The notoriously acquisitive Chinese conglomerate HNA - which recently had a sharp falling out with Beijing resulting in a margin call "shocksave" - is facing a serious cash crunch in 2018 as nearly a quarter of its $100 billion in debt – a large chunk of which was accumulated during a multi-year buying spree that saw it become a major shareholder in Deutsche Bank, Hilton Worldwide and a large portfolio of international holdings - comes due.
But even as the company resorted to loaning out shares and entering into arcane derivative financing agreements to finance its debt-service payments, it is quickly finding that traditional avenues of financing are disappearing or becoming too costly.
Despite being one of China’s largest conglomerates, HNA has been shut out of stock and bond markets as lenders worry about its outsized debt load, forcing the company to pledge some of its core holdings as collateral for short-term loans, as the Wall Street Journal reported earlier this month.
This has forced the conglomerate to explore other options. To wit, the bank recently pledged some of its Deutsche Bank shares to UBS as collateral for a loan worth roughly $117. It also executed an options strategy known as a collar. This strategy involves purchasing out-of-the-money puts to protect against a large drop in the stock while simultaneously selling out-of-the money calls to offset the cost of the puts.
On Dec. 20, HNA’s unit entered into a new series of collar transactions with Swiss bank UBS Group AG, and pledged its Deutsche Bank shares to UBS in exchange for a total of 2.36 billion euros (US$2.8 billion) in net financing. It also has a margin loan from UBS and ICBC Standard Chartered PLC. In all, the new total amount of financing was about 99 million euros (US$117.6 million) higher than what was disclosed in a similar filing in May.
The additional collar financing disclosed this week should help protect HNA’s position in Deutsche Bank shares from margin calls in the future, according to people close to the companies. The new collar financing extends to 2020, longer than before, and gives HNA additional protection against volatility in Deutsche Bank shares, they said.
With memories of last fall’s dramatic plunge in Deutsche Bank shares still fresh – a selloff that was triggered by the DOJ’s decision to slap the already shaky German lender with a $14 billion fine – HNA assured its fellow shareholders that it is a “long-term investor” in Germany’s largest bank. The comment is, of course, self-serving: Though it has purchased downside protection to protect against a large drop in DB’s shares, a substantial decline in the company’s valuation could be the straw that pushes the conglomerate into bankruptcy, and potentially triggers China’s "Minsky moment."
For context, HNA owns about $4 billion in DB shares, roughly equivalent to a 10% stake, as shown in the Bloomberg chart below and according to Reuters.
Concerns about HNA’s financial position intensified since it issued a bond last year with less than one year to maturity. The bond carried the extortionately high coupon of 9%, prompting us to wonder if the demise of one of China’s “Big Four” conglomerates might be rapidly approaching.
HNA has borrowed $40 billion since 2015 to finance its world-wide buying spree. But in some cases, it’s already getting buyers remorse. About a month ago, its chief executive acknowledged a shift in strategy, saying HNA was looking to sell assets it deemed noncore. For example, it is exploring a group of foreign commercial properties it owns.
As reported by Reuters, Alexander Schuetz, HNA’s representative on DB’s board, made the comments during an interview with German newspaper Handelsblatt. The comments were later picked up by Reuters and Bloomberg. Schultz specifically emphasized that HNA has “no interest in a sale” of its DB holdings.
Schuetz sought to dismiss any lingering speculation that HNA would sell its stake in the German lender, which is just under 10 percent and valued at around 3.3 billion euros ($3.9 billion). “We want to show that this is totally wrong,” he was quoted as saying.
HNA’s $50 billion worth of deal-making over the past two years has sparked intense scrutiny of its opaque ownership and use of leverage.
In the interview, Schuetz pointed to a new financing structure with derivatives - with a three-year maturity - that insure against a drop in the bank’s share price. “This shows that HNA is focused on the long-term and has no interest in a sale,” Schuetz said.
Late last month, S&P downgraded HNA’s credit rating by one notch from B+ to B, five notches below investment grade as a result of its “aggressive financial policy” and tightening liquidity amid looming debt maturities. Even before that, some of the conglomerate’s largest subsidiaries were issuing bonds with interest rates far higher than their credit ratings would seem to suggest.
To be sure, despite its reassurances, if HNA is still struggling to raise the capital needed to make its $28 billion debt-service payment at the end of June, it’s likely even core assets might be put on the chopping block.