Midsized company restructurings set to rise

Distressed debt restructurings are expected to increase this year among midsized US companies as credit begins to flow more freely to smaller borrowers, a report says.

The revival in the corporate debt and loan markets has mostly benefited larger borrowers, noted the restructuring report by the investment bank Morgan Joseph & Co.

"In contrast, middle market borrowers have seen only a fraction of the recovery witnessed by their larger counterparts and therefore may be primed to be the largest beneficiaries of increased credit demand in 2010," the report said.

Because the minimum for a high yield or "junk" bond issue is about US$150 million ($211 milion), many smaller firms rely mostly on bank loans for funding instead, making borrowing more expensive, the report said.

Yet investors' appetite for distressed debt is growing as markets continue to recover.

That resurgence of demand, combined with an expected increase in mergers and acquisition activity, will likely help more midsized companies restructure their debt later this year, said James Decker, managing director and head of the financial restructuring group with Morgan Joseph in a telephone interview with Reuters on Tuesday.

"We see that better day coming," he said.

"As credit markets loosen, that should be accompanied by an increase in M&A activity," Decker said. As markets improve, companies may be able to sell units "or raise equity capital to reduce the overall debt level," he added.

At the same time, the price of bank loans has climbed so that many would no longer be considered distressed. Many are now trading above 90 cents on the dollar, up from a bottom near 50 cents on the dollar about a year ago, said Decker, who coauthored the report.

"Borrowers remain highly leveraged, and combined with a renewed source of funding from the capital markets, expectations for increased levels of distress driven transactions in 2010 would seem inevitable," the report said.

Until now, smaller firms have been more severely punished in the credit crunch and its aftermath than many bigger companies.

Smaller companies' borrowing costs have risen to their most expensive in a decade compared with the funding cost for bigger firms, the report said.

Firms with less than US$50 million of earnings before interest, taxes, depreciation and amortisation (EBITDA) have to pay the highest premiums over Libor in 10 years, versus comparable borrowing costs for bigger companies.

Libor is the London interbank offered rate, the leading global benchmark against which trillions of dollars of loans are referenced.

Such smaller companies are paying a premium near 100 basis points to borrow compared with bigger companies. Before the financial markets turmoil in late 2008, these premiums were generally less than 50 basis points, the report said.

In the latter part of this year, as credit conditions ease for smaller companies, the premium should start to decline toward 50 basis points, Decker expects.

- Reuters