Brown Gibbons Lang & Company released its BGL Middle Market Insider that highlights the state of middle-market financing in the U.S.
The company noted that the first quarter of 2012 brought big budgets and big aspirations and the expectation of a blockbuster year for M&A. Instead, volume has been less than robust, fueling a highly competitive market, as a supply demand imbalance has lenders aggressively competing for scarce quality deal flow. Middle-market lenders are trying to stay disciplined but finding that pricing and structure, particularly for premium credits in the market, are testing their comfort zone.
Putting money to work is the headline, and lenders are eagerly waiting for the M&A pipeline to fill. Pent up demand from sellers looking to capitalize on a favorable exit window holds the promise that it will.
The report noted that lenders are cautiously optimistic. Positive trends suggest the economic environment may be stabilizing and volatility in the capital markets has eased. Sentiment has improved and the talked about fear of a double-dip recession as waned.
Lenders are closely monitoring the macro environment as issues of high unemployment, budget deficits and risks in the euro-zone and globally are reminders that the road to recovery has been rocky and all it takes is a “risk speed bump,” in the words of one middle market lender, to cool the markets off.
M&A activity was soft in Q1/12, but the pipeline is building. April brought an uptick in deal flow, and key drivers, notably capital availability and pent up demand from sellers, are expected to support healthy deal activity in the coming months. Flight to quality is still influencing lender selectivity, and competition is fierce for high-quality companies coming to market.
Risk appetite is increasing, a function of improving fundamentals, bigger budgets, and scarce deal flow. The primary concern of lenders is putting money to work, and the theme of “too much capital chasing too few deals” is fueling a supply demand imbalance that is permeating transaction valuations and structures. Middle-market lenders are feeling pressure but are not taking the lead of the large market, where today’s behaviors of aggressive leverage, cheap pricing, and looser terms are mirroring those seen in 2007. Discipline remains intact. Practically, leverage has ticked up a quarter to half turn from Q4/11, and spreads have tightened 25 to 50 basis points. Middle-market lenders are still getting reasonable terms.
The window for exits is favorable: purchase price multiples are trending up; buyers with excess capital are in search of quality assets; and access to financing is plentiful. The financing environment is stable and accommodating buyout and dividend activity.