The European Commission has published a long-awaited report on whether the syndicated loan market gives rise to competition concerns ('the Report'). The Report, which was prepared for the Commission by Europe Economics, is based on a study on whether syndicated lending in a sample of six EU member states (France, Germany, the Netherlands, Poland, Spain and the UK) is working well and its impact on competition in credit markets.
The Report focused on three segments of the syndicated loan market: those connected with leveraged buy-outs (LBOs), project finance and infrastructure finance. Although the Report identified key areas in the syndicated lending process which could facilitate collusion, it concluded that the market did not have any specific anti-competitive features due to existing safeguards in the loan syndication process. However, the Report set out a number of additional safeguards to ensure competitive outcomes in the process.
Key areas of risk
The Report suggested that in individual cases, the following key features may facilitate competition law issues:
- Competitive bidding process: Before the syndicate is formed, each bank should be competing independently. However, it is common for mandated lead arrangers (MLAs) to engage in 'market soundings' in order to gauge investor appetite for loan syndication. Therefore, MLAs may deal with potential investors in the secondary market whilst simultaneously negotiating with the borrower in the primary market. This could be problematic where the sounding crosses the boundary between generic sounding and deal-specific sounding. As such, there is a risk that this process may facilitate the exchange of commercially sensitive information between competitors for the primary loan. However, during the study, lenders emphasised that internal policies meant that any deal-specific soundings would require client consent and this would need to be demonstrated to compliance teams.
- Post-mandate to loan agreement: After the syndicate is formed, MLAs will liaise with the syndicate members and there will also be bilateral discussions between the syndicate members in relation to the loan agreement. Given that the syndicate members could have multiple interactions over time, there is a risk that the members can observe each other’s behaviours and strategies, which may enable them to engage in some coordination on future loan transactions. However, the Report considered that the risk of collusion is low. The Report also identified the risk that negotiations may result in a price to the highest common denominator, which may not always work in the borrower’s or sponsor’s interest. However, it considered that the risk would only be high where the borrower or sponsor is relatively unsophisticated and, in any event, the evidence suggested that this was not common practice.
- The provision of ancillary services by syndicate banks: It is common for lenders to offer ancillary services to borrowers, which are either decided as part of the initial agreement of the loan terms or as a competitive process after the loan has closed. This may be anti-competitive if the ancillary services are provided as a condition of the loan or if an ancillary service, which is not directly related to the loan, is bundled with the loan and 'right to first refusal' or 'right to match' clauses are used. In such a case, this would not allow the borrower to shop around for a better offer because it would be restricted to the service offered. However, the study found that in the UK, the Financial Conduct Authority had banned regulated firms from using “right of first refusal” clauses and such clauses may result in sub-optimal outcomes outside the UK.
The Report also identified additional areas of risk including:
- the use of debt advisors also involved in the syndicated loan
- secondary loan market trading,
- refinancing in conditions of default.
However, it considered that the risk of collusion in these areas was low.
The Report recommended the following safeguards to ensure competitive outcomes in the loan syndication process:
- MLAs should provide training to relevant staff on potential conflicts of interest and on the lender’s duty of care to provide neutral advice to clients
- MLAs should ensure that alternative options are put to the borrower before aligning loan pricing or terms upwards to a highest common denominator
- Lenders should avoid unwarranted information exchange by having enforceable protocols around how, and what, deal information obtained by the syndication function of the bank from other potential syndicate members may be transferred to the same bank’s origination function
- Lenders should limit the bundling of ancillary services and keep this outside the loan syndication process when the services are not directly related to the loan
- Borrowers should ensure competitive bidding processes by approaching more lenders and maintaining bilateral negotiations with individual lenders.
The Report, which does not constitute the formal view of the European Commission, will likely be reviewed closely by national competition authorities as well as the Commission. Overall, the Report suggests that the risk of anti-competitive behaviour in the sector is generally low because sponsors, borrowers and their advisers are sophisticated and run highly competitive processes to select lenders and agents and agree to documentation terms. However, the Report does identify certain competition law risks and recommends a number of safeguards for lenders to adopt in order to reduce those risks.