May 20, 2013 / 9:31 AM / 6 years ago

RLPC-European leveraged loan market under threat from US/HY

LONDON, May 20 (Reuters) - The European leveraged loan market has suffered from diminishing deal flow as financings opt to go to the US or high-yield bond markets, calling into question the significance and relevance of European syndicate desks and their ability to withstand the loss of business.

Animal identification company Allflex, German insulation firm Armacell and German industrial ceramics firm CeramTec are among a growing group of European borrowers seeking to finance buyouts via the US leveraged loan market, lured by greater liquidity, covenant-lite structures and leverage that cannot be matched in Europe.

The $810 million debt financing backing BC Partners’ acquisition of Allflex will not have a euro carve-out - something that had been considered on the $540 million first-lien loan but was decided against after the terms of the US deal out-competed a euro financing, even taking into account swap costs.

Deals financing via the US is a further blow to the European leveraged loan market, which has already seen a diminishing borrower base, as companies including Italian gaming company Sisal, UK fashion retailer New Look and German forklift company Kion have opted to refinance loans with high-yield bonds.

“The market is hot and the pie for loans has been reduced in Europe because of less M&A, compounded by the high-yield and US markets, which are attracting previous European leveraged loan borrowers,” a leveraged finance banker said.

The European high-yield market has been on fire in 2013 and issuance of $80.15 billion to April 2013 is double the $40.04 billion European leveraged loan issuance during the same period, Thomson Reuters data show.

“There is a continued trend of borrowers looking at dollar loans and European high-yield as an alternative to European loans, given the better execution and price. This means thinner pickings and leaner times for European investment bankers and syndicate desks,” an investor said.

REPERCUSSIONS

If these trends continue, European syndicate desks will feel the repercussions of dwindling workflow, such as streamlined operations and reduced headcount.

“A lot of deal teams are very nervous and they have to question how they can justify having enormous headcount. Having massive teams on the current deal flow isn’t sustainable,” a syndicate head said.

European banks with a global presence are best placed to deal with the growing disintermediation of Europe and should feel the least impact.

Credit Suisse, Barclays and Deutsche Bank sit among the top 10 US leveraged bookrunners for the first quarter of 2013, while UBS is 11th with 3.1 percent market share, according to Thomson Reuters data.

These banks are less likely to see an effect on overall deal volume, but if the majority of deals flow from the US, they could decrease the size of their European operations to resemble satellite offices, bankers said.

European banks active in the US but with a smaller presence will feel a greater impact from the loss of European work. These banks include RBS and BNP Paribas, which each had 1.2 percent market share during the first quarter, according to the Thomson Reuters bookrunner league table. Mizuho and HSBC had 0.5 percent market share, while Credit Agricole and Natixis had 0.4 percent each and Rabobank 0.3 percent.

Some banks, including HSBC, are trying to increase their presence in the US, stepping up headcount and resources, but it is not an easy task in an established market.

“Trying to break into the US market is hard, especially trying to get left lead, as that is dominated by around five banks already,” a second leveraged finance banker said.

FEELING THE STRAIN

Banks expected to feel the most strain if large European deals opt to finance in the US are those that form part of the top 30 EMEA leveraged bookrunner league table but fall outside the top 30 US leveraged bookrunners. These include ING, Nordea, UniCredit, Societe Generale, Commerzbank, Nomura, Lloyds, Santander, ABN AMRO, LBBW and DZ Bank.

“If banks don’t have a US franchise they cannot justify having such big teams and will have to streamline. It is a worry which is at the forefront of discussions in a lot of European banks right now,” the second banker said.

Not every deal can go to the US or access the high-yield bond market and there is still a role to be played for European banks on the smaller to mid-market, less headline-grabbing deals for new financings, refinancings and amend and extends. The European leveraged loan market could return to being more akin to a domestic market.

“The big deals will go to truly international teams, so the smaller European banks will have to exist on a diet of smaller European deals which could get clubbed, so there is no need for as many syndicators,” the syndicate head said.

As more deals finance in the US, Europe will be left with smaller transactions: “The market will cut itself off at a certain size and type,” the investor said. “Europe will once again become a domestic market of mid-market transactions. All these banks won’t need the well-manned desk of highly paid people.”

Sponsors seem pleased with the availability of different pools of liquidity, hoping access to them will become more certain, in turn leading to a more rational and less volatile market, which is no longer either open or shut.

Sponsors say that this certainty of funds would lead to more primary deals and bolster M&A. However, whether they opt to fund these deals in the European leveraged loan market remains to be seen.

“European banks will be forced to realise that the traditional relationship-based lending approach does not work anymore and Europe is an uncompetitive product as long as access to the US or high-yield market is available. This is a wake-up call to more traditional lenders that if they want to keep things the way they have always been, they will go out of business,” a sponsor said. (Editing by Christopher Mangham)

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