Spain has emerged in recent years as one of the fastest growing private debt markets in Europe. That’s reflected in the number of global lenders that have opened offices in the country over the past couple of years, including Pemberton, Ares and Tikehau Capital. This may be one of the factors sustaining growth in the market.

Pemberton opened its Madrid office in early 2020, and to date has undertaken 14 deals in Spain and invested more than €1.5 billion.

“The Spanish private debt market is less mature than that of other European countries. It has evolved significantly in recent years [but] there is still a lot of potential for the market to grow,” says Leticia Ruenes, Pemberton’s head of Spain.

“At the moment the majority of our deals have been done with international private equity houses with local presence in Spain – we are increasingly partnering with local private equity funds as well. The financing of these sponsored deals has historically been very bank-driven, but as they have positive experience with private debt funds and our advantages are becoming better perceived by the community, they are increasingly looking to do more deals with funds like us instead of banks.”

The latest figures from Alternative Lender Deal Tracker, published by Deloitte, show 42 deals completed in Spain the year ended March 2022, up from 26 in the previous 12 months.

“Since 2014, the Spanish market has witnessed a growing interest in private credit, both from lenders and borrowers, who now understand the products much better and how they can benefit from the flexibility of alternative capital solutions,” says Guillermo Ferre, director at Kartesia, which is active in the country.

“Over the past two years M&A has been a contributing element to the penetration of direct lending in the Spanish market. This is because sponsors get involved in auctions and, given the competitiveness of the private equity space, having the speed and certainty of execution is essential. This is something that direct lenders can provide, while banks tend to be much slower.”

This is not to say that global players everywhere are quite so eager to jump into the market.

“If you look at the Spanish economy, there is a huge base of SMEs”

Guillermo Ferre

Stephan Caron, head of European mid-market private debt at BlackRock, says that he would like to see more concrete data that the trajectory will be sustained before putting boots on the ground. “A lot of the financing that we do is geared towards mid-market companies that have an EBITDA of between €10 million to €50 million, whereas in Spain you have a lot of fairly small SMEs with EBITDA below €5 million. You have a lot of large-cap companies as well. But you don’t have as many mid-sized companies,” he says.

“We are monitoring the Spanish market closely, but our conviction at the moment is not as big as for other parts of Europe. If we see new data that points to a further retrenchment of banks, then we’ll revisit our views on the country.”

Spain faces headwinds

As in other European countries, the private lending sector in Spain has been buffeted by headwinds from the Russia-Ukraine crisis, which has led to surging inflation and increased the dangers of a full-blown recession.

This uncertainty has suppressed lending appetite and narrowed the universe of companies that direct lenders are prepared to invest in.

“Sectors that are proving popular for private debt investment are those that are very cash generative and resilient to the current macroeconomic climate,” says Alonso Torre de Silva, managing director in the credit group of Ares. “There should be no surprise that sectors more affected by the current macro environment – such as cyclical companies or companies impacted by cost inflation – may be a bit less popular these days.”

He says sectors such as technology, media and telecommunications, pharmaceuticals and business services tend to be the most active in Spain now.

Pemberton’s Ruenes says that prices have widened in Spanish debt over the summer on the back of rising risk sentiments, and she expects them to remain elevated for the next six months or so.

A lot of this, of course, will depend on the extent to which banks pull back from the market and create that opportunity.

This is where the jury is still out. Whilst Caron from BlackRock believes there is still not enough data to show categorically that banks are retrenching in any meaningful way, many of those on the market say that they have noticed a growing reluctance of traditional lenders to finance transactions in the current climate.

Torre de Silva says: “Banks certainly seem to be reducing their appetite for leveraged finance transactions, so from that perspective, direct lending funds can certainly ­replace some of the gap.”

As a specialist lender to SMEs, Kartesia stands to benefit as banks pull back from the market. “If you look at the Spanish economy, there is a huge base of SMEs, many of which tend to be family-owned businesses that in the past have worked only with banks,” says Ferre. “The more they understand alternative capital solutions, and the flexibility they can offer, the more they will be in using private debt funds.”

The key to working with SMEs is to offer wider value to the business in addition to financial support, says Ferre.

“You will continue to have companies that banks are very well positioned to continue to lend to, but as soon a company has significant growth/­restructuring plans or the business is a bit more complex to understand, the required flexibility or level of risk is less palatable for banks.”

This structural change in the market also opens up the possibility of more partnerships between private debt funds and traditional lenders.

“Banks may be focused more on working capital or Term Loan A amortising facilities, while funds are comfortable with bullet structures, including Term Loan B, holdco and mezzanine tranches,” says Ferre. “Term Loan B funding is likely to be more expensive, but if you combine this with Term Loan A funding from banks, you eventually achieve the same solution for the borrower but at a lower cost.”

While not everyone is convinced a structural shift is taking place, the strong growth of the last few years means the country cannot be ignored.

Caron draws parallels with Germany and thinks that Spain could go a similar way. Six years ago, Germany wasn’t much bigger than Spain is today, but the market suddenly took off.

These things can happen very, very quickly, says Caron. “There comes a point in many markets where an inflection point is reached, and we haven’t seen that in Spain yet. I think this inflection point will have to be driven by a wider retrenchment of the banks. Ultimately, if the banks become capital constrained and start pulling back in a more meaningful way, this could drive more private debt opportunities,” says Caron.