The present….

Naturally, in the current environment, lender focus has been on refinancings, additional liquidity and covenant amendments, to trade through the near to medium term. Activity in the primary loan market has improved over recent weeks, with a small number of opportunistic deals coming to market.

The market however, remains challenging and the outlook uncertain. Market reference points are limited and insufficient to draw conclusions on the new market normal. Comparisons are being made to the 2008/2009 financial crisis, to gather insights into how the loan market - and lenders in particular - will react over the coming months, as the knock-on impacts of Covid-19 continue to unfold:

  • As experienced during the previous financial crisis, lenders are becoming increasingly domestic-focused, seeking to retreat to support their core home markets
  • Lenders are better capitalised this time around, which should prevent liquidity in the market from drying up. With debt funds also sitting on significant dry powder and government support schemes in place, availability of liquidity is expected to be less of a concern this time
  • The sector agnostic and widespread nature of the impact of coronavirus has meant discussions amongst shareholders, companies and lenders have generally been constructive, so far

Private Equity focus: Related Fund Transactions

This backdrop has also driven new trends for PEs – one of which is an increase in related fund transactions. Dry powder in Europe is at record highs -  EUR 189.9billion as at 1 May 2020 – and with M&A activity stalling in the short-term, sponsors are under pressure to keep up with investment curves. Related fund transactions are becoming an increasingly attractive mechanism for sponsors to deploy capital into their ‘star assets’ across portfolios, to realise value for limited partnerships. With European PE firms continuing to fund raise with limited investment options, this trend could see a continued peak into the latter half of 2020.

The future…

This cooperative approach in the loan market is likely to be tested in the coming months, as borrowers shift focus to the re-opening of their businesses, which for many will entail further liquidity injections to fund working capital. Lenders will be keen to not face this ‘burden’ themselves and will expect all stakeholders to put up their fair share. While there is greater liquidity available compared to 2008/2009, lenders will be considered when deploying, with each situation judged on its merits.

Financial forecasts will become a central focus point to support these discussions on future financing needs. Despite the challenges of preparing forecasts amidst an uncertain outlook, borrowers will need to present a credible plan for the re-opening of their businesses. Taking into account social distancing measures, there will be an increase in debt servicing, particularly if borrowers have fully drawn their liquidity lines or accessed government schemes and unwinding of deferred payments (e.g. interest, amortisation, supplier, rent, capex etc.), whilst ultimately proving their business remains viable in a post-coronavirus world. This task will undoubtedly be challenging and as such, preparation will be key.

UK Highlights

  • In the UK, lenders and sponsors have moved past the initial rush to review and triage their portfolios and address immediate liquidity needs. The next round of covenant tests are weeks away and lenders now have more capacity to engage on resets or waivers
  • Sponsors are acutely aware of the need to invest and as such, new business activity is starting to pick up. With an eye on investment horizons and investor returns, many sponsors are actively searching for bolt-on acquisitions as a means of recovering ‘lost’ momentum during lockdown
  • Although lenders are open for new business, they are reserving firepower for existing customers and showing a preference to support companies domiciled in their own countries
  • The bar for credit approvals is high, with lenders favouring businesses that are resilient and have strong prospects post-pandemic. Making diligence and current trading is all the more important for lenders
  • Therefore, given the high bar for credit approvals, UK businesses should be as well prepared as possible before approaching lenders:
    • Discussions with lenders will be framed by financials and an assessment of both the current impact of the shutdown and the plan for re-opening/ ramping-up business
    • Forecasts should take into account the social distancing restrictions that will be placed on the business, working capital needs, catch-up payments e.g. interest, amortisation, supplier, rent, capex etc. and importantly demonstrate the long-term viability of the business
    • Businesses should consider amending the technical clauses (e.g. cessation of business) within their financing documentation in parallel with other requests, as some of these may have been triggered during the coronavirus related shutdown

France Highlights

  • May 11 saw the start of the removal of the strict lockdown in France. Since then, credit market conditions have slightly improved, with some high yield and ‘Term Loan B’ add-ons priced at better conditions than secondary pricing observed in March and April
  • Many sponsors have negotiated a loan, guaranteed by the French state, with their banks to avoid any liquidity risk, and are now focused on the recovery
  • Assessment of the impact of the Covid-19 crisis on companies is still on-going, and most transactions are suspended until sponsors get better visibility on the situation
  • As a result, M&A and lending activities remains muted, with a very limited number of deals expected on the market in the coming weeks

DACH Highlights

  • In Germany, the primary focus of lenders is still on their own portfolios rather than on acquiring new business
  • Since the start of the Covid-19 liquidity programme, KfW has received 59,000 loan applications totalling more than EUR 46bn
  • LBO and high yield markets are slowly warming up, as active deals continue with existing lenders but with higher information requirements
  • As many companies secured their liquidity by drawing on the RCFs, the risk of triggering springing net leverage covenants has increased. Companies which have undergone a restructuring or covenant reset in the market, were mostly already in financial stress before the outbreak of Covid-19. We expect that most of the restructurings will appear in Q3/Q4 2020 in the retail, automotive and aerospace sector
  • We also expect refinancing activity for companies that defaulted on their covenants to pick-up, once the visibility for the financial year outturn and beyond improves
  • As bank lending overall remains restrictive, debt funds are offering their liquidity and PE investors seem more likely to execute all-equity LBO transactions, albeit at a currently, very limited deal flow

Spain Highlights

  • In Spain, borrowers remain focused on more urgent aspects of their businesses (covenants breaches, securing liquidity, maturity extensions, etc.)
  • As the lockdown begins to ease, economic activity is showing the first signs of recovery. More impacted sectors such as tourism, leisure or restoration will still be slower to bounce back, so access to bank financing will remain challenging
  • Except for the ICO program, companies are struggling to access liquidity. Direct lenders remain very cautious for primary deals, while special situation funds are more active in acquiring positions in the secondary market
  • The government has confirmed €100bn of ICO Program with c.€20bn still remaining, resulting in some banks running out of budget
  • Increasing visibility on the end of the lockdown creates a more optimistic atmosphere, resulting in M&A projects that were previously postponed now being resumed
  • Flow of refinancing processes will remain intense in the coming months across the spectrum, from light-touch to heavy restructuring
  • Whilst lenders are generally supportive of providing flexibility in the terms for the next six to twelve months, stricter contractual conditions are being requested for the mid-term
  • There is also increasing complexity in those refinancings involving new money from ICOs, given the different approaches banks are having with this product (i.e. syndication vs. bilateral, unable to do bullet structures, etc.)
  • Once the first shock has passed and the urgent liquidity has been secured, borrowers should start thinking about a more solid and long-term capital structure
  • Therefore, businesses operating in the Spanish market should look to: 
    • In case of further funding is required, include proper preparation for credit committees, monthly cash-flow projection, long-term business plans and debt-sizing justification
    • As banks are running out of ICO budget, consider other alternative funding options
    • Support from a debt advisor will help to accelerate preparation and identify the right lenders for each situation

Italy Highlights

  • In Italy, uncertainty continues to dominate in the current environment, which is expected to continue for the remainder of 2020:
  • Investors are cautious regarding current trading and companies’ recovery capabilities in the following years
  • Sellers are not keen to accept pricing discounts as they deem Covid-19 a pure exogenous factor
  • Both lenders and sponsors are aiming to stabilise their portfolios, supporting companies with liquidity injections, cash flows analyses and fixed costs reduction plans, trying to not harm market positioning. The number of exit transactions is expected to be highly impacted by the situation, even if certain targets remain very interesting
  • Lack of liquidity is the most relevant issue faced by Italian SMEs (furniture, food service, general retail, etc.); Italy is a bank-centred economy, thus, the support of the banking system through the Sace-guaranteed loans is vital. Unfortunately, the access to this programme is not as immediate as one would have expected, and banks are swamped by requests
  • Regarding M&A live deals, the mentioned factors are slowing down processes, with most parties focused to find the right compromise between 2020E EBITDA and so called ‘EBITDAC’- how to bridge this gap is paramount to unlock many situations
  • However, sponsors’ dry powder is at an all-time high, as is strategic interest from foreign buyers, thus, paving the way for a deal-flow recovery in the second part of the year. Interest remains very high for software, e-commerce, pharma, logistics and food and beverage
  • Financial advisors are also playing a key role mediating between banks and SMEs to speed up processes aimed at unlocking the emergency loans
  • Subsequently, restructuring deals might be fewer than expected due to government measures, if liquidity reaches companies in time
  • We would therefore advise lenders and PEs in Italy to:

    • Keep performing ‘stress-tests’ with different scenarios to constantly monitor clients’ cash flow movements. This is also very useful in case the company decides to apply for the Sace-guaranteed loan, as it will speed up the process by helping banks to gain a clearer view of the impact of Covid-19
    • Advisors are also trying to bridge the bid-ask spread in M&A live deals. How to properly do this might make the difference between deals that fall apart and those which go over the finish line
    • More than ever, advisors that have good relationships with the banking sector are key to either secure financing packages to close on-going sponsor-led transactions, or help clients to renegotiate financing put in place post-pandemic

As ever, we are here to advise our clients in all types of market scenarios. Our Debt Advisory & Restructuring practice provides a full suite of balance sheet solutions, including advice on short-term liquidity, amendments, refinancings, covenant waivers and resets and restructurings. With access to the full range of capital providers we are abreast of the developments in the loan market and in particular, the impact from Covid-19.

Please do feel free to reach out to the team via the details below - we would be delighted to discuss any market or specific questions you may have.