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Syndicated finance and loan syndication

Syndicate finance occurs when a group of banks lend money to a borrower at the same time and for the same purpose. Loan syndication may arise because a borrower requires a loan that is too large for a single lender or where it exceeds a single lender’s risk-exposure levels.

Bilateral vs syndicated loans

Corporate lending falls into two main categories of lending; bilateral loans and syndicated loans. The difference between bilateral and syndicated loans is the number of lenders involved. Bilateral loans involve a single lender whereas syndicated loans have multiple lenders.

Types of syndicated loans

Globally there are three types of syndicated loans:

  1. Underwritten deals
  2. Club deals
  3. Best-efforts syndication

The European loan market almost exclusively consists of underwritten deals whereas the US market contains mainly of best-efforts syndication.

Underwritten deals

An underwritten deal is one where a single lender (the loan arranger) guarantees the entire loan commitment and then attempts to share this burden with other lenders. If the arranger cannot find other lenders (known as subscribers) then it must absorb the difference. The arranger may then attempt to sell the loan to investors in the form of debt securities.

Best-efforts syndication

A best-efforts syndication is where the loan arranger commits to part of the loan but seeks other lenders to share the burden. If additional subscribers are not found then the loan may not proceed or its terms may be changed to attract more lenders. However, the arranger is not obliged to automatically take up the remaining amount of the loan in the same way as an underwritten deal.

Club deals

Club deals are generally smaller deals which are pre-marketed to a group of lenders. The borrower may arrange the loan itself or through an arranger. If there is an arranger then it will not be treated differently from other lenders. For example, the fees and loan will be shared equally between all the lenders.

The primary and secondary loan markets

The primary market

The primary market is formed by lenders lending directly to borrowers. Loans may be syndicated before the loan is made or shortly afterwards. A credit rating agency will determine the credit rating of the borrower prior to the loan. The two largest ratings agencies are Moody’s Investors Service and Standard & Poor’s (S&P).

Companies with a high credit rating are known as investment grade whereas loans to borrowers with a lower credit rating are known as leveraged loans.

Investment grade loans are normally to sovereign states or to blue chip companies.

If a borrower’s credit rate is below BBB (S&P) or Baa (Moody’s) then the loan will be considered a leveraged loan. The London leveraged debt market is mainly lenders who arrange loans to companies with whom they have a strong relationship.

The secondary market

After a loan is syndicated, it may be sold by a lender in the secondary market. The secondary market includes sales of syndicated debt by the original syndicate lenders and all subsequent purchasers. A lender may wish to sell on its loan to other investors to free up capital to arrange new loans and thereby earn more fees.

What’s the difference between a syndicated loan and a consortium loan?

A loan syndication is headed by a managing bank that is approached by a borrower to arrange credit. The managing bank is responsible for negotiating conditions and arranging the syndicate. In return, the borrower generally pays the bank a fee.

However, the managing bank in a syndication does not necessary lend the most money. Any of the participating banks may act as a lead or assume the responsibilities of the managing bank depending on how the credit agreement is drawn up.

Like a loan syndication, consortium financing occurs for transactions that might not take place with a single lender. Several banks agree to jointly supervise a single borrower with a common appraisal, documentation, and follow-up and own equal shares in the transaction. Unlike in a loan syndication, there is not one lead bank that manages the financing project; all of the banks play an equal role in managing the project.

Syndicated loans vs participation loans

A distinction can be made between syndicated loans and participation loans. Both involve a single borrower and multiple lenders but take different contractual forms.

  • In syndicated lending, the borrower enters into a single credit agreement with a group of lenders covering all loan facilities provided to the borrower by the lenders. A syndicated credit agreement might take the place of multiple bilateral credit agreements between the borrower and each lender. Unlike in a participation loan, each of the lenders in a syndication has a direct contractual relationship with the borrower.
  • In a participation loan, the participant has no direct rights against the borrower, but does not have any direct obligations under the loan agreement (for example, a commitment to lend). Instead participant banks acquire their rights and obligations through a participation agreement with the lead lender. As a legal matter, the participant is not in privity of contract with the borrower and does not maintain any actions or rights of set-off against the borrower. Rather, the participant must rely on the lender to protect its rights.

What next?

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