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Opinion Credit
Atos provides a French lesson for SRT investors
by Duncan Sankey
Duncan Sankey
Portfolio director and head of credit research
Cheyne Capital
It would be naive to think SRTs will escape a downdraft at some point
As Thames Water circles the (doubtless clogged) drain, we wonder which SRT portfolios it will bubble up in, if it ends up in special administration. (On this, the jury is still out – class B creditors have been given leave to appeal the court’s decision to green-light the plan of class A creditors.) One would think that a number of European institutions, many of which have active SRT programmes, would have been involved. It’s thankfully rare to see a recently highly-rated credit undergo this process, but if it does fail, there will be, as CEOs are fond of saying in earnings calls, “learnings”. Fortunately, we have a heads-up from the experience of French digital solutions provider, Atos.
Atos entered into an accelerated sauvegarde procedure — French pre-insolvency proceedings somewhat analogous to US chapter 11 — in October 2024, facilitating a restructuring of its capital stack. Some EUR 4.7bn in debt, including a EUR 1.5bn term loan and a revolver, were restructured into a first-lien EUR 1.1bn facility (for those creditors that provided new money), EUR 1.6bn 1.5-lien reinstated debt (for existing debt from creditors that participated in new money), and EUR 356m second-lien reinstated debt (for existing debt from creditors that eschewed participation). Some EUR 2.9bn of debt was equitised. Estimated recovery values varied — between high single digits, presumably for those that ran for the door, and 30-40 cents for those that offered active support.
Pick a manager with strong credit research
The first takeaway from the Atos experience is the advisability of picking a manager with decent credit research capabilities. While the pendulum has swung toward SRT issuers in terms of portfolio selection and replenishment decisions, managers can still ask for the removal of a limited number of credits they deem unsuitable. It’s a negotiation. A good manager will also attempt to structure replenishment in such a way that it does not involve negative credit migration. Would a competent research team have spotted Atos? The succession of negative outlooks and watches on the name from March 2022 onwards suggested deterioration was underway. Even if they had not fingered it for removal, they may well have assigned a lower rating than that prevailing at the time, to ensure more appropriate pricing of the risk. The same applies to Thames Water.
The manager’s relationship with the issuing bank and its understanding of the contract directly impacts recoveries. In contrast to CDS on a publicly-traded instrument, where the recognition and definition of a credit event are determined by a third party in a tried and transparent process, credit events in SRTs are called by the bank, which may also enjoy some latitude over the kind of credit event designated. Since a restructuring company may still be able to partially service loans referenced in the SRT portfolio until a new capital structure is established, recoveries from a restructuring credit event may diverge from those of a company determined to have undergone a bankruptcy credit event. When undertaking due diligence, it behoves the manager to understand and probe the bank’s approach to workouts, and its appetite for restructuring loans over calling time on the lender.
Bank flexibility can improve outcomes
Similarly, as the Atos case illustrates, recovery values may vary enormously depending on the bank’s appetite to pump new money into a failed credit or, arguably more importantly, a failing credit. A bank that shows willingness to ‘amend and extend’ if a company is going through a dry patch may avoid booking a credit event altogether. An institution that is willing to countenance participating with new lending in launching a bankrupt company on a new trajectory, rather than simply selling the defaulted loan, is likely to materially improve recovery values for the SRT investor.
This is not exclusively a function of documentation. The appetite of a lender to show forbearance and support will be a function of the borrowers on its books, the profitability of other services it can offer to a lender, its mindset towards customers (transactional versus relationship-oriented), and its own capacity to add risk-weighted assets. Again, credit analysis will shed light on some of these variables. Assessing others is a function of sound due diligence and a well-developed relationship between the manager and the bank.
With the growth we are witnessing in the SRT market and the indicators of incipient credit issues manifesting elsewhere in private credit, it would be naive to think SRTs will escape a downdraft at some point. When it comes, credit-savvy managers should be in a position to outperform.
For investors, this is the time to stick with managers for whom credit is home turf, rather than a tourist destination.