Global proceeds from syndicated loan support were USD3.5tn in 2020. The origins of syndicated loans (or loan syndication or debt syndication) can be traced to the 1960s. Debt syndication emerged as a viable financing option with the growing internationalisation of banking and deregulation of exchange control rules in Western Europe.
What Is Debt Syndication?
There may be instances when a single lender cannot offer a loan to a borrower. This might be because the sum is too large for a single lender to extend or because the default risk needs to be minimised by dividing the loan between a number of lenders. This latter process is known as debt syndication or syndicated loan support.
For example, borrower B could get 30% of the loan from lender A, 45% from lender C and 25% from lender D.
Debt syndication is one of the most preferred methods for corporates to raise debt. The risk of default is shared by the lenders, with each lender’s risk exposure limited to the portion of the loan they have financed.
Loan terms between each lender and the borrower are uniform. Where collateral is concerned, however, each lender is assigned a different asset of the borrower as collateral.
Citigroup, JP Morgan and Bank of America are some of the leading loan syndicators in the US market.
We now come to participants in a syndicated loan, types of loan syndication and areas where syndicated loans are used.
Participants In A Syndicated Loan
- Borrower: the company that needs to borrow a substantial amount of capital to execute a capital-intensive project, a merger or an acquisition.
- Lead bank: the bank that arranges the syndicated loan support. Oversees the arrangement of loan syndication. A lead bank is also known as a lead underwriter
- Underwriting Bank: the bank that underwrites the loan, meaning that if the loan is not fully repaid, this bank pays the remaining amount.
- Participating Banks: the banks that offer parts of the syndicated loan and agree to take on proportional exposure to risk of default.
- Agent Bank: is the bank that is responsible for administering the loan
Types of Loan Syndication
Types of loan syndication include underwritten deals, club deals and best-efforts syndication deals.
Underwritten Deals
The lead underwriter guarantees and syndicates the entire loan. In the event the loan is not fully repaid, this bank pays the remainder.
Club Deals
These are entered into when the deal is, on average, less than USD150m. The lead underwriter shares the fees earned equally or almost equally with the other lending partners.
Best-efforts syndication deals
The lead underwriter does not guarantee the entire amount of the loan. Therefore, unsubscribed portions of the loan may be modified as per the agreement. Either the terms of the financing are renegotiated or the transaction does not close.. Alternatively, the borrower may have to accept a lower amount or cancel the deal.
Where Are Syndicated Loans Used?
Mergers and acquisitions: a merger is where two companies sign an agreement to merge into a single company. An acquisition involves one company acquiring another. In both instances, a substantial amount of capital is required, and companies would have to borrow from loan syndicators.
Capital expenditure projects: organisations often undertake capital-intensive projects such as building highways, setting up power plants, creating townships from scratch, or greenfield projects. It is prudent to borrow funds for such projects from a syndicate of lenders rather than using cash reserves or depending on a single lender.
As commercial banks remain cautious and deals become sophisticated, syndicated loan support is set to increase in importance. Hence, investment banks and advisory firms may consider engaging an external partner to provide bespoke syndicated loan solutions.