Wall St warns rescue scheme will exclude many companies

A swath of midsized US companies will be excluded from a government programme to help them through the Covid-19 crisis if rules capping their debt levels are not made more flexible, bankers, lawyers and analysts say.

The Main Street Lending Program — which will be managed by the Federal Reserve and backed by the US Treasury — is a pillar of the US economic response to the coronavirus pandemic. It is designed to help medium-sized companies across America access liquidity in the coming months. 

The warning from Wall Street cautions that the $600bn plan — which applies to companies with up to 10,000 employees or up to $2.5bn in annual revenue — could suffer from limited access.

The problem, according to executives and analysts, is the definition of ebitda, a measure of profit that stands for “earnings before interest, taxes, depreciation and amortisation”. MSLP rules limit recipients of the government-backed loans to total debt, including MSLP borrowing, of either four or six times ebitda, depending on the loan type.

But ebitda as defined in loan agreements often excludes a number of expenses in addition to the four included in the acronym. Which costs are cut out varies by industry, bank and borrower. Common exclusions include restructuring and merger integration costs as well as stock compensation expenses.

Imposing the standard definition would mean that many mid-market companies already have more leverage than the programme allows, lending industry insiders say.

Ian Walker of Covenant Review, a credit research firm, looked at every company that has issued a term loan in the past 12 months, and found that 90 per cent of them already had debt of greater than four times standard or “as reported” ebitda. A third had greater than six times reported ebitda. 

“Of all the companies I have talked to, not one would meet the leverage rules,” said a lawyer at a major Wall Street firm. A third of the midsized businesses in the US are owned by private equity and virtually all of these would exceed the leverage limits, the lawyer noted, adding that the Fed “has been told about the ebitda problem multiple times”.

The Fed has said that it is seeking comment from industry and will make changes “to make sure the programme supports the economy as effectively and efficiently as possible”. 

Dave Zion, of Zion Research, said that the definition of ebitda in loan agreements could run to thousands of words. “Sometimes they might as well skip all the other letters and just use “r”, for revenue,” he said.

Many of the companies interested in securing help through the MSLP are too large to tap a loan programme run by the Trump administration for small businesses. That scheme, known as the Paycheck Protection Program, was swamped with demand, forcing Congress to replenish it with $310bn on top of the $350bn allocated initially. 

The MSLP is unlike the PPP in that the loans will not be forgiven. Instead, it will provide four-year loans with a low interest rate. The Fed will own 95 per cent of the loans, leaving the remaining 5 per cent of the risk with the banks that originate them. 

Under the MSLP’s “new loan” facility, a company can borrow up to $25m so long as its total debt does not rise above four times ebitda. Under the “extended” facility, companies’ existing term loans may be increased by up to $150m, up to a leverage limit of six times ebitda.

A Wall Street bank executive said that it remained unclear whether the ebitda definition would be as-reported or adjusted, and that “on an ‘as reported’ basis there isn’t a whole lot of borrowing capacity left for loan issuers before they hit six times”.

In a letter to the Federal Reserve and the Treasury, the Loan Syndications and Trading Association, an industry group, said it recommended that the MSLP “use an ebitda definition that is consistent with that used in the borrower’s existing credit agreements” as standardised ebitda “could give a distorted view of true cash flow and therefore leverage”.

Mr Walker of Covenant Review said that while he was usually suspicious of generous definitions of ebitda, in the current crisis “you are not trying to solve for over-leverage, you are trying to solve for a liquidity problem caused by a pandemic . . . leverage will not be the best indicator of whether these loans are going to be paid back or not”.

Additional reporting by Laura Noonan.

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