Railway Companies Bonds. Outcome Variable

09.04.2009 (17:52)

Last month a "railway parade" could be noticed in the Russian debt market, the main characters of which were OAO RZD, OAO TransContainer and OAO "Far East Transport Group". Each of them paraded, but with different success.

RZD: Help of the State - on a Refundable Basis

At the end of January 2009 OAO "Russian Railways" registered seven bond issues for a total sum of 100 billion roubles to fill the shortage of funds which are disappearing because of a tightening in bank credit, but at the same time necessary to fulfil the investment program. Bonds, which the company is to allocate in 2009, are called ‘infrastructural’, thus it is supposed that the funds involved will go on the realisation of projects related to this sector. It is necessary to note, that such a concept as "infrastructural bonds" does not yet exist in legal system terminology, as branch experts explain. "At the moment it looks like so-called infrastructural bonds do not differ from ordinary bonds at all. And by and large, it does not matter to the market, which ceased functioning normally last September, who gives a name to those certificates or how they are called," say Cbonds Agency experts. The borrower specified in the allocation project that the funds involved would be spent on the re-structuring of current debts with the purpose of increasing the period of loan repayment, and also for the realisation of projects within RZD’s general investment program.

The first of RZD’s bond "tranche" was put on the market on March 12th in two releases of 15 billion roubles for a few years - the first 2.5 years attract an annual rate of 15%, and with subsequent transition to "a floating mode". "For such an issuer as RZD, a 15% annual rate in roubles for a period of two years is rather good conditions. However, in the future the mechanism of how the floating rate will work will depend directly on the repo rate for transactions made for a period of seven days by the Bank of Russia, and the floating rate will exceed this rate on three percentage items. In other words, RZD will pay 3 % more for its long-term use of resources received now, than large banks pay to the Central Bank of the Russian Federation for short-term resources. Certainly rates can change, but in any case such conditions are more than favourable for the company," they noted in Cbonds.

The next flotation was planned for the current March-April period. Actually, we can speak about monopolies credited by the state which allocates funds through the bank sector (experts believe that the majority of bonds were purchased by banks who organized the issue) on a returnable basis and under rates quite like the markets, taking into consideration the size and reliability of the borrower. Thus, RZD’s debt papers, due to reasonable profitability (in spite of official inflation), can be potentially interesting to a wide range of investors, and not just to financial institutions, which have received funds from the state budget to credit the real economy as usually happens. However, this demand will wake up only when the economy achieves at least a pre-crisis level of liquidity, which (taking into consideration recent Central Bank actions on the compression of monetary weight) can hardly be expected soon.

"TransContainer": an Original Decision

On March 13 "TransContainer" closed its flotation within its first and so far unique loan of 3 billion roubles, which was allocated in March, 2008. The issuer received 96.1 % of the bonds for repayment at 2.9 billion roubles, which also included the coupon interest. Having repaid the amount the same day the issuer returned all the papers to the secondary market at a discount. It was quite an unusual practice for the Russian debt market.

"Before the crisis, sale of securities in the Russian bond market by an issuer, who had purchased them during a flotation, was a widespread phenomenon. Though the truth is that, as a rule, this process is not public, and the securities do not always came back to the market on the same day. Most likely, the return to the market took place through arrangements to re-structure the debts on new conditions previously made between the company and large holders of its bonds, which was more interesting to investors and feasible for the company," analysts Cbonds consider.

"We are happy with the way how the first flotation took place. Its results show that the market places a high value on the reliability of our company and its credit status, even in crisis conditions. This time the market has shown that it trusts us, and we are obliged to prove it. By results of this offer we have liberated funds, which will be directed to the development of our company and to improvement of our service quality," "TransContainer" General Director, Peter Baskakov, notes.

However, in order to match expectations and obligations undertaken, this operator should work hard. Bank analysts, for example, emphasise both the stable financial situation of the issuer, but disturbing tendencies in the transport market which may worsen the situation.

"We consider that successful results for 2008 allow us not to worry about the solvency of the company. “TransContainer’s net profit last year was 2.68 billion roubles; also there were financial deposits on its accounts of 443.3 million roubles. The latter, together with RZD’s support will possibly guarantee the ability of the issuer to fulfil its obligations to bond holders," Igor Golubev, analyst from "Nomos-Bank", writes in his article. He also notes that "the financial debt includes only a bonded loan. The debt/EBITDA ratio for 2008 was 0.46. According to reports the company had leasing obligations of 2.1 billion roubles at the end of 2008."

In the review made by "TransCreditBank", devoted toTransContainer’s final reporting for 2008, it is noted, that "a leading position in the market, a current low debt, flexibility in the realization of its investment program and support from the main shareholder, in our opinion, allow the company to service its own promissory notes with confidence and to maintain high standards of financial stability ". Besides, analysts of this bank place emphasise on the fact that in the current crisis conditions OAO “TransContainer” is in more advantageous situation than its competitors in the container railway transportation sector and cargo railway operators sector. So, in IVth quarter of 2008 the rate of decrease in container rail traffic is considerably smaller than the rail freight traffic as a whole. Moreover, during this period the company managed to increase its share of the market due to competitors, and to retain positive figures in comparison to the IVth quarter of 2007, and this is against the general background of a decrease in transport volumes."

At the same time, analysts of both banks are rather cautious. "An objective risk factor to the company is that "TransContainer" is a mono-operator, forwarding container cargoes. Containerisation is mainly a feature of imported goods. Taking into consideration current and predicted falls in imports, "TransContainer" can considerably reduce its operational flow and marginal character of its business. Therefore this company’s investors can hardly be pleased with both this and last year’s financial figures," writes Igor Golubev from "Nomos-Bank". "In 2009, if there are unfavourable developments in the economy and therefore, a further reduction in demand for transport services, the profitability of the company’s operations can essentially decrease," analysts from "TransCreditBank" consider.

But this issuer’s bonds will be interesting to potential buyers in any case, as they have been entered on the Central Bank’s pawn list." Inclusion of an issue in the Central Bank’s pawn list drastically increases liquidity, because it is always possible to receive credit from the Bank of Russia on rather favourable conditions, if this kind of bonds pawned," they note in Cbonds.

Far East Transport Group: A Struggle for Survival

In 2007 the Far East Transport Group (DVTG) allocated two loans - for 1 billion (DVTG-Finance-1) and 5 billion (DVTG-Finance-2) roubles respectively. According to the specialized agency Cbonds, in January 2009 this company has admitted a delay in payments of the DVTG-Finance-2 coupon, and in February the same happened again to the DVTG-Finance-1 coupon. However, this coupon was paid three days after the date due.

Also, in February DVTG did not execute its offer, which was the repayment of duty on DVTG-Finance-1, and thus it committed a technical default. According to allocation rules, the issuer had a month to find 190,746,000 roubles and to pay off with the holders. This term expired on March 13th, and the company were reluctant to comment, on the state of mutual relationships with bond-holders. Today, according to the Director of InfraNews agency, Alexey Bezborodov, total DVTG debt can be about 14 billion roubles.

DVTG confidently forecasted growth in both industry and finance in its informational memorandum devoted to the allocation of DVTG-Finance-1, which was the main document to convince investors of the appeal of its securities. Referring to the Federal Target Program "Modernization of Transport System of Russia" (2002-2010), DVTG management emphasized, that "average annual growth of rail freight turnover, for the period 2007-2010, is expected at a level of 3.6%."

So, this operator was developing its business so dynamically, as probably nobody else in this sector, proceeding from those cheerful forecasts, and based on the traditionally constantly increasing cargo owners’ demand for transport.

Before 2009 the company had been considering that its strategic goal was "to achieve a total income of about 50.9 billion roubles from its main activity, by actively increasing its rolling stock, and also by developing both existing and new transport routes; by developing terminal services and by building and running new terminals". Therefore DVTG actively maintained terminals in Zabaikalsk, Uzbekistan and Moscow Region. Besides, in 2007 it took 90 % of Nakhodka Sea Fishing Port ‘s shares.

Before the end of 2009 this transport group planned to get 15 thousand units of a various types of rolling stock, including 7 thousand universal gondola-type and covered wagons, and also 8 thousand flat wagons. The justification for wagon purchase looked reasonable enough. "Railway rolling stock is an asset of high liquidity, and its average service life is about 25 years. The purchase of wagons is a profitable acquisition for a company-carrier, because this kind of industrial asset constantly rises in price".

As previously mentioned , DVTG’s revenues in 2009 were forecasted at about 51 billion roubles, against 30.9 billion in 2008 and 11.2 billion in 2005. The debt/EBITDA ratio had to be reduced from 6 in 2007 down to 3.2 in 2009. Thus, from the point of view of debt optimality, the allocation of the bonded loan was quite reasonable. It is no wonder that for the realization of such large-scale plans DVTG kept borrowing actively. For example, in 2006 its short-term obligations increased by 77.3% in comparison with 2005; long-term - by 62.3%. As regards that particular loan to which the informational memorandum was devoted, it had the following purpose: about 80 % of funding was directed to refinancing the most expensive and short-term loans and credits; another 20% went to finance working capital and to develop the enterprises which belonged to this group.

It seems that the operator had chosen a good, but quite risky strategy. In the beginning of September, 2008 analysts of the "Russian Credit" bank, which was one of the organizers of DVTG-Finance-2 allocation, wrote in a report that DVTG’s securities were attractive to investors. The company "followed a strategy of aggressively increasing its rolling stock park, which allowed it to expand the size of its essential business," the report says. Another quotation from this document is: "It is necessary to note, that the existing rise in prices for rolling stock positively affects the speed of asset cost growth." And the final conclusion: "In our opinion, the purchase of DVTG-Finance-2  securities is an attractive subject for investment, at current levels, when considering DVTG’s dynamic financial and industrial parameters, a rather moderate burden of debt, and also an adequate rate of bond coupon to current market conditions."

With the beginning of the collapse in the industry in October 2008, all advantages in the form of, for example, a large park of a rolling stock (65 % of which had been taken in leasing), a big credit portfolio and investment in future growth, suddenly turned  disadvantageous, and pulled the company to the bottom.

As a matter of fact, DVTG’s difficulties are not unique. They became known to a wide public only because of the fact the company looked brave enough to enter the debt market, and, by the way, so far it is the only one operator who is not connected with RZD. "Everyone who borrowed money and purchased wagons at the peak of their prices in 2008 is suffering financial problems today," said a representative of one company.

However, this operator has hired the Head of the Central Bank of the Russian Federation, Victor Gerashchenko, to be the expert in settling its relationships with creditors. So, it looks like the full stop at the end of this story will not be put soon!

Ivan Stupachenko