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The CFO Summit 2006The CFO Summit 2006Innovative Financing Hybrid CapitalLaura KohDirector Asia Capital Markets&FinancingSG000L1V2SG000L1VWhat Is Hybrid Capital?Traditional View of CapitalTraditional View of CapitalCurrent View of CapitalCurrent View of CapitalDebtqCouponqMaturityqSenior claimEquityqDividendsqPermanentqVoting rightsqResidual claimDebtEquityHybridCapitalqDeferrable CouponqCumulative or Non CumulativeqPerpetual or Long-datedqSubordinatedqNo voting rightsqPartial equity credit from rating agenciesqPossible equity treatment on balance sheet3SG000L1VDrivers of Growth In Hybrid CapitalRating AgenciesqMoodys and S&P revised or clarified their methodologies for awarding partial equity credit on Hybrid CapitalqImportant for companies which are facing ratings downgrade pressure but are unwilling or unable to issue additional equity to bolster the balance sheetAuditorsqWhen certain conditions are met,the Hybrid Capital may be treated as Equity in the financial statements under IFRSqParticularly useful in the computation of key financial ratios,such as Gearing RatioMarketsqWith USD and rates at historically low levels,investors have to search harder for yield/returnsqDemonstrated a willingness to go down the capital structure to achieve more yield4SG000L1VFeatures of Hybrid Capital SecuritiesMaturityqMost Hybrid Capital securities are perpetual,but they can be issued with a long-dated maturity(e.g.,30-49 years)Coupon RateqHybrid Capital securities typically have a stated coupon.The coupon can be:na fixed rate per annum for the life of the instrument,na floating rate per annum for the life of the instrument,orna fixed rate per annum for a certain number of years,then switching to a floating rate thereafter(i.e.,Fixed Rate/Adjustable Rate Preferred,or“FRAP”)Interest SuspensionqAt the option of the Issuer,interest may be suspended for any interest period,provided that nno dividends shall be paid or declared on the Issuers common stock or any other shares ranking junior to the Hybrid Capital securities,andnno common stock shall be purchased,retired,or otherwise acquired by the Issuer Mandatory Deferral TriggerqUsed when Issuer seeks to maximize rating agency equity credit.Following the breach of a pre-determined financial trigger,interest payments cease automatically.Where applicable,the Issuer can elect to settle such interest payments with a variable number of common shares.The trigger type and level are determined on a case-by-case basis nExample:The trigger is breached if average net income for the last 4 quarters is less than zero5SG000L1VFeatures of Hybrid Capital SecuritiesCoupon AccumulationqCoupons can be cumulative or non-cumulativenCumulative:If coupons are deferred/suspended,they will accrue and will be an obligation of the company to be paid in the futurenNon-cumulative:If coupons are deferred/suspended,no coupons will be paid for that period and the missed coupons will not become an obligation of the company to be paid in the futureDividend StopperqPrecludes dividend payments on securities that rank junior to the Hybrid Capital securities if interest is not paid on the Hybrid Capital securitiesRankqHybrid Capital securities typically rank junior to all indebtedness of the Issuer,and senior to the Issuers common stockLiquidation PreferenceqHybrid Capital securities have a stated liquidation preference per security,which is the dollar amount that a holder of such a security is entitled to receive out of available funds upon liquidation,dissolution or winding up,after creditors have been paid,but before common shareholders are paidCall RightsqHybrid Capital securities typically can be called by the issuer(a)after the passage of a certain number of years(e.g.,5 or 10),or(b)upon the occurrence of certain events(e.g.,certain changes in law that occur after the hybrid capital securities are issued)Replacement LanguageqLanguage that evidences a commitment by an Issuer that it will only call an outstanding security with the proceeds from an issuance of a security with similar or greater equity-like characteristics6SG000L1VS&Ps Approach to Equity CreditHybrid Capital UpdateMaturity lowering to 20 yrSeniorStep-Up(=100bps)Replacement Language(Legally binding)Less Flexibility(Dividend Pusher)Replacement LanguageMandatory Deferability(Partial Credit)Mandatory Deferability(Full Credit)Mandatory ConvertibleConvertible7SG000L1VMoodys Approach to Equity Credit Building BlocksHybrid Capital UpdateOptional Suspension/DeferralNote:Cumulative=cash cumulative distributions or unlimited stock settled distributionsNon-cumulative=non-cumulative distributions or stock settled distributions subject to limitationsSubordination will be equivalent to preferred in all casesE BasketPerpetual Maturity60-years or greaterStated IntentEnforceable ObligationPerpetual MaturityEnforceable ObligationPerpetual MaturityStated IntentD BasketC Basket Enforceable ObligationTermTermReplacementReplacementMandatory TriggerMandatory TriggerPerpetual MaturityPerpetual MaturityPerpetual MaturityStated IntentNon-cumulativeCumulativeNon-cumulativeNon-cumulativeNon-cumulativeNon-cumulativeNon-cumulativeNon-cumulativeCumulativeCumulativeCumulative100%Equity75%Equity50%Equity8SG000L1VRating Agencys Financial Ratios Calculation9SG000L1VIAS Accounting TreatmentHybrid Capital MarketsqA perpetual security is treated as either debt or equity on the issuers balance sheetqIAS 32“Financial Instruments”provides the accounting criteria for classificationqTrue or False:The issuer has an“unconditional right to avoid paying cash or financial assets to settle the obligation”:nTrue:EquitynFalse:DebtqAdditional criterion:The holder of equity must have a residual interest in the assets of the issuer after deducting all liabilitiesqRegulators,rating agencies and tax authorities can have different criteria so classification can differ for different purposesA Perpetual Is Classified as Either Debt or EquityA Perpetual Is Classified as Either Debt or EquityVattenfallVattenfall Case Study Case Study11SG000L1VRationale for the TransactionVattenfall Case StudyWhy Issue a Hybrid Capital Security?Anders Lidefelt,President of Vattenfall TreasuryWhy we did not Issue a Hybrid Capital Security Before?“It was not completely clear what the rating agencies views were and in general the equity credit they were assigning was fairly uninteresting”“The volumes that were possible were too small to be of any particular interest to us”qMoodys in February 2005 changes its treatment of hybrid products and Standard&Poors clarifies its approach to such instrumentsqIncreasing demand from investors looking for yieldsqCasino prints the first benchmark size corporate hybrid offering(600m)ChangesHybrid Capital OfferingResult“We are 100%state owned so our access to new equity capital is very limited”12SG000L1VRating Agencies TreatmentVattenfall Case Study13SG000L1VBenefits for VattenfallVattenfall Case Study14SG000L1VThe TransactionVattenfall Case StudySummary of Principal TermsSummary of Principal Terms(1)At issuance;in the meanwhile upgraded to A2(company)and Baa1(hybrid)respectively15SG000L1VInnovative StructureVattenfall Case Studyq75%equity credit from Moodys(Basket D)q60%Equity credit from S&P(Intermediate content)q100%tax deductibilityqEquity treatment under IAS 32Payment MechanicsPayment MechanicsHas Mandatory Non-Payment Event occurred?Has Vatenfall made a payment on,or repurchased junior or parity securities?Compulsory Interest Payment DateOptional Interest Payment DateMandatory Non-Payment Dateyesnonoyes16SG000L1VKey HighlightsVattenfall Case StudyVery high qualitySignificantly positiveExcellent Extremely well performing on the secondary marketFirst ever perpetual security for a corporate issuer in the Nordic RegionMost innovative structure in the corporate spaceHighest equity content non-dilutive corporate debt security-EVER1bn Hybrid CapitalDistributionImpact on RatingPerformanceGround Breaking TransactionStructureEquity TreatmentPorsches USD Hybrid Transaction Details18SG000L1VOverviewPorsches USD Hybrid Transaction DetailsHighlightsHighlightsHybrid Transaction RationaleHybrid Transaction RationaleqThe hybrid instrument reinforces the Groups stated conservative financial strategy,provides additional financial flexibility,and refinances the companys strategic liquidity reserves and a bond maturing in 2007qPorsche is the worlds most profitable car manufacturer and committed to maintaining a conservative financial structure and views the issuance of a hybrid security as a means of further strengthening its capital baseqUSD were selected as currency of issue as the bond can be used to hedge foreign exchange risks derived from car exports19SG000L1VOverview(Contd)Porsches USD Hybrid Transaction DetailsqThis is the largest ever unrated perpetual offering(by a large measure)from any corporate globally in any currency,and the first ever unrated USD perpetualqThe hybrid capital notes were accounted for as pure equity under IAS on Porsches balance sheet and were afforded full tax deductibility making it an extremely efficient,non-dilutive capital raising for the companyqThis hybrid offering also constitutes the first European/Asian fixed rate retail targeted perpetual.The absence of a step-up provides ultimate flexibility to the issuerqThe orderbook was USD 4.25bn with 280 investors participating across Europe and AsiaqThe transaction is testimony to Merrill Lynchs unparalleled structuring capabilities and also to our superior penetration of the Asian retail investor base as demonstrated by an entire series of such deals in the last 24 months since this market opened up with a USD 1.75bn perpetual bond by Merrill Lynch for PemexqFrom an initially marketed“benchmark-size deal”which implies USD 300mn plus and an initial guidance of“7.5 area”,we ultimately priced USD 1bn at 7.2%Summary of Principal TermsSummary of Principal Terms20SG000L1VTransaction SummaryPorsches USD Hybrid Transaction Details21SG000L1VPorsches USD Hybrid Transaction DetailsSummary of Payment MechanicsSummary of Payment MechanicsDividend History per Preferred ShareDividend History per Preferred Share(1)(1)Has Porsche resolved on a payment/dividend in respect of shares?Has Porsche resolved on or made a payment on junior or parity securities qualifying as equity of the Guarantor?Has Porsche repurchased any junior or parity securities or any shares?Optional Compensation Payment DateCompulsory Compensation Payment DateNoNoNoYesYesYes(1)Please note that preferred shareholders receive an additional 0.06 dividend p.a.,compared to ordinary shareholders;No special dividends illustrated(2)Based on Porsche Groups net income(3)Subsequent payment in January 1997(4)Includes a special dividend of 14.00 per share,leading to a total dividend of 17.00 per share22SG000L1VDisclaimersMerrill Lynch prohibits(a)employees from,directly or indirectly,offering a favorable research rating or specific price target,or offering to change such rating or price target,as consideration or inducement for the receipt of business or for compensation,and(b)Research Analysts from being compensated for involvement in investment banking transactions except to the extent that such participation is intended to benefit investor clients.This proposal is confidential,for your private use only,and may not be shared with others(other than your advisors)without Merrill Lynchs written permission,except that you(and each of your employees,representatives or other agents)may disclose to any and all persons,without limitation of any kind,the tax treatment and tax structure of the proposal and all materials of any kind(including opinions or other tax analyses)that are provided to you relating to such tax treatment and tax structure.For purposes of the preceding sentence,tax refers to U.S.federal and state tax.This proposal is for discussion purposes only.Merrill Lynch is not an expert on,and does not render opinions regarding,legal,accounting,regulatory or tax matters.You should consult with your advisors concerning these matters before undertaking the proposed transaction.