How Carlyle is Taking Private Debt Beyond Private Equity Deals

Carlyle Group Inc. aims to offer more direct loans to companies without private equity backers.

(Bloomberg) — Carlyle Group Inc. aims to offer more direct loans to companies without private equity backers.

With the $1.5 trillion private debt market ballooning, and competition for borrowers intensifying, direct lending firms like Carlyle are increasingly seeking to lend to more than just buyout groups who need debt to finance their deals.

Loans to borrowers without private equity ties tend to offer better protections and higher risk-adjusted returns, Taj Sidhu, who heads European and Asian private credit at Carlyle told Bloomberg News in an interview.

Private debt suits businesses that want a long-term lender that can offer intricate funding solutions to help their businesses grow. In Europe, Carlyle has already provided £370 million ($465 million) of debt financing to UK coffee chain Caffè Nero in January last year and a €400 million ($432 million) debt package to Swiss sports marketing company Infront the year before that.

Sidhu spoke with Bloomberg’s Silas Brown about the subject. Comments have been edited and condensed:

What accounts for the rise in sponsorless lending?

Sponsorless lending is clearly growing as the private credit market turns from being a niche asset class to now being a mainstream, large institutional asset class. It is now a market that every borrower looks at as it continues to capture market share from public market financing.

But this corner of the market has been growing at a relatively slower rate than the private equity-side, as the barriers to entry for lenders are much higher.

What are the barriers?

The first is origination. Non-sponsored companies are typically non-repeat borrowers, so accessing that borrower is harder.

A direct lending fund that talks to 30 private equity firms has a very clear route to find deals. Its job is to apply credit selection and win market share. For non-sponsored lending, you’re not talking to 30 buyout funds, you have to speak to hundreds of intermediaries to find those counterparties who are looking to raise money.

The second is credit underwriting. A lot of the due diligence you do as a lender with a non-sponsor-backed business is primary. The lender has to carry out the diligence, hire lawyers, accountants and tax advisors. This is different to private equity, which will put the deal into a nice package for you the lender to consume.

Sponsorless lending is very time-intensive. You are often dealing with borrowers that are actually looking for a partner to help grow the business and want to talk with you frequently. This is different to traditional direct lending, which is more transactional.

Okay, so why would any lender bother with non-sponsored deals?

It’s much less competitive with far fewer market participants, which translates to better risk-adjusted returns and more structural protections, which is especially important through a cycle. It’s a real bilateral negotiation, where borrowers are less focused on pushing every specific term.

Generally, it’s an increasingly challenging environment for banks to be long-term lenders, so companies that have grown with a historic banking relationship may find that banks are less keen to keep supporting them on their journey as they grow.

How big is the opportunity?

It’s very hard to quantify and you can cut the data a number of ways. But there are many multiple times more non-sponsored businesses than PE-backed companies. Not every one of those is appropriate for private lending, but the numbers are stark. Competitors to private credit lenders are often alternative forms of financing, such as bank debt, public markets or equity deals.

Some founders want to raise money but realise pretty quickly they don’t want to give up control, so are looking for alternatives such as private credit.

What are the challenges, versus sponsor-backed deals?

Some businesses at this end of the market aren’t as professionalized, and therefore it’s about identifying those situations where a lender feels good about the governance and standard of care of the business.

It starts with the management team. You have to have the right senior team in place with known quantity and presence. You’d be surprised how many deals are done through word of mouth, where you may have lent to one family-owned business and they know somebody else’s business that may be appropriate.

For us, making sure we utilize all the touchpoints of our platform, across all offices, asset classes, sectors and counter-parties helps us to counter the potential challenges of finding these deals and being comfortable partnering with less professionalized companies.

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