Syndicated Lending

Syndicated lending is a form of lending in which a group of lenders collectively extend a loan to a single borrower.

The group of lenders is called a syndicate. The loan is called a syndicated loan, in contrast to a bilateral loan, which is a loan made by a single lender to a single borrower. Syndicated loans are routinely made to corporations, sovereigns or other government bodies. They are also used in project finance and to fund leveraged buyouts.

Syndicated loans are primarily originated by banks, but a variety of institutional investors participate in syndications.

These include mutual funds, collateralized loan obligations, insurance companies, finance companies, pension plans, and hedge funds.

Syndicate members play different roles. Some just lend money. Others also facilitate the process. It is common to speak of an arranger, lead bank or lead lender that originates the loan, forms the syndicate and processes payments. But several syndicate members may share these tasks. Syndications with two or more arrangers are not uncommon. In a world where bragging rights are important for securing future deals, a bank may be called an arranger for nothing more than contributing a large part of the loan.

Most syndicated loans are floaters, paying a spread over Libor, but other structures abound. Fixed-rate term loans, revolving lines of credit and even letters of credit are syndicated. Loans may be structured specifically to appeal to institutional investors.

These might have two tranches:

• A Tranch A structured as a typical bank loan, such as a floater or revolver, and offered to bank lenders, and
• A Tranch B structured as a fixed-rate term loan and offered to non-bank institutional investors.

Loans can be underwritten or originated on a best efforts basis. In the former case, the arrangers commit to a particular sized loan. It is up to them to recruit enough syndicate members to secure that full amount. Should they fail, they make up the shortfall, extending a larger portion of the loan than they had perhaps wanted. With a best efforts deal, the arrangers try to recruit enough syndicate members to achieve a desired loan size. If they fail, however, the borrower simply receives a smaller loan than it had hoped for.

The borrower in a syndicated loan incurs two expenses. One is the interest on the loan. The other is fees. These can take various forms, depending on how the loan is structured. Fees may include an administration fee, upfront fee, underwriting fee, commitment fee, facility fee, utilization fee, etc.

Syndicated loans, like most loans, pose credit risk for the lenders. This can be extreme, as with some leveraged buyouts or loans to some sovereigns. Credit risk is assessed as with any other bank loan. Lenders rely on detailed financial information disclosed by the borrower. As syndicated loans are bank loans, they have higher seniority in insolvency than bonds.

Syndication has been used for decades on an as-needed basis by banks wanting to spread the risk of large loans. The market took off following the first, 1973, oil shock. As the price of oil skyrocketed, banks recycled deposits from oil-exporting countries as syndicated loans to oil-importing countries, especially less-developed countries in Latin America. The second oil shock, of 1981, and the Fed’s experimentations with monetarism, caused interest rates to shoot up in the early 1980s. A number of less-developed countries – including Argentina, Brazil, Mexico, the Philippines and Venezuela – defaulted on their floating-rate loans. Former Treasury Secretary Nicholas Brady spearheaded a bailout on behalf of the US Government. This combined considerable debt forgiveness with a repackaging of loans as bonds collateralized by US Treasuries. Called Brady bonds, these instruments were actively traded in a secondary market.

As the market for syndicated lending to less-developed countries dried up, Michael Milken was launching a wave of leveraged buyouts (LBOs) financed in part by syndicated loans. The market experienced retrenchment again as LBOs faltered, but syndicated lending entered the 1990s as a mature market serving a variety of sovereign and corporate borrowers.

During the 1990s, an active secondary market for syndicated loans emerged. This was fueled partly by the recession of 1991, which forced some banks to trim their balance sheets. Secondary market trading continued a convergence of the syndicated loan and bond markets. As those markets converge, the disparity in how they are regulated presents both opportunities and legal uncertainties. In the United States, most bonds are regulated under the 1933 Act and 1934 Act. Bank loans generally are not, and arrangers of syndicated loans invoke a number of exemptions under those acts to avoid regulation.

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