Is Mezzanine debt dead? The growing role of Unitranche funding in the Australian debt market
As private credit markets continue to evolve, the bypassing of the traditional bank market has revealed a range of new debt structuring options for financial sponsors, with the latest trend: unitranche debt. Already popular in the US and Europe, recent domestic leveraged buyouts have broken new ground within the Australian and Asian loan market by utilising unitranche debt financing.
Unitranche debt is the blending of senior and subordinate/mezzanine debt into one instrument. It carries a single interest rate, comprising a blended senior and junior rate, meaning it is likely to be higher than a traditional bank loan. Borrower friendly features such as a more flexible terms, including covenant package or bullet repayments are combined with prepayment protection making this mutually attractive for both lenders and borrowers. Further, the arrangements are typically structured under one set of loan documentation, which can result in a more efficient establishment and maintenance process, particularly in the event of amendments post financial close.
- Greater flexibility of structure and terms
- Greater leverage for financial sponsors vis-à-vis traditional leveraged buyout (LBO) loans
- Shortened transaction timetable
- Potentially larger hold capability/less need to syndicate
These benefits are evident in the three domestic Unitranche buyout transactions recorded to date: iNova Pharmaceuticals Pty Ltd A$650M (Sep 17) at BBSY + 525bp, Laser Clinics Pty Ltd A$250 (Sep 17) at BBSY + 575bp, Novotech Pty Ltd A$135 (Nov 17) at BBSY + 500-550bp. This structure has allowed financial sponsors to achieve deal leverage of 5.20x – 6.25x EBITDA whilst retaining a super senior revolving credit from traditional banks.
Ultimately, as domestic traditional banks step back to focus on liquidity requirements, alternative lenders are firming as potential drivers of future unitranche facilities.
However, while emerging as a strong alternative to Term Loan B (TLB) financing in tapping other liquidity pools, unitranche structuring may not be applicable in all situations. Primarily, its flexibility requires a trade-off for higher returns. Secondly, as there is typically reduced capacity to directly provide revolving credit/ancillary hedging services, financial sponsors must balance debt structure with the benefits of using mezzanine debt under a more traditional LBO debt structure. Unitranche debt is unlikely to eradicate mezzanine debt as both will remain relevant for future leveraged buyouts contingent on the circumstances. Ultimately, unitranche debt has proven highly successful in certain environments with the full extent of unitranche liquidity yet to be fully identified.