As 2023 gets underway, we've taken the opportunity here to look at what we saw in the European distressed market in 2022, as well as looking ahead to what we expect to see in the months to come.
The European distressed market steadily picked up in 2022, a function of energy price rises, supply chain disruption, interest rate rises and inflationary pressures. Distress was mitigated by the prevalence of covenant lite/covenant-loose debt documentation and many companies having refinanced their existing debt in 2021, pushing out maturity walls to 2025 and beyond.
Throughout 2022, the Part 26A restructuring plan (the Plan) and schemes of arrangements have continued to be popular tools for restructurings in Europe. The “cross-class cram-down” has remained an attractive feature of the Plan. It has been used in two out of four Plans sanctioned in 2022 (ED&F Man and Houst). 2022 also saw the first use of the “cram-out mechanism” in Smile Telecoms, where the Plan company petitioned the court to exclude out-of-the-money stakeholders from voting on the Plan. In Houst, the court departed from the statutory order of priority under the relevant alternative for the first time, illustrating a key difference between the Plan and US Chapter 11 proceedings.
Meanwhile, during 2022, we saw stressed European companies seeking to use more bespoke refinancing techniques to address financial needs, including more aggressive forms of liability management. For instance, Keter reportedly considered carrying out an amend-to-extend through an “exit consent” in October 2022. This was the first prominent example in recent history of a company proposing an uptiering transaction under English law governed documents. Although the proposal was subsequently dropped, it illustrates the attraction of exit consents and uptiering transactions for sponsors and companies versus the more well-established paths of schemes of arrangements and Plans.
The levels of activity in the bank financing market in Q3 of 2022 were low in comparison to the equivalent period in 2021. As the market shifted to direct lending providers, we have seen an increase in attempts by direct lenders to rein in some of the more aggressive features in sponsor-friendly credit documentation precedents that had previously been syndicated. As sponsors generally remained determined to retain their precedent positions (reflective of the height of the market in 2021), the tightening of documentation has largely been implemented by way of side letters rather than updates to the credit agreements. Therefore, the documents currently in the market will very often not be reflective of lender protections that are documented elsewhere.
Looking ahead, pressures on businesses are likely to continue in 2023. In a landmark decision in 2022, the UK Supreme Court provided welcome guidance for directors in Sequana on their duty to consider the interests of creditors, which will be of paramount importance as we head into a difficult trading environment in 2023.
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In this article, we look back at European distressed debt, restructuring and leveraged finance trends in 2022 and share our thoughts on potential market developments in 2023, including our expectations for a likely uptick in aggressive US-style liability management techniques in the European market.