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Josie Shillito

This article is part of our new service, 9fin Private Credit. If you're interested in a free trial, contact subscriptions@9fin.com.

Middle market leveraged buyout activity in private credit has made a cautious recovery in Q3 and Q4 so far, but market participants are not overjoyed with the quality on offer. 

Lender education processes taking place in the UK, Europe and the Nordics for companies with under €50m EBITDA are sounding the market on leverage multiples that are out of step with what middle market lenders are prepared to offer.

“The market is more conservative and no one is prepared to do the wrong deal. Especially not now,” a lender on the lender education circuit told 9fin. 

Beloved of private credit for many a year, the deal pipeline is awash with tech companies, mostly software solutions providers to specific sectors. However, they are joined by auto-parts providers and chemicals companies: cyclical opportunities that would command lower leverage.

“The quality’s quite shaky,” said a second source, while the first source said “we’ve declined a lot recently.”

A deeper conservatism is reflected in the recent data. According to 9fin’s Q3 private credit report, closed deals have a comparatively lower average net leverage in Q3 2023 — 3.7x in fact, versus the far punchier average leverage of 5.6x in the first half of 2022. 

When splitting into middle market (under €50m EBITDA) and large cap (over €50m EBITDA), the average leverage for Q3 deals was 3.4x and 4.3x, respectively, according to 9fin data. 

Yet, in deals like European Digital Group (EDG), sponsors were looking for 4x off an EBITDA of €50m. The debt still has not been put into the deal, despite the acquisition of a stake by Latour Private Equity, two sources familiar with the matter said.

And EDG is not alone in its optimistic expectations. Benelux-based Tech Tribes is looking for feedback on leverage multiples of between 3.75x and 4.25x marketed off a €12.5m EBITDA, while German barrier engineering firm Wemasis looking for 4-4.5x off of €12.3m EBITDA.

These are not large companies, and direct lenders feel that they cannot always support the leverage proposed. Of Wemas, the second source said “It's not a fund deal. It's cash-gen limited, customer conversion limited and not highly leveraged. We can't see it going to a PE, probably to a family office or a trade. It's not grown much,” as reported. 

With EDG, the first source commented “the deal didn't get a lot of private debt interest as it grew a little too fast — from €0-50m in four years, through acquisition. There was a lack of synergies between acquisitions and a lot of the founders acquired retained shares, making the real EBITDA lower.”

As leverage creeps lower, when can the banks step in? Bank clubs are still a serious source of financing on the continent, with leverage multiples normally being the natural brake on their lending endeavours. 

According to a German bank speaking to 9fin, “we target €25-30m EBITDA businesses and we like to be in a club.”

A third direct lending source reported a growing banking presence at lender education sessions. “It’s banks and funds. In Belgium, for example, the unitranche product is not used as often as a bank club.”

They continued: “Given where rates are, leverage is coming down and banks are able to compete again.”

According to market sources, any debt package 4x or under is automatically entering banking territory.

The conservativism memo does not yet seem to have reached the wider market where fundraising continues apace nor private credit recruitment teams where hiring just does not stop. Yet.

Ares announced this week the closing of its Pathfinder II fund focusing on private asset-backed lending, while Brookfield Asset Management closed its third global infrastructure debt fund after receiving more than $6bn in investor commitments. Then there are Private credit CLOs and Schroders’ reported entry into private credit at €30bn. It goes on. 

And of course, there’s the hiring spree. From the banks poaching private credit talent to the £700,000 and more salaries on offer in the space, if private credit is in your job title on LinkedIn you’re unlikely to be left alone. 

However, things are slowing. According to sector data provider Preqin, private credit fundraising dropped 43% in Q3 this year, to $38.8bn globally. Even this drop, though, can be given a positive spin, with private credit representing a relative bright spot in a difficult overall fundraising environment. 

Click here for the full named and detailed list of details, or subscribe to 9fin private credit by emailing subscriptions@9fin.com. In the meantime, agricultural research enters the private credit spotlight, four bidders circle a European waste manager and CVC gets hot for a Swedish fire detection business…

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