To those outside the world of leveraged finance, it can often seem like that market is sweeping all before it. High yield issuance in Europe hit a new record in 2014, for the sixth year running.
The fees investment banks can earn in leveraged finance, and punchy underwritings they can make, are also the envy of many colleagues in other disciplines.
So it might surprise you to learn that levfin bankers have been feeling a little sore in places. Many times in recent months, when companies have been put on the auction block, the notoriously aggressive private equity bid has been trumped, either by strategic buyers from the same industry or the public equity markets via an IPO. And that typically means no leveraged financing.
By one estimate, as many as three-quarters of such competitive auctions since last summer have slipped out of private equity’s hands.
Notable examples include the assets shed by Lafarge and Holcim as part of their merger — which went to Irish building materials company CRH — and this week Refresco Gerber, the Dutch soft drinks and juice bottler . After being circled by private equity funds, it announced today it intends to list on Euronext Amsterdam.
Of course, an IPO is never over till it’s over. PE could still swoop with a knockout bid for Refresco, as KKR did in January for thetrainline.com, a UK ticketing website that Exponent Private Equity was in the midst of bringing to the London Stock Exchange.
As one ECM banker remarked at the time: “Almost every IPO is a de facto dual track,” meaning that the seller will consider a PE bid if one is made, even if it does not actively solicit them.
thetrainline.com was no victory for the levfin market, however, as KKR bought it without using external debt.
Hands tied
Adding to the sense that leveraged finance is being out-competed are the US regulations on aggressively leveraged buyouts and financings.
These guidelines were at first widely flouted, after being introduced in March 2013. But by the end of 2014, bankers say, even the most recalcitrant underwriters had been brought to heel.
Headline leverage of more than six times Ebitda is no longer possible in the US, they claim, and private equity firms’ equity contributions and planned debt repayment schedules are also carefully watched.
While the rules do not apply to European deals by European banks, few doubt that the European market is going the same way. This means private equity has lost its traditional trump card — being willing to take on a lot more debt than anyone else.
So are the glory days of leveraged finance ending? Not a bit of it. In fact, this looks set to be a stellar year, both for high yield bonds and leveraged loans in Europe.
Two trends in particular have cheered bankers up.
Monetary pleasing
One, obviously enough, is quantitative easing (QE). The bull wave sweeping through rates and credit markets since January 22, when European Central Bank president Mario Draghi announced his programme of quantitative easing, has been enormous — and the ECB has not even started buying yet.
For high yield financing costs, this is great news. Some bankers point out that, so far, the triple-B, double-B and single-B tiers of the market have actually diverged in spread, rather than converging, as investment grade fund managers step down one level in the credits they are willing to buy.
European single-B, which remains the preserve to a great extent of specialist US investors, has not yet felt many benefits from Draghi's handout.
But others believe it is bound to, very soon. Traditional high yield investors will not be able to stick just with double-B paper when its yields get crushed by sweaty hordes of investment grade philistines buying everything in sight.
For investment banks and borrowers, this means issuance prospects for 2015 are perking up. It had looked like 2015 would need a lot more fresh LBOs to match 2014’s volume. Now, refinancing deals are likely to proliferate so much that new buyouts may not be needed.
Rates have come down so far that, yet again, it is economic for companies to issue new bonds and buy back old ones. By the end of this week, Unitymedia KabelBW and Jaguar Land Rover, two stalwarts of the high yield front bench, will have issued two bonds each within a few weeks, to take advantage of low rates.
New model companies
The other, slower trend is the emergence of a new breed of leveraged companies. Neither classic, private equity-owned businesses, nor typical investment grade blue chips, they are taking their cue from the US market, where many firms are happy to operate with double-B or even lower ratings permanently.
The prime example is Altice, the darling of the hour in Europe’s capital markets, which has morphed in no time from a little known, private equity-type vehicle that owned an Israeli telco, into a pan-European telecoms consolidator that controls Numericable, SFR, Portugal Telecom and is looking for its next deal. One of its new crew of senior managers drawn from bulge bracket investment banks recently warned the world (we paraphrase) that “you ain’t seen nothing yet”.
Fortune’s wheel will no doubt humble Altice one day. But for the moment, it — and older rival Liberty Global, which now owns Virgin Media – are showing that the hybrid leveraged corporate is at a sweet spot.
This form of company can take out lots of debt for acquisitions, and banks and institutional investors are happy to oblige. But unlike a private equity firm, it does not have to stick to a strict target of, say, a 20% internal rate of return over five years.
The financial crisis, and then the eurozone blow-up, have tipped a load of Europe’s big companies down the chute into high yield — Schaeffler, ArcelorMittal, Telecom Italia, Energias de Portugal, Fiat …
Some are no doubt anxious to climb out again. But others may just decide they like it. When you can, like ThyssenKrupp, raise €1.35bn of five and 10 year debt at yields of 1.875% and 2.636%, why bother scrimping and saving to get a triple-B rating?
High yield bankers and investors may not consider ThyssenKrupp “one of us”. But Altice and its like are much more indebted. Even if private equity is missing out on their deals, the assets are staying in the levfin world.
So although private equity may be feeling some headwinds, the outlook for leveraged finance, at the moment, is plain sailing.