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European Leveraged Finance And Recovery Third-Quarter 2020 Update: Primary Market Shrugs Off A Wave Of Defaults


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European Leveraged Finance And Recovery Third-Quarter 2020 Update: Primary Market Shrugs Off A Wave Of Defaults

Primary Volume Activity At Quarter-End

Despite the rising tide of defaults, European speculative-grade new issuance levels remained healthy, supported by benign monetary policy, less volatile secondary markets, and continued investor demand for resilient credits. S&P Global Ratings rated €36 billion of newly issued debt tranches during this quarter. Senior secured tranches contributed €24 billion, with the remaining €11 billion contributed by 'BB' category frequent corporate issuers, such as Fiat Chrysler Automobiles N.V., Faurecia SE, and SPCM S.A.

A handful of issuers in the telecommunication sector contributed €10 billion of senior secured debt offering during this period, going toward refinancing existing debt as well as mergers and acquisitions (M&A), such as the €6 billion new debt offering supporting Virgin Media's merger with O2, and €3 billion supporting UPC's refinancing of its own debt and funding the acquisition of Sunrise Communications Group AG.

Chart 1


Average Recovery Expectations Higher, Based On Limited Volume

A recovery rating of '3' (indicating a meaningful recovery of 50%-70% in an event of payment default) was the most common assessment for first-lien new issues during third-quarter 2020. The average expected recovery for rated first-lien debt was 61%, helped by telecommunication issuers typically with expected recoveries of mid-60s and bolstered by the inclusion of Hema B.V.'s and Technicolor S.A.'s post-restructuring super senior tranches.

Bond Issuance Is Gaining On Loans

Table 1

Rated First-Lien New Issuance By Rating Category And Type Of Debt
'B' category rated tranches 'BB' category rated tranches
Amount issued (bil. €) Average estimated recovery (%) Amount issued (bil. €) Average estimated recovery (%)
Loans (including revolving credit facilities) 6.8 59.2 5.0 65.0
Bonds 4.9 61.0 4.8 59.4
Total 11.7 58.7 9.8 61.8
Data as of Q3 2020. Source: S&P Global Ratings.

As market participant confidence grew during the quarter, supported by firm secondary trading levels, 'B' category issuers increased the pace of issuance, surpassing 'BB' category issuers.

'B' Category Issuance Driven By Refinancing And M&A Backlog

First-lien issuance in the 'B' category amounted to €12 billion and was driven by a healthy mix of refinancing, clearing of the M&A backlog, and post-restructuring debt issuance.

Sponsor-backed issuers were responsible for nearly all of the primary supply for first-lien loans, with the exception of Altice France S.A..

Debut term loan issuers contributed €2 billion to primary loan volumes. These included two corporate spin offs: Loan Star's purchase of BASF SE's construction chemical unit (LSF11 Skyscraper Holdco S.à r.l.) and Ardian-owned Dedalus' purchase of Agfa-Gevaert NV's healthcare software unit.

Primary volumes were also boosted by transactions that were due to launch in spring and were put on hold due to COVID-19 disruption. These included loans by Financiere Colisee SAS and Rovensa, and bond-financed Gamenet. The latter added a fixed-rate tranche, in order to ensure broad investor reach.

Maxeda, after two quarters of solid results helped by the revived interest in DIY due to lockdown measures, found a good reception in high-yield markets, pricing an upsized €420 million fixed-rate bond and thereby fully refinancing its capital structure.

Table 2

B' Category First-Lien New Issuance
B-' rated tranches B' rated tranches B+' rated tranches Total 'B' category rated tranches
Amount issued (bil. €) Average recovery (%) Amount issued (bil. €) Average recovery (%) Amount issued (bil. €) Average recovery (%) Amount issued (bil. €) Average recovery (%)
2019 11.9 59.9 53 56.5 40.1 61.8 105.04 58.6
Q1 2020 5.6 56.3 19.6 53.9 8.1 61.7 33.3 55.9
Q2 2020 0.5 52.5 9.1 64.6 3.5 48.8 13.1 59.7
Q3 2020 2.3 50.6 8.4 64.8 0.9 45.0 11.6 60.0
YTD 2020 8.5 53.8 37.1 58.5 12.5 56.9 58.14 57.6
YTD--Year to date. Source: S&P Global Ratings.

Average recovery for 'B' category rated secured debt was higher than the previous quarter, at 60% in second-quarter 2020. However, this is heavily influenced by post-restructuring super senior debt tranches by Hema and Technicolor, which were assigned a recovery rating of '1' (95%), coupled with the relatively low number of new offerings. Excluding these transactions, the average expected recovery was 55%.

Highest Expected Recoveries In Loans And Technology, Media, And Telecommunications; Average Recoveries Stable At 58%

As of Sept. 30, 2020, we rated €731 billion equivalent of speculative-grade corporate debt from 693 European obligors. Rated first-lien debt amounted to €497 billion equivalent (see chart 3), including committed revolving credit facilities (RCFs) and excluding defaulted debt.

Chart 2


Three-quarters of first-lien debt rated in Europe carries a '3' recovery rating, with an average expected recovery of 58%. This remains lower than the realized first-lien recovery rates of 73% in restructuring historically (see "European Corporate Recoveries Over 2003-2019: The Calm Before The COVID-19 Storm," published Aug. 5, 2020, on RatingsDirect).

Table 3

Speculative-Grade European First-Lien Debt And Average Recovery By Industry
S&P Global Ratings rated first-lien debt by industry Amount outstanding (bil. € equivalent) Average recovery (%) Standard deviation
Telecommunications 90 62 7
Media, entertainment, and leisure 59 62 12
Healthcare 55 54 11
Consumer products 47 55 11
High technology 43 59 11
Chemicals 37 58 8
Business and consumer services 37 56 9
Restaurants and retailing 32 62 15
CAP goods / machine and equipment 27 52 15
Packaging / building materials / forest products 27 55 16
Auto / trucks 14 52 22
Transportation 8 59 17
Financial services (nonbank) 6 54 13
Oil 5 63 16
Aerospace and defense 5 51 10
Infrastructure 2 65 0
Real estate 2 85 6
Mining and minerals 1 70 14
497 58 13
CAP--Common agricultural policy. Source: S&P Global Ratings.

By sector, technology, media, and telecom is the largest contributor to rated European senior secured debt, followed by health care, consumer products, and business and consumer services.

Loans, on average, have higher expected recoveries than bonds. The underlying factor behind this observation in the 'B+' or below rated universe is the presence of super-senior RCF in bond-only capital structures. For 'BB' category credits, there are a multitude of factors, including higher leverage on average for entities tapping bond capital markets, and more frequent presence of factoring or securitization facilities, which we deem to be priority.

Chart 3


Telecommunication issuers are the most prominent in the 60%-65% recovery buckets, with over €60 billion of outstanding debt. A singular exception for 0% recovery assigned to senior secured debt stems from IHO Verwaltung's new "fallen angel" status. Its senior secured payment-in-kind toggle notes were assigned a recovery rating of '6' due to its dependence on dividends only from its two holdings and due to structural subordination to a significant amount of debt present at its majority owned subsidiary, Schaeffler AG.

Downgrades And Negative Bias Dominate, Increasing The Risk Of Defaults And "Delayed Restructuring"

Chart 4


Year to date, the credit quality distribution (chart 4) for speculative-grade issuers in Europe deteriorated significantly. 'B-' rated issuers have increased by 48 (or 64%) compared with the beginning of the year. Moreover, issuers rated 'CCC+' and below more than doubled to 71.

However, the universe is relatively stable compared with the previous quarter, with negligible shifts downward (excluding defaults).

Chart 5


The negative bias has remained stable quarter on quarter, reflecting the reduced pace of rating actions following the peak in April and May. The risk is still considerable, however, constituting nearly half of European speculative-grade issuers, and is particularly acute at the lower end of the rating spectrum ('B-' and below). We define negative bias as having a CreditWatch with negative implications or a negative outlook (see chart 5).

Chart 6


Debt in the 'BB' rating category increased by €8 billion, driven by a handful of "fallen angels" (issuers with ratings declining to speculative-grade from investment-grade categories). 'B+' rated first-lien debt decreased €4 billion, whereas 'B' and 'B-' rated first-lien debt was largely unchanged. Conversely, debt rated 'CCC+' or below increased by €5 billion. 'B-' and below first-lien debt now constitutes 29% of all European senior secured debt outstanding, compared with 18% in first-quarter 2020.

Media, entertainment and leisure, auto, retail, and aerospace have the highest proportion of negative bias (up to 80% of total issuers) and are therefore most vulnerable to further negative rating actions. These are followed by issuers in chemicals, consumer products, packaging, and building materials, where roughly half of rated issuers have a negative outlook (see chart 7).

Chart 7


Sectors least affected by the pandemic include health care, technology, telecommunications, and pockets of business and consumer services, where only a quarter of rated issuers currently carry a negative bias. Furthermore, these sectors also had the lowest proportion of negative rating actions in the year to date.

Chart 8


S&P Global Ratings published 53 rating actions in the European speculative-grade rating categories in third-quarter 2020, of which 47 were downgrades (excluding defaults) (see chart 8). There were 11 upgrades, of which five were following restructuring. Continuing with the trend, media, entertainment and leisure, capital goods, and transportation/automotive sectors constituted 70% of all downgrades this quarter.

There were four fallen angels during third-quarter 2020, increasing the total in 2020 to 19. Three were auto-related issuers, namely Valeo S.A., Schaeffler AG, and its parent IHO Verwaltungs GmbH, for whom slower market recovery will reduce cash flow generation until 2022.

We downgraded 14 obligors to 'D' (default) or 'SD' (selective default) in the third quarter alone, doubling the number of defaulted issuers year to date to 28 (versus 15 in 2019). Nearly half of the defaults resulted from pre-emptive restructuring involving a distressed debt exchange, while the remainder derived from missed interest payments. Almost all the defaulted companies were in the 'CCC' rating category prior to default, with the exception of Garrett Motion Inc. and Cassini SAS. The former entered Chapter 11 proceedings with minimal pre-petition debt impact, potentially targeting the shedding of legacy asbestos-related liabilities following the spin-off from its parent, Honeywell.

The number of issuers rated 'CCC' or below did not change, but the amount of first-lien debt outstanding for these issuers increased to €20 billion. The issuers included in this category during this quarter include Bright Bidco B.V. (Lumileds), Cineworld Group PLC, Europcar Mobility Group, and Takko Fashion S.a.r.l., with approximately €5 billion of senior secured debt affected.

Related Research

This report does not constitute a rating action.

Primary Credit Analyst:Marta Stojanova, London + 44 20 7176 0476;
Secondary Contact:David W Gillmor, London (44) 20-7176-3673;
Research Contributor:Maulik Shah, CRISIL Global Analytical Center, an S&P affiliate, Mumbai

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