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Century Sunshine Group Holdings Limited’s (“CENSUN”) 7% S$101.75m notes were due for redemption on Friday, 3 Jul 20. In late evening on the same day, CENSUN filed an exchange notice to inform that notwithstanding the company’s efforts, it was unable to refinance the notes and as a result, did not have adequate cash to proceed with the redemption.
In the same notice, CENSUN mentioned that two bank lenders had served demands for repayment of borrowings to the group, possibly in anticipation of the bond default in our view. The demands for repayment were served on 24 June and 30 June, for the amount of HKD 51m plus interest accrued.
Debt profile and financial position
Excluding the S$101.75m (~HKD 563.56m) CENSUN 7.000% 03Jul2020 Corp (SGD), the total principal amount of outstanding offshore borrowings1 of CENSUN, at the end of June, amounted to approximately HKD 675.66m, comprising of loans and unlisted bonds. This would mean that CENSUN had total offshore borrowings of ~HKD 1.2 billion.
At the same time, the group’s onshore borrowings2 totaled around HKD 818.83m. These include bank loans of RMB 712.40m (~HKD 776.73m) and a USD 5.44m (~HKD 42.10m) loan from an unnamed financial institution.
CENSUN had total assets of approximately HKD 7.44 billion based on the group’s unaudited management accounts as at 31 Mar 20, out of which HKD 2.43 billion were current assets, including HKD 470.19m of cash. Total liabilities were around HKD 3.24 billion, with near-term liabilities of approximately HKD 2.32 billion.
However, most of the cash mentioned above were likely held at CENSUN’s China-domiciled operating subsidiaries. At the holding company level, CENSUN’s cash were HKD 33.33m at the end of March, depleting to just HKD 0.24m three months later after financing the group’s operations. Total assets and liabilities, on a single-company basis, were HKD 2.30 billion—of which over 98% were amounts due from subsidiaries—and HKD 870.63m (current liabilities: HKD 734.73m) respectively.
Termination of proposed convertible bond issuance
As a recap, CENSUN had in April entered into a subscription agreement with its founder, chairman, and majority shareholder, Chi Wen Fu, for a proposed issuance of HKD 300m of convertible bonds to the latter. HKD 230m (~79%) of the net proceeds from the transaction was earmarked for the partial repayment of the group’s offshore borrowings. We had remarked previously that the proposed convertible bond issuance was a significant credit positive to the company.
However, on 12 June, CENSUN abruptly postponed the extraordinary general meeting (“EGM”), which was intended to seek shareholders’ approval for the transaction, to an unspecified later date. The rationale cited by CENSUN for the EGM deferral were unclear to us. Among others, CENSUN mentioned that the COVID-19 outbreak had hurt the business of some of its customers, which in turn led to a drop in the group’s revenue and operating cash flow.
CENSUN also said at that time the company was working with an arranging bank to issue a USD bond in late June, but the prevailing weak investor sentiment had raised hurdles against its refinancing efforts. The firm warned that if it was unable to implement the proposed USD bond issuance, the repayment of the CENSUN 7% notes due 2020 would put “substantial pressure” on its liquidity.
Given that the convertible bond issuance would significantly alleviate CENSUN’s liquidity crunch, we were unable to comprehend why the aforementioned factors should drive management to postpone the transaction. Our own interpretation is that despite the announcement of the proposed convertible bond issuance, CENSUN had been unable to attract additional funding from external investors and lenders. Net proceeds to be raised from the transaction would not fully cover the bond repayment, and barring additional fund raising exercise, redemption of the SGD notes would drain most of the group’s cash balance. These factors could have forced management to try to come up with a holistic refinancing plan for all of its short-term borrowings, instead of just the 7% SGD notes.
In any case, CENSUN gave notice in a separate exchange filing on Friday that the company and the convertible bond subscriber (a wholly-owned entity of Chi) had terminated their agreement. CENSUN cited the bond default as one of the reasons for cancelling the transaction, claiming that its board of directors deemed as inappropriate for the company to incur further debt liability, under the convertible bonds, in its current circumstances. CENSUN also explained that it was unlikely for the conditions precedent in the subscription agreement to be completed by the long stop date (31 Jul 20), as the company had filed an application to be put under provisional liquidation.
Operations update
In last Friday’s announcement, CENSUN continued to explain that COVID-19 and the related prevention and control measures of the Chinese government had led to a material reduction in the group’s profitability and liquidity in the first half of 2020. The adverse operating environment resulted in slower orders and longer receivable collection cycles. Rising US-China tensions and high market uncertainties exacerbated these negative factors, derailing CENSUN’s attempts to raise funding.
Fertilizer business
CENSUN did not disclose any revenue or earnings numbers for the first half of 2020. Nonetheless, the group highlighted that its fertilizer business had experienced slower production and sales due to the holiday extension and logistics delay across China, since the outbreak of the pandemic early this year. Some of the group’s customers have also cut back on their orders or delay shipment of orders, leading to reduced operating cash flow for the segment.
According to CENSUN, the group is negotiating with its customers and may adjust its production scale and product mix in response to sales demand, looking to enhance production efficiency and profitability of the fertilizer segment. To preserve liquidity, CENSUN will temporarily suspend investments in the expansion of production capacity and other significant capital expenditures (“capex”), save for repairs and maintenance-related capex.
CENSUN funds its fertilizer business mainly with the group’s working capital and trade finance facilities in China. At this juncture, the group still has sufficient working capital to meet regular operational needs. However, CENSUN cautioned that the bond default and ongoing financial difficulties might affect its ability to satisfy financial obligations associated with the fertilizer segment.
Magnesium product business
CENSUN operates its magnesium product business through the group’s Hong Kong-listed subsidiary, Rare Earth Magnesium Technology Group Holdings Limited (“REMT”). Based on REMT’s own exchange filing on Friday, the subsidiary is still conducting production activities in the usual manner.
However, coronavirus restrictions had temporarily disrupted REMT’s production operations and impeded delivery logistics in the first quarter of 2020. In addition, the global pandemic and political tensions between the US and China reduced the demand of the firm’s downstream customers in the Europe and US, which in turn affected the business and cash flow of its Chinese customers.
In view of the substantial negative impact from COVID-19 and CENSUN’s insolvency situation, REMT had cancelled its final dividend for 2019 and suspended expansion capex. Based on management’s assessment, the firm has sufficient income from the sale of magnesium products to cover operating expenses and onshore financial obligations. On the other hand, REMT had close to HKD 200m of offshore borrowings due for repayment before mid-September 2020, for which it likely will not be able to come up with the money.
Debt restructuring
The missed repayment on the SGD bond due last Friday constitutes an event of default, and will likely lead to further acceleration of debt repayment from CENSUN’s creditors, as well as cross defaults at REMT. To facilitate a restructuring of the group’s debts with the benefit of a statutory moratorium—prohibiting the commencement or continuation of enforcement proceedings—both CENSUN and REMT had applied to be put under a court-supervised provisional liquidation, under the insolvency regime of Cayman Islands (where CENSUN is incorporated). Based on our understanding of the restructuring and insolvency law of Cayman Islands, a provisional liquidation does not affect the rights of secured creditors, who are still able to enforce their security without first obtaining permission from the court.
CENSUN intends to implement the provisional liquidation on a “light touch” basis, allowing its board of directors to retain current management, who will lead the restructuring process. The management will work with court-appointed joint provisional liquidators to implement a group-wide restructuring of CENSUN’s debts and liabilities.
CENSUN currently contemplates a restructuring that may involve the following elements:
- filing for the appointment of provisional liquidators to key subsidiaries incorporated in the British Virgin Islands, to stay claims of creditors against those subsidiaries;
- equity fund raising from third-party investors;
- debt restructuring that may involve refinancing and a compromise or arrangement of the group’s liabilities;
- potential investment in REMT from third-party investors and potential disposal of non-core business and non-operating fixed assets; and
- implementation of further cost control measures.
According to CENSUN, the company is in active discussions with a third party, who has expressed an interest in participating in items (2) to (5) above. The parties have not entered into an agreement yet, and CENSUN will need time to develop a restructuring proposal.
From our experience, while individual cases vary, court-supervised corporate debt restructurings often involve a long—often difficult—period of time. The process of negotiating with creditors and potential lenders, and drawing up a scheme of arrangement for claimants to vote on, could entail months, if not years, and multiple meetings. The timing is also not in CENSUN’s favor, as its insolvency happened in the midst of a global crisis, which presents additional challenges such as constrained liquidity and tighter capital markets. Consequently, we think it is still too early now to try to predict what would materialize out of CENSUN’s debt restructuring.
That said, CENSUN clearly intends to continue operating as a going concern and maintain its listing on the Hong Kong Stock Exchange. The management has also continued to express their confidence in the business prospect for the group’s organic fertilizer and magnesium product businesses, given the Chinese government’s policy actions supporting the development of green agriculture and the market development of 5G and lightweight automobiles.3 CENSUN currently has no plans to implement massive job cuts.
We therefore think the possibility of a wipeout, for holders of the CENSUN 7.000% 03Jul2020 Corp (SGD), is remote. Before Fitch Ratings withdrew its credit ratings on CENSUN in early June, the rating agency had assigned the fertilizer producer a recovery rating of ‘RR4’.4 With reference to Fitch’s rating definitions, the ‘RR4’ rating corresponds to securities historically recovering 31-50% of current principal and related interest, although actual recoveries for any given security may deviate materially from historical averages.
Even though it will take time for CENSUN to develop a restructuring proposal, we think it would be beneficial for noteholders to start the process of safeguarding recovery now. One thing that noteholders can do is to connect with each other and form an informal bondholder group, for the purposes of consolidation of views, identifying common objectives, and increasing collective negotiating power, such that noteholders can have a bigger influence on the restructuring outcome. On our end, we will be reaching out to various stakeholders with the intention to protect our clients’ interests, to the best of our ability. If you are a CENSUN noteholder and would like to connect with other bondholders, please contact us at feedback@bondsupermart.com.
Footnotes
1. Borrowings of members of the Century Sunshine Group that are incorporated outside China.
2. Borrowings of CENSUN entities that are incorporated in China.
3. REMT’s magnesium alloy products are used in many engineering applications where having light weight is a significant advantage, such as in 5G technology and lightweight automobiles.
4. Fitch cited “commercial reasons” for its decision to withdraw CENSUN’s ratings.
Declaration:
For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) has a principal position in CENSUN 7.000% 03Jul2020 Corp (SGD). The analyst who produced this report owns shares of Century Sunshine Group Holdings Limited.
