Author: Penelope Smith, Director, ILO, Debt Capital Markets Loans, Commerzbank Corporates & Markets
As traditional lending opportunities become scarcer, and borrowers look further afield for alternatives to relationship loans, growing attention has been focused on the private placement (PP) market in Europe.
Efforts are being made — initially in particular by French corporates, banks and insurers — to create a pan-European private placement (EURPP) market, with standardised documentation, that might vie with the vast USPP market although these have tended to focus on France only in reality.
But it’s a far longer-established corner of the market that’s seeing some of the most vibrant growth and interest among investors and borrowers and is truly pan-European in terms of investors and issuers.
Schuldscheindarlehen — a private placement based on German law (literally in English ‘certificates of indebtedness’) — has been used to fund Germany’s industrial mittelstand heartland for centuries. It came to wider prominence following the global credit crisis when capital market jitters forced big bond players including Siemens and BMW to find other sources of financing.
2010 and 2011 saw the market fall back as corporates looked to retrench with internal sources of funding. But since 2012, the Schuldschein market has been buoyant, recording 100 transactions and a total value of approximately €12bn in 2014, while half year 2015, deals are approximately €8.93bn. By comparison, the EURPP market has raised a total of €1.36bn.*
Most interesting has been the recent expansion in the market from its German roots to international attention. The last two years have seen issuance from corporates from countries such as the UK, France, Belgium, Italy and even as far afield as Brazil. And while the market was founded to finance the industrial and manufacturing sector, today more ‘asset-lite’ issuers in IT, software development and service sectors are turning to Schuldschein to help fund expansion.
More diverse issuance has been matched by growing international investor demand. In 2013, Commerzbank closed the largest-ever non-German Schuldschein (and the largest Schuldschein deal for that year) — a €535m transaction for France’s Zodiac Aerospace.
The appeal of Schuldschein to issuer and investor is varied. There is no need for a market listing or a formal credit rating — making them of particular value to small and mid-sized corporates. They also offer flexibility, allowing multi-tenor and various currency and interest structures. One of the biggest attractions compared to other capital market products is that a floating rate Schuldschein can be prepaid at par.
Based on internationally-respected German law and embedded in the existing legal framework of the German civil code, the document for Schuldschein is refreshingly simple and straightforward — often running to just 30 pages rather than the 100-plus pages required for a bank loan. Once set up, the same documentation framework can be used for future issuance.
For many issuers, all these features continue to give Schuldschein a march over the nascent EURPP market — and even the well-established USPP market, which while offering long term funding, is well known for its often onerous covenants and extensive documentation while the make-whole structure makes exiting a deal early particularly challenging.
With a typical loan size of €50m-€250m, Schuldschein is primarily intended as mid-sized funding for mid-sized companies. While a few notable deals have broken the €500m barrier — and even €2bn in one case — the focus is expected to remain on the smaller transactions, with larger issues going to the more liquid bond markets.
For investors, Schuldschein can provide the opportunity to invest in companies where the lack of an existing relationship would otherwise make it impossible. Financial institutions across Europe, Asia, and even in the Middle East and Latin America that would previously have taken a slice of Europe’s syndicated loan market are now investing in Schuldscheine on account of their attractive drawn returns. As they are treated as a loan asset rather than a trading asset Schuldscheine don’t need to be marked to market. Institutional investors find the Schuldschein a way to invest in unrated companies that otherwise wouldn’t be possible.
As Schuldscheine attract a more global audience, they are showing signs of evolving beyond their original structure. Investors are seeking documentation with financial covenants and default clauses that render them more of a hybrid loan structure. There is also the question of how diversified the investor base for Schuldschein can become. With borrowers typically having no formal credit rating, the onus is on each investor to do their own credit analysis — which tends to attract an audience that can assess and rate credit internally such as banks and certain institutional investors (such as insurers).
But that said, there is no sign of any shortage of interested investors. With returns that tend to sit between syndicated debt and public bonds, attractive Schuldschein deals continue to see order books two, three or even four times oversubscribed. The increasing of transactions is common.
But investors remain judicious. Issuers may not be formally rated but a clear and strong credit story is still essential, with most transactions sitting in the BBB+ to BB+ space.
Schuldschein should continue to see support as global economic uncertainty and instability persists. Being a private placement instrument that isn’t marked to market, Schuldscheine have been far less affected by short-term volatility than public bond markets. This was clearly evident in mid-2015 when concerns over Greece’s exit from the euro, slowdown in China and falling oil prices effectively saw bond markets close to new issuance whereas Schuldscheine continued without any negative impact on liquidity or pricing.
But although large players will tap into the market now and then when bond markets prove prohibitive, the real value of Schuldschein will remain in its ability to provide straightforward and flexible funding at attractive pricing levels for mid-sized corporates through most market conditions.
Commerzbank has been involved in initiatives with the Loan Market Association and International Capital Market Association to widen awareness of Schuldschein among potential borrowers and investors. Thanks partly to these efforts, Schuldschein is now included in a universe of ‘Alternative Finance Products’ that also features US and EUR private placements.
As corporate Europe continues to be forced to wean itself off traditional bank debt, the Schuldschein market is set to continue to grow.
*Source: Thomson Reuters
For more information about Commerzbank’s Schuldschein capabilities, visit http://cbcm.commerzbank.com/schuldscheine
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