European Restructuring Outlook
By Graham Lawes and Debbie Young
Posted: 6th March 2014 08:47The global financial crisis precipitated a pronounced and largely unprecedented period of financial restructuring activity in Europe across all industry sectors. This was driven by uncertainty caused by the impact of the recession, the sovereign debt crisis and the global downturn in consumer confidence.
However, the second half of 2013 generally saw a more subdued financial restructuring market. As the euro crisis receded, significant amounts of new capital were attracted into the market through high yield investors, alternative lenders, institutional investors and banks returning to the market. In particular the alternative lenders demonstrated significant appetite for investment in Europe as they looked for opportunities to generate returns by acquiring debt at below par and participating in, or driving, a financial restructuring/refinancing. The impact was dramatic – driving asset valuations up and loan margins down, hence allowing many highly-leveraged companies to refinance (although in several cases it seems the opportunity may have been missed to address the underlying issues).
Furthermore, confidence in the UK has shifted markedly. Deloitte’s 4th Quarter 2013 CFO Survey noted that “Perceptions of economic uncertainty are at a three-and-a-half year low, with risk appetites among big corporates at a six year high.” 57 per cent of the CFOs in the survey thought that 2014 was a good time to take risk on to their balance sheets. They had also seen the return of banks to the market, offering competitive pricing and, for the first time since the financial crisis in 2007/08, providing an attractive source of financing compared to the bond and equity markets.
Looking forward, most of the euro crisis countries are expected to return to growth in 2014. Across Europe as a whole, the UK is expected to have the fastest growing economy, at an estimated rate of 2.3 per cent (source: Deloitte Chief Economist Ian Stewart). It may therefore be reasonable to assume that the slowdown in financial restructuring activity seen in the second half of 2013 will continue. This may be true in the short term and is a view shared by the majority of respondents to our survey of European lenders performed at the end of last year. However, looking at a broader timeframe we see a number of signs that indicate an upturn in financial restructuring activity, albeit this is unlikely to be at the levels seen at the height of the crisis.
The recent influx of liquidity into the market from high yield investors, alternative lenders, institutional investors and banks returning to the market has not only led to a shift in the lending landscape, but also to lower margins, weaker debt terms and higher leverage, as investors compete to secure their investment. Terms of lending are now at a point that lenders would have avoided in the recent past, leading to concerns that memories are short and the lessons of the last credit cycle may not have been learned. Compounding this is the reappearance of covenant-lite loans and high yield bonds, meaning lenders may not have an early trigger to address a company’s deteriorating performance at an early stage, potentially leading to fewer restructuring options and to greater write downs.
The European Central Bank (“ECB”) has recently commenced its Asset Quality Review (“AQR”) programme. This is expected to precipitate a wave of deleveraging across Europe, with some banks unable or unwilling to play a role in cross border transactions going forward. Financial institutions across the Eurozone will be working with a range of advisers to meet the ECB’s requirements, to assess their provisioning, plan for actions required to sustain their capital bases and deleverage across their asset portfolios. This is likely to increase the level of debt trading and transaction activity, introducing new stakeholders with a different view and approach to underperforming or stressed corporates.
Over the past four or five years, many corporates have taken advantage of the low interest rates in force across Europe. Whilst the timing is uncertain, governments will look to raise interest rates as economies return to growth. With refinanced/restructured capital structures based on relatively cheap finance, many corporates may struggle to absorb any significant increase in cost of capital.
As European economies return to growth, many corporates will experience rapid growth. Whilst this should be seen in a positive light, management teams must ensure that any growth is both sustainable and controlled, with sufficient facilities available to fund the working capital investment required for growth. We saw many corporates fail as we exited the recession of the early 1990s due to over-expansion and we would expect to see similar in the coming years.
Furthermore, much of the focus during the financial crisis has been on balance sheet fixes and has rarely fully addressed operational issues. With balance sheets fixed, corporates now have a stable platform to shift their focus and create as efficient an operating base as possible.
For these reasons, we expect that restructuring activity, both financial and operational, will continue across Europe for several years to come, notwithstanding the expected return to economic growth. We therefore envisage plenty of opportunities for lenders, investors and corporates.
To obtain more information on the themes outlined above, please download a copy of Deloitte’s restructuring survey entitled “European Restructuring Outlook 2014: The industry shifts”, which was developed through interviews with a number of European lenders, both banks and investment funds.
Graham is a Director in the Deloitte Restructuring Services team and has been involved in complex financial restructurings across Europe, the US and the Middle East for the past 13 years. This has involved the investigation and assessment of corporate groups for the purposes of advising investing institutions and creditor groups through the course of a restructuring process, as well as working with management teams to develop business/turnaround plans as a basis for restructuring negotiations.
Graham has a track record of success for his clients on projects, including Yell (hibu), Travelodge, Dubai World, HMV and Interpipe.
Tel: +44 (0)20 7007 2529
Debbie joined Deloitte in March 2003, having previously worked in Arthur Anderson’s Corporate Recovery practice in the UK and Australia for 12 years. Debbie is based in London and has over 20 years of experience in financial restructuring and turnaround. Her work typically involves assessing the financial capability of an organisation (IBRs and CBRs), developing options and working collaboratively with stakeholders to implement solutions.
Debbie’s experience includes two secondments; seven months at RBS in the restructuring and work out team, and five months as interim FD of a European AIM listed manufacturing group.
Tel: +44 20 7007 7466