History of Syndicated Euro Credits
Syndicated Euro Credits are in existence since the late 1960s. The first syndicate was organized by Bankers Trust in an effort to arrange a large credit for Austria. During the early seventies, Euromarkets saw the demand for Euro credits increasing from non-traditional and hitherto untested borrowers. The period after first oil crisis was marked by a boom phase. To cope with the increasing demand for funds, lenders expanded their business without undertaking due credit appraisal of their clients or the countries thus financed. Further, the European banks had short-term deposits while bulk of borrowers required long-term deposits. These landings were at fixed rates thus exposing these banks to interest rate risks. The banks evolved the concept of lending funds for medium longterm i.e. 7-15 years on a variable interest rate basis linked to the Interbank Rate (LIBOR). Revision of rates would take place every 3-6 months. These loans are extended in currencies denominated by US Dollar, Yen and Euro. Amortization of the loan would be by way of half-yearly installments on completion of 2-3 years of grace period. At present, this instrument on a variable interest rate basis has emerged as one of the most notable and popular financing instruments in the international financial markets. Syndicated Credit remains as the simplest way for different types of borrowers to raise forex finance.
Types of Syndicated Euro Credits
Syndicated Euro Credits are classified into two types – club loans and syndicated loans. The club loan is a private arrangement between lending bank and a borrower. Conventionally, the entry into Euromarkets for a funding deal is well publicized. When the loan amounts are small and parties familiar with each other, lending banks form a club and advance a loan. Therefore, in view of this private arrangement, an information memorandum is not complied and neither is the deal publicized in the financial press. Syndicate credits are created when lenders and borrowers come together and execute an agreement, defying terms and conditions, under which a loan can be advanced. These procedures and practices have, over the years, been developed and perfected so that a standard package has evolved now.
Documentation Formalities
Along with the syndication process, the lead manager/lead bank also initiates action of drafting the loan documentation, comprising an information memorandum and loan agreement. The information memorandum describes the borrowing entity, its formation, ownership and management. A somewhat detailed account of operations, past and present, and the cash flow position (along with a summary of the financials) fund an important place in it. It must be noted that the information memorandum does not have the same status and recognition as a prospectus; neither does the lead manager take any responsibility for its accuracy. The information memorandum also contains a detailed description of the guarantor, in case loans carry a state guarantee. Many developing country transactions carry the guarantee of their respective governments and conventions have evolved for describing the guarantor. Since the information memorandum is registered with any stock exchange, it does not carry the weightage of a bond issue prospectus. However, it is an important document from the commercial point of view. Prospective lenders rely upon the statements it carries and hence due diligence must be observed.
The principal loan document is the loan agreement and it is the responsibility of the lead manager to draft and conclude it satisfactorily. The agreement is signed by all participating banks and the borrower. It describes the basic transaction, draw-down arrangements, interest rate and its determination, commitment fees, warranties and undertakings, default circumstances, financial covenants (if any), ‘agent bank’ and the participating banks. The loan is underwritten by a management group assembled by the lead bank. Sometimes the lead bank itself underwrites more than half of the loan amount.
Pricing Methodology
The loan, will be charged at an interest rate that is linked to the LIB OR. The rate will be LIBOR plus the spread the bank would like to maintain. This spread which may be any where from 0.125 percent to 1.5 percent, may remain constant over the life of the loan or may be changed after a certain fixed number of years. In addition, the lead manager’s fee, which will be 0.125 percent of the loan, the commitment fee of 0.5 percent on the un-drawn loan amount and agent’s fee will be the total annual charges. Front-end charges include participation fee for the banks taking part in the loan and the management fees for the underwriting banks and lead banks. These loans will require a bank guarantee and the bank should confirm to the capital adequacy norms. However, there are no other collateral’s attached.