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9 May 2024
Insight
Current Debt Financing
At the start of 2024, approximately what percentage of your total debt funding is provided by each of the following?
- Unsurprisingly, bank debt continues to represent the most widely utilised source of debt. Whilst the data for 2022 opposite was a forecast of views taken in 2019, the role of bank debt has remained stable and consistent (despite the macroeconomic and geopolitical upheaval both generally and specifically for banks and the entrance of non-bank lenders that we have seen more generally). Respondents noted that the bank market is increasingly resilient, highlighting that the US regional banking crisis did not spread more widely to banks operating in the UK, whereas a higher level of contagion risk would have been expected several years ago.
- There has been another notable increase in those selecting the debt capital markets. As we noted last year, 41% of debt funding sourced from DCM is unlikely to be representative of listed corporates generally. Yet, the increase in the proportion of DCM issuance is likely reflective of corporates who do have access to DCM seeking to take advantage of the windows of liquidity that have been and are expected to be available.
- The number of respondents raising debt in the private placement markets has been relatively stable; for those corporates who do not have access to the debt capital markets or who choose not to be involved in the disclosure requirements of the debt capital markets, the private placement or bank term loan markets are the most typical alternatives. Larger corporates however sometimes issue in both the private placement and debt capital markets over time in order to take advantage of arbitrage opportunities across those markets though some respondents queried whether the cost savings justified the more intrusive contractual controls over a business in private placements compared to DCM issuance.
- Alternative lenders continue to struggle to gain a consistent foothold in the corporate debt markets. Respondents noted that there is a perception that alternative debt providers are likely to demand more restrictive terms and there is uncertainty as to how those providers will react to consent/amendment requests, both of which compare unfavourably to bank debt and DCM issuance (particularly at a time when corporates are finding those markets provide sufficient liquidity). Some corporate treasury teams therefore consider the alternative lender markets an unnecessary risk in the current environment, foreseeing difficulties in convincing boards of the merits of novel sources of debt or relationships. Structurally, it is challenging for alternative lenders to match the pricing and flexibility that is available to corporates in the bank and debt capital markets, and alternative lenders do not have the same resources available to banks in order to target corporate lending mandates.
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"Banks moan about RCFs as a loss leader but they all still rush in to participate." "Why go private when the public markets are so competitive...the effort and restrictiveness of PPs means that they are a fall back option." "It would be a brave move [to borrow from non-bank RCF/term loan lending market] when there's no need to go there." "We have not seen non-bank alternative financing in the corporate debt markets." |
Increase in net debt
Do you plan to increase your net debt this year (other than as part of usual seasonal adjustments)?
- In a change from last year's survey, we gave respondents the option to state that they had no intention to change their net debt over the coming year.
- Some respondents noted that the fall in those intending to decrease net debt could signify increased pressure on cash flows given the high cost of debt; with interest rates at their current levels the expectation would be to reduce debt as much as possible. In contrast, others noted that their interest return on higher cash holdings was greater than their existing fixed term debt in some cases. The variety of perspectives reflected differing views across sectors and sizes of balance sheets.
- The survey also revealed a slight reduction in the number of those looking to increase net debt. As we will see below, forecast expenditure (including in relation to M&A activity) is expected to remain static or fall, potentially removing (for some) the need to increase debt levels.
- Other respondents noted that they target a fixed leverage ratio when determining whether to increase or decrease net debt, increasing debt as EBITDA grows. Whilst this may help to facilitate returns to shareholders, others noted that such an approach ignores the potential business impact of interest costs in a higher interest rate environment.
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"Had been thinking of liability management of a bond but now not worth it given [the] deposit rates [are] higher than [the] bond coupon." "If debt was more expensive I would want to repay it rather than keeping more cash on balance sheet given the difference between interest cost and interest return." "Most people were battening down the hatches last year." "There needs to be some caution in adhering to old leverage ratios, they may need to adapt to a different business environment where companies preserve more cash." |
Sources of additional debt
If you plan to raise new debt or refinance existing debt in 2024, how will this be achieved?
- In broad terms, anticipated debt raising is expected to follow the predictions made in 2023 but with less focus on equity-linked debt.
- Last year respondents noted that that equity-linked debt is typically more popular at times when other debt options are more limited or in a higher interest rate environment where equity values are suppressed. It would therefore seem surprising that current appetite for equity-linked debt among UK listed corporates has declined. However a number of respondents flagged equity dilution risk (and shareholder opposition to that) as well as such an issuance being at odds with share buyback programmes as explaining this trend.
- It is striking that the composition of corporate debt has remained broadly flat over the last six years, despite the various headwinds that corporates and the various debt markets have faced in that period. Respondents commented that this composition is unlikely to change unless there is a material change in risk appetite amongst treasurers or a particularly significant adverse event affects a particular market or sector. With investors being increasingly selective about the sectors and corporates they lend to, including as a result of ESG policies, we may start to see debt composition increasingly vary from sector to sector.
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"Would only issue equity linked debt if there was an issue to address." "Just kicking off our refi process. We did consider [the political] elections in terms of timing, but we have bank debt so are less worried than if it had been DCM." "Elections are just one of the issues driving an early refinancing." |
Expenditure
Looking ahead, how do you anticipate that your expenditure on the following will compare to last year?
- It is notable that there are year-on-year decreases in those reporting higher expenditure and that this applies in almost all areas. This may be a reflection of a more cautious environment with corporates conserving cash, in part due to higher inflation, interest costs and macroeconomic uncertainty. However, respondents commented that these reductions may in fact be a return to more normal levels of expenditure. Certainly, capital expenditure has returned to levels consistent with those seen in 2019 and 2022, with the spike in 2023 potentially being driven by changes to the capital allowance regime. Similarly, dividends are reducing from recent highs which may have been reflective of completing the post-Covid dividend catch-up.
- More broadly, the reduction in capital expenditure is something to monitor; a lack of investment will impact on overall as well as productivity growth.
- The continued fall in M&A expenditure is unsurprising and echoes the more cautious sentiment expressed elsewhere but it is interesting that expenditure in joint ventures is anticipated to increase. This is perhaps reflective of businesses focussing on organic growth and their existing businesses.
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"More capex is a good thing...it will over time deliver more productivity." "The drop [in capex and dividends] may come from pressure to conserve cash." |
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