February 13, 2017 / 2:25 PM / in 5 months

Total's hybrids equity credit under threat

4 Min Read

LONDON, Feb 13 (IFR) - Total could lose the equity credit on €9.2bn of hybrid debt after the company's CEO said it could buy back the debt in the next two or three years, potentially falling foul of S&P's strict criteria for these bonds.

Total's chairman and CEO Patrick Pouyanne said during the company's earnings call last Thursday that it would consider buying back all of its hybrid bonds, depending on interest rates, in the next two to three years.

"When the gearing will be at 20%, we will buy back the (hybrid) debt," he said.

Total's gearing currently stands at 27%, according to its fourth quarter and full-year 2016 results published on Thursday.

"It will depend of where the interest rates are... If interest are high, we will see. We are conscious of what we have done. But, yes, if we have buy back it, we'll buy back it."

Rating agencies assign equity credit to corporate hybrid bonds based on a variety of criteria. In the case of S&P, the permanency of the instruments forms a key part of how it views them and how much equity value it gives them.

"I'm not sure he's thought the implications of this comment through, Veolia made similar statements, which questioned the permanence of the instrument, and S&P removed their equity treatment," an investor said.

In May last year, S&P revised Veolia's hybrid bonds equity from intermediate (50%) to minimal (0%) in order to reflect a lack of clarity about management's intention to replace the instrument or not.

The agency then sent shockwaves through the market when it removed the equity content of 29 corporate hybrid bonds in October 2015.

The decision was made to reinforce the importance of keeping hybrids as a permanent part of companies' structures.

Getting equity credit from the rating agencies is one of the reasons why corporates raise hybrid debt as it flatters their financial and leverage ratios.

In a note regarding Total's latest hybrid bond issued in September 2016, S&P said that any repurchase, irrespective of the size, could jeopardise the equity content of the securities and other hybrid instruments.

"It will lead us to question management's intentions to maintain and replace such securities," S&P said.

Waning Popularity

A decision to buy the bonds back could be a blow for an already moribund corporate hybrid market where volumes have been falling steadily over the last year.

Issuance of once-popular corporate hybrid bonds nosedived last year as volatility took its toll with just €7.8bn printing, in comparison to the nearly €30bn of issuance in 2015.

Just €225m of hybrid paper has printed this year from two issuers.

Hybrids have waned in popularity partly because ratings agencies have caught the market off-side in recent years by changing their methodologies, with issuers suddenly finding themselves with an expensive instrument that does not have much value.

Total has been the biggest user of hybrid debt since it started issuing in 2015 to take advantage of ultra low funding costs.

Its hybrids are all perpetual and currently have 50% intermediate equity content from S&P and Moody's until they are first callable. Its nearest call date is February 2021 for its €2.5bn 2.250% hybrid bond which means Total could have expensive hybrid debt to service for another four years.

However, the company might not wait until the first call and could try to conduct a liability management on the bonds.

"Management is insinuating a tendering exercise could occur, and this would have to be at a premium to where they trade in the market and is unlikely to occur unless they've lost their equity content," the investor said.

Total's hybrid bonds have traded up half a point since Thursday's announcement, with its 3.369% callable October 2026 bid at a cash price of nearly 98 on Monday morning.

Total did not respond to a request for comment.

S&P declined to comment on Total's announcement regarding its potential hybrid buyback. (Reporting By Laura Benitez, editing by Helene Durand and Robert Smith)

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