The soaring number of private equity-backed buyout deals in Europe has pushed the volume of debt issued in Britain and on the Continent to record levels. About €54 billion (£37 billion) of bonds and loans were issued in the first quarter of the year, according to research by Standard & Poor’s (S&P), the debt-rating agency.

The figure includes a record €47 billion of loans issued in the three months to the end of March. The issue of new loans was driven largely by the relentless stream of leveraged buyout (LBO) deals being done by private equity firms. LBO deals have played an increasingly important role in debt markets in recent years, as private equity firms have sought out larger targets and become more adventurous in how they finance them, increasing the proportion of debt used to finance deals.

The LBO market accounted for €44.6 billion, or 94.4 per cent, of new loans issued in the period. Last year the LBO market accounted for 89 per cent of issued loans, itself a significant rise on the 62 per cent share in 2003. The volume of loans rose from €30 billion in 2003 to €115 billion in 2006. Loans and bonds have become particularly attractive means of funding deals because of the relative stability and low level of interest rates, making borrowing cheap. Purchasers use the cashflow from the acquired business to help to pay back the interest charges on the debt, helping to increase the rate of return on their investment.

The supply of debt has also increased as buyout firms become more “aggressive and innovative” in financing deals, S&P said. The agency calculates that firms doing deals are taking on more debt relative the acquired company’s profits. The ratio of debt to underlying earnings rose to 37 per cent in the first quarter of 2007, compared with 12 per cent in 2004. At the same time investment managers have become more willing to include loans and bonds in their portfolios.

The increased level of borrowing relative to a company’s profits has increased the risk for investors. However, investment experts note that there will be a point – potentially soon – at which the risk attached to higher levels of borrowing will stop a deal. S&P predicts that LBO activity will continue to be “the driving force” behind growth in high-yield debt in the near term.

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