In The Know: Portability Features in Leveraged Acquisition Financing in Europe

Portability Features in Leveraged Acquisition Financing in Europe

What is Portability?

• Definition: Portability allows a private equity sponsor to sell a company or group without triggering a "change of control" under its financing arrangements.
• Benefits:
  • Avoids automatic repayment of outstanding amounts and prevents individual lenders from demanding repayment.
  • Reduces the need for the buyer to secure new financing, enhancing the attractiveness to potential purchasers and reducing execution time.

Market Trends and Prevalence

• High-Yield Bonds: Portability is widely used, appearing in about 50% of deals in the first half of 2024.
• Leveraged Loans: Increasingly common, tripling from 4% to 12% of deals in Q3 2024.
• Drivers: Rising interest rates and tightening credit terms make portability more favorable.

Key Discussion Points

1. Timing:
   • Recent market trends suggest lenders are concerned about the duration and number of exercises of portability.
   • Most loans with portability features allow only one-time use, typically with a 24- or 18-month time limit.
2. Leverage Ratio:
   • Compliance with a pro forma leverage ratio has crossed from high-yield bond documentation into loan documentation.
   • Key discussions involve the inputs used in computations and the testing dates.
   • A private equity sponsor might argue for an improved or "no worse" ratio to address lenders' concerns.
3. Credit Ratings:
   • Credit ratings play a critical role in investor decisions.
   • Rating downgrade triggers are common in bond portability but less so in loans.
4. Purchaser Identity:
   • Parties may agree on a pre-approved list of acceptable potential buyers to minimize KYC and money-laundering risks.
   • Lenders can maintain quality control over the new ownership, mitigating the risk of a negative change in the credit profile.

Drawbacks and Alternatives

• Pre-Agreed List: Requires the sponsor to know potential buyers, which may not be feasible at the time of agreement.
• Alternative Conditions: Parties may agree on other characteristics or conditions the buyer must meet, balancing the sponsor’s ability to exercise portability with lenders’ risk appetite.
• Compliance Steps: KYC and other compliance steps are crucial but may need to be carefully managed to avoid interference with M&A strategies.

Conclusion

• Portability is becoming increasingly common in the European leveraged loan market, driven by rising interest rates and tightening credit terms.
• Key considerations include timing, leverage ratios, credit ratings, and purchaser identity.
• Balancing the needs of private equity sponsors and lenders is essential for successful implementation.