Can you give us a snapshot of Parque Arauco’s footprint and any big strategic initiatives in place?
Parque Arauco has 728,500 m2 of total GLA in Chile, Peru, and Colombia. The company inaugurated its first shopping centre in Chile in 1982, but entered Peru and Colombia much later – in 2006 and 2008, respectively. The company´s assets include six regional shopping centres, three premium outlet malls and eleven strip centres in Chile; four regional shopping centres, five neighbourhood centres, one premium outlet mall and one strip centre in Peru; and two regional shopping centres in Colombia, as well as a large land bank to support the company´s future growth plans.
Earlier this year the company announced a new investment plan equivalent to roughly US$730mn, which will include the development of new properties in all three countries in which we operate. As part of those spending plans we raised US$240mn in new bonds; it was the largest bond issuance in our history to date.
Parque Arauco shifted its corporate funding strategy quite significantly in 2013, which resulted in a fairly novel transaction. Can you give us a sense of the main drivers for the move and help set the scene?
If we go back to 2013, we had a very strong pipeline of new projects. But one of the concerns that we had was how we were going to finance that. When I took a closer look at my liabilities, most of them were bank loans; many of the projects demanded project finance approaches that, at the time, were structured in a way that used mortgage payments to back them.
We had many mortgages. Conventional wisdom suggests you secure a mortgage to get a lower cost of funding. But when you do this on a large scale, when you issue a new debt, the marginal investor would be worse off because they are effectively subordinated to the mortgages.
We had soaked up a fairly substantial amount of local market debt through our bank lines. At the same time, we were seeing long-term investors – life insurance companies, pension funds – getting into this space and offering more corporate funding, which created a significant opportunity for us. So our strategy after 2013 largely centred on moving the company away from project financing towards more corporate funding, and increasing our credit rating. One of the things that would help us accomplish the latter, and issue a competitive bond that would give investors a fair return, was to eliminate our mortgages with our three main banks. So that’s what we did, lifting all five banking and bond mortgages linked to the company’s most important mall, Parque Arauco Kennedy.
It’s something that seems very rare in today’s market. What did the transaction look like in the end?
We had an outstanding bond that we issued in 2000, which was also supported by mortgages. And one of the issues we had encountered is that the bond was issued at inflation +3.8%, whereas interest for an issuance with a similar duration during the middle of 2014 was inflation + 3.2%.
So, if I wanted to buy the bond back in its entirety, it would have been quite expensive. Additionally, the old bond had a 10-year term, and generally, pension funds and similar institutional investors are largely looking to pick up debt with much longer tenors. So selling the old bond onward would have proven fairly challenging.
We saw an opportunity there to swap our UF2,250,000 (approx. US$91mn) 10-year bond for an upsized UF3,000,000 (approx. US$121mn) bond, moving it from a 10-year tenor to a 25-year tenor with a 15-year grace period, and reducing the rate we were paying from inflation +3.8% to inflation +3.6%, which was in-between where the market and our old bond was trading. What we were able to do is offer our existing bond investors the option of either swapping onto the new bond, or securing a letter of credit from our banks as a guarantee. It has been 10 years since anyone has really tried a transaction like this, and it has only been done two or three times in Chile’s history.
So we went to market in September 2014, and about 85% of investors swapped from the 10-year Series ‘H’ bond to the new 25-year Series ‘K’ notes. As a result, we were also able to attract a pension fund to the debt. Only one holder of our old bond remains. Additionally, we were able to improve our local credit rating by two levels, from A to AA-.
What were some of the challenges you faced?
Many investors believed at the time that if they don’t go for the swap, we would buy the bond back and pay the penalties for that. And that was the main risk in the transaction. But we had to make sure we were communicating to the market that we would fulfil our commitment; if the market didn’t believe we were sincere in this regard, they would have simply waited for the buy-back, which would have been the best option for them rationally speaking given the amount they would have made up-front.
This was definitely a win-win transaction, and creates a positive platform upon which a company like Parque Arauco can once again hit the market when the time comes. If anything, it could serve as a blueprint for corporates in similarly capital intensive industries.
There are some challenges on the regulations side – the transaction itself wasn’t regulated, and one of the things we had to do was interpret the existing rules on conventional bond issuances. We needed to retrofit the regulation to our transaction, which in itself posed some serious risks. We either had to wait for a formal resolution, or go ahead with the transaction – so we went ahead.
After the transaction, as you might have guessed, regulators contacted us and asked us to consult them beforehand, which is fair; in retrospect, you could argue that the government should have moved to provide clear regulations for these kinds of transactions despite the rarity of them, as there are a number of companies in capital intensive industries that could benefit from doing a similar thing.
Do you think regulators are trying to get in front of this, either within or outside Chile? I get the sense the landscape is changing in a way that is seeing regulators get more involved in what corporates are doing when it comes to novel transactions.
I think it goes beyond what you might consider novel transactions. If you look at the gulf between 2006 and 2016, not just in Chile, the community is pushing regulators to become more involved in corporate activity. There is a different level of transparency being demanded right now, and it’s a phenomenon that we’re starting to see evolve worldwide. Part of this is driven by what investors want, and in a sense it’s also being driven by what the general population wants. As a result, regulators are in a tough spot. They don’t want to read the newspaper and encounter any surprises.
We have been facing significant issues with corporate governance and anti-trust, in Chile and beyond. But it’s starting to translate into new regulations, particularly in Chile. For instance, there are new laws in Chile requiring corporate board members to report on all corporate governance issues for the previous 12 months. What is concerning about this, in the case of Chile, is that we are taking far too much time tackling these issues and less time and resources trying to do things like increasing the liquidity of the stock market, stimulating growth, and facilitating cross-market investment. It’s not that corporate governance and transparency are bad things, but growth is also very important – and in Chile it is flat-lining at the moment.