May 18 A lack of new European leveraged buyout loans is forcing banks to become increasingly competitive in order to win mandates, which is driving down underwriting fees and creating more risky loan structures. Sponsors are taking advantage of low deal-flow to drive very aggressive, highly levered structures from large groups of competing banks when they are bidding for a company in auction stage. Around 18 banks are backing one of the private equity trees on the sale of European glass bottle maker Verallia, while around 15 banks are competing to fund Nordic Capital's bid for Germany-based wheelchair manufacturer Sunrise Medical. Leveraged multiples are being pushed, not only for the larger deals but the smaller deals too, frustrating many banks uncomfortable with the high levels of risk. Bankers are working on a first and second-lien loan structure totalling 6.5 times leverage for Sunrise Medical, which has 40 million euros ($45.60 million) of Ebitda."There are not enough deals and banks are being stupid, it is going to get ugly," a leveraged loan banker said. Banks are also offering covenant-lite loans on large and small credits and very aggressive documentation around a borrower's ability to raise extra debt for acquisitions and dividend payments.
At such aggressive levels, some bankers question whether lenders will be able to remain in each process, or if the risky structures will see a majority of banks fall away."On Verallia, there are 18 banks but in reality only two or three banks are actually reading the papers and commenting, while the others are just saying yes. In a lot of these auction processes, many of the banks are driving aggressive terms to keep the sponsor happy but then fall off a cliff and stop returning calls at the eleventh hour when they read the documents and realise how bad things are," a second loan banker said. While some banks are able to offer very aggressive terms on structure and pricing, it is unclear whether institutional investors will buy the paper despite having a vast amount of cash to put to work. Having lost money on a number of deals last year, including French retailer Vivarte, investors have kept a certain amount of discipline when it comes to investing in riskier credits.
A number of bankers are hoping some of the super-aggressive banks will be left long and unable to sell paper on a deal, in order to bring some discipline back to the market."Some bank is going to get pasted with one of these deals, which won't be good but it needs to happen to shake things up a bit," the loan banker said. UNDER PRESSURE
US banks are also experiencing pressure on structure and pricing but they have so far held out on underwriting fees. A more over-banked European market is feeling the pressure on fees and some lenders are offering borrowers discounts in order to undercut the competition. A reasonable fee on an underwriting is between 2 percent and 2.25 percent but some banks, including investment banks, have dropped fees to as low as 1.5 percent to 1.75 percent, according to bankers."When there are so many banks and so few deals, there is going to be pressure on fees. You can try to fight it but there are idiots out there willing to do things cheaply and as a result, we will all suffer," a third banker said. Sponsors and banks are also exerting as much control as possible when it comes to the allocation of deals. Some sponsors are having a large say over the process to make sure paper is kept with their most favoured funds, at the expense of other investors. Where sponsors are leaving it to the banks to sort out allocations, some banks are holding back paper in an effort to sell it on at a profit after the deal has been allocated and traded higher on Europe's secondary loan market. Despite being a questionable process, it is likely to continue to occur, especially if banks try to make up for lost underwriting fees."Banks are typically not charitable institutions as they have a bunch of shareholders that need to be kept happy, but it is obvious that if there is not enough out there then banks will be scrabbling to do things and things will get tweaked in a borrowers favour, which is painful and challenging," a fourth banker said. ($1 = 0.8771 euros)