Syndicated Loans

views updated Jun 11 2018

Syndicated Loans

Syndicated loans are large loans made by two or more lenders and administered by a common agent using similar terms and conditions and common documentation. Most loan syndications take the form of a direct-lender relationship, in which the lead lender is the agent for the other lenders in the origination and administration of the loan, and the other lending banks are signatories to the loan agreement. In the last several years the popularity of this type of loan has exploded. According to an article in Bank Loan Report, by 2004, the total annual volume of syndicated loan issuance had risen to $1.35 trillion. "Total US syndicated loans were up by nearly $364 billion, or 37%, over 2003 levels and 9% over 2000 levels…. Even so, although the numbers seemed to paint a picture of prolific loan supply in 2004, issuance still could not keep up with demand last year, as an increased amount of entrants on the lending side caused paper to remain scarce." The businesses that are choosing this option to finance their growth have expanded beyond the Fortune 500 companies that were its first users. Initially developed to address the needs of huge, acquisition-hungry companies, they have now become a flexible funding source for both mid-sized companies and smaller companies that are on the cusp of moving into mid-sized status. In fact, although syndicated loans are by nature very large loans—measured in the $100s of millions—it has become somewhat more common to see smaller syndicated loans in the mid 2000s—loans in the range of $10 million.

Most successful small companies that have evolved to the point where they are straining at the boundaries of that "small" designation have always dealt with one or a few individual banks, negotiating individual loans and lines of credit separately with each institution. The next financing step, however, may be to consolidate banking activity through one syndicated facility. While business owners and executives are sometimes loath to run the risk of alienating banks with which they have long done business, the simple reality is that companies can outgrow their traditional banks. As they grow, such companies may need access to more capital than can be handled comfortably by a single bank. An expanded bank group may be needed to fund their continued growth.

Of course, businesses can always choose to simply increase their stable of lending institutions, but this has several drawbacks. Managing multiple bank relationships is a time-consuming job. Each bank must be provided a lot of information about a potential borrower and how its financial activities are conducted. A comfort level must be established on both sides of the transaction, which requires time and effort…. Negotiating a document with a single bank can take days. To negotiate documents with four to five banks separately is a much bigger job. Staggered maturities must be monitored and orchestrated. Multiple lines of credit require an inter-creditor agreement among the banks, which takes additional time to negotiate.

Given these obstacles, business owners and executives often express interest in syndicated loans, which offer consolidation of effort and the possibility of making new banking contacts. Lenders support their use as well. Lenders tend to favor syndications because these arrangements permit then to make more loans, while limiting individual exposures and spreading the lenders' risk within portfolios more widely. In addition, lenders like the fact that administration of syndicated loans is extremely efficient, with the agent managing much of the process on behalf of the participants.

Syndicated loans hinge on the creation of an alliance of smaller banking institutions that, by joining forces, are able to meet the credit needs of the borrower. This creation is spurred by selection of an agent or arranger who manages the account. In consultation with the borrower, the agent will assemble a group of banks to form a syndicate. Each member of the syndicate then lends a portion of the total loan amount. Such a syndicated loan is normally signed six to eight weeks after the mandate has been awarded, and after signing, the borrower can begin to draw down funds.

Borrowers taking out syndicated loans pay up-front fees and annual charges to the participating banks, with interest accruing (on a quarterly, monthly, or semiannual basis) from the initial draw-down date. Nonetheless, on large loans that would otherwise be handled by several different lending institutions under separate loan agreements, syndicated loans can still be more cost-effective. This cost saving increases as the amount required rises.

OTHER ADVANTAGES OF SYNDICATED LOANS

Economists and syndicate executives contend that there are other, less obvious advantages to going with a syndicated loan. These benefits include:

Syndicated loan facilities can increase competition for your business, prompting other banks to increase their efforts to put market information in front of you in hopes of being recognized.
Flexibility in structure and pricing. Borrowers have a variety of options in shaping their syndicated loan, including multi-currency options, risk management techniques, and prepayment rights without penalty.
Syndicated facilities bring businesses the best prices in aggregate and spare companies the time and effort of negotiating individually with each bank.
Loan terms can be abbreviated.
Increased feedback. Syndicate banks sometimes are willing to share perspectives on business issues with the agent that they would be reluctant to share with the borrowing business.
Syndicated loans bring the borrower greater visibility in the open market.

SYNDICATE FORMATION

A borrower's ability to secure a syndicated loan, though, is predicated on its ability to spur the creation of a syndicate in the first place. No two syndications are identical. The lending environment changes every day. Many intangibles influence the structure and pricing of credit. These include the experience and depth of a borrowing company's management team; trends in the industry and market in which the borrower is active; and financial trends within a company.

The first thing the company has to do is select an agent to facilitate communications and transactions between the borrower and the banking institutions that will form the syndicate. The first place to look for an agent is among existing contacts. The agent is often, though need not be, the largest participant in the syndication. The agent must, however, have sufficient capital strength to be the anchor of the credit. Because it is important for a borrower to feel comfortable with the agent, and vice-a-versa, working with an institution with whom one has a solid history often works best.

Once an agent has been selected, the process of finding willing banks is undertaken. This phase of the process can vary considerably in terms of complexity. Some agents gauge the interest level of other lenders by simply sending them necessary financial information on the borrower and the intended shape and size of the syndicate group, as well as data on borrower operations, background, management, and marketing. In other cases, however, this process can be more complex, involving extensive due diligence, the preparation of a complete syndication offering memorandum (including financial projections), and a formal bank presentation.

By and large, the length of time necessary to form a bank group is roughly equivalent to the complexity of the proposed deal. Creation of a syndicate can take place over the course of a few weeks or a few months. Analysts note, however, that the length of time necessary to conclude the deal is usually less if the banks are already familiar with the borrower's operations. Once the membership of the group has been determined, the relationship quickly assumes the character that the borrowing business would expect when dealing with a single lending institution. Participating banks will still call on the borrower if need be but these interactions will be infrequent. The agent or arranger will be the primary contact for the borrower.

Indeed, the agent's responsibilities are many and varied. The agent is charged with administering the syndicated facility itself, as well as all borrowings, repayments, interest settlements, and fee payments. A chief component of the administration function is to make sure that communications between the lending institutions and the borrower remain open so that both sides remain informed about changing business and market realities. In return for providing these services, the agent is compensated with an annual fee.

see also Finance and Financial Management; Loans