Sponsors and Lenders: How Both Parties Can Achieve Best Execution

The world of private credit is vast, and recent Configure proprietary data shows it is dynamic and ever-changing. Between six-month tracking periods, top lenders (defined by number of term sheets submitted) went from representing more than half of all credit proposals to as low as roughly 15%. Furthermore, lending accounts that represented between 35% and 45% of all recent activity were completely inactive in the prior period.

In addition to the fluctuations in lender velocity—a specific credit fund’s appetite for new deals and overall assertiveness in the market—the world of private credit remains fluid. Commercial banks and broadly syndicated markets are losing their market share to direct lenders, some of whom are debuting with $1 billion+ inaugural funds.

Changes in lender velocity, coupled with an evolving private credit landscape, have seen private equity professionals slowly but surely realize that outreach to the same key relationship lenders is not yielding best execution in debt financing.

With these dynamics at play, it begs the following questions: How can private equity firms select the right lending providers? What questions can decision-makers ask? On the flip side, how can lenders best get on private equity firms’ radars when many investors have yet to move away from their select group of credit firms?

The Lay of the Land

In this current private credit landscape, private equity firms tend to filter into three broad buckets:

1. Sponsors completing financing themselves. In this category, the M&A deal team is also simultaneously handling the financing process. This typically looks like an associate or a principal managing lender outreach in conjunction with managing the acquisition and deal underwriting process.
2. In-house capital market professionals. PE firms often employ an in-house capital market professional who focuses on the debt financing work streams of a deal in tandem with the investment team executing the acquisition.
3. PE firms leveraging a debt placement partner. PE firms who work with a debt placement partner outsource all or portions of the lending and debt financing process to a third party, thus removing the burden from the team and saving time and money that better allows the investment team to focus on executing the deal.

Selecting a Lending Provider

For the first and second examples above, these groups typically have their own shortlist of credit firms that they contact deal after deal, backed by deep relationships, and often forged through professional past lives. There is likely a predisposition to a rinse-and-repeat model due to ease of execution and a more-or-less templated credit agreement.

However, concentrating your portfolio with a specific lender can have concerning drawbacks. Sponsors need to consider four key behaviors and perspectives of their current and prospective lender relationships: 1) how a lender approaches down-side scenarios, 2) what are a lender’s growth capabilities, 3) whether there is viable repeat engagement potential and, ultimately, 4) pricing.

To expand further, if a firm runs into an issue with the lender, possibly the need for an equity infusion or amendment, the lender could stop being as flexible or amenable on the rest of the firm’s portfolio if there is an issue with one. Additionally, a sponsor may need a lender who is going to support growth strategies, and it’s important to note that not all lenders approach these scenarios equally. Another consideration is that some sponsors may desire a lender with dry powder and capital to grow alongside them, better facilitating a longer-term partnership. And lastly, it all comes down to pricing. Whether priced at a premium or at market, terms are going to make an impact. Contacting just a handful of parties may not result in full-price discovery, and the value of competitive tension can not be underestimated.

Plainly put, there is immense value in diversifying a firm’s lender portfolio. To select the best lender for the situation, below is a list of questions that can be considered in the preliminary stages:

• What is the lender’s disposition or stance towards tripping covenants or providing an equity cure?
• How will the lender react to seeking an acquisition or dividend recapitalization to sustain or grow the investment?
• Will the lender be supportive of the equity thesis?
• Will the lender put a stop to any type of strategies the firm is planning to employ or any other growth levers a PE firm may pull?
• Does the lender have the financial wherewithal to upsize with the business and manage a debt facility increase?
• How is the lender priced? At a premium or discount to market?

Hiring a credit advisor will aid the diligence process when evaluating lenders and their stance on downside scenarios and aggressive behaviors, like taking the keys after a foreclosure. Due to their constant in-market activities and deep relationships with a vast group of lenders, a credit advisor can serve as third-party verification to avoid sharp-tooth lenders and ensure the firm is partnering with the ideal team for optimum execution.

Positioning the Lender Side

On the lender’s side of the equation, how can lenders connect with private equity firms when professionals typically use the same groups of lenders over and over again? One solution is getting involved and connected with the actual deal team and networking with that specific individual to show new deal flow.

How can lenders connect with private equity firms when professionals typically use the same groups of lenders over and over again? One solution is getting involved and connected with the actual deal team.

Demonstrating some sort of additional value proposition is also key to getting a firm’s attention. Although it’d be great to price lower than the marketplace and show off economic attractiveness, that’s usually not the case in this current environment. Instead, pitch them on other capabilities — flexibility in terms of acquisitions, ability to upsize, stock of dry powder to deploy alongside the growth of the portfolio company, expertise and thought partnership to a specific industry, etc. A well-positioned lender will showcase how it can leverage their portfolio to assist a sponsor in terms of an operations perspective that goes beyond the confines of being a capital provider

But what if the firm is outsourcing? As a lender, it’s crucial to be in contact with a middleman, such as a credit advisor. Partnering with a credit advisory firm immediately streamlines outreach efforts—lenders need only to be in contact with one contact to get access to an array of sponsors, rather than consistently interfacing with PE firms on a 1:1 basis.

Both Sides of the Story

PE professionals wishing to diversify their lender portfolio should be thorough in their diligence with lenders, ensuring that the lender has complementary views on the investment strategy and is prepared to upsize with the portfolio company’s strategic growth strategy. On the other hand, lenders desiring to break into a new group of PE firms that may typically work with the same credit firm repeatedly need to demonstrate additional value propositions that go beyond just writing a check.

Configure Partners is a preeminent credit-oriented investment bank specializing in debt placement, special situations, and bespoke M&A advisory. Our team of bankers would be happy to discuss any of the above items further and answer any questions you may have concerning partnering with a debt placement partner. 

Uj Rai is Vice President, Configure Partners. joined Configure in 2019 as an Analyst, bringing years of credit structuring and advisory experience serving middle-market companies. The firm has witnessed Uj’s growth from Analyst to Associate, and today he serves as Vice President. Prior to Configure, Uj was an Associate with PNC Financial Services, where he was responsible for underwriting cash flow credit transactions, managing portfolios, and assisting the team in sourcing new debt investments. Uj received a BBA in Finance from the Goizueta Business School, Emory University, and a BA in Mathematics from Emory University. He is also a FINRA General Securities Registered Representative (Series 79, 63). Uj earned his CFA Charter in 2020.

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