Debt financing market

Peculiarities of domestic bonds issue:

• Obtaining large amount of funds for long period without collateral;
• Opportunity to spread the debt among large number of investors and decrease dependence on each separate lender;
• Opportunity to refinance the debt at lower rates. If first issues in the bonds market were matured successfully the investment attractiveness of the issuer will be higher; it allows to reduce interest rates in long term;
• Formation of positive credit history in capital markets. Issue of bonds gives opportunity for issuer to borrow funds later on at lower rates and perform other actions on capital markets more successfully.
• Diversification and optimization of liabilities on sources and terms; it makes debt control more convenient for borrower
• Opportunity of day-to-day debt management. The issuer has an option to determine interest rates not only during the placement process but on the secondary market as well;

Main advantages of bonds

Issue of domestic bonds is the optimal financing instrument for the entry into public debt market since it has the following advantages:

• Simplicity of deal preparation;
• Flexibility for structuring (put- and call options, amortization, various options for coupon rate determination, etc.)
• No collateral;
• Opportunity to choose the right time (subject to market conditions);
• Option to regulate the volume of bonds circulated.

Domestic bonds ensure:

• Diversification of investors base;
• Large volumes of borrowings due to market capacity;
• Formation of public credit history and corporate investment brand.

Typical structure of domestic bond issue is defined by the following parameters:

Issuer	As a rule, Issuer is the head company of Group/Holding or a company which concentrates main assets/cash flows
Warrantor	Warrantors could be included into deal structure if needed.
Volume of issue	Typical nominal of issue for domestic bonds market is RUB 1-5 bln . The volume is determined from target ratio of debt/EBITDA and other factors.
Bonds lifetime	Bond lifetime varies in the range from 2 to 10 years; most common range - from 3 to 5 years. Put-options ("offers") could be proposed.
Coupon period	3, 6 or 12 months. Most of bond issues has coupon period equals 6 months .
Put-option	Investors have a right to sell bonds to the issuer.
Amortization	Amortization schedule can be structured according to cash flow schedule of the Issuer.
Coupon rate	Coupon rate can be fixed for the whole bond lifetime, it can be defined until put option date or can be linked to other financial indices (MosPrime rate, for example)

Expenses related to domestic bonds placement are: infrastructural fees and Arranger fees.

Infrastructural fees
Depositary fees	0,01 - 0,05% from nominal amount of the issue (depends on parameters of the issue)
Stock exchange fee	Access for placement: 0,01-0,05% from nominal amount of the issue (depends on parameters of the issue) For placement: 0,019% from nominal amount of the issue
State duty	112 000 roubles
Arranger fee
Fixed fee	To be determined in negotiations depending on issue parameters
Success fee	Additional fee linked to the effect from coupon payments reduction

Bonds placement via list "Â":

For ordinary domestic bonds it takes about 2 months to launch the secondary market (due to the mandatory registration of report on issue placement in FFMS).

Special feature of placement using list "Â" is the opportunity to register report on issue placement on the stock exchange, not in the FFMS. This feature substantially accelerates the launch of secondary market. Namely, new issue can be traded almost in the first day after placement.

Stock exchange notes — debt securities which do not require state registration; its lifetime could not exceed three years. According to the current legislation these notes may be issued by open joint-stock companies whose shares are listed at any stock exchange.

In order to get access for stock exchange notes placement the Issuer should meet the following requirements:

1. shares of the issuer should be listed in stock exchange. It means that more than 70 companies could start issuing stock exchange notes at the moment. Even if the company have no listing at stock exchange, the Issuer can pass this simple procedure at any time. The requirements are:
2. Issuer of notes should exist at least 3 years and have duly accepted financial reports for 2 closed financial years;
3. Notes lifetime should not exceed three years since the placement date;
4. The issuer should provide set of documents which is almost identical to the set for ordinary domestic bonds placement.

CLN (Credit Linked Notes) is the first step for Eurobonds market entry

General scheme of issue and parties involved:

• The Borrower - resident company which receives financing from the Issuer in the form of loan.
• The Issuer - nonresident company issuing notes (CLN) and providing loan to the Borrower using proceeds from the notes distribution. The Issuer is either western investment bank or Special Purpose Vehicle (SPV).
• Lead-manager, Arranger - develops the deal structure; finds investors interested in notes purchase; arranges the primary distribution settlement.

Peculiarities of CLN issue in comparison with other instruments:

Flexibility and rapidity:

• No requirement for information disclosure; no requirement for issue registration;
• It is possible to use derivatives/special conditions;
• The issue can be prepared during 1-2 months;
• The issue could be denominated in various currencies including Russian roubles;
• The settlements are made via Euroclear/Clearstream, it is more convenient for international investors; therefore a borrower could attract more investors; hence, the borrowing rate decreases;
• Since the year 2007 Russian rouble became settlement currency in Euroclear/Clearstream; hence, rouble denominated issues became more convenient for investors; in addition, international investors could buy roubles directly in Euroclear/Clearstream.

Cheapness:

• As a rule, fixed coupon rate is lower in comparison with domestic bonds;

PR-effect/publicity

• Prerequisites for entry into the international capital markets (Eurobonds, IPO);
• Mobilization of western investors and creation of public credit history;
• Creation of international investment brand.

Borrower's expenses for CLN launch:

Infrastructure:
Issuer fee:	0.2-0.4% from the nominal amount of issue (depends on denomination currency and other parameters of the issue)
Legal fees:	USD 50-120 thousands
Listing (if necessary):	USD 15-20 thousands
Road-show:	USD 50-200 thousands

Lead-manager fee:
Fixed fee:	To be determined on negotiations with the Borrower (depending on issue parameters)
Success fee:	Depends on the Borrower's saving on coupon rate

If the Client is ready to:

• Provide more comprehensive information disclosure (financial reporting according to international standards);
• To register the Prospectus;
• To conduct audit by leading audit companies;
• To obtain rating for the issue or for the Client itself;
• To establish an SPV satisfying the requirements of rating agencies.

All listed actions will lead to decrease of the borrowing rate.

Upon completion of these requirements CLN are turning into Eurobonds.

Comparison of CLN and Eurobonds

	CLN	Eurobonds
Registration requirements	No registration	Prospectus to be registered
Information disclosure	Moderate requirements	Extremely high disclosure requirements
Listing	Optional	Mandatory
Credit rating	Optional (preferably)	Mandatory
Financial reporting according to international standards	Optional (preferably)	Mandatory
Investors	Aggressive investors as a rule; both Russian and western ones	More conservative investors
Period required to close the deal	1-2 months	3-4 months
Legal fees	USD 50-120 thousands	USD 500-600 thousands

Eurobonds become available for corporate clients at a certain level of information disclosure, corporate governance and operational performance. Scheme of issue is similar to the CLN one, but the requirements for borrowers differs dramatically.

The requirements for corporate borrowers launching Eurobonds includes:

• Correspondence of the amount borrowed by the transaction and operational results;
• Consolidated financial reporting according to international standards;
• Credit rating from one of three leading rating agencies - S&P, Moody's or Fitch (preferably 2 ratings at the level not lower than "B" equivalent);
• Information disclosure according to international legislation (Regulation S);
• Carrying out of Due Diligence when preparing Prospectus;
• High level of corporate governance.

Traditional feature of the Eurobonds structure is SPV sponsored by the Borrower.

• SPV to be registered in a favorable tax jurisdiction;
• Expenses for legal and tax consulting for SPV creation and its creation/management during the first year is about $100-120 thousands.

The comprehensive Due Diligence procedures should include:

• Legal DD;
• Financial DD (analysis of the financial performance);
• Operational DD (business analysis; situation in the industry, etc.)

Expenses for Eurobond launch:

Infrastructural fees
Legal consultant of Lead-manager	USD 300 thousands
Trustee services	USD 50 thousands
Legal consultant of trustee	USD 25 thousands
Legal and tax consulting for SPV creation	USD 70 thousands
SPV creation and running during first year	USD 50 thousands
Prospectus printing	USD 40 thousands
Listing	USD 15 thousands
Road-show	USD 50-200 thousands
Lead-manager fee	Amount/structure to be determined via negotiations depending on issue parameters

Securitization is a transformation of illiquid assets into liquid securities; a complicated form of financing secured by pool of assets (receivables).

(At the moment Russian legislation allows only mortgage-backed securitization. Securitization of other types of assets - for example,consumer loans, car loans, SME loans, leasing payments - to be made according to English legislation via debt eurosecurities issue.)

The main idea: Company (Originator) transfers pool of its assets to SPV. SPV in turn issues debt securities (notes) secured by assets transferred.

Influence of Securitization into the capital markets:

• appearance of new classes of debt instruments
• market entry for new participants

Securitization advantages for the Borrower (Originator):

1. Financing via pool of assets sale
2. Removing risks from the balance sheet of the company (having access to the future profits from these assets)
3. Improving company balance sheet (improving capital adequacy ration); balancing assets and liabilities;
4. Diversification of financing sources; access for broader sections of various types of investors (hence, the potential reduction of financing cost)

The main types of securitization:

1. Classical securitization based on actual sale of assets ("true sale")
2. Synthetic securitization (assets are not transferred to SPV balance)

Potential objects of securitization - receivables, generating future (predictable) positive cash flows:

• loan receivables
• leasing payments
• trade receivables

There are several restrictions narrowing the class of assets which could be securitized.

1. Prohibition for cession of trade receivables
2. Information protection rules; bank secrecy
3. It is necessary to notify the debtor in order to effectuate the cession
4. Mandatory registration of assets transfer
5. Non-neutral tax consequences of assets transfer

Additional factors to be considered by the Borrower regarding securitization:

1. Capitalization strategy of the company: "true sale" of assets (i.e. transfer of assets into non-affiliated SPV) decreases Borrower's assets (both according to Russian and international accounting standards); therefore it decreases company capitalization.
2. Peculiarities of Borrower's legal structure and related restrictions: Usually SPV is created as non-profit entity. After asset transfer SPV will earn some extra-profit which should be "returned" to the Borrower. Such schemes make legal and tax structures of the transaction too complicated.
3. Volume assets to be securitized: The transaction could be profitable for more than USD 100 mln