Against a backdrop of political and economic uncertainty, debt markets have witnessed an interesting shift with a broad range of lenders increasingly keen to support lower mid-market businesses. Our most recent data shows that the volume of businesses being bought and sold and valuation multiples for those companies remain firm. Lenders are playing their part in supporting these valuations by providing consistent access to capital.
The steady rise in debt multiples in these valuations is being driven by the growth of private debt funds who are taking market share from the clearing banks. Debt funds have shown an ability and willingness to price risk in a more flexible way than the more heavily regulated banks. In comparison, banks are being more selective and cautious when choosing which companies and sectors to lend to.
We have witnessed lots of instances where debt funds have provided solutions that clearing banks have been unable to match (albeit this comes at a price). The funds’ business model rewards the raising and deployment of capital. They are incentivised to be pragmatic when considering risk and to deliver more innovative structures.
Post credit crunch, the majority of debt funds targeted businesses with EBITDAs in excess of £8m. As this space has become more congested, we have seen more lenders actively targeting companies in the lower mid-market with earnings of between £3m and £5m EBITDA.
With increased competition at this level more borrowers are achieving terms that previously would have been the preserve of much larger companies. Alongside pushing leverage, terms include items such as permitted re-leveraging, where a borrower agrees with the lender that they can take on more debt as the business grows, and much looser covenant controls.
The balance of our work within Debt Advisory acts as a good bellwether for the economy as we advise on both positive (i.e. acquisitions and dividend recapitalisations) and more difficult situations (i.e. stressed refinancing and amendment processes). Whilst the majority of our work continues to be positive, we have also seen an increase in more challenging mandates. As a result, we have been able to see how the debt funds behave in tougher circumstances.
In every case, the debt funds have acted rationally and predictably, which has enabled a smoother and typically quicker negotiation between stakeholders. There is also more continuity between the deal team who made the original investment and the individuals negotiating the amendment. This approach is helpful as it negates the requirement to re-educate a new ‘business support’ team on a credit and get their buy-in on the company’s business model.
We have also seen a polarisation of appetite from different lenders in certain sectors. This is driven in part by lender experience with perceived similar businesses in their portfolios, especially those that have fared less well in recent times. One lender may have backed a winner in a sector and have strong appetite for similar deals, whilst another may have backed a less successful business and will be more cautious as a result.
When you first approach the lending community, we believe it is crucial to sell the credit story up-front to get maximum traction. Given the wide range of active lenders, it has become more important to identify the right potential partners for a particular business. Helpfully, debt funds are sitting on plenty of ‘dry powder’, so the majority of prospective borrowers can still approach the market with confidence.
As the UK sees its political leadership change again, we can paraphrase another Conservative Prime Minister, Howard MacMillan, and say with some confidence that the flexibility now on offer from lenders is great news for borrowers, who “have never had it so good”.
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