NEW YORK, March 14 (IFR) - Merger and acquisition activity is finally heating up in the US, with a flurry of leveraged deals announced or rumoured in the past fortnight, but so far it is loans, not bonds, that are the biggest beneficiaries.
TPG and CVC are competing to acquire Denver-based Gates Global, in a deal expected to value the auto parts maker at US$5bn-$6bn, while Charterhouse is also nearing a deal to acquire Skillsoft for more than US$2bn, according to Reuters.
Men's Wearhouse clinched the table-turning US$1.8bn acquisition of its former suitor, Jos A. Bank, and Cerberus announced it was purchasing grocery operator Safeway in a deal involving about US$7.6bn of debt financing.
But although the Cerberus financing includes a bridge to bond, it is likely that the majority will be financed in the loans market.
The bulk of Men's Wearhouse's US$2.2bn of debt acquisition financing will also be in loans.
"There is a healthy appetite in the loan market that has led to an increase in second-lien activity, which has certainly displaced some products from high-yield more recently," said Kevin Sterling, head of leveraged finance syndicate at Goldman Sachs.
M&A-related high-yield bond issuance - including corporate strategic purchases, LBOs, sponsor-purchases of asset carve-outs, acquisitions of minority interests, and sponsor-to-sponsor sales - has increased this year, but not as much in dollar terms as the amount raised in the leveraged loan market.
According to Bank of America Merrill Lynch's own internal data, M&A-related high-yield bond issuance in the US jumped to US$9.8bn in the first two months of this year from US$3.48bn the same period a year earlier, while M&A-related leverage loan issuance has soared to US$17.8bn from US$9.7bn.
Bankers hope M&A-related financing will help offset a plunge in refinancing mandates in high-yield bonds this year, now that just about everything that could be refinanced has been.
But despite the rise in M&A-related business, US high-yield bond volume is still down so far this year at US$57.2bn year to-date from US$67.5bn in the same period of 2013, according to Thomson Reuters data.
Insatiable demand for floating-rate product in a rising rates environment has helped drive in pricing on leverage loans - both first- and second-lien.
"The second-lien market has definitely taken share from the high-yield bond market when it comes to M&A financing," said a leveraged finance principal at a major private equity firm.
"We have seen second-lien loans that were large enough to get done in the high-yield bond market, but borrowers much prefer the covenant-lite characteristics in loans, and bonds always have more onerous call protection."
High-yield bonds are not missing out altogether. The larger the M&A transaction, the greater the amount that gets apportioned to bonds, as borrowers seek to diversify their investor base and lock in fixed-rate longer-duration financing.
On Friday, the US$1bn bond financing Starr & Partners' acquisition of healthcare cost management provider Multiplan was announced, while US$850m of bonds are planned to part-fund Carlyle's acquisition of Illinois Tool Works's industrial packaging unit.
But both have far bigger loan components.
The roughly US$1.9bn of debt expected to back the acquisition of AT&T's Connecticut wireline operations by regional telephone operator Frontier Communications could be one of the rare situations where the whole lot is done in bonds.
CORPORATES MUSCLE IN
The number of acquisition-related high-yield bond deals could depend on whether there will be more jumbo leveraged M&A deals this year.
So far none of the high-yield M&A deals have been above US$10bn in size, and few believe the pre-crisis days of mega-LBO deals will return.
"The markets can easily handle larger acquisitions and LBOs, but I don't think we will see the mega deals becoming commonplace again," said Bill Sanders, head of Morgan Stanley's investment banking group covering sponsors.
"On the whole, the consortia required and the amount of leverage taken on for those deals is not what sponsors want to do."
Bigger M&A deals are more likely to come from corporates than sponsors.
"While share buybacks and dividend payments have been useful deployments of capital, company boards and shareholders are increasingly seeing that acquisitions are the best way to bump up the share price and turbo-charge returns," said Peter Tague, co-head of global M&A at Citigroup.
"There is material outperformance of companies that are the acquirers. They are being rewarded in the current equity marketplace in a way that is almost unprecedented."
This story appears in the March 15 issue of IFR Magazine, a Thomson Reuters publication