Loan portability — when loans are transferred from a company to an acquirer — has become more popular in recent years as a way for businesses to make themselves more attractive to potential buyers.
The pandemic has accelerated the trend, because companies with a portable capital structure can attract buyers at a time when capital is hard to come by.
Low interest rates are also fueling the trend, especially among private equity sponsors looking for short-term investment opportunities. The portable structure can give them a quick exit from the business.
Data on loan portability isn’t widely tracked, but specialists said they’re seeing the rise anecdotally.
Private equity buyers find loan portability attractive because it reduces the delay, expense and risk of getting new financing, which is usually needed to make a deal happen, Ken Young, co-chair of Dechert law firm's private equity group, said.
Additionally, a portable capital structure can provide better pricing and lower transaction expenses. "These benefits can then be shared through negotiations between buyers and sellers," Young said.
With the benefits for companies in the process of being bought, there are few downsides for their CFOs, he added. Portability makes the most sense for bigger companies because their size and scale makes them effectively public companies with private ownership.
While buyers and the boughts like loan portability, lenders do not. They get less for their money than if the loan was paid off and they were able to reinvest the proceeds.
Lenders prefer to reset deal terms and be able to adjust pricing to market conditions in a rising interest rate environment, Young said.
Covid-19 has accelerated the portability trend. "First, rates widened, which means targets with portable capital structures had an advantage with respect to the cost of their debt," Young said. "Second, in the first few weeks, the credit markets froze so having a portable debt structure also meant you could move ahead with deals without needing new financing."
Portability comes in spurts, said Jessica Reiss, head of covenant loan research at Covenant Review, a team of lawyers that analyzes the indentures, credit agreements, and other contracts that determine creditor rights.
"If one deal clears the market with portability, chances are, a few others will also clear the market within a couple of weeks, but then there's often a lull for a few months or even a year before another deal will test the waters," Reiss said.
She attributed the recent increase to the trend of sponsors not looking to invest on a long-term basis in any particular portfolio company. "This is just one potential exit strategy that might be available," she said.
Portability has been around in the European market for some time, said Jennifer Daly, a leveraged buyout partner at King & Spalding in New York.
In the U.S., she said, there was a spike around Labor Day, with a number of deals clearing market with the term all at once. Daly called the low interest rate environment a contributing factor in the increased popularity of loan portability.
"Portability allows a buyer to step into debt that may be cheaper than what they could get in the market," Daly said. "Low rates make the feature more desirable from that perspective, so it makes sense we're seeing more focus on this now."
"When you think about the various factors at play in the market right now, between the pandemic, the election and international trade, it's not hard to imagine situations where the expectation is for a quick exit and where portability could be a helpful tool for private equity," Daly said.