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Roundtable Discussion: Room for all in European private debt

European issuers are finding ever greater depths of liquidity in the private debt market with the Euro PP, Schuldschein and US PP markets all offering different options. GlobalCapital brought together a number of bankers, investors and issuers in London in mid-March to discuss the state of the markets and how they see them developing.

Participants in the roundtable were:

Ed Barker, vice-president, Pricoa Capital Group

Heiner Boehmer, head of international corporate clients, Helaba

Simon Fretwell, head of private placements, M&G Investments

Graham Keer, treasurer, Capital & Counties Properties

Paul Kuhn, head of DCM origination corporates,BayernLB

Martin Leighton, director of corporate finance, Great Portland Estates

Konrad Merkofer, MTN and PP syndicate, UniCredit

Jason Rothenberg, managing director, MetLife Private Capital Investors

Penny Smith, head of emerging markets corporate debt origination, Commerzbank

Nigel Owen, moderator, GlobalCapital

GlobalCapital: Is private debt rising up the agenda for corporate treasurers and what benefits do you see that it has for you, compared with loans or public bonds?

Graham Keer, Capital & Counties Properties: The attractiveness of the US PP market for us was being able to achieve longer tenors than we can via the traditional banking market, as well as opening up a diverse base of investors.

We’ve got a quite mature estate. Covent Garden is an estate that we own and, where we’ve got a long-term interest and we feel that that particular investment can attract and hold longer dated debt rather than the typical short-dated bank facility. So that’s why it’s attractive for us.

We accessed the market in 2014 and we’ve been back three times, very successfully, so it’s a market that we feel will continue to be important to us in our capital structure.

Martin Leighton, Great Portland Estates: It is high on the agenda for corporate treasurers. We’re obviously in uncertain times at the moment, but I think one of the advantages of the private market is it is very dependable. It gives you certainty in uncertain times. Some of the markets are not always there for you.

We actually took out some public debt and replaced it with private debt. We know the investors, the investors know us and they know lots of property companies.

GlobalCapital: Is that something the banking side are experiencing as well?

Konrad Merkofer, UniCredit: Yes and no. If you look at small and medium-sized companies, not a lot has changed compared to the last couple of years. There is still strong competition from bank financing and a lot of the smaller-sized companies decide to go for this option. But we see increased interest in private placements, mainly for longer maturities. Given the current environment we have, we will see more companies focusing on that funding channel this year.

Paul Kuhn, BayernLB: The benefit for many issuers is to remain private. They do not necessarily want to go public, exposing themselves, having a prospectus written and everything explained. So the more private an issuer is, the more likely it will like private placements. It doesn’t matter if it’s a US PP, a Schuldschein or Euro PP.

Heiner Boehmer, Helaba: From an international point of view, the UK is more biased towards the US PP market. UK banks are pushing hard for that. They have their own desks and, therefore, access to the investors. On the European side, you find it less so. There’s some advantage about the maturities and the depth, but we experienced a lot of clients who found it too complex, so they stick with the European markets.

GlobalCapital: And from the investor side, what sort of benefits does it have for you?

Jason Rothenberg, MetLife Private Capital Investors: It helps us diversify our portfolios. Private placements give us access to issuers that typically aren’t rated and therefore not in the public bond markets. The covenant protection that we get from investment grade private placement issuers is very valuable.

We think that’s a critical factor in the lower historical loss rates that we’ve seen compared to the public bond markets over time. And because of the longer maturities we’re able to do and the menu of options that are available to issuers, there’s more flexibility, which works great for issuers but is also helpful to the investors from an ALM standpoint, matching these assets against our liabilities.

The last point to mention is from a pricing perspective. There’s a premium involved for the illiquidity relative to the public bond market, so that’s another positive feature.

GlobalCapital: How is investor appetite evolving? Are there more institutions joining the private placement market and are people growing their private debt portfolios in other ways?

Ed Barker, Pricoa Capital Group: Our appetite for the US private placement market is essentially limitless. The private placement market has generally the same, traditional players buying the paper as it has for a while now. That said, there have been some new entrants including some of the more local players. Third-party appetite has probably not made a huge impact; it’s allowed us to be a bit more flexible in what we can offer to issuers, but, in terms of the amount that we have for the asset class, that’s not really changed a material amount.

Simon Fretwell, M&G Investments: In terms of recent new investors in the UK, not really. You’ve got some specialist investors who are coming and taking the odd deal. But we at M&G have seen a number of illiquid mandates come to us.

I work in the alternative credit group, and there are about 80 people there. There are deal managers, fund managers, people to get the deals done. And then we have a separate credit analysis group. So, within the wider group we look at aircraft leases, receivables, ground rents, housing associations and US PPs. In terms of size of company, it goes all the way down to direct lending, so there’s a wide range of things we look at.

We’ve got third-party mandates and they specifically want alternative credit, including private placements. They want a premium.

One of the things that has, historically, been an accusation against private placements is that they’re illiquid. But, compared to the sterling public market, where there are a limited number of very big investors who couldn’t possibly offload their positions in any normal size without really affecting the market, the PP market is not that illiquid.

We always talk about buy-and-hold in the PP market, but I would say a lot of public bond investors are now buy-and-hold. Ironically, public bonds trade least when things go wrong, whereas private placements trade most when things go wrong.

Rothenberg, MetLife: I agree. There’s more limited liquidity in the public bond market these days. From what we’ve seen, it feels like there has been greater participation by UK institutions in the US PP market. Perhaps not in the traditional 10 year corporate space, but we’ve seen more long-dated, maybe more esoteric asset classes issue in the UK market. And those long-dated sterling deals seem to match up well with some of the UK institutions in the space. So in recent years I’ve seen them come in more, especially in those deals.

Penny Smith, Commerzbank: All of the products can sit well together for a treasurer. There will be the relationship loan with their banks that are going to be the solid backbone, and that changed since the financial crisis — previously you could have a lot of banks in your bank group, some of whom you might not have known very well.

Now you’ve got your really supportive relationship banks to provide the RCF, to lead the bond you’ll do if you’ve got a big benchmark funding requirement. But if you’ve got a €100m-€200m requirement, you don’t want your relationship banks to be filling up their lines with that, so a PP could be a solution, whether it’s Schuldschein, US PP or Euro PP.

Fretwell, M&G: Schuldschein has grown out of all proportion in the last two to three years. The market that hasn’t is the French PP market, which has stagnated somewhat. But people want private debt. It’s not, as an investor, seen as being such a problem child to have in your portfolio. And what’s key, as Jason said, for investors, is protections.

GlobalCapital: As issuers, are you seeing that demand filtering through to you? Are you getting new investors coming through with enquires?

Leighton, Great Portland Estates: The appetite seems to be pretty insatiable and the banks have been talking to us about the private placement market stepping up for quite some years. Whenever you get updates from them the message is always supply is not as high as demand and it doesn’t seem to matter how much issuance there is, that always seems to be the case; and that benefits us.

Whether or not the total pool is higher or not, the investor group that is interested in the kind of credit we provide, a Central London property company, there’s huge demand for our paper.

In 2011 and 2012, we asked for dollar bids and sterling bids and we got one sterling bid. Everyone else was in dollars. In the 2017 and 2018 issues, we only asked for sterling because we knew there was the demand.

We liked the delayed draw. You can now delay for longer than you used to and so there seems to be much more flexibility there, due to that seemingly insatiable demand.

Rothenberg, MetLife: One of the biggest changes in the market over the last four or five years is the ability of investors to deliver euros or sterling directly. It used to be that companies would come to our market and take dollars and swap it themselves, but it’s really shifted such that they expect to be able to get euro or sterling directly from US investors in the US PP market, and from local investors, of course, as well. So that has helped drive dealflow in recent years because it has saved companies from having to use their swap lines.

Smith, Commerzbank: Is that partly because of the Schuldschein and the Euro PP expansion? Because five years ago they weren’t really options and now issuers have this new choice offering them currencies and floating rates as well, so has the US PP market had to adapt a bit to stay competitive?

Fretwell, M&G: Because the Schuldschein market has doubled to approximately €30bn, has that affected the issuance in US PP markets? Probably very little. Our big competition is conventional commercial bank lending, and both of those are the fleas on the backs of that hippopotamus. We always get asked if PPs or Schuldschein is squeezing the other out. No, I don’t think so.

Smith, Commerzbank: We’ve done deals where there’s been a Schuldschein and a US PP done one after the other which is feasible because the issuer is tapping different investor bases and thus making the most of the longer tenors they get from the US side, and the attractions of the Schuldschein like the pre-payability.

Merkofer, UniCredit: Whilst both the Schuldschein and US PP are still predominantly for investment grade issuers, over the last two years the Euro PP market diverged a little bit and started to focus on the lower credit profiles which is a market that hadn’t really existed a couple of years ago.

Two years ago there was still competition between Euro PP and Schuldschein for the same issuer base, but now the classic Euro PP seems to be the domain of lower credit profiles. There are a lot of new European investors in that market and they established tailor-made funds for exactly those kinds of credits.

Barker, Pricoa: Low investment grade credits are realising there is appetite for them in different markets and certainly in the private placement market. Maybe not from all private placement investors, but from most of the big private placement investors.

Rothenberg, MetLife: Do you think that will continue as rates rise?

Barker, Pricoa: Certainly the appetite will stay there from an investor perspective. The appetite from issuers to issue at what will clearly be higher rates will be the limiting factor; most companies may not want to take the hit on a below-investment-grade coupon, but, from an investor standpoint, the appetite is going to remain.

GlobalCapital: Are swap rates giving US lenders an advantage over the UK-based ones when lending to European borrowers? And will debt markets cope when interest rates start to rise, as we’ve already seen in the US?

Fretwell, M&G: My observation is it’s currently an advantage when you go 10 years and beyond, but, at say five or seven years, local currencies are more competitive. Certainly when you go longer, there are some odd results, where recently the US investors have come in very tight.

Barker, Pricoa: Yes, there are some quirky parts of the curve where it’s advantageous, some where it’s the opposite. What we’re finding as an advantage is probably, more fundamentally, being able to offer different currencies and being able to be flexible to the companies’ requirements. Clearly, borrowing in sterling and euros at the minute is cheap and being able to offer that on a natural basis, without swap breakage, is really important.

Kuhn, BayernLB: There is a correlation between higher rates and higher pricing and that would definitely also benefit the private placement segment. It’s dependable and more stable in that regard, so the pricing didn’t go as low as it did in the public sector. That’s why, when the pricing is going up, some of the issuers might realise it was just not beneficial enough and inexpensive enough to go into the private placement market because they have to pay a premium for illiquidity. But, when the pricing is going up, they might be tempted to go to the more dependable, more reliable, more stable market and the pricing might be reasonable enough to go there. Right now, we do not see, in the private placement market, those blue chips anymore. They all go to the public market. Whenever you need €500m straight, you do a bond. Private placements cannot match that.

Whenever they realise that, as we saw in 2008, that the bond market becomes illiquid, that’s the time of the private placement market and we will probably see more of those once the pricing and spreads are going up in the public or overall market, due to the fact that liquidity is reduced.

Rothenberg, MetLife: As a US investor, since the start of the year, the euro-dollar basis and the sterling basis have both become a bit less negative, so not as attractive as it was but still helpful. Optically, prices in euro terms are still very attractive.

As an example, we’re trying to price a 12 year euro denominated deal this week, and the coupon in euros is more than 200bp tighter than the coupon in dollars. So European companies are able to get an attractive coupon in euro terms, and we’re still able to get what we need on the dollar side when looking at a comparable public bond. So we’re still in a good spot in terms of what we’re able to offer. There’s a similar relationship on the sterling side as well.

Merkofer, UniCredit: The US PP market is the dominant private placement market which can offer the very long maturities, so the competition from the Schuldschein is less so in those kinds of maturities and the Euro PP is also much shorter. So yes, there is a price advantage, but also the advantage to offer long maturities for an issuer.

Leighton, Great Portland Estates: From an issuer’s perspective, US investors looking at US public comparables versus UK investors looking at UK public comparable spreads puts the US side at a big advantage in terms of the pricing that their institution expects them to be able to achieve.

From our perspective, when we had to issue in dollars and swap into sterling ourselves, the credit spreads we would pay would be at least 15bp. We’ve just done a 15 year issue and I’m not sure if we could have swapped that with any of our banks. I suspect some of these triple-A rated investors have a credit spread under 5bp and they charge us 10bp. Much cheaper than we could do it, so that’s great for us, and gives them a turn, as well, on the swap, so it’s a win-win structure.

Boehmer, Helaba: From what we see from a corporates level, they utilised the window of opportunity over the last few years quite a bit. They sit on a lot of liquidity already, and rising rates maybe puts them, at the moment, in the spotlight. So in terms of M&A activity, we expect it to be slightly slower than the last few years and therefore maybe less demand. So overall rising rates will not necessarily have an impact, but what we will see is gradually slowing down because there’s less demand.

GlobalCapital: UK companies have been less active in the Schuldschein market than French ones. Is that market attractive to UK companies?

Smith, Commerzbank: One of the reasons the US PP is so embedded in the UK is that the British banks here offer the product, as do the US banks, etc, so it has traditionally been the number one PP product available. The UK has thus effectively had its own PP product for years, just as Germany had the Schuldschein and France set up with the Euro PP.

This means in the UK you have issuers who have mostly done one or more US PP, who probably know the investors quite well, and in some cases probably could call them up and ask directly for a new investment without a bank intermediary. The US PP documentation and its requirements such as covenants are known and accepted. So to look at a different product brings in an unknown element of execution risk and uncertainty, because it’s different and you haven’t done it before, so it needs to be carefully considered.

The Schuldschein can’t compete with the longer tenors provided by US PP, and a lot of British companies seem to have more of a natural need to borrow dollars and that’s probably more competitive from the US PP side as the Schuldschein is, at heart, a euro product.

Why have the French taken the Schuldschein to heart? One reason is because it was much more competitive than the Euro PP when it first moved into that market. That’s maybe why the Euro PP went down the curve a bit. We also see the French market has a lot of domestic investors there already; the UK less so.

Additionally, the UK is not an ECB eligible country, so banks can’t refinance themselves via the ECB. The UK is not the only one that’s ineligible as some of the mainland European countries aren’t either, but that can be a bit of a handicap. Having talked to a lot of UK companies, you’re always up against the US PP, so it’s an interesting discussion and then it comes down to “I want 12 year dollars” and US PP is it. But we have seen some UK Schuldschein.

Keer, Capital & Counties Properties: We’ve always wanted sterling, so, when we went to the market in 2014, all of our investors lent us sterling and did the swap for us. So the US market was the path of least resistance. It was the easiest thing and that’s why we’ve gone back to the market.

When we’ve tried to look at direct lending, they still haven’t been able to get down to that pricing point where the US markets are just that much more competitive for us. So again, it was the path of least resistance.

Leighton, Great Portland Estates: It’s interesting but Schuldschein isn’t something any of our banks have ever presented to us. They’ve never pitched it and I’ve never seen anybody in the UK property market issue into that market either. It makes me question whether banks earn a different fee when they are agent on a Schuldschein versus a PP!

Smith, Commerzbank: The only real estate company Schuldscheine I could find were German and maybe a couple of Austrian and that was it.

Barker, Pricoa: Property companies have managed to get great tenor out of the PP market which the Schuldschein market just can’t offer. And the reticence towards the Schuldschein market is maybe because it’s quite an untested market and it’s not really been through a full default cycle.

There are a couple of examples where companies that have issued Schuldschein have got into problems, they’ve maybe found that who they thought were their lenders weren’t their lenders ultimately. Whereas, the US PP market has been through lots of cycles and has demonstrated a mature reaction to amendment and defaults.

Kuhn, BayernLB: The Schuldschein market is always senior unsecured and as a real estate corporation you tend to have some of your assets already being used for securitization and senior unsecured is really that segment which the vast majority of investors are looking for. Whenever there is structural subordination, that tends to go away.

Otherwise, you need a different set of documentation, looking into assets, and taking this into account would be beyond what the regular Schuldschein investors are used to.

Another reason why Schuldschein has not been that suitable for British corporations is whenever you have sterling requirement and provide that liquidity in sterling, you end up having British investors. So it’s not really diversification. The vast majority investing in Schuldschein are financing themselves in euros and that’s where they are competitive.

Boehmer, Helaba: One of the main reasons is the UK banks. If you go to the corporates, 80% of the time British banks will never talk about the Schuldschein product. So if you do not get that offering, why should it change?

Fretwell, M&G: Carillion was sterling, wasn’t it? If we were approached to do a Schuldschein on a credit that we knew and they’d got bank loans and they’d more than likely have a private placement, at that point, how would we view it? Bearing in mind what’s been in the newspapers recently, we would view it with a degree of suspicion because there would be the feeling that they’ve gone over and above, made real efforts to do a Schuldschein. So you have to ask why. Have they tapped out other sources of liquidity?

Boehmer, Helaba: There’s a lot of noise around the Carillion Schuldschein placement and it’s going to be interesting to see how the market, or investors, are coping with that. But on the other side, Carillion didn’t finance just by Schuldschein, it was only 5% of their outstanding debt.

Fretwell, M&G: There was a comment in last year’s roundtable where one of the participants spoke about an international non-German deal, for an aircraft lessor.  They had fewer than three years of accounts and the comment was along the lines of “we were very pleased it got away and it was largely placed with Far Eastern investors”. Now, that’s the kind of deal that we would feel uncomfortable with.

Smith, Commerzbank: Interestingly, the issuer that Simon mentions had executed a highly successful US PP before they came to the Schuldschein market, which had all US investors in it. And also the ownership was Asian, so there were underlying reasons why there was Far Eastern emphasis on it from the investor perspective.

International Schuldscheine differ a bit from the true German ones. Our loan document is never 15 pages, we’re 30-40 pages, and it’s perhaps more of a hybrid loan than the true Schuldschein that you’re used to in Germany. It will have covenants in it — not every single time, depending on the borrower’s credit and standing, but most of the time we still have covenants. So the document isn’t this flimsy piece of paper that sometimes the press seem to mention.

Kuhn, BayernLB: You’re completely right. The more international you become, the more likely you will have definitions of three or four pages. It’s totally uncommon for regular German corporations. It’s based on German civil code. It’s 1,100 and something pages. It refers in all the relevant aspects to that law, and just to say it’s 10-15 pages is half the truth because it applies where you make the reference.

The LMA is writing a guidance about it and there will be a draft documentation. Not really for everybody, but it’s supposed to be a starting point for discussion and providing 70%-80% of the core. And around that, it’s going to be adjusted to the needs of issuers as well as investors, depending on who we are talking about. That might push it a little bit more down the road into the UK market.

Smith, Commerzbank: The French banks moved into arranging Schuldscheine a few years ago — perhaps due to the competitive edge against the Euro PP, so they came into the Schuldschein world. Maybe if the Schuldschein started to impinge on the US PP, the UK banks would do likewise.

GlobalCapital: What is involved in choosing between US PP and Schuldscheine, or other kinds of debt?

Leighton, Great Portland Estates: It may sound odd for a corporate to say this, but this concept of a covenant light structure isn’t something that’s very attractive to me. Provided that the covenants are in line with our bank group covenants, then we’re not doing anything extra and if there’s a market out there that isn’t really interested in covenants, certainly for a property company where we’re used to having covenants on any kind of borrowing that we do, at worst these investors don’t understand the market and they’re going to be a bit flaky when times get worse or, at best, they do understand it, but I’m paying for that lack of covenant structure in the margin. I’d rather have some covenants and a lower coupon.

Barker, Pricoa: Not only in the US private placement market do you get tenor and currency, but you get investors that are relationship-based and you know who they are and you get a lot of flexibility around how you can structure it.

Boehmer, Helaba: The point we always make is that the Schuldschein has the advantage of smaller sizes, but you can upscale it, you can run it like a programme. The corporates we have arranged Schuldschein placements for, they come back, like you do with US PP. They like it. The terms have changed over time as well. We used to have three to five years. Now we have seven to 10 years, sometimes even beyond.

What we have seen in Europe over the last few years is they want to get away from core funding, diversify more, so Schuldschein is one of the parts which customers appreciate.

Kuhn, BayernLB: What’s difficult about Schuldschein is it’s very difficult to put it into one section of the capital market. We realise transactions up to €2.2bn, meaning that’s quadruple the size of a regular benchmark public bond. We did a Schuldschein as low as €15m.

We did a Schuldschein with one single investor going up to €300m. It’s really a private placement in that case. But we also did transactions with 300-400 investors in one single trade, meaning you can do something between very private and public. You can do something with longer tenor that then becomes more like a US PP.

We did up to 30 years and it’s probably not really known in the market. Those volumes are not €300m-€400m in that case, but whenever you have one transaction having five tranches and you have seven, 10, 12, 15 and 20 years in one deal, you will have very different investors.

In a shorter tenor, you will end up having the majority being banks. Whenever you go beyond 10 years, you end up having insurance companies and pension funds. Then it becomes totally different and the requirement from insurance companies and pension funds is more stringent and directed towards financial covenants versus the banks, which feel comfortable lending money without covenants, having a five year term agreed.

It’s very difficult to have one section without and one section with financial covenants.

That doesn’t work. But whenever the issuer is looking for longer tenors you get close to a US PP. It is more comparable.

Rothenberg, MetLife: There’s been a lot of talk in recent years about these various markets in Europe coming together and merging, but you have different investors with different needs. So I haven’t really seen any convergence of private debt markets across Europe. They still seem to be quite distinct and each one serves issuers in a different way.

GlobalCapital: Would the European private debt market benefit from a similar system to the NAIC grading system for US PP?

Smith, Commerzbank: A large part of the investor base is bank driven, and they will always do their own ratings internally, so having an outside rating system wouldn’t particularly help them. It would perhaps be of more interest for the institutional investors.

Kuhn, BayernLB: One of the key aspects for many issuers to go there without external rating is that you don’t need an external rating as the vast majority of the investors have the requirement to do their own rating. As the Americans say, ‘if it ain’t broke, don’t fix it’. We have €28m in volume without an extra rating for that product. It works.

Some rating providers imply that a rating would spur and help the quality of the market, but that’s a business model-driven argument.

Smith, Commerzbank: I understand the NAIC rating is only given at the end of a transaction, so investors aren’t aware of the actual rating at the outset when they’re doing their analysis.

Rothenberg, MetLife: Yes, there’s an opportunity to pay for pre-designation on a deal, but almost always the designation from the regulator only comes after the deal is done.

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Fretwell, M&G: The NAIC allocates a rating that the insurance companies very rarely pay any attention to, with the exception of the allocation of capital. That’s what it’s there for — the regulator allocating capital. So it’s generally assigned after the deal is done and so it would be no use to an investor. UK investors are ruled by Solvency II and so NAIC ratings are not useful for them.

An illustration of how much it is pure regulatory is the number of restructurings where there’s a danger the NAIC will rate something a ‘3’ or lower, which means a much higher capital allocation than an NAIC ‘2’. But the US investors will say “maybe we can find a rating agency opinion that will coincide with our preference capital allocation and they could get us a triple-B kind of rating”. The NAIC has said that it will take that external rating over its own rating. So, I guess the phrase that comes to mind is gaming the system.

Having a system that is so transparently there for the convenience of the regulator and not the investor, I can’t see what it would add at all. US investors are very sophisticated, so they do their own credit work and so would take an external rating of interest, but not rely on it.

Boehmer, Helaba: In the Schuldschein market, most issuers appreciate that there’s no rating requirement. Less complexity, less cost, same as with the documentation. So there are two selling points. On the investor side, they do their own diligence.

Leighton, Great Portland Estates: The NAIC feels like a very opaque institution. We’ve been upgraded once, downgraded twice, I think, but it’s very hard to know. All unrated propcos were downgraded by the NAIC following the referendum. That’s what I’ve been told by banks — unless you have a rating. Which, to me, is nonsense. To think that every company, irrespective of anything to do with their credit, needs to be downgraded undermines the institution.

GlobalCapital: What needs to be learnt from the recent Carillion and Steinhoff debacles? Will there be a retreat from those sectors or from riskier credits in general?

Fretwell, M&G: Let’s deal with Steinhoff because it’s easier, in a way. That’s your traditional accounting irregularity. What do you learn from that? That one man cannot do all these deeds by themselves, so there must be a question of governance, and then you’ve got to ask about the quality of the audit. Both of those will be inspected.

In terms of Carillion, it’s not the only one in the construction support services sector to have problems, but it went spectacularly wrong. It went wrong so quickly as I understand, they didn’t get the chance to do a restructuring and it went straight into insolvency.

Again, one would think, reading the newspapers, that the auditor will be answering a few questions as to what work they did and why they thought it was adequate. That might come up as governance. This international Schuldschein, not the Mittelstand stuff, the US PP side are looking at it and thinking how does this work?

There was another case, Premier Oil. There’s a big question. You’ve got a bank loan and you’ve got a syndicate manager. The syndicate manager takes the votes, tots them up, gets a majority, you go forward. The US private placements does the same, but unless, as I understand it, you have a Schuldschein in Germany, then you will not obviously be able to apply, for instance, UK scheme of arrangement, which is a way of getting rid of minorities. So therefore you need 100% of your Schuldschein investors to approve something.

When Premier Oil got restructured last year, looking at the information that went public, it said that the Schuldschein investors received an extra 100bp over other financial lenders and 50bp more in fees. I can only think that’s because it smoothed their way, and one of the things they did was change from German law to English law, which would make any scheme of arrangement easier to effect.

So what do we think about Schuldschein? We would certainly look at them with more respect for some of the surprises that might come down the line if anything goes wrong, pretty much the way that we woke up to pension schemes when that regulation changed. It takes a bit of a focus. For UK issuers, we would certainly look at them very carefully, what they might mean.

Barker, Pricoa: I have been trying to answer the question of whether there’s going to be lower issuance in the construction and support services sector by thinking about it from a supply and demand perspective. Clearly, from an investor side, there is going to be more scrutiny and more reticence to invest in those sectors. That is always the case when there’s a high profile default in a sector.

And from the supply side, the government’s clearly going to be looking at the financial condition of these companies much more carefully in the future, and so they’re going to run with lower leverage and so there’s going to be lower issuance.

So I think there’s going to be lower issuance, but that’s not to say that a support services or construction company couldn’t get a deal done in our market. They’d clearly find it tougher at this point, but I think the investor base likes to think they’re an intelligent group and can take each credit on its merits. I don’t think Carillion has shut down the whole market.

Fretwell, M&G: There’s been a bit of a mantra in the US. If you’re lending to asset-light companies, then you should expect problems when things go wrong. And it’s a whole sectoral problem. They’re all egging each other on and complicit in their collective misery.

Asset-light, is that good? If interest rates go up, one suspects asset prices will go down. So why will companies go bust? I think if we talk about support services, we’re probably fighting the last war. I think if we look ahead, what’s going to cause us real problems is probably higher interest rates and asset prices.

It won’t be because companies default on interest covers because the kind of people we lend to, they’ll be all hedged. We may see problems two years down the line if everyone wants to sell all at once and they all cram into the exit. That’s when you get volatile asset prices. So what have we learnt? To think about things more.

Kuhn, BayernLB: Carillion and Steinhoff are not a product issue. It was an event of default in the Carillion case and Steinhoff was just in trouble. It’s definitely something where all the investors were relying on audited financial statements. It was not an unknown auditing company, it was Deloitte for the last five years or more and everybody was relying on that.

Steinhoff had an investment grade rating until they announced the December event and irregular things on the balance sheet. Until then, everything was fine. The ECB was buying bonds off Steinhoff. So nobody is saying anything about Carillion and Steinhoff in relation to all the other products.

Everybody is talking about those two issuers of Schuldschein and that’s not really fair towards the product. Whenever a company gets into real trouble and defaults maybe, Schuldschein is not the best product to be in. Whenever you have 100 or 200 investors, you end up having 300 different investors who have a legal bilateral loan with you. So it’s not that you need 100% consensus, but you have the obligation to talk to every single one to get them on board.

From Carillion, the investors who are on board will make sure in future that it’s pure German law. In that case, nothing happens in the default case. But a default in the Schuldschein is something very uncommon and supposed to remain that way. That’s why that product is not meant for somebody who is crossover investment grade or sub-investment grade. It’s supposed to focus on investment grade and nobody wants to change it to become more suitable for those weaker companies.

Fretwell, M&G: Talking about the international Schuldschein, do you think, potentially, banks have brought deals that maybe they wouldn’t have brought if it had been purely German investors, just because there is a big demand from the Far East, for instance?

Boehmer, Helaba: The international side did grow because there was more demand coming from places like the Far East. Last year, we had the big Lufthansa Schuldschein. There was a very big single tranche signed by Chinese investors, but Lufthansa asked specifically to go there. The Chinese, Japanese and Taiwanese have an appetite in terms of corporate risk, and that’s the reason why they do it. They invest and put it in their portfolio.

Smith, Commerzbank: But it’s also a yield thing. A few years ago, we saw triple-B credits and didn’t really see sub-investment grade issuers. But investors want yield, returns are going down, so the only way they’re going to get higher incomes is to look at sub-investment grade if the BBB+ names don’t meet their return criteria now.

Kuhn, BayernLB: The majority of German investors are looking for strong connectivity of footprint. That might be a global corporation but the issuing entity needs to be a German one. The smaller they are the more likely they are to have their own bylaws that they are only allowed to invest in German issuers. So we would lose more than 50% of the 400 investors and we do lose those numbers whenever it’s an international issuer.

There are no investors going away from the product because of those events. People are now realising they are at the end of a corporate loan risk and it’s supposed to be risky. As long as people are aware of that fact, or reminded by such an event, it’s not the worst thing, as long as the market remains.

Boehmer, Helaba: Someone said earlier that Schuldschein hasn’t been through cycles. That’s not necessarily true. Schuldschein has been around for 30 or 40 years. It’s become more international in the last 10 years, but it’s been through cycles.

GlobalCapital: Are investors asking which other companies are these auditors auditing?

Rothenberg, MetLife: They’re going to be prevalent in the market, so you can’t really avoid companies where certain auditors are involved. From a credit perspective, there are a number of asset-light companies that have issued in the private placement market and one of the things you look for in those companies is long-term contracts.

One of the lessons from Carillion, in my opinion, is there will be more scrutiny of long-term, fixed-price contracts, because there’s not a lot of transparency around how successful or how profitable those contracts may be, especially if the company is aggressively bidding for new business in a competitive market. You have to look at governance procedures internally around that bidding and rely, to some degree, on the track record of the company.

Seasonality of debt is another factor. Many companies massage working capital around period end dates, such that the actual average debt level could be significantly higher than reported at period end, and the peak debt level could be much higher still. We get our covenant compliance certificate every six months and that might show a rosier picture than what really exists in the majority of the year

And lastly, whenever we see companies factoring receivables or extending payment terms with suppliers but using bank financing as a bridge, which doesn’t get captured in the financial debt numbers and is hidden within the notes to the financial statements — practices like that are going to be more scrutinised.

Barker, Pricoa: When some of Carillion’s peer group have gone for amendments over the last year, one of the things that investors have been ensuring they get is greater transparency of things like payment terms and trying to scrutinise what companies are doing with their working capital.

Even if companies try to become more rational in their bidding strategies, as they lower their workload, the working capital unwind just means that, from a liquidity perspective, they’re immediately under pressure. It’s a self-perpetuating problem in the sector.

GlobalCapital: What differences, if any, has MiFID II made to private debt markets?

Smith, Commerzbank: Schuldschein is not impacted by MiFID.

Merkofer, UniCredit: On the Euro PP side, it’s different compared to standard private placements — MTNs. You deal with buy-and-hold investors and a secondary market is less relevant. The introduction was generally very smooth for private placements.

Rothenberg, MetLife: I have not seen a noticeable impact on the market in terms of supply or demand.

Fretwell, M&G: We’ve seen more formalisation of reporting and checking and central recording. One of the big focuses is that we’re not being induced by banks and brokers, so we now have to pay for research, and what that’ll mean is a smaller universe of equity analysts who will give us information. So there will be a drop-off in research houses, but in terms of what we do, no.

GlobalCapital: What is the role of responsible investing and environmental, social and governance analysis in private debt markets?

Fretwell, M&G: These things are becoming explicit focuses of certain investors. At M&G we’ve got one portfolio manager focused on environmental and social investing and we’ve got external money to do that.

I understand the LMA is bringing out its view of what it thinks green loans are. It’s becoming a whole lot more important that we have to be showing that what we’re doing is of benefit. Certain investors are requiring it explicitly in their mandates.

Barker, Pricoa: We’re not going to say we don’t value environment and social investing in its own right, but the more third-party money you manage and the more external investors, who all have their own view on different aspects of environment and social investing, the more of a focus it’s going to be.

Kuhn, BayernLB: It’s going to be very important in the future. It already has some importance, but, going forward, it’s going to be more important in a public market, as you will be able to provide better secondary market liquidity for your green issues.

In a private market, usually it’s buy-and-hold and nobody cares that much about secondary market liquidity. So public green bonds may be something way more important than in the private market.

Rothenberg, MetLife: We have an ESG policy in place that guides how we invest across all asset classes. We take into consideration ESG factors because it’s the right thing to do and from the potential of having an impact on credit quality — such as environmental liabilities and governance. And we intend to devote more resources. We recently created a new business unit called Responsible Investment Strategies to increase our focus on ESG investing.

Leighton, Great Portland Estates: There is plenty of interest in it in the public markets, both the equity and debt markets. We’ve seen less from the private debt market to date, but it’s a huge area of focus for us, making sure that all our buildings are appropriately designed and managed and that we meet certain thresholds. It’s already very big and it’s growing.

Smith, Commerzbank: A few years ago I was never asked by borrowers about green issues and now more often than not I am, and often by borrowers that you wouldn’t think would have any interest. The Schuldschein has followed the green bond principles, so the proceeds need to be used for a green project. However, some of the people I speak to say they haven’t got a big enough project, so can’t they do it based on sustainability objectives only. So far, we haven’t seen a Schuldschein done on that basis, but maybe we will. It’s becoming a topic at an earlier stage in discussions than it ever was before.

Kuhn, BayernLB: So far there have been six green Schuldschein and in mid-March there was another, so it’s going to be there and definitely more visible and frequent in the future.  


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