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PepsiCo Deal Sparks Best Bond Rally in 5 Months: Russia Credit

Pepsi Russia
PepsiCo Inc.'s acquisition of OAO Wimm-Bill-Dann is spurring the biggest bond market rally for the Russian dairy and juice producer. Photographer: Alexander Zemlianichenko Jr./Bloomberg

PepsiCo Inc.’s acquisition of OAO Wimm-Bill-Dann is spurring the biggest bond market rally for the Russian dairy and juice producer in at least five months as investors speculate the deal will lead to higher credit ratings.

Yields on the Moscow-based company’s 2013 ruble notes had their biggest two-day decline since the bonds were sold in July, falling 54 basis points, or 0.54 percentage point, to 7.6 percent after the deal was announced on Dec. 2. The record-low yields may fall a further 50 basis points, according to Renaissance Capital and Alfa Bank.

The purchase by PepsiCo, which has better credit ratings than the Russian government, will cut the extra yield on Wimm-Bill-Dann bonds over sovereign debt known as OFZs to almost zero from 131 basis points, according to Maxim Tishin at UFG Asset Management. The acquisition will make Russia the largest market outside the U.S. for the world’s biggest maker of snack foods.

“We expect Wimm-Bill-Dann ruble bonds to rally in the next few days,” said Dmitry Turmyshev, a fixed-income analyst at Moscow-based Trust Investment Bank. “The possible acquisition by PepsiCo definitely could be a very positive event for WBD’s credit profile.”

Wimm-Bill-Dann shares surged 58 percent after Pepsi said it will buy a 66 percent stake for $3.8 billion and make an offer for the rest of the shares.

The deal boosts expectations of further foreign purchases in the food-retail industry, spurring gains for supermarket chains X5 Retail Group NV and O’Key Group SA, according to Nomura Holdings Inc.

Safer Than Government?

PepsiCo is rated Aa3 by Moody’s Investors Service, four levels above Russia’s government, and A by Standard & Poor’s, three above the world’s biggest energy exporting nation. The yield on the Purchase, New York-based company’s dollar bonds due in 2020 at 3.66 percent on Dec. 3 was 110 basis points below similar-maturity sovereign dollar bonds from Russia.

Wimm-Bill-Dann is ranked nine steps lower than PepsiCo at Ba3 by Moody’s and seven steps short by S&P at BB-. S&P said Dec. 3 it raised its outlook to “positive” from “stable” after the deal. Moody’s said on Dec. 6 it placed the company on review for a possible upgrade.

“There is a possibility of a rating increase because PepsiCo will view Wimm-Bill-Dann as its strategic asset and will improve its credit quality,” Anton Geyze, an analyst at S&P in Moscow, said in a phone interview on Dec. 3.

The deal would be “positive” for Wimm-Bill-Dann, said Larissa Loznova, a senior analyst at Moody’s in Moscow. “It will provide access to marketing and other support from a larger, more financially resourceful global company with a lot of industry experience, although the dairy market is new for PepciCo.”

‘Fair Yield’

A rating upgrade may compress Wimm-Bill-Dann’s 2013 bond yields by 50 basis points, Elena Kolchina, who helps manage $1.5 billion of assets as head of fixed-income products at Renaissance Asset Managers in Moscow, said on Dec. 3 by e-mail. The company’s yield spread over government bonds would tighten by about 100 basis points to 40 or 50 over OFZs during the first stage of the deal, Turmyshev at Trust said.

Some “10-30 basis points over OFZs would be fair if and when the deal closes,” according to Tishin, who helps manage $350 million of debt at UFG Asset Management in Moscow.

“Wimm-Bill-Dann’s fair yield is continuing to be revalued,” Ekaterina Leonova and Tatyana Tsilyurik, analysts at Moscow-based Alfa Bank, said in an e-mailed note on Dec. 3. “If the company is unified, its debt is expected to become first tier, implying a yield reduction of 30-50 basis points.”

Brazil, Mexico

Russia’s dollar bonds due in 2020 rose today, pushing the yield down 7 basis points to 4.745 percent. The price of the country’s ruble notes due August 2016 also rose, driving the yield 1 basis points lower to 7.31 percent.

The extra yield investors demand to hold Russian debt rather than U.S. Treasuries rose 5 basis point to 215, according to JPMorgan EMBI+ indexes. The difference compares with 136 for the debt of similarly rated Mexico and 175 for Brazil, which is rated two steps lower at Baa3 by Moody’s.

The yield spread on Russian bonds is 31 basis points below the average for emerging markets, down from a 15-month high of 105 in February, according to JPMorgan indexes.

The cost of protecting Russian debt against non-payment for five years using credit-default swaps was little changed at 149, down from this year’s peak of 217, according to CMA. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Default Swaps

Credit-default swaps for Russia, rated Baa1 by Moody’s, its third-lowest investment-grade rating, cost 17 basis points more than contracts for Turkey, which is rated four levels lower at Ba2. Russia swaps cost as much as 40 basis points less on April 20.

The ruble was little changed at 31.2950 per dollar at the close of official trading in Moscow. Non-deliverable forwards, or NDFs, which provide a guide to expectations of currency movements and interest rate differentials and allow companies to hedge against currency movements, show the ruble at 31.5138 per dollar in three months.

The Wimm-Bill-Dann acquisition is subject to the Russian Anti-Monopoly Service’s approval, meaning the earliest the deal can be closed is March, Mikhail Terentiev, an analyst at Nomura Holdings Inc. in London, said in an e-mailed note on Dec. 2.

“But we would not be surprised if the transaction takes much longer,” he said.

Until then the bonds have “limited upside,” according to Alexander Dotkin, a trader at Bank Zenit, who holds Wimm-Bill-Dann’s ruble bonds.

Antitrust Approval

“The main thing is whether the deal will be approved and how quickly,” Dotkin said in an e-mailed response to questions on Dec. 3. “The current spread over OFZs now is around 140-150 basis points and when the deal is approved by the Federal Antimonopoly Service we may witness another 30 to 40 basis points compression, but for now it is just an announcement.”

PepsiCo is “confident” the company will get antitrust approval for the deal, Chief Executive Officer for Europe Zein Abdalla told reporters in Moscow on Dec. 2. It’s “too early” to comment on “tactical questions” like buying back the Russian company’s bonds or delisting its shares, PepsiCo’s Abdalla said.

“Should the deal go through, Wimm-Bill-Dann credit risk would indeed be re-rated,” Mikhail Galkin, an analyst at Moscow-based VTB Capital, said in a report e-mailed on Dec. 3. “The company will most likely be propelled to investment grade, given the rating combination of PepsiCo.”

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