Behind China's Boldest Dealmaker, Billions in Pledged Shares
Pledged stock of HNA holdings are worth more than $24 billion.
(Bloomberg) -- HNA Group Co. supercharged its transformation from an obscure Chinese airline operator to a juggernaut capable of amassing multibillion-dollar stakes in globally recognized brands, including Hilton Worldwide Holdings Inc. and Deutsche Bank AG.
Now China’s boldest dealmaker, with more than $40 billion of acquisitions spanning six continents, faces growing regulatory scrutiny from Beijing that threatens to spook bond investors and raise HNA’s financing costs when most of the shares pledged to fund its buying spree are declining. If the value of its collateral falls enough, HNA could be forced to sell its holdings to repay debt.
While privately held HNA declined to provide a complete accounting of its share pledges, data from regulatory filings compiled by Bloomberg provide an unprecedented look at the company’s exposure.
HNA and its units have pledged at least $24 billion of shares across 15 publicly traded firms, including the Hilton and Deutsche Bank stakes, filings show. HNA-related entities also have pledged billions more of unlisted assets that include shares of holding companies, land-use rights, planes, a golf resort and $289,000 of corporate vehicles. Shareholders pledged a 17 percent stake in the group’s closely held parent, according to government filings obtained by Bloomberg that document the pledges.
"Whenever your share pledges increase, especially with respect to ratcheting up debt, I would say it increases risk," said David Yu, an adjunct finance professor at New York University Shanghai. "The question really becomes, ‘At what point is it too much?’”
There’s nothing inherently wrong with share pledges or collateralized borrowing. Both are common forms of financing, particularly in China, where about 10 percent of the country’s stock-market value has been pledged for loans, according to a report in January by David Cui, a China equity strategist at Bank of America Corp.
HNA, founded in 1993 and chaired by Chinese aviation tycoon Chen Feng, said by email that the pledging of shares isn’t its only financing source. The company said its business operations, asset quality and cash flows allow it to pursue a range of financing options, including bond and fund issuance and securitization. HNA recently told parties involved in its deals that it’s putting mergers and acquisitions on hold, the Wall Street Journal reported Thursday, citing people familiar with the discussions.
While price swings may prompt lenders to ask for additional cash or stock to supplement guarantees, the collateral can be returned to HNA when prices rebound, the company said in its response to questions from Bloomberg. HNA said that on most of its pledged shares, it hasn’t had to put up additional collateral or face margin calls.
"Doing so has been rare because the majority of the shares were pledged way before the price hit its peak," the company said, adding that it consulted financial advisers on each pledge transaction.
Still, it’s the degree to which HNA has relied on pledged assets to fund its acquisition spree that concerns credit-rating agencies and analysts, including at Aberdeen Asset Management Asia Ltd. In at least 11 of the 15 cases in which HNA disclosed a pledge of publicly traded shares, more than 90 percent of its stake was exposed to creditors, according to data from public filings compiled by Bloomberg.
The scale and complexity of HNA’s approach to equity-backed borrowing raises questions about how the firm will manage its leverage across so many businesses, according to Carol Yuan, an Aberdeen credit research analyst in Sydney who studied HNA bonds.
“It’s a bit concerning," she said, adding that Aberdeen hasn’t bought the parent company’s bonds. "That’s why we’ve never touched this group."
The more stock HNA pledges, the less cushion it has when share prices fall. HNA’s holdings in companies that trade on China and Hong Kong exchanges have lost almost $2 billion in value this year. Losses have continued since last month, when China’s government was said to scrutinize overseas investments by HNA and other dealmakers to assess risks to the nation’s lenders. Regulators had already made it harder for would-be acquirers to move money overseas, part of an effort to stem capital outflows and prop up the yuan.
The class A shares of Tianjin Tianhai Investment Co. dropped 25 percent this year through July 11, the worst performance among the pledged shares linked to the conglomerate. CCOOP Group Co., an HNA-linked retailer with about $1.5 billion worth of shares pledged, has tumbled 23 percent. Not every investment has been a loser for HNA in 2017. Its two listed overseas holdings with known pledged shares, Hilton and Deutsche Bank, have posted gains.
Bohai Pledges
While HNA has disclosed little about its credit arrangements, data from Chinese stock exchanges show listed companies typically can borrow about 40 cents for every dollar of shares pledged.
HNA entities pledged shares to Chinese state-owned banks, securities firms, trusts and foreign banks, according to an analysis of filings. UBS Group AG, the pledgee in the Deutsche Bank transaction and one of four foreign lenders in the Hilton deal, declined to comment. In one case, an HNA subsidiary pledged shares in Bohai Financial Investment Holding Co. to 19 entities. Among the pledges was a $300 million stake pledged to yet another HNA subsidiary. HNA declined to comment on the Bohai pledges.
Some Chinese tycoons have faced financial struggles that underscore the risks of such arrangements. Jia Yueting, founder of internet media giant LeEco, had part of his stake in a publicly traded unit frozen by a Shanghai court this month after his businesses faced a cash squeeze. The stock dropped to a two-year low in April, when trading was halted in Shenzhen. Jia, who had pledged almost all of his stake in the unit as of March 31, didn’t respond to a request for comment sent through a spokeswoman.
“It’s mainland Chinese culture; they’re much more adventurous with pledging of shares,’’ said Alex Wong, a Hong Kong-based money manager whose $110 million Leverage Partners Absolute Return Fund has outperformed 99 percent of peers tracked by Bloomberg over the past five years. “The market isn’t too picky when everything looks fine, even though there’s actually a huge inherent risk."
HNA’s use of leverage to fund its acquisition spree has raised red flags at credit-rating companies. Moody’s Investors Service and S&P Global Ratings have downgraded a total of six companies in the past 15 months across Asia, Europe and the U.S. and changed the outlook on a seventh after HNA bought the companies or increased its stakes. Deutsche Bank, upgraded in March on a German law change, is an exception.
In the most recent credit action, a Moody’s outlook change on Swissport Group Sarl in May, the aviation services provider technically breached loan covenants after an HNA holding pledged its shares in Swissport entities to secure a debt facility. S&P put Swissport on CreditWatch negative the following day. HNA said it took immediate action to ensure a stable financial structure after insufficient communication between different project teams caused the technical default.
HNA declined to comment on the six downgrades.
--With assistance from Venus Feng Prudence Ho Robert Olsen and Adrian Leung
To contact the reporters on this story: Blake Schmidt in Hong Kong at bschmidt16@bloomberg.net, Pei Yi Mak in Hong Kong at pmak17@bloomberg.net.
To contact the editors responsible for this story: Robert LaFranco at rlafranco@bloomberg.net, Michael Patterson, Peter Eichenbaum