Analysis: European dealmakers face shrinking debt
options as recession risk loomsAnalysis: European dealmakers face shrinking
debt options as recession risk looms
By Pamela
Barbaglia and Yoruk Bahceli
LONDON
(Reuters) – European dealmakers are struggling to finance corporate takeovers
as concern that the region’s economies may dip into recession is prompting debt
investors to demand bigger rewards for the risks they’re taking to get deals
over the line.
Global
economic uncertainty and market volatility triggered by the Russia-Ukraine war,
coupled with monetary tightening from the Federal Reserve and the Bank of
England and expectations the European Central Bank will follow suit, have made
deal financing costlier and harder to access, bankers and analysts say.
More than
$390 billion worth of M&A deals have been announced in Europe since January
compared to $365 billion in the same period last year – almost doubling 2019
volumes of $199 billion in the same pre-pandemic window, according to Refinitiv
data.
While banks
have agreed to provide the necessary financing, some are having to sweeten
terms to find lenders willing to take on chunks of their debt.
“There are
many variables in the market and investors will be careful until these settle
and the bid/ask gap tightens, especially in Europe,” said Anthony Diamandakis,
global co-head of Citi’s asset managers franchise worldwide.
“We are not seeing many new debt commitments
at the moment because the M&A deal volume feels light.”
Global
corporate debt yields have soared nearly 200 basis points on average this year.
Those on euro-denominated high-yield bonds have doubled to 5.5%, ICE BofA
indexes show.
Dealmakers
say the financing struggle has not marked a death sentence for new deals, and
while M&A volumes are currently subdued they could still recover later this
year.
But in the
meantime some debt sales have run into trouble.
In Britain,
supermarket chain Morissons’ 7-billion-pound ($8.6 billion) takeover by U.S.
buyout fund CD&R is the most notable deal to have hit a snag as the
syndication of its debt pile has been delayed by about six months.
Lead banks
who fully shouldered the Morrisons financing are now left with more than 3
billion pounds of debt yet to be syndicated, one source familiar with the
discussions said.
The banks –
Goldman Sachs, BNP Paribas, Bank of America and Mizuho – had to place a chunk
of its debt worth about 1 billion pounds at a discount of around 10% to be able
to sell it to private lenders, the source said.
Goldman
Sachs and CD&R declined to comment while Morrisons and the other banks were
not immediately available.
M&A
financing packages are usually underwritten months in advance. Investment banks
guarantee a certain interest rate to prospective buyers but also include
so-called “flex” provisions in the deal terms allowing them to adjust the final
pricing by a certain amount if markets move significantly.
If those
are not enough to cover the increase in market rates, the debt gets syndicated
at deep discounts with banks making up the difference, which may lead to a loss
if it exceeds their fees.
UNDER
SCRUTINY
Leveraged
buyouts came under increasing scrutiny after the financial crisis as they are
typically funded by loading a significant amount of debt onto the target
company against its assets.
Because of
their high debt/equity ratio, they often involve the issuance of non-investment
grade high yield bonds, often dubbed junk bonds as they carry a higher risk of
default.
But money
is fleeing the asset class this year; European high yield retail funds have
suffered $20 billion of outflows, or 6% of assets under management, according
to BofA citing EPFR data.
“A lot of
fixed rate high yield investors have cash today, but are worried about
outflows. As long as that worry is out there it’s going to be difficult to
price sizable new deals,” said Daniel Rudnicki Schlumberger, head of EMEA
leveraged finance at JPMorgan.
Global high
yield bond issuance is down 77% since the start of the year, Refinitiv data
shows, with European volumes down nearly 75% compared to last year.
After a
10-week shutdown of the European high yield market, the longest since 2009, a
pool of banks led by HSBC and Barclays launched an 815 million pound bond sale
in April to fund Apollo’s takeover of British homebuilder Miller Homes.
A sterling
tranche was priced at a deep discount of 93.45 cents to lure investors, with
the banks also offering a higher yield than indicated at the start of
marketing, a lead manager said.
HSBC
declined to comment while Barclays and Apollo were not immediately available.
Similarly,
French private equity firm Ardian opted for a junk bond to fund its
1.1-billion-euro ($1.2 billion) purchase of Italian drug firm Biofarma Group on
May 6.
BNP Paribas
and Nomura arranged a 345 million euro floating-rate bond to finance the Biofarma
buyout and ended up granting a large discount as well as tightening investor
protections in the bond documentation to get the deal over the line, a document
seen by Reuters shows.
Nomura
declined to comment while BNP Paribas and Ardian were not immediately available
for comment.
Buyout fund
CVC Capital Partners’ foray into a major European football league also
struggled as the private equity firm funded a 1.99-billion-euro investment in
Spain’s La Liga through a 850-million-euro bond sale.
Goldman Sachs,
which led the bond sale, had to offer heavy discounts on both tranches,
according to a deal document seen by Reuters. CVC and Goldman Sachs declined to
comment.
While most
M&A financing is slated for the leveraged loan market, which has fared
better than junk bonds as floating rates offer investors protection from rising
rates, loan sales have also slowed. Dealmakers say banks have become more
selective in funding transactions.
“You want
to have a clear understanding of any pass-through issues like energy exposure
or a potential drop in consumer demand,” said Simon Francis, head of debt
financing in EMEA at Citi.
“It’s about
making sure you have a grasp on how performance will be impacted by what’s
going on in the wider world.”
‘MIX AND
MATCH’
Private
lenders such as Ares, Blackstone and KKR are trying to fill the gap by charging
higher interest rates to provide cash to prospective buyers and rescue their
deals, bankers and investors say.
The trend
has been gaining traction since Russia invaded Ukraine on Feb. 24.
“Any staple
financing that was agreed by banks before the war in Ukraine will probably need
to be re-evaluated,” Francis said.
This year
U.S. private equity firm Thoma Bravo has repeatedly bypassed traditional banks
and turned to a group of private lenders including Owl Rock Capital,
Blackstone, Apollo Global and Golub Capital to finance the $10.7 billion
purchase of enterprise software firm Anaplan in March.
The U.S.
tech-focused investment firm went on using Golub, Blackstone and Owl Rock in
April to finance the $6.9 billion takeover of New York-listed cyber security
company SailPoint Technologies.
In Europe,
private lenders have mainly operated as part of so-called hybrid deals, where
financing is sourced from both private and public markets.
Chris
Munro, head of global leveraged finance at BofA, said a number of upcoming
financings could be backed by hybrid structures.
“Banks are
still open for business and underwriting deals, it’s just terms have changed
and structures are a bit more conservative,” he said.
Yet, with
banks turning leery, private credit funds are set to extend their gains.
“We’re
moving to a phase of mix and match. Private equity funds are going to get quite
creative around some of their financing,” Citi’s Francis said.
(Reporting
by Pamela Barbaglia and Yoruk Bahceli, additional reporting by Andres Gonzalez;
Editing by Emelia Sithole-Matarise)
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