European Union: ECB Publishes Draft US-Style Guidance On Leveraged Transactions

On 23 November 2016, the European Central Bank ("ECB") published for consultation draft guidelines on leveraged transactions ("Draft Guidance"), similar to the US Guidance on Leveraged Lending issued by the US federal bank regulatory agencies in 2013 ("US Guidance"). The aim of the Draft Guidance is to promote sound origination and distribution practices in the leveraged lending market. Interested parties will have the opportunity to comment on the Draft Guidance until 27 January 2017.

Background and Scope

The publication of the Draft Guidance and the opening of the consultation come at a time when the ECB has increasingly been monitoring credit quality and leveraged finance exposures as a result of its survey of 40 banks last year that revealed a 35% increase in risky loans between 2012 and 2015. The survey also highlighted the fierce competition that currently exists in the leveraged finance markets, which are characterised by ultra-low interest rates, a supply/demand imbalance and borrower-friendly deal terms.

Responding to these considerations, the ECB is seeking to develop clear guidelines on leveraged lending that are aligned with the US Guidance, with the intended goal of "strengthening the level-playing field for financial institutions on a global basis". The Draft Guidance provides a draft set of guidelines for banks to follow in order to help them define, measure and monitor their leveraged transactions.

Does the Draft Guidance Apply to All Lending Institutions?

The Draft Guidance states that it applies to all significant credit institutions supervised by the ECB under the Single Supervisory Mechanism ("SSM"), which is the system of banking supervision in Europe involving the ECB and the national supervisory authorities of the countries participating in the SSM. All countries that have Euro as their currency participate automatically in the SSM, whereas other EU countries that are not part of the Eurozone can choose to participate. Any subsidiary of a third country bank (i.e. a bank established in a country outside the European Economic Area) that is itself established in the Eurozone or a participating country will be subject to the SSM.

The application of the Draft Guidance to "significant credit institutions" means that non-banks and other alternative lenders are not covered. The decision on whether a bank is deemed significant (and therefore under the ECB's direct supervision) is set out in the SSM Regulation and SSM Framework Regulation. To qualify as significant, banks must fulfil at least one of several criteria, including, for example, relating to the bank's size (where the total value of its assets exceeds EUR 30 billion), its cross-border activities and its economic importance. The ECB assesses the banks annually in order to make this determination and banks that are not deemed to be significant will be supervised by their national competent authority, subject to the ECB's oversight. The ECB's latest annual review of the significance of credit institutions brought the number of banks directly supervised by the ECB in 2016 to 127, and these banks currently hold almost 82% of banking assets in the Eurozone according to the ECB.

The UK is not in the Eurozone and is not a participant in the SSM. Credit institutions established in the UK are therefore not subject to direct supervision by the ECB and are not subject to the Draft Guidance. It is unclear whether this will provide UK banks with a competitive advantage or whether the Bank of England will propose any similar guidance for UK banks in the near future. In 2015, the Bank of England, following its own survey of UK banks and the leveraged loan markets, concluded that the UK banking system was resilient to stress in these markets. However, it is possible that the Bank of England will wait until the Draft Guidance is finalised before deciding whether to develop its own guidance in alignment with that of the ECB.

Nature of the Draft Guidance

The Draft Guidance, once finalised, will be non-binding. However, banks will be required to integrate the Draft Guidance into their internal policies in a manner that will differ depending on the size and risk profile of their leveraged transactions relative to their assets, earnings and capital.

Pursuant to the SSM, each significant bank has a dedicated Joint Supervisory Team ("JST") responsible for the supervision of the bank, comprising staff of the ECB and the national supervisors. Banks will be expected to submit an internal audit report to the JST 18 months after the Draft Guidance is finalised and implemented, and to outline which of the expectations have been implemented. At present, it is unclear how non-compliant deals will be sanctioned, but we expect this to be determined during the consultation process.

What Is a Leveraged Transaction?

The ECB recommends and invites market participants to comment on a definition of leveraged transactions that would include loans or credit exposures: (a) to borrowers "owned" by their financial sponsors (where ownership means the control or ownership of more than 50% of the borrower's equity), and/or (b) resulting in a post-financing total leverage ratio exceeding 4.0 times. It is expected that the definition will exclude the following transactions:

  1. loans made with natural persons, credit institutions and investment firms;
  2. loans where the own consolidated exposure of the credit institution is below EUR 5 million;
  3. asset-based loans;
  4. commercial real estate financing;
  5. project finance loans; or
  6. trade finance.

Leverage Restrictions

Similar to the US Guidance, the Draft Guidance recommends that banks should not underwrite transactions presenting a ratio of Total Debt to EBITDA exceeding 6.0 times. Any exception would need to be justified and referred for approval at the highest level of credit committee or similar decision-making level internally. However, unlike in the US Guidance, EBITDA refers to "unadjusted EBITDA", which the ECB explains is "realised EBITDA over the previous 12 months with no adjustments made for non-recurring expenses, exceptional items and other one-offs". The US Guidance uses adjusted calculations, as do the rating agencies, which permit some assumptions regarding, for example, synergy savings to be factored into the calculation. The ECB's recommendation for unadjusted EBITDA follows an increased prevalence in the use of complex EBITDA add-backs in leveraged loan transactions to circumvent regulatory restrictions. This aspect of the Draft Guidance is likely to promote particular commentary by market participants during the consultation process, some of whom will no doubt argue that the use of unadjusted EBITDA could lead to a further reduction in leveraged lending.

Generally, there is no mention of any grandfathering for deals that are underwritten now but which might exceed the prescribed leverage level after the Draft Guidance takes effect. Furthermore, unlike the US Guidance, which is not applicable to bonds, "best efforts deals" (including non-investment grade corporate bonds) and "club deals" as well as all pending transactions to be syndicated will be subject to monitoring and reporting requirements under the Draft Guidance.

Hung Deals

The ECB recommends that credits be monitored by banks, with any risky transactions requiring prior approval. Hung deals, where a transaction has not been syndicated within 90 days of the closing date, also need to be identified and managed in accordance with a robust framework for managing these types of transactions.

Defining Appetite and Strategy

Each bank will need to define its own appetite and strategy for underwriting and syndicating leveraged transactions. Senior management will need to set the budget allocated to leveraged transactions on an annual basis; oversee all leveraged transactions originated, syndicated or purchased by the bank; and ensure that the bank does not exceed the approved appetite. This will require the development of appropriate information systems and the receipt of regular reports on market trends and on the bank's leveraged transactions.

Approving New Deals

A credit approval process for leveraged transactions will be required to be put in place at each covered bank. Due diligence with respect to this approval process should include, among other things, checks to ensure that the borrower will be able to repay at least half of the total debt granted by the bank within five to seven years and a stress test of the borrower's or private equity sponsor's business plan and projections.

Monitoring Holdings and Stress Testing

The ECB recommends on-going monitoring of a bank's portfolio of leveraged loans, a yearly review of hold book exposure and more frequent reviews for deteriorated exposures. The debt repayment capacity of the borrower should be part of the review, and banks will be required to pay particular attention to any concerning signs of impairment or default.

Compliance Procedures

The ECB recommends that compliance with its guidance should be part of a bank's regular internal auditing and should be reviewed at least every three years. Compliance procedures also need to be put in place in respect of secondary market transactions.

What Is the Likely Impact of the Draft Guidance?

In the US, as a result of the leverage restrictions, the largest leveraged lenders have reduced their exposure to leveraged loans and have begun to focus on lending to companies with stronger debt service capacity and balance sheet liquidity. There have been attempts to circumvent the issue of the leverage levels and take advantage of the fact that a few exceptional credits are permitted under the guidelines, but as a whole, leverage levels for US leveraged buyouts, which were well above 6.0 times EBITDA during 2014, have declined to below 6.0 times.1

The European leveraged loan market, being sensitive to developments across the Atlantic, has seen a corresponding reduction in bank lending following introduction of the US Guidance. Leverage levels are currently even lower than in the US, meaning that the Draft Guidance when finalized might not have a significant impact on leveraged lending. Nevertheless, in certain sectors a fair number of European leveraged buyouts this year were leverageded above 6.0 times and so the Draft Guidance could have a more significant impact in these sectors.

In response to the reduction in bank lending in the leveraged markets globally, private equity firms have been seeking funding from a greater number of regulated banks when contemplating transactions. They have also expanded their relationships with non-banks and other non-traditional funding sources, which have stepped in to fill the funding gap. Since the European leveraged lending market has a higher proportion of bank lenders than in the US, the European leveraged lending guidance may arguably have a greater impact in Europe than in the US and that the rise in non-bank lending in Europe will accelerate as a consequence.

It is also likely that other trends that we have seen following the launch of the US Guidance will continue when the Draft Guidance comes into effect. Less risky targets will continue to be more appealing to private equity sponsors, and the proportion of equity funding in transactions is also likely to rise.

In general, the leverage ratio cap proposed under the Draft Guidance could help to calm the market and create a shift towards less aggressive deal structures and terms. On the other hand, it is also thought that if the leverage ratio cap leads to significant further reduction in leveraged lending in Europe, this will exacerbate the imbalance between the demand for yield and the lack of supply of investments. This imbalance could help sustain the current borrower-friendly environment, with its aggressive documentation terms and structures.


The ECB has said that the Draft Guidance is not aimed at reducing leveraged borrowers' access to financing solutions but at improving leveraged lending practices. Until the Draft Guidance is finalised, the ramifications will remain uncertain; however, it is clear for now that banks will need to spend more time making sure that their monitoring, reporting and compliance procedures are in place and that their leveraged lending activities are compliant. There are many actions that banks can begin to take now in preparation for when the Draft Guidance takes effect, which is likely to be in the first quarter of 2017.

Comments from market participants on the Draft Guidance will be considered before it is finalised. The ECB has announced that, following implementation, the guidance will serve as the basis for supervisory dialogue between banks and the ECB or JSTs, following which, the ECB will ascertain whether banks have addressed supervisory expectations appropriately.

We will continue to monitor developments in connection with the Draft Guidance. In the meantime, if you would like to learn more about the issues in this Alert, please contact your usual Ropes & Gray attorney, or any of the attorneys listed below.


1. Standard & Poor's financial services LLC, Leveraged Commentary and Data.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

In association with
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.