I had the opportunity to speak at a conference last week. I am in the privileged position of having spoken at many conferences in the past, but it is usually to an audience of lawyers or bankers. In this instance, I was asked to speak by one of our buyside clients to their investors about the current state of the leveraged loan market with specific reference to documentary terms.
In a clear sign of an increasingly sophisticated – and complex – loan market, it is clear that investors are demanding more information about the asset class. Where once covenants were once the subject of dry negotiations between legal teams, this is an issue which is now in the limelight for all market participants.
My brief was to give an overview on the current state of the market with reference to the following areas – EBITDA adjustments; sponsor dividend payments; releveraging and transferability.
At first glance, it would be easy to say that borrowers are winning the battle for looser covenant terms. Adjustments to EBITDA are frequently set at 25% or even uncapped; sponsor payouts are now usually linked to a 50% CNI basket plus a freebie basket rather than the more traditional hard or ratio-capped basket; and incremental debt baskets have ballooned by inflating the EBITDA “grower” in the “free and clear” basket for incremental debt - in some cases to 100% or more of EBITDA.
However, the picture is less one-sided on transfers with Lenders successfully carving out exceptions to the right of borrowers to consent to transfer under certain events of default.
These are issues which will be covered in more detail in our upcoming Q3 Loan Market Update so I won’t labour the individual points.
However, what did occur to me as I was preparing the presentation was the maturity of leveraged loans as an asset class.
Firstly, the level of detail now being examined by market participants – made possible by databases such as our Representative Loan Terms – is staggering. Documentary terms are now at the forefront of deal structuring. Through our data we can see at a glance the push and pull of market factors.
Take EBITDA adjustments where 50% of deals in Q4 2017 allowed uncapped EBITDA add-backs, this has been pulled back to less than 30% of deals in Q3. However, over the same period deals allowing 25% of EBITDA adjustments has moved from 17% to nearly 30%.
The fact that there is such an ebb and flow in the market shows how actively the terms are being negotiated.
Secondly, that this level of detail is being actively discussed by not just the lenders, but their investors, shows how deal critical this information is. The ability of lenders to understand, price in and evaluate these documentary terms on an ongoing basis is evidence of an asset class growing up.
I am happy to share the high level of the data here but do look out for our upcoming quarterly report which will give a more in-depth view of the market. You can catch up on the results from Q2 here. We hope that this and all of our research contributes to the ongoing debate about documentary terms in leveraged loans.
-- Stephen Mostyn-Williams, Chairman of Debt Explained
Stephen founded Debt Explained in 2009, following a 25 year career in leveraged finance. He has held senior positions at Cadwalader, Wickersham & Taft LLP; Shearman & Sterling LLP and Ashurst. Stephen co-founded the European High Yield Association and served as its chair for the first three years of its existence.