Annual Review: US demand lures Europe's private lenders

When Tikehau Capital, the Paris-headquartered asset management and investment group, announced plans in January to list on the Euronext in Paris it also unveiled ambitions to enter the competitive US market.

The company, which has €10 billion assets under management, closed its third direct lending fund in September, raising €610 million and bringing its total assets under management in private debt to €3.3 billion. So far focused on providing debt financing to companies based in Europe, Cécile Mayer-Lévi, joint head of the firm’s private debt fund, says the US is the next logical step.

“We have some contacts over there, and we consider there to be lots of opportunities and similarities in the markets,” she says. “It’s still very early stages, but for the first time since I joined [in 2013], it’s something that is looking more realistic.”

Tikehau is certainly not alone among European private lenders looking to head across the pond and capitalise on opportunities. In August, CVC Credit Partners unveiled plans to transform its direct lending strategy into a transatlantic platform through the acquisition of commercial lender Northport Capital [see panel on p. 10], which specialises in providing credit facilities to private mid-market and lower mid-market companies across North America. Others are eyeing similar moves.

“The borders are getting more and more familiar between Europe and the US,” says Mayer-Lévi. “Most of the large US private debt players are present in Europe, and it could be the other way around. The depth of the US market is significant and well expanded, and the markets are converging at a global level.”

She argues that investors are often keen on the idea of working with a manager that has exposure to both markets, and so it makes sense for the Europeans to seek to diversify.

David Ross is a managing director and member of the investment committee at Northleaf Capital, overseeing all its private credit investment activities. Northleaf manages $9 billion across its three strategies – private equity, private credit and infrastructure – and is headquartered in Canada with offices in Toronto, London, Chicago and Menlo Park. The firm launched its private credit programme last year, raising over $1.4 billion for private loan investments, primarily to private equity-backed mid-market companies in North America and Europe.

“Private credit has been evolving in a direction very similar to private equity’s historical growth, with funds moving from niche industry- or geography-focused strategies to become regional and increasingly global,” says Ross. But he points to two challenges for those looking to go transatlantic, with the first being the need to source locally while at the same time scale to a point where it is possible to see enough transactions to achieve good risk-adjusted returns.

The second challenge is the competitive landscape: “The US is a large and mature market, with between 300 and 600 private equity deals a quarter, and more than 5,000 private equity-owned mid-market companies. So the stock of companies and the volume of transactions is there, and private credit has been a core source of finance in the market for some time. However, the market is mature and difficult to penetrate, with many nationally-focused scale providers, some of whom invest and hold, and others who invest and distribute.”

Europe, on the other hand, is at a much earlier stage in the life cycle of private debt, so US managers are coming into the market and European managers are maturing.

“I see moves to the US as just a natural extension of the growth of the market,” Ross adds. “As European-focused managers reach a certain level, it gets harder to grow in Europe, and so for a lot of managers the US is the natural place to continue the growth of their strategy.”

With banks starting to win back mid-market direct lending business in Europe, competition is certainly tough, and private lenders no longer have a free run at the market that they have had for the last few years.

The US, while no easy market to crack, has emerged as a lucrative place for European private credit funds to expand their offerings. Tom Newberry, a partner with CVC Credit Partners who, as head of private funds, has overseen that firm’s move into US lending, says opportunities are everywhere in the States.

“The US market is just a big market. Most of the sponsors, and certainly anybody in the mid-market, is doing the bulk of their financing with funds rather than banks, so you don’t need to get over that hurdle in the same way that you need to in Europe,” he says. “It’s a large market and it’s pretty open. Historical relationships count and matter, but if you have the right people who have those relationships, and if you’re competitive in terms of structure and pricing of your proposal, you’re going to get as good a look as anybody.”

In the US, the opportunities in private credit for alternative lenders have a lot to do with the impact of the leveraged lending guidelines introduced by federal banking agencies in 2013, which sought to keep regulated banks to doing deals with senior leverage under 4x, and total leverage below 6x. By effectively ruling the banks out of a large part of the market, the regulators handed a chunk of new deals to the private lenders.

“The US guidelines have had a big impact, and there is no doubt that we have seen banks struggle to achieve the structures that the borrowers require in order to be competitive in auctions,” says one private lender operating in the US, who prefers not to be named. “That has certainly created more opportunities for large alternative credit providers to offer more flexible solutions that the banks just can’t do.”

The European Central Bank is soon to publish its own leveraged lending guidelines that will impact European regulated institutions, with draft guidance similar to that issued by the US. But few expect the boon to private lenders from the new rules to be quite the same as that experienced in the States, not least because deals with leverage in excess of 6x are far fewer in Europe, and the banks are far more competitive.

“We are carefully monitoring and following what’s going on with the leveraged lending guidelines,” says Mayer-Lévi. “That’s really something for the banks, and there could be more of an opportunity for us, but what we really try to avoid is using really high leverage to win a transaction, and we feel it makes sense for the markets to remain cautious.”

Pierre Maugüé is a partner in the finance practice at law firm Debevoise & Plimpton, currently based in London but resident in New York until 2014.

“In the US, opportunities exist with respect to existing structures that were done a few years ago and now need to be refinanced, where the structures were put in place before the guidance came in, or when the company was doing well and the leverage was under 6x,” says Maugüé. “Now when the structure is retested, and the guidance has become a problem, that’s an opportunity there for private credit because the banks are out.”

By contrast, the European market is particularly tight right now, according to another Debevoise finance partner, Alan Davies.

“The European market is completely saturated at the moment, and we are seeing auctions among banks and direct lending funds, going out to three or four funds, and they are all coming back with terms and the sponsor can just pick the best one,” he says.

“There’s just not enough M&A, and for the debt funds that need to be doing deals and making reasonable returns, it’s tough. They need to start looking to other markets like the US, or focusing on riskier instruments than subordinated debt.”

The fact there has been such convergence in terms between the US and European lending markets in recent years, such that covenants and term sheets now look familiar regardless of where they originate, only further eases the transition for players looking to cross the Atlantic.

“If you’re a global asset manager and you’re trying to scale your private credit business, then to some extent there’s only so big you can get in Europe,” says Newberry. “There’s lots of opportunity in the US – we have liked the market and been happy with how it’s gone.”

CVC private credit goes transatlantic

Last August, CVC Credit Partners announced it had acquired commercial lender Northport Capital from Resource Capital Corp, increasing the assets under management in its direct lending strategy to about $1 billion. Resource Capital is a minority shareholder in CVC and the deal to transfer Northport had been in the offing for some time.

Northport is a direct lender that specialises in providing credit facilities to private mid-market and lower mid-market companies across North America and the addition took CVC Credit Partners’ direct lending strategy transatlantic. The new team, led by managing director and head of US mid-market lending David DeSantis, runs a direct origination platform and has brought in 35 deals with a combined worth of around $500 million since 2013.

Tom Newberry, partner and head of private funds at CVC Credit Partners, says: “The US is a competitive market, but if you have the right people with the right relationships and the right skillset, you have quite a good chance of accessing the market.”