Jeremy Warner's Outlook: As Gounon files for protection, is it the end of the road in Eurotunnel's march to insolvency?

EMI/Warner Music: on the rocks again; Banks grapple with poor share ratings
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The Independent Online

This is the way the world ends. Not with a bang but with a whimper. That's the way Eurotunnel looks like ending too. I've long since given up trying to make sense of the ins and outs of the Channel Tunnel's seemingly interminable refinancing talks. On and off, they've been going on for almost as long as this newspaper has been in existence. The only thing you really need to know about the financing of the Channel Tunnel is that it cost far more to build and operate than it was ever likely to produce in revenues. As a consequence, it has been in trouble from the moment the diggers began to bore their way beneath La Manche.

That the late Sir Alastair Morton was able to persuade the private sector to finance it in the first place was as mysterious as it was heroic. That he was then able to persuade the City to throw good money after bad - twice - almost defies belief. As all those who came across Sir Alastair will know, he was a persuasive chap, yet it was always obvious that the traffic and revenue projections had been made up to fit the need. As many of us said at the time, the projections looked hopelessly optimistic, and so it proved. A less kind way of looking at it was that, from the start, the whole exercise was all just a giant con trick. The Japanese banks put up the debt because they thought the Channel Tunnel treaty amounted to a sovereign guarantee, and the investors put up the equity because they were persuaded to believe in some wholly unrealistic forecasts.

Since construction started 20 years ago, there have been so many rescues and refinancings that it is hard to keep count. The tunnel itself works precisely as it was supposed to, but the company has only staggered from one financial crisis to the next. I hesitate to say that we are approaching the denouement, because we have been here so many times before. Yet this time it really is a quarter to midnight, and the chances of things changing for the better in the moments Eurotunnel still has left look remote.

Having failed to win the approval of subordinated debt holders to the latest rescue plan, Eurotunnel has gone rushing off to the Paris courts to ask for "safeguard", the French equivalent of America's Chapter 11 protection from creditors. The chairman, Jacques Gounon, is confident he can do this, even though debt holders insist the company must be governed by a different set of insolvency procedures. Given the fact that virtually all the equity holders are these days French, he may be right. In such circumstances, it is hard to see a French court refusing him the protections he seeks. In a British insolvency, equity holders would be wiped out and that would be the end of the matter. That's the deal, the principle being that in return for the upside, equity holders get a disproportionate share of the downside. Yet they do things differently in France, where equity holders still seem to be able to demand they be ranked equally with other creditors.

Last-ditch attempts to win recalcitrant bondholders over by shaving a little off what is being offered to primary lenders and giving it to the subordinated debt holders has failed to do the trick. Indeed, it seems only to have succeeded in further alienating both classes of debt holder. Deutsche Bank and like-minded bond holders continue to take the view that equity holders, who under the refinancing as proposed would end up with 13 per cent of the company, are getting far too much.

Where's it all going to end? Undoubtedly with a whimper. Eurotunnel still has enough money to be able to stagger on to January, and possibly longer, at which stage senior debt holders will presumably exercise their rights of substitution. The rescue plan, as proposed, envisages cancellation of more than half Eurotunnel's £6.2bn of debts in return for 87 per cent of the company. But even if it is eventually agreed, will it be enough to make the tunnel solvent? The danger is that in five years I may still be writing about Eurotunnel's financial travails. I can hardly bear the thought.

EMI/Warner Music: on the rocks again

Some relationships, it seems, are simply not destined to succeed. There's some dispute about who should be on top, but nobody much doubts the sense of merging EMI with Warner Music. After more than six years of trying, there was every sign that the latest outbreak of dirty dancing might even result in a successful consummation. Now along comes the European Court of First Instance to tear them apart.

OK, so the European courts have not yet taken any view on EMI/Warner, but they have annulled the European Commission's decision to allow the rival Sony/BMG get-together through on the nod. It was this decision that encouraged EMI and Warner Music to believe they too might be allowed to tie the knot. The last time the music giants tried to merge, the deal was scuppered by the demands of competition regulators, who attempted to impose such harsh conditions that it was no longer worth proceeding. Their approach to Sony/BMG suggested a change of heart.

That presumption has gone up in a puff of smoke. By forcing the European Commission to re-examine the Sony/BMG deal, the court has cast grave doubts on any Warner Music/EMI merger too. Yesterday's ruling is a triumph for smaller record labels, but it hardly amounts to a victory for common sense.

The advent of music downloads, in combination with the rise of internet marketing sites such as MySpace, has dramatically reduced barriers to entry in this industry. Yet until the regulatory waters clear, there is little point in EMI and Warner Music proceeding any further with their takeover plans. Both companies have already spent far too long arguing the toss with regulators.

The last time they tried to merge, they became so bogged down in the regulatory quagmire they failed to notice that the internet was transforming the economics and distribution platforms of their industry. Both were heavily punished for their blindness, and indeed have yet fully to recover from it.

It is easy to see why beleaguered management should regard strategic merger as a get-out-of-jail-free card, but it hardly ever works out that way. While top executives are off schmoozing with the investment bankers, lawyers and regulators, someone invariable nips in and steals their lunch. That's already happened once to the music majors, and it will happen again if they are not careful.

Banks grapple with poor share ratings

Here's an interesting theory as to why UK banks are less highly valued than their overseas counterparts. It's nothing to do with Britain's supposed "debt timebomb", but rather it's down to the very success and size of the UK banking sector, which lays claim to four of the biggest banks in the world. The sector may be too big for the UK stock market properly to cope with.

There's little that is obviously wrong with Britain's top four banks - HSBC, Royal Bank of Scotland, Barclays and HBOS. All four in their various ways are outstanding examples of British success that compare extremely favourably to international rivals on balance-sheet strength, cost to income, growth, profitability and just about any other measure you care to take. Yet historic earnings multiples range from a miserable 7.7 up to a scarcely more flattering 13.5.

Even taking account of the fact that the UK market as a whole trades at a discount to overseas rivals, these are pathetically small multiples for such obviously successful companies. The only credible explanation is that there is simply insufficient liquidity in the UK market to support such a large banking sector.

All four banks have a very sizeable overseas presence on their share register these days, yet stock markets are still essentially local in their characteristics, and London will never be able to match the vast liquidity pool of New York. The very high weighting within the index afforded to the banking sector has the effect of making the butter even more thinly spread. There are no obvious solutions to this problem, other than redomiciling in the US. Then again, perhaps best just to live with the poor share rating.

j.warner@independent.co.uk

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