Portability – the transfer of a company’s debt to the company’s new owner – is a tug-of-war between borrower and investor. For years, investors dug in and held their ground, forcing borrowers to accept their put options to repay debt when companies were sold.
Borrowers gradually overcame that resistance and began to overpower investors and weaken loan covenants, beginning not long after the financial crisis of 2007-8, and emboldened by: low market interest rates, yield-hungry investors, alternative asset managers entering private credit markets, and investor demand outstripping the supply of tradeable debt.
“As negotiating leverage has tipped in favour of private equity sponsors, more lenders are giving up their rights to have loans automatically repaid if the borrower is acquired,” says Joseph Weissglass at Configure Partners.
COVID-inflicted financial distress sapped borrowers’ strength and investors sensed they once again had the upper hand and could reverse the trend of loosening covenants. Their hopes were quickly dashed as central banks supported credit markets post-COVID, energising borrowers and shifting the balance of power once again.
Central banks’ misreading of inflation has led to rocketing interest rates, so debt issued when interest rates were low has become sought-after and that is likely to increase demands for portability from sellers and buyers.
Investors, banks at least, are less likely to agree to such demands given the increased demands on them for holding more regulatory capital, and elevated levels of credit provisions as loans sour under the weight of massive interest payments and inflated operating costs. Private credit investors seeking to gain market share and a return might be more easily persuaded.
Buyers and sellers are vociferous about portability not only when credit dries up and endangers completion, but also when transaction fees are prohibitively expensive, when the seller faces redeeming their debt at a price above its current market price, when time is of the essence, or when the owner acquires the company with the intention of selling it in the near future.
Not surprisingly, then, companies for sale with financing in place can attract a premium sale price from buyers in a hurry or with a low credit rating.
Investors' hopes were quickly dashed as central banks supported credit markets post-COVID, energising borrowers and shifting the balance of power once again
Portability conditions reflect whether buyer, seller, or investor has the upper hand at that moment, and can include:
Sellers would do well to include limited condition transaction clauses to allow for figures varying between the debt closing and acquisition closing dates. Investors would do well to prevent a change of control without triggering a clause according to loan documentation, sometimes referred to as back-door portability.
Permjit Singh FCT is a director of an invoice finance company and former head of treasury of a mortgage company. His PhD was on asset securitisation.
