A brave new world

Under a restructuring announced yesterday (Monday), debt has been moved from a weaker subsidiary to what the group fervently hopes will be a stronger one. By refocusing the subsidiaries through asset transfers, increasing the free float, and potentially the market cap, officials hope the huge discount to NAV at which they trade will diminish, although as analysts point out, the overall debt burden has not diminished.

Hong Kong-listed New World Development and its listed subsidiaries New World Infrastructure and Pacific Ports have had a bad year. NWD's struggles stem from Hong Kong's ever-softening housing market, which analysts expect to lead to a second half loss of HK$ 20 million on the back of slow home sales, provisions and the write-down of infrastructure projects.

NWI, which invests in roads, bridges and powerplants recently had its HK$10 billion debt ($1.28 billion) downgraded to non-investment grade status by Standard & Poor's. The group as a whole has a debt to equity level of 47% and a debt level of HK$30 billion ($3.85 billion).

The reorganization will not improve the overall debt burden of the group. However, it will transfer debt from NWI to what the group plans to be a considerably stronger, new entity - originally known as Pacific Ports, which will be renamed NWS Holdings after asset injections from NWI and NWD.

At the end of the reorganization, NWI will have no longer have a stake in NWS, while NWD's indirect stake will change to a direct stake of 52%, one per cent more than before the deal.

NWS will be bearing a heavy burden of expectation after the reorganization. It is to become the spear point of the group's efforts to increase profitability and aid the debt burden by focusing on water projects to Mainland Chinese cities, construction, transport, and infrastructure projects. Its acquisition of large amounts of assets from the other two vehicles will hopefully generate synergies and reduce the debt to equity ratio by pumping up the assets.

NWS will receive all the infrastructure assets from NWI and pay HKD10.2 billion, of which HK$8.5 billion will be in cash, HK$0.8 billion in shares and HK$0.9 billion in assumed debt. That amount will wipe out NWI's debt burden - at the cost of transferring it to NWS. At the same time, Pacific Ports will pay HK$10.9 billion in shares to New World Development to acquire NWS.

But the whole point is precisely to transfer the debt to the new entity, on which great hopes ride of increase profitability, says KL Chan, managing director of New World Services and who will eventually head NWS.

"It's a sign of confidence in the new entity that it received bridge loan funding for the acquisition," he says.

Investors might ask why NWI is not able to invest directly in the new mainland projects, but Chan says it is because NWI's capital is tied up in other projects, especially telecommunications investment, which means it is unable to finance projects planned for the new entity.

By boosting NWS assets with the acquisition of NWI's infrastrucure assets as well as the acquisition of New World Services from NWD, debt to equity goes down to a more manageable 36% - HK$9.4 billion of debt compared to HKD26 billion in assets.

Future profitability will be boosted by the synergies that exist between NWS port assets and the newly acquired infrastructure.

"Although the assets are different, the way of operating them is highly complementary," Chan adds.

He says the company wants to focus on services by placing them in a division alongside complementary assets, namely NWS port management operations, where they will not buried under the competing priorities that exist at the level of New World Development. New World Services focuses on construction, engineering, property management, and transport in the form of New World First Bus Services.

NWI will take the opportunity to sharpen its focus on its technology, media and telecommunications - and might well have to change its increasingly misleading name.

The reorganization will have other benefits observers say.

"If you look at the discount to Net Asset Value which NWI and what was previously known as Pacific Port have been trading at (roughly 80%), you'll see the equity market gives them very little value," says one. "That's partly because of their small market cap and the tiny free float of Pacific Port."

But under the reorganization, Pacific Port's free float will be greatly expanded from an effective 10% to 50% level, since NWI will distribute all its Pacific Ports shares to minority shareholders in a ratio of 5.87:1.

"They believe that by reorganizing these assets in a more attractive form under NWS, they'll be able to unlock the value currently being discounted at the moment," he continues.

Key to that will be building on the profitability of the new asset grouping and leveraging financing opportunities on the back of a much larger free float and potentially market cap.

Morgan Stanley acted as advisor to the New World Group, while BOCI and ICBC advised Pacific Ports.