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LPC: Appetite for riskier second-lien loans increases as yields fall
July 14, 2017 / 4:34 PM / 2 months ago

LPC: Appetite for riskier second-lien loans increases as yields fall

NEW YORK, July 14 (Reuters) - The success of cell phone insurance provider Asurion’s US$1.8bn second-lien loan may encourage more US companies to tap the market for US$1bn plus junior loans to reduce their borrowing costs.

Asurion’s deal is the largest second-lien loan of the year, and the firm is the second US company in three months to raise a second-lien loan of more than US$1bn following a US$1.245bn second-lien loan in May that backed UK financial software provider Misys Plc’s merger with Canadian fintech company DH Corp.

“The second-lien market is currently wide open,” a senior banker said.

Junior debt issuance is soaring as investors seek yield in a market where senior loan spreads have tumbled this year due to a lack of new loans. The last time the market saw second-lien loans of more than US$1bn was in 2013, according to Thomson Reuters LPC data.

Second-lien volume in the first half of 2017 of US$15.5bn was nearly three times higher than US$5.3bn in the first half of 2016, amid higher market volatility stemming from low oil prices and concern over the economy in China and the United States.

Volume dipped slightly in the second quarter to US$7.1bn, down about 15% from US$8.4bn in the first quarter and US$8.6bn in the fourth quarter of 2016. The last time that second-lien volume exceeded US$7bn was the third quarter of 2014 when the number hit US$11.3bn.

Second-lien loans pay higher interest margins than senior first-lien paper, as they are second in line for repayment in the event of a bankruptcy. Lenders, however, have been eager to get their hands on this riskier debt in 2017 due to low yields elsewhere, especially as Asurion has a strong borrowing track record.

The asset class has at times been regarded as a niche product and most facilities were previously placed on a private basis with a single lender. However, larger deals and the hunt for yield has led to recent deals being syndicated more widely.

“Up until last year, you saw most second-lien deals being privately placed, but that has changed because all investors are searching for yield,” the senior banker said.

LOW PRICING

Asurion’s eight-year second-lien term loan refinances an existing facility that was due to mature in 2021 and paid 750bp. The new second-lien loan priced at only 600bp over Libor at the low end of guidance of 600bp-625bp, well inside 725bp that Misys was able to command earlier this year.

The average yield on second-lien loans has remained below 10% this year so far at 9.85% in the first quarter and 9.9% in the second quarter, which is the first time that the yield has remained below 10% for consecutive quarters since 2014.

So far this year, four issuers have priced second-lien loans under 650bp, according to Thomson Reuters LPC data. In addition to Asurion, oil exploration and development firm Gavilan Resources LLC and sale and leaseback specialist Capital Automotive REIT also priced second-lien loans at 600bp in March and May, respectively, and plastic film manufacturer Transcendia Holdings Inc priced a second-lien loan at 400bp in May.

Part of Asurion’s attraction lies in the large size of its second-lien loan, which ensures secondary market liquidity and allows investors to trade out if they decide to exit their positions.

“A lot of second-lien loans are really small facilities,” an investor said. “Because of that you’re getting paid for some illiquidity. But with a deal of this size, you don’t need that illiquidity premium.”

The company’s second-lien loan is also rated relatively highly for junior debt at B3/B-, which also boosted the deal’s appeal.

“It’s relatively rare to find a second-lien loan at this rating,” the investor said. “This is a well-known issuer that has performed well.”

As well as reducing interest payments on its second-lien loan, Asurion is streamlining its capital structure by paying down expensive US$550m payment-in-kind (PIK) holding company loans with proceeds from an incremental term loan.

The PIK loan priced at 900bp over Libor in August 2016, and call protection will roll off at the end of August. The US$800m add-on term loan will be priced at 300bp over Libor. (Reporting by Jonathan Schwarzberg; Editing By Tessa Walsh and Michelle Sierra)

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