The Last Word: Stepping Up

When KKR’s credit head, Craig Farr, resigned from his role in February, two of the firm’s senior credit executives were promoted to take the reins and co-lead the practice. At 39, New York-based Nat Zilkha is probably one of the youngest credit heads in the business. Alan Burke, who came over to KKR via KKR’s acquisition of Avoca last year and spends his time between London and Dublin, joined the firm at an opportune moment. Despite where they are based, the pair don’t split their responsibilities regionally. Instead, Burke is responsible for all public, liquid credit strategies and Zilkha oversees private credit, including the firm’s special situations funds.

 

Q

Alan, what does your public credit business look like now?

Alan Burke: We have about $18 billion under management, with about $10 billion in CLOs and the rest in a variety of separately managed accounts that include liquid loan and bond strategies. We also have about $1.5 billion in a credit opportunities fund and long/short credit hedge funds. The credit opportunities strategy is made up of liquid loans and bonds both in the US and Europe.

Q

Which of these areas are you looking to grow?

AB: We’re looking to ramp up our CLO business, particularly in the US. Right now we have 14 CLOs in Europe and 11 in the US. We’re one of the top three CLO managers in Europe right now and want to build up the US book as well, so we’ve been working on migrating our CLOs to the CLO 2.0 structure and setting up new ones.

 

Q

Has it been harder to manage US CLOs because of the new risk retention requirements?

AB: We already have the risk retention procedures in place on our US CLOs and KKR has a strong position in the market. Given KKR’s scale across its businesses, it’s easier for us to comply with those rules. But it’d be difficult for the smaller managers to get that done.

 

Q

Which banks do you work with on structuring CLOs?

AB:  in Europe, we usually use Credit Suisse and in the US we’ve worked with Morgan Stanley, so we’ll be doing deals with both those houses and would consider others.

 

Q

How has Avoca been integrated into KKR?

AB: Avoca has been completely subsumed into KKR and all the strategies have become part of KKR and have been rebranded. Avoca’s employees are also now working in the same offices with KKR. We had about 65 people on staff at Avoca and most of those have been retained.

 

Q

Nat, how are you planning to invest your special situations capital going forward?

Nat Zilkha: Our stance is cautious. While we always have a steady pipeline of interesting idiosyncratic ideas with our global platform, we generally find the current market to be pretty inhospitable to our style of investing. We’re deep value guys. The one exception is Asia. We’re seeing a lot of really interesting opportunities there right now, particularly in India.

 

Q

What do you think will cause the market to turn?

NZ:I can’t really predict what the catalyst will be or how long it will take. But we think it’s a pretty remote probability that this flood of liquidity – and all the market distortions that it’s come with – recedes without some pretty serious volatility.

 

Q

Executives at KKR and other firms have talked a lot about investing in energy to capitalise on falling oil prices, how are you approaching it through credit?

NZ: I think energy was exciting for five minutes. We won’t make investments based on forecasting the timing and amplitude of a recovery. I don’t think commodity prices are predictable. So we like to invest when the embedded option is really cheap and the consensus is very negative. That’s not the state of play in energy right now. There is a lot of capital that has formed very quickly and it seems to be getting deployed on a premise that oil prices are going to go back up a lot and fast.

 

Q

What are you kind of industries are you targeting?

NZ: We’re looking at coal, steel and iron ore, shipping and healthcare. Healthcare is a very interesting space to us longer term. As interest rates start to rise and focus shifts to the government debt burden, we think the healthcare sector is going to come under a lot of scrutiny. A lot of companies [in the US] are over-earning on the back of Medicare payments and structural flaws in reimbursement architecture. The federal government is the dominant player for healthcare and can unilaterally cut prices – it could get pretty ugly for a lot of companies out there with highly leveraged capital structures.

 

Q

Where have you focused your ex-US investments?

NZ:We are finding the most attractive opportunities in Asia right now. We have good boots on the ground there. We currently have about 150 people in Asia across seven offices. That allows us to be local in each of these markets, which is critical. We’re generally financing upper middle market companies. In India, there are a lot of troubled corporate loans at banks. The slowdown in China is impacting a lot of resources driven companies in places like Australia and Indonesia. We’re very busy across the region.

In Europe, we’ve been active in a lot of the rescue financing and also structured partnerships with banks to help them work out problem assets and address their own balance sheets. Our previous special situations fund had 50 percent exposure to Europe. We had 18 percent invested in Spain in private credit rescue deals. 

 

Q

Do you expect to do any work in South America?

NZ: As a firm, we have an office in Sao Paolo, and we’re spending time there given the distress in Brazil. We haven’t deployed credit capital there yet though. There’s still a lot of currency risk and unclear rights for creditors.

 

Q

What’s the plan for your second mezzanine fund?

NZ: We just finished investing our first mezz fund. I don’t think mezzanine is as dead as people say it is, there are still a lot of interesting opportunities to be had, especially with the new leverage lending guidelines on banks, but we expect to maintain a broad mezz strategy. We are seeing a lot of opportunities in asset-based lending situations and in specialty finance, for example.

 

Q

Since you and Alan oversee different parts of the credit, how much do you actually work together?

NZ: We talk every day and compare notes on thematic credit views and the market environment.

 

Q

Do you ever disagree?

NZ: Sure. Alan and I disagree all the time. Jamie [Weinstein, the San Francisco-based co-head of special situations investing at KKR] and I disagree too. We’ve been good friends since college, but we challenge each other aggressively and publicly. No one has a monopoly on the truth in this business. Dissent and discourse is the only way you make good decisions. Anyone at any level in our organization can challenge anyone else – as long as it’s on substance.