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European leveraged finance: From survive to thrive

What's inside

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

Foreword

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
Hitachi Energy

Five factors driving leveraged finance in 2022

  • Supply chain risks are going to be of increasing concern for lenders 
  • Inflation and interest rate rises may influence deals, even if they do not shift the market
  • Private equity (PE) is still on a spending spree that will influence debt market decisions
  • Lenders searching for yield will finance riskier credits on the right terms
  • Terms and documentation will continue to be influenced by credit quality, sector and rating
Sunrise in the Quartier de la Défense

M&A financing keeps the leveraged finance market beating

  • European leveraged loan issuance for M&A (excl. buyouts) climbed 19% year-on-year, reaching €54.9 billion in 2021 
  • High yield bond issuance for deals jumped to €17.8 billion in 2021, a 53% gain on 2020 
  • European M&A deal value came in at US$1.3 trillion in 2021—just shy of the record set in 2007 (US$1.4 billion)
Aerial view of the skyline of Frankfurt at sunrise

Buyout momentum paints a strong picture for issuance in 2022

  • 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
Sun rising over Tower Bridge

European CLOs and the unstoppable impact of ESG

  • New European collateralised loan obligation (CLO) issuance in Europe is up 75% year-on-year, reaching €38.5 billion in 2021
  • CLO issuance intended for refinancing and resets came in at a record €57.5 billion for the year
  • By July 2021, 34% of the EU's total assets under management was compliant with the region's new Sustainable Finance Disclosure Regulation (SFDR), and this is expected to climb to more than 50% in 2022
high-rise buildings

From recurring revenue to sticky customers: The trends driving tech sector issuance

  • Leverage loan technology and computer-related issuance in Western and Southern Europe almost doubled from annual pre-pandemic levels to €19.9 billion by the end of 2021
  • Technology and computer-related high yield bond issuance in the region hit an all-time high of €7.3 billion by the end of 2021
  • Start-up debt issuance in Europe had already reached a record annual total before the end of Q3 2021
sunset over the bridge

US versus Europe: Will their shared path continue in 2022?

  • In the US, leveraged loan issuance for 2021 reached US$1.4 trillion, a 63% increase year-on-year
  • The high yield bond market in the US was relatively flat, rising from US$428.3 billion in 2020 to US$429.7 billion in 2021
  • In comparison, in 2021, the leveraged loan market in Western and Southern Europe increased by 28% year-on-year to €289.7 billion
  • The region's high yield bond market during that period was up 47% year-on-year to €148 billion
The skyline of Frankfurt is reflected on the river main at sunrise

European leveraged debt in focus

Selected European leveraged loan and high yield bond markets by volume and value

 

Conclusion

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.

sunset over the arch bridge
sunset over the arch bridge

European leveraged finance: Conclusion

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.

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As we enter 2022, there are plenty of reasons to be cautious about leveraged finance in Europe. The economic impact of the latest COVID-19 variant remains an unknown quantity, inflation continues to climb and rising interest rates look increasingly likely—the UK was the first major economy in the region to raise rates and the EU may follow suit.

€289 billion

The value of leveraged loan issuance in Western and Southern Europe in 2021

And yet leveraged finance activity continues to defy expectations. Last year saw the highest annual total value for leveraged loan and high yield bond issuance in Western and Southern Europe on Debtwire Par record. Meanwhile, direct lenders raised record levels in their funds and deployed them in a record-setting year in 2021, including in the private equity (PE) space where direct lending is finding increasing inroads.

€148 billion

The value of high yield issuance in the region in 2021

As outlined in this report, the drivers for this activity were clear. Refinancing issuance in the first half of the year accounted for approximately half of all leveraged loan and high yield bond issuance. M&A deal value in Western Europe climbed to its highest level since the global financial crisis, establishing a steady stream of financing that has not yet reached its conclusion.

Where does this leave European leveraged finance for the year ahead?

Focus on future drivers

There are several pockets of activity worth watching over the coming period.

First, M&A activity—coupled with private equity's ongoing buyout spending spree—has a way to go.

Year-on-year high yield bond issuance supporting M&A (excluding buyouts) climbed by more than 50% in 2021, while buyout-linked issuance more than doubled. There was also an 19% year-on-year jump in non-buyout M&A leveraged loan issuance, with buyout issuance up 81%.

Much of this was down to a spike in megadeals in Europe in 2021, with more than 150 deals worth at least US$2 billion and seven worth at least US$20 billion recorded last year, according to Mergermarket, including the US$31 billion tie-up of Vonovia and Deutsche Wohnen. And where M&A goes, issuance follows.

Second, on the PE side, sponsors spent more than US$300 billion in 2021, almost double the year before and the highest annual value on Mergermarket record—a trend that is likely to continue in 2022. Many PE firms have already raised material new funds or are in the process of doing do, and those will need to be deployed. All of this feeds into debt and equity markets and will keep things moving in the year ahead.

And third, while the latest variant in the pandemic will likely continue to influence decisions for lenders and borrowers alike, environmental, social and corporate governance (ESG) issues will remain on everyone's radar. The onset of ESG financing has created new opportunities for the market and this can be anticipated to grow in 2022.

For many, it's a question of regulations. The EU's Sustainable Finance Disclosure Regulation, which came into effect in March 2021, 'lays down sustainability disclosure obligations for manufacturers of financial products and financial advisers toward end-investors'. More detailed information will be required from lenders in Europe hoping to hook their wagon to the ESG train—any hint of 'greenwashing' will not be tolerated.

At the same time, where available, margin ratchets linked to ESG or sustainability criteria will offer borrowers a potential means to reduce the cost of debt, especially notable if interest rates rise. This also allows lenders to cast their net wider in pursuit of yield, giving them a means to lower risk on credits that they might otherwise not pursue. It's a win-win scenario for both parties that could create a more sustainable finance and investment market.

Lenders and borrowers should prepare for another busy year, but keep in mind that these big waves of activity will not last forever. Ride them for as long as you can, but be ready to batten down the hatches for the next storm.

This publication is provided for your convenience and does not constitute legal advice. This publication is protected by copyright.
© 2022 White & Case LLP

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