BreadTalk commences consent solicitation exercise

Following BreadTalk Group Limited’s (“BreadTalk”; BREAD SP) reported loss in 2019 that adversely impacted the company’s accumulated profit, the group recorded a technical breach of financial covenants stipulated in the offering documents of its S$100m BREAD 4.000% 17Jan2023 Corp (SGD). BreadTalk’s consolidated tangible net worth decreased to S$53.3m (including the effects from SFRS(I) 16), which was below the minimum requirement of S$75m. The group’s ratio of total borrowings to tangible net worth stood at 3.55x at the end of 2019, exceeding the threshold of 3.0x.

Pursuant to the breach of covenants, BreadTalk on 18 March launched a consent solicitation exercise (“CSE”) to seek bondholders’ approval of a number of proposals. These include the waiver of financial covenant breaches, the loosening of existing terms of covenants, and inserting a call option in the notes. In this article, we discuss about BreadTalk’s CSE and offer our recommendations to affected noteholders.

The CSE proposal

The table below summarizes the key parameters of BreadTalk’s CSE proposal. To recap (see “BreadTalk Group Limited: Credit Update 05 Mar 20”), we understand that the technical breach mainly resulted from a challenging operating environment and adoption of new accounting rules. As such, a waiver of the breach would provide the time for BreadTalk to tide through the challenging operating environment and turn around its loss-making divisions. According to BreadTalk, the group is expected to be in a position to pay interest payments on the notes as and when they are due.

Figure 1: Terms of the proposal

With respect to item 2, it appears that BreadTalk is seeking to loosen its financial covenants even beyond the financial covenant holiday ending 31 Mar 21. Nonetheless, we think item 2 signals management’s expectation of a weak business outlook, likely due to uncertainties from the COVID-19 situation, rather than the intention to take on a more aggressive financial philosophy. As a food and beverage retailer, we expect BreadTalk’s results in the immediate future to be negatively affected by the ongoing global pandemic. In essence, the amendments proposed in item 2 suggest that noteholders should anticipate near-term operating results to remain lacklustre.

BreadTalk on 9 March despatched the former offer document for the privatisation bid led by the company’s founder, Dr George Quek. The voluntary conditional cash offer will close at 5.30pm on 6 Apr 20. In our opinion, given the discouraging near-term outlook of BreadTalk, and that the offer of S$0.77 per share represents a decent 19.4% premium over the last traded price of S$0.645 on 21 Feb 20, it is likely that the privatisation bid will go through and the company to be delisted thereafter. Assuming the privatisation offer is successful, holders of the BREAD 4% ’23s will have the option to redeem the notes at par, by exercising a delisting put.

Meanwhile, BreadTalk is also seeking bondholders’ consent to insert a call option, which will provide the group the option to redeem the bond at a call price of 100.50, exercisable during the period from 24 Apr 20 to 31 Mar 21. The call option period excludes the 45-day period during which noteholders are able to exercise the delisting put, starting from the date of cessation of trading of BreadTalk’s shares. An illustrative timeline is shown in Figure 2.  

Figure 2: illustrative time line of the delisting put and potential call option

As an incentive for bondholders to support the CSE, there will be an early consent fee of 0.50% in principal amount of the notes (being S$1,250 per S$250,000 of the notes) for bondholders who submit voting instructions in favour of the CSE by 5pm on 3 Apr 20. Bondholders who gave their consent after the above deadline but before the CSE expiration time of 2.30pm on 13 Apr 20 will be eligible for the normal consent fee of 0.25%.

The meeting for noteholders to consider BreadTalk’s CSE will be held at the offices of WongPartnership LLP located at 12 Marina Boulevard Level 28, Marina Bay Financial Centre Tower 3, Singapore 018982 at 2.30pm on 15 Apr 20. The results of the CSE will be announced following the conclusion of the noteholders’ meeting.

Recommendation

As a recap, BreadTalk ended 2019 with poor performances from all its divisions except for Restaurant, which operates the Din Tai Fung brand of restaurants. In 2019, BreadTalk reported EBITDA of S$208.9m, which covered around 9.5x of its interest expenses, or ~6.3x excluding the effect of SFRS(I) 16 according to our estimates.

While the current level of interest coverage suggests a decent financial buffer, BreadTalk is facing a number of headwinds, exacerbated by the ongoing COVID-19 situation. On the external front, the global pandemic is likely to take a toll on  BreadTalk’s business operations, especially on its F&B retail outlets in mainland China and Hong Kong. The newly opened Din Tai Fung outlet in the UK may also continue to report losses. Internally, the group is undergoing changes in leadership and strategic directions, which add to the uncertainties.

Meanwhile, BreadTalk in the midst of several growth initiatives, such as the acquisition of Food Junction and expansion efforts from the 4orth division. The 4orth Food Concepts division, which was formed in 2017, remained loss making as the group began to introduce more franchised brands only in 2018. Therefore, these business developments may need more capital expenditures going forward before they start generating profits. In addition, these efforts may experience a longer-than-usual start-up phase given the unfortunate COVID-19 outbreak.

On a positive note, we think BreadTalk still has a valuable brand in Singapore as a home-grown bakery, as evidenced by its steady growth in revenue over the years. We think waiving off the breach of financial covenants and providing BreadTalk a covenant holiday would allow the group to focus its efforts in getting back to profitability. While we are cautious on BreadTalk’s request to loosen its financial covenants beyond the covenant holiday, we think this is more of the need for the financial flexibility to overcome the difficult operating environment, than a lax of credit discipline.

We understand from management that the company has also been in discussions with its banks to seek their support, given that some of its bank covenants are similar to the bond covenants. According to management, BreadTalk continues to have the support of its bank lenders at this juncture.

Altogether, in view of BreadTalk’s deteriorating financial performance, its imminent need to have financial breathing room amid a challenging outlook, and the ongoing privatisation offer, we recommend holders of the BREAD 4.000% 17Jan2023 Corp (SGD) to vote FOR the extraordinary resolution. Noteholders who agree with our opinion should submit their votes before the early consent deadline to be entitled to the early consent fee of 0.50% in principal amount of the notes.