This time, debt funds are picking a bigger fight

Buoyed by fundraising success, the likes of GSO are writing bigger tickets and widening their challenge to the banks.

“A bold effort to muscle investment banks out of buyouts,” was how the Financial Times this week described the reported attempt by Blackstone’s GSO Capital Partners to lend €1.5 billion in unitranche financing in support of private equity firm Advent International’s acquisition of Evonik’s acrylic sheets business.

While debt funds have made great strides in mid-market lending at the expense of traditional lenders, they have not – thus far – been anything other than peripheral players in the large buyout market, where private equity firms have traditionally turned to bank-dominated syndication. Does GSO’s bold intervention suggest that the status quo may be under threat?

That may be overstating it. For one thing, the GSO offer didn’t win. According to banking sources referred to by the FT, Advent baulked at the cost of the financing, which reportedly featured interest of as much as 7.5 percent – compared with the 4-4.5 percent typical of leveraged loans. While acknowledging their high cost, debt funds tend to make their case based around flexibility and the benefits of working with one lender rather than a group of lenders. In this case, it appears that such arguments did not win the day.

This does not mean GSO’s entry into the fray is without significance, however. Most obviously, it provides further evidence of private debt funds’ growing firepower. Since the first $1 billion unitranche was provided for Qlik Technologies back in 2016 – albeit in that case by a consortium of private debt funds – other hefty financings have followed, increasingly from single providers. One notable recent example was the £1 billion (€1.2 billion; $1.3 billion) loan made to Daisy Group by Ares Management towards the end of last month.

As debt funds continue to balloon in size – our most recent PDI 50 showed private debt’s biggest fundraisers collecting double the amount raised by the equivalent ranking in 2014 – chances are they will eventually become a significant source of alternative liquidity to the leveraged loan market. This will be welcomed for at least a couple of reasons.

One relates to the rather bad smell hanging over the leveraged loan market at the current time, which has prompted a Financial Stability Board investigation, expected to take place in the autumn. Don’t expect everyone to agree that corporate debt poses systemic risk. Nonetheless, as we have reported previously, it is a market where questionable practice has become commonplace. Would borrowers rather lessen their exposure to it if they had the choice? It’s quite possible that some would rather take a hit to their pockets than their reputations.

Second, there is the growing possibility of capital markets in general coming under pressure and banks finding it harder to underwrite as macroeconomic turmoil kicks in. The European leveraged loan market has already had a taste of this, with Debtwire Par reporting issuance was down 28 percent last year while concerns are expressed that 2019 looks even more of an uphill struggle in the face of issues such as Brexit, US/China tensions and economic underperformance.

In these circumstances, new sources of liquidity are likely to be welcomed – even if they are relatively expensive. GSO has fired a shot across the bows of the LBO syndication market; plenty of others will have it in their sights.

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