Friday letter: Slicing the pie

Debt funds and banks are finding new ways to work together and the resulting structures are starting to cascade into new markets.

A deal struck this week highlights one of the ways debt funds and banks are co-operating. Mid-market private equity firm Silverfleet Capital announced this week that it has taken a majority stake in Danish womenswear retailer Masia Clothing. BlueBay Asset Management and Lloyds bank provided the debt financing.

The debt manager funded a seven-year term loan in Danish krone. The local currency element of the non-amortising unitranche deal is interesting and no doubt Silverfleet and the company’s management – now minority equity stakeholders following the buyout of the founders – will appreciate not having the burden of principal repayments as they implement their expansionist business plan.

But it is the dynamics of the seniority between BlueBay and Lloyds that demonstrate an interesting pattern as does the newly established relationship between Silverfleet and BlueBay.

Lloyds provided a roughly €10 million revolver which is, importantly, super senior in the capital structure. The DKK490 million ($73.5 million; €65 million) unitranche is senior.

Ben Davis, a partner at Reed Smith, who advised BlueBay on the unitranche deal, says that banks stepping in with revolvers or other working capital lines at a super senior level in tandem with a debt fund-provided bullet is now a relatively well established standard structure in Europe. 

“It started in the UK market and was quickly adopted in France and is spreading to other European countries including Germany,” Davis said.

Less common, but also on the rise, are deals where banks take a slice of the term loan. The bank debt sits at the super senior level while the debt fund comes in just below with senior (unitranche) financing. There are several benefits to this arrangement, Davis continued, noting that it reduces the overall cost for the borrower with cheap bank debt sitting at the top. The debt fund also gets a boost in the form of a better margin on the second layer slice of seniority. 

The arrangement somewhat makes a mockery of the original purpose of unitranche – ridding the borrower of the complications of working with different classes of creditor. But Davis argues that the intercreditor agreement between a super senior bank and unitranche debt fund is much simpler to execute than the traditional junior/senior dynamic.

In over-banked Europe, debt funds were always going to have to find a way to work within the bank hegemony. For managers working hard to elbow their way to a significant share of the spoils while earning the right returns for their investors, it’s positive to see the domino effect as more and more borrowers open up to alternative lenders. Silverfleet had borrowed from various mezzanine providers but the Masai Clothing deal is its first unitranche financing for a portfolio company. 

Banks are definitely willing to defend their territory when it’s a deal they want. But the growth of private debt is on an upward trajectory as more sponsors offer a slice of their deals.