The roadshows had gone well and the order book had swelled. Virtually all that remained to do on September 11 for the Dominican Republic’s debut sovereign bond issue was to put pen to paper to sign off on the deal. So when terrorism struck New York that day it also looked like being a disaster for the $500 million issue that the Republic, with lead bankers JP Morgan and Morgan Stanley, had worked hard to bring to market.
Amazingly, that did not prove to be the case and the deal was put back on track in a matter of days. On September 20 the five-year, 9.5% global bond was launched in what Andrés Dauhajre, executive director of the unit in charge of the government’s medium-term external financing program, called, “Not even a window of opportunity – just a little chink of light.”
Of course, circumstances were not as sunny as they had been just days previously. Dauhajre says the sovereign went to New York with $1.3 billion in the order book already and confident of tight pricing. Almost inevitably demand shrank after the terrorist attacks, but the debut issue still got a favorable reception, attracting orders for around $750 million.
Dauhajre says the issue went mainly to insurance companies, mutual funds and investment banks, with very little retail interest. Around 79% of the issue went to the US; Europe took 20%; and 1% went to Latin America.
He expects to see some demand in the secondary market from pension funds and the like in the Dominican Republic and Central America, once markets calm down. “A five-year government bond at 9.5% is obviously a very attractive instrument for pension funds,” he says.
Within the Dominican Republic the debut issue has proved somewhat controversial – perhaps because of its novelty – with political accusations of fiscal imprudence and debate over how the money should be spent. Promoters of the bond dismiss these worries.
By law, the projects to be financed, mainly in infrastructure, will be those that generate an internal rate of return at least equivalent to the coupon on the bond. Toll roads, for example, can pay for themselves while benefiting sectors including tourism or agriculture. A complete project list had not been defined by mid-October.
And the country’s exposure to foreign debt – at less than 19% of GDP before the issue – is less onerous than that facing many similar emerging market borrowers.
However, those who strongly advocated the debut issue say it will bring a host of other advantages for the country that will be just as important as the roads that are built.
First, it will make it easier to go to the markets a second time. Dauhajre says the government has no plans to go back to markets next year: $350 million of the $500 million from the initial issue is financing for 2002. However Hugo Guiliani , secretary for trade and industry, recognises there could be a future interest in swapping the debut issue into a longer-term and cheaper 10-year issue if country credit ratings improve.
Dauhajre says the government could go back to the markets in 2002 or 2003, “If we see that the private sector needs another reference point on the yield curve: one of the reasons the government wanted this transaction was to offer the private sector a benchmark for access to capital markets.” A euro-denominated issue might be considered, although Dauhajre admits that the euro-based buy-side is generally unwilling to support a debut at the yield curve-enhancing 10-year maturity he would look for.
Before the sovereign issue, the only Dominican entity to have tapped international capital markets with a bond issue was Tricom, the NYSE-listed telecoms company. It naturally had to offer a much greater yield to attract buyers: 11.375% on its seven-year senior notes issued in 1997.
Dauhajre’s vision is that more large Dominican companies will henceforth be able to get financing on international markets. “For me this is the most valuable aspect of the whole transaction,” says Dauhajre.
In turn, local banks will be stimulated to find new business opportunities in lending to small and medium-sized companies, giving them a chance to grow and invest and thereby creating stronger employment growth. Project finance, enabling vital infrastructure investment, will be made easier too by the existence of the benchmark international credit.
A source at Tricom says the company was a strong advocate of the sovereign issue and worked to convince all the presidential candidates of the benefits during last year’s elections. Having a sovereign bond outstanding should provide more of a guarantee that politicians will pursue orthodox fiscal and monetary policies. “If they can do that and the country credit risk improves it will help everyone,” says the source.
Kevin Manning, general manager of Itabo, one of the country’s biggest power generators, partly owned by AES of the US, is another who believes companies will see the benefits from the issue. “This will be a big step forward in getting financing. The bond helps to change the way the country is viewed,” he says. “It will facilitate talking to the bank.”
Local banks may also be able to negotiate better, cheaper credit lines with international banks on the back of the bond issue. Dauhajre believes the country has “taken a qualitative leap” which has lifted the value of the entire private sector.
Dauhajre says the bond issue will in an indirect way create more information about the Dominican Republic, making it easier for foreign investors to judge risk. He hopes that could stimulate more foreign direct investment: this year FDI is predicted to reach between $1.1 and $1.25 billion.
A priority task for those in charge of seeking further government financing is to convince ratings agencies that they should be more generous in their assessments of the Dominican Republic as a credit risk.
Moody’s awards the country a Ba2 long-term foreign currency rating and Standard&Poors assesses it at BB-.
S&P acknowledged a favorable macroeconomic environment, good foreign debt profile and a quicker pace of structural reforms under the Mejía government, but said its ratings were constrained by the country’s low international reserves, shallow capital markets and poor social indicators.
‘”We are working intensely with S&P and Moody’s to get a better rating. We think the Dominican Republic should be much closer to countries like El Salvador and Mexico [both Baa3/BB+] in terms of its rating,” says Dauhajre, who believes international analysts fail to appreciate that only 14% of the country’s imports are paid for out of official central bank reserves. “We think that we have better macroeconomic indicators and a much more solid structural reform record than Costa Rica [which is rated Ba1/BB], for example.” (see box)
Investors, though, are hardly likely to protest that a credit rating is too low, given that it improves their chances of a better yield on the issue. “I think investors realised we were better than BB- and Ba2 – but that we were paying those levels,” says Dauhajre.