Banks' involvement in highly leveraged transactions

Introduction

Since the early 1980s there has been a surge in merger and acquisition activity and other corporate restructurings around the world. The bulk of this activity has taken place in the United States. In contrast to previous waves, such as that of the 1960s, much of the present one in the United States has been financed with debt, in many instances through so-called "highly leveraged transactions" (HLTs). The nature of these operations as well as their implications for the performance and vulnerability of the restructured corporations have been discussed extensively in the literature. Far less attention has been devoted to the process from the viewpoint of banks, which have provided a substantial part of the finance for the transactions.

The objective of this paper is precisely to focus on the role played by banks in HLTs, to consider the extent and form of their involvement, the main forces behind it and its implications. As most of the transactions are arranged in the United States and information on the involvement of non-US banks is more fragmented, the analysis is largely based on the US experience.

Section I describes the general characteristics of the HLT wave. Section II reviews the information available on the size and distribution of banks' exposure to HLTs and the various forms of bank involvement. Section III briefly considers the forces which may have led to heavy participation of banks in these transactions. Section IV focuses on the risks run by banks and on their risk management procedures. Section V looks at selected policy issues, focusing on prudential supervision and monetary policy. The Conclusion summarises the main points.