Issuance Continues to Contract

Since the first quarter M&A review was released, we have seen a semblance of stabilization in the capital markets. However, issuance remains near historic lows with second quarter and the first six months U.S. loan volume down 37% over the same time period last year.

Lenders continue to be focused on amendments and improving the returns of their portfolios and are redeploying capital in select cases for companies with solid track records and in non-cyclical industries. 

Middle Market Sponsored Volume Remains Depressed

Middle market sponsored issuance for the first six months of 2009 was $1.5 billion which represented a 640% decrease over the same time in 2008. From an acquisition view point, buyers and sellers continue to grapple with expectations of value. The lucky few who come to an agreement regarding valuation have found that capital is not as readily available and are forced to find alternative structures in order to complete transactions.


 

Lenders Push for More Conservative Structures

Middle market lenders are focused not only on price, but also the structure of transactions and leverage levels are now more conservative than in the past. From a senior leverage (Total Senior Debt/EBITDA) perspective, a majority of lenders have indicated that 2.0-2.5x is their ceiling while total leverage (Total Debt/EBITDA) is topping out at 3.0-3.5x. Senior leverage has been driven down by lenders’ desire to have a minimum of 100% asset coverage from a senior secured asset basis.

Equity contributions continue to edge higher. Through the first half of 2009, financial buyers have increased their equity contributions to 42.3% (with rollover equity of approximately 0.4%) up from 38.9% in 2008. 

Middle Market Maturities Loom – Where Will the Liquidity Come From?

With lenders selectively deploying capital and the new issue market limited to highly structured, higher rated, non-cyclical businesses, there is a significant uncertainty concerning debt maturing over the next twelve months. With the liquidity in capital markets still scarce, how will borrowers refinance these upcoming maturities? Some borrowers have had success in amending their existing credit facility to allow extending maturities, but this does not alleviate all of the refinancing pressure.

As an order of magnitude, over the next two and a half years over $326 billion of loans will mature with over $25.4 billion in 2009. Borrowers will need to find alternative ways to refinance upcoming maturities without the abundant sources of liquidity generated from institutional lenders as well as collateralized loan obligations (“CLOs”). 

 

Defaults Continue to Rise but Default Forecast Declines

Defaults continue to rise with 107 defaults YTD. However, Moody’s expects defaults to peak at 13.5% in November down from an earlier estimate of 14.6% at the end of the first quarter.