Despite the headwinds, the resilience and adaptability of lenders, borrowers, and investors through 2025 have set the stage for a promising 2026. Drawing on Shoosmiths’ experience across the market, this article explores the trends, challenges, and opportunities that have defined the past year, and offers a forward-looking perspective for clients as we move into 2026.

Published 9 January 2026

For a more detailed look at some of the trends we saw in 2025, see our bite-size articles:

• Deals under pressure, clients in control
• RCFs and ARR covenants: A new deal logic
• Adjustments, resets & (over)cures
• Security structures & deferred consideration terms

Deal volume & market activity: A Year of contrasts

Many deals were front-loaded ahead of the 2024 Autumn Budget which played a part in the slower start to 2025. This cautious approach also reflected broader economic instability and global political issues, and we saw deal diligence phases extended on many transactions as a result. Conversely, concerns around market fluctuations also drove a number of transactions to be executed on extremely short timelines, or with acquisitions initially fully equity funded and refinanced with debt shortly after.

However, the market rebounded slightly through the spring with a notable uptick in high value merger and acquisition (M&A) activity and for our debt team, a particularly busy Q4. Whilst private equity (PE) deal volume was still reduced compared to previous years, several large transactions ensured that headline numbers remained strong. Equally, the anticipated wave of exits did not materialise as expected and instead, buy-and-build strategies continued to dominate, with sponsors focusing on portfolio expansion and operational synergies. For a more detailed look at what our PE team expect for 2026, see their article “UK private equity: 2025 in review & what to expect in 2026”.

Insolvency rates remained broadly in line with 2024, and were slightly lower than the post-COVID peak seen in 2023. This stability, despite ongoing economic challenges, is a testament to the adaptability of UK businesses and the support provided by lenders and sponsors.

Inflation in the UK has been a significant challenge in 2025, with businesses already trying to manage the strain of increased employment costs and US tariffs. For some the challenges have provided opportunity - particularly for mature businesses with buy-and-build strategies with synergies and advancing technology easing financial tension.

Sectors & deal trends

Professional services remained a strong sector throughout 2025, with business services in particular seeing sustained deal flow. Regulatory approvals from authorities such as the FCA and SRA became a key feature, contributing to longer transaction processes. The resulting need to split exchange and completion meant a sharper focus on certain funds wording, and careful negotiation of these terms (both in relation to initial and future permitted acquisitions). Capital adequacy and client fund restrictions in regulated businesses mean that certain deals are only appealing to lenders whose credit teams can accommodate non-typical security structures. In some cases, we have seen the return of equity commitment letters and founder guarantees where an all asset security package from material members of the operating group is not as readily available.

Cybersecurity and healthcare (services and IT) continue to be robust, with AI-focused tech companies remaining highly sought after. With AI becoming more commonplace, the emphasis has shifted to tech sector quality over quantity, with buyers targeting businesses that complement existing operations or offer clear recurring revenues. Annual Recurring Revenue (ARR) remains a key financial covenant metric for such highly leveraged businesses, providing breathing space until they are EBITDA generative, but with some comfort that debt can be serviced during the initial growth stage. We are now  increasingly seeing ARR covenants outside of Software as a Service (SaaS) businesses alongside a minimum liquidity covenant. Lenders therefore assisting in the earlier stages of a lending relationship before such covenants switch to the more traditional leverage financial covenant package once the business scales-up and becomes EBITDA generative.

Environmental & Infrastructure (E&I) investment gained momentum in 2025, and we expect this trend to continue. Environmental, Social, and Governance (ESG) provisions are more frequently included as ‘agree to agree’ or ‘sleeper’ loan agreement clauses; comprehensive ESG terms and Sustainability Linked Loans are not yet as commonplace as we had expected. FCA proposals on ESG ratings are expected to crystallise later in 2026, and until then, borrowers are likely to remain cautious about making firm ESG commitments up front.

Covenant & document trends

Generally speaking, strong borrowers continue to push for more flexible debt terms.

Whilst the market is accepting ARR and liquidity covenants, financial covenants generally are an area where we have seen increased due diligence and scrutiny of legal terms. Debt service cover ratios alongside leverage tests are now standard again in mid-market deals, with adjustments to EBITDA such as acquisition synergies and exceptionals more tightly controlled and deductions subject to clear controls and caps.

The shift towards buy-and-build strategies and longer PE holds with reduced exits, has seen an increase focus on change of control triggers such as including an ability to transfer sponsor investments to continuation vehicles and portability to an approved list of Sponsors. Longer holds have also meant  grower baskets and covenant resets are being pushed. Whilst these features are regularly seen in sponsor-backed transactions, they are subject to heavy negotiation and strict conditions, including KYC requirements, maximum numbers of ports, minimum covenant threshold triggers and fees.

Changes to the FRS on 1 January 2026 and treatment of operating leases are expected to create some short-term noise as the market settles on the impact for financial covenant testing.

Financing structures: Flexibility & innovation

In recent years IPOs have offered liquidity and returns where exits have been less forthcoming, and incoming reforms to IPO processes and stamp duty relief for new London Stock Exchange listings are expected to drive further activity. By contrast, we have worked on a number of public-to-private transactions for sponsors, with attractively valued UK mid-caps offering opportunity.

In some cases, dividend recapitalisations have allowed sponsor-backed businesses to return value to investors as an alternative to exits, and lenders are increasingly willing to fund these types of transactions. Refinancing transactions continue to roll on, and we expect this momentum to continue into the first half of 2026 at least, until the wave of PE exits we have been expecting start to roll in.

Valuation gaps between buyer and seller expectations persisted throughout 2025, driving increased use of earn-out and deferred consideration on the equity side. This has led to a greater focus on permitted payment regimes and extension of purpose clauses in the debt documentation. Scrutiny of the treatment of deferred consideration in its different guises (with additional considerations for future deferred in the buy-and-build space) has been scrutinised with negotiation challenging—particularly with non-rolling sellers. Clear payment triggers, allowing lenders to pinpoint the moment and extent of liability crystallisation, and early consideration in deal structure (including the use of triple or quadruple newco structures) can help ease direct pressure on banking groups and in turn, negotiations.

Payment-in-Kind (PIK) toggles are featuring more frequently across fund lending. While not yet common in the majority of transactions, and clearly not suitable for all lenders, they are favoured by some. PIK was once seen as a way to free up cash for businesses under strain but is now being sought by strong borrowers to keep cash reserves available for acquisitions and other permitted purposes. Their application varies across facilities, typically applying to at least the Committed Acquisition Facility (CAF).

Fee structures also have become more flexible, with timing of CAF fee payments spread over the life of the facilities.

In addition, there has been increasing pressure on RCF lenders to buy-and-builds/acquisitive businesses, to allows it be used as short term acquisition debt to back-up a CAF.

Legal & regulatory developments

Among the significant reforms introduced by the Economic Crime and Corporate Transparency Act (ECCTA) is the requirement for certain individuals connected to companies or LLPs incorporated in England and Wales to complete an identity verification (IDV) process. The ongoing implementation of compulsory IDV will continue throughout 2026.

Basel 3.1 implementation has been delayed by a year to 2027, giving bank clients time to prepare for the changes. In addition, we expect further detail on reform to the ringfencing regime, which impacts a number of lender clients, to emerge in 2026.

Looking ahead: Optimism & ongoing resilience in 2026

Interest rates are expected to reduce, and while macroeconomic headwinds persist, they have become the norm. Rate cuts, increased competition, and ambitious growth plans should drive deal volume and value. The UK continues to be a hub for M&A activity, with the market demonstrating resilience in the face of global volatility.

We expect bolt-on acquisitions to continue to outpace buyouts, particularly among sponsor-backed businesses where experience can support scaling and diversification. The consolidation of credit funds and challenger banks could result in shifts in the market, but will also bring the benefit of more skilled and diverse teams whose experience and expertise will support innovative deal structures.

For both lenders and borrowers, the key to success will be flexibility, innovation, and a willingness to embrace new opportunities.

Shoosmiths’ Banking & Finance team stands ready to support clients as they navigate the challenges and seize the opportunities of the year ahead.