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Credit crusaders fill the wall street void

Private credit funds could become a more permanent fixture in tech’s leveraged buyout market thanks to their speed of execution and reliability, especially in challenging macroeconomic conditions.

This article first appeared in the May 2023 Tech Buyouts Insights Report

Private credit funds could become a more permanent fixture in tech’s leveraged buyout market thanks to their speed of execution and reliability, especially in challenging macroeconomic conditions. 

Tech buyout firms may be looking to deploy capital to take advantage of lower valuations and improved long-term returns, but market forces are requiring them to manage their expectations.

As Nalin Patel, an analysist in Pitchbook’s EMEA Private Capital team, says: “Higher interest rates could offset gains with increased costs associated with debt portions of deals.”
Patel’s observation rings true with Private Equity Wire’s research, which found that most investors and deal advisers expect to see funds write bigger equity cheques as interest rates could still rise in the US and Europe (see fig. 2.1).

With low interest rates not expected to return anytime soon, active tech buyout players such as EQT are approaching deal negotiations in different ways to get deals over the finish line.
“Some deal structures we explore include using more equity than debt given the uncertainty in debt markets and using more earn-outs in certain add-on transactions to bridge the gap between buyer and seller expectations,” says Arvindh Kumar, Partner and Co-Head of EQT’s Technology Sector Team.

Despite debt markets being relatively weaker, one Private Equity Wire source said they have improved significantly in the last couple of months, and even sees syndicated loans easing back this year.

In fact, one segment of the debt market continues to be something of a deal saver – private credit.

Back in September 2022, KKR’s $3 billion buyout of Spain-based fertility specialist IVIRMA could have crumbled when banks decided to pull out of the deal. Concerned about their debt exposure, Morgan Stanley, Credit Suisse, and other lenders sold their $800 million of loan obligations and relinquished deal-related fees to private credit firms including Park Square Capital and Intermediate Capital Group, according to a Bloomberg Law report.

One interviewee familiar with the market said going the private credit “route” probably means paying a higher rate on an ongoing basis, but with lower risk around the transaction getting done. “There have been various deals that have gotten hung up by the different lender groups. And what happens when deals get hung up? The ability to flex the agreement can be worse for you. Deal certainty in the current market is certainly worth more,” they said.

A structural advantage 

Edward Green, CEO of Equipped AI, a UK-based analytics solutions provider for alternative asset management firms, says in addition to buyouts moving away from the LBO model due to “the changes in the tech buyout environment and a more volatile macro environment,” the firm is observing a “structural advantage”.

Green says some organisations are distilling insights from their existing portfolio to surface meaningful trend analysis that can support new underwriting decisions or structure a deal framework to mitigate against potential volatility.

“We see an increase in the deployment of data analytics and tools to provide more sophisticated information on the sell-side – for example, to provide an improved empirical basis to support investment cases,” says Green.

“We are also seeing an increase in demand from Technology / SaaS sponsors using analytics projects aimed at improving client retention through more informed client segmentation and more sophisticated pricing,” he says.

Private credit funds are also being approached by buyout funds to refinance portfolio company debt. In April, it was reported that Vista Equity Partners, which favours software-based investments, is in talks with private credit funds to seal a $6 billion deal to refinance in part $4 billion in debt maturities for portfolio company Finastra Group Holdings Ltd.

The London-based fintech business provides lending solutions across syndicated, commercial, consumer, and mortgage lending.

Sources have indicated that two options could be on the table. One being a record unitranche of between $5.3 billion and $5.4 billion, that would be combined with a junior debt element between $500 million and $700 million. The second a $4 billion first-lien term loan and a $2 billion second-lien term loan.

Likely credit players including Oak Hill Advisors, Sixth Street Partners and Ares Management Corp are said to be involved in the discussions, according to unnamed sources.

Should the debt financing complete, it could be one if not the largest private financing of its kind to date.

“Debt is available for all but the very large buyouts, albeit it is materially more expensive than in 2021,” says Salim Nathoo, a Partner in Apax’s Tech team in London.

Lack of credit, however, has not prevented the Apax Funds from doing a deal, he says.

Private debt fundraising has been on the up since 2022, raising $60.7 billion in total fundraising in Q4 and surpassing the $200 billion full-year fundraising mark for the third consecutive year, according to Pitchbook’s 2022 private Debt Report (see fig. 2.2). Mezzanine also had a “stellar year of fundraising”, says the report and contributed to several of the largest funds (see fig. 2.3).

And the best could be yet to come. Funds being raised include: Blackstone’s $10 billion new direct lending fund, which launched in the first quarter of 2023; HPS Investment Partners’ $12 billion junior credit fund; and a $10 billion raise by Oaktree Capital looking to finance large private equity backed buyouts.

Consolidation in the private credit market is also emerging. A notable recent example is General Atlantic (GA) Credit, formed in April following GA’s completed acquisition of Iron Park Capital Partners, a firm with a track record in the public and private credit.

Other consolidation plays this year have been MetLife Investment Management’s take-over of privately-owned alternative credit specialist Raven Capital Management, which has $2.1bn AUM.

Jeff Diehl, Managing Partner and Head of Investments at Adams Street says a high-quality private credit fund has the potential to produce a 14-15% gross IRR, mostly realised through quarterly cash distributions. The median buyout fund will be challenged, according to Adams Street research, to replicate 18% in today’s market.

Globally, private credit funds had $1.4 trillion of AUM at the end of 2022, up from $250 billion in 2010, according to Preqin. By 2027, private credit assets under management are expected to grow to $2.3 trillion.

The view from Asia

Lim Cheng Khai, Executive Director at The Monetary Authority of Singapore, said at a recent event that “private credit is the next key driver of growth in the private markets.”

However, Khai says global players will have to keep in mind that the “Asian private debt market is more fragmented and challenging to navigate than the US and Europe. The legal framework in parts of emerging Asia poses additional risks or challenges to lenders and investors in private credit.”

Talent in the private credit could also be hard to come by when it comes to competencies in deal sourcing, structuring, financial modelling, and execution. There’s also the diverse culture and language in the region to accommodate.
Kai says MAS is prepared to support private credit managers when they expand to Asia to overcome these challenges.

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