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With CLO issuance approaching a record year, according to Bloomberg, it’s no secret that demand has heated the primary loan market to boiling point. Issuers have flocked to take advantage of conditions for repricings and refinancings in 2021. Buysiders are reviewing too many credits in too little time, on occasion getting into deals without even looking at the documentation. As such, the sell-side has felt empowered to push ever more outrageous docs.

A first buysider said: “Because the market has been so hot, we’re not getting everything we want so there’s a fight for paper. Investor pushback is probably not getting that much attention.”

But this month, a glimmer of hope emerged for docs-focused buysiders, as several deals faced investor pushback, rather than just the odd one.

In the most shocking show of investor disinterest over a deal yet seen in 2021, Urbaser (B1/BB-/BB), a Spanish waste collection company, had a €1.63bn TLB pulled from the market, with the issuer and advisers citing the market backdrop.

Myriad opinions from investors spread doubt on the previous and current sponsor and the ESG-compliance of the sector. The deal did not gain traction, even after significantly increasing its margin from E+350 bps to E+450 bps.

Not much later, Waterlogic finalised pricing on $800m-equivalent of loans, the dollar tranche settling at L+475 bps, up from L+425 bps, and its euro loans pricing at E+425 bps, up from E+375-400 bps. It emerged battered and bruised from syndication with a host of doc changes.

Three margin ratchets set at 0.5x of deleveraging were cut to one on the dollars and two on the euros. The cap on incremental facilities with a shorter maturity was reduced to €35m or 25% of EBITDA versus €65m or 50% of EBITDA, while an optionality to test a fixed charge coverage ratio to incur unsecured debt also met its end.

The issuer revised MFN provisions to 50 bps with reference to yield instead of 100 bps with reference to margin, and removed the MFN de minimis and permitted acquisitions carve-out clauses. Investors also managed to purge a pick your poison provision from the deal, while a blocker on restricted payments is based on an event of default, rather than a material event of default. Finally, annual lender presentations were upped to semi-annual.

UDG Healthcare also battled with doc changes, particularly surrounding RP baskets, according to buysiders. Pricing on the loans is not yet confirmed, as the commitments deadline was extended.

These events follow a slight uptick in pricing that began in the early weeks of July. In one week,  French software business Cegid’s loan priced at E+350 bps, after guidance of E+325 bps. During syndication, the loan also widened to a 99 OID, before settling at 99.5.

That week, Tarkett also priced at the wide end of guidance, with the deal struggling to pass through the market, according to buysiders, while Galileo Global Education also priced its €1bn TLB at the wide end of E+350-375 bps guidance at E+375 bps, and Tikehau’s Clara.net also had a €300m tranche priced wide.

Could a coordinated buyside revolution be afoot, with uncapped EBITDA add-backs to face the guillotine, and margin ratchets to be hung, drawn and quartered? Unlikely, 9fin has not yet picked up evidence of the underground resistance.

It’s possible that, coincidentally, all three deals had unique issues that triggered disdain in the buysiders looking at them.

Indeed, buysiders speaking on each deal had negative things to say. For example, some market participants looking at Urbaser suggested Platinum Equity was not putting in enough equity and the ratings agencies were being too kind to the credit, especially for a high capex business with negative free cash flow. The acquisition was to be funded with €1.63bn in debt and a €1.11bn equity cheque from the PE backer, constituting around 41% of the transaction value.

A second buysider said: “Everyone seems to have a different take on it. I didn't hate it, but the headline risk was already around the landfills and the market struggled to get comfortable with that. Also, with so many inputs and outputs, it was a complicated business to model. We had outstanding questions when it was pulled.”

The fact that it’s August offers a different theory. Demand will have dropped off for primary, as CLO analyst teams are holiday-affected and halved in size.

The second buysider gave weight to this: “If you look back, we have seen deals pulled out and come back after summer recess, especially when issuance just goes wild coming up to August and there’s so many deals in the market, and you have a depleted team, because people are on holiday.”

Of course, terms have previously swung in investors’ favour, and this was most recently shown during the onset of the Covid-19 pandemic. One example of a deal offering terms friendlier to the investor was Masmovil, who issued a €2bn TLB in July 2020, which paid E+425 bps and had 12-month soft call protection, according to a market source.

But those gains appear to have been short-lived as a third buysider pointed out: “We thought maybe Covid-19 would be a reset, but it’s important that we didn’t see that.”

Indeed, a fourth buysider has little hope for the future: “It’s hard to see docs ever progressing to where they were two years ago, but there have been periods where issuance just stops and if and when you start seeing rates go up, maybe CLOs won’t form as much. You see a little of the effect of this last year.”

When asked if docs were becoming more investor-friendly alongside pricing increases seen in early July, one Credit Suisse banker said: “Docs will always be a battleground, but investors are much more economics-led than by docs. If an investor feels they have conviction on the credit, then that’s probably the comfort they need to get involved. There will be as many changes historically as there are now, which is very few.”

However, in some cases docs do affect economics, a fifth buysider warned: “What I’m most worried about is the impact of margin ratchets that are kicking in from last year. We knew the headline spread on the way into the deal, but the speed at which some of these ratchets kick in is shocking. People have been caught out in deals and now there’s a lot more focus on that kind of thing, because it can make a material difference to your overall portfolio spread. That’s the problem with these doc points.”

Margin ratchets have proven one of the most contentious points in the modern docs arsenal. Of the 15 deals with doc changes occurring in syndication tracked by 9fin, all but four had margin ratchets removed or reduced the number of step-downs.

Assuming this is reflective of the wider market practice, if there is such a low success rate in keeping the number of margin ratchet step-downs in place, why does the sell-side even try?

The fourth buysider, as well as a sixth, told 9fin they suspected the sell-side of putting in absurd clauses, just so they could appear to concede on terms they were in fact always happy to sacrifice.

The sixth buysider said: “It does infuriate me, because with things as simple as a ticking fee, if they start off at day 90, they must know I will instantly push back on that because it’s not market standard.”

A nexus of sell-side stakeholders create the perfect storm of aggressive documentation together.

Naturally, sponsors are hoping for the cheapest cost of debt possible, underwriting banks often win mandates based on the aggressiveness of the margins they think they can achieve in syndication and lawyers feel contractually obliged to achieve the most flexibility for their clients.

One sponsor-side lawyer told 9fin that the mentality at his firm took the tone of “if the sponsor can have it, why shouldn’t they?”

There are law firms that are more aggressive than others. Law firms working on some of the most aggressive deals to date this year include Kirkland & Ellis for Ahlstrom-Munksjö, Greenberg Traurig for Nomad Foods, Milbank for Cedacri and Freshfields Bruckhaus Deringer for Lonza Speciality ingredients.

Notably, Cedacri and Nomad Foods had combined RP and PI capacity figures of 3.7x and 3.5x EBITDA, respectively, while Ahlstrom-Munksjö and Lonza introduced the available amount concept into their documentation, without conceding their CNI build-up basket, and thus allowing themselves to make uncapped debt-funded dividends and investments subject only to having debt incurrence capacity and meeting any other conditions set out in the “Available Amount” basket.

These are some examples of what investors find outrageous, but many other clauses keep buysiders up at night.

A seventh buysider said: “We push back on the usual stuff: commercial terms, permitted payments, permitted indebtedness, the ability of the sponsor to put a huge amount of debt on the business.”

Other clauses that buysiders found particularly frustrating included ticking fees, uncapped EBITDA clauses, asset sales triggers and “gaping holes in terms of moving assets out of the restricted group.”

But with no shortage of pain points, buysiders face several obstacles in an effort to be heard.

The third buysider said: “There are a number of buysiders that don’t look at the term sheet or think about pushing back on it, but that’s a vicious cycle. If we don’t review term sheets, these docs will effectively become the next market standard and docs will keep getting worse and worse.”

An eighth buysider told 9fin, they can have as little as four days to submit responses on a deal.

When asked about buysiders not having enough time to check documentation, the eighth buysider continued: “It's a trend that has existed for some time, it goes up and down, with when the market is very hot. It happens a lot, especially for large liquid deals, because people put in an order, even before they've done all their credit work and documentation work. I would think it’s probably more characteristic of the smaller shops than the biggest lenders. If we don't have proper time to evaluate, we will stay away from a deal, but there are people who will jump in on the assumption that if they find something later on, after the deal has been allocated, they can exit fairly quickly because of the liquidity in the market.”

Smaller lenders face more obstacles than just time constraints. With so much demand, and buysiders typically struggling to get their target allocations, if a smaller shop decides to take a step back from a deal, sponsors would rather find a new investor than pander to comments.

But even larger shops struggle with doc changes. The third buysider said: “We take reasonably large pieces in credits that we feel are strong, so we do have some power to raise points. But it still depends on the quality of the credit. We could send 5-10 comments and for a weak credit we could get back upwards of 10 changes. On a stronger credit you might only see changes on the margin ratchet, ticking fees and EBITDA cap.”

Indeed, market-making size is no longer a ticket to the docs you want, amid the flood of CLOs in the market. An investor in CLOs told 9fin: “PMs normally say if they really don’t like the docs, they won’t participate in the deal. But if other CLOs are ramping up, they’re going to take the paper down. So, even if you’re one of the large CLO managers, stepping away isn’t going to change that much.”

But beyond screaming into the void, what can investors do about this situation, where they are often left with little recourse.

The third buysider said: “I really think there should be more dialogue amongst buyside investors. Given antitrust regulations it’s difficult, but if there could be some way that there could be some real pushback, that would be great.”

A ninth buysider said: “We need to do more pushback. Buysiders tend to try to push back, but we’re not coordinated. People don’t chat to each other and there’s no single voice representing us.”

The sixth buysider did express their support for the work European Leveraged Finance Association has done to represent leveraged loans investors.

Even in 2019, ELFA released a covenant questionnaire for investors to cover major doc points at roadshows. In addition, the association runs several committees for the union of CLOs and other investors, such as the CLO Investor Committee, which “will provide a forum for members to identify CLO investors’ requirements, facilitate discussion on general market progress and key issues, and contribute to the regulatory dialogue on the asset class.”

The investor in CLOs was far more negative: “CLOs will never come together. It won’t happen. That’s the ideal, but that’s never going to happen. There will be someone else who will take down that loan paper if someone else steps out. If CLOs came together in that way, off the top of my head it feels like collusion. Documentation is going to stay as it is, though maybe we can improve margins around the edges.”

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