Debt wish?

General partners, lenders and advisers debate the 2011 debt bubble – cut down by yet another wave of macroeconomic crisis – and question when financial excess will reappear once more.

by . .

At the table

Jonathan Trower joined DC Advisory Partners (formerly Close Brothers Corporate Finance) in 1998 to set up the firm’s European restructuring and debt advisory group. He was previously a director of Hill Samuel and subsequently of Hambros.

Simon Turner co-founded lower mid-market buyout house Inflexion in 1999, when
he spun out Daiwa Europe’s private equity group alongside John Hartz. Turner sits on the board of Jack Wills and also led the firm’s investments in Aspen, Red Commerce, ACIS and Pims Group.

Mike Ellwood is managing director, corporate banking, within Santander Corporate, Commercial & Business Banking. He joined Santander UK in 2009 and has 25 years of banking experience. Ellwood was previously with RBS, where he was managing director for the corporate and structured finance regions.

James Brocklebank joined Advent International in 1997, moving from the London office of investment bank Baring Brothers. He is responsible for Advent’s business and financial services sector team in Europe.

Nick Fenn is a founding partner of Beechbrook Capital and sits on the firm’s investment committee. During his banking career, which began in 1993, he spent eight years at Mizuho Corporate Bank, where he was head of loan syndication and mezzanine. He left Mizuho in 2007 and co-founded Beechbrook, which provides mezzanine loans and equity co-investments to mid-market businesses in northern Europe, in 2008.

Paul Scott is chief investment officer and head of sponsor coverage for GE Capital in Europe. He has 20 years of banking and leveraged finance experience. Scott joined GE Capital in 2008, before which he led Merrill Lynch’s EMEA operations.

Soren Christensen joined Cinven in 2006 and is a member of the financing team. He has worked on a number of transactions including SLV, EnServe Group, JOST, Coor, Spire Healthcare, Gondola and Phadia. Prior to this, Christensen worked at Citigroup.

Debt markets picked up aggressively in the first half of this year. Quantums were right up and some of the structures being employed were eye-watering. What was driving that massive resurgence?

Christensen: We did see a rapid recovery starting in December of last year. That recovery was probably faster and more pronounced than frankly even we would have predicted. You saw it in multiples, you saw it in the underwriting markets, you saw it in the availability of bridging towards the high-yield product and you saw it in documentation terms. It was pronounced across all banks. It wasn’t just institutionally driven and it wasn’t only in certain geographies. 

There was a real concern about the pace at which the market was coming back among some parties and I think that was probably fair. But as we saw it, the importance of that recovery was not necessarily the multiples, or the terms – it was the confidence. Going into processes is enormously expensive. To kick off a process in the first place people need to believe that this deal will actually close. Having a financing market that operates with confidence is more important than anything. And before things turned again that was what we had – confidence driven by banks having improved their balance sheets, driven by a secondary market traded up to par, CLOs which had filled their boots in the secondary market and then turned their attention to primary. And then the high-yield market was firing on all cylinders as well, with a bridge product there to facilitate that.

Brocklebank: To me that was the most striking thing about this whole period – the incredible strength of the high-yield market. 

And who was that high-yield market available for? Exactly how far down the deal spectrum was it employed?

Scott: We certainly saw an impact on our portfolio in terms of refinancing. It was coming down to around €75m of Ebitda and above. That was a huge driver. We were structuring deals in November/December time when there was a lot of high-yield activity kicking in, which freed up large amounts of institutional cash. That was a huge driver of structural and pricing change. I can only see that continuing to happen in the medium term. Essentially, you are going to have short-term liquidity available and then it will go again and the trick will be trying to predict when to underwrite and when not to.

What about the smaller deal market? How did that end of the spectrum evolve during the early part of the year?

Turner: I am just marvelling here at the array of financial weaponry these guys have available to them. Extraordinary. 

So has availability in the smaller deal market been relatively consistent at around two or three times Ebitda?

Turner: The smaller deal market has been fairly consistent. All the way through the credit crunch we were able to get leverage, although the multiples softened a little bit. We capped out in our market at the upper threes, moving towards four, then probably for a bit of time we were running at around 2.5x and it was a bit more expensive, but not dramatically so, and certainly not deal-threateningly so.

Jonathan, as an adviser, what did you see going on?

Trower: One of the most telling comments I heard was from someone at a large bank, one of the big clearers, who said to me: “We know what we have to do this year. We are concentrating on the credit. We can’t concern ourselves with documentation or terms and conditions any more.” That was not many months ago. And it wasn’t an absurd comment considering the market conditions. As Soren said, the world was changing so quickly. It certainly felt as if there was a bit of a bubble.

Ellwood: But that’s the problem isn’t it? Because really what the market needs is sustainability. The less things change, the more sustainable they are and the more certainty you get of delivery. 

Turner: Bank behaviour has really been quite interesting. From the conversations we have had, a lot of these guys saw this situation coming. Not quite the breakdown in the wholesale market one sees today, perhaps, but they saw the dislocation when it comes to refinancing. It was utterly acknowledged.

Christensen: To me that is a different point though. Because I think there absolutely is a wall of refinancing and questions to be asked about where the liquidity is going to come from when you have largely recycled capital in the institutional market at least, and banks that will have to decide whether their money goes into high-grade or stays in LBO land as it comes back. I agree there is clearly a potential issue to be addressed. But I don’t actually think that’s what we are facing at the moment. 

If the markets had stayed buoyant and you had the high-yield product to turn to, I actually think that wall could be quite manageable. If you look at the “amend and extends” which have become much more prevalent in Europe, these allow you to deal with these things in a timely manner so that we are not all coming to market at once. We have done a handful of these – for the credits which are performing that will absolutely work and for the credits that aren’t, of course, you are going to have to have a different conversation. But I do think that wall, if taken seriously, is absolutely manageable so long as you have high-yield or another structured product in place.