1.  Everything Sounds Good, until it doesn’t

• In Europe last year around 1/3 of all syndicated investment grade loans were ESG-linked, skewed by some large deals e.g. Shell’s $10bn RCF.  The European leveraged loan market has come on board, with $15bn of ESG-linked loans in Q1.  Part of this is borrowers seeing another way to exploit the very hot market for leveraged loans to achieve lower borrowing costs.
• The US debt markets have been much less focused on ESG and the first ESG-linked US leveraged loan was only in January this year.
• Last week I mentioned a new $1.6bn financing from HIG-backed TKC Holdings (food vending in prisons) which for years has had no problems attracting lenders.
• Incidentally, I think it would be impossible to work out what TKC does from its home web page: “We specialize in leading distinctive market segments by offering superior products and unmatched customer service” which could literally be any service or product.
• It seems that lenders this time threw the gruel back in the face of TKC: only half of the loan could be placed and the rest was filled with more bonds, with most of the bonds pricing at 10.5% yield.
• But investors did buy the bonds, proving that bond investors have less morals than banks or loan funds.
• Back in Europe, Allied Universal successfully sold $6bn of debt to acquire G4S, which has had so many ESG problems that there is an entire Wikipedia page devoted to listing them all.  Allied’s arrangers took no chances, choosing to attack $, £ and € markets in high yield and loan format.
• Global Capital raised an interesting question recently: will the allegations of sexual assault at many of the UK’s private schools stop them getting cheap long dated financing that they have enjoyed for years? Much of this has been provided by Pricoa and BAE’s pension fund.
• Also noted: plenty of “brown” borrowers such as ArcelorMittal and the Australian Port of Newcastle have recently raised “sustainability linked loans” ahead of the rules being tightened, with National Australia Bank being criticised for its role on this loan.  ESG loan guidelines are being harmonised with ICMA bond guidelines – which are less accommodating of borrowers’ desires to use their own metrics and in particular consideration of “Scope 3” emissions along the entire supply chain.  Tesco is fairly typical of borrowers which find a reason to omit Scope 3 from their KPIs.

2.  Sap rising -> M&A lift-off

• It seems that getting vaccinated has emboldened management teams to launch a number of acquisition processes – we are working on a number of acquisition financings in the UK and Europe.  Some key themes.
• Bank appetite to lend and underwrite is strong, even for trickier deals like smaller sterling corporate loan deals.
• There’s appetite for “sole underwrites” for the right deal – in fact, one or two banks prefer this, to maximise fees.
• Given the choice, banks still prefer to bridge to non-loan solutions like private placement bonds and high yield – however, with the right encouragement, banks will also underwrite 5-year loans for syndication.
• Banks’ views remain diverse: some banks are falling over themselves to be involved while others prefer to pass, which makes it more important than ever to identify the right banks for the deal.
• Getting the deal structure right is essential, as is embedding the debt workstream with the diligence and equity story.
• We continue to believe most UK equity investors would prefer modest leverage (up to 2-3x) even though some banks are willing to go higher.
• Interestingly, for one of our clients recently, equity market valuations mean that EPS accretion was better with more equity and less debt.  But the deal will still have some debt …

3.  “Is leverage still the best benchmark of credit risk?”

• Back in 1998, the NY Fed said “leverage can kill you”, after the implosion of LTCM.  We’re a bit more nuanced: leverage can be fine if refinancing risk (including early repayment if covenants are breached) and interest rate risk are well-managed.
• Most analysts generally leverage as Debt / Earnings (normally EBITDA), being a proxy for how many years it would take to repay.
• Surprisingly, this is a relatively recent invention: this 2003 textbook on credit analysis cites only Debt / Equity and Interest Cover as the key “leverage” ratios.
• Based on some research by Barclays, the FT asked recently asked “Is leverage still the best benchmark of credit risk?”
• Betteridge’s law of headlines would say the answer is “yes”.
• Barclays’ argument is that lower interest rates and lower US corporate tax rates mean that any given amount of debt is more sustainable than ever before.  That’s all fine but is this simply another way of saying “this time it’s different”?
• Maybe everything has changed: the Bank of England Base Rate has been below 1% for over 12 years and the new hottest crazes are Non-Fungible Tokens and DogeCoins.
• In passing, I found out this week that Buffet originally preferred “EBDIT” which didn’t catch on but I suppose is more logical given the order of the P&L statement.

UK Financings this week

• Card Factory is set to agree a refinancing structure for its £200m RCF following negotiations to extend waivers a second time.
• WH Smith increased its RCF to £250m (from £200m) for another 4 years alongside a £325m convertible bond.
• Tullow Oil refinanced its entire capital structure and replaced the RBL with a giant $1.8bn high yield bond paying 10.5% - on trading, the bonds immediately leapt to 103 indicating Tullow left over $50m of value on the table when pricing the bonds.
• Persimmon has refinanced their £300m RCF with Santander, Barclays, HSBC, Lloyds & NatWest for another 5 years.
• Dixons Carphone has refinanced £1.05bn of debt into a new 5-year £550m RCF.
• Schroder UK Public Private Trust refinanced their £107m TL into a new 3 year £55m RCF with Northern Trust.
• Believe Housing has agreed a £85m USPP linked to their energy transition with LGIM.
• Weir Group issued a €500m sustainability-linked bond with 25bp coupon step if targets not met.
• Joules switched its £34m RCF from Barclays to ESG-linked as it extended to 2024.
• Sanjeev Gupta’s GFG Alliance has agreed terms to refinance its Australian business in full and has apparently obtained £200m from White Oak, which was news to Credit Suisse.  I’ll believe it when I see it …
• LondonMetric refinanced its entire £780m debt with Green RCFs from Wells Fargo and the UK clearers (2bp margin step), and also £380m of private placement paying 2-2.5%.