Mon 07/31/2023 04:00 AM
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Key Takeaways


  • New issuance volume doubled, albeit in a sporadic market with three principal periods of bond issuance and a number of quiet periods. The increase in volume reflects increases in both the number of deals coming to market and average tranche sizes.

  • Coupon sizes in the first half of 2023 fell from the Q4’22 peak but remained above H1’22 levels, with 79% of deals pricing between 6.1% and 9.9%, compared with 33% in the fourth quarter of 2022. No deals in H1’23 priced above 12% compared with 22% in Q4’22. Average yield to maturity, or YTM, in H1’23 was 7.6%, down from a peak of 10.4% in the third quarter of 2022. Maturities also shortened in the face of higher interest rates.

  • Refinancings continue to dominate the market, representing the primary use of proceeds in 76% of deals. However, acquisition financings and dividend recaps are also making a comeback.

  • Aggressive terms continue to appear, despite the variable market conditions. Day 1 capacities to incur additional senior secured debt and structurally senior debt, to transfer value to unrestricted subsidiaries and to make payments to shareholders all increased as a percentage of EBITDA compared with 2022. However, while overall capacities have increased, we saw a slight retreat in the prevalence of a number of aggressive terms in the restricted payments and debt covenants as well as in calculation flexibilities.

  • Investor pushback against aggressive deal terms fell, and was concentrated in a small number of deals. The decline in pushback probably reflects the large number of refinancings using covenants similar to those in the bonds being refinanced. While quality credits continue to command aggressive terms, the concentration of pushback seems to indicate that some sponsors may have overestimated the solidity of the credits that they were bringing to market.

  • Liability management gets creative, as Lycra brought a “quasi” J. Crew drop-down financing to market.

  • Significant bond maturities in the next year should drive a continuation of the current refinancing trend, although there are some M&A transactions in the pipeline. The maturity walls in Q3’23 and Q1’24 may raise questions about the ability of some credits to refinance and we may see a number of restructurings or creative transactions to raise liquidity.

This article is based on New York law-governed bonds issued in the European high-yield market as analyzed by Reorg from Jan. 1 to June 30, 2023. In considering market size, pricing and use of proceeds, we looked at all bonds issued during the period, including both those with a full suite of high-yield covenants and “high-yield lite” bonds with more limited covenant protection. In looking at covenant trends, our analysis below is limited to bonds with a full suite of covenants. In general, we compare bonds issued in the first half of 2023 with those issued in the corresponding period of 2022. However, in certain situations we have compared the first half of 2023 with the 2022 full year and in certain instances we have looked at individual quarters to illustrate peaks in trends.

An analysis of the trends seen in H1’23 in the European leveraged loan market is HERE, our sustainability-linked bonds wrap is HERE, our analysis for the European restructuring market is available HERE and our litigation wrap is HERE. If you prefer webinars, our H1’23 review of the primary market is available HERE.
New Issuance Volume Doubles

The total volume of European high-yield bonds reached €33 billion in the first half of 2023, more than double the €15.5 billion volume of bonds issued in the same period last year. This reflects an increase in both number of deals and deal sizes.

We saw 38 deals come to market in the first six months of this year, 30 of which were fully covenanted deals (with most of the issuance activity coming in the second quarter), compared with 28 deals during the same period of 2022, all of which were fully covenanted deals (17 of which were in January and the first week of February, before the outbreak of the war in Ukraine). Contrast that with the 106 deals that closed in the first half of 2021 and the European high-yield bond world does seem to be seeing a prolonged slowdown.

However, taking a longer-term view, the situation doesn’t look quite so bad. Looking at the table below, over the last 10 years there was an average of 65 bonds issued in the first half of each year, with a reasonable amount of variation between years. If nothing else, things are currently moving in the right direction.

The bond market progressed in fits and starts during the first half of 2023. There were three principal periods of bond issuance: the first in mid-January when five bonds launched between the 17th and the 23rd, the second in April when nine bonds launched between the 17th and the 24th, and the third in May, when nine bonds launched between the 3rd and 22nd. In between these was a sporadic stream of issuances marked by a number of pauses in the market. There were no new deals announced during a two-week period in February (Feb. 9-26 - coinciding with the U.K. school holidays) and again in March (March 7-22 - following the problems at Silicon Valley Bank and Credit Suisse) and early April (March 27-April 16 - coinciding with the Easter holidays). Deal flow evened out somewhat in June, with at least one bond launching each week.

In terms of issuance sizes, the average tranche size was €497 million, compared with €455 million in H1’22. However, this was distorted by issuances of Emerald (Copeland) $2.75 billion 2030 SSNs and Solenis $2.375 billion 2028 SSNs, both of which launched in May 2023. Excluding those, the average tranche size drops to €440 million, with 10 bond tranches (out of 53) being €300 million or less.
Coupon Sizes Fall From 2022 Peak But Remain Above H1’22 Levels

Coupons in the first half of 2023 tell a mixed story compared with 2022. Coupons on fixed rate notes varied from 5.5% (for Nexans’ Sustainability-Linked Senior Notes due 2028) to 11.125% (for Engineering Group’s 2028 SSNs), with an average coupon of 7.7%. 11% of bonds priced at 6% or below, 79% priced above 6% and below 10%, and 10% priced at 10% or above. While it must be remembered that coupon trends are influenced by the individual credits coming to market as much as general economic trends, this does appear to be a positive change from the fourth quarter of 2022, when no bonds priced at 6% or below, 50% priced from 10% to 12% and 17% priced above 12%.

Compared with the first half of 2022, however, and in particular that halcyon period in the first quarter when 60% of fixed rate deals priced at 6% or below, coupons in the first half of 2023 still remain high.

Also, coupons alone don’t tell the whole story - Adler Pelzer’s Senior Secured Notes due 2027 had a coupon of 9.5%, but priced with an original issue discount of 7.5 points (the highest of any high-yield issuance in 2023), for a total YTM of 12%. Average YTM in H1’23 was 7.6%, down from a peak of 10.4% in the third quarter of 2022, when the primary market was effectively closed.

In terms of floating rate notes (all of which were euro denominated), the margin over Euribor varied from 412.5 bps (Lottomatica’s €500 million FRNs 2028) to 575 bps (Limacorporate’s €295 million FRNs 2028), with five of the 11 floating rate bonds having a coupon of Euribor+550 bps and an average margin of 519 bps. This compares to the first half of 2022, when the margin varied from 412.5 bps to 612.5 bps, with an average of 518 bps.
Maturities Shorten

Bonds issued during the period have maturities ranging from 2027 to 2031, with 66% of bond tranches maturing in 2028. Of the 53 bond tranches we tracked, 70% had a tenor of five years or less, compared with 55% of 40 bond tranches in H1’22. As five-year bonds typically have a non-call period of two years, this trend toward shorter tenors also translates into a trend for shorter non-call periods and greater investment uncertainty for bondholders. However, this shift to shorter maturities (and non-call periods) isn’t surprising as many issuers are no doubt hoping that the current elevated interest rate environment won’t last much longer and will be looking to refinance as and when interest rates drop.

Use of Proceeds - Refinancings Predominate

Continuing with the trend of last year, 76% of issuances were primarily to refinance existing debt, although five of those (Assemblin, Gruenthal, Kiloutou, Kedrion and Engineering Group) were to refinance acquisition bridge facilities and so are quasi-acquisition financings. 13% of deals used the proceeds primarily to fund acquisitions. 16% used all or some of the proceeds to pay a distribution to shareholders or make a payment on shareholder debt or similar instruments, although that was the primary purpose for only 8% of deals.

There were only four debut issues in the period - Azelis’ Senior 2028s, Copeland’s 2030 SSNs, Benteler’s 2028 SSNs and Pepco’s 2028 SSNs, with the first two being acquisition financings and the last two the result of restructurings.
Aggressive Terms Continue to Appear

Although bond issuance was largely sporadic during the first half of 2023, that didn’t prevent a number of aggressive features from appearing. As the table below indicates, Day 1 capacities to incur additional senior secured debt and structurally senior debt, to transfer value to unrestricted subsidiaries and to make payments to shareholders all increased as a percentage of EBITDA compared with FY’22. Interestingly, capacities in European high-yield bonds exceeded those in leveraged loans in the first half of this year, probably because of the large proportion of “amend-and-extend” transactions in the loan market.

Value Leakage Increases

As illustrated above, average capacity for value leakage increased in the first half of 2023, with general capacity for shareholder payments up to 69% of EBITDA (compared with 51% in 2022) and for transfers to unrestricted subsidiaries up to 143% of EBITDA (compared with 125% in 2022). However, while overall capacities were up, we saw a slight retreat in the prevalence of a number of aggressive terms in the restricted payments covenant.

‘Available Amount’ Second Build-Up Basket Disappears

One of the more aggressive features seen in recent years and an import from the loan market, is an Available Amount basket, typically built from excess cash flow and a variety of other sources, including debt and IPO proceeds. This typically sits alongside the traditional 50% of consolidated net income restricted payments build-up basket. While this appeared in 7% of deals in H1’22, this provision did not feature in any deals in the first half of 2023. This is one trend that investors no doubt are hoping will continue.

Build-Up Basket Calculation and Availability Manipulation Continues

One provision that has been diluted on a number of fronts over the last few years is the 50% of consolidated net income build-up basket for restricted payments. We have seen a number of issuer-friendly changes to it recently, including (i) reducing the “no default” condition to a “no event of default condition” (which permits payments to be made from the basket after a default has occurred but before it matures into an event of default, for example during the 30-day grace period following a missed interest payment), or worse still, a “no note payment or insolvency event of default (which permits payments following all other events of default, including cross-acceleration of other debt); (ii) deleting the requirement that the company have the ability to incur ratio debt (typically under a 2x fixed charge coverage ratio test) in order to access the build-up basket; (iii) deleting the deduction of 100% of losses if cumulative consolidated net income becomes negative; and (iv) subjecting the basket to a zero floor. We explain a number of these features (with worked examples) HERE.

For the first half of 2023:

  • Starter amount - 47% of deals in the first half of 2023 (compared with 63% in H1’22) had a starter amount in the build-up basket, while six deals backdated the date from which the build-up basket accrues without doing the same for the date from which restricted payments are debited from it, which is effectively the same as having a starter amount, except that the opening balance isn’t disclosed.

  • Zero floor - 50% of deals (compared with 48% in H1’22) included a zero floor in the build-up basket.

  • 100% negative CNI deduction - 40% of deals (compared with 35% in H1’22) do not reduce the build-up basket by 100% of negative CNI.

  • Default blocker - 33% of deals, down from 50% in H1’22, don’t block access to the build-up basket upon a default, requiring instead an event of default or in some instances a non-payment or bankruptcy-related event of default.

  • Ratio debt test - 13% of deals limited or dispensed with the requirement to meet a ratio debt test to access the build-up basket. This is up (by one deal) from 11% in the same period in 2022.

Ratio-Based Baskets Standard; Deleveraging Less So

Ratio-based restricted payments baskets are the norm these days, with 93% of deals featuring one, up from 89% in the same period last year. Initially, deleveraging of at least 1x to access these baskets was the norm. However, this has changed over time, as a result of both repeat issuers using the same leverage test as in prior deals and aggressive new issuers coming to market with lower deleveraging requirements. Of the deals with a ratio-based basket, 63% required de-leveraging, with 0.5x to 1x deleveraging required in 31%, and deleveraging above 1x required in another 25%. It is still atypical for headroom to be available on the day of issue, but 37% of deals had headroom in the basket at issue, with 70% of those deals having a 0.5x-1x headroom. Two deals, Emerald (Copeland) 2030 SSNs and Schaeffler's Sustainability-Linked PIKs had more than 1x headroom, although Schaeffler used a loan-to-value ratio rather than a customary debt-to-EBITDA leverage ratio.

Less common are ratio-based permitted investment baskets, which feature in only 37% of deals, slightly down from 39% in the same period last year. 73% of the deals with a ratio-based basket required deleveraging, while the rest had opening headroom. Lottomatica’s 2028 SSNs was the only deal during the period that allowed use of the basket if the ratio is not made worse on a pro forma basis, compared with two deals in H1’22, underscoring the lack of penetration of this calculation flexibility in the European bonds market.

However, in all but one of these deals, the test for the permitted investments basket is set more loosely than that for the restricted payments basket, generally by a quarter of a turn of leverage. The rationale for this is that unlike a dividend, where the cash is gone from the restricted group, with an investment the restricted group still has the investment as an asset. However, given the proliferation of drop-down transactions, where investment capacity was used to move assets into unrestricted subsidiaries, which were then used to incur priming debt or pay dividends, we’re not sure this distinction can be justified any longer.

J. Crew Blockers Proliferate

Speaking of drop-down transactions, positively for investors, “J. Crew blockers,” which prevent the transfer of material intellectual property or other material assets to unrestricted subsidiaries, are becoming more popular. 33% of deals in the first half of 2023 had J. Crew blockers, compared with only 7% of deals in the same period in 2022.

Despite more deals so far in 2023 including a J.Crew blocker, that doesn’t necessarily mean the “crown jewels” of the group will be protected from being dropped down into an unrestricted subsidiary. All J. Crew blockers so far this year focused only on the transfer of material intellectual property, which will not protect other key assets of the group. We discuss J. Crew blockers, how they work and some of their shortcomings HERE and HERE.

Asset Sale Proceed Step-Downs Continue

Having restricted payment capacity is all well and good, but it doesn’t make much of a difference if you don’t have any cash to pay dividends with. A number of private equity sponsors have recognized this problem and sought to solve it by allowing asset sale proceeds to be used to make restricted payments. Issuers have always had the ability to do that, but only if they first made an asset sale offer to repurchase the bonds at par that wasn’t accepted - after which they can do what they like with the cash, including making restricted payments.

Preferring to cut to the chase, issuers began to include a leverage-based grid that either excludes a percentage of asset sale proceeds from “excess proceeds” - proceeds that have not been applied to debt repayment, reinvestment or other purposes specified in the asset sale covenant application of proceeds menu, or exempts that percentage from the application of proceeds menu altogether. Simply put, if a leverage ratio is met, the asset sale covenant allows proceeds from asset sales to be diverted to shareholders. Some deals make this feature even more egregious by also including a dedicated restricted payment basket, which allows the retained amounts to be directly upstreamed as restricted payments. We explain the operation of this provision HERE.

23% (compared to 25% in H1’22) had a leverage-based grid and all but two of those deals allowed amounts excluded through application of the leverage-based grid to be used to make restricted payments through a dedicated basket. While this is normally a reward for deleveraging, in Lottomatica’s 2028 SSNs, the grid was set so that 50% of asset sale proceeds were excluded from excess proceeds based on opening leverage (which admittedly was only 2.4x) and in Azelis 100% of asset sale proceeds were excluded based on opening leverage (2.5x).
Debt Incurrence Capacity Increases

Overall debt incurrence capacity increased in the first half of 2023, with general capacity for additional senior secured debt up to 261% of EBITDA (compared with 192% in FY’22) and for structurally senior debt up to 132% of EBITDA (compared with 100% in FY’22). However, as with restricted payments, while overall capacities were up, we saw a slight retreat in the prevalence of a number of aggressive terms in the debt covenant.

‘Dividend-to-Debt Toggle’ Penetration Largely Unchanged

The ability to convert restricted payment capacity into debt capacity, known as a “dividend-to-debt toggle” or “pick-your-poison,” remains in the minority of European high-yield bonds. We discuss this provision HERE. It featured in 27% of deals in the first half of 2023, down slightly from 29% during the same period in 2022. Most deals allowed the conversion at a 1-1 ratio, except for Emerald (Copeland) 2030 SSNs and Merlin Entertainment’s 2030 SSNs,, which allowed the conversion to debt at 2-1. In Merlin, this featured in their earlier bonds, but Copeland, being a debut issue, had no such excuse.

This represents another resolution of the conundrum of what to do with dividend capacity when there’s no cash to pay dividends. However, it must be remembered that: (1) it generally only appears in aggressive sponsor deals; (2) sponsors are in the business of paying themselves dividends; (3) accordingly they will only give up dividend capacity when they are experiencing a cash crunch; and (4) that is probably not the time when bondholders would want the company to be piling on additional debt in an effort to kick the can a bit farther down the road.

2x Contribution Debt Clears the Market for Certain Issuers

Contribution debt - the ability to incur debt in an amount equal to equity contributions made following the issue date - continues to be a staple feature in European high-yield bonds, seen in 80% of H1’23 deals (on par with 79% in H1’22). It is generally accepted on the principle that if the sponsor is willing to put in new equity, that should result in additional debt capacity. Significantly, however, the contribution debt basket is typically uncapped and can be secured on the collateral pari passu with the bonds, posing a risk of unlimited collateral dilution.

More aggressive sponsor deals permit debt to be incurred on a 2-1 ratio to the equity contribution, which was only seen in 8% of H1’23 deals (Emerald (Copeland) 2030 SSNs and Merlin Entertainment’s 2030 SSNs), down from 14% in the same period in 2022. Solenis’ 2028 SSNs launched with a 2-1 ratio but investors succeeded in reducing it to 1-1. Given that contribution debt has unlimited potential for collateral dilution, doubling it is generally regarded as a bad thing and accordingly only features in the most aggressive transactions. Our primer on the operation of this provision is available HERE.

Uncapped Acquired Debt Retreats

The acquisition of a company is rightly considered to be an incurrence by the acquirer of any debt of that company outstanding at the time of acquisition. Originally, this was permitted only if the test for incurring ratio debt (generally a 2x fixed charge coverage ratio) was met pro forma for the acquisition. Over time, the market began to permit it where the ratio debt test wasn’t met, but the ratio wasn’t made any worse by the acquisition, on the theory that an acquisition that is EBITDA-enhancing (or at least BITDA-neutral) shouldn’t be blocked.

A small number of transactions began to test these boundaries, distinguishing between acquisition debt (debt incurred in connection with the acquisition) and acquired debt (debt existing prior to the acquisition and not incurred in contemplation of it), making acquisition debt subject to the test, but not acquired debt. This permits the acquisition of heavily indebted, EBITDA negative businesses, which isn’t necessarily a good idea if the acquirer already can’t meet the 2x FCCR test. In keeping with the general damper on aggressive terms in the first half of this year, it featured in only 7% of deals, down from 14% in H1’22.

Calculation Flexibility Falls

Calculation flexibility receives a lot of scrutiny these days, in part because it runs through all the covenants and in part because it tends to be buried in the fine print and so is fertile ground for lawyers looking to benefit their clients, hopefully without getting too much investor attention. It must be getting some attention, though, because on the whole it declined in the first half of the year.

EBITDA Adjustment Caps Increase

The first and most common of calculation flexibilities relates to adjustments to EBITDA to give effect to cost savings and synergies expected to result from a broad range of transactions. You can read our primer on this HERE. The ability to make such adjustments is now relatively common and the big question is whether any limits are imposed on their amount or the time for them to be realized (or more frequently, on the time to take actions expected to result in them being realized).

In the first half of 2023, a cap on cost savings is the majority position - only 43% of H1’23 deals permitted uncapped cost savings and synergies adjustments, down from 50% in the same period in 2022.

Of the deals that capped cost savings and synergies adjustments, 73% set the cap between 20% and 25% of EBITDA, with a 25% cap being the most common. Only Pepco’s 2028 SSNs had a 30% cap on such adjustments.

Of the deals that allow cost savings and synergies adjustments, only 14% had no time limitation on their realization. Of those that did impose a time limit, 46% had a 24-month limit, while 29% set an 18-month limit. Only Emerald (Copeland) 2030 SSNs had a 36-month limit.

Exclusions for Revolving and Working Capital Debt Decline

A more aggressive feature is the exclusion from leverage ratios of debt drawn under revolving credit, working capital and other redrawable facilities. Presumably the argument for this is that these facilities don’t represent long-term, structural debt. However, they still represent debt (more often than not secured debt) and their creditors will be sitting at the creditors table next to the bondholders upon an insolvency or restructuring. In any event, this exclusion appeared in 20% of deals in the first half of 2023, down from 32% in the first half of 2022. You can read our primer on this provision HERE.

Super-Grower Baskets Halve

Grower baskets (in which the size of a basket is calculated as the greater of a fixed amount and a percentage of EBITDA or total assets) are standard in the market and are generally unobjectionable in that they allow the basket to grow with the business. In “super-grower” baskets, the fixed amount is automatically increased to the highest amount represented by the corresponding percentage and not decreased should there be a subsequent decline in EBITDA or total assets, whether because of a decline in the business, a sale of a division or otherwise. While we admire this optimistic view that things will only get better, unfortunately experience has repeatedly shown otherwise and we (and many investors) find these provisions objectionable. Accordingly, super-grower baskets appeared in only 10% of bonds in the first half of 2023, compared with 21% during the same period in 2022.

Carry Forward and Carry Backs Down

While most baskets are calculated over the life of the bonds, some baskets (for example the baskets for post-IPO dividends and for repurchases of employee shares) are calculated on an annual basis, effectively spreading amounts accrued under the basket evenly over the life of the bond. The problem with annual baskets is that they can give issuers a “use it or lose it” dilemma. Accordingly, some bonds started to allow issuers to carry unused amounts forward to the following year, following which other bonds began to permit future capacity to be carried back to the current year, effectively borrowing capacity from future periods. We explain the workings of these provisions HERE. In either event, these provisions give greater flexibility to issuers, but at the cost of the discipline imposed by a fixed annual basket. 20% of deals in H1’23 provide for carry forward/back of unused amounts of all annual baskets, down from 39% in H1’22.
Change-of-Control Portability Continues

Change-of-control portability (which disapplies bondholders’ put right at 101% upon a change of control if certain conditions are met) has received a fair amount of investor attention lately as it does actually get used, the most recent example being Fabbrica Italiana Sintetici’s acquisition by Bain Capital.

Portability was present in 53% of deals in the first half of 2023, down slightly from 54% in H1’22. All but one had a leverage-based portability provision, up from 80% leverage-based portability in H1’22. Loxam’s 2028 SSNs were the only bonds in the period that based portability on a rating decline. One-time use of portability remains the standard, with only Cedacri’s 2028 SSNs, Emerald (Copeland) 2030 SSNs and Merlin Entertainment’s 2030 SSNs allowing multiple uses of the portability exception.

For deals with leverage-based portability, two deals (Azelis’ Senior 2028s and Polynt’s 2028 SSNs) had the portability test set at opening leverage, while 40% set the test above opening leverage. As illustrated below, 47% of H1’23 deals required deleveraging, although 43% of those deals required deleveraging of 0.25x or less.

Investor Pushback Declines

Investor pushback against aggressive terms fell to only 13% of deals in the first half of 2023, down from 29% in H1’22. We suspect that this decline is driven in part by the large number of bonds issued to refinance existing debt, which by and large used similar covenants to those in the bonds being refinanced. The other common cause of lower pushback, as we noted earlier, is that in a market where a lot of cash is chasing a relatively small number of quality deals, solid credits are able to command aggressive covenant terms without pushback.

In H1’23, while investors pushed back on a range of items, on the whole pushback was limited to a relatively small number of deals, as indicated in the table below. This concentrated level of pushback seems to indicate that some sponsors may have overestimated the solidity of the credits that they were bringing to market.

Covenant Pushbacks in 2023
Covenant Pushback Description
Value Leakage
• Build-up basket access conditions tightened in Assemblin’s 2029 SSNs, Solenis’ 2028 SSNs and Kedrion’s 2029 SSNs.

• Introduction of J.Crew blockers in Kedrion’s 2029 SSNs and Limacorporate’s 2028 SSNs.

 Test for ratio-based permitted investments tightened in Solenis’ 2028 SSNs.
Calculation Flexibilities Cost savings and synergy adjustments cap: Assemblin’s 2029 SSNs introduced a 25% of EBITDA cap.
Debt incurrence
• Removal of dividend-to-debt toggle capacity in Assemblin’s 2029 SSNs and Kedrion’s 2029 SSNs.

• Reduction of Credit Facilities basket capacity in Solenis’ 2028 SSN.
Change of Control Tightening of portability ratio tests in​​ Assemblin’s 2029 SSNs and Limacorporate’s 2028 SSNs.
Guarantees Future guarantors' covenant extended to cover capital markets debt in Solenis’ 2028 SSNs.
Amendments Super majority threshold for security / guarantee releases or amendments increased to 75% from 66 2/3rds in Solenis’ 2028 SSNs.

To keep up to date on the current state of covenant pushback, please consult our monthly Covenants Pushback Tracker.
Liability Management Gets Creative

At the beginning of the year, we wondered whether some distressed credits would be forced to resort to J. Crew style drop-down transactions in which restricted payment capacity is used to create structurally and effectively senior debt capacity outside the restricted group. The answer, at least for the first half of the year, is “sort of.” While we haven’t seen any classic J. Crew drop-down structures being used in Europe this year, in May Lycra refinanced its outstanding €250 million 5.375% senior notes due 2023 with new senior secured notes due 2025, which takes a few steps along the drop-down path.

Why is Lycra only “sort of” a J. Crew drop-down? Because in a classic drop-down, assets are moved into an unrestricted subsidiary and used to secure new debt incurred by the unrestricted subsidiary, making the new debt both effectively and structurally senior to the existing debt. In Lycra, the new debt was incurred within the restricted group on a pari passu basis with the existing notes, sharing the guarantees and collateral for the existing notes, but then certain intellectual property was moved to unrestricted subsidiaries that guaranteed the new notes (but not the existing notes) and pledged their assets as security for the new notes (but not the existing notes). Accordingly, the new Lycra notes were effectively and structurally senior to the existing notes with respect to the intellectual property held by the unrestricted subsidiaries, but pari passu with the existing notes with respect to everything else. As such, it sat halfway between a pari passu refinancing and a full drop-down transaction. We suspect this won’t be the only creative variation on a refinancing structure that we see.
Looking Ahead

Reorg estimates that €52.3 billion of bonds maturing in the next 12 months are yet to be refinanced, including a €19.6 billion maturity wall in the first quarter of 2024. As a result, we expect the trend toward refinancing to continue, with the covenants in the bonds being refinanced largely remaining the same.

As discussed here, there are a few take-privates and other M&A transactions in the pipeline and that should result in some volume, although how many of those will be financed by bonds and how many by loans remains to be seen.

H1’23 also saw many erstwhile stable credits such Casino Group, EG Group and Tele Columbus AG facing stress, much of it due to short-term liquidity issues and concerns about their ability to refinance upcoming debt maturities. The €12.3 billion of bonds maturing in the third quarter of this year is rather sizable and it is a bit surprising that more of them haven’t already refinanced. With market conditions expected to remain choppy in the second half of the year, we expect that more credits may face the prospect of restructuring their debt or, like Lycra, seek ways of raising additional liquidity by exploring flexibilities within their existing financing arrangements.

Also, as interest rates are expected to stay high, at least in the short to medium term, we would expect maturities to stay on the shorter end of the scale to facilitate refinancings, and possibly an increase in floating rate notes.
Documents Reviewed

Data used for this report is primarily based on final offering memoranda and pricing term sheets for the deals tracked in our Market Maker database and launched between Jan. 1 and June 30 of 2023 and 2022. Where the final offering memorandum is not available, our data is based solely on disclosures in the preliminary offering memorandum for the applicable bond. This report excludes issuances in both years, which were either pulled from the market or were launched without all material covenants (high-yield lite covenant package).
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