Pandemic Puts Pressure on Private Debt as Default Rates Rise

07/28/2020 | 03:28pm

By Laura Kreutzer and Laura Cooper

Privately held companies, particularly smaller operations, are starting to feel more pain from the coronavirus pandemic as loan default rates rise while their lenders and private-equity backers seek ways to steer them safely to the end of the year.

"You would probably be shocked at how little restructuring activity went on in the second quarter," said Brian Williams, a partner at Carl Marks Advisors. "A lot of people were deferring payments, [and] lenders were offering forbearances."

"That's now beginning to change," he said. "The big theme now is, who is going to fund the next three to six months?"

The default rate on private debt rose to 8.1% in the second quarter, according to the Proskauer Private Credit Default Index, which measured 546 private loans issued mainly to private-equity-backed businesses. That's up from a 5.9% default rate for the previous quarter, according to Proskauer Rose LLP, the New York law firm that compiled the index.

Advisers and turnaround experts say they expect defaults to continue rising as more loan payments come due over the next few quarters, and a resurgent pandemic prompts some states to slow the pace of reopening their economies. The struggle to secure much-needed cash to sustain businesses will test the relationships between those companies' private-equity owners and the specialty lenders that hold their debt.

"There is a lot of liquidity out there with respect to the private industry and certainly within the private-credit industry," said Peter Antoszyk, a Proskauer partner. "I think the friction arises from not only who is going to put [the money] in, but how much and on what terms."

Smaller companies, whose lenders tend to impose tighter financial terms on loans compared with those given to bigger borrowers, often must confront liquidity issues sooner, according to David Hillman, co-head of the private credit restructuring group at Proskauer.

Default rates for loans in the index given to businesses with less than $25 million in earnings before interest, taxes, depreciation and amortization rose to 9.2% last quarter from 7% in the first quarter of this year. Borrowers with less than $15 million of Ebitda comprised more than 46% of all the defaults measured by the index for the just-ended quarter, up slightly from 45% in the first three months of 2020.

"This is all about who has the leverage," said Brian Fox, a managing director at turnaround adviser Alvarez & Marsal Holdings LLC. "If you have no leverage and the sponsor thinks there is equity in the deal, then you have to give the lenders what they want."

During the remainder of this year, $441.85 billion in U.S. corporate debt will mature, according to figures from data provider Refinitiv. Next year, almost $1.09 trillion in corporate debt is set to come due, the data show.

The highest second-quarter default rates came in sectors such as food and beverage (13.9%), consumer goods and retail (12.5%), and manufacturing (10.7%).

Despite the importance of health-care providers throughout the pandemic, borrowers in the sector experienced a modest rise in defaults to 6.7% in the second quarter from 5.5% in the first. Health-care services providers in particular could feel even more pain as the bill starts to come due for those that accepted prepayments for Medicare bills as the pandemic began. Businesses that sought such advances will take a revenue hit as they repay the money within certain periods, starting as early as three months after the advances were received.

"We need to see what's going to happen to advance payments and when they need to be repaid," said Richard Zall, the chair of Proskauer's health-care industry practice. He said the advance payments helped keep everything from hospitals to physician offices afloat and functioning as the pandemic curbed revenue from routine services.

Nonetheless, lenders and private-equity firms have a symbiotic relationship. So far, private-equity investors have noted that lenders have been open to working with them.

"This is such a unique period of time. There's no precedent for what has happened and how much the lenders have on their books, and how they see working that out," said Mark Herbers, a director at financial consulting firm AlixPartners LLP. "The lenders, private-equity firms and providers all realize that we're in this together."

Write to Laura Kreutzer at and Laura Cooper at


Corrections & Amplifications

This article was corrected at 4:57 p.m. ET because the original version to reflect that Proskauer Rose LLP is based in New York, not Boston.

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