Loan Note: Key insights from Benefit Street; private debt, the alternative to high yield

Better terms, better pricing, more conservative leverage. Crisis? What crisis? Benefit Street has some uplifting observations. Plus, how private debt is muscling out high yield, and new hires at Pemberton and ADIA. Here's today's brief for our valued subscribers only.

They said it

“It’s insanity. Frustration among middle-market companies is running rampant”

Tom Bohn, CEO of the Association for Corporate Growth, a trade group for mid-market M&A dealmakers and business leaders, speaking to Private Debt Investor about the US government’s lending programmes. Read more here

First Look

Three positives for direct lenders
Credit-focused asset manager Benefit Street Partners – part of Franklin Templeton – recently published its thoughts on key trends in the private debt market. Here’s a few of the firm’s views on direct lending dynamics:

Better terms When a company is facing balance sheet challenges, it will approach its creditors to seek amendments or relief on certain terms in its credit agreement. In fact, any company that has applied for the government relief programmes will have to seek our approval. In the process of this negotiation, we as lenders have the opportunity to request certain credit enhancements in exchange, such as: more prevalent financial maintenance covenants, tight cushions to performance projections, heavily scrutinised restricted payments to equity owners as well as their ability to build over time, timing and step downs for excess cashflow sweeps, and caps on the incurrence of additional debt.

Better pricing Over the course of 2019, much of the illiquidity premium associated with mid-market deals had eroded with frothiness in the market. We expect that this will now normalise. Based on information from SPP Capital Partners, unitranche pricing on directly originated loans for issuers with more than $20 million in EBITDA currently ranges from L+600 to L+800 vs L+500 to L+650 a month ago. This is a decent proxy for some of the issuers in our space.

Less aggressive leverage Tolerance for leverage among lenders has decreased. The market has brought the debt/EBITDA multiple for issuers with more than $20 million in EBITDA to 4.0x to 5.0x vs 4.5x to 6.0x a month ago, and we expect more contraction for our market.

High yield, low appetite

PDI had an interesting conversation with a credit fund manager in Europe that claimed some companies are taking on board more financing than they actually need in order to be able to access the high-yield market. Indeed, we hear of one business that needed €150 million but was told by banks that it would have to accept double that in order to attract sufficient investor interest.

The source said that for firms wanting finance between €100 million and €300 million, private debt is becoming a more available and attractive source than the public markets – even though the financing may be more expensive. This is especially true of businesses that struggle to win the confidence of investors, perhaps because they are in an unusual market where there are few comparators or because they have family rather than institutional owners.

Data snapshot

Recycling capital. The number of private markets funds focused on the circular economy, which means firms that look to recycle or make use of industrial waste products, has increased tenfold in just four years according to the Ellen MacArthur Foundation. Venture capital, private equity and private debt managers are all getting involved in the sector.

Essentials

Pemberton adds to the ranks 

There have been plenty of examples this year of bankers ‘crossing the floor’ to private debt. The latest example is Robert Wartchow, who has left Credit Suisse – where he was a managing director and head of EMEA high-yield syndicates – to join Pemberton as a managing director and portfolio manager for its mid-market debt strategy. Wartchow will join Mark Hickey and Steven Craig to work on new investments and managing the existing portfolio.

ADIA’s big ambition 

Big data has arrived in private markets, as evidenced by the Abu Dhabi Investment Authority‘s hiring of Marcos Lopez de Prado as global head of quantitative research and development in the strategy and planning department. The former Cornell University professor is part of a team focusing on machine learning, big data and high-performance computing to help develop and implement investment strategies.

LP watch

Institution: State of Wisconsin Investment Board
Headquarters: Madison, US
AUM: $126.35bn
Allocation to alternatives: 17.1%

State of Wisconsin Investment Board has confirmed $325 million-worth of private debt commitments to three vehicles, published in the pension’s Q2 report.

The commitments comprise $200 million to GSO Capital Opportunities Fund IV, $75 million to Merit Capital Fund VII and $50 million to TSSP Specialty Lending Europe II.

The $126.35 billion US public pension has a 9.6 percent allocation to private debt and equity, which are grouped together as a single asset class within its portfolio.

The pension fund’s recent commitments are to funds focused on the corporate and real estate sectors within Asia-Pacific, North America and Europe.


Today’s letter was prepared by Andy Thomson with John BakieRobin Blumenthal and Adalla Kim

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