EY US Private Placement Market Survey 2015

EY US Private Placement Market Survey 2015 January 2015

Market Leading Independent Debt Advisory Bank Market | Public Bonds | Private Placements | Ratings | Hedging | Retail Bonds

Contents Page Foreword

2

Investment strategy

3

Credit quality

4

Deal structure

5

Outlook for 2015

7

Foreword Luke Reeve Partner EY Capital and Debt Advisory

As 2015 gets underway the EY Debt Advisory team surveyed a wide audience of over 30 of the most active Investors in the US Private Placement market to gauge their views of 2014, their investment appetites and thoughts around how the market is maturing and what challenges it faces as it seeks to grow. Consolidation and a widening of the gap between the hold levels of the larger investing institutions has been a theme of the market for many years, however, it was noticeable that in 2014 the 10 largest investing institutions surveyed accounted for over 75% of the c. $56bn recorded funds invested and the five largest accounted for over 60%. This consolidation has been welcomed by Issuers who, while seeking competitive pricing and terms in transactions, prefer to focus their relationship efforts on smaller Investor groups for covenanted deals. Local offices have further helped the US Private Placement market's road to maturity and, in spite of competing funding sources, the market is now entrenched in the Treasurer's funding tool box as the term debt market of choice for the mid-market corporate. As our Survey shows the US Private Placement Investor base has been busy working to facilitate ever more bespoke transactions, be it through providing direct currency of choice, delayed drawdowns or tailored amounts and maturities. The growth in self-arranged transactions, in a similar vein to the evolution of the bank loan market in the 1990s and 2000s, points to a maturing market which Treasurer's understand and feel increasingly comfortable with. Allocations will always be pressured in competitively offered transactions however Agents, Advisors and Issuers alike increasingly right-size Investor offeree numbers to levels offering appropriate coverage for the transaction quantum target resulting in meaningful allocations for successful bids. In 2015 the US Private Placement market will continue to face stiff competition from a bank market subsidised by a variety of central Government and Bank Programs, and new sources of funding becoming available to mid-market companies such as the Euro Private Placement and Schuldschein markets. There is perhaps too much liquidity in the financial system and, with deflationary rather than inflationary macroeconomic pressure, yields are likely to remain low in the absence of sustainable economic growth or a strong increase in mid-market mergers and acquisition volumes. Capital investment is being deferred by many corporates until the picture is clearer and while 2015 does see meaningful maturity levels there is no guarantee of all of this being re-financed in the US Private Placement market. Newer sectors such as Universities, Social Housing and Infrastructure potentially offer a more attractive route to growth than taking on riskier sectors or geographies. Our view is that 2015 will be challenged to increase on the higher issuance levels of recent years but should still see solid levels of supply to the market.

EY US Private Placement Market Survey 2015

1

Investment strategy

Whether it was institutions that invested $0.7bn in 2014 with an average deal size of $16mn, or larger Investors with $3bn to over $5bn of investments made across deals with a typical size of $50-70mn, lack of supply was a limiting factor to many institutions. On average Investors surveyed achieved a disappointing 52% of allocations vs. bid size. Furthermore, there was a strong correlation between the average individual amounts invested and the number of deals participated in over 2014.

Volume invested ($USbn)

2

4 41

20

6

8

65

40

60

100 80

100

120

Average deal size ($USmn) 15.9 0

36.0 20

0%

20%

71.2

40

Average allocation 38% 40%

50% 40% 30% 20% 10%

Up to $50mn

$50mn to $100mn

$100mn to $150mn to More than $150mn $200mn $200mn

6.7

Number of deals

0

Largest individual investment to a single Issuer in 2014

Source: EY 2015 Private Placement Market Survey

3.0

0

92% of Investors surveyed had an individual investment size on a transaction in 2014 of more than $50mn, with 54% having invested more than $100mn.

0%

Traditional Private Placement volumes in 2014 0.7

Investment sizes increasing

Percentage of Issuers

2014 was another record year, seeing c.$56bn of issuance as Investors continued to search for deal supply to satisfy ever growing demand

60

52%

80

Our survey of Investors showed that all looked at deals on a relative value basis, although 54% also considered absolute targets, albeit this was mainly for internal purposes. Relative value versus public bonds was challenged on some deals, primarily stronger credits, where robust bidding saw relative value being squeezed.

Method of choice for investments in 2014

65% 60%

Relative value vs. absolute targets

80%

100%


82%

82% of Investors surveyed would have liked to have invested more in 2014, with lack of supply and appropriate investment opportunities being a key challenge to meeting targets.

Relative value and absolute targets 54%

Relative value only 46%


Investment targets for 2015 are expected to be at least as much as those planned for 2014.


2

Credit quality Credit quality remains the number one investment criteria in assessing any investment opportunity 86% of Investors surveyed believe that credit quality is the key driver in assessing investment opportunities.

How Investors are prioritising investment decisions

 1 2

Credit

3

Structure and covenants

4

Spread

Coupon

5 Relationship with borrower

6 Portfolio diversification


NAIC split

Sectors on Negative Watch

With underlying benchmark yields declining over 2014, Investors continued to search for yield. With this in mind, the largest portion of investments made by Investors surveyed was for NAIC-2 credits, which made up an average of 62% of investments in 2014.

Emerging markets and peripheral Eurozone countries dominated survey responses as geographies where deals have been declined.

Investment ratings split in 2014

Top sectors Investors are most negative on

90% 78%

Percentage of all investments

80%

Sector

70% 60%

60% 50%

48% 48%

40%

37%

30% 20%

38% of Investors surveyed reported that they are currently negative on the Oil & Gas sector, followed closely by Metals & Mining and Energy.

20%

10%

10% 0%

0%

-10% NAIC-1

NAIC-2



NAIC-3

3%

Percentage with negative outlook

Oil & Gas

38%

Metals & Mining/ Commodities

31%

Energy

31%

Construction/ Engineering Services

23%

Financials

15%

Gambling

8%

Tobacco

8%

Chemicals

8%


3

Deal structure 85% of Investors surveyed had strong appetite for investments with a 10-year maturity followed by 46% for 12-year maturities.

Maturities Investors had most appetite for in 2014

Non-US or Canadian dollar denominated transactions invested in, in 2014 40% Investors transacting

Appetite for longer dated maturities as Investors search for yield

30%

36%

36%

36%

20% 18% 10%

Investor Appetite

90% 0%

80% 70% 60%

AUD Currency

GBP

Other


50% 40% 30% 20% 10% 0%

EUR

5

7

10 12 Maturity (years)

15

20+


Longer dated maturities remain popular with 54% having appetite for 20-years or longer, although credit quality was a consideration as maturity length increased.

54% of Investors surveyed had specific limitations on transactions denominated in non-US or Canadian dollar currencies. Tenor was a key consideration, with 15 years being the most common limit. Swap breakage indemnification was also an important factor for a number of institutions.

Delayed drawdowns continue to be used by issuers wanting to lock in current low yields

Whilst underlying interest rates remain low, and with supply demand imbalances squeezing credit spreads, this will continue to support appetite for longer dated maturities.

83% of Investors surveyed have participated in a transaction with a delayed drawdown of three months or longer. This unique feature of the private placement market is expected to remain in demand by Issuers, particularly with an uncertain rate environment looming.

Growing appetite for non-USD or CAD denominated transactions

Delayed drawdown lengths for transactions in 2014

12

During 2014, our survey identified that 12 of the Investors surveyed invested in non-US dollar and nonCanadian dollar denominated transactions. Sterling, Australian Dollar and Euro currencies were most in demand, which coincides with the assessment of overall cross border activity in 2014.

> 12 months 8% up to 12 months 17%

up to 3 months 17%

up to 9 months 33%

up to 6 months 25%



4

Deal structure (cont’d) Floating Rate Note demand is on the rise 38% of Investors surveyed bought Floating Rate Note private placements in 2014. This percentage is expected to rise with 69% of Investors surveyed having appetite for FRNs in 2015. Whilst this is being driven by rising US Treasury yield expectations, it is debatable as to whether Issuer appetite will meet this growing demand.

Floating Rate Note demand in 2014, and forecasted demand for 2015 2014 Yes 38%

Project bonds continue to be an alternative attractive source of funding for infrastructure and infrastructure related assets, particularly in the US where project or municipal bonds have been the norm for infrastructure project finance.

54%

Of those Investors surveyed that bought Project Bonds in 2014, 54% required the bonds to have a public or private rating.

Credit Tenant Leases No 62%

2015

Project Bonds

No 31%

The majority of Investors surveyed have appetite for Credit Tenant Lease transactions. 62% had specific restrictions or requirements, the most significant of which are shown in the table below.

Significant restrictions or requirements in relation to CTL transactions Schedule D bondable guidelines Underlying credit of tenant being investment grade

Yes 69% Source: EY 2015 Private Placement Market Survey

Triple net structure of lease Financial covenant restrictions on LTV and debt service Amortising profile Priority of lease payments

MFL appetite primarily driven by credit quality

62%

62% of Investors surveyed bought a transaction in 2014 with only an MFL clause and no financial covenants. These transactions tended to be the exception rather than the rule, and for high quality, well known credits.



Increase in ‘self-arranged transactions’ 67% of Investors surveyed bought a transaction in 2014 that had no Agent or Broker involved, with local offices offering better relationships.

5

Outlook for 2015 The major themes of 2014 continue to dominate expected challenges for 2015 Investor demand exceeding supply as well as continued cheap bank debt are the biggest current challenges to the Traditional Private Placement market for 2015. Alternate funding markets such as the Euro PP market or the Schuldschein market are becoming more prevalent as competitive alternatives to the Traditional Private Placement market. This will make local presence even more important in these regions, as well as the ability to offer non-US dollar funding for Issuers outside of the domestic market. A volatile global economic backdrop with oil prices starting the year under $50 / barrel, an anti-austerity Greek government being elected, Ukrainian / Russian tensions, IS terrorist threats, UK elections and a slowing global economic recovery will all continue to bring uncertainty, dampen corporate investment and make valuations difficult for acquisition activity. This will have a knock on effect on deal timing, size and volumes. Investors doing larger and larger single tickets and new Investors entering the asset class will likely only increase pressure on allocations, whilst potential regulatory changes in derivatives will drive issuers to increasingly offer deals only to those who can meet their currency requirements.

Biggest current challenges to the Traditional Private Placement market in 2015

1 2 3 4 5 Slow M&A

The slow economic recovery

The Euro PP market or Schuldschein market

Cheap bank debt

Investor demand exceeding supply


EY Capital and Debt Advisory

Luke Reeve, Partner Tel: +44 20 7951 6548 Email: [email protected]


Chris Lowe, Partner Tel: +44 20 7951 0826 Email: [email protected]

Gary Davison, Partner Tel: +44 161 333 2767 Email: [email protected]

6

EY | Assurance | Tax | Transactions | Advisory Ernst & Young LLP © Ernst & Young LLP. Published in the UK. All Rights Reserved. ED None The UK firm Ernst & Young LLP is a limited liability partnership registered in England and Wales with registered number OC300001 and is a member firm of Ernst & Young Global Limited. Ernst & Young LLP, 1 More London Place, London, SE1 2AF.

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EY US Private Placement Market Survey 2015

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