European Leveraged Finance: Borrowers have never had it so good

Europe’s leveraged loan market is in rude health as fears recede that the prospect of Brexit will have a negative impact, according to a new report.

The Q4 2016 study by debt advisory firm Marlborough Partners found European leveraged loan volumes increased 11 percent in the quarter compared with the prior year. After a difficult start to 2016, conditions for borrowers improved as liquidity increased significantly.

Indeed, Marlborough partner Romain Cattet claims: “We are going through the most ‘borrower friendly’ period in the history of leveraged finance with even more flexibility, lower yields and higher leverage multiples than those experienced in 2007.”

He adds that liquidity is at such a high level that some deals are repricing less than six months after completion.

In the UK, institutional spreads for senior loans witnessed a significant reduction over the year, tightening by 80 basis points compared with the previous year to average 380 basis points.

The report finds that 2016 was a strong 12 months for funds taking market share from the banks, mainly due to growing use of the unitranche product. With competition in the mid-market direct lending space increasing, funds have differentiated themselves from the banks by financing larger amounts, offering cheap pricing with flexible documentation and operating in niche areas, such as small companies and unusual geographies.

The buoyancy of the leveraged loan market, with its increasing use of covenant-lite and absence of pre-payment penalties, was bad news for the European high-yield market – an alternative source of financing – which showed a 17 percent decline compared with 2015.

Other key findings

Total leverage in 2016 remained flat at just under 5x. However, leverage achieved through first lien increased to 4.5x, the highest level since 2007.

The average number of covenants per transaction fell to 1.3, the lowest level ever recorded. In 2007, the average was 3.5. Covenant-lite has become standard for deals of more than €500 million.
Almost half (46 percent) of issued volume in 2016 was the result of opportunistic recaps and refinancings despite the fact that spreads only tightened in the second half of the year.

US borrowers have capitalised on the pricing differential between the US and Europe by issuing significant tranches of euro-denominated debt – known as a ‘reverse yankee’. Cross-border volumes in 2016 increased 25 percent compared with 2015 to €20 billion.

Debut issuers in Europe’s sponsor-backed high-yield bond market totalled just 19 in 2016, down from a high of 77 in 2013.