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Private credit strategies have been the growth story in the private markets in the past few years as a combination of banks retreating from lending and higher returns has seen both demand and supply increasing in tandem to propel the rise of the asset class.
What I find most interesting about the space is the wide range of sub-categories within it. Private debt is obviously the largest area of the market, and gets the most attention from the trade press because that’s one area where the largest asset managers invest, and the sums of money are often in the tens or hundreds of millions – indeed, last summer, there was a $5bn deal. But there are plenty of other niches, like aircraft leasing and life settlements, that form part of the broader industry, that all have their own nuances, and all this makes the credit market an interesting part of the world.
Another is merchant cash advances. We’ve seen more activity in this corner of the credit market recently as small businesses have begun to feel the pinch due to higher interest rates and a pullback in customer demand. Your neighbourhood pizza restaurant that needs a new oven, jeweller that needs to buy new stock, or logistics company that needs to buy a new lorry, are often too small for the traditional private debt funds. Historically, they have mainly used bank loans to purchase what, for these businesses, are high ticket items, but banks – both regional and national – are more risk averse than ever, making it harder for them to borrow.
Merchant cash advances can make sense for small companies for a few reasons, including faster funding (MCAs often have a much faster approval and funding process than a bank loan), easier qualification (MCAs typically don’t require a long credit history or extensive paperwork) and flexible repayments, because repayments are often tied to a percentage of a business’ daily or weekly credit card sales.
But there are many options for investors, as well. A private credit firm can form a pooled fund, as usual, with its LPs, and invest money that way. But it’s also straightforward to set up a separate account for an investor, similar to how a commodity trading advisor sets up separate accounts for its clients. This option gives them more control over the businesses they provide capital to and because the sums of money that they are lending out are smaller, an LP doesn’t have to allocate hundreds of millions in order to create a diversified portfolio.
Private credit has evolved into an asset class of its own, to the extent where any potential fall in interest rates will only result in a cooling off in demand for some of the strategies in the broader asset class as opposed to a massive pullback in allocating, because the demand is there from businesses of all sizes. The big deals will still get all the news coverage, but it’s good to see that the smaller firms – the backbone of America – haven’t been left out of the party.
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Anthony D. Mascia is Managing Partner at EFSI. Connect with him on LinkedIn here.
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