Lenders in private equity and real estate are wheeling and dealing again, driven by competition to offer borrower-friendly loans with loose lending standards, few lender protections and contract clauses that can help hide portfolio company underperformance, industry executives say.
Foreign investors, banks and credit managers have capital to lend. Worldwide, private credit managers alone have a record amount of unspent capital commitments at their disposal — a combined $251 billion of dry powder as of June 30. In the heat of competition, lenders of all stripes are accepting fewer protections against losing money on loan defaults and allowing companies to delay revelations of trouble.
"Banks and non-banks are under pressure to write business," said Joseph R. D'Angelo, partner in the New York office of Carl Marks Advisory Group LLC, an investment bank that provides operational and financial advisory services.
That's not to say lenders have forgotten the pain they and their investors experienced in the global financial crisis, company executives say.
"There are definitely lessons learned," said Donald Sheehan, Boston-based managing director at Carl Marks. "How long do you retain those lessons before you do what is driven by the market? You have to put your money on the street (lend)."
Looser lending is occurring at a time when investors are leaning on credit strategies to be a less risky version of income-producing real assets and return-enhancing private equity. A downturn could not only slash performance of the ever-widening spectrum of private credit strategies, but also could lead to nasty surprises in investors' private equity portfolios.
"Covenants are important because they serve as an early warning system for lenders to identify possible problems," said David Fann, New York-based president and CEO of private equity consulting firm TorreyCove Capital Partners LLC. "They also give lenders certain rights to take actions to protect the (portfolio company) value and repayment of their loans."
Loosening of lending standards is driven by competition to lend, especially for private equity-backed deals, Mr. Fann said.
"Some of the interest coverage covenants and liquidity tests seem to have been negotiated away as (private equity firms) play multiple prospective lenders against each other," he said.
Capital is not only coming from non-bank, private credit lenders but also from banks that recently have started to get back into lending and are competing with direct lenders and foreign investors.