Insolvencies among UK high street companies have ricocheted to investors who made private loans to them, highlighting the limits of central bank interventions that staved off a string of defaults in the public debt market.
Firms including Alcentra, KKR and Pemberton, which specialise in making loans to private companies, have faced losses as months of social restrictions punish a sector that was already struggling before the spread of coronavirus.
The strain shows that while central banks have propped up public debt markets, helping larger companies borrow their way out of trouble, smaller businesses reliant on direct lenders have faced more difficulties.
“Restructurings have been a bit of a mess because lenders are trying to catch a rapidly falling knife,” said Leo Fletcher-Smith, head of European private credit strategy at advisory firm Aksia. “Where it's been more fundamental, and there has been lender enforcement, value erosion has often been quite significant.”
Investors have in recent years poured money into private credit funds that make their own loans, typically to medium-sized businesses — a practice sometimes called “direct lending”. These lenders usually charge far higher borrowing costs than on publicly issued bonds, while offering flexibility to companies that may not receive favourable terms from banks.
A string of insolvencies on the high street has been particularly painful for private credit funds, which typically can recover only pennies on the pound when retailers go bust.
Debt fund manager Alcentra is expected to take a loss on its investment in Debenhams, the 242-year-old department store that is on course to be liquidated in the new year. The London-based subsidiary of BNY Mellon was one of the retailer’s lenders that took control of the business through a debt restructuring last year.
Alcentra has also this year participated in so-called debt-for-equity swaps, in which a borrower’s loans are converted into shares, at struggling clothing retailers Fat Face and New Look. This marked the second restructuring for New Look in as many years.
Coffee chain Caffè Nero — another high-street business Alcentra lent to — is going through a company voluntary arrangement (CVA), an insolvency process that allows struggling businesses to renegotiate debts with creditors.
Alcentra declined to comment on specific investments, but said: “Similar to other asset classes during the Covid-19 pandemic, some sectors supported by direct lending capital have been impacted more than others.”
New lending from private credit funds slowed significantly in the first half of the year, as these investors tried to help their existing borrowers cope with the disruption stemming from national lockdowns.
“A lot of companies are really suffering and as a result direct lenders are struggling,” said one private debt investor. “They are dealing with significant impairments or private equity firms are having to put more money into these businesses.”
Many high street chains were already struggling with substantial debts before the pandemic, but the imposition of coronavirus-related restrictions tipped many bricks-and-mortar businesses over the brink.
Casual Dining Group, which runs the Bella Italia and Las Iguanas restaurants, collapsed into administration this year, resulting in losses for the lending division of US private equity firm KKR and UK private debt specialist Pemberton. Private equity firm Epiris agreed to take over the restaurant group in July but secured creditors are expected to recover only £13m of the £126m in outstanding debt, according to documents filed at Companies House.
KKR and Pemberton were also shareholders in the group as a result of a 2018 debt-for-equity swap. Both firms declined to comment.
Pemberton is a lender as well to the holiday agent Travel Counsellors, which operates in the struggling leisure sector. British travel association Abta expects booking numbers from October to the end of the year to plummet 93 per cent compared with the same period last year.
Permira Debt Managers (PDM), the credit arm of the private equity house, has funded several UK travel companies too, lending to letting agency Travel Chapter, travel agent Loveholidays and holiday park operator Away Resorts.
The investment firm also provided a £350m loan to private members club Soho House, which operates a number of restaurants in London. PDM, which in 2017 described this loan as its “largest ever direct lending investment”, declined to comment.
Anthony Forshaw, managing director at investment bank Houlihan Lokey, said some mid-market loans had not been well-drafted to cope with the sudden loss of earnings seen this year.
“Deals with documents not structured for downsides are those that can struggle,” he said. “And [that’s] where we see lenders being much more difficult and ultimately taking over businesses.”
Despite the turmoil, some credit funds that previously took over high street chains through debt-for-equity swaps have managed to sell the businesses this year, although they may not have recouped their original investments.
Real estate company Cain International acquired Prezzo last week, from lenders including hedge fund CQS and Swiss private asset manager Partners Group that took over the Italian restaurant group in 2018. Muzinich Private Debt sold Busaba Eathai to TnuiCapital in July, after the US credit investor took control of the London Thai restaurant chain last year.
CQS was also heavily invested in New Look’s debt, while Partners Group is a lender to Caffè Nero. CQS, Partners Group and Muzinich declined to comment.
Additional reporting by Kaye Wiggins
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