A Pragmatist's Guide to Leveraged Finance
How leveraged loans and high-yield credits are underwritten and priced.
Summary
Kricheff, a high-yield credit analyst and portfolio manager, wrote a practical guide to analysing leveraged loans and high-yield bonds, aimed at people entering the field.
The analytical content follows the work a credit analyst actually does. Kricheff covers the calculation and interpretation of leverage measures, particularly debt to earnings before interest, tax, depreciation and amortisation, and the adjustments that determine whether the resulting figure is meaningful. He covers coverage ratios, free cash flow after capital expenditure and working capital, and liquidity assessment including revolver availability and near-term maturities. He is explicit about the adjustments companies make to earnings before interest, tax, depreciation and amortisation in credit agreements, which permit add-backs for expected synergies and one-time items that frequently do not materialise.
The structural material covers the capital structure hierarchy, secured against unsecured, the role of guarantees from operating subsidiaries, structural subordination where debt sits at a holding company above the entities owning the assets, and the covenants: incurrence covenants in bonds against maintenance covenants in loans, restricted payments, permitted liens, asset sale provisions and change of control puts.
The market sections cover new issue processes, pricing, the relationship between loans and bonds, and recovery analysis.
The book is introductory and practical rather than theoretical. It was published in 2012, and the market has changed substantially since: covenant-lite loans became the norm, documentation weakened further, and liability management transactions using drop-down and non-pro-rata uptier structures have altered creditor protections in ways that predate none of the analysis here. Readers should supplement it with current documentation practice.
Key takeaways 7
- Reported earnings before interest, tax, depreciation and amortisation in credit agreements permits add-backs that frequently do not materialise, so leverage is understated.
- Free cash flow after capital expenditure and working capital determines whether a borrower can service debt, not the earnings measure.
- Structural subordination means holding company debt ranks behind all obligations of the subsidiaries that own the assets.
- Guarantees from operating subsidiaries determine which claims reach the assets, so the guarantee package is part of the credit.
- Incurrence covenants in bonds restrict actions while maintenance covenants in loans require ongoing compliance, and the difference determines when a lender can act.
- Near-term maturities and revolver availability determine whether a stressed borrower survives, regardless of the leverage measure.
- Recovery depends on where a claim sits in the structure and on the asset value, not on the coupon or the credit rating.
Who should read it
Analysts entering leveraged credit who need a practical foundation, supplemented with current documentation and liability management practice.
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Where it sits in the reference 1
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