This article is sponsored by Pierfront Capital
Lower levels of competition in private debt in Asia have led to stronger covenants and better pricing, says Stéphane Delatte, chief executive officer of Pierfront Capital. That, coupled with a massive infrastructure funding gap in the region and more supportive sponsors, makes it an attractive opportunity for credit.
To what extent do you believe the Asia-Pacific region will retain its moniker as “the growth engine of the world” despite the covid-19 outbreak?
The macro picture is one of the central themes of our investment mandate. The macro story is driving the need for infrastructure. According to a 2018 estimate by the Asian Development Bank, this financing gap is over $1 trillion a year, including social infrastructure needs. That is driving a vibrant mid-cap sector that requires growth funding, and we are playing directly into this need, through our focus on providing credit to performing mid-cap companies in the real asset sectors in Asia.
We focus on the gamut of real asset sectors including power and renewables, social infrastructure, transportation, as well as other infrastructure-like businesses with income generating assets such as logistics real estate and data centres with long term contracted cashflows.
We also finance selective natural resources projects where commodity price risk is well-hedged and off-take is de-risked. We have observed that certain real asset sub-sectors like data centres, telecommunication towers and logistics have held up very well through covid-19 and are seeing accelerated development in Asia due to working from home.
This macro story is creating opportunities, particularly in Asia’s developing countries. Given we are based in Singapore, South-East Asia is particularly important to us and that is where we see a good proportion of our dealflow given our deep connections with those markets.
Korea, Japan and Hong Kong are more mature markets. They tend to be more liquid and are well served by traditional bank lenders, so we would opportunistically find deals in these markets.
What are the risks and potential rewards, given the region is such a young private credit market?
We are very positive as we see beyond the macro story. There are higher levels of growth and lower leverage multiples, compared to the more mature markets of the US and Europe. On the supply side, it is still an underserved market in terms of the number of private credit participants. This means that when we are approached on larger transactions, it is often the case that a syndicate of lenders will be put together, rather than the participants bidding against each other. The result is a less competitive environment, which by extension translates into less pressure on pricing, on terms and on covenants.
Do you think that changes the market dynamics between participants?
In Asia, given the comparatively smaller number of market participants in private debt, borrowers – who may be corporates or private equity players – care very much about the relationship they have with lenders. That gives us comfort. When there is stress, the better quality sponsors will by-and-large be supportive because they do not want to burn bridges.
Where is there a shortfall in liquidity that may present an opportunity?
There has been some pull-back in traditional bank financing in places like Australia, China and India for a variety of reasons. These are also markets on our radar, although the opportunities in India are currently skewed towards distressed deals which is not an area we look at, given our focus on more stable borrowers with high quality real assets.
Markets open and close at different times, so we find it beneficial to have the flexibility to invest across different markets to allow us to pick deals which deliver the most attractive risk-adjusted returns.
When you analysed the region by country, you highlighted the retrenchment of banks in certain areas. What do you believe is driving this?
In some real asset sectors, the pull-back by banks has been significant, driven by regulation, lowered risk appetite or overallocation. Within the shipping sector, for example, there are sub-segments which are particularly volatile, for which the banks had little appetite, such as dry bulk and container shipping.
In Singapore alone, we have seen some European banks shut down their shipping desks completely. This retreat doesn’t just impact the volatile sub-sectors, but also those which are more stable and which still constitute strong credits. It is these far less volatile sub-sectors that we are looking at. Particularly, shipping businesses backed by long-term contracts which are investment grade.
“Certain real asset sub-sectors… have held up well through covid-19 and are seeing accelerated development in Asia”
The same can be said for how we selectively look at the energy and natural resources play. Aside from the strong ESG considerations we have in place, such as avoiding any business in thermal coal, the materials industry still has important sectors which will be required for the renewables transition.
Once again, however, because some banks have exited such sectors in an indiscriminate fashion, there is an increasing gap there. These industries are highly specialised but some of the banks simply have insufficient expertise on the ground, so have decided to cut back and focus on other industries and this creates a clear opportunity set for participants like us that have a deep understanding of the sector dynamics and nuances.
How would you categorise the lending opportunities which are most appealing across Asia-Pacific?
The transactions we are looking at can be categorised into three buckets. The first is those mid-cap businesses who already have amassed some assets, with a good operating track record, and are going through further expansion. The second relates to M&A where a company may be looking for a bolt-on acquisition.
In each of these cases, the companies may be adding some new data centres or acquiring another telco tower business, for example. They may be able to get access to bank financing, but may also require some additional equity support which can be dilutive. As an alternative, we offer subordinated financing to fund these expansion and acquisition plans.
The third bucket is sponsor-level financing, where the sponsor is trying to optimise an investment in a particular real asset.
These are opportunities we have deployed capital into. The comfort we draw in all our financing deals would be from looking at the underlying assets, which are operating in defensive sectors and tend to be good quality assets, with collateral value and predictable cashflows, backed by creditworthy, if not investment grade, counterparties and strong sponsors. Often, we would fund a platform that has multiple uncorrelated assets that are held both onshore and offshore, and this provides diversified avenues of enforcement and in different jurisdictions, if need be. These companies are also growing and de-leveraging quickly – giving us further comfort on their credit.