S&P to introduce ratings to European buyout market

The move to rate issuers on LBO transactions with total debt facilities of more than €1bn should increase liquidity and help push the bank-driven European market closer to the US model where institutional lenders are more active.

Standard & Poor’s, the ratings agency, has said that from December it will give so-called public ratings for leveraged buyouts with debt of more than €1 billion. Investors and bankers hope it will improve confidence and liquidity in Europe’s leveraged loan market.

Paul Watters, director and head of loan ratings for European leveraged finance and recovery at S&P, said: “It is a big change in S&P’s internal mindset. But we think it is a helpful way to supplement the information in a private market, to support the market with our analytical insight. Lenders value independent research on a credit.”

He said the decision had not been without debate and the agency had consulted widely with 50 formal interviews with sponsors, institutional lenders, banks and regulators: “First of all private equity sponsors, particularly in Europe, have a very strong preference for keeping things private. They don’t like the public nature of ratings.”

This could have ended with sponsors threatening to withdraw information. Watters said: “Certain European sponsors suggested if there was a public rating, they’d be less willing to provide due diligence up front and they’d reduce the content of the monthly management accounts provided to investors in the debt.” However the nature of Europe’s bank-driven market and the threat of down cycle, meant this would not be acceptable and ultimately would constrain larger funds from accessing institutional lenders, he said.

Neil MacDougall, managing partner of Silverfleet Capital, said: “It is inevitable that S&P should do this. It is driven by a commercial need. If I have a criticism it will be in the implementation. They will have to be sensitive to the European market. We do some things differently to the US.”

S&P has said that for buyouts of less than €500 million it will continue to provide private credit estimates available only to lenders in the syndicate. Watters said: “For mid-market deals sponsors often prefer to manage the syndicate and keep it among friends and family. They are mainly take-and-hold investors who don’t need a secondary market. We believe a private rating solution is a sensible modification to our original proposals for this segment of the market.” 

Between LBOs with debt between €500 million and €1 billion, S&P is planning to provide private ratings. In total, Watters estimates “rating an additional 15 to 20 percent of deals in a more normal market”.

He said the level of the mid-market carve-out was because S&P “didn’t want to create a distortion in the event that investors crowded the mid-market, if sponsors decided to avoid ratings for larger deals”.

In time, if the scheme is successful, Watters said more public ratings would follow: “If the institutional market gets back on its feet, and the sponsors with larger funds are dependent on that, it will be a bit like the tide coming in. If the plan is effective, more deals will end up publicly rated, which ultimately we’d prefer.”