An interesting development in the US market in 2006, which has yet to take off in Europe, was the use of toggle notes, a structure that incorporates a contractual feature allowing the issuer to make its interest payments either "in cash" or "in kind". Notably, the two largest US high-yield transactions on record, for hospital operator HCA and semiconductor business Freescale, both incorporated this feature in H206. Provided current market conditions continue, Fitch anticipates that the toggle feature could be the latest test of investor appetite for risk as arrangers compete for lucrative European high-yield mandates among issuers focused on cost and flexibility.
Following a slowdown in Q306, the market revived strongly in Q406 with a record quarterly issuance total of EUR15.3bn. Issuance picked-up markedly early in October as Netherlands-based NXP established a record for the largest European high- yield issue with its EUR4.5bn multi-tranche offering to fund the LBO of Philips Electronics' semiconductor unit by a KKR-led private equity consortium. This issue alone represented 30% of the total issuance in Q406 and was followed by further jumbo issues including the EUR1.1bn high-yield refinancing of France-based specialty chemicals producer Rhodia, EUR1.4bn issue for the recapitalisation of Greek mobile telecom operator TIM Hellas, EUR730 million issue by Dutch TNT Logistics to fund its LBO by Apollo, and EUR850m bonds from French wine and spirits producer Pernod Ricard to partly refinance the acquisition of Allied Domecq.
Fitch expects the healthy issuance volumes witnessed in Q406 to continue into H107, supported by EUR13.6bn in existing bonds maturing (and requiring refinancing) during 2007, in addition to a promising high-yield pipeline of approximately EUR5.9bn from new issuers in Q107. These include a non-call 1.5 year EUR800m floating-rate note from German sanitary fittings manufacturer Grohe and an issue of up to EUR1.43bn from US-based software company Infor Global Solutions.
The trailing-12-month default rate at end-2006 increased to 0.6% from 0.5% at end-2005, based on defaulted amounts of EUR803.7m from five issuers. The defaults by US automotive parts and systems company Dana Corporation in March (EUR7.2m) and France's Global Automotive Logistics Finance (EUR100m) in May were followed by three additional defaults in Q4. Luxfer Holdings, a UK gas-cylinder manufacturer for the auto and aerospace industries, agreed to exchange an equivalent EUR238.5m of outstanding bonds for equity, under terms that left investors with a shortfall and on 30 October US automotive components supplier Dura Automotive Systems filed for bankruptcy in the US under Chapter 11, which also affected its smaller European bond issue of EUR100m. Citing problems with its Italian business, at end-November 2006 UK telecom services provider Damovo became the third European issuer to default as it missed interest payments on a total bond volume of EUR358m.Schefenacker has already missed an interest payment on its second lien debt (for which the grace period has been extended until January 2007) and the German automotive supplier's bonds are likely to default in Q107 when the next coupon payments fall due.
