Taking the Credit — Carve outs, spenders and incumbent lenders
- Josie Shillito
After a slow(ish) start to the year, LBOs seem to be back on the menu in European private credit. However, competition is high, with dry powder in private equity and private credit hungrily chasing these opportunities.
Renewed activity from banks, not just in the broadly syndicated loan (BSL) space but also from bank club lenders is heaping pressure on private credit pricing and loosening its terms — the key area where private credit has an advantage over a traditional bank club.
9fin private analysis for Q1, shortly to be published, has spotted average leverage levels in the middle market (deals on businesses under €50m EBITDA) creeping above those in the large-cap private credit space (businesses over €50m EBITDA) over the past two quarters.
This is an interesting development, as it is typically the smaller businesses that cannot support the higher leverage from a risk/return perspective. However, the larger-cap private credit funds coming down into the middle market seem to be bringing their pricing and terms with them.
In the private credit middle market, the 600bps spread has become the new 650bps.
Middle market private credit lender Crescent Capital recently provided a private debt package to finance Dutch investment firm IceLake Capital’s buyout of D. van der Steen at 600bps. While Partners Group’s private credit unit provided a circa €90m debt package priced at around 600bps to back the buyout of German IT, data and analytics business Dataciders by Rivean Capital.
Both these deals were done at 4x and 5x EBITDA respectively. Is there a leverage tipping point at which 600bps will no longer cut it? According to a 9fin source commenting on the auction of German software vendor SER Group, 6x is the cap, even for a very good business.
“Usually, debt funds won’t go below 600bps pricing at 6x leverage,” said the source in 9fin’s article on SER Group.
Let’s see how long this tipping point remains, particularly as pressure continues to feed down from the BSL market, and bank clubs snap at the lower end of middle market with their comparatively lower pricing.
Meanwhile, it seems that for those contemplating LBOs, the time is now. Of the 55 opportunities in 9fin’s European private credit pipeline, published 5 April, 9fin counted 47 LBOs, with the remainder releveraging and refinancing opportunities.
Now, this could be the result of some bias, as releveraging conversations in particular will start out as bilateral with the incumbent lender(s) whereas prospective LBOs sound out a far wider group and make their way back to 9fin’s pricked ears.
However, it is telling that some long-awaited LBOs, such as the auction of Rothchild’s Five Arrow’s sale of its wealth management software business Harvest, first written about by 9fin in September 2023, has, for better or for worse, finally chosen this moment to launch.
Shout outs to carve outs
One strong opportunity for private credit financing is the sheer number of carve outs hitting the market. As 9finobserved in its recent piece: Can private credit carve out a piece of that carve-out?, financing a carve out is difficult for any lender, but easier for private credit than for BSL.
A new standalone company usually needs to incur costs, such as the addition of new administrative jobs, sales teams and physical assets. This requires flexible, specialist capital, notes the piece.
Outside of the remit of most plain vanilla private credit funds, cost of capital, leverage and pricing become less of a race to the bottom. “Leverage multiples should be lower compared to typical LBOs and the cost of capital becomes less of a focal point,” notes a source in the piece.
Carve outs recently done in the market include Hayfin’s financing of French residential property management services company Nexity ADB, recently acquired from its parent, the Nexity Group, by Bridgepoint.
German conglomerate Siemens has been slicing and dicing its portfolio with the sale of Siemens Trench and its motors and large drives business, Siemens Innomotics, which is currently up for sale and could be worth more than €3bn, providing financiers with a large carve out financing opportunity.
However, an area that provided some opportunity to private equity in 2023, the pubilc to private, has fallen quiet. The only private credit-backed P2P in Q1 2024 is Pollen Street Capital’s take private of UK wealth manager Mattioli Woods, financed by Ares.
Incumbent lender advantage eroded
The existing lender in a deal usually scraps to stay there — but in the current market environment even the incumbent lender’s position is looking less assured.
Competition for good deals means it’s not unheard of for the long-term lender to be ousted, as seen towards the end of last year when Blackstone Credit, Goldman Sachs Direct Lending and Sixth Street provided the debt for CVC’s acquisition of French digitalisation services provider Sogelink, ousting incumbent lender Hayfin.
More of the same this year, as incumbent lenders to French fintech Eres Group— Barings, Bridgepoint Credit, and Hayfin, are battling to finance 100% of the prospective acquisition.
For the sponsor, the temptation to use the competition to drive down margins may be outweighed by the benefit of keeping multiple lenders. As 9fin’s article on Eres observed, the recent departure of the senior leadership from Barings’ private credit team has opened sponsor eyes to the risks of using a single lender to provide the entire debt on an LBO.
Nonetheless, it won’t stop existing lenders trying to bed down in the deals in which they are happy. Harvest Group private credit suitors will have to do battle with incumbent lender Arcmont, who will be loath to give up exposure to a performing credit in the defensive wealth management sector.
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