Oct 2024
In the ever-evolving world of corporate finance, one trend that has been gaining significant momentum is the increased issuance of convertible debt by Chinese issuers. Over the past few months, Chinese technology companies including JD.com, Lenovo, Alibaba and Trip.com have collectively issued convertible bonds totalling US$10.5 billion, with Alibaba’s US$5 billion issuance setting a record for the largest US dollar denominated convertible bond by a Chinese company.
This article gives a brief overview of convertible debt and why this financing instrument has recently emerged as a critical tool for Chinese companies seeking to raise capital to improve their debt structure, expand operations and fund share buy-backs.
A Low-Cost Alternative
Convertible debt, at its core, is a debt security that can be converted into a predetermined number of a company’s equity shares. Although convertibles are by no means “new” debt instruments, rising interest rates over the past few years saw convertible bond issuances surge during 2023 with the trend continuing throughout 2024.
For companies, convertible debt offers a low-cost avenue to raise capital quickly and conveniently without immediately diluting existing shareholder equity, as the conversion of debt to equity is at the discretion of the investor. An issuer of convertible debt will typically benefit from a lower coupon rate compared to a typical corporate bond as the hybrid nature of convertible debt presents an attractive risk-reward proposition for investors who are drawn to the stability and predictability offered by traditional debt instruments and also the added potential upside of equity ownership. Sectors such as technology, biotechnology, and renewable energy have been at the forefront of this recent trend, as these industries often require significant capital investments and face heightened market volatility. By tapping into the convertible debt market, these companies can access the funds they need to fuel their expansion and development, while also maintaining the flexibility to adapt to changing market conditions.
As the business landscape continues to evolve, the role of convertible debt in corporate financing is likely to become even more prominent. Chinese companies are increasingly embracing convertible debt as an alternative source of funding amid higher interest rates, geopolitical uncertainty and difficulties some issuers currently face in accessing traditional equity capital markets (particularly in the United States). Convertible bonds have provided access to capital for many Chinese technology companies, allowing them to improve their debt structure, expand overseas operations and fund concurrent share buyback programmes to ease any potential dilution effect on conversion.
Where to Next
The recent flurry of issuances of US dollar denominated convertible bonds by Chinese technology companies may be just the start. The expectation is that more Chinese companies from other industries, particularly those in high growth sectors such as biotechnology and renewable energy, with high capital needs and the potential for stock appreciation, will consider similar financing strategies in the near future. In addition, as traditional bonds come due in the next few years, Chinese companies may also increasingly consider convertible bonds an attractive alternative to refinance their debt.
There is also some optimism that recent issuances could also trigger the start of a resurgence in the broader capital markets with renewed interest in IPOs as investors’ confidence in the Chinese markets continues to increase.
The cross-border nature of convertible debt transactions and need to navigate complex and evolving regulatory frameworks in China, the US and offshore jurisdictions requires careful planning and coordination between advisors. As Cayman Islands incorporated companies (for example Alibaba, JD.com and Trip.com) and Bermuda incorporated companies are often used by Chinese groups as listing vehicles and consequently as issuers of the convertible debt, Cayman Islands or Bermuda advice will be essential to ensure the successful execution of these transactions.
If you would like to learn more about the various ways we can assist, please reach out to Ryan McConvey or your usual contact at Conyers.