Syndicated Lending (Loan Markets): How Loan Markets Work
The diagram below illustrates the various roles that are taken by banks in the loan markets:
The Book Runner
The customers do not have the contacts, knowledge of rates nor relevant experience to put together syndicates of banks so he normally chooses one bank to be the Book Runner (or Mandated Lead Arranger – MLA). The Book runner undertakes to provide ABC with the £200 million he needs at an agreed interest rate (usually LIBOR plus a margin) for an agreed fee, say 50 basis points of the loan size. The Book Runner then finds various other banks either in the same country or other countries who want to come in on the loan and the key tool in the negotiation is the amount of the fee that the Book Runner passes on to the syndicate members. If the loan is very popular (because it is a customer or industry segment or country that lots of banks want to get into) then the Book Runner will keep a big portion of the fee for himself. If the opposite is true then the Book Runner will have to pass on the entire fee (or more) to entice lenders.
This “selling” of new customer loans into the other banks is called the Primary Loans Market.
The Book Runner’s role is essentially transactional. Once he has established the initial syndicate group of banks and established the basic share of the loan for each syndicate member, his job is over and he goes off looking for a new deal to be Book Runner on. His profit/loss will come from the difference (or “skim”) of loan arrangement fee paid by the customer and fee paid to the syndicate members.
The Syndicated Loan Agent
The Loan Agent is a bank who represents the interests of all the syndicate members for the lifetime of the loan. The Agent role is typically split into two areas of activity.
- Middle Office Agent: the Middle Office Agent has the responsibility for drawing up and getting signed all the contractual documentation associated with the loan. (This might involve external lawyers, loan agreements, security and collateral related contracts such as property title rights and guarantee letters). The loan typically has a life of several years and so the Middle Office Agent has an ongoing role to monitor the credit worthiness of the borrower on behalf of the syndicate members. This might mean obtaining and distributing management accounts of the borrower to the syndicate members or calculating and publishing key ratios (e.g. interest payment as a percentage of earnings).
- The Loan Admin Agent: has to move the money around for the borrower and syndicate members. For example ABC wants to draw down some money, say £73 million, the Loan Admin Agent has to calculate each syndicate member’s share of the drawdown and obtain the money from the syndicate member in order to pass it on to the borrower. Money flowing in the opposite direction would be interest payments, loan repayments and fee payments. Each amount of money has to be divided up according to the syndicate member proportion of the loan and the loan contracts rules. This role is akin to that provided by registrars for publicly traded shares.
The Loan Admin Agent is the main place for IT support, to automate calculations, fax communications and payment generation.
A bank earns fees for carrying out the Agency role and is nearly always a member of the syndicate as well.
The Secondary Market
The syndicate membership is not frozen for all time. Banks’ appetite for classes of loans, countries, companies, industries and so on change over time so syndicate members often sell some or all of the participation after the initial syndicate has been set up. This buying and selling of parts of established loans is called the Secondary Loan Market. Additionally, banks will typically have a loan trading book (an inventory of loans) that they are trading purely speculatively like any other commodity by trying to sell the loan for more than they paid for it. The expectation is that any loan on the trading book will be sold at most a few months after being bought. (IAS caused quite a bit of furore in banks about when a loan is held for trading and when it is held on an investment. See What is IAS 39).
Secondary market deals represent work for the Agent as each deal requires contract documentation to be drawn up and all the proportions for monetary calculations to be changed. Hence re-enforcing the need for IT automation support for the Admin Agent function.
More from the Syndicated Lending (Loan Markets) report: