Leveraged Lending

Leveraged Lending Defined

Numerous definitions of leveraged lending exist throughout the financial services industry. Depending upon the source, definitions commonly contain one or more of the following conditions:

Proceeds used for buyouts, acquisition, and recapitalization.

Transaction results in a substantial increase in borrower’s leverage ratio. Industry benchmarks include a twofold increase in the borrower’s liabilities, resulting in a balance sheet leverage ratio (total liabilities/total assets) higher than 50 percent, or an increase in the balance sheet leverage ratio more than 75 percent. Other benchmarks include increasing the borrower’s operating leverage ratios [total debt/ EBITDA (earnings before interest, taxes, depreciation, and amortization) or senior debt/EBITDA] above defined levels such as above 4.0X EBITDA or 3.0X EBITDA, respectively.

Transactions designated as a highly leveraged transaction (HLT) by the syndication agent.

Borrower rated as a non-investment-grade company with a high debt to net worth ratio.

Loan pricing indicates a non-investment-grade company. This generally consists of some spread over LIBOR (London Interbank Offered Rate) that fluctuates as a function of market conditions.

The OCC broadly considers a leveraged loan to be a transaction where the borrower’s post-financing leverage, when measured by debt-to-assets, debt-to-equity, cash flow-to-total debt, or other such standards unique to particular industries, significantly exceeds industry norms for leverage.

Banks engaging in this type of activity should define leveraged lending within their lending policy. Examiners should expect the bank’s definition to clearly describe the purpose and financial characteristics common in these transactions.

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