European leveraged finance: From survive to thrive
European leveraged finance markets rebounded in the past 12 months, driven by enthusiastic refinancing activity and a resurgent M&A marketplace, setting the stage for a healthy year ahead
European leveraged finance markets look remarkably healthy as we enter 2022. This may come as a surprise, after 12 months of economic volatility underpinned by everything from a new COVID-19 variant to growing inflationary pressures. What does this mean for the months ahead?
The start of the new year is full of positives in the European leveraged finance market. There has been a clear shift from survival to growth strategies among lenders and borrowers, setting the stage for significant activity in almost all sectors.
The numbers paint a clear picture. European leveraged loan issuance climbed more than 25% in 2021, year-on-year. High yield bond markets in the region were even more enthusiastic, with issuance for the year up 47% on 2020's total.
Ongoing government support in the EU and the UK helped companies that might otherwise have fallen victim to the pandemic stay afloat. Low interest rates and pricing sparked a wave of refinancing. CLO activity—most of which was intended for refinancing and resets—pushed new CLO issuance up by 75% year-on-year.
A bottleneck of demand as well as significant private equity dry powder also brought a flood of new deal money into the market. Companies that were once hesitant to sell encountered enthusiastic buyers aggressively looking for targets. Buyers, meanwhile, found themselves in a better position to judge whether a potential target was likely to struggle or grow in 2022 and beyond. Lenders reaped the benefits, with high deal volume in which to participate. At the same time, unlike many other industries, European direct lending funds avoided any significant downturn in deployment and deal activity due to COVID-19. According to data from Debtwire Par, direct lending issuance in the region reached €36.2 billion in 2021, surpassing 2020's full-year total of €21.4 billion. This provided a liquid and competitive market for finance products.
Possibilities and pitfalls
Set against this positive backdrop, does the future look entirely bright for leveraged finance? Not necessarily—some challenges remain, and each may have an impact on European issuance.
For example, climbing COVID-19 case numbers driven by the Omicron variant may convince some corporates to hold on to their reserves. Any resulting new lockdowns or restrictions could also be the final straw for businesses that have already struggled during the pandemic.
Inflation and attendant interest rate rises are also likely to influence potential borrowing decisions in the coming months. The UK got the ball rolling with its first interest rate rise in three years in December 2021, and the EU may follow suit in 2022—despite claims to the contrary by the European Central Bank.
Any rise in the cost of debt will affect M&A and buyout activity, as well as financing. Some may pause while others—from corporates in good financial shape to PE firms with money to spend—may decide to invest in a post-COVID-19 future. Either way, M&A and buyout deals in the pipeline already suggest that issuance will remain healthy in the first half of the year at least.
And, finally, environmental, social and corporate governance criteria will be on the menu for every European business. New benchmarks due in 2022—from the EU's Sustainable Finance Disclosure Regulation to the European Leveraged Finance Association's updated Sustainability Linked Loan Principles—are already making lenders and borrowers sit up and take notice.
All this activity means the stage is set for companies hoping to thrive rather than simply survive. Lenders chasing higher-yield opportunities will be on the hunt for new investments, and borrowers can be expected to provide lenders with a healthy volume of demand for debt financing in 2022.
From survive to thrive: European leveraged finance looks to the future
European leveraged loan issuance was up by more than a quarter, year-on-year, to €289.7 billion in 2021
High yield issuance reached €148 billion in 2021, up 47% on 2020 (year-on-year)
Refinancing accounted for approximately half of overall leveraged loan and high yield bond issuance for the year
Both M&A and buyout activity saw double-digit year-on-year rises in deal-related issuance
A flurry of activity saw year-on-year leveraged finance issuance in Europe hit new heights in 2021. Can this pace be maintained in the months ahead? Based on pipeline activity and investor appetite for growth, the answer seems to be: Yes.
Buyout deal value in Western Europe hit an all-time record high by the end of 2021, more than doubling year-on-year
Private equity (PE) activity supported an 81% uplift in buyout loan issuance year-on-year, climbing to €66.7 billion in 2021
High yield bond issuance intended for buyouts reached US$15.4 billion in 2021—more than double 2020's total
A record-breaking year for PE deal activity in Europe supported a surge in leveraged loan and high yield bond issuance for buyouts in 2021, and points to a busy year ahead.
PE deal value in Western Europe in 2021 surpassed record annual highs posted more than a decade ago. Buyout deal value in 2021 totalled US$441.2 billion, more than double the total recorded in 2020. Deal value soared, as PE firms pursued transactions to put deployment timetables that were delayed due to COVID-19 back on track and invest the €185 billion mountain of dry powder available for European deals alone.
Reopening economies and improving growth prospects encouraged dealmakers to take on deals of increasing size—according to Mergermarket data, there were more than 50 buyouts valued at more than €1 billion in Western Europe in 2021. This trend may well continue in 2022 as firms continue to make up for lost time and capitalise on new opportunities.
Buoyant buyouts boost debt markets
As PE deal activity has rebounded and managers backed more mega-deals, leveraged loan and high yield bond issuance for buyouts has also bounced back, despite the pandemic's ongoing disruption with the emergence of the Delta and Omicron variants.
Leveraged loan issuance for buyouts in Western and Southern Europe climbed 81% year-on-year, from €36.8 billion in 2020 to €66.7 billion in 2021.
High yield bond issuance for buyouts has been even more robust, doubling its 2020 tally to reach €15.4 billion in 2021. Both leveraged loan and high yield issuance intended for buyouts had already cleared the full year 2020 total by the end of Q3 2021, according to Debtwire Par.
The higher volume of €1 billion-plus deals in 2021, including jumbo transactions such as the €12 billion take-private of UK supermarket retailer WM Morrison by Clayton, Dubilier & Rice (CD&R), has proven especially beneficial for European leveraged finance activity levels.
With average EBITDA multiples for median buyouts across all sectors rising from 12.3x in 2020 to 12.8x in 2021, according to Mergermarket, large deals like the CD&R/Morrisons tie-up will see a series of multibillion-euro debt packages come to market for financing.
This combination of higher valuation multiples and a rising number of jumbo deals in Europe is significant for lenders. Even though total leverage ratios in European debt structures have held steady in the 5.1x to 5.7x EBITDA range going back to 2017, the absolute amount of debt that PE dealmakers require to fund their structures increased in line with higher entry valuations and bigger deal sizes.
Buyout issuance in Western and Southern Europe also accelerated through the year, as refinancing activity cooled following a frenetic first half of 2021. European refinancing loan issuance, for example, climbed more than four-fold between Q4 2020 and Q1 2021, as a cluster of borrowers saw the strong lender appetite in the market and moved quickly to refinance existing debt packages at lower rates.
Moving into the second half of the year, however, refinancing issuance slowed, dropping by approximately a third between Q2 and Q3 2021. A gradual rise in pricing also made refinancing less appealing through the course of the year—average margins on first-lien institutional loans in Europe climbed from 3.71% in Q1 2021 to 3.84% in Q4 2021.
Slowing refinancing levels, however, have been a boon for buyouts, as lenders and syndication desks had more bandwidth to work through the pipeline of financing opportunities. Recently closed buyout financing deals include Italian industrial waste recycling business Itelyum locking in a €450 million senior secured high yield bond package following its acquisition by PE firms Stirling Square and Deutsche Beteiligungs AG, and Swedish building maintenance company Polygon landing a €485 million institutional loan financing following its secondary buyout by AEA Investors from European buyout house Triton.
There is little sign of the market slowing down in the months ahead. Buyout financing momentum continued apace in the final quarter of 2021, with the portion of the loan market earmarked for buyout financing climbing to an all-time high by October 2021, according to Debtwire Par. And some €6.5 billion of the €8.5 billion of institutional loans in syndication in Europe at the time stemmed from LBO transactions.
With some PE deals struck in 2021 still looking for financing as well as the completion of a bundle of auction processes that will also tap debt markets, involving the likes of Serrala and CeramTec, leveraged finance investors will be kept busy for some time yet.
White & Case means the international legal practice comprising White & Case LLP, a New York State registered limited liability partnership, White & Case LLP, a limited liability partnership incorporated under English law and all other affiliated partnerships, companies and entities.
This article is prepared for the general information of interested persons. It is not, and does not attempt to be, comprehensive in nature. Due to the general nature of its content, it should not be regarded as legal advice.