced from 2 per cent of Net Asset Value (NAV)  to 1.5 per cent of NAV with the performance fee also reduced from 20 to 15 per cent.

The dismal performance of this fund is a good example of the rush to deploy easy cash by the early investment funds. Making investments at inflated prices and in immature investment structures have led to few successful exits and depressed investment returns by the early generation investors in Vietnam.

Potential step-change in access to easy cash

The negative economical effect of mispricing is that investee companies have not been under pressure to create the shareholder value that they should generate. Capital has not had the disciplining effect it should have.

Vietnam does not need more distortive access to easy cash. The Vingroup bond is a great pricing benchmark and illustrates that when investing in lower levels of the capital structure (such as private equity) even higher returns are needed.

Private equity has an undoubtedly positive effect on emerging economies. Correctly priced risk capital can help to create jobs, make companies more efficient, bring in new technologies and raise the level of corporate governance. In addition, if private equity managers generate attractive returns for ultimate investors, private equity opens up a recurring window for funding for growth businesses.

We believe that Vingroup’s issuance could be a step-change in the access to easy cash in Vietnam.

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Reading Time: 3 minutes

Vingroup (ex-Vincom)’s dollar junk bond yielding 11.875 per cent on issuance late October 2013 illustrates a Vietnamese corporate paying a reasonable cost of capital. The price is significantly above what a number of local companies expect to raise debt funds at. However, we believe that this price makes a lot of sense and pushes Vingroup management to only allocate capital to specific retail projects that generate the high double digit returns which such projects should generate. The price in theory has the right disciplining effect which capital must have.

Reading Time: 3 minutes

Vincom CenterVingroup (ex-Vincom)’s dollar junk bond yielding 11.875 per cent on issuance late October 2013 illustrates a Vietnamese corporate paying a reasonable cost of capital. The price is significantly above what a number of local companies expect to raise debt funds at. However, we believe that this price makes a lot of sense and pushes Vingroup management to only allocate capital to specific retail projects that generate the high double digit returns which such projects should generate. The price in theory has the right disciplining effect which capital must have.

Flush of money for Vietnam

Much like how the cheap access to credit of state-owned enterprises (SOEs) can distort decision making and corporate behavior, the flush of easy cash from private funds can have a distortive effect on the market. One area where ABB Merchant Banking sees that firms have had access to easy cash in Vietnam is from the early generation of ‘private equity funds’. In 2005-2007 there was a flush of cash raised for Vietnamese private equity funds. Cash deployed by these funds has to a large extent mispriced capital.

Examples of mispricing by private equity managers

As an example from 2003 to 2007, Vinacapital raised $0.5 billion from investors for their flagship London-listed Vietnam Opportunity Fund (VOF:LN).  The London-listing and liquidity of the investment structure is the primary advantage of such a fund. However, from an investor perspective, the fund has been a disaster. Dividends have never been paid from the fund and the performance has remained under the targeted 8% compound annual growth rate, with the manager having no right to performance fees since the 2007 bubble days.

Lately share buybacks have returned around $140 million to investors, but depending on investor’s entry price, this has been a mixed blessing for such a high risk fund. The current price per share of $2.22 is significantly less than the $3.28 price which the funded ended at in 2007 and the standard deviation of returns has been around 30 per cent in the last seven years!

Despite having been in the market for such a long time, the fund has not been able to profitably divest many of its assets and since 2005 there remains a net cash outflow from investing of over $300 million. In the end investors are left with a balance sheet with some listed assets, some real estate and some private equity assets at ‘fair value’.  Of the $772 million of assets in the fund, only $42 million (5 per cent) are actually in so-called private equity assets.

Around one-fourth of assets are in real estate and the bulk of assets (over 50 per cent) are in ‘capital markets’ investments which are basically blocks of large blue chip Vietnamese stocks such as Vinamilk, Eximbank, Kinh Do which are publicly listed on the stock exchange. These stocks are quite easy for investors to get access to, and the access through a fund such as VOF comes at a hefty management fee.

Managers not investors have benefited

Since 2006 the fund has rewarded its managers handsomely. The managers have collected around $200 million in fees!

Management fees have recently been reduced from 2 per cent of Net Asset Value (NAV)  to 1.5 per cent of NAV with the performance fee also reduced from 20 to 15 per cent.

The dismal performance of this fund is a good example of the rush to deploy easy cash by the early investment funds. Making investments at inflated prices and in immature investment structures have led to few successful exits and depressed investment returns by the early generation investors in Vietnam.

Potential step-change in access to easy cash

The negative economical effect of mispricing is that investee companies have not been under pressure to create the shareholder value that they should generate. Capital has not had the disciplining effect it should have.

Vietnam does not need more distortive access to easy cash. The Vingroup bond is a great pricing benchmark and illustrates that when investing in lower levels of the capital structure (such as private equity) even higher returns are needed.

Private equity has an undoubtedly positive effect on emerging economies. Correctly priced risk capital can help to create jobs, make companies more efficient, bring in new technologies and raise the level of corporate governance. In addition, if private equity managers generate attractive returns for ultimate investors, private equity opens up a recurring window for funding for growth businesses.

We believe that Vingroup’s issuance could be a step-change in the access to easy cash in Vietnam.

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