Business 101: A company's bond rating is almost never higher than its home country's sovereign rating.
Fomento Economico Mexicano's
, the Mexican beer and soft-drink company best known for brewing
, tapped the global bond markets last month, it was able to get an A rating -- better than Mexico's BA1. The secret: a not-so-new instrument that is getting new use -- political risk insurance.
PRI, not to be confused with the Mexican political party, gives the kind of guarantee that once-bitten, twice-shy investors and corporations are seeking. Gone are those heady days when companies entered emerging markets with more enthusiasm than caution. Now nervous foreign companies and investors, wary that the rules in overseas markets can change almost overnight, are requesting products that insure their entry back into emerging markets.
With companies accessing international bond markets to finance projects in emerging markets, more insurers -- predominantly multilateral organizations -- are cashing in on apprehensions by offering political risk products. PRI is gaining favor by mitigating a buyer's risk, which boosts an offering's rating and thereby lowers costs for borrowers. With the Femsa deal,
became the first private insurer to offer political risk insurance for emerging-market bond issues.
"Political risk insurance certainly helped with the A rating," says Bill Parry, head of the emerging-markets syndicate at
Warburg Dillon Read
, which led the deal. "It saved the company anywhere from 50 to 100 basis points." That translates into $5 million to $10 million.
PRI generally protects against the imposition of restrictions on local currency convertibility into foreign currency and on transferring foreign currency out of the country. Often the insurance also guards against the expropriation of assets and rights and, on occasion, political violence.
While the buyer can rest easier knowing at least part of his investment is protected, the issuer gains the advantage of higher-than-sovereign ratings due to the insurer's guarantee.
"We are particularly looking at BB-rated companies," said Daniel Riordan, vice president and managing director of the political risk group at Zurich U.S. "We can pierce the local currency ceiling to reach investment grade" with the political risk insurance.
Investors also benefit from the higher ratings. Funds restricted to investment-grade bonds can invest in emerging-markets companies they otherwise would have to forego.
"The attractiveness of PRI use depends on the kind of money you are managing," says Benjamin Hein, bond analyst at
John Hancock Mutual Funds
. "If you are an insurance company, you may not be able to buy below investment grade."
PRI is in no way a new idea. For years, the
Overseas Private Investment Corporation
has offered political risk insurance in 145 countries. But it does not offer its insurance products in China, Iran, Iraq, Libya and Saudi Arabia because of U.S. government policy. Nor does it operate in what would seem like the obvious Mexican market because the Mexican government has not signed a bilateral agreement with OPIC.
, through the
Multilateral Investment Guarantee Agency
, has provided PRI for over a decade, but it is a new guarantee that has helped entice investors back into Argentina and Thailand.
After a summer of roller-coaster market movements, Argentina came to market in October with a $1.5 billion bond offering of six $250 million tranches, with maturities running through the year 2004. The World Bank guarantee, which rolls over with the payment of each bond, lowered the cost of borrowing and brought in a greater cross-section of the investment community.
Argentina is the first sovereign issuer, but not the only issuer to benefit from the World Bank's guarantee. Last year, the
Electricity Generating Authority of Thailand
, or EGAT, priced $300 million in a global bond issue with a similar World Bank guarantee.
But public issuers are not as nimble as firms like Zurich. The World Bank, for instance, must investigate many more issues, including development policies. This year, the World Bank, citing a lack of progress on privatization, refused to offer a guarantee on a new EGAT issue, delaying the deal.
Because political risk insurance is a win-win situation for investors and issuers, Warburg's Parry and others expect to see the insurance become more commonplace. "Where there is interest in coming back into the bond market, there is interest for products that mitigate risk," says Parry.