Direct Lending in Spain: An increasing presence in the market

The Spanish market has, in recent years, witnessed growing interest by credit funds, who have significantly increased their activity in the country.

Credit funds benefited from a good starting point; namely the fact that lending, as such, is not a restricted activity requiring a banking licence in Spain.^[1] The presence of debt funds in Spain manifests itself in various ways. One of the main avenues through which debt funds have entered the market has been providing funds in debt restructuring situations, be it to allow for a partial repayment of syndicated facilities that helps to de-block restructuring negotiations or to fund the operating needs of the relevant company, i.e. using both structures where the borrower of the new money is ring-fenced from the rest of the group or not.

The other way in which direct lending is increasing its presence in Spain is lending in situations where there is no restructuring, such as pure acquisition finance transactions, real estate finance transactions or as financing add-on acquisitions. Increased liquidity and lending appetite in the Spanish banking sector in the second half of 2015 has led to increased negotiating power of borrowers, banks accepting low yields, and terms and conditions that prevented funds from tapping into certain sectors of the lending market.

What you need to know

• There is no regulatory restriction to direct lending in Spain.
• There are features of the legal market that credit funds should carefully analyse in order to structure a deal in the most efficient way.
• Credit funds are now addressing other types of borrowers, especially in situations that have a deal-specific element to them.

A different note

Traditionally, we have seen credit funds involved more in direct lending transactions with a financial sponsor. We are now, however, experiencing credit funds addressing other types of borrowers, especially in situations that have a deal specific element to them that make banks wary. This increasing presence in the market means that credit funds have to deal with: (i) making borrowers bridge the learning curve in terms of the enhanced flexibility that direct lending documentation implies and that this outweighs the enhanced yield expectation from the lender(s); and (ii) the specific matters Spanish law presents to them, with the following issues regarding structuring, insolvency risks and security interests attracting substantial attention:

1. Acceleration issues: Spanish law (contrary to English law) does not allow acceleration of the facilities on the basis of any default, but only on the grounds of a limited number of substantial defaults. This is leading some funds to prefer having the finance documents subject to English law, which is a difficult ask if the borrower is not a portfolio company of a financial sponsor.
2. A one-year stay on enforcement in the event of an insolvency: in the event of an insolvency heard in Spanish courts, there is an automatic stay on enforcement of up to one year over assets linked to the insolvent company’s activity. The wide-ranging ambit of what is or is not linked to the activity of an insolvent company by Spanish courts has increased the perception for the need to structure direct lending using a double Luxco or double Dutchco structure, where a Dutch or Luxembourg law share pledge can be enforced more easily in the event of an insolvency.^[2]
3. The fact that certain security interests are not available to lenders that do not qualify as credit institutions (notably, a specific type of real estate mortgage).
4. The enforcement of certain security interests, notably pledges over quotas in Spanish SLs (sociedades de responsabilidad limitada) has been made more difficult since last year, which has fostered the need for double Luxco/Dutchco structures.
5. The enforceability of a pledge of receivables and its watertight character in the event of an insolvency: given the enhanced flexibility that borrowers expect when entering into direct lending transactions, in Spain often hard assets security are replaced by less expensive security, such as pledges over receivables. In this respect, long debate on the poor drafting of a section of the Spanish Insolvency Act, that caused substantial uproar in the market, has recently been put to bed by a change in law that provides for a protective regime for pledges of receivables, in the sense that the receivables will be deemed subject to the pledge in the event of an insolvency to the extent they stem from contractual relationships executed prior to the insolvency.

Conclusion

In a nutshell, although there is no regulatory restriction to direct lending in Spain, there are a number of features of the Spanish legal market that credit funds should carefully analyse in order to structure the deal in the most efficient way while making it interesting to the borrower in comparison to obtaining bank debt.

This article is part of our latest edition of Credit Funds INSIGHT. To download a PDF of the full publication, please click here.

_{Notes
[1] The restricted activity is the intermediation in the banking market, i.e. taking refundable deposits from the public to apply them to lending.
[2] This being always subject to COMI shifting risks.}