“It’s definitely become more prevalent and popular and it allows you to speak for large loans,” says one lending firm executive.
BDCs have been most prolific as off-balance sheet capital is free of the 1:1 regulatory cap on leverage that their structure is subject to while also allowing them to draw down incremental capital from their partners. Some of these partnerships have involved other alternative lenders with their own loan origination capability, while others have tapped cohorts like insurers, wealth management firms or family offices that do not yet lend on their own account.
Carlyle GMS Finance BDC’s joint venture with Chicago-based Madison Capital Funding is the latest example of two lenders working together. Both firms have so far declined comment, though this is not Madison’s first such relationship. The firm, which is owned by insurer New York Life Investment Management, has co-operated with another BDC, the Apollo Investment Corporation.
While Carlyle and Madison Capital both originate loans, other BDCs have opted for a pure capital play. Such partnerships give the BDCs access to both increased leverage and capital. That translates into the ability to write larger tickets, move further up the capital structure or execute more direct origination. Their partners, in turn, get exposure to an opaque market with strong risk-adjusted returns.
THL Credit, whose BDC formed a partnership with trust company Perspecta Trident in December, has been using the relationship to invest in more directly originated senior secured loans and boost leverage. As of 30 June, the $792 million BDC had $36 million in the Logan JV.
“Given our targeted leverage levels and borrowing base considerations, we believe we have enough capacity to grow the BDC position in the Logan JV to approximately $100 million with no additional capital raised at the BDC,” said Chris Flynn, THL Credit’s co-chief executive, on a recent earnings call. The BDC has been trading at a slight discount to book value, which discourages it from raising fresh equity (to issue stock would risk the wrath of existing, now diluted, shareholders).
Golub Capital BDC has also been using its senior loan fund (SLF), supported by insurer RGA, to increase its proportion of unitranche exposure. The firm is selling lower-yielding senior secured assets held by SLF and replacing them with higher-yielding, one-stop facilities, said David Golub on the vehicle’s second quarter earnings call.
While Golub’s BDC trades at a premium to book value, others trading at steep discounts have touted their partnerships as access to fresh capital via leverage of over 1x. Medley Capital Corporation (MCC) formed a partnership with Great American Life Insurance in July, and both MCC and its private BDC Sierra Income Corporation, which also teamed up with the insurer, have each lined up a $100 million credit line to support their respective JVs.
Both the BDCs of Fifth Street Asset Management (FSAM), which have been trading at steep discounts to NAV for some time, have also formed joint ventures. Last year, Fifth Street Finance teamed-up with the Trinity Universal Insurance Company, while the Fifth Street Senior Floating Rate Corp followed up with a partnership with the Glick family office. Both are supported by bank credit lines. Todd Owens, co-president at FSAM, says their partners don’t originate loans but do have the right to veto deals destined for the portfolio.
Dual-lender tie-ups tend to be unitranche-focused. Such was the case with Ares Capital Corporation’s now defunct partnership with GE Antares. ARCC is in legal talks with Varagon Capital Partners, a relatively new lender backed by AIG and Oak Hill Capital Partners, to form a similar partnership.
A unitranche JV allows each side to divvy the debt up into separate pieces that fit their respective risk appetite and return requirements, explains one private debt executive. Cementing a formal agreement also allows the partners to execute deals consistently using a single inter-creditor agreement, which also eases and speeds up the process for borrowers and sponsors.
This year, TCW’s direct lending group formed one such partnership with Oak Hill Advisors and Security Benefit Corporation, a Kansas insurer. The JV raised $500 million in equity commitments in June alongside $500 million in credit lines. TCW is responsible for loan origination, with a second look on deals from Oak Hill, while Security Benefit will hold the senior-most slice of debt.
While private debt cheerleaders continue to emphasis bank retrenchment when speaking to investors, more quietly many acknowledge that it’s clear banks won’t completely exit lending. Several alternative lenders have been teaming up with banks on club deals. The banks hold the senior slice or provide the revolver and, for some, this has progressed to formal partnership.
Cerberus Business Finance, the firm’s direct-lending division, is raising a fund in partnership with PNC Bank. The two lenders have worked on deals together in the past and began raising money for the Cerberus PNC Senior Loan Fund in March. The pair worked on a $125 million credit facility for Motorcar Parts of America which consisted of a $95 million term loan and a $30 million revolving credit facility.
Counterintuitively, TPG opted to form a partnership using its private capital, rather than its large BDC. The BDC has performed well, trading above book. It doesn’t allocate equity to JVs or CLOs or employ structural leverage and the firm intends to keep it that way. “It’s a pure play BDC and they didn’t want to muck up that story,” says a person familiar with the vehicle.
Instead, TPG Special Situations Partners partnered with bank lender CIT in August. The $500 million JV draws 90 percent of its capital from TPG’s private capital and the remainder from CIT, with some leverage. While CIT originates the loans, the underwriting team includes representatives from both firms.
For now, the benefits of such JVs are clear to all parties involved, though many industry observers argue that those aiming to mimic the Ares/GE tie-up will fail to replicate the venture in terms of scale and mutually beneficial outcome. GE was a strong partner and Varagon will struggle to fill GE’s shoes.
Market commentators also point out that most of these vehicles are new and don’t have track record or experience through a full market cycle. Many hold the assets off balance sheet in separate legal entities. Judging the wisdom of pouring resources into these partnerships will come down to how these side pockets perform as the credit cycle turns.