When traditional sources of debt funding come under strain - as they are now - credible alternatives attract attention, which a recent deal involving the Asia-based conglomerate illustrates, so the author of this article says.
(An earlier version of this article appeared on the sister news services to this one today. While based in Asia, the lessons - particularly at a time like this - will be appreciated by readers worldwide.)
The debt market continues to evolve as investors hunt for yield in an environment of very low interest rates. At the same time risks in certain areas, such as high-yield, make those whose job it is to protect wealth nervous. Corporate debt in the US has been a source of worry for some time. Another trend is the growth of private credit, so much so that along with other private capital markets, there were mutterings about “dry powder” – money waiting to be deployed – even before the coronavirus pandemic hit.
A recent major deal involving SoftBank, the Tokyo-based conglomerate, intensifies focus on this topic. To analyse it is Lachlan Campbell, Asia chief executive at Equities First Holdings. (More details below on the author.) (It should be noted that yesterday, reports (Wall Street Journal, others) said that SoftBank Group Corp., which poured nearly $100 billion into start-ups in recent years, said on Monday that it will offload billions of dollars in assets to support its falling equity price and protect its balance sheet following the threat of a ratings downgrade.) The editors are pleased to share these views; as always, the comments of guest contributors carry editorial disclaimers.
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One of the most influential technology investment firms in the world, SoftBank Group, made headlines in early February when it announced the completion of a $4.5 billion financing package from 16 financial institutions. The key factor that set this transaction apart was SoftBank’s decision to pledge shares of its telecom subsidiary, SoftBank Corp, as collateral for the loan. This structure allowed SoftBank to access capital on flexible, non-purpose and non-recourse terms by making more efficient use of its existing assets.
While this particular transaction is in a class of its own in terms of visibility and scale, it marks a broad shift in the overall credit landscape which is subject to both investor demand and borrower needs for flexible liquidity. As with SoftBank, rather than rely on a complex and lengthy public bond issuance to access liquidity, borrowers are increasingly turning to private credit. Conversely, investors searching for higher-yield opportunities are allocating more capital to private credit strategies such as direct lending and asset-backed lending. This is taking place in the context of current market turmoil and liquidity contraction from banks. As with the SoftBank transaction, private credit and innovative debt structures are becoming an important source of alternative financing. Taking a closer look at the SoftBank deal, it is important to note several features that characterise the transaction.
First, by posting a 20 per cent stake of its subsidiary as collateral for a loan, SoftBank has been able to unlock liquidity while maintaining long-term beneficial ownership. Second, the loan is non-purpose which means that the proceeds can be used dynamically to meet business needs as management sees fit.
Third, because this type of financing is “non-recourse”, Softbank’s liability is limited to the shares pledged should it become unable (or simply choose not to) repay the loan. Its other assets and credit would not be subject to legal action or be seized as restitution. Worth noting is the loan-to-value ratio in the SoftBank transaction (as with most other equity-backed financings) was just above 30 per cent. This means that Softbank received only 30 cents on every dollar of stock they pledged for the loan, which is far more favourable for the lender. Furthermore, given the size of that haircut, it is highly unlikely that Softbank will take advantage of the non-recourse feature.
ith a higher loan-to-value borrowers may consider a non-recourse financing to act as an implicit long-term hedge against the position. This is especially valuable in cases where the borrower has concentrated exposure to one stock. A higher LTV permits asset owners to lock-in current valuations and access liquidity while simultaneously retaining all potential upside exposure to their equity assets over the life of the loan.
The Softbank transaction cannot be viewed in isolation, however. The general interest in asset-backed and equity-backed lending deal flow as an alternative source of financing in Asia is significantly on the rise. In China alone, there are now over RMB1 trillion in equity-backed loans outstanding. This demand has come largely from listed companies and their key stakeholders (founding families and senior management) pledging their own shares in order to access liquidity in a timely manner. Tightening bank credit has been a key driver for these listed company stakeholders.
In parallel, an important trend towards private credit strategies is taking place in the fund allocation space. We are witnessing an historic shift of investor assets into private debt strategies, including direct lending, mezzanine debt, distressed debt, special situations funds and, of course, asset-backed debt. Fund allocators are searching for higher yielding opportunities and want to diversify away from equities. Pension funds in particular have been moving away from hedge fund allocations towards private credit opportunities.
During the 2008 Global Financial Crisis, banks aggressively raised their risk limits and cut their credit funding to de-risk their balance sheets, accepting mainly blue-chip stocks with high liquidity and low volatility for equity-backed financing purposes. This left a broad universe of borrowers and companies underserved or without access to practical financing solutions. We are again experiencing significant volatility in financial markets with investor confidence and risk appetites turning negative. It is now conceivable that we may enter a prolonged period of aggressive bank de-risking and liquidity contraction. This environment should create increased demand and opportunities for new players with ample liquidity (such as family offices, pension funds, and specialist credit funds) to enter the private debt space.
Equity-backed financing, especially, allows borrowers to remain nimble and reactive without having to liquidate long-term investments, dismantle legacies or lose control of their businesses. Equities First Holdings sees many similarities between this transaction and our own model. As an asset-backed loan specialist we welcome the growth and evolution of the private debt and alternative lending space. As a pioneer in asset-backed financing for more than 17 years, we operate in every major market across the globe. A robust ecosystem of borrowers, lenders and other counterparties translates into an increase in the quantity and quality of investment opportunities.
We anticipate seeing more deals of the same calibre as the SoftBank transaction come through as new capital and demand dynamics grow the private debt market to new prominence.
About the author:
Lachlan Campbell is the Asia Chief Executive Officer of Equities First Holdings, a global institutional investor which specialises in equity-backed financing. The firm is wholly-owned, privately funded and deals only with professional and accredited investors. In his role as Asia CEO, Lachlan oversees all strategic planning, business development, operations, regulatory compliance, and marketing functions at EFH Hong Kong and all of EFH’s Asian subsidiaries.
With nearly three decades of financial services and executive management experience, Lachlan brings expertise in buy-side multi-strategy platform and operations development, institutional client development, and regulatory compliance management to EFH. Prior to joining EFH, Lachlan served in various senior executive, management and business development roles at CLSA, Pine River, Income Partners, Deutsche Bank, HSBC, and PwC, over his professional career. The contents of this article are the personal views of Mr Campbell and do not represent the views of Equities First Holdings.