Direct Lenders Need More M&A After Brexit-Defying Start to 2019

(Bloomberg) -- Europe’s direct lending market was brisk and ambitious in the first quarter, brushing off fears that Brexit-linked uncertainty would cause a slowdown. But funds eager to deploy their stores of cash may have to settle for a slower pace in the coming months.

That’s because deal-making was disrupted by the same late-2018 volatility that dented the syndicated loan and high-yield bond markets, and created a backlog to clear in the opening session of the new year. Now, the outlook for loan volumes is more modest as lenders look for fresh M&A deals to appear.

“We saw a flurry of activity in the first quarter. This may be because many deals got postponed in the end of last year given how bad conditions were and have now materialized,” says Robin Doumar, founder and managing partner at Park Square Capital LLP.

Direct lending to smaller companies in Europe has grown year by year as funds take the place of bank lenders, yet the fourth quarter of 2018 suffered the largest year-on-year decline in deal count, according to Deloitte’s Alternative Lender Deal Tracker.

Second-quarter activity may not set records, but the weight of capital gathered that’s ready to be deployed by private debt providers should drive more deals to get done. Europe-focused fundraising for direct lending totaled 18.3 billion euros ($20.6 billion) last year, taking the available capital for investments in the region to $44.8 billion at the end of 2018, according to data provided by research firm Preqin.

“So far the second quarter is looking quieter as the pipeline slowly reloads,” Doumar said.

Scaled Up

Some of the biggest direct lending funds in Europe reported a bumper first quarter, with strong deployments helped by some larger than usual transactions, according to several fund managers. Mid-sized lenders however were more likely to report being on track or a bit behind on deployment.

The headline-grabbing deal of the year so far is the 1 billion-pound refinancing for U.K. telecommunications services firm Daisy Group Ltd by Ares Management, one of the biggest private debt transactions in Europe.

The growing scale of the industry in Europe was also on display in the first quarter with the offering of a 1.5 billion euro unitranche by GSO Capital Partners for Evonik Industries AG’s plastics division. It wasn’t successful in the end as the winning bidder opted for a conventional leveraged loan -- but the fact that such a large deal was put on the table raises the bar for what the biggest direct lenders can offer.

Looking forward, if the flow of M&A disappoints, managers say they can mine their existing portfolios to keep deploying capital. It’s a tactic many of the largest private credit managers already actively pursue, the most prominent example being Ares’ jumbo refinancing of Daisy Group, which it first lent to when the company was much smaller.

Brexit

Many managers expected the uncertainty around the U.K.’s exit from the European Union to dampen activity in the first half of this year. The U.K. is seen by market participants as the most developed region in Europe for direct lending.

While sterling-denominated syndicated lending was all but silent in the first quarter, the direct lending market hasn’t seized up, with some funds reporting increased activity in the country despite the political chaos.

“We’re really busy in the U.K., a lot busier than we thought we would be,” said Blair Jacobson, partner and co-head of European credit at Ares Management LLC.

But, like the syndicated loan market, direct lending will be operating for the coming months under the watchful eye of the Bank of England. The central bank has been meeting direct lenders to get a sense of how resilient the market may be in an economic downturn.

To contact the reporters on this story: Marianna Aragao in London at mduartedeara@bloomberg.net;Rachel McGovern in Dublin at rmcgovern17@bloomberg.net

To contact the editors responsible for this story: Sarah Husband at shusband@bloomberg.net, Ruth McGavin, Charles Daly

©2019 Bloomberg L.P.