The future’s red
24 October 2011
With companies across Europe confronted by a huge wall of debt, Chris Howard says restructuring lawyers will soon be reaping the rewards
Despite concerted attempts by political leaders to resolve the eurozone debt crisis, market anxieties continue unabated over the delicate prospects of a conclusive and permanent bailout of Greece, as well as the viability of a new strategy to recapitalise Europe’s banking sector.
Even with the wounds of the 2008 crisis fresh in his mind, Mervyn King, governor of the Bank of England, recently proclaimed that “this is the most serious financial crisis since the 1930s, if not ever”.
Against this backdrop one might be inclined to ask where all the big insolvencies are. Fear not, restructuring lawyers, they will happen - but not just yet.
The view that some businesses are too big to fail might soon be replaced by the adage that some businesses - and even countries - are too big to save. Austerity measures, falling demand, legacy indebtedness, a weak financial sector and a general lack of consumer and industrial confidence are already putting healthcare businesses, infrastructure assets and construction, financial services and manufacturing companies under enormous pressure.
Consumers are also looking to improve their personal balance sheets, possibly on the recommendation of Prime Minister David Cameron. As a consequence we have already seen a wave of retail insolvencies and restructurings. Expect more after the pivotal Christmas trading period.
The wave of high-profile collapses may not be clearly visible, but beneath the surface the situation is more complex. Restructurings are already increasingly taking place behind the scenes, as far as the general public is concerned, particularly where they relate to struggling leveraged buyouts (LBOs).
Chain of rules
This trend has been facilitated by a new generation of intercreditor agreements containing release provisions that allow debt restructuring to be implemented some way up the corporate chain, using non-cash considerations and thereby distancing the process from operating companies within the group.
This has made it possible, in a significant number of cases, to avoid the worst-case scenario of trading companies going into high-profile and value-destructive insolvency processes, even where those companies were borrowers or guarantors under the defaulting facility.
Dun and bust
Back to the future, then. To be candid, the future is not bright and it is likely to be red, quite literally, as the so-called wall of debt plunges an increasing number of companies deep into trouble.
Standard & Poor’s (S&P) predicts that companies need to refinance or repay $8tr (£5tr) of debt in the next four years.
S&P reports that there is not enough demand to meet the substantial debt refinancing needs and, what is more, the inevitable slowdown in economic growth is likely to exacerbate the problem as earnings before interest, taxes, depreciation and amortisation for some corporates plunge and debt servicing at best becomes aspirational and at worst delusional. Banks and other investors are likely to gravitate towards safe-haven corporates and look to the best-of-breed in congested sectors, leaving others to undertake what are likely to be quite painful restructurings.
Best also not to ask for dollars if you are a European corporate undertaking a refinancing. We have seen some eye-watering premiums for dollar funding, limits on dollar utilisations, dollar-Libor floors and a raft of dollar-related flex. It seems that the US money markets are already pricing in the risk of a European recession and a European financial crisis.
Ends are nigh
So where does this leave the legal profession? For finance lawyers LBO activity has fallen from a strong first half and the high-yield markets have been stagnant since early summer. According to Thomson Reuters, the volume of investment-grade corporate bond issuance sat at $1.8tr by the end of September, with the implication
that last year’s total of $2.3tr will not be exceeded.
For corporate lawyers M&A has been adversely affected by the squeeze on capital in the past quarter and the reduction in private equity transactions.
As we approach the last furlong of 2011 it seems that being a restructuring lawyer could prove to be a winner. The distressed investor community continues to look on at the recent market turmoil with great excitement, knowing that volatility will create enormous opportunities.
Chris Howard is a partner at Linklaters