Leveraged finance, arranged across banks and private debt funds.

Quantum relative to earnings. A clearing bank lending for ordinary trading purposes will usually sit at one to two times EBITDA and take comfort from assets. Leveraged finance starts where that stops, sizing total debt at 3.5x to 5.0x EBITDA with unitranche or mezzanine so that a given amount of equity commands a far larger enterprise. The lender is accepting that repayment depends on the business continuing to generate cash, not on realising security, and prices, covenants and documents accordingly.

That single change cascades. The equity cheque shrinks to 30% to 50% of enterprise value from sponsor and management of enterprise value, which is what lifts a sponsor's return. The company's fixed charges rise, so cash conversion becomes the number everyone watches. Financial covenants appear, tested quarterly. Restrictions on further borrowing, disposals and distributions get written into the facility agreement, and an intercreditor deed sets out who is paid in what order if things go wrong. Leverage is a tool with a sharp edge: it multiplies returns on the way up and losses on the way down.

Background reading: what is a leveraged buyout and the advantages and disadvantages of leverage.

A term loan A amortises over five to six years and is the bank's preferred instrument. A term loan B carries little or no amortisation and repays in a bullet at maturity, historically institutional money and now largely the province of the debt funds. A revolving credit facility of 10 to 15% of total debt covers working capital and is often left undrawn, priced with a commitment fee on the unused amount. Behind those sit mezzanine notes, subordinated by deed and paid partly in cash and partly in payment in kind interest that accrues to principal.

Two structures now dominate the UK mid-market. The bank club, senior term debt plus a revolver, sometimes with a junior layer behind, at the lowest cost and the tightest covenants. And unitranche, where one debt fund provides the whole quantum at a single blended margin with a bullet repayment and typically one leverage covenant. Above the mid-market, high yield bonds and syndicated loans do the same job in public form for larger issuers. Below it, specialist cash flow lending reaches deals the leveraged desks consider too small.

Usually three, occasionally four. Net debt to EBITDA is the headline, stepping down each year as the business deleverages. Debt service cover, free cash flow against interest and repayments, is tested at 1.25x or better. Interest cover measures EBITDA against the interest bill alone. Capital expenditure limits cap what can be spent without consent. Unitranche facilities frequently run a single leverage covenant instead, which is why sponsors pay up for them.

Headroom is where the negotiation actually matters. A covenant set at the base case breaches on the first disappointing quarter, and a breach hands the lender the right to accelerate, reprice or take control of the conversation, even where the business is fundamentally sound. We push for 20 to 25% headroom to the forecast, an equity cure right that lets shareholders inject cash to fix a breach, and definitions of EBITDA that reflect how the business actually reports. The definitions are worth as much as the ratios: what counts as an exceptional item, whether acquisitions are annualised, and how leases are treated all change the tested number.

Two pools, with different economics. Bank leveraged finance and acquisition finance teams lend from their own balance sheets and answer to credit committees and capital rules; names active in this market include Barclays, HSBC UK, Lloyds Bank, NatWest, Santander UK. Private debt funds lend from committed capital raised for the purpose and can price risk the banks cannot hold; Ares Management, Barings, Pemberton, Tikehau Capital, Arcmont Asset Management are among the names active in UK mid-market unitranche, with Beechbrook Capital, Shard Credit Partners, Kartesia in the junior layers. Illustrative of the panel, not a recommendation.

Most leveraged deals are sponsor-backed, and the sponsors, BGF, LDC, Inflexion, ECI Partners, Livingbridge among them, bring both equity and relationships with the funds. That is an advantage sponsor-less management teams have to replicate, and it is the gap we fill: we are an arranger and introducer, not a lender, so we run the same credit paper across both pools and let appetite compete. According to the British Private Equity and Venture Capital Association, sponsor-backed activity remains concentrated in the mid-market, and the private credit share of it has grown materially over the past decade.

The full 40+ banks, debt funds and asset based lenders · Debt alongside a sponsor · Management buyouts are covered on MBOFinance.co.uk