Cloudy credit horizon for S$ bond market after Hyflux default

KUALA LUMPUR: S&P Global Ratings expects the credit horizon could be cloudy for the Singapore dollar (S$) bond market over the next 12-18 months after the default of a Singapore-based water infrastructure solutions provider, Hyflux Ltd.(unrated).

It said on Tuesday the default could be first wagon in a train of financial-distress cases to come as lending conditions adjust to the economic slowdown and become less favorable.

"We believe more defaults could occur in Singapore as earnings may be slowing down and investors becoming more selective,"  S&P Global Ratings credit analyst Bertrand Jabouley said.
"Due to very low rates and yields in the past five years, Singapore investors, both institutional and retail, have sometimes opted for riskier bonds, to increase cash returns.Lending appetite driven by abundant liquidity has allowed less-established, often smaller companies to tap the market. 

“Such players are typically more vulnerable to economic up and downs." 

Given the global trading environment may not be as supportive as it used to be, a marked slowdown of earnings looks increasingly plausible.

This may be an issue in Singapore, where median leverage (debt-to-EBITDA ratio) is high at close to six times.

Hyflux announced recently it will restructure its outstanding bonds.

“We believe more distress situations are likely in Singapore.By our estimates, close to S$4bil (US$3bil) of Singapore-dollar corporate bonds are maturing by the end of 2019.

“That number climbs to some US$10 billion in 2020.A more cautious investor sentiment may exacerbate refinancing risk, in our view,” S&P said.

Besides these considerations on the wider market, the ratings agency see four interesting takeaways from the Hyflux situation. 

First, no sector is immune to financial troubles.
Distressed situations over the past two to three years in Singapore have been confined to the energy and commodity sectors following volatile prices (e.g.Swiber Holdings Ltd.and KrysEnergy Ltd. in 2016, or Ezion Holdings Ltd and Nam Cheong Ltd. in 2017).
However, the default of telecom services provider PT Trikomsel Oke Tbk in 2015 highlights that even companies in defensive sectors, widely understood as having sound resilience and growth potential, are vulnerable to financial distress and default risk if they rely heavily on debt for their expansion and do not appropriately manage their liquidity.

Second, situations can evolve quickly for companies with narrow or uncertain earnings quality.

This means lenders should do their due diligence before, and surveil their money after, investing.

Following some erratic operating performance in the previous years, Hyflux still managed to issue perpetual securities in May 2016.

Numbers at that time already suggested that the company's capital structure was hardly sustainable, with a ratio of net debt to EBITDA above 10 times in 2015 and negative EBITDA in 2014, driven by performance issues at the company's Tuaspring desalination and power plant.
After a rebound in 2016, with EBITDA of S$179 million, Hyflux posted a negative EBITDA in 2017 (S$68 million) and deepened its operating losses in 2018 (S$256 million in the nine months to end September).

On Sept. 30, 2018, short-term debt was S$508 million and cash S$194 million, making a capital structure revamp inevitable in light of the earnings momentum.
Third, losses can be harsh, depending on the characteristics of debt instruments outstanding. This is because the market has seen the introduction of complex debt instruments compared with senior unsecured notes.

In 2012 for instance, Genting Singapore PLC issued a total of S$2.3 billion in perpetual subordinated bonds in two separate tranches, S$1.8 billion for institutional and S$500 million for retail investors. These benchmark transactions have contributed to open the market for hybrid capital.

Out of close to S$60 billion in corporate bonds outstanding, there are about S$8 billion in perpetual bonds. 

Hyflux is seeking lender's consent to restructure S$2.8 billion of liabilities. 

As per the company's disclosures, senior lenders recovery should be limited and subordinated lenders may not recoup a cent, highlighting the higher credit risk they bear.

Fourth, it appears investors should not make assumptions regarding a given private company's importance to the government, and hence take a bailout as likely. 

In Singapore's Parliament on April 1, 2019, the Environment and Water Resources Minister announced that taxpayers' money would not alleviate the financial burden on beleaguered Hyflux.

This means that while water security is an important theme in Singapore, making Hyflux's role important to the country, it may not suffice to engender government support, in the absence of a strong link (i.e. ownership).

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