Large private credit funds, the engine of debt financing for mega-buyouts earlier this year as bank loans froze, have cut back on debt packages lately.
Just several months ago, the investors behind these funds easily assembled big-ticket unitranche loans of more than $3 billion backing mega-sized leveraged buyouts—taking market shares from banks as the syndicated loan market froze amid market turbulence, rising rates and other challenges that cut lenders’ risk appetite.
For instance, a small group of direct lenders—encompassing Blackstone Credit, Apollo, Blue Owl, HPS and Ares Management—in June provided a roughly $5 billion unitranche loan for the $10.2 billion take-private deal of Zendesk led by Permira and Hellman & Friedman. A lender group that includes Owl Rock Capital, Golub Capital, Blackstone, Apollo in the same month split an around $3 billion debt financing for Thoma Bravo‘s takeover of Anaplan, according to a report from Leveraged Commentary & Data, a news service owned by PitchBook. Owl Rock is the direct lending business of Blue Owl.
Blackstone, through the Blackstone Secured Lending Fund, committed to seven deals at over $1 billion in the second quarter alone, including Zendesk, The NPD Group, Mimecast and CPI Communications, according to another report from LCD.
However, market dynamics have shifted in the past few months, sapping private debt funds’ appetite for making big loans. Dealmakers said it would be difficult today to put together a multibillion-dollar loan package like the ones used in the buyouts of Anaplan and Zendesk. In today’s market, lenders are more comfortable assembling a loan at $2 billion or below, they said.
“Those mega-unitranche deals of $2 billion or $1.5 billion seem to be less common today,” said Ken Kencel, president and chief executive officer at Churchill Asset Management.” Direct lenders, while they are active, don’t seem to be wanting to take those type of outsized bets on credits.”
Lenders are pulling back from large unitranche deals for a variety of reasons, including slower loan repayments from borrowers and challenges for fundraising, which have put their ability to replenish dry powder under pressure.
When times are good, private credit funds receive more proceeds from debt repayments, which they can use to reinvest into new deals. Corporate borrowers tend to refinance their private debt through new bank loans and lock in cheaper rates within an average of three years, instead of waiting to repay loans when they mature in five to seven years.
However, rising rates have made companies reluctant to refinance their debt, pushing down private debt funds’ proceeds from repayments and limiting their capacity to make new investments.
In addition, lenders are more conservative as they anticipate market conditions will make it harder to raise new investment capital.
Lenders are cautious about the capital-raising environment due to challenges stemming from the denominator effect—which limits LPs’ ability to allocate to alternative assets as lower public asset valuations magnify the portfolio weighting of their holdings of private assets.
This has led some lenders to be more conservative when committing to a mega-transaction, Kencel said. He said he noticed that, in recent months, mega-deals are not being completed in the same frequency as they were.
It appears that lenders are building larger lending groups to tackle smaller deals instead of attempting to go it alone.
For instance, nine direct lenders split a $1.125 billion debt package to finance Vista Equity Partners’ $4.6 billion take-private deal of KnowBe4, according to a commitment letter dated Oct. 11, 2022. The consortium includes players such as Owl Rock, Monroe Capital, Fortress Investment Group, and Vista’s own credit team.
“Now it starts looking like a syndicated loan that Wall Street used to do,” said Tim Clarke, a senior private equity analyst at PitchBook.
With fewer lenders willing to snap up big chunks of buyout debt, some PE firms may consider including a larger equity component in deals, which could accelerate their capital calls from limited partners, Clarke added. In extreme cases, LPs could be forced to sell existing portfolios to raise capital if they don’t have the capital to meet those capital calls, he said.
In two recent examples of PE sponsors cutting back on debt in deals, Francisco Partners used only equity commitments for its acquisition of benefits technology firm Bswift, while Thoma Bravo financed its $2.3 billion take-private buyout of ForgeRock with 100% equity, even after the firm reached out to private credit firms for potential debt financing, Bloomberg reported.
PE sponsors who have felt the impact of tightened credit markets anticipate the dwindling capacity in leveraged finance markets will likely limit their ability to strike buyout deals over $10 billion.
“With the available credit that’s out there … what you probably won’t see, at least in the short term, is something like Galderma, which is a $10 billion deal,” said Christian Sinding, chief executive at European buyout giant EQT, on the firm’s Q3 2022 earnings call this week.
With the cost of debt financing having increased meaningfully across board, “large-scale buyouts will likely not be possible in this environment,” added Olof Svensson, EQT’s head of shareholders relations.
Featured image by Na_Studio/Shutterstock
Learn more about our editorial standards.
