Unfolding the accordion: navigating the growing trend of mid-market financing

Accordion facilities are becoming increasingly popular in the mid-market due to sponsors’ growing interest in buy-and-build strategies. These strategies are either part of the original fund plans or a response to market conditions that have stifled organic growth across various sectors. Accordion facilities provide a degree of certainty, allowing sponsors to secure additional funding for bolt-on acquisitions without the expenses associated with a committed acquisition facility.

Managing the risks

To manage the risks associated with accordion facilities and prevent lenders from being overly exposed, several measures should be implemented. Firstly, the maximum amount of the accordion facility and its intended purpose should be determined from the beginning.

Additionally, borrowers will typically be required to pass enhanced leverage tests and regular cashflow cover tests on both a retrospective and projected basis before accessing the facility. These precautions ensure borrowers do not over-leverage themselves, and that the accordion is used to foster growth: for example, to fund acquisitions or CapEx rather than for purposes such as shareholder cash-outs. This approach is also intended to guarantee that the total facility remains affordable for the borrower and activating the accordion does not hinder their ability to meet existing financial covenants.

Getting the structure right

From a structuring perspective, lenders must consider at the outset the impact of accordion activation on the thresholds for Majority and Super Majority lender matters, as well as on provisions like snooze/ lose or yank the bank. Each lender should evaluate how the activation of the accordion and any prior amortisation affects the established thresholds for lender decisions, with the aim of ensuring that the lender’s influence and participation in critical club decisions isn’t prejudiced. Setting these levels appropriately is crucial to prevent disenfranchisement if another lender takes the entire accordion.

From a technical standpoint, predetermining the maximum amount of the facility is essential, along with defining the terms that can be offered. Typically, the facility will stipulate that the aggregate yield paid to the accordion lender must not exceed that of the existing facility (either at all or by more than a small margin). Although sponsors may advocate for a sunset clause limiting these yield restrictions to a defined period post-closing (e.g., one year), we don’t see sunset clauses as commonly accepted.

The expiration conditions of the accordion must also be aligned: if the accordion is a bullet facility, it must not expire before the original bullet facility. If it is an amortising facility, it must not amortise faster than the original amortising facilities.

An additional crucial aspect is timing. Lenders need adequate time to make their initial offers, followed by second-round offers if some of the original group don’t participate initially, and ultimately agree on the implementation of any additional terms, to ensure lenders can secure the necessary credit approvals and participate, before the facility is able to be offered to other third-party lenders.

It is also important to ensure that only Acceptable Banks, excluding any Affiliates or Sponsor Affiliates, may participate in the accordion, to try to avoid sponsors from being able to elevate their ranking position by participating in the accordion and then sharing in the transaction security pari passu.

Impact on the wider market

Accordion facilities are inherently uncommitted, giving the original group of lenders the option to refuse any request for additional funding. However, saying no comes with consequences – if another lender takes it on, then it limits their voting power in club decisions and their share of transaction security realisations in cases of enforcement.

The real concern arises if accordion facilities are poorly structured, allowing borrowers to secure extra funding from alternative lenders without strict controls on the amount, purpose and pricing. If these facilities do not include these requirements, they could pose risks to the existing lending club and potentially the broader mid-market sector.

Nevertheless, when properly managed and equipped with pre-conditions such as amount limits, specific purposes, and enhanced covenant tests, accordion facilities present a relatively low risk for lenders and the market. They serve as valuable tools to ensure that borrowers can expand their facilities in line with their growth strategies as required during the term of the original facilities.