Japanese banks binge on succession
Even as a jumbo loan for Toshiba’s leveraged buyout moves towards completion, a smaller part of Japan’s leveraged finance market has come onto the radar of the country’s banking regulator.
A handful of domestic lenders, including mega-banks Mizuho Bank, MUFG and Sumitomo Mitsui Banking Corp are providing the ¥1.4trn (US$10.67bn) loan for domestic private equity fund Japan Industrial Partners’ planned LBO of Toshiba, while other smaller lenders are likely to join in a subsequent round. (See Japan Syndicated loans.)
The participation of Japanese regional banks in Toshiba's loan is not under scrutiny from the Financial Services Agency. However, the banking regulator has been reviewing their LBO lending to small and medium-sized enterprises since the end of 2022. The regulator’s review follows a similar exercise it carried out in 2021 relating to the leveraged lending activities of the three mega-banks.
“It is all about understanding what the regional banks are doing,” said an FSA official. “We are not necessarily sceptical of the risk management practices of the regional banks at this point. We would like to monitor how they are managing risks that are different from regular corporate credits.”
Japan has 99 regional lenders, many of which have stepped up their exposure to leveraged lending to the SME sector as it offers better returns than the razor-thin pricing on plain-vanilla corporate loans.
“Although we recognise uncertainties surrounding the financial market, LBOs offer better economic terms than regular corporate loans and we will be more proactive than ever by maintaining thorough dialogue with sponsors in each deal,” said Yusuke Higashijima, senior manager of industrial finance at Bank of Fukuoka.
Business succession deals
The LBO market in Japan is relatively insulated from the global financial market turmoil arising from inflation and rising interest rates, and the Japanese SME sector in particular will continue to grow as aging business owners progressively sell out, according to bankers.
There were a record 1,514 M&A business succession deals in the fiscal year ended in March 2022, according to the Organization for Small & Medium Enterprises and Regional Innovation. The largest cohort of SME owners was in the 65–69 age group in 2018, against 45–49 in 1995, according to the agency.
Family-owned businesses are now open to the idea of selling out to private equity firms, overcoming past resistance, as the younger generation looks to move away from traditional businesses.
“Business succession deals are increasing,” said Kenichiro Ueda, chief manager of the solution business division in Resona Bank’s M&A finance group. “The market has become more comfortable with M&A and gradually accepted funds [financial sponsors] instead of corporates. Business owners are becoming less intimidated.”
Resona, which arranges about 15 small to medium LBO deals annually, has beefed up its M&A financing team in the last three years and added another banker this month. Late last year, Resona provided a ¥26.6bn loan backing Carlyle Group’s LBO of electric wire manufacturer Totoku Electric.
Bank of Fukuoka’s Higashijima says Japan's LBO market is smaller relative to GDP than other countries' and he expects leveraged financings to continue to grow.
“With rising needs for business succession and carve-out deals among companies, and sponsors having dry powder, investment opportunities will increase. In fact, the number of deals brought in has increased significantly over the past year,” he said.
Regional banks can play a greater role in business succession LBOs as they enjoy deeper relationships with the locally based SME targets.
Kazuki Yoneda, general manager of the SF division at Kiraboshi Bank, pointed out that business succession is a nationwide issue and that local lenders operating in specific areas can support related LBOs and earn better returns.
“I believe that an LBO makes sense as a solution for business succession, and if more banks in each region can support it, it would also strengthen the profitability of regional banks at the same time,” he said.
Tokyo-based Kiraboshi, which has also boosted its LBO finance team in the past few years, has recently expanded into mezzanine financing in addition to lending through senior debt.
Aggressive structures
The hunger for yield and deals is leading some newer and smaller lenders to squeeze out the top-tier banks with more aggressive structures such as covenant-lite terms and tight pricing, according to bankers.
Regional banks have been heard to offer pricing of as much as 100bp less than mega-banks on some deals, which is significant at a time when such loans would typically pay around 200bp.
“Pricing for large-cap deals with little competition tends to be higher than the ones for small and middle-cap deals where there is fierce competition due to new entrants such as regional banks,” said Resona’s Ueda.
The appeal of leveraged financings from the SME sector is understandable as the three mega-banks have long dominated leveraged lending with their strong balance sheets and appetite for assets. As a result, regional lenders are often sidelined or starved of lucrative opportunities, particularly on big-ticket or high-profile deals.
Loans smaller than US$100m-equivalent represent the sweet spot for regional lenders as the sizes match their balance sheets and they enjoy close relationships with the SMEs. Such loans are often completed as bilaterals and are on the rise, bankers said.
On the other hand, some top-tier lenders have become more conservative since the coronavirus pandemic and particularly after the troubles they experienced with Marelli, which completed court-led rehabilitation proceedings last year, forcing 26 domestic and international lenders to take a haircut on roughly ¥1.1trn of debt.
“Each [Japanese mega] bank has already taken steps to improve risk management based on our dialogue, so this year we will follow up to see if that is being done properly,” the FSA official said. “We are openly discussing in what form the base of risk-taking can expand and what kind of participation in LBOs that will be attractive to more investors.”
Deal flow has also slowed with LBO loan volumes sliding to US$3.01bn via seven transactions in 2022, according to Refinitiv LPC data. In comparison, 2021 recorded US$3.50bn via 18 deals. The data mainly comprise large syndicated borrowings that the mega-banks dominate.