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9Questions is our Q&A series featuring key decision-makers in leveraged finance — get in touch if you know who we should be talking to!

Douglas F. Tedeschi is a partner in Kirkland & Ellis’ debt finance practice, where he advises private equity firms and companies on acquisitions and restructurings. He is one of the four founding partners who launched the firm’s new Austin office in April 2021.

In addition to revealing his favorite BBQ spot in Austin, Tedeschi shared his insights on today’s difficult market conditions and the process of starting a new office in America’s hottest up-and-coming tech hub.

1. Last year (and the first couple of months of this year) was a crazy time for M&A activity and debt issuance. What was it like juggling all those deals and launching a new office?

That was definitely a busy period! Part of the reason we opened the Austin office was to attract exceptional legal talent, which also helped us given the increase in deal activity at the time. The city's downtown population grew 60% over the past ten years for a reason: people want to live here, and attorneys are no exception. 

Austin had been a small legal market with largely local players focused primarily on a limited range of industries. Kirkland opening and fully supporting an office here has changed that — now you can work for a large, diverse global law firm on a broad range of matters, all from right here in Austin. And that's attracting a lot of people who'd wanted to be here but didn't previously have that opportunity set. 

We've found truly great people here in Austin, and they arrived at a truly vital time in the deal cycle.

2. The LBO pipeline has cooled off significantly since then. How has that impacted your workflow, and what are you focusing on now that buyouts are so much quieter?

Workflow has slowed compared to this time last year, though things appear to be picking up rapidly again. 

The slowdown was nice in part because it let us focus again on aspects of our lives we'd put more on the back burner when things were really busy. It's also let us continue to invest heavily in our new office — our summer associate class in Austin is more than 50% the size of our existing attorney base, so we made a strong effort to be present for them so that everyone gets valuable face-time and forms relationships.

Increasingly, though, our time is going toward restructuring work, where Kirkland has an exceptionally strong practice and where debt finance advice is fundamental. Though we've yet to see the ‘flood’ we saw in 2020, restructuring activity has certainly picked up. 

Most recently, we're also seeing more refinancings and even buyouts start to go forward, as sponsors proceed with private lender deals, even if the terms are less starkly favorable than we'd seen over the past couple of years.

3. The recent plunge in tech stocks is a great reminder that not all tech is created equal. Is there a future for tech LBOs, and what kinds of tech companies make the best LBO candidates?

While public valuations for tech companies have come down fast and hard, large segments of the tech world, including enterprise software, have proven to be among the most resilient in the face of sharp downturns. 

Software-as-a-service businesses have tended to have exceptionally reliable revenue streams, and have largely avoided the waves of restructurings that we've seen plague other industries in recent downturns. 

In my experience, their subscription models have tended to hold up nicely in down markets, and historical default rates have remained exceptionally low. Though deal volume has slowed, we're still seeing private lenders eager to finance these businesses.

4. What’s the most noteworthy legal development you’ve noticed in leveraged finance this year?

Most notable to me is that, though pricing has worsened for borrowers, I've not otherwise seen terms tighten meaningfully for new issuances. So, although firms are paying more to borrow, their financial and negative covenants are not meaningfully more restrictive, call protection is no more expensive, and prepayment provisions are no less subject to carveouts. 

Whether this remains the case, if the downturn extends meaningfully, I suppose we'll see. Of course, depending on credit characteristics and profile, other borrowers may be seeing different outcomes. But that's been the most interesting dynamic to me to date.

5. As a lawyer who works on buyout financings, how has the expansion of private credit changed or disrupted your job?

If anything, it's disrupted us positively, in at least two ways. For one, I expect it's fostered transactions that would not otherwise have happened.

In the tech space, for example, recurring revenue deals have become far more common in recent years; those are invariably private deals. Even for cash flow deals, I expect private lenders have enabled certain transactions to move forward that would have been difficult or unpalatable for banks to underwrite and syndicate. 

Second, I expect private credit has actually smoothed our deal flow. In uncertain and volatile public markets like today's, where syndicated issuances slow to a trickle, and those that do go through are executed at sharply higher pricing than we've seen in recent years, we're finding that direct markets remain largely open for business, and so, even though deal flow has declined, it has not disappeared. 

Pricing in direct markets may be richer now, but for deals where the pricing makes sense, or where a portfolio company needs to refinance its existing loans, direct markets are still functioning and we still have transactions going through.

6. In contrast to the private credit space, the SPAC market has fizzled out. What lessons should the LevFin community learn from the SPAC boom and bust?

SPACs boomed when, for the first time in years, public markets started offering more favorable valuations than private markets. 

While many SPACs have fallen sharply in their valuations, we're also finding that a number of SPACs have held up very well, suggesting that there is likely value there. We've been in a period where markets have proven very volatile - on both the upside and the downside - and so we're seeing increasingly frequent and pronounced boom and bust cycles.

In steadier markets, maybe there will be a more sustainable basis for meaningful SPAC activity based on sound financial fundamentals.

7. What do you think is the biggest risk for leveraged credit in a recessionary environment?

Each recession is different, but it seems the defining feature this time around may be inflation, which we hadn't meaningfully seen in recent downturns. 

To date, the Fed has responded to inflation by raising rates, which of course pressures existing credits, since leveraged loans tend to be floating rate, and also reduces prospective returns for private equity borrowers in new transactions. Inflation of course also means rising costs (particularly for businesses that are highly sensitive to input costs, but ultimately for all businesses), and so it's a double whammy, as margins narrow while interest expense rises. 

On top of that, quantitative tightening likely further drains liquidity from markets generally. Private equity credits have held up surprisingly well in recent downturns, even in 2009; inflation of course adds a new set of challenges this time around that can be hard to predict.

In the current environment, increased recession risk and rising rates amid a muted macroeconomic outlook have tended to create bouts of public market volatility and turmoil, which spirals into a self-fulfilling prophecy or perception of weakening in credit availability.

8. Austin is Kirkland’s third Texas-based office. Why launch there, and how is it distinct from the Dallas and Houston offices?

Austin is like Dallas and Houston in that they're large and rapidly growing cities with previously under-tapped, and quickly expanding, pools of legal talent. It is unique, however, in both the sheer speed of its growth, and in that it's a burgeoning technology hub (all while tech is a burgeoning space for private equity). 

The city not only attracts brand-name technology enterprises, with Oracle, Tesla, Samsung, Apple and Google all relocating headquarters or material operations to town in recent years; it also increasingly attracts firms that invest in the space, including several major private equity sponsors.

So it's a city that's ripe for continued rapid growth, and the opportunity for new and expanded client relationships. The city is so distinct in its culture and vibe that the people who want to move here tend to be the types of people who want to stay.

9. What’s the best barbecue spot in Austin and why?

As a native New Yorker, I should probably keep my mouth shut, and talk about bagels and pizza instead. But la Barbecue is my favorite in town, and that won't be a controversial choice. 

Their pork ribs and brisket are tough to beat, and the lines are more sufferable than at other Austin BBQ hot spots. Their East Austin location is as chill and quirky as an excellent restaurant can only be in Austin.

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