US cov-lites creep into European mid-market

Author: Lizzie Meager | Published: 22 Jul 2015
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Mid-market European loans are beginning to adopt the features of larger US deals, according to market participants.

A Travers Smith and Debtwire report on private equity financing in Europe found that an influx of alternative debt options has caused a flood of liquidity, and increasingly borrower-friendly terms as a result.

"The high-yield bond market has taken a huge chunk, large cap syndicated term loan B deals are being sold into the US to institutional investors, and various leveraged loan funds are providing unitranche and other financing," said Anthony Ward, partner at Shearman and Sterling’s London office.

While traditional bank lenders are still active in the market, they’re now playing a much smaller role, he added.

Alternative debt instruments accounted for 65% of PE financing over the past 12 months – a major shift from pre-2008 levels – and 60% of loans issued in the same period were either cov-lite or cov-loose.

"Losing that control, which you’ve become very used to – especially for a bank – is a big step to take," said Nicholas Smith-Saville, senior analyst at Debtwire, who co-authored the report.


  • A Travers Smith/Debtwire study of the European loan market found that 65% of all PE financing over the past year came from non-bank sources;
  • Market participants said excessive liquidity paired with increasingly onerous banking regulation has caused a power shift in the favour of the borrower, with many characteristics common of US large-cap deals incorporated into the European mid-market;
  • The study also found that 60% of all loans over the past year were either cov-lite or cov-loose

Jörg Wulfken, partner at PricewaterhouseCoopers in Frankfurt, agreed that a number of new non-bank lenders – particularly insurance companies – has led to a loosening of terms in all respects.

"It’s certainly a borrower-friendly cycle we’re in at the moment," he said. "I’m interested to see how the new regulation impacts this cycle."

Banks in Europe are being hit by a variety of regulations; most significant is a proposed structural reform that would require the separation of their retail and investment banking activities. If it is implemented, this could see banks retreat from the European market, which would ultimately give rise to further diversification of debt instruments.

But that isn’t the only issue. The highly liquid market is also the result of central banks’ monetary easing, which has meant favourable rates for borrowers – with rates as low as 5.5% for term loan B transactions.

Slow but steady

Wulfken added that this has been a gradual process which has only really come to the fore over the past 12 months.

But while there has been an overall noticeable shift, there is still fragmentation between large-cap and mid-market transactions.

"The more attractive features of the bigger deals are now creeping into the mid-market transactions [deals with debt facilities below $300m]," added Ward. "For example, the European loan market historically allowed very little flexibility to incur additional debt without lender consent – that’s now changing."

Covenant headroom has also crept up in favour of the borrower. While historically this figure has sat at around 25%, Ward explained that 35% is now more common.

But market participants are divided over whether a decline in lender protection is a genuine cause for concern.

"History and analysis from the US suggests cov-lite recovery rates are no worse than deals featuring full covenants," said Ward. "But it remains to be seen whether that will be true in the European context, where insolvency regimes are very different from the US."

See also

Cov-lites German growth dampens optimism

Dry powder drives new PE trends

Australian intercreditors must adapt to US cov-lite