Friday, March 16, 2012
Despite a seemingly sanguine market for workouts and restructurings, middle-market companies appear to continue to face issues and the current credit cycle has yet to end, said the investment banking firm of Morgan Joseph TriArtisan LLC.
In its latest Restructuring Quarterly Newsletter, the firm observed that while the larger public and widely syndicated credit markets are fully recovered, that might not be the situation for the middle-market and bank facilities. The report's view contrasts with early 2012 headlines of historically low leveraged loan default rates and falling volumes of public bankruptcies that would otherwise suggest a slow next couple of years for workouts and restructurings.
Said managing director James D. Decker, who heads the Restructuring Group, "Admittedly, publicly available data in this market is hard to come by, but our own experience of increasing activity in 2011 over 2010 suggests middle-market trends may not be mirroring the macro recovery."
The report also noted that available data on shared national credits (SNCs), representing at least $20 million in loan commitments held by three or more federally supervised institutions, suggests a slightly different view on the credit market, one, it adds, "that is still in process."
"There are over $2.5 trillion in SNCs (five times that of the leveraged loan market) and nearly 80% are set to mature prior to the end of 2014," the report said. "Although the percentage of criticized SNCs has fallen since 2009, they remain well above pre-Lehman levels. Combine these facts with the well documented 2012-2014 end of reinvestment windows of legacy CLOs, which have supported the leveraged loan market, and one might think twice about calling an end to this credit cycle."
In other developments, Morgan Joseph reported:
• Continued growth of relative value investors, specifically hedge funds and high-yield accounts, is raising the cost of borrowing in the leveraged loan market. While CLOs returned to the top as a percentage of market share, the trend towards a more diversified lender base with a reduced role for securitized investment vehicles continues. Accordingly, pro rata spreads in the second half of 2011 are up from the first half despite increased competition and much lower volume in the third and fourth quarters last year. Specifically second lien loan spreads jumped more than 100 bps from the third quarter with lenders requiring larger upfront fees and higher LIBOR floors.
• Strong performers and larger businesses are witnessing a resurgence in buy-out multiples, while the "have nots" in the lower end of the middle market and turnarounds continue to struggle to shed leverage and refinance. The average purchase price multiples in the fourth quarter exceeded 9.0x, the highest level in the past 15 years, excluding 2007 and 2008. The report cited that in the fourth quarter of 2011 private equity firms sat on dry powder of $477 billion, which at current investment rates means that fund managers would not fully invest their funds and will need to return capital to investors, resulting in "an uncommon situation to say the least." And with euro-zone concerns subsiding and the retail engine fueling new loans and high yield issuance, further growth in purchase multiples look certain.
• A substantial increase in Chinese investors willing to invest in distressed businesses. Their increased interest in U.S. domestic assets results from the PRC being forced to purchase massive quantities of U.S. dollars from "private" markets in China in order to keep the Yuan inexpensive relative to the US dollar and other western currencies. Flush with investible U.S. dollars and other foreign reserves, and given the euro-zone issues, along with paltry U.S. Treasury returns and a desire to transition from factories to higher value ownership of IP technology, the PRC is motivated to find avenues to invest directly or indirectly in U.S. businesses.
• A decline in asset-based lending of approximately 60% from the first quarter of 2010 to the third quarter of 2011, reaching spreads below 200bp before rebounding to 225bp in the fourth quarter. The trend was largely due to fierce competition among banks and loan funds seeking "safer" investments, at a slight premium to treasuries.
• The high-yield pipeline at the beginning of 2012 is larger than it has been since 2009, indicating another big year in the high-yield space. The market cooled in the second half of 2011 after a blockbuster 2010 and H1/11. Market uncertainty in H2/11 and a decline in near term maturities dramatically slowed the volume of high-yield take-outs, contributing to the overall decline in 2011 volume.
Morgan Joseph TriArtisan LLC is an investment bank engaged in providing financial advice, capital raising and private equity investing.