A brief introduction to private credit

Key takeaways

  • “Private credit” identifies a large part of the credit market – beyond publicly traded fixed income instruments or bank lending – that has been traditionally inaccessible to everyday investors. 

  • Private credit can be an attractive means of financing when more traditional avenues are inaccessible due to specific circumstances. 

  • There are two ways to access the asset class on Yieldstreet – through single offerings, a curated list of individual private debt investment offerings, or through selected private credit funds sponsored by leading private credit fund managers. 

What is Private Credit?

“Private credit” identifies a large part of the lending market – beyond publicly traded fixed income instruments or bank lending – that has been traditionally inaccessible to everyday investors. Private credit investments are focused on privately-negotiated debt transactions between a borrower and a lender. 

A privately negotiated loan provides greater flexibility to tailor an investment to the business or asset being financed, by taking into account its risk profile and specific features. 

From a borrower’s perspective, private credit loans can help a borrower obtain funds if there are some complexities that prevent them from receiving lower-cost, traditional financing. Lenders of private credit opportunities seek higher returns by providing a customized solution to the borrower and for the in-depth analysis needed to understand the complexities and risks of the borrower. These returns are comparably higher than loans from traditional lenders, such as banks, that have strict lending guidelines that a large number of borrowers cannot meet.

For example, a company may be seeking capital to fulfill a large new customer order that it already has under contract. While traditional lenders may not be able to fit the opportunity within their lending criteria, a private lender can perform diligence on the customer, the customer’s ability to pay for the order, the gross profit of fulfilling the order, the potential for additional orders from the same customer, the strength of the contract, the use of the loan to fulfill the contract, and so on, in order to provide a customized loan to the borrower that helps achieve both the lender’s return goals and the borrowing company’s operating objectives. 

While private lending has been there for some time, private credit became relevant as an asset class in the years that followed the 2008 global financial crisis. Indeed, as a response to the excess risk taken by banks that triggered the crisis, sweeping regulations were implemented, which restricted the types of lending that could be done by commercial banks or take place in fixed income markets. The new boundaries and capital reserve requirements meant a large segment of lending was cut off from the traditional channels.

Because these regulations were rigid, many of these companies and borrowers could not access bank lending despite good credit history and valuable collateral. This has created a vast opportunity set private credit lenders that are not subject to the same regulatory requirements and are able to lend much more flexibly.

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What is the rationale for a private credit transaction

Private credit can be an attractive means of financing when more traditional avenues are inaccessible due to specific circumstances – such as the need for short-term maturities (banks tend to prefer longer-term lending), the nature of the business, the lack of acceptable collateral (banks only consider specific types of assets), the desire to structure a more complex transaction, or even just the urgency to obtain capital. 

Some examples of complex situations that may drive a borrower to seek private financing: 

Leveraged Buyouts – A company is bought using debt, and the borrower needs to have certainty that the loan will be obtained as a condition to complete the transaction, especially if the transaction is complex. 

Mergers & Acquisitions – A loan is needed for a business to acquire and integrate with another business, and traditional lenders may perceive the integration of the newly acquired business to be too complex and intensive – and thus risky. 

Growth Capital – The founder of a high-growth business wants to limit the dilution of their ownership interests in the business that would occur by taking venture capital money. 

The lender is primarily driven by: 

— Higher return potential, mostly related to the urgency and complexity of the transaction. 

— Greater reporting transparency, which is usually available in privately negotiated transactions, as a tool to monitor the performance and ongoing risks of the debt investment

— More control due to the presence of fewer lenders within the capital structure. 

Reporting transparency and stronger control can potentially help monitor risk more effectively over the life of the loan. If conditions deteriorate, there may be greater room to protect capital by requiring the borrower to accelerate the paydown of a loan, or to restrict certain activities until those conditions reverse to an acceptable level. 

Conclusion

Yieldstreet enables access to Private Credit investment opportunities which have traditionally been inaccessible to everyday investors. 

There are two ways to access the asset class on Yieldstreet – through single offerings, a curated list of individual private debt investment offerings with varying return profiles, or through private credit funds sponsored by leading private credit fund managers, which Yieldstreet carefully selects.

In addition to the offerings available at this point, Yieldstreet is looking into the space to identify further opportunities across diversifying strategies, including sports, media and entertainment, global dislocation and venture/growth. 

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