LONDON, March 20 (LPC) - While fears over the coronavirus outbreak grow, direct lenders have limited choice but to hold onto their illiquid portfolios as the exit routes in mid-market lending remain limited.
Unlike the syndicated loan market, which has seen a pick up in secondary trading activity following the outbreak of the virus, loan transfers in direct lending are still in an infancy stage. Direct lenders tend to hold loans until maturity.
“Most direct lending deals are on a bilateral basis. It is a take-and-hold industry and offers a limited opportunity to trade out a position that you are in,” said Floris Hovingh, partner and head of alternative capital solutions at Deloitte.
“Selling direct lending loans mid-way in their life would get lot of questions from the potential buyers.”
A meaningful secondary market was just beginning to develop for the sale and purchase of mid-market direct lending loans, however market volatility triggered by the rapid spread of the virus has made any trade very difficult because of a massive gap between bid and ask spreads.
“It’s very hard to sell anything now as it will be very depressed in terms of valuation. No one would sell at a deep discount,” said Hovingh, adding direct lenders need to reassess their portfolio to understand which companies they might need to support in difficult times.
Since the secondary market is still in its infancy, any talks on loan transfers are all in private.
“No one would sound out loud about selling their loans,” a head of a direct lender said.
In addition, the time and efforts on due diligence spent on a secondary trade are similar to a primary deal.
European direct lender Kartesia acquired an outstanding unitranche facility in Spanish dental services provider Vitaldent in 2018 from another lender but only after holding rounds of conversations with majority owner JB Capital and following the improvement in trading performance.
It was a profitable trade for Kartesia, sources said, which existed the position in less than a year when Advent International agreed to buy Vitaldent in June 2019.
Despite being hard for direct lenders to trade out of their loan positions, they do have a great amount of access to portfolio companies compared to a number of larger borrowers in the syndicated loan market.
“Direct lenders often have a majority vote in the loans with good management access, which improves communication and decision making. They are also senior secured lenders to be the first in line to get the collateral if loans turn sour,” said Hovingh.
To most direct lenders, collaboration is the key once portfolio companies start to underperform.
“Identifying the problems and collaborating with the private equity sponsors is the best way to get your money back. You don’t want to threaten the sponsors and burn any bridges as they are less likely to support the company,” said Nicole Downer, managing partner at MV Credit.
Downer added that options to help companies include converting cash interest into accrued interest payments to boost firms’ liquidity.
“Giving space to breathe is important in a difficult time,” said Downer. “This approach has proven successful in MV Credit’s two-decade investment experience and we continue stand by it.” (Editing by Claire Ruckin)