Personal credit crowds out banks to offer Carlyle the largest direct loan of its kind

Private lending groups like Apollo, Ares and Blackstone are poised to issue the largest direct loan on record while continuing to meddle in a lucrative business traditionally dominated by Wall Street banks.

Lenders are increasingly confident they can edge out investment banks like JPMorgan and Goldman Sachs in a deal to fund Carlyle’s acquisition of a 50 percent stake in health analytics firm Cotiviti, according to five people briefed on the deal.

The $5.5 billion loan to help buyout group Carlyle acquire the stake of competitor Veritas Capital would be the largest of its kind and could be announced in the coming days or weeks, the people added added. The deal values ​​Cotiviti at around $15 billion.

He underscores the growing power of private lenders as the global financial crisis ushered in a new era of tighter capital requirements for banks, making it harder for them to finance risky acquisitions.

The trend has only accelerated in recent months after banks struggled to pay off debt they had provided to fund large acquisitions, including Elon Musk’s takeover of Twitter, due to volatile bond markets.

“Big business is no longer just the origin of the banks,” said Kipp deVeer, credit director at Ares.

The financing package for Cotiviti, which would be accompanied by a $1 billion investment in preferred stock, is one of several large private loans being discussed, according to private equity industry executives.

The magnitude of potential deals is much higher than it was a few years ago when private loans were typically $1-2 billion.

“People have dry powders,” deVeer said. “If there’s a quality company and a quality transaction, most people will . . . find enough capital and capacity to do that.”

The amount of capital on offer is the product of a wave of fundraising by private debt funds, many of which are operated by firms that started as pure buyout groups.

The last three years have seen an influx of retail investors into funds like Blackstone’s personal credit mutual fund, known as Bcred, helping private equity groups write bigger and bigger checks. Even after a wave of fresh outflows, institutional investors remain committed to the market.

Last week, Howard Marks, co-founder of Oaktree Capital, told clients that the company was trying to raise $10 billion to fund large acquisition loans. A few days earlier, Ares CEO Michael Arougheti announced that the company was “embarking on a pretty significant fundraising push.”

Non-bank lenders have been attracted by the high yields on offer, with many loans yielding 6 or 7 percentage points above the variable rate benchmark, or about 11 percent or 12 percent overall. This number will continue to climb as the Federal Reserve and other central banks ramp up their rate hike campaign.

“It has become an enduring financial tool for borrowers and has become increasingly valuable,” said Dan Pietrzak, co-head of personal loans at KKR. “The market has the capacity to close these multi-billion dollar deals.”

The banks were unable to prevent the loss of the lucrative business to private credit competitors because the market for outsourcing debt to third-party investors has recently dried up.

Lenders like Bank of America and Barclays have been forced to hold on to loans made to fund major acquisitions, including the Twitter deal and the Citrix acquisition, causing them huge losses.

Alex Popov, Head of Illiquid Credit at Carlyle, said: “2022 really stopped capital markets. In terms of dislocation, this has been as pronounced as it gets where underwriters for new deals have been essentially out of business.”

Personal credit remains one of the few available sources of capital in times of tight financial conditions, even after the high yield and leveraged loan markets have begun to recover.

Data from PitchBook LCD shows that the vast majority of deals in the syndicated loan market — where banks underwrite the debt before selling portions of it to investors — have been made to refinance existing loans rather than fund acquisitions.

Bankers say the trend could reverse if markets become less volatile. “Many underwriters are on the sidelines, so getting a syndicated deal underwritten on a large scale is challenging. But . . . people will come back,” said Rob Fullerton, global head of leveraged finance at Jefferies.

There was strong demand for the Cotiviti loan, people with knowledge of the transaction said, with groups including HPS Investment jostling for a piece of the deal alongside Apollo, Ares and Blackstone.

Given the high demand, Carlyle has managed to push the yield on the loan to about 6.25 percentage points above the Sofr reference rate, compared to the 6.5 percentage points previously discussed, according to people familiar with the talks.

The private equity groups are discussing a sweetener that would allow Cotiviti to pay interest on the loan by taking on more debt, a factor in Carlyle’s preference for the financing package over a competing package from JPMorgan and Goldman Sachs.

Discussions about the so-called benefit-in-kind regulation are still at an early stage and may not materialise. Two of the people said being included in the deal would allow Cotiviti to save cash if the US flirts with a recession.