Loan Syndication31/10/2022 0 By indiafreenotes
The term “Loan syndication” refers to the process of involving a group of lenders that fund various portions of a loan for a single borrower. Loan syndication most often occurs when a borrower requires an amount that is too large for a single lender or when the loan is outside the scope of a lender’s risk exposure levels. Multiple lenders pool together and form a syndicate to provide the borrower with the requested capital.
Loan syndication is often used in corporate financing. Firms seek corporate loans for a variety of reasons, including funding for mergers, acquisitions, buyouts, and other capital expenditure projects. These capital projects often require large amounts of capital that typically exceed a single lender’s resource or underwriting capacity.
There is only one loan agreement for the entire syndicate. But each lender’s liability is limited to their respective share of the loan interest. With the exception of collateral requirements, most terms are generally uniform among lenders. Collateral assignments are generally assigned to different assets of the borrower for each lender. The syndicate does allow individual lenders to provide a large loan while maintaining more prudent and manageable credit exposure because the associated risks are shared with other lenders.
The agreements between lending parties and loan recipients are often managed by a corporate risk manager. This reduces any misunderstandings and helps enforce contractual obligations. The primary lender conducts most of the due diligence, but lax oversight can increase corporate costs. A company’s legal counsel may also be engaged to enforce loan covenants and lender obligations.
The Loan Syndications and Trading Association is an established organization within the corporate loan market that seeks to provide resources on loan syndications. It helps to bring together loan market participants, provides market research, and is active in influencing compliance procedures and industry regulations.
Features of Loan Syndication
- Large amount.
- No separate agreement between an individual bank and the borrower.
- No ambiguity used to be there.
- The length of the contract is generally between 3 to 15 years.
- Low risk is found in loan syndication.
- Each bank is not necessarily to contribute an equal amount.
An underwritten deal is one for which the arrangers guarantee the entire commitment, and then syndicate the loan. If the arrangers cannot fully subscribe the loan, they are forced to absorb the difference, which they may later try to sell to investors. This is easy, of course, if market conditions, or the credit’s fundamentals, improve. If not, the arranger may be forced to sell at a discount and, potentially, even take a loss on the paper. Or the arranger may just be left above its desired hold level of the credit.
Arrangers underwrite loans for several reasons. First, offering an underwritten loan can be a competitive tool to win mandates. Second, underwritten loans usually require more lucrative fees because the agent is on the hook if potential lenders balk. Of course, with flex-language now common, underwriting a deal does not carry the same risk it once did when the pricing was set in stone prior to syndication.
A best-efforts syndication is one for which the arranger group commits to underwrite less than or equal to the entire amount of the loan, leaving the credit to the vicissitudes of the market. If the loan is undersubscribed, the credit may not close or may need significant adjustments to its interest rate or credit rating to clear the market. Traditionally, best-efforts syndications were used for risky borrowers or for complex transactions. However, since the late 1990s, the rapid acceptance of market-flex language has made best-efforts loans the rule even for investment-grade transactions.
A club deal is a smaller loan usually $25‒100 million, but as high as $150 million that is premarketed to a group of relationship lenders. The arranger is generally a first among equals, and each lender gets a full cut, or nearly a full cut, of the fees.
Lead Bank can also be called an Arrange Bank
The lead bank acts as a manager and is responsible by a borrower for organizing funding based on a specific term that the loan parties decide.
The lead bank must find other banks as lending parties willing to bear risk together to participate in this syndication.
The lead bank must discuss details of the agreement and be responsible for preparing loan documentation with participating banks.
The lead bank may underwrite the unsubscribed portions of the required loan, or a different bank may fund the loan.
Underwriting banks will take the risk that will likely occur.
All banks that participate in loan syndication are known as participating banks.
Participating banks will charge fees for their participation.
The work of the agent bank is to ensure that loan syndication is operating effectively.
The agent bank acts as a mediator between the borrower and lender and has a contractual obligation for both the parties (borrower and lender).
In some cases, the agent bank has additional duties in the agency agreement.
The basic work of agent banks is to channel the funds from all participating banks to the borrower and channel back interest and principal amount from the borrower to participating banks.
- Financing takes less time and effort.
- The administration of the loan is extremely efficient.
- It is beneficial for borrowers to establish a good market image.
- Borrowers have flexibility in structure and pricing.
- The borrower need not go to each bank and not apply separate applications to all banks.
- The purpose and period of the loan are fixed.
- The system is simple.
- Time-consuming process since negotiating with the bank can take various days. Thus, loan syndication is a time-consuming process.
- Borrowers may also be adversely affected by syndicated loan agreements.
- If the problem arises, it may be difficult for borrowers to satisfy all banks simultaneously.
- Managing the relationship between multiple parties is a difficult task.
- If profitability fails, the smallest bank withdraws its capital.
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