Analysis: Should less always equal more?

The conventional line on sponsorless private debt funds is that investors need to pay more for exposure to non-sponsored debt transactions. Finding lenders without private equity backing can be a painstaking process entailing more upfront costs as fund managers research opportunities, so the argument goes.

The reality, however, is that the cost and legwork required to close a sponsorless deal can differ case by case. This potentially puts ink in the water when it comes to talking about fund fees and costs with investors.

“Groups that do non-sponsored deals, they know what non-sponsored is like,” says Michael Romanek, principal at London-based consultancy Rise Partners, regarding the idea that sponsorless transactions require more work in the origination process. “They’re ready for it on day one.”

Lenders looking for opportunities in the sponsorless space often come into contact with intermediaries such as Romanek’s firm. Whether such interactions end up representing a significant cost to a fund often depends on how the intermediary is being compensated.

Shaun O’Callaghan, partner at professional services firm Grant Thornton, notes that funds can either deal with intermediaries acting as brokers, or those acting as debt advisors for corporate clients. The two differ not only in the manner they are compensated but also in the areas of the mid-market they tend to focus on.

According to O’Callaghan, brokers tend to place themselves in the lower end of the mid-market. Debt advisors, on the other hand, are largely focusing on the top end, working with larger corporates.

There is a difference in the way these intermediaries are compensated that can have an impact on how much extra cost a fund has to absorb when looking to lend to sponsorless companies. While debt advisors are compensated by the corporate they are working with, brokers take a fee from the fund – representing an additional cost for the lender.

This scenario, however, isn’t set in stone. Romanek notes that while he ordinarily takes commission from borrowers for arranging debt financing, there are scenarios where it’s necessary for his firm to be compensated by funds.

If the borrower is prohibited from paying for debt advisory services – say, for example, it’s a quasi-governmental organisation – then the compensation has to come from somewhere. In such a scenario, a fund will often provide the commission to the intermediary.

Such an arrangement means funds are paying more for access to sponsorless deals garnered through these intermediaries. The implication is that these extra costs may end up being passed on to investors.

One sponsorless fund manager tells PDI this is something addressed in all the literature provided to LPs. This includes being transparent with costs both when investors commit to the fund and during its lifecycle – when the manager may be paying commission for access to certain deals. This is especially important when the end investor is a governmental or public investing body, the manager notes.