Private Debt News Issue #11: Navigating Headwinds, Seizing Opportunities (5.11.24)

From Mounting Default Risks to Strategic Expansions – The Evolving Landscape of Private Credit

The private credit market continues to face a complex mix of challenges and opportunities, as participants grapple with the specter of rising default risks, the impact of higher interest rates, and the allure of strategic expansions in key markets. This week’s Private Debt News examines the latest developments shaping the $1.7 trillion industry, from the cautionary notes sounded at the Milken Institute Global Conference to the ambitious growth plans of major players in Asia and India.

1. Oak Hill Leads $1 Billion Private Debt Financing for Vista’s Model N Buyout

In a significant win for private credit firms, a group of direct lenders led by Oak Hill Advisors is in discussions to provide approximately $1 billion of debt to support Vista Equity Partners’ acquisition of Model N, a revenue management solutions business. The financing package, which includes a $735 million term loan, a $150 million delayed-draw term loan, and an $80 million revolving credit facility, is expected to be priced at 5 percentage points over the Secured Overnight Financing Rate (SOFR) at a discounted price of 99 cents on the dollar.

The Model N deal highlights the continued appetite of private credit firms for attractive leveraged buyout opportunities, even as competition for these deals intensifies. With a healthy pool of cash to deploy, direct lenders are well-positioned to provide the flexible, bespoke financing solutions sought by sponsors in the current market environment.

However, the transaction also underscores the need for private credit managers to maintain a disciplined approach to underwriting and risk management, particularly as leverage levels remain elevated and the potential for economic headwinds looms on the horizon.

2. Private Credit Stress Brings Anxiety and Opportunity to Milken Conference

As private credit managers gathered in Beverly Hills for the annual Milken Institute Global Conference, the specter of rising default risks and the potential for liquidity strains among overleveraged borrowers dominated discussions. With the Federal Reserve signaling its intent to keep interest rates elevated for longer, concerns are mounting that the recent wave of amendments to loan terms, such as maturity extensions and payment-in-kind arrangements, may be masking underlying stresses in the market.

While default rates have remained low thus far, thanks in part to these amendments, many participants at the conference expressed apprehension that the struggles of weaker companies could provide the first real test for the rapidly-grown private credit industry. As investments made during the low-rate environment of 2019-2022 come under pressure, some managers warn that the true extent of the market’s vulnerabilities may soon be laid bare.

At the same time, the potential for increased stress in the market is also creating opportunities for firms that specialize in providing rescue financing to troubled borrowers. With dedicated funds and strategies focused on delivering liquidity solutions to companies facing cash flow constraints, these managers are positioning themselves to capitalize on the dislocations that may arise as the credit cycle turns.

3. Cerberus Eyes India Private Debt Growth as Shadow Banks Retreat

Cerberus Capital Management LP is looking to expand its private credit portfolio in India, as local non-bank finance lenders shift their focus from corporate lending to consumer credit. The global investment firm sees a significant opportunity for both local and international private credit providers to fill the void left by the retreat of these shadow banks, which have come under pressure in recent months due to regulatory restrictions and liquidity challenges.

The move by Cerberus underscores the growing attractiveness of India as a destination for private credit investment, driven by the country’s status as the fastest-growing major economy and the increasing demand for alternative sources of financing. With real estate, manufacturing, and financial services expected to continue tapping private credit for their capital needs, managers with the local expertise and risk management capabilities to navigate the Indian market are well-positioned to capture this growth.

However, the expansion of private credit in India also raises questions about the potential risks and challenges that may arise as the market develops, including the need for robust due diligence, strong governance frameworks, and effective management of currency and regulatory risks.

4. Private Credit Fundraising Hits Lowest Level Since 2020 Amid Rate Concerns

Private credit fundraising slumped to its lowest level in any quarter since 2020, as persistently high inflation and the prospect of interest rates remaining elevated for longer weighed on investor sentiment. According to data from Preqin Ltd., managers across the private debt space raised just $30.6 billion in the first three months of 2023, a 14% decline from the average first-quarter fundraising total seen since 2017.

The slowdown in fundraising reflects the growing concerns among investors about the impact of higher borrowing costs on the performance of private credit portfolios, as well as the potential for a broader economic downturn that could strain the finances of leveraged borrowers. With the Federal Reserve signaling a more hawkish stance on monetary policy and inflation data coming in hotter than expected, the outlook for private credit fundraising remains uncertain.

Despite these headwinds, there are also signs of resilience in the market, with investors continuing to express greater satisfaction with private debt than any other alternative asset class. Moreover, some industry participants suggest that the slower pace of fundraising in the first quarter may be a temporary phenomenon, with the potential for a rebound in activity later in the year as the economic outlook becomes clearer.

5. AMP Launches New Global Private Debt Fund

Australian financial services giant AMP has launched a new alternative debt fund aimed at providing its superannuation fund members with exposure to global private debt opportunities. The fund, which forms part of AMP’s Diversified Credit sector, will initially commit $300 million to two external managers focused on credit risk transfer and flexible credit solutions in developed markets.

The launch of the fund reflects the growing demand among institutional investors for differentiated, high-quality private debt exposures that can deliver attractive risk-adjusted returns and diversification benefits. By combining credit risk sharing strategies with a more opportunistic approach, AMP seeks to provide its members with a unique investment solution that can navigate the evolving landscape of international private debt markets.

The move also highlights the increasing sophistication and maturity of the Australian private debt market, as local players seek to broaden their investment horizons and tap into the global opportunity set. As more institutional capital flows into the asset class, managers with the ability to source and structure compelling investment opportunities across geographies and sectors will be well-positioned to capture this growth.

6. Grifols Raises €1 Billion in Private Placement to Redeem Debt

Spanish plasma products manufacturer Grifols SA has successfully completed a €1 billion ($1.1 billion) private placement of senior secured notes due May 2030, with proceeds earmarked for the redemption of outstanding senior unsecured notes maturing in May 2025. The transaction, which priced at 98.50% of face value, represents a significant step forward for the company as it seeks to manage its debt profile and restore investor confidence in the wake of recent challenges.

The private placement comes on the heels of the appointment of Nacho Abia as Grifols’ new chief executive officer, a move aimed at calming investors after short seller Gotham City Research raised questions about the company’s accounts and governance practices. The successful execution of the transaction, despite these headwinds, underscores the continued appetite of private credit investors for high-quality, stable cash flow-generating businesses.

As companies across various sectors grapple with the impact of rising interest rates and the potential for economic uncertainty, the ability to access flexible, long-term financing solutions through the private credit market will remain a key priority. Managers with the sector expertise, structuring capabilities, and risk management frameworks to deliver these solutions will be well-positioned to support the growth and resilience of their portfolio companies in the face of evolving market conditions.

Conclusion

This week’s Private Debt News highlights the complex interplay of risks and opportunities that define the current state of the private credit market, as participants navigate a landscape shaped by rising default concerns, strategic expansions, and the ongoing search for yield.

From the cautionary tales shared at the Milken Institute Global Conference to the ambitious growth plans of major players in key markets like India and Asia, the developments covered in this issue underscore the dynamism and resilience of the asset class, even as it faces mounting challenges and uncertainties.

As the private credit industry continues to mature and evolve, managers will need to remain agile, disciplined, and focused on delivering differentiated value to their investors and portfolio companies. By maintaining a long-term perspective, a commitment to rigorous underwriting and risk management, and a willingness to adapt to changing market conditions, the most successful firms will be well-positioned to weather the headwinds and seize the opportunities that lie ahead.