Europe Leveraged Loan Defaults May Rise to 25%, Moody’s Says

Leveraged Loan Defaults May Surge to 25% in Europe, Moody’s Says
A shopper is reflected in the window of a store displaying ''Store Closing'' signs in Southend, U.K. Photographer: Chris Ratcliffe/Bloomberg

At least 25 percent of unrated European leveraged buyout companies with debt due by 2015 may default as the economy worsens and private-equity owners refuse to inject capital, according to Moody’s Investors Service.

An analysis of European LBO companies found that 254 had a combined 133 billion euros ($167 billion) of debt due by the end of 2015, with more than half owed by 36 borrowers, Moody’s said in a report.

“The 2014-2015 refinancing risk remains large and worrisome given our expectations of protracted macroeconomic weakness combined with the weak average credit quality of this universe,” analysts led by London-based Chetan Modi wrote in the report. “We do not expect that private equity sponsors will inject further capital into their own distressed companies primarily to assist their lenders.”

Concern is escalating that Greece may exit the euro, splintering the 13-year-old currency bloc and threatening global growth, as European lenders pressure the nation to meet bailout terms ahead of elections next month. The euro is trading near the lowest against the dollar since July 2010 after dropping more than 5 percent in May, and the cost of insuring Spanish government and financial debt rose to record levels this month after Moody’s downgraded 16 of its banks.

Rajoy’s Call

Spanish Prime Minister Mariano Rajoy has called for Europe to “dissipate any doubts about the euro” as the nation’s narrowing access to credit markets prompts the government to consider using public-debt securities rather than cash to fund a 19 billion-euro bailout of its third-biggest lender, BFA-Bankia.

The rate of European LBO defaults could more than double if companies are shut out of the high-yield bond market, according to the Moody’s report. Issuance of new collateralized loan obligations is unlikely to recover and banks are less willing to hold leveraged loans, the ratings company said.

While half of the companies studied are large enough to sell bonds, the high-yield market will be “relatively discriminating” given the amount of debt that needs to be refinanced, the report states.

“The multiples private equity firms were paying to buy those businesses in Europe was one, too high and two, they then loaded them up with way too much debt,” Neil McDonald, the Hong Kong-based head of law firm Hogan Lovells International LLP’s business restructuring and insolvency practice in Asia, said in a telephone interview today. “Now we’re starting to see the consequences.”

Greek Exit

At worst, a Greek departure from the common currency could spur sovereign defaults in Europe as well as bank runs, credit crunches and recessions, Pacific Investment Management Co.’s global strategic adviser Richard Clarida predicts.

Global trade and financial ties mean the pain wouldn’t be confined to the euro area. JPMorgan Chase & Co. estimates a 1 percentage point slump in the euro countries’ economy drags down growth elsewhere by 0.7 percentage point. Financial contagion could be such that exporting nations from the U.K. to China would suffer.

Stocks in Asia are headed for an 11 percent decline this month, the steepest monthly slide since October 2008. The Nikkei 225 Stock Average fell in Tokyo after a government report showed Japan’s jobless rate climbed to 4.6 percent in April from 4.5 percent in March.

Loans Maturing

Some 125 billion euros of syndicated corporate loans are maturing before the end of 2013 in countries on Europe’s periphery, according to data compiled by Bloomberg. Companies in Asia outside of Japan have more than $110 billion of U.S. dollar-denominated loans maturing in the same period, the data show.

A similar risk of leveraged loan defaults doesn’t exist in Asia, according to McDonald, who has advised commercial banks on their debt obligations to Dubai World and bondholders of Sino-Forest Corp. and China Forestry Holdings Co.

“Asian banks were much more cautious in their lending,” he said. “Having said that, private equity firms here are still facing all sorts of issues from putting capital into businesses with venture partners in China, and then getting burnt when those venture partners have procured a whole lot of local bank debt.”

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