AKZO NOBEL N.V. 
Arranging banks are exceeding the leverage limits set out in the guidelines as they struggle to satisfy borrowers’ demands in the highly competitive and liquid loan market, and are focusing more on companies’ ability to repay debt.
“Banks have not been restricted one iota in the way they have levered deals as a result of the ECB guidelines on leveraged lending,” a syndicate head said.
The guidelines were introduced last November in a bid to match similar US guidelines, which specified that companies also have to repay at least 50 percent of the total debt in five to seven years, in addition to curbing leverage.
A 7.3 billion euro-equivalent debt financing to back the buyout of Akzo Nobel's (>> AkzoNobel) chemicals business will have leverage of around 6.4 times. It follows a financing that had leverage of 6.23 times that backed KKR’s (>> KKR & Co. L.P.) buyout of Unilever (>> Unilever (NL)) spreads business Flora Food Group, which closed earlier this month.
Meanwhile, JP Morgan and Morgan Stanley have provided a staple financing to back a potential sale of French drug maker Sanofi European generic drugs business Zentiva, which totals around 7.0 times leverage, while banks are offering up to 8.0 times leverage on debt financings to back a potential sale of German metering group Techem.
FIRST REVIEW
The ECB has made a round of visits to banks this year to monitor the way they work and arrangements introduced to comply with the guidelines as it prepares for a first review at the end of the year.
Despite more stringent and costly systems put in place by the banks, many bankers question how the ECB will be able to police the guidelines, which were introduced to rein in risky bank lending and are similar to Leveraged Lending Guidelines that were implemented by the Federal Reserve in the US in 2013.
“The guidelines have had a soft impact on the market. Yes banks have brought in systems and processes to cover the bases and monitor what they’re doing but are they still opting to do highly leveraged deals anyway? Yes!” a second syndicate head said.
A partner at a large sponsor noted the ECB does not have the resources to monitor the market effectively, meaning the number of deals leveraged over six times is unlikely to decline.
“The guidelines have shown no teeth and ECB has shown no desire to enforce them. It feels like a ‘me too’ regulation but without the hashtag or empowerment,” the first syndicate head said.
MOOD SWING
A change in mood over the Fed’s guidelines has only complicated matters further. The Fed’s guidance has received criticism from numerous Republican lawmakers following Donald Trump’s presidential victory in late 2016 and are set to be rolled back.
“The arc of the US guidelines went from unclear to clear and now it’s unclear again, which is frustrating,” said a managing director at a large US bank. “What is it to be six times levered? Is it on a financial report number or a pro forma number that can be heavily adjusted?”
It is not just the headline deals that ostensibly break the ECB guidelines. The guidelines state the definition of leveraged transactions as all types of loans or credit exposure with leverage of more than four times total debt to Ebitda.
“As it stands pretty much every deal breaks the guidelines as the ECB include everything up to shareholder loans as debt,” said a third syndicate head at a European bank. “The big challenge is that the banks and the ECB also have to monitor all deals above four times, so there’s clearly a manpower issue.”
The third syndicate head noted it was clever of the ECB to schedule its first review of how banks are following and interpreting the guidelines for the end of this year.
“That helps it to potentially save face if the Fed does backtrack on its guidelines this year, as the ECB can react accordingly,” the third syndicate head said.
In the short term there is likely to be minimal impact from the ECB guidelines.
“I don’t think there’s been much impact from the guidelines so far, and looking at what’s to come there’s a lot of seven times-plus deals,” a fourth syndicate head said.
Bankers seem far more focused on the repayment metric outlined in the guidelines, as opposed to the four and six times leveraged metric.
The repayment metric ties in more heavily with a company’s cashflows and its ability to return capital to lenders.
The view from many bankers in the market is that a stronger credit with good cashflows can take higher leverage and they’d feel more comfortable lending to that business than a lower leveraged and arguably weaker business with poor cashflows.
When the Fed introduced the guidelines in the US it took a couple of years before the market felt any real impact and the same could be said of the ECB’s guidelines, sources said.
“This is very much a transition year,” the third syndicated head said.
(Editing by Christopher Mangham and Tessa Walsh)
By Max Bower and Claire Ruckin
