As the risk of a recession grows, European dealmakers have fewer debt options to choose from.

LONDON (Reuters) – European dealmakers are finding it hard to finance corporate takeovers because debt investors want more money for the risks they’re taking to get deals done. Investors are worried that the region’s economies could go into recession.

The Russia-Ukraine war has caused global economic uncertainty and market volatility. This, along with the Federal Reserve and the Bank of England tightening their money supply and the expectation that the European Central Bank will do the same, has made deal financing more expensive and harder to get.

Refinitiv data shows that more than $390 billion worth of mergers and acquisitions (M&A) deals have been announced in Europe since January, compared to $365 billion in the same time period last year. This is almost double the $199 billion worth of deals that were announced in the same time period before the pandemic.

Even though banks have agreed to give them the money they need, some are having to change their terms to get lenders to take on some of their debt.

“There are a lot of moving parts in the market, and investors will be careful until things settle down and the bid/ask gap closes, especially in Europe,” said Anthony Diamandakis, global co-head of Citi’s asset managers franchise worldwide.

“There aren’t many new debt commitments right now because mergers and acquisitions seem to be slow.”

This year, the average yield on corporate debt around the world has gone up by nearly 200 basis points. ICE (NYSE:ICE) and BofA indexes show that the yields on high-yield bonds that are paid in euros have doubled to 5.5 percent.

Dealmakers say that the trouble getting financing hasn’t put an end to new deals, and even though mergers and acquisitions aren’t happening as much as they used to, that could change later this year.

But in the meantime, there have been problems with some debt sales.

In Britain, the most well-known deal that has hit a snag is the $8.6 billion takeovers of supermarket chain Morrisons by U.S. buyout fund CD&R. The syndication of Morissons’ debt pile has been put off by about six months, which has slowed down the deal.

One source familiar with the talks said that the lead banks that paid for all of the Morrisons financings still have more than 3 billion pounds of debt that needs to be shared.

A source said that Goldman Sachs (NYSE: GS), BNP Paribas (OTC: BNPQY), Bank of America (NYSE: BAC), and Mizuho had to sell a piece of their debt worth about 1 billion pounds to private lenders at a discount of about 10%.

Goldman Sachs and CD & R both said they had nothing to say, and Morrisons and the other banks could not be reached right away.

Most M & A financing packages are reviewed months ahead of time. Investment banks promise potential buyers a certain interest rate, but they also include “flex” clauses in the deal terms that let them change the final price by a certain amount if the markets move a lot.

If those aren’t enough to cover the rise in market rates, the debt is sold at deep discounts and the difference is made up by banks, which could mean a loss if it’s more than their fees.

UNDER SCRUTINY

After the financial crisis, leveraged buyouts were looked at more closely because they are usually paid for by putting a lot of debt on the target company and using its assets as collateral.

Because they have a high debt-to-equity ratio, they often issue high yield bonds that are not investment grade. These bonds are often called “junk bonds” because they have a higher chance of not being paid back.

But money is leaving the asset class this year. According to data from EPFR, European high yield retail funds have lost $20 billion, or 6% of their assets under management.

“A lot of investors in fixed-rate high-yield investments have cash on hand, but they are worried about cash going out. As long as that fear is there, it will be hard to set prices for big new deals “JPMorgan’s head of EMEA leveraged finance, Daniel Rudnicki Schlumberger (NYSE:SLB), said (NYSE:JPM).

Refinitiv data shows that the number of high yield bonds issued around the world has dropped by 77% since the beginning of the year, and that the number of bonds issued in Europe has dropped by nearly 75% since last year.

After the European high yield market was closed for 10 weeks, the longest time since 2009, a group of banks led by HSBC and Barclays (LON:BARC) sold 815 million pounds worth of bonds in April to pay for Apollo’s purchase of British homebuilder Miller Homes.

A lead manager said that a sterling tranche was priced at a deep discount of 93.45 cents to attract investors. The banks were also offering a higher yield than they had said at the beginning of marketing.

HSBC refused to say anything, and neither Barclays nor Apollo could be reached right away.

In the same way, French private equity firm Ardian chose a junk bond to pay for its May 6 purchase of Italian drug company Biofarma Group for 1.1 billion euros ($1.2 billion).

A document seen by Reuters shows that BNP Paribas and Nomura set up a 345 million euro floating-rate bond to pay for the Biofarma buyout. They ended up giving a large discount and tightening investor protections in the bond documentation to get the deal done.

Nomura didn’t want to say anything, and BNP Paribas and Ardian couldn’t say anything right away.

The buyout fund CVC Capital Partners also had trouble getting into a major European football league. The private equity firm had to sell 850 million euros in bonds to pay for a 1.99 billion euro investment in Spain’s La Liga.

A deal document that Reuters saw said that Goldman Sachs, which led the bond sale, had to offer big discounts on both tranches. Both CVC and Goldman Sachs said they had nothing to say.

Most M&A financing is aimed at the leveraged loan market, which has done better than junk bonds because floating rates protect investors from rising rates. However, loan sales have also slowed. Dealmakers say that banks have become pickier about which deals they will fund.

Simon Francis, head of debt financing for EMEA at Citi, said, “You want to have a clear understanding of any pass-through issues, like energy exposure or a possible drop in consumer demand.”

“It’s important to understand how what’s going on in the world will affect your performance.”

‘MIX AND MATCH’

Bankers and investors say that private lenders like Ares, Blackstone (NYSE:BX), and KKR are trying to fill the gap by charging higher interest rates to potential buyers in order to give them cash and save their deals.

Since Russia invaded Ukraine on Feb. 24, the trend has been growing.

“Banks will probably have to rethink any long-term loans they made before the war in Ukraine,” Francis said.

This year, U.S. private equity firm Thoma Bravo has avoided traditional banks in favor of a group of private lenders like Owl Rock Capital (NYSE:ORCC), Blackstone, Apollo Global, and Golub Capital. In March, the group helped Thoma Bravo pay $10.7 billion to buy enterprise software company Anaplan (NYSE:PLAN).

In April, the U.S. tech-focused investment firm continued to use Golub, Blackstone, and Owl Rock to pay for the $6.9 billion takeover of SailPoint Technologies, a New York-listed cyber security company.

In Europe, private lenders have mostly worked as part of what are called “hybrid deals,” in which money comes from both private and public markets.

Chris Munro, who is in charge of global leveraged finance at BofA, said that hybrid structures could be used to back a number of upcoming financings.

“Banks are still open for business and underwriting deals, but the terms have changed and the structures are a little bit more conservative,” he said.

But now that banks are getting nervous, private credit funds are likely to keep growing.

“We’re going to start mixing and matching. When it comes to some of their financing, private equity funds will have to get creative “Francis from Citi said.