UK debt market rebounds in response to lower yields

A total of €2.1bn of debt was issued in the three months from July to September in the UK this year, compared to €1.9bn for the same period last year. The 9% increase was mainly due to opportunistic refinancing and recapitalisation activity as a result of lower loan yields, according to the debt adviser.

On the pricing side, institutional spreads in the UK averaged 488 basis points over the quarter. This was partly due to the central bank monetary easing in response to the Brexit vote, as well as the large euro-denominated loan for the refinancing of UK-domiciled Froneri – priced at Libor +300 basis points – bringing the overall average down.

European volumes fared even better than the UK, with loan issuance up 73% compared to the same period last year at €18.4bn. Overall year-to-date volumes are now in line with 2015, as the surge in last quarter's activity compensates for 2016's weak first quarter.

September saw the largest monthly volume in the European high-yield market's history, at €13bn

Although not additional issuance, the European loan market was further bolstered by a record number of repricings in Q3 2016, at €8.5bn. Of note is that a record 60% of the €18.4bn total European loan issuance was covenant-lite, as borrowers take advantage of the competitive landscape and the debt markets being awash with cash.

The European high-yield market continued to feel the fall-out from the Brexit vote at the start of the quarter. However, despite a subdued start, the market recovered and September saw the largest monthly volume in the market's history at €13bn. This gave the quarter a total of €18.8bn, 12% higher than the previous quarter and 81% higher than Q3 2015.

Fund level financing
Since the levels of debt liquidity remain high, sponsors continue to look for ways to put money to work and enhance returns for their investors. In its report, Marlborough also noted the increasing number of requests from sponsors for fund level financing. This is a type of "third-party financing" that traditionally sits at the GP fund level and therefore does not require the consent of the incumbent debt holders to the portfolio company. Most LP agreements allow for a capital call in this way.

The security to the third-party lender would typically be a claim over undrawn LP commitments. In a typical case, a GP might borrow £10m and the third-party lender will typically have a claim over £15m of undrawn LP commitments in return, since lenders usually request 50% headroom over their loan amount.

"[Fund-level financing] is a layer of debt financing that gives GPs an alternative to the typical route of raising debt at the portfolio company level to, for example, fund an add-on acquisition. Alternatively it can be used to allow GPs to return capital to LPs without having to divest portfolio companies," says William Allen of Marlborough Partners.

Some banks such as RBS, Lloyds and Wells Fargo already do vanilla fund level financing – for instance to bridge draw-downs from LPs – but there are also dedicated providers of third party funds such as Vision Capital and 17Capital, which are increasingly present in the market.

These funds can provide a more bespoke product and take a more flexible approach, such as offering few or no covenants, 100% payment-in-kind interest and long-dated maturity. In these instances, rather than the undrawn LP commitments acting as security, a lender might use the net asset value of the equity portfolio to underpin the finance. Such arrangements would typically be more appropriate towards the end of a fund's life, owing to reduced residual LP equity available to be used as collateral. 

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• Topics
• Financing
• Top story
• Marlborough Partners
• Refinancing
• Recapitalisation
• Fund financing