High-profile cases of senior debtholders being unexpectedly "primed" have risen in recent years. Priming occurs when one lender surpasses the priority status of another with the introduction of new debt that effectively becomes super senior. This has serious implications for the senior debtholders' post-default recovery prospects. The introduction of a large tranche of super senior debt above the senior debt is likely to materially reduce the amount of cash that the senior debtholders recover.

Historically, recovery rates for senior debt in Europe average about 73%, with U.S. recovery rates slightly higher, at 79%. In a sample of recent cases in the U.S., the average amount of debt introduced ahead of the original first lender was 21% of the total debt structure (see "A Closer Look At How Uptier Priming Loan Exchanges Leave Excluded Lenders Behind," published June 15, 2021, on RatingsDirect for a summary of these cases). Consequently, investors and lenders have started to question whether senior secured loans are truly senior and how they can establish this. In this article, S&P Global Ratings addresses these and other questions following our review of the documentation from a selection of recent European leveraged finance transactions.

Note that credit analysts, rather than lawyers, undertook this review, and no single legal agreement forms the basis of it. Rather, it is a synthesis of multiple transactions across multiple jurisdictions, although many of the intercreditor agreements (ICAs) we reviewed are subject to English law. It is both noteworthy and helpful that different legal firms use similar, often identical, wording for the key paragraphs. When we cite the exact wording of such a paragraph in this article, we will invariably have seen it used across multiple transactions undertaken by multiple legal firms.

Frequently Asked Questions

Is it possible to raise super senior debt without the approval or even the involvement of the senior debt lenders?

In the majority of transactions we have reviewed, it would appear that the parties to the ICA effectively preapprove the raising of super senior debt. The key paragraph where this preapproval occurs is generally titled "Additional and/or Refinancing Debt", and the typical wording is as follows, with the crucial phrase being "or in priority to":

"The Creditors hereby acknowledge and agree that the Debtors (or any of them) shall be permitted, subject to Clause XX (New Debt Financings) to…incur or have incurred incremental Borrowing Liabilities…which in any case are intended to rank pari passu with or in priority to any existing Liabilities and/or share pari passu with or in priority to and existing Security…."

The typical wording for "New Debt Financings" is as follows: "Each Party irrevocably consents and agrees that any New Debt Financing…may be treated as a Super Senior Facility and a Permitted Super Senior Secured Facilities Agreement…provided that: Each applicable Creditor under that Finance Document accedes to this Agreement…."

There are generally further specific requirements that are primarily administrative in nature. There may be other clauses in the ICA, the senior facilities agreement (SFA), or other legal documents that do restrict the raising of super senior debt, but it would be important for a potential lender or investor to establish this on a case-by-case basis.

Can security be pledged to new facilities?

In short, yes, this can often happen, in accordance with the ICA. The relevant clauses that give borrowers the ability to pledge new security can generally be found under the heading "Transaction Security: New Debt Financings." The definition of "Transaction Security" is pretty standard, for example: ""Transaction Security" means any Security from the Group, any Third Party Security Provider…created…in favor of the Security Agent as Agent or Trustee for the other Secured Parties." While the exact wording varies, generally, each of the secured parties authorizes the company to enter into new security agreements and undertakes not to challenge the validity or enforceability of the additional transaction security.

Most European leveraged finance transactions in recent years have provided very limited security to the senior debtholders. Typically, this security takes the form of share pledges, charges over bank accounts, intergroup receivables, guarantees from some operating companies, and not much else. The valuable fixed assets or intangibles are generally not pledged.

What is the U.K. restructuring plan, and can non-U.K. groups benefit from it?

The restructuring plan is a U.K. court-supervised restructuring tool introduced in June 2020 as an extension of the existing scheme of arrangement under the Companies Act 2006. The restructuring plan can be used to "bind" a minority of creditors into a restructuring and to "cram down" a dissenting class of creditor, meaning that a court forces them to accept changes to the terms of a loan. For example, if the court accepts an independent valuation that shows that the value "breaks in", that is, only covers part of, the super senior creditor class, the senior creditors may be obliged to accept the proposed restructuring plan.

Many cross-border-transaction ICAs are already subject to English law. For those that are not, there appear to be several ways for cross-border European groups to take advantage of the U.K. restructuring plan. Changing the governing law of the financing documents to English or acceding an English co-issuer or obligor are two such ways. For example, in 2020, Swiss aviation services company Swissport Group S.a.r.l was able to access the plan via a contribution deed from a guarantor, as was Swiss airline caterer gategroup Holding AG, via a deed poll and contribution payment agreement in 2021.

How do ICAs differ from SFAs in terms of restricting new super senior debt?

The ICAs we have reviewed do not appear to restrict the raising of new super senior debt. Rather, they typically appear to facilitate it. The SFA generally sets out limitations on the raising of additional senior debt, specifying the size of relevant baskets, for example, although the location of these limitations within the document varies. The SFA primarily focuses on the raising of new pari passu senior debt. It is entirely possible that, for each transaction, there is explicit language in the SFA that mitigates the flexibility the ICA provides. This would typically be clarified by a prospective investor.

If the documentation allows a company to raise additional super senior debt, how can investors factor this in, especially when the magnitude of the increase is so uncertain?

This is a particular challenge, as such risk often amounts to event risk. Our recovery ratings generally do not factor in priming risk for senior debt, as we view it as too unpredictable and, generally, remote. We would consider factoring it into our recovery analysis where we have visibility on its likelihood and the potential size of the additional debt, but these things would usually only be evident when a company is already in distress.