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Management of Commercial Banking

A CASE REPORT ON CHASES STRATEGY FOR SYNDICATING THE HONG KONG DISNEYLAND LOAN (A)

Submitted By: GROUP 10 175 Samridhi Sharma 177 Ujjwal Kumar 371 Aditya Shekhar 375 Harshit Yadav 381 Anshu Upadhyay

Problem Statement
How these six different syndication strategies do affects the risks and returns Chase might face as the lead manager?

About the Company


Introduction: Hong Kong Disneyland
In December 1999, Disney and the HK Govt. signed a comprehensive agreement for a new theme park and resort complex to be located on the north-eastern end of Lantau Island. According to the agreement, the project would have 3 phases: One local economist estimated that land reclamation and construction would generate 16,000 new jobs, while the resort would generate 18,000 jobs at opening and up to 36,000 jobs within ten years. The HK Govt. and Disney agreed to provide equity shares of HK $3.25 billion (57% share) and HK $2.45 billion (43% share), respectively. In addition, the HK Govt. agreed to provide HK $6.1 billion of subordinated debt with a 25-year maturity and repayments starting 11 years after opening day. This left a shortfall of HK $2.3 billion (16% of total capital), which the HK Govt. hoped to fill with some kind of external finance. Inclusion of private sector financing would not only show that the project was viable in the eyes of the international banking community, but would also provide independent oversight of construction as well as monitoring of ongoing operations. Eventually, HKTP decided to raise HK $2.3 billion through a 15-year, non-recourse term loan for construction and HK $1.0 billion in a 15-year, nonrecourse revolving credit facility for post-construction working capital needs.

Introduction: Chase
It was highly predictable that Disney would contact Chase Manhattan Bank. One of Disneys top 10 relationship banks. Chase was the third largest bank in the U.S. (> $400 bn assets and $175 bn loans in 1999).A leader in the field of syndicated finance. In 1999, lead arranger for 34% of total syndicated loans by dollar volume in the US (nearest competitor: 21%).Dominant in US market for loans greater than $1bn; led 47.5% of deals, 3 times more than the nearest competitor.

First Syndication Strategy :


Chase would be the sole mandate lead arranger. It would invite four banks to act as sub underwriters with lead arranger titles in exchange for commitments of HK $660 million. By Sub- underwriting the deal, Chase could reduce its exposure from HK$3.3 billion to HK$660 million. The final allocations in syndication would be: Chase and four lead arrangers at HK$300 million each, four arrangers at HK$250 million each, four co-arrangers at HK$150 million each and four lead managers at HK$100 million each for the required total of $3.3 billion.

The advantages of this deal are:


1. Administrative Simplicity: Disney had to deal with only one lead bank. 2. Reduced underwriting risk for Chase 3. Easier syndication provided sub- underwriter support. 4. There had a lower exposure in the project and higher fees in this syndication strategy therefore they are less exposed to risk.

The risk they faced:


1. Reduced fee income comparable to second strategy leading to HK$23.26 million. 2. Political Risk: Inclusion of Local banks 3. Reputational Risk

Second Syndication Strategy


Chase and 2 other banks would share a Joint mandate and a joint underwriting commitment, but they would skip the sub-underwriting phase The mandated banks (coordinating arrangers) would each underwrite HK$1.1 billion of the total amount and split the underwriting fee 3 ways The final allocations in the general syndication would be: Chase and the 2 other mandated banks at HK$300 million each 4 arrangers at HK$250 million each 6 co-arrangers at HK$150 million each 5 lead managers at HK$100 million

This strategy required only 2 additional underwriting commitments instead of 4 prior to the general syndication, but it meant sharing league table status as well as giving up two-thirds of the underwriting fee RISK AND RETURN TRADE OFF: 1. Commitment to underwrite the full amount (General Syndication) Exposed the bank to greater risk; sought senior mgmt. approval This proposal would: o o o o show Chases support for the client, signal its confidence in the deal, and Provides greater profit for the firm. It might also set Chase apart from other banks that were unwilling to underwrite the deal and o increase the probability of winning a sole mandate deal o Greater syndication risk and credit risk if deal is undersubscribed. 2. Having underwriting: o Chase shares the risk o Chase shares fees also with other banks o Involving more banks and especially prominent banks as lead arrangers or underwriters facilitate syndication o Low fees and low risk

Third Syndication Strategy


The third strategy for Chase, as the sole mandate, is to skip the step of sub-underwriting and directly start general syndication. It was not shown to the Disney. It was the combination of the first two strategy.

The final allocations would be: Chase at HK$300 mn 4 arrangers at HK$250 mn each 8 co-arrangers at HK$150 mn each 8 lead managers at HK$100 mn

Relative to the other 2 strategies this strategy would: improve Chases compensation and league table status , but would expose it to the greatest amount of credit and syndication risk, and Would result in the largest syndicated as measured by the no. of participating banks.

Risk and Return Analysis


Compared to the other two strategies, the general syndication strategy increases return while adds risks to Chase. Generally, without sub-writing, Chase retains more profitability from the deal; however, Chase also bears all the underwriting risk. This strategy involves 4 tiers, 21 banks, and the largest syndication structure compared to the other two strategies. This Strategy keeps the syndication size for Chase at HK$300 million, 9.1% of the total amount. Besides, inviting a larger number of banks could improve the competitiveness of the deal, resulting to better execution and pricing. However, more banks involved may lead to higher administration costs and coordination issues. In addition, Chase would hold less controlling power with more banks included in the deal. This sole mandated without subunderwriting strategy on one hand would improve the compensation for Chase. The total fees for Chase under the third strategy would reach HK$23.36 million, 69% and 166% higher than strategy 1 and strategy 2, respectively. However, the strategy may also significantly expose Chase to underwriting risk, as Chase is the only underwriter of the deal and would underwrite the whole amount, HK$3.3 billion. If the market would not buy the deal from Chase, Chase would face significant loss.

Although this strategy generates the most compensation, the total fees earned only
accounts 0.71% of the total exposure.

Fourth Syndication Strategy:


In the fourth strategy, Chase would be the sole mandated lead arranger. There would be no sub-underwriters, no co-arrangers and no lead managers in this strategy. Instead, there would be just 12 arrangers at the cost of HK$250 mn each. The risks and returns involved in this strategy are Disney will deal with only one lead bank so it will create an administrative simplicity. The number of banks involved in this strategy is less so there is less complexity in the process. As a result, the fee charged by the Chase bank is very high which is $2596. Since there is no sharing of the fees with the underwriters and a very little sharing of the fees is there with the arrangers, high amount of risk is involved and thus the fees is also high.

Fifth Syndication Strategy


In this strategy the lead arranger agrees to underwrite less than 100 % of the loan (typically the amount it is prepared to hold on its own balance sheet after general syndication) and attempts to place the remainder in the bank market. The final allocation would be Chase at 300 Mn. HK$ 30 lead managers at 100 Mn. HK$ each.

Risk and Trade offs


The borrower pays the lead arranger an arrangement fee for its services and pays other lenders closing fees for their commitments. Thus, the borrower takes the risk that the market does not accept the deal and that it might have to pay higher fees or spreads to entice greater participation.

Best effort vs. Underwritten deal


In an underwritten deal, the borrower pays a single up-front fee to the lead arranger/underwriter, which retains some as compensation for its services and uses the rest as closing fees for banks participating in the syndication. As the underwritten deals can get funded faster, the underwriting fee is generally higher than the up-front fees in a best efforts deal because the underwriter faces greater credit and syndication risks.

Sixth Syndication Strategy:


In this case, Chase and 2 other banks would share a joint mandate and a joint underwriting commitment and would also include the sub-underwriting phase. By sub-underwriting the deal, Chase would reduce its exposure from HK$1.1 billion to HK$550 million. The final allocation in this strategy will beChase, 2 other mandated banks or Co-arrangers and 3 sub-underwriters or the lead arrangers at HK$300 million each. 4 arrangers at HK$250 million each. 2 co-arrangers at HK$150 million each. 2 lead managers at HK$100 million each. Because interest rate spread and underwriting fee are set in the commitment letter, the key decision is not how much to charge the borrower, but rather how much to share with participating banks. During general syndication, the goal is to determine the lowest possible fees that will generate the required level of commitment. In a best efforts mandate, in contrast, the lead arranger has little motivation (other than good will) to hold fees down because the borrower is paying the banks.

Risks and Returns:


Since there are so many banks involved in the process apart from the Chase, so there is risk allocation among the various banks. At the same time, as there is involvement of so many banks so it creates a little complexity. Easier syndication as the sub-underwriter support is provided. Reduced fee charged by the Chase bank which is $884 million. This is the lowest as compared to all the other strategies. Since there is lower exposure in the project and the lower fees involved in the syndication strategy, it is less exposed to risk. Involving the prominent
banks as the lead arrangers or underwriters will facilitate syndication.

Impact of different Syndication Strategies:


Hold Amounts (HK$ mn) Chase Mandate Sub-Underwriting Number of banks Chase $300 1 0 1 2 1 0 1 0 1 0 1 2 #1 (Ex 8a) #2 (Ex 8b) #3 (Ex 8c) #4 #5 #6

Sole Yes

Joint No

Sole No

Sole No

Sole No

Joint Yes

Coordinating $300 Arrangers (other Mandated Banks) Lead Arrangers (Sub- $300 underwriters) Arrangers Co-Arrangers Lead Manager Total Total # Banks Chase Fees in US$000 $250 $150 $100

4 4 2

4 6 5

4 8 8

12 0 0

0 0 30

4 2 2

15 $1,776

18 $1,126

21 $2,995

13 $2,59 6 $3,30 0 $3,30 0

31 $3,36 5 $3,30 0 $3,30 0

14 $884

Chase Max. Exposure (HK$mn) Chase Exposure in the General Syndication HK$ in mn US$ in mn Chase Fees/ Chase Gen. Synd. Exposure Banks Needed control 60% to

$3,300

$1,100

$3,300

$1,1 00 $550

$660

$1,100

$3,300

$85 0.021

$141 0.008

$423 0.007

$423 0.006

$423 0.008

$71 0.01 3 7

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