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SFNet's International Lending Conference Examined Critical Issues, Explored Opportunities, Relating to Cross-border Lending
By Eileen Wubbe
The Secured Finance Network (formerly Commercial Finance Association) held its 13thAnnual International Lending Conference at DLA Piper in London, May 21-23. Attendees heard from a variety of leaders discussing the critical issues and opportunities relating to cross-border lending including looming economic upheaval, potential recession and geopolitical uncertainty.
“2019 was my first time attending the ILC and I will definitely be back,” said Jessica Staheli, executive vice president, Scherzer International. “The opportunity to network with people from all over Europe and beyond was exceptional and the panel discussions were lively and informative. As our world grows smaller and the number of cross-border deals continues to rise, this conference is a must-attend.”
SFNet’s Europe Chapter held an event prior to the Conference at the offices of Squire Patton Boggs, followed by an opening reception at Guildhall Art Gallery in London, sponsored by Hilco Global and Winston & Strawn, LLP. On Wednesday, May 22, the Conference officially kicked off with a welcome and introduction by Steven Geerlings, head of International ABL, DLA Piper LLP.
The first panel, Global Economic Outlook, featured economists and commentators considering the future of global supply chains and international trade in these uncertain times against the backdrop of Brexit, potential trade wars, tariffs, sanctions, economic slowdowns and nationalism. Moderator Stuart Rock, business editor and writer, Devonia Road, began by asking how 2019 was panning out and if things were turning out as anticipated, or if there was anything that was surprising.
“In terms of the global economy, I think what is not a surprise to me is the absence of the inflation pressure globally,” said Philip Shaw, chief economist, Investec. “In particular, inflation comes from the labor market, i.e., pay growth. It’s pretty clear, certainly for my team that the relationship between the labor market and wage compensation has shifted since the crisis. Central banks don’t have to raise rates as aggressively. The big surprise is the weak European economy, specifically the Eurozone economies. We know that there’s a drag from trade growth.”
Paul Hardy, Brexit Director, DLA Piper LLP, said, “The biggest surprise is that Nigel Farage will again dictate Brexit policies in the UK. I hadn’t predicted that he would rise Phoenix-like again.”
In discussing global trade wars, David Chmiel, managing director, Global Torchlight, added that many have become more acclimated to a world that is much more disruptive and volatile. “Things that would have set the market off a cliff ten or 20 years ago are not doing that any more. We’re still at the very early stages of a trade war. The price increases of a lot of tariff changes have not yet started to impact corporate bottom lines and consumers yet.”
The International Mergers & Acquisitions: Market Review panel focused on getting the current read in the 2019 global mergers and acquisitions market and what it means for cross-border asset-based lending. In 2018, the market had a very strong start, with plenty of liquidity, but slowed into the end of the year.
Moderating the panel was Paula Laird, partner, co-chair Banking and Debt Finance, Squire Patton Boggs UK LLC and panelists included: Tim Metzgen, managing director, Marlborough Partners; Sam Small, head of Mergers & Acquisitions, EMEA, Wells Fargo Securities, and Giovanni Amodeo, global head of Editorial Analytics and Research, Acuris.
Amodeo provided attendees with statistics on the state of the M&A market which included the value of global M&A in 1Q19 being down 15% at $801.5 billion, compared to the first quarter of 2018. Cross-border deals accounted for only 30.8% global M&A. Industrials and Chemicals is the top sector and is up 29.7% at $157.2 billion compared to Q1 2018.
“2019 may have started a little weaker that 2018, but that doesn’t mean M&A is in the doldrums,” added Small. “Like wine in the barrel, it’s still too early to call 2019. With what we know year to date, one might expect a ‘vintage’ like 2014, 2015 and 2017. And these weren’t bad years for M&A. That said, the headwinds – particularly current uncertainties in many parts of the world -- give reason for caution about the outlook for the rest of the year. But if uncertainty is the enemy of M&A, change is its friend. And, looking medium-term, many industries are facing profound secular trends and these are likely to drive corporate change and stimulate M&A.”
Panelists also discussed how the political and economic uncertainty across Europe is prevailing, with a building consensus that the market is at the top pf the cycle. Lenders are increasingly managing portfolios accordingly with a strong emphasis on downside risks.
Keynote Speaker Trevor Williams, professor, University of Derby; and managing director, TW Consultancy, provided a detailed presentation on the current state of the global market landscape.
“A brief summary: There are trade tensions. The EU is basically part of it, but it isn’t essential to it yet. There are issues for the EU as well, from the focus that the current U.S. administration has on those that have big surfaces with it as a trading partner. China is one of the areas that is currently being disrupted. Of course it reached an agreement with Canada and Mexico, although there are some drawbacks to it which are beginning to become more apparent. There are significant vulnerabilities in policy and on the economic front.”
The good news, Williams stressed, is global banks are better prepared to handle the next credit crisis in that they are better capitalized and hold higher liquidity. “At the moment, markets are primed for volatility.”
When asked if governments were in a better or worse position than in 2008 to take remediative action during the next downturn, Williams shared that they would be in a worse position due to larger balance sheets.
After lunch, sponsored by Loyens & Loeff, Arc of the Covenants: Who's in Charge Here? began with Jonathan Cooper, partner, Goldberg Kohn Ltd., moderating. Panelists included Sabrina Fox, executive advisor, European Leveraged Finance Alliance; Nigel Hogg, regional credit manager, Wells Fargo Capital Finance; David Morse, partner, Otterbourg P.C.; and Jessica Reiss, J.D., head of Leveraged Loan Research, Covenant Review, LLC. The panel discussed what’s “market” for loan agreement terms and what lenders need to think about in credit documents to avoid “unanticipated” consequences.
“Between 2017 and today, there have been significantly more deals in Europe that have a cap on the (pro forma synergies / cost savings) add-back than not. In the U.S., in 2018, roughly half of the deals were uncapped in terms of EBITDA add-backs, but Q1 2019 was tighter,” explained Reiss.
In considering the data from the leveraged finance market on the treatment of EBITDA addbacks and other covenant packages, the panel noted that asset-based lenders need to be aware of trends in that market since potential borrowers’ prior experience with these other products impacts their approach to the ABL and since ABL is often part of larger capital structure. As a result, there has been a convergence in covenant structures from high yield to leveraged finance to asset-based lending.
“We’ve got concepts coming from high-yield moving into the term loan leveraged finance world, and then moving into the ABL world.” Morse explained. Continuing he noted: “You also have the movement of concepts and principles from large transactions and large cap deals down to the middle market and ultimately even down to smaller deals. Meanwhile, the sponsors that are driving the transactions themselves have sometimes moved down market.” As a result, according to Morse, “When you’re talking to prospects, often times they’re experienced in that world, and from the asset-based lender’s perspective, you have to be prepared to deal with their expectations about what the financing may look like. And as has been the trend for a number of years now, you have ABL side by side with the leverage loan and sometimes with a high yield as well and there’s an expectation and desire from the company to conform covenants between the different products. It is critical to understand where conforming makes sense and where it may not.”
The panel then discussed details from EBITDA addbacks to “collateral leakage,” and high-profile U.S. cases, including J.Crew, PetSmart and Chewy.com, where companies have used “baskets” in their credit documents to pull out valuable assets from the lenders' credit support which have led to other surprises to lenders. Meanwhile, covenant deterioration continues globally. Lenders need to be wary for overlapping baskets and limit the categories of assets that may be transferred.
In terms of issues that are likely to surface in the future, Morse suggested that lenders should “Look at the timing of cash that comes in to a company to create a basket in a covenant, relative to when the basket may be used.”
The panel, Are Receivables the Way to Go? discussed how securitizations, receivables, purchase facilities and supply chain have been growth engines for banks and other lenders. It also discussed how this affects the asset-based lending product and if it is considered competition or opportunity. Sarah Day, partner, DLA Piper LLP, was the moderator.
Ronald Biemans, head of ABF Origination & Structuring International Corporate & Institutional Banking, ABN AMRO noted seeing supply chain finance in very large cap and large volume transactions. “We think there is a great opportunity if you can converge some ABL and securitization concepts on top of the market.”
Maurice Benisty, chief commercial officer, Demica, said, “When I first came to Demica banks were calling us for supply chain finance solutions or receivables solutions or securitizations because the businesses tended to be quite siloed within the organizations they came from. I’d say over the past six months we’ve responded to about 12 RFPs from banks and increasingly they want all of the product types under one umbrella, which is a challenge for any supplier to technology services in market because there are gaps. You’ve got a convergence with some banks who say you need to be more solutions-driven and they’re bringing together their teams and offering products from one product team for customer needs.”
Charles Nahum, senior managing director, Europe independent representative, Finacity, added that Finacity’s platform is very much driven towards receivables securitization. “Those making money are the lenders, those with the balance sheet. The banks are seeing less and less business and we’ve kept away from supply chain finance solutions because we just don’t see the recurring business around that, he said.”
The panel also featured JeanMarie Charollais, managing director - Syndication head, CDF International, Wells Fargo.
Workouts and Insolvencies: Funding the Company in Distress featured a discussion among experienced workout and restructuring specialists and lenders from the U.S., the U.K., the Netherlands and Germany to compare and contrast the issues that confront the lender in each jurisdiction when providing the liquidity to a sale or restructure. The interactive panel touched on the hot negotiating points, what the lender needs to watch out for and how does it really work?
Dimitri Karcazes, partner, Goldberg Kohn Ltd., served as moderator and panelists consisted of Fiona Kaufman, director, Deloitte LLP; Peter Klaus, managing director, AtlanticRMS Germany; Jon Helfat, partner, Otterbourg P.C.; and Stefan Nobbenhuis, executive director - Financial Restructuring, ABN AMRO.
The panel began discussing the early-stage workout and how, due to flexible convenants, early warning signs of distress are not always prevalent. For lenders in the U.S. it is often not until the borrower is on the verge of Chapter 11.
“It’s much easier for the asset-based lender if they act quickly to ratchet things down and create a little bit of a buffer,” said Karcazes. “It’s a difficult conversation to have when you find out late in the game. It’s much better if you can to ratchet it down earlier and make it management’s issue or the enterprise value lender’s issue. The equity sponsor is going to continue to use those equity cure rights to put money in until the day comes when they don’t. And then the question is, at that point, where are you from an enterprise value and from a collateral coverage standpoint?”
The panel also examined sources of funding and getting the money necessary for a restructure/sales process. From lender groups to subordinated debt holders, insiders, trade vendors and customers, the panel looked at complications associated with these funding sources in any particular jurisdiction.
The panel mentioned how Toys “R” Us’ unanticipated lack of holiday sales were not enough to satisfy their DIP loan and the trade credit did not get paid, resulting in trepidation to retailers.
“A successful insolvency management and workout in cross-border business is all about being prepared based on knowing local cultures and specifics and handling them in a good way,” added Klaus. “An example is the potential VAT liability of the lender in Germany with respect to receivable financing: The risk lies in not properly structured recourse facilities and too low funding ratios, a risk which, if not handled well, can lead to a write off of the total funded while it is negligible if done right.”
Last, but not least, the day ended with a brief overview of the SFNet Education Foundation Market Sizing and Impact Study moderated by Peter York, managing director, Asset-Based Lending, J.P. Morgan Securities LLC, and Chair of CFA’s Advocacy Committee. The study is the most comprehensive assessment to date of the secured finance ecosystem and its economic impact. The study seeks to dimension the size and scope of the U.S. marketplace for secured lending and its related products for the purpose of attracting capital, strategic planning and assisting in advocacy efforts on behalf of the industry. Part primer, part data compilation and part analytical assessment, the Study provides the reader with a view into the highly interconnected components of this network and their collective impact on capital deployment and economic development. For more information on the survey click here.
The day concluded with a Networking Reception at Smiths of Smithfield in London, sponsored by Mayer Brown.
Thursday began with Where the Rubber Meets the Road: Finding Value and Avoiding Traps in Uncertain Times.Appraisers and field examiners look at how today’s uncertainties are impacting the ability to “get it right” for the value of collateral and the method for liquidating it. Alex Dell, partner, Mayer Brown, served as moderator with panelists including Gerry Donnelly, VP, senior field examiner, AtlanticRMS; Chris Hall, CEO, Valuation Services Europe, Hilco Global; and Larry Jasper, executive director, JPMorgan Chase Bank.
“When we do a piece of work, it’s the underwriter that is going to have the final say in the deal,” said Hall. “Quite often in a large project, we’ll be working alongside Mayer Brown, who will be doing the legal work. We may not think about your outputs in terms of retention title, reserves and borrowing base. It’s all about communication. As long as the financial diligence, the asset diligence, the legal diligence everybody’s talking to each other, there are less likely to be gaps. The best way to manage expectations is to do a thorough job. To me, that’s the key point.”
“Very often the expectations are based on numbers that an originator or other members of a deal team are getting off a balance sheet, a projection, or a financial statement that may be dated or stale. Very often the originators will not ask those lead-in questions, those early questions that make our job a lot easier for them,” added Jasper.
The panel also discussed the added pressures arising in an M&A context where “reluctant target syndrome” is encountered. Panelists agreed it can be very stressful when you’re not welcome because the target objects to being the target. Clear and well-managed communication remains the key. As ABL is becoming better understood outside the US, particularly by sponsors and debt advisors, panelists found there is still too much financial data and not enough collateral data provided early enough.
The International Private Debt Market: New Dimensions in Secured Finance panel included a presentation on recent surveys of this market with some market leaders discussing their plans for the future.
Georgia Quenby, partner, Morgan Lewis, served as moderator with panelists Eli Appelbaum, managing director, Hayfin Capital Management; Mike Griffin, partner, TPG Specialty Lending Group; Tom Otte, head of White Oak ABL, White Oak Commercial Finance, LLC; and Andy Thomson, senior editor, PDI.
Thomson began by providing the outlook of capital flows in the private debt asset class, with 2017 being the peak year for private debt fundraising around $167 billion raised globally. Fundraising has slowed since then. Geographically, Germany has been very active with approximately 50% of German financings in the last two years including a private debt fund component.
Panelists shared which sectors they’re currently interested in. Otte looks for opportunities where they don’t compete with conventional ABLs. The private debt funds are generally sector agnostic, and they’re looking for opportunities which don’t fit neatly into the credit criteria of the mainstream ABL lenders.
“We see more investment opportunities in out of favor industry sectors such as paper manufacturing, and steel because many of the companies operating in these sectors need more flexible capital to compete in a highly cyclical and global marketplace,” Otte explained. “Our focus is still on providing financing to companies with heavy investments in working capital but we differentiate ourselves from bank ABL lenders by providing incremental liquidity via higher advance rates in order to support a borrowers growth objectives.”
“A select number of direct lending funds continue to participate in the ABL space in Europe. They are primarily focused on the product as part of a broader pan-European strategy,” added Appelbaum.
In the Trenches: Dealing with Change in the Global Economy, the final panel of the conference, was a comparative look at how geopolitical and macroeconomic developments, including Brexit and tariffs, are affecting private equity, business operators, the capital markets and asset-based lenders. A private equity player, a CFO, an investment banker and an asset-based lender discussed what they are doing in response to the evolution and disruptions in the global marketplace.Stephen Lewis, managing director, Capstone Headwaters, served as moderator with panelists: Phil Dougall, partner, Metric Capital Partners LLP; Christopher Skinner, managing director and head of Deloitte’s Debt Advisory practice and Steven Chait, managing director, Wells Fargo Capital Finance.
Panelists emphasized that in order to assess the potential impact of a particular event or occurrence, like Brexit, it is important to look beyond the obvious, in-your-face predictable effects and consider the knock-on effects.
“For example, the UK is Germany’s largest trading partner in the EU and not just cars,” explained Lewis. “Germany is the ‘workshop’ for the UK as Germany provides manufacturers with many components and subsystems used by UK OEMs in producing the goods they sell in the UK market. In a post-Brexit scenario without a deal regarding customs and tariffs, those components and subsystems become more expensive, thus causing the OEMs to consider or seek out less expensive sources of supply. If the OEMs buy less from Germany to keep the cost of their finished goods down and attractive for the export market, the German economy takes a hit at a time it can least afford it since the German economy does more than its fair share of propping up the entire EU economy. So, it is not just the possibility of extra tariffs on UK exports, but also the additional supply chain costs to UK manufactures that has a potential ripple effect in other parts of the EU economy.”
Several panelists expressed concerns about rising nationalism globally.
“The days of trading solely within one’s own borders or cross-border trading in a manner which attempts to keep all the benefits of trading at home are long since past, even for relatively small nations and relatively small companies,” Lewis said. “Supply chains are global and purchasers of goods have come to expect access to goods and services provided by whoever can do it best, regardless of the country of origin.”
Interested in hearing more on these topics? Now in its 6th year, Secured Finance Network’s Cross-Border Lending Summit is recognized as an outstanding conference for information relating to cross-border transactions. The depth and substance of the content, combined with excellent networking opportunities, make this an exceptional event for anyone involved in transactions that might include cross-border ABLs.
Topics tackled will include: Brexit: What Happened? Where Are We?; Practical Considerations for Brexit; Real World Smorgasbord - Developments and Recurring Changes Over the Last Year (956, Consolidated Borrowing Base, LIBOR, etc.) and "You Want to Do What?" Solutions for Non-ABL Friendly Countries.
For more information on this event, held September 19 at Winston & Strawn in New York City, please click here.