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Private Credit Funds Become More Selective Amid Growing Recession Concerns

Buyout firms that contact private credit funds to gauge their interest in backing multibillion-dollar acquisitions are finding that only specific types of borrowers are getting a call back these days.

January 5, 2023
8 minutes
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Buyout firms that contact private credit funds to gauge their interest in backing multibillion-dollar acquisitions are finding that only specific types of borrowers are getting a call back these days.

Lenders in the $1.4 trillion private credit market are favoring industries that are expected to perform relatively well in a recession, such as technology and health care. This is according to private credit managers.

According to Mike Patterson, a governing partner at HPS Investment Partners, lenders and private equity firms are currently seeking out investment opportunities in industries that are likely to be relatively resilient in the face of a challenging macroeconomic outlook. Software and healthcare are two sectors that have historically shown relatively little sensitivity to economic downturns.

As investment banks pull back from lending, private credit managers are increasingly being asked to finance big deals. The market for high-yield bonds and leveraged loans remains challenging, making it difficult for companies to obtain the financing they need. As a result, private credit managers are playing a larger role in providing the financing that companies need to grow and expand.

Just before Christmas, Sixth Street led a $2.25 billion financing to support Advent International Corp.'s acquisition of satellite owner and weather forecaster Maxar Technologies. In Europe, Goldman Sachs Asset Management LP led a group of four lenders in a €700 million ($741 million) loan backing the acquisition of Italian pharmaceutical firm Neopharmed Gentili SpA.

Announced private-equity deals for targets in North America and Western Europe have declined significantly over the past six months, according to data compiled by Bloomberg. However, the proportion of deals that are seeking financing from private credit managers is up significantly, market participants say.

"As there is a lot of demand for our capital, lenders can be choosy now," said David Golub, president of Golub Capital. "We are focused on providing good loans to companies that are likely to do well even if market conditions or macro-economic conditions become more challenging."

Companies in certain segments of the health-care industry are often seen as more resilient during recessions. This is because they often have long-term contracts and less volatile demand for their services.

Software companies are receiving a lot of attention from private credit lenders within the technology industry. Even fast-growing companies that don't generate positive earnings can get financing from banks.

Several firms, including Sixth Street, Blackstone Inc., and Apollo Global Management, have recently invested heavily in the buyouts of companies such as Coupa Software Inc., which helps businesses manage their spending.

Datto's $3.7 billion financing round shows the immense private credit firepower that is available to companies today. This is a huge vote of confidence in Datto's business model and growth prospects. With this funding, Datto will be able to continue to invest in its product and go-to-market initiatives, as well as expand its global footprint.

A blue owl-led group has provided a $2.5 billion loan for the Avalara buyout. This will help the company finance its acquisition of a tax software provider.

Blackstone and Arcmont have joined forces in a record $4.4 billion direct lending deal. This is one of the largest such deals ever completed, and it will provide much-needed financing to businesses around the world. The two companies have a long history of working together, and this latest deal is sure to be a success.

Private Credit Club has secured $2.9 billion in debt financing for the ManTech buyout. This is one of the largest buyouts in recent years, and Private Credit Club was able to secure very favorable terms for the deal.

A group of investors led by Blackstone has provided $5 billion in debt financing for Zendesk. This financing will help Zendesk continue to grow its business and invest in new products and services.

According to Golub, good software companies have a stable core business and a predictable growth trajectory. They also have solutions that enable business clients to be more effective and to save money.

He said that companies who understand their customers well can renew their subscriptions at high rates, up-sell improvements and other products, and bring on new customers.

Recurring-revenue loans are a type of loan in which credit metrics are based on a measure of recurring sales, rather than earnings. This year, deals for Avalara Inc. and Zendesk Inc. were structured using this format.

Patterson noted that another key driver for software deals is the dramatic drop in value for some publicly traded companies - something that doesn't happen in the healthcare industry.

According to one industry expert, buyout funds can take advantage of current market conditions to buy up software firms that have seen their value drop by 80%. He noted that larger private lenders are in a good position to take advantage of these opportunities, as they are the ones that are most often contacted by potential sellers.

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