IFR Top 250 2007: M&A leads the way
Cheap pricing and larger facilities mean conditions in both the European and US syndicated loan markets are remarkably borrower friendly. But with borrowers on both sides of the Atlantic already refinanced with cheap back-up lines, it is acquisition related borrowing that is providing the bulk of new supply, write Timothy Sifert and David Cox.
Borrowing conditions in the high-grade European and the Middle Eastern loan markets remain exceptionally benign. The global glut of liquidity means borrowers continue to enjoy highly competitive pricing with favourable documentation. While the continuation of the global merger boom means borrowers are taking full advantage, with both large and medium cap firms funding their expansion plans through the loan market.
The level of liquidity now available in the euro-loan market means facilities in the tens of billions of dollars are no longer unusual. Enel is a case in point. To fund its acquisition of Endesa, the Italian power giant put in place a €35bn loan through a five strong MLA group. In the first phase of sub-underwriting the group raised in excess of €40bn. This result was mirrored by Porsche, which raised a staggering €50bn in the first round for its €35bn loan that funded its mandatory offer for VW.
The result for both Enel and Porsche reflects a structural change in the market as the number of banks with the ability to take large underwriting tickets has increased enormously. For example, in 2004, when Sanofi put in place a €16bn loan to fund its take over of Aventis, the number of potential sub-underwriters that could conceivably take the €1.5bn underwrite was no more than eight (seven banks eventually joined the two leads as underwriters). However, as Enel and Porsche attest, in today's market bankers estimate 25 to 30 banks could easily take a €1.5bn ticket.
This change reflects the growing integration of the loan market with the wider European capital market. Unlike the last merger boom around the turn of the century, which was largely funded through shares, companies are now buying other companies with cash – more specifically, borrowed cash. They are able to do this in part because of the vast sums on offer in the euro-loan market that would have been unthinkable only a few years ago. This is because whereas loans incurred for acquisitions would have previously been expected to stay in place for five years, they are now being taken out swiftly through the bond or equity markets.
Since European monetary union in 1999, the European bond market has exploded in size. This means banks are willing to take much larger underwriting positions for a single borrower, safe in the knowledge that the loan will soon be taken out in the capital market. As an illustration, before Enel finished its sub-underwriting phase, the group sold a €5bn Eurobond, which will be used to retire part of the loan.
However, jumbo acquisition-linked facilities are only part of the story. Lending conditions remain exceptionally liquid and for borrowers this translates into razor thin pricing, which for banks can verge on the uneconomic. "Pricing is bouncing around the bottom and cannot realistically go much lower," said one senior banker.
In part, this liquidity in Europe reflects the fact that the continent is overbanked. Bankers closely watching the takeover battle unfolding around ABN AMRO wonder whether it will spark further consolidation – and if it does how this will impact lending conditions.
But a while a more integrated market means more efficient capital raising, it also means banks are now able to measure effectively the value of their banking relationships. This is because the growth of credit derivatives means lenders can allocate a market cost to a loan and can calculate accurately how much side business they need to secure to make a relationship profitable.
"In many cases borrowers are reducing their banking groups and being more realistic about the level of ancillary business they can provide," said Lise Kessler, a managing director at Calyon. "Borrowers now understand that if they want to have access to cheap loan pricing, they need to be able to offer genuine side business to justify the long-term balance sheet commitment. For some borrowers this can be a pretty painful process; for others it is the next logical step in the rationalisation of their bank relationships."
As such, after years of talking about the importance of relationship lending, banks are finally attempting to take a tougher line with their clients, ensuring that a cheap loan translates into real business. Borrowers are responding to this, and they are taking steps to shrink and manage their banking groups more effectively. In the extreme, in the UK, the most mature loan market in Europe, relationship syndications have disappeared in favour of self arranged clubs as treasures take full control of their banking lines.
Meanwhile, in the US . . .
In a similar picture to Europe, pricing on US investment-grade loans is at or near all-time lows. This has led to fewer refinancing transactions and more companies returning to extend tenors to lock in existing pricing. While arrangers can still maintain respectable volumes, they have had to rely on M&A activity – and share repurchases – to keep things interesting.
So far this year a variety of factors, including borrowing power, has let seasoned borrowers begin to actively pursue acquisitions. While the leverage loan market is experiencing the bulk of this activity, high-grade lenders are opening their wallets almost as often. For the remainder of the year, lenders will look to entice more M&A financing with the already attractive terms.
There have been fewer but larger transactions so far this year compared to the same period in the two previous years. So far this year, companies that fall into the investment grade or near investment grade categories have completed 460 credit facilities, compared to 501 and 587 deal in the same period in 2006 and 2005, according to Thomson Financial. However, volumes have increased, though not very steadily. Transaction volumes so far this year total US$396bn, compared to US$419bn and US$368bn in the two previous periods.
One factor that might continue this trend toward larger but fewer deals is the upcoming M&A pipeline. In May Citi and Goldman Sachs agreed to provide Alcoa with a US$30bn senior unsecured multiple-draw term loan to finance the company’s US$33bn cash and stock bid for Alcan, another aluminium producer.
Alcoa's jumbo credit facility will mature 18 months after the closing of the acquisition. The deal is expected to pay 40bp–125bp over Libor, based on ratings. The commitment fee is 7bp–15bp. The facility ranks pari passu with all senior debt of Alcoa. The total deal is 80% cash and 20% stock.
But if the Alcoa/Alcan deal does not go through, banks would still reap some benefit from the sector, if all goes according to plan. Other aluminium and metals producers are said to be interested in buying one or the other company. Mining companies BHP Billiton and Rio Tinto are understood to be interested in Alcoa and Alcan.
The media sector has also been active in the investment-grade loan markets. Like the aluminium space, consolidation is the impetus. Most recently, Thomson tapped Bear Stearns, BMO Nesbitt Burns, RBC and TD Securities to provide financing for its roughly US$17.2bn purchase of rival Reuters. The boards of both companies have agreed to the transaction, whose announcement came after the high-profile approach News Corp made for Dow Jones.
Also what had once been considered an obstacle to the high-grade market’s success, the rise of LBO volume, also has a positive side. This abundance has caused many investment grade companies to become leveraged credits, as buyout shops load up debt on balance sheets and refinance company’s existing bank loans. Taking companies out of high-grade territory has freed up more cash for their former lenders to begin to put to work in new ways. This is one factor, bankers said, that is fuelling the recent spate of corporate-to-corporate activity, making consolidation easier.
Another way arrangers are keeping the deals flowing is through small amendments to big existing deals. They are also pursuing other outstanding credit facilities that might not be priced to market. Also, several companies still maintain 364-day revolvers that have to be rolled over every year.
Recently, JPMorgan completed a US$12.2bn credit facility for retailing giant Wal-Mart. The deal is split between a US$4.5bn 364-day revolver, a US$4.5bn five-year revolver and a US$3.2bn letter of credit facility.
The deal replaces a US$10.2bn credit facility the company completed last year. That deal included a US$7bn revolver, which was split evenly between a five-year and a 364-day tranche, and a US$3.2bn letter of credit. The five-year and 364-day revolvers paid 2bp and 4bp undrawn. Drawn pricing on the entire revolver was 15bp over Libor.
Arrangers are also preparing a US$10bn revolver for Procter & Gamble and a US$5bn facility for Boston Scientific, proving that volume is still available from refinancings, rollovers and amendments.