Banking on bedfellows and bolt-ons - A leveraged lender's view on the year ahead

01 January 2009

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The maximum transaction size that the leveraged market can support is now significantly smaller than in recent years given the reduced number of banks and funds which are active in the market. The return of the jumbo transaction looks unlikely in the near to medium term.

In the first half of 2009, any potential large transactions will need to be structured as clubbed take-and-hold positions by the MLA banks that still have appetite to fund new deals. There is only likely to be modest underwriting in the first six months of 2009 as there are fewer investors for the MLAs to sell the debt to than in previous years. Consequently, the mid-market segment, which has less sell-down requirements, is likely to see the most activity.

Relationships have always been important, particularly in the mid-market, but they will become key over the next few years. I suggest those banks that are operating in the leveraged finance arena in 2009 - and there is little doubt that this will be a relatively small group compared to the first half of 2008 - are likely to be very focussed on where they allocate their capital. If they are approached by a sponsor with a potential deal opportunity in 2009, banks may not just be assessing the relative merits, or otherwise, of the prospective deal. They will be asking themselves: how well do we know the private equity house? what have they shown us in the past? and what is their track record?

Embedded relationships will also become increasingly vital as, until now, it has always been incumbent on a bank to develop the relationship with a target private equity house in a particular sub section of the leveraged finance market. However, sponsors should now be asking themselves how well they really know their core banks and the extent to which these relationships are established through all levels of their teams. Sponsors that are relatively detached from their banks could find it more of a challenge to gain access to a limited supply of bank debt.

I would be very surprised if we did not see existing "buy-and-build" platforms owned by sponsors taking advantage of market conditions with further bolt-on acquisitions in the next twelve months. Those "buy-and-build" vehicles which have an established critical mass should be particularly well placed from a debt perspective as they are likely to be able to support some further leverage. By the same token, existing portfolio investments may find they are able to purchase struggling competitors or strategically aligned targets by taking on some additional debt.

For the moment though, high vendor price expectations are impacting potential deal volumes. The EBITDA exit multiples vendors are aspiring to are a number of turns higher than where they should be and it may take a little while longer for reality to catch up.

When that tipping point is reached, we should witness an increase in potential targets within both privately-owned and listed companies, with the advisory and private equity community quickly putting these potential transactions on the table for lending bankers to inspect and review. This should give sponsors some interesting opportunities to buy at a low base and drive value creation through deals which are sensibly structured and leveraged. Well chosen investments of the 2009 vintage have the potential to make great drinking in 2011 and 2012.

Ian Sale, managing director, Lloyds TSB Corporate Markets, is responsible for the Bank's mid-market leveraged finance team in London.