‘Private credit’ is an umbrella term used to describe the provision of credit to businesses by lenders other than banks. Most commonly, these lenders are regulated asset management firms pooling investor money into funds that are then used to finance respective businesses. The term private credit is also often used interchangeably with phrases such as ‘private debt’, 'direct lending', 'alternative lending' or 'non-bank lending'.    

Private credit is an established but growing sector within the alternative investment market.  It can be differentiated from other types of lending activity and investment strategies in various ways, including:

• Bilateral relationships:  private credit lenders will often have a direct rather than an intermediated relationship with the businesses they are lending to
• Buy and hold:  private credit assets – usually loans - are generally not intended to be traded and will be held to maturity by the original lender.
• A flexible approach:  Core features of a credit agreement such as repayment terms or covenants will typically be structured to match the unique needs of the borrower.

Some of the more common private credit strategies include:

• Direct lending – lending to performing operating businesses secured by business equity/cashflows
• Real estate – to real estate projects/developers
• Infrastructure - to infrastructure projects
• Distressed – to companies in difficulty
• Asset based - to business secured by assets (e.g. airplanes) rather than business-generated cashflows as in direct lending
• Trade finance - to support trade in goods
• Structured credit - lending with tranching of credit risk
• Speciality finance - lending to support e.g. consumer credit or peer-to-peer platforms
• Venture debt - to early-stage companies

The US is the largest market for private credit in the world, accounting for more half of the global market.  Private credit is now growing rapidly in Europe (UK, France and Germany are the largest markets) and Asia with private credit managers investing greater sums of capital in those regions and local businesses becoming increasingly aware of the value of private credit.

Private credit can offer business some advantages compared to traditional bank financing.  This may include greater flexibility over the structure of the loan, for example repayment schedules and operational covenants.  The ability to act quickly and value of a long-term partnership with a private credit manager are two other advantages commonly cited by borrowers.

Regulatory measures introduced by policymakers to promote financial stability and support responsible lending practices as well as the simplification of banking business models mean that it is often no longer viable for banks to lend to certain businesses on realistic terms.  This may not necessarily be due to the business posing a bad credit risk, but rather them not being a good fit for a bank’s risk appetite or existing exposure.  In such circumstances, private credit may be a more appropriate source of finance than a bank.

Private credit firms generally lend to Small and Medium Enterprises (SMEs) and mid-market businesses across all sectors of the economy. Businesses use this type of finance for a variety of purposes such as acquisition and expansion plans, improving working capital and refinancing existing debt.

Case Studies from Financing the Economy 2021

AIG investment provides €140m to European real estate developer and asset manager
AIG Investments provided a total of €140m in financing over the past two years to a European-based real estate developer and asset manager. Through two private placement issuances, the company was able to diversify its funding sources and access fixed-rate, long-term financing, a key feature of the private placement market. The company was able to efficiently match their long-term real estate assets with long-term debt by locking in 12-year financing at a fixed rate. This incremental financing will support the company’s growth strategy, including further geographic diversification in Europe.

Ares Management Corporation Lends £1 billion of available debt facilities to RSK Group in largest sustainability linked private credit financing to date
Founded in 1989, RSK Group (“RSK”) is the U.K.’s largest privately-owned multi-disciplinary environmental business. Led by Founder and Chief Executive Officer Dr. Alan Ryder, RSK is a fully integrated, environmental, engineering and technical services group currently comprised of over 100 businesses and employing more than 7,000 specialists. The company has an established presence in more than 40 countries around the world. RSK supports its global client base across diversified sectors, from energy to water, to conduct business in a sustainable, safe and environmentally responsible manner through comprehensive, solutions-led services. In the third quarter of 2021, Ares’ European Direct Lending team announced it had structured as sole lender £1 billion of available debt facilities for RSK, marking the largest private credit-backed sustainability linked financing to date. The facilities will be used to refinance RSK’s existing credit lines as well as to support its continued organic and inorganic growth plans. The new debt facilities include an annual margin review based on the achievement of sustainability targets, which are broadly focused on carbon intensity reduction and continual improvement to health and safety management and ethics. These targets are aligned to RSK’s Corporate Responsibility and Sustainability Route Map, which forms the basis of its sustainability strategy, based on RSK’s sustainability pillars and the United Nation’s Sustainable Development Goals. RSK anticipates interest savings in excess of £500,000 per year and has committed to donate a minimum of 50% of this margin benefit toward sustainability-related initiatives or charitable causes.

CVC Credit provides funding to UK-based online book marketplace
CVC Credit provided a first lien loan to fund the acquisition of World of Books (“WoB”) by Livingbridge, as well as an acquisition facility to support growth. CVC Credit is offering an ESG-criteria linked margin ratchet on the loan such that the company will be granted a margin reduction if it obtains third party ESG accreditation. Founded in 2008, WoB is a UK-based online re-commerce business primarily focussed on the global resale of used books. The business sells its books in over 180 countries via its own website as well as through c.30 other global online market places, including eBay and Amazon, and utilises proprietary algorithms to assist the sorting of books to identify those which are of resaleable condition, and for which there is anticipated demand at a profitable price point. WoB, which is a certified B Corporation, helps to divert approximately 825 tonnes of media from landfill p.a., and also helps to save 37k tonnes of new paper p.a. The company also focuses its efforts on climate action as it reduced its owned carbon footprint by 30 percent per book sold in 2020 and pledged to be carbon neutral by 2022. 

Hayfin provides €410mn unitranche loan to German TV home shopping player
Having been a lender to HSE24 for a number of years, when it was a repeat syndicate loan issuer, Hayfin provided the German TV home shopping player with a €410mn unitranche loan (as well as a PIK bridge) to refinance existing debt and fund a dividend when the sponsor, Providence, transferred the asset into a new vehicle. Hayfin’s long-term lending relationship with HSE24 is managed by its team in Frankfurt and is a product of the firm’s commitment to maintaining an extensive European footprint and being local to the markets in which it lends.

This led to extremely strong institutional knowledge of the asset, sector, management team and the sponsor, allowing Hayfin to structure a comprehensive financing solution in a short timeframe for a bespoke transaction when Providence opted to move the asset into a new vehicle. Hayfin is one the select few European direct lenders with the firepower to lead-arrange, underwrite and retain such a large facility, offering Providence the convenience of dealing with its lender on a bilateral basis. HSE24’s strong, protected and very cashgenerative business model is highly attractive and provides investors with strong credit backing.

INOKS Capital's fund finance sustainable food value chains (grains and specialty crops) in the Ukraine
INOKS Capital supports sustainable farming practices in the Ukraine to enable local or export-oriented grains and specialty crops value chains related to i.e. wheat, corn or lentils. The facility agreement of up to 7.5 mln USD over max. 12 months helps to finance the following activities:

• Sustainable & precision farming on leased land,
• Aggregate surplus from local nearby farmers,
• Elevate & store, and
• Sell on local and export markets at best pricing

The full transaction value chain related to farming is covered throughout the financing facility agreement: Purchase of inputs and associated logistic costs, the farming and harvesting services and the marketing services (delivery costs).

The impact targets are:

• Increase sustainable/organic farming
• Improve soil conservation
• Mitigate climate change by reducing emissions with precision farming
• Support 600 high value agronomic local job
• Support more efficient local logistic chain
• Improve high quality food availability, for both local and export markets due to surplus by yield optimization

In light of climate change and food security issues globally it is vitally important to support sustainable farming practices. Improved soil conservation and reducing emissions next to creating much needed local job opportunities add to the positive impact of this transaction in addition to the attractive return potential for investors. Inelastic demand for basic nutritious goods in the food sector next to the way how the transaction is structured (collateralized, goods pre-sold, insurance etc.) help to support the investment case.

LendInvest has partnered with Homes England to finance the development of 400 affordably priced apartments in Ashford, Kent.
The scheme is to be developed by Kings Crescent Homes and has an expected GDV across two phases of over GBP90 million. With planning already in place and a cleared site, construction is able to start immediately to bring into use a key development with the project to be split into two phases. Phase 1 will see the development of 143 units and some commercial amenity, with a GDV of over GBP35 million. Phase 2 will include the development of a further 257 flats, at a GDV of over GBP55 million. The units for this residential development will range from one to three bedrooms providing much needed affordable units, just 5 minutes walk to Ashford’s International Train Station, which is only 30 minutes to Central London and less than 2 hours to Paris. The project is anticipated to reach practical completion in 2023.

Oak Hill Advisors leads $500 million preferred equity commitment to corporate climate and energy advisor.
Oak Hill Advisors (“OHA”) led a $500 million preferred equity commitment to Bluesource, an experienced and diversified corporate climate and energy advisor providing environmental services and products in North America. This financing partnership will fund Bluesource’s acquisition of commercial hardwood timberlands in the U.S. and Canada, with the goal of establishing a sustainable forestry strategy by harvesting new tree growth and generating carbon credits. In order to generate carbon credits, the project must produce real, permanent and verifiable reductions in GHG emissions. Issuing carbon credits involves placing long-term conservation easements on forests, ensuring they will not be harvested in excess of new growth for at least 30-100 years. OHA believes this strategy will lead to long-term environmental benefits even beyond carbon reductions, such as habitat rejuvenation, soil retention and water management. OHA is excited to establish this partnership and has high conviction in Bluesource’s management team and capabilities to execute on its strategy.

Project 2G: Tor Investment Management provides funding to an electric vehicle business in Australia.
Tor provided an AUD 110 million two-year senior secured loan to TrueGreen Mobility Limited, an Australian electric vehicle business, for the refinancing of existing debt, capex, and working capital. TrueGreen is a leading manufacturer and supplier of zero emission buses and next generation hydrogen buses in Australia with a strong pipeline for government supply in the state of NSW. The company also has a developing business for EV commercial vehicles to be supplied to major corporates in Australia.

Tikehau Capital provides ESG linked-loan to European IT services company
​​​​​​​In August 2021, Tikehau Capital served as sole arranger on a €180m financing for Prodware SA, one of its long-lasting relationships. The financing was split into a €140m unitranche to refinance the existing debt and a €40m committed Acquisition Capex Facility to support the growth strategy.

Founded in 1989, Prodware is a European leader in IT services, helping small and midcap companies to embrace innovation processes and drive their digital transformation in order to enhance their overall competitiveness. Prodware’s main activities consist in (i) providing consulting services to clients regarding their digital strategy, (ii) providing SaaS and IaaS (Infrastructure as a Service) cloud solutions that are customized for technical and service requirements and (iii) developing and integrating software based on Microsoft Dynamics ERP and Microsoft Dynamics CRM, which can be adjusted by customers as per their functional and technical needs. The Company also provides tailored-made solutions as per clients’ requirements.

Through an ESG ratchet, Tikehau Capital ambition is to assist Prodware in strengthening its sustainability roadmap considering key topics such as innovation and human capital. Tikehau Capital’s favorable view of the business is supported by Prodware’s ability to understand the challenges of a specific sector to adapt business IT solutions and provide packaged solutions, from consulting, to SaaS, integration and maintenance.

Private credit is an increasingly important market component for investors and is now a permanent fixture of the capital allocation models employed by investors all over the world.  Private credit is predominantly an institutional asset class with majority of capital allocated to private credit strategies coming from pension funds, insurers or sovereign wealth funds.  Family offices, HNWIs and private banks also invest in private credit but make up a smaller proportion of the investor base overall.  Outside of the US there is extremely little retail investor participation in private credit although policymakers are introducing reforms which may improve retail access to private credit.

Further reading

Financing the Economy 2018

Private credit can provide investors with access to illiquidity and other investment premia, support portfolio diversification, and access to a greater range of assets that offer a mixture of income and growth. Investors may also value the 'control' premium whereby private market investors reap the benefits of reduced principal agent problems. 

Many of the advantages of private credit are inseparable from the less liquid nature of the assets involved.  This should be understood as part of any risk analysis of private credit investment strategies or due diligence on private credit managers.  Harnessing these benefits requires private credit managers to match their investment process with the liquidity risk of the asset – for example ensuring the investment fund or structure aligns with the expected maturity of the underlying assets. 

While both private credit and private equity strategies target private businesses there are several key distinctions between the two, the most fundamental being the way in which they invest in a business.  Private credit managers will typically invest by providing debt whereas private equity managers will typically invest by taking equity in the businesses. Any choice over whether to invest in the debt or equity of a business will depend on the risk appetite of their investors and the type of return they are seeking.  In broad terms, private credit returns accrue from the repayment of the loan amount plus interest, whereas private equity returns will accrue from an increase in the equity value of the business between purchase and sale.  This means that the returns from private credit and private equity have a very different profiles as each are dependent on different factors.  Private credit and private equity markets therefore allow investors to invest in businesses in a way that aligns with their risk appetite and type of returns they are seeking.

Private credit managers are unregulated

Not true.  Private credit managers are subject to oversight from regulators that covers almost every aspect of their business.  While the precise framework differs depending on their location or the location of their investment it typically involves authorisation or registration as an investment or asset management business and ongoing supervision or regular reporting on the following key areas:

• liquidity management
• use of leverage
• risk management
• operational and cyber resilience
• investor protection
• business conduct

Private credit managers only lend to bad or risky businesses

Not true.  Many good businesses are no longer able to access long term finance from banks due to changes in the way banks are regulated and the commoditisation of bank business models that has occurred in response.  Having private credit managers available to provide finance to such businesses is one way in which risk can be more efficiently allocated across the financial markets.

Private credit managers employ a low standards of due diligence

Not true.  Private credit managers employ a high standard of due diligence on any potential investment or lending opportunity in keeping with their investment mandate and typically invest in only a small percentage of the businesses they assess.  This approach will often take several months and involve substantial interactions between them and borrower, including the provision of detailed financial information, an assessment of the management team and draw in 3^rd party expertise. 

Borrowers must choose between banks and private credit

Not true. Private credit firms have close ties with traditional banks, and many have established formal partnerships. Many companies financed by private credit have obtained bank financing either prior to or during their involvement with the private credit manager. An increasingly popular trend in recent years is banks and non-banks working alongside each other to provide the borrower with the best available finance option across their different business needs. Furthermore, many businesses want to diversify their own financial exposure and access the tailored solutions that private credit managers can provide.

Private credit managers only lend to private equity backed firms

Not true.  While sponsored lending - loans to borrowers where a private equity sponsor owns equity in the company – account for the biggest proportion of lending by private credit managers, they also lend a substantial amount to companies without any private equity investment (often described as non-sponsored lending).  This is a growing part of the market and non-sponsored lending is expected to continue to grow as more businesses become familiar with the advantages of private credit.