LONDON, Oct 12 (Reuters) - The European Central Bank (ECB) has scheduled a round of meetings with banks after its guidance on leveraged transactions is implemented on November 16 to help lenders interpret the rules, bankers said on Thursday.
The guidance is being introduced to rein in risky bank lending and is similar to Leveraged Lending Guidelines that were introduced in the US in 2013.
While some details are clear, including the definition of leveraged transactions as all types of loans or credit exposure with leverage of more than four times total debt to Ebitda, many questions are still outstanding.
The main issues include the definition of total debt and the impact of the regulation on acquisition finance and banks’ internal systems due to the introduction of a tough 90-day limit for syndicating deals.
“The guidelines are complicated and not entirely clear. A lot will become more clear once we start reporting and have discussions with the auditors and regulators,” a head of capital markets said.
The guidelines also state that highly leveraged loans with leverage of six times total debt to Ebitda should remain exceptional, but bankers are concerned that nearly all loans could fall into this category without further clarification.
“Just about every sponsor transaction will be in excess of leverage metrics if you calculate in a way asked to by the ECB,” a head of risk said.
Subordinated equity-like shareholder loans and PIK loans will be included in total debt calculations, which would take leverage over the 6.0 times target rate.
Subordinated loans are used to upstream cash in European buyouts. The recent sale of UK intellectual property services provider CPA Global included €410m of subordinated debt.
The ECB has made exceptions to its definition of leverage for small and medium-sized enterprises and investment-grade companies, but the guidelines still include corporate business and infrastructure loans as well as loans for double B rated companies. Weak loan covenants currently give borrowers the freedom to add a wide range of supplemental debt, which will push the leverage on most buyouts to around 7.0 times or higher if added, bankers said.
The ECB’s treatment of acquisition and capital expenditure lines, revolving credit facilities and so called “freebie baskets” that allow extra leverage to be added to businesses’ without lenders’ permission is still unclear, bankers said.
“You have to include accordion facilities, permitted baskets, any additional permitted indebtedness and any committed revolving credit facilities, even if undrawn,” the head of risk said.
One of the biggest unknowns is whether there will be any consequences for banks that fail to adhere to the guidelines, although most lenders are anticipating a period of adjustment.
“We are being told what we have to do but we are not being told what will happen or what the penalties will be if we don’t do it,” the capital markets head said.
The ECB is expected to refine its guidance as it gains a fuller understanding of banks’ leveraged lending capabilities, although this could take some time and leave bankers grappling with costly new internal systems in the interim.
“We are setting up to start reporting from November but the timetable is tight and it’s a costly process. There will be lots of translation in the first year and then we will see whether the ECB refines it or allows the ambiguity to continue to occur,” the syndicate head said.
The Federal Reserve set a precedent by adjusting the US Leveraged Lending Guidelines once they were implemented. Although the ECB has less power to enforce the guidelines, bankers expect it to adopt a similar position in time.
“Logically one has to assume that’s where the ECB will end up, otherwise why do it,” the syndicate head said. (Editing by Tessa Walsh)