A few highly-rated companies use short-term loans rather than bonds to fund their financial requirements. They are gaining less expensive rates because banks can adjust slower to the rising interest rates than credit markets.
With the Federal Reserve approving a 0.75-percentage-point interest-rate increase Wednesday, finance chiefs are doing the math as they weigh alternative instruments to pay for maturing debt, mergers and acquisitions, or other transactions. The Fed rate hike was its fifth anniversary, and the bank’s financing costs typically react slower than bond markets to Fed actions and the time delay between a couple of weeks and months, according to bankers.
“We are seeing some resurgence in interest in term loans because it is a cheaper alternative for many borrowers,” said James Shepard, head of the capital markets investment grade department within Mizuho Americas. This institution is both an investment and a corporate bank. He noted that the difference in financing costs could be as high as a half-percentage percent. “These are companies that would have gone for regular bond financing when funding costs were low,” he said.
Businesses include business-software company Oracle Corp., Food maker Conagra Brands Inc., and Philip Morris International Inc. A manufacturer of vaping devices and cigarettes In recent months, they secured financing through term loans.
Highly rated companies have raised $998.8 billion of bonds within the U.S. this year through Monday, in contrast to $177.9 billion of term loans, according to Refinitiv, the data service provider. Last year, fundraising through bonds amounted to $1.46 trillion versus $236.7 billion for term loans for investment-grade-rated companies.
“It is a small portion of companies that really have a capital need right now, as many of them tapped financing before,” said Don McCree, vice chairman and head of commercial banking for Citizens Financial Group Inc.
Banks typically offer additional services to corporate clients, for instance, the management of cash and underwriting and hedging. These services will charge less for the long-term loans, he added. “As long as there is ancillary business, the pricing in the bank market can be supported by other revenue streams,” Mr. McCree said.
Term loans typically are shorter than bonds, most lasting between three and five years. Businesses that borrow money do not have to take it out; it can be more akin to insurance than a bond. Investors are paid by the company shortly after the deal is concluded. The revolving credit facility differs from term loans in that the borrower can draw money up to a specific limit and then repay it and redraw it again. With a term loan, the borrower typically draws a single amount of funds and must pay a set amount over time.
Revolving credit and term loan facilities typically include floating rates that are fixed and a guaranteed overnight finance rate that fluctuates up and down according to market conditions. However, issuers generally will agree to pay an agreed-upon rate each time they offer a bond.
Conagra, the investment-grade-rated owner of brands including Reddi-wip cream, Slim Jim meat sticks, and Birds Eye frozen foods, borrowed $500 million earlier this month under a term loan that it put in place in August. The Chicago-based firm said it will use a portion of the money from the loan that is unsecured to pay back debts that mature in 2023 during the fiscal year.
Conagra has a total of $937 million due as bond debt for 2023, According to S&P Global Market Intelligence, the data company. Conagra, which has various financing options, decided to go with the term loan because it is the “relative strength of the bank loan market.” The company first tapped into bonds in August 2021, S&P figures show.
Highly rated companies have been able to agree to a bond yield of 4 percent since the beginning of this year. Citizens said that yield has risen to 4.8 percent for bond sales in the last three months. For bank loans, including term loans, firms with a single-A rating generally agreed to pay the spread of SOFR plus 103 basis points, equivalent to 1.03 percentage points since the calendar began. The loan spread has decreased by 92 basis points to SOFR in the last three months. SOFR was trading at 2.27 1.7% on Monday, as per the Federal Reserve Bank of New York.
Austin, Texas-based Oracle, a frequent issuer of bonds during previous years, has also agreed to fund the bonds using term loans of investment grade, including $4.36 billion in July for a cost of 160 basis points and SOFR, as per Refinitiv. Oracle has borrowed around 15 billion dollars in loans from the start of the year and has opted to stay out of the bond market completely. Oracle has sold $14.9 billion worth of bonds in 2021. This includes around $2 billion maturing in 2028, at 2.3 percent, and $19.9 billion for 2020. This includes approximately $3.5 billion, which will mature in 2060 at $3.85 percent, per Refinitiv. Oracle declined to comment.
Oracle has repaid about $15 billion in loans since the beginning of the year. PHOTO: DAVID PAUL MORRIS/BLOOMBERG NEWS
Philip Morris, which in June had agreed to up to $5.8 billion worth of loans for the term and an agreement to bridge funds for its purchase of Swedish Match AB, a producer of lighters and tobacco products, has yet to return on the bonds market after. The company, which is highly rated, did not comment on the matter.
Bankers have also noted increased interest in term loans among noninvestment-grade-rated companies. Cheniere Energy Inc. is an exporter and producer of LNG. In June, it refinanced and increased a term loan worth $4 billion and the $1.5 billion work capital loan. The company has yet to announce bonds to investors in the past year, just like it did back in 2021 and 2020, which saw it sell the bonds for $750 million or $1.8 billion and $1.8 billion, respectively, according to Refinitiv. Cheniere reduces debt to get the investment grade credit score but has declined to respond.
“We are seeing a developing trend of corporates increasing the use of pro rata term loans,” stated Kristin Lesher, the head of Middle-Market Banking at Wells Fargo and Co. This refers to a mix of refinancing credit facilities and term loans. “For corporates with upcoming maturities, some are choosing to utilize bank term loans as a way to swap out debt at a lower relative cost of capital.”
However, term loans be subject to restrictions. Royal Caribbean Cruises Ltd., a listed New York cruise line, has made $1.25 billion of bonds, with an interest rate of 11.625 percent and an additional offer of $1.15 billion, which is 6.6%. It is trying to cut its debts to levels that were in place prior to Covid-19, and has a speculative-grade credit rating, makes use of short-term loans to fund the ships, but it does not depend on such loans to pay off maturities the Chief Financial Officer Naftali Holtz told. “The longer-term plan is to create an unsecured balance sheet. Term loans are typically secure,” Mr. Holtz pointed out the mix of term loans and bonds, which comprise the company’s capital structure.
Companies with maturities of the first quarter of 2023 but want to avoid locking in financing can either take out the term loan today or join an insurance contract that permits the sale of bonds with a set price.
“If credit markets reprice, they can exit the term loan and tap the bond market instead,” Mizuho’s Mr. Shepard said. “It is cheap insurance, entering into a term loan now.” However, depending on the bank, the company will have to pay the transaction fee, which can be different.
