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Bond of the Week: 22 May 2017

Burford Capital 5% 2026

    

Burford, the world's largest provider of arbitration and litigation finance, has just returned to the retail bond market for its third issue. Unfortunately, being away, I was unable to write up the bond before the books closed but it could be worth looking at in the secondary market – depending on where it trades. You can see what I previously wrote here and here.

Here are the terms.

  • Issuer: Burford Capital PLC
  • Guarantor: Burford Capital Limited
  • Nominal Amount: £175 million
  • Rating: Unrated
  • Repayment: Bullet at Par
  • Coupon: 5.0% Semi-annual in arrears
  • Early Redemption: Gilts + 100 bps
  • Coupon Dates: 1 June, 1 December
  • 1st Settlement Date: 1 June 2017
  • Maturity Date: 1 December 2026
  • ISIN Number: XS1614096425
  • Denominations: GBP100
  • Listing: London Stock Exchange,
  • Governing Law: English law Settlement
  • Lead Manager: Peel Hunt LLP


There can be no doubt that Burford's performance has gone from strength to strength since they issued their first bond. In 2 ½ years market cap has gone from £240 million to £1.8bn.Part driven by their much larger market capitalisation and part by the paucity of yield in the Sterling market, greater institutional demand this time has enabled the company to place £175million of bonds as opposed to the previous £90 and £100 million.

What the company does and how it operates (bar an acquisition they have made) has not greatly changed. However, it is worth briefly running through their model.

Burford provides finance to corporations for large litigation cases where there is a good prospect of economic return for the costs laid out. They do not provide finance for individuals to sue where emotion rather than economic calculation may be the motivating force. Also the case has to be of a reasonable size for Burford to invest in - $5 million might be typical.

Each contract between Burford and the litigant is different (and confidential) but normally any monies received by way of a win or settlement would first be applied to cover Burford's costs, then applied to cover a pre-agreed return for the period concerned representing the time value of the money at risk and finally a pre-arranged split between Burford and the successful litigant on any sums received beyond costs. You might say they rank senior to the litigant for any monies awarded.

There are two changes that can be highlighted. A) They have acquired their largest competitor GKC which is a private investment management business. GKC manages investors’ money and Burford's own capital is not at risk. The income from GKC is fee income. B) Originally most of their investments were single litigation investments, now 88% are portfolio and complex litigation investment commitments. The fee income from GKC and diversity gained via investing in litigation portfolios should both be seen as broadly positive for credit investors.

Chris Bogart, CEO, in the investor presentation made several points to explain why the business of providing arbitration and litigation finance exists and why it is a profitable business. To put it simply litigating is profitable for the client and not just the lawyers (i.e. on average it makes a return on money invested) or else it would not occur. The litigants are large corporates who look dispassionately at the possible outcomes and would not embark on a legal case unless they can calculate they are likely to make a positive return. Statistics show that if you could (which you can't) invest in a random basket of cases you would make a positive return. Burford aims and succeeds, by cherry picking, to outperform the average.

Secondly it makes sense from an accounting perspective for corporations to engage outside finance even if they would have no problem funding the case themselves. Cases take some years to resolve and the costs of the case, if borne by the litigant, would suppress profit for an activity that is obviously not the business activity of the litigant. And should at the end of the case the corporate receive an award or damages then the money would be an extraordinary item and appear below the line and the headline profit figures would receive no boost.

The business is expanding fast. In 2014 they committed $153 million to litigation investments, in 2015 $206 million and in 2016 $378 million. Operating profit was $34 million in 2012 and has increased every year since then. In 2016 Burford made $124 million. Operating profit margins for the last three years have been around 75% and return on equity has increased from 10.5% in 2012 to 21.1% in 2016. Payouts can be lumpy – you can never be quite sure when they are coming – but as the size of the business increases, the profit naturally becomes smoother.

Here is a look at the main items from their 2016 income statement:

 

Litigation investment income: $140 million
Insurance income: $13 million (this is a business they bought to run off)
Other items: $10 million
Total income: $163 million


Operating expenses: ($39 million)
Finance costs: ($14 million) (bond interest)
Profit before taxation: $104 million

N.B. Figures above exclude exchange rate effects which add another $35 million of profit.

Conclusion: Burford is now a known quantity in the retail bond market so pricing is reasonably clear and this issue is unlikely to have a supercharged return. However, the coupon is attractive and the alternatives are few. For instance the last two retail bond issues had coupons of 4.25%.  Although Burford's business is unusual you cannot fault their performance. Despite this in the secondary market their bonds are the cheapest on the ORB if you exclude the issues with “troubles”, Enquest and Premier (low oil troubles), IPF (regulation troubles) and Eros films (just troubled). There is an argument that all three Burford bonds should be re-priced. I have bought the new issue and used it to sweep up cash that was forlornly looking for a home. As the issue size is a handsome (for the retail market) £175 million, I expect institutions, some of whom previously were a little sniffy about the retail bond market, have thought likewise.

ODRB

Oliver Butt is a Partner in City and Continental LLP, a leading independent broker in fixed income. The author and or the LLP may hold a position in or trade in any of the securities mentioned above.

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