Default rates slow for European private equity-backed companies

Private equity-backed companies in Europe appear on firmer ground after data from Fitch Ratings showed default rates slowing in 2010 and predicted continued falls in 2011, paving the way for more exits.

According to Fitch, cost-saving measures implemented in 2009 and 2010, combined with economic recovery have bolstered leveraged companies. Defaults by value of debt fell to 5% in the 12 months to September 2010 compared with 5.7% in the first half of the year.

Companies stripping out debt from their capital structures via restructurings and new LBO structures with lower leverage contributed to the improved default rate between March and October 2010, Fitch said.

Corrective measures such as equity injections from stakeholders, cancellation of debt due for repayment as well as improved operating performance and liquidity resulted in upgrades by Fitch of 32% of portfolio companies verging on entering default territory.

Improved risk appetite in the high yield bond and equity markets should ensure further recovery in credit ratings through 2011, the ratings agency said.

Financial sponsors could take advantage of improved market conditions to make exits from investments in resilient sectors with broad geographical reach via strategic sales, public listings and high yield bond refinancings in 2011, according to Fitch.

But the challenge of refinancing a mountain of debt due to mature from 2013 and beyond could present a challenge to European companies, particularly those with weaker credit ratings, according to the agency.

"There are some current circumstances that [leveraged companies] may not be able to rely on in a couple of years," said Edward Eyerman, head of leveraged finance at Fitch Ratings.

"Many leveraged borrowers have stabilised due to cost cuts and low debt service burdens, though they will struggle to restore growth necessary for deleveraging," Eyerman said.

Once this debt matures and requires refinancing, it will become much more costly for companies to service. The average interest on 18 senior leveraged loans rated until September 2010 was Libor+ 475 basis points, compared to just Libor+ 237.5 basis points pre-crisis, according to Fitch data.

Private Equity News reported €32.2bn of buyout debt is due to mature between 2013 and 2016, according to data from Dealogic and Debtwire.

For many leveraged companies, extending the debt maturities in exchange for improved terms could be the best option. "We will continue to see borrowers agree 'amend and extends' with lenders, but the conditions from lenders will be to reprice debt and take out subordinated debt," said Eyerman, citing Gala Coral, European Directories and Alliance Medical as examples of this trend.