Shifting Tides: Decoding the
Credit Markets, Structuring
Debt in Volatile Times
June, 2012
Sycamore Associates LLC
September, 2008: Try to Remember
(“Hell is empty, and all the devils are here”…Shakespeare, The
Tempest)
• Sunday September 14, 2008: Lehman files for bankruptcy
protection AND Merrill Lynch is sold to Bank of America
• Monday September 15: Dow down 504, worst day in 7 years
• September 16: AIG Liquidity Crisis, Fed takes 79% stake
• September 19, Fed offers temporary increase to FDIC
insurance to prevent run on banks
• Previously: Bear Stearns failure, Citi capital raising
• Bank failures highest in 13 years
• Regulators onsite at I-Banks
• GM, Chrysler File for bankruptcy
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Bank Capitalization Issues and
the Ripple Effect: Then
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Capital Strains=Tight Credit
Higher Cost of Capital, for all Financials
New Ownership
Strategic Changes
Credit Scrutiny
Down grades “ as abundance of caution”
Changes in return disciplines
New regulatory environment
TARP implications
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Current Events
September 2009
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Default rates: August 20,2009: Moody’s announces it believes default
rates will NOT go as high as previously predicted (15%). Moody’s cites the
re-opening of the high yield bond market as a positive factor
Bond Market trends: Capacity is still good
Does success in IGR really translate to other markets? High Yield Market
re-opens with $71B issuance YTD, a causative factor for the Moody’s
prediction regarding defaults
Private Placements: will investors go for a broader swath of credit
profiles? Still to be seen
We begin to see 3 year revolvers,
Amend and Extend
Some banks have repaid TARP funds
Regulatory issues remain hanging over the heads of banks, especially
those with TARP funds
Credit underwriting is still paramount, but
– We have heard our first comments from banks looking ahead to create
earnings for 2010, if not 2009
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Then the World Turned..2010
was a Very Good Year
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Syndication loan market volumes rebound
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Non-sponsored lending peaks in 4Q; recovers from 2009 lows
• Refinancings drive bulk of loan issuance; new money picks up in 4Q
• Competition intensifies; terms continue to loosen
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Sponsored issuance logs second highest quarter, continues to gain
market share
• Dividend recaps hit a new quarterly record
• LBO lending increases
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Institutional issuance recovers from 2009 lows; still half of 2007’s peak
levels
• Yields tighten to pre-crisis levels
• Middle market premium narrows in December
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Flash Forward, Spring and
Summer 2011
Spring….
• AT&T $20B bridge loan – underwriting
followed by immediate syndication
success
Summer….
• Express Scripts $14B bridge loan –
underwriting followed by successefull
syndication but….European banks
appetite limited
Sycamore Associates LLC
confidential
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Flash Forward, Spring and
Summer 2011
What next?
• Euro debt concerns continue
• Euro banks talk about liquidity
• Banks are eager to lend, but…a more
cautious note has emerged
• M&A catching fire?
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Ripped From the
Headlines……
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Back to the Future
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Covenants and Structure: Investment Grade and Leveraged
Trends – 1997 to 2010 (source: ThomsonReuters LPC)
BBB rated borrowers see increase in market
share of loans with one to two covenants
Covenant levels in the investment grade market have
loosened so far this year when compared to 2009, evidence
that the market is easing back towards issuer friendly terms.
Another sign highlighting this shift is that there are fewer
covenants appearing in deals. For packages which included
at least one financial covenant in 1Q-3Q10, 43% of deals for
BBB rated borrowers contained only one covenant compared
to 39% in 2009. Similarly, 49% of 1Q-3Q10 packages
contained two covenants compared to 38% in 2009. On the
higher end of the spectrum, covenant deals with 3 covenants
decreased from 17% in 2009 to only 5% for 1Q-3Q10.
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Debt to EBITDA cap loosens for leveraged issuers
Covenant levels in the leveraged loan market have been loosening
in 2010 compared to last year, a sign that lenders are willing to ease
up on structure in order to stay competitive. For leveraged deals
with an institutional tranche, the average maximum debt to
EBITDA ratio was 4.97 times in 1-3Q10, much higher than 2009's
average of 4.48 times, and even higher than 2008's 4.84 times. For
pro rata credits, the average debt to EBITDA level has jumped to
4.5 times for 1-3Q10 compared to 3.81 times in 2009.
State of the Refinancing Wall
• Amend and extend has helped push
maturities out
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High Volatility Becomes a
Trend
• Many well-managed companies are wellpositioned with cash and low debt levels
• A more cautious tone prevails with a
renewed focus on structure and ‘story
specifcs’
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LIBOR Floors: going, going…….back?
Half of deals in Q4 2010 had LIBOR floors
Only 11% had one in Q1 2011, BUT:
Update
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The Risk On, Risk Off Teeter
Totter
• Drivers
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Biding Time – Safety at the Short
End
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Uncertainty Abounds: this
train could stop
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Geopolitical
Economic
Housing Market
UK economy struggles
Germany robust
Dollar woes
Debt, Debt, Debt
Return pressures
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Regulation Matters
• Regulation is the new driver at banks and
other financial institutions.
– Dodd Frank (US) – “proprietary trading”
– Basel (global) – leverage ratio and liquidity
requirements will results in significantly
higher capital over the next few years
– Jamie Dimon, CEO, JPMorgan: “Lending costs will increase,
depending on the type of customer and the type of loan. It is
possible that some companies may no longer go to banks for
loans.” (September 2010)
– 2012: Peer to Peer lending emerges
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Regulation Abounds
• Basel III
– Liquidity coverage ratio
– Net stable funding ratio
• Dodd Frank and the Volcker Rule
• Leveraged Loan Guidance (in the US)
• Various other rules: FATCA
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Regulation Matters to All of Us
• Higher capital and liquidity requirements
will most likely mean more focused client
relationship lending (and/or higher
borrowing costs) as rules are
implemented
• The playing field may not be level
– Timing of implementation may vary globally
– Some differences in local rules
• Systemically important financial
institutions (SIFIs) face higher
requirements
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Impact of Regulation
• And what of the “shadow market”…
• We are living through a “case study” in
credit, markets and regulation
• Peer-to-Peer lending: John Mack leads the
way?
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Conclusion: What are the biggest issues/changes
facing the loan market?
Aggregated survey responses across themes
– Overall
– Slowing global growth and deepening Eurozone sovereign debt crisis
– European banks facing funding constraints, changing strategies
– Rising costs of funds across geographies
– Leveraged finance
– Shorter, steeper cycles? Technicals swing between polar opposites: from overheating to
over-correcting
– Aging CLOs are not being replaced proportionally
– Challenges in underwriting with an evolving investor base
– Investment grade market
– Variability in bank behavior – higher probability of surprises
– Will market continue to digest bank pullback? How much pressure will this put on
capacity?
– Basel III and changes to internal models which dictate pricing must go up coupled with
shorter tenors; Unfunded RCs will become prohibitively expensive
Sycamore Associates LLC
Source: Thomson Reuters LPC Quarterly Survey
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Appropriate Markets? Who
Invests?
• Senior debt:
Unsecured
• Public Debt
• High-yield and
Secured Debt
• Asset based
• Mezzanine
• Equity or equitylinked
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• Banks, Insurance
Companies
• Funds, Insurance
• Hedge funds,
Insurance Co.,
some banks
• Banks and finance
Co.
• Funds and PE
• Public and PE
confidential
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Europe vs. US vs. ASEAN
• Markets Linked but not Lockstep
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Update on negotiating changes
• Boilerplate changes
• LIBOR floors, etc
• fees
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Market Today
• Trends and outlook
– Global market
– Investment grade
– Leveraged
• Overview of Pricing
• Regulatory developments
• Future themes for the loan market
Sycamore Associates LLC
Global syndicated lending dropped 30%
to $646 billion in 1Q12
Global syndicated loan volume
1,400
Americas
EMEA
Asia-Pacific (ex Japan)
Japan
1,000
800
600
400
200
0
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
1Q08
2Q08
3Q08
4Q08
1Q09
2Q09
3Q09
4Q09
1Q10
2Q10
3Q10
4Q10
1Q11
2Q11
3Q11
4Q11
1Q12
Issuance ($Bils.)
1,200
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Source: Thomson Reuters LPC
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Year-over-year, lending in EMEA shows
biggest drop
Change in issuance year over year
150%
Americas
125%
EMEA
Asia-Pacific (ex Japan)
100%
75%
25%
0%
-25%
-50%
-75%
-100%
-125%
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3Q11
4Q10
1Q10
2Q09
3Q08
4Q07
1Q07
2Q06
3Q05
4Q04
-150%
1Q04
% change y-o-y
50%
Source: Thomson Reuters LPC
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1Q00
2Q00
3Q00
4Q00
1Q01
2Q01
3Q01
4Q01
1Q02
2Q02
3Q02
4Q02
1Q03
2Q03
3Q03
4Q03
1Q04
2Q04
3Q04
4Q04
1Q05
2Q05
3Q05
4Q05
1Q06
2Q06
3Q06
4Q06
1Q07
2Q07
3Q07
4Q07
4Q07
1Q08
2Q08
3Q08
4Q08
1Q09
2Q09
3Q09
4Q09
1Q10
2Q10
3Q10
4Q10
1Q11
2Q11
3Q11
4Q11
1Q12
Issuance ($Bils.)
In the US…1Q12 leveraged lending was up 42%;
investment grade was down 54% vs. 4Q11
U.S. Loan Issuance
300
Leveraged
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IG
250
200
150
100
50
0
Source: Thomson Reuters LPC
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22% of lenders struggle with
capital constraints
Quarterly survey results
U.S. IG New money vs. refis
300.0
New Money - Non-M&A
New Money - M&A
Refinancing
• Capital constraints?
• 22% of investment grade lenders are more
constrained this year with regard to total
availability of capital
• 11% are less constrained
• 67% have the same amount of capital
250.0
• Outlook for the refinancings pipeline this year?
• 11% say anemic
• 67% say slow but steady
• 22% say robust
150.0
100.0
• Will the make-up of bank groups change in 2Q?
• 42% say yes
• 29% say maybe
• 29% say no
50.0
0.0
1Q03
3Q03
1Q04
3Q04
1Q05
3Q05
1Q06
3Q06
1Q07
3Q07
1Q08
3Q08
1Q09
3Q09
1Q10
3Q10
1Q11
3Q11
1Q12
Loan Volume ($ Bils.)
200.0
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Source: Thomson Reuters LPC; TR LPC’s Quarterly Survey
Higher quality issuers continue to utilize
MBP
Volume of IG loans structured with Market Based Pricing
100
90
80
70
($ Bils.)
60
50
40
30
20
10
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Source: Thomson Reuters LPC
1Q12
4Q11
3Q11
2Q11
1Q11
4Q10
3Q10
2Q10
1Q10
4Q09
3Q09
2Q09
1Q09
4Q08
3Q08
2Q08
0
Longer tenors continue to
dominate structures
Tenor distribution by rating
200
175
AA
AAA
BBB
A
125
100
75
50
25
364 day
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3 year
4 year
1Q12
4Q11
3Q11
2Q11
1Q12
4Q11
3Q11
2Q11
1Q12
4Q11
3Q11
2Q11
1Q12
4Q11
3Q11
0
2Q11
($ Bils.)
150
5 year
Source: Thomson Reuters LPC
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1Q12 High yield bond issuance reached
$91 billion, breaking 4Q10’s $83 billion
record
Annual & quarterly institutional loan and HY bond volume
200.0
HY Bonds
180.0
Institutional
Loans
160.0
Issuance ($ Bils.)
140.0
120.0
100.0
80.0
60.0
40.0
20.0
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3Q11
1Q12
1Q11
3Q10
1Q10
1Q09
3Q09
3Q08
1Q08
1Q07
3Q07
3Q06
1Q06
3Q05
1Q05
0.0
Source: Thomson Reuters, Thomson Reuters LPC
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$32 billion in HY bonds were used to pay down
loans in 1Q12; select issuers pursued A&Es
30% of HY bond proceeds were used to pay
down loans in 1Q12
A&E Volume
35.0
14.0
30.0
25.0
A&E volume ($ Bils.)
10.0
8.0
6.0
4.0
20.0
15.0
10.0
2.0
5.0
0.0
Source: Thomson Reuters LPC
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1Q12
4Q11
3Q11
2Q11
1Q11
4Q10
3Q10
2Q10
1Q10
4Q09
3Q09
2Q09
0.0
1Q09
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
Sep-11
Nov-11
Jan-12
Mar-12
HY bonds paying loans ($ Bils.)
12.0
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Refi activity drove leveraged
lending in 1Q12
Leveraged lending
250.0
Refinancing
New MoneyM&A
Institutional loan issuance only
150.0
New MoneyOther
Inst. New Money
Inst. Refi.
125.0
Institutional loan volume ($ Bils.)
150.0
100.0
50.0
100.0
75.0
50.0
25.0
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1Q03
3Q03
1Q04
3Q04
1Q05
3Q05
1Q06
3Q06
1Q07
3Q07
1Q08
3Q08
1Q09
3Q09
1Q10
3Q10
1Q11
3Q11
1Q12
0.0
0.0
1Q03
3Q03
1Q04
3Q04
1Q05
3Q05
1Q06
3Q06
1Q07
3Q07
1Q08
3Q08
1Q09
3Q09
1Q10
3Q10
1Q11
3Q11
1Q12
Leveraged loan volume ($ Bils.)
200.0
Source: Thomson Reuters LPC
US Market Indicative
Investment Grade Pricing
*spread
over
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LLC Libor
US Market Indicative
Leveraged Loan Pricing
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US Market Indicative
Mid-Corporate Loan Pricing
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Structure Guidelines and
Pitfalls
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Know your own credit profile
Research similar deals
Survey your bank group
Ask what risk rating your company has
internally
• Ask banks to share their return dynamics
with you
Sycamore Associates LLC
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Middle Market Fares Not As
Well
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Ugly Stepsister?
Less flexibility in covenants
Less pricing reduction
Still credit-profile driven
Update
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Covenants: The High-Grade vs.
Mid Market Divide
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More covenants in MM
Lower leverage thresholds
Higher coverage levels
Based on generally more conservative
underwriting standards
• Reflects recent experience of downturn,
lower capitalization, reduced access to
capital markets
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Pricing
• Dependent on many factors, including
sponsorship, asset support, but
• Generally can negotiate less:
• E.g. reduced guaranties, foreign
subsidiary requirements
• Baskets for acquisition and investments
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But What’s to Come?
True is it that we have seen better days."
- William Shakespeare, As You Like It, 2.7
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What Does the Future Hold?
• There are some clouds on the horizon…
– Impact of sovereign risk
• Funding costs are higher for many institutions
– Basel III capital regulations have stringent capital
AND liquidity requirements for financial institutions
• Phase in delayed for several years
– CRE still a huge issue among smaller regional
financial institutions
– Investor appetites
Sycamore Associates LLC
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Q and A
• Sycamore Associates
• Risk, Capital Structure and Treasury Solutions
• Winifred Pinet,
wpinet@sycamoreassociates.com
• Marcia Banks,
mbanks@sycamoreassociates.com
• Gina Strumolo,
gstrumolo@sycamoreassociates.com
• Newsletter, info@sycamoreassociates.com
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