The debt markets are open for business. Despite the global political and economic instability of recent months, banks and other credit providers are determined to increase lending. So after an extended period of tougher credit conditions, organisations looking to raise money – whether for cash-flow purposes or for investment in growth, including M&A – are in a strong position. 

“Debt market conditions are as borrower-friendly as we have seen for seven or eight years,” says Will Rix, head of capital and debt advisory for the north of England at EY. “For both corporates and private equity (PE) firms, the current environment is incredibly conducive to seeking funds.”

In part, this reflects the changing economic backdrop with falling UK inflation, which dipped to 2.8% for the year to February 2025, albeit still above the Bank of England target of 2%. Interest rate incremental drops have boosted the market and are predicted to be cut further.

Alternative thinking

However, the bigger story has been a fundamental shift in the shape of the European debt sector. Corporate lending was once the preserve of the banks, but their retreat from large parts of the market in the wake of capital constraints introduced following the global financial crisis encouraged new entrants. First challenger banks and then alternative lenders, including private credit funds, have arrived in large numbers.

The latter, in particular, have hugely increased the amount of funding available to borrowers, especially over the past 12 months. “In a relatively low interest rate environment, there is a wall of institutional investment money looking for yield, but fixed-income markets are struggling to match hurdles in real terms,” says Fenton Burgin, head of debt advisory at S&W. “Increased volatility in public markets is also pushing investors towards private credit.”

This has enabled direct lending specialists to raise large new funds. Firms such as Apollo Global Management, Ares Management and Blue Owl Capital have picked up record sums to lend to European borrowers; the big names in private equity, including Blackstone and KKR, have hugely expanded their private credit activities; and smaller, more specialist lenders abound – in the mid-market, for example, ICG has just raised a $3bn hybrid debt and equity fund.

“We are pivoting very rapidly to a US-style landscape in the UK and continental Europe,” adds Burgin, pointing to how credit funds, rather than banks, now account for the majority of advances in the leveraged buy-out market. “It’s a massive change compared with even four or five years ago. There were perhaps 20 debt funds active in the mid-market back then, compared with more than 100 now battling for share in the mid-market alone.”

To add to the competitive pressure, many funds raising money have struggled to deploy it, with borrowers reluctant to take on debt given the challenging economic landscape. M&A activity, in particular, has been depressed. AlixPartners data shows that in 2023 Europe recorded 555 leveraged buy-out deals, down 23% on the previous year. Activity recovered to a degree last year but remains some way off the peak of 2021, although of course that benefited from a ‘COVID bounce’.

“There is a real eagerness on the part of many lenders to deploy capital now,” says Chris Lowe, partner and managing director at AlixPartners. He points to data from Preqin suggesting that direct lending and special situations strategies across Europe are now sitting on $80bn of dry powder.

Competition for lenders

The result is increasingly stiff competition for borrowers’ business, with lenders reducing the cost of debt (see Borrowers’ market, right), but also offering looser terms. Two years ago, Corporate Financier warned that climbing debt costs threatened to discourage borrowers from raising finance, with margins widening sharply and bond yields doubling. Today the opposite is true, with prices now falling, more leverage available and more flexibility about how it is used. 

“Lenders’ appetite for risk is showing signs of increasing,” says Jason Evans, debt advisory partner at Gambit Corporate Finance. “Structures including higher leverage multiples and transactions such as dividend recapitalisations are now far more commonly seen than, say, 18 months ago, though the recent geopolitical turbulence has the potential to have an impact.”

There is now much expectation on the lending side (including credit funds) of a significant rise in borrower default due to the direct and indirect consequences of the US trade war and tariffs. This risk is particularly acute with US borrowers, but is also being seen by borrowers in other Western markets (including the UK) who may or are expected to be impacted by the trade tariffs. 

On multiples, debt specialists say most of the retrenchment seen during 2022 and 2023 has now unwound. While the picture varies hugely by credit quality and sector, multiples that typically came down by a full turn have since recovered. A business able to borrow five times EBITDA in 2021, say, would have struggled to secure four times two years later; now, the market is almost back to its peak.

In addition, covenant requirements are easing. “Direct lenders typically require fewer covenants and are comfortable with greater headroom,” says Adam Horey, a partner in the debt and capital advisory team at PwC. “With most direct lending, the borrower is typically dealing with a single covenant related to a leverage multiple such as net debt against EBITDA; larger, higher-quality deals may be ‘cov-lite’, with no covenants at all.”

“Lenders are also trying to compete by being more innovative,” adds George Fieldhouse, head of debt advisory at Grant Thornton. “For example, there is greater willingness to offer non-cash pay tranches as part of the financing, which can provide cashflow benefits.”

Such arrangements, also called payment-in-kind (PIK) financings, enable lenders to defer the interest payable on part of the debt until the end of the term. The borrower typically pays a small premium on such arrangements to compensate the lender for its increased risk – perhaps an additional 25 basis points – but then benefits from greater flexibility.

Innovate for business

The increasing availability of non-amortising loans is another example of lenders’ appetite, adds Gambit’s Evans. “Unitranche facilities are the product of choice for many private credit funds and borrowers because they generally don’t require amortisation,” he explains. With only interest payments to pay until the loan falls due, this reduces the cost of servicing the debt – but leaves the lender more exposed to a default.

For some borrowers, this will prompt anxiety over the likely attitude of lenders to underperformance – particularly since many direct lenders are relatively new to the European market and have little track record of dealing with stress or distress. Might lenders take an aggressive attitude towards enforcing terms, particularly if they have stretched their tolerance for risk?

AlixPartners’ Lowe stresses the importance of working with advisers who have strong relationships with lenders, but believes borrowers shouldn’t be overly concerned. “Clients ask us regularly about what happens in a downside situation or where a consent is needed,” he says. “But our experience has largely been that private credit funds are supportive – they’re ‘loan to yield’, not ‘loan to own’.”

None of which is to suggest every single loan to corporates and PE firms this year will come from direct lenders and other alternative providers. “Where it is available, bank debt is still the cheapest source of capital and opportunities are growing,” says S&W’s Burgin. “We’ve seen new capital sources from challenger banks augment the big high-street lenders. A range has been pushing into the mid-market and taking market share from the funds.” Examples include Virgin Money, Metro Bank and innovators such as ThinCats and Allica Bank. Larger banks, notably Santander, also remain active.

“Banks have also become keener to lend, providing more competition to private credit funds across most areas of the market,” says EY’s Rix. “At the larger end, the big clearing banks and their international peers are increasing their exposure to large European corporates, including for M&A; challenger banks continue to play in the mid-market PE sector.” Larger corporates are much less likely to pay the price of debt that private credit funds demand to deliver returns to their investors, Rix says. “But the funds are prepared to be more flexible on terms – that’s the trade-off.”

Multiple questions

One question for capital-constrained banks is whether they can get comfortable with elevated deal multiples, which have begun to creep up again. Gambit Corporate Finance’s data shows that in the PE space, the average EV/EBITDA valuation multiple increased from 11.9x to 12.2x between the second and third quarters of last year. In the strategic space, multiples increased from 9.7x to 9.8x. In such an environment, some banks may be reluctant to compete with the more risk-on approach to leverage of the private credit funds.

More broadly, however, the biggest issue for lenders across the market is whether demand for credit is returning. In particular, to what extent are corporates and PE sponsors intending to borrow to invest and to finance M&A?

There are reasons to be positive. AlixPartners’ data reveals that leveraged deal activity in Europe was up 48% in 2024 compared with the previous year. European M&A deal volumes increased by 17%, the data shows, with LBO and add-on activity up 41%. Still, the consensus on when M&A might really take off once again keeps adjusting as the environment shifts. The Trump administration’s stance on trade tariffs – blamed for growing signs of a US economic slowdown – and broader geopolitical conflict is the latest dampener on deal activity. “We’ve been talking about deal activity exploding imminently for the past two-and-a-half years, but it hasn’t happened yet,” says PwC’s Horey. “The focus is now on the second half of the year, but there are plenty of people still holding back.”

In which case, lenders will still have to battle hard to get borrowers’ attention. And those in the market for credit will have plenty of options. Indeed, borrowers’ biggest challenge may be too much choice. “The key is to identify the type of capital aligned to the borrower’s strategy for driving value,” advises James Blastland, a partner in the debt and capital advisory business at Deloitte.“For borrowers focused on a scale-up, perhaps with significant M&A, a lender able to provide a debt package that grows with the business, offering flexibility over drawdowns, terms and leverage, say, is a good fit. If the priority is to minimise cost of debt, that will take the borrower in a different direction.”

Grant Thornton’s Fieldhouse also urges borrowers to plan ahead. “Lenders are back and terms have improved, but good information provision remains key,” he warns. “Be ready to provide robust financial data to prospective lenders at the right time to avoid extended processes and to secure the best deals.”