Creditflux Newsletter

So far in this recession, senior, secured investors have been strangely reluctant to take control of failing companies, and where they have asserted their rights the process has often been slow and tortuous.

This wasn’t how it was supposed to be. The 100 CLO managers that started up between 2000 and 2007 chose levered loans because they were senior and secured. The companies to which we lend, CLO managers told their investors, are sound businesses with strong management teams. But don’t worry if something unforeseen happens – we are the senior creditors, we have security, we’ll take control and get (y)our money back.

Yet this structural security isn’t working. At the root of the problem is that in many deals there are many lenders. Coordinating the creditor group is difficult, and some lenders are happy to do nothing but encourage the hard work of a few engaged others.

Wolseley believes large creditors have too often been too slow to assert their rights. And those lenders with small positions or with other credit problems elsewhere have proved unwilling or unable to force through restructurings. Consequently, the initiative for responding to covenant breaches often falls by default to management teams that never wanted covenants in the first place.

Tired and demoralised lenders want to believe management and the sponsor when they say that operational problems are short term and will correct themselves if lenders waive covenants for the next four quarters. Tempted by a fee or coupon increase, many lenders (CLO managers especially) will sign on the dotted line with little further thought.

And there are good arguments for being lazy. If you are a lender that is unhappy with a company’s proposed waiver what are your incentives to act? Organising lenders to vote against the proposal is a thankless task that will do little more than guarantee your removal from the equity sponsor’s Christmas card list.

Other unhappy lenders will then push you to the front and encourage you to organise calls and generate enthusiasm for a “no” vote. But, in the end, if they don’t think you have roused sufficient numbers of investors from their slumbers, they too will vote yes, leaving you alone with your moral indignation.

Sounding boards and creditor committees were designed to help spread the burden of organising a response to a waiver proposal but these have had variable success. There is concern that some institutions on credit committees are too easily persuaded by sponsors to accept and advocate a company’s waiver proposal. It takes strong personalities with plenty of time to challenge management teams and assert creditor rights.

The situation is different where creditors are deploying new money. Minds are focused and creditors are on the ball. Where there is no new money it seems large institutions are on so many committees that they cannot hope to adequately represent creditors every time.

In time, lenders may appreciate that some institutions work harder than others on creditor committees to build consensus and drive a good deal. Yet it will take a number of suboptimal restructurings before the average investor can differentiate between the “good” restructurers and the “bad”.

In the mean time, to make restructurings more successful, practitioners need to put energy into each situation and find the best solutions for creditors, companies and all other stakeholders.

Wolseley is a leading practitioner in the credit market. Feedback is welcome at wolseley@creditflux.com