I will avoid taking sides here in the long-running debate over the merits of private equity (PE). My goal instead is to present an alternative with a tremendous record of success for companies in need of growth capital – and about which little is yet widely understood, despite its rapidly expanding profile: private credit.
Private credit is a relatively young investment segment that has grown rapidly, with assets tripling since 2015 to $1.7 trillion today. With that growth has come calls for government action to rein in private credit from many of the same parties who tend to push for scrutiny of capital markets generally – including some members of Congress with responsibility for banking.
Jamie Dimon of J.P. Morgan generated ubiquitous headlines [last month] with his publicly aired thoughts on private credit. But any such debate should include the unquestionable value private credit brings to the marketplace when it is practiced effectively. Private credit is growth capital extended to a company in the form of a loan or, more technically, debt provided by a private investment or credit firm rather than a bank. It is a considerably less dilutive alternative to private equity: in a typical PE buyout transaction, the PE sponsor takes a majority ownership position in a business and the owner-operator/CEO-founder loses direct control. In a private credit transaction, the owner-operator retains full management control of their business while maintaining a majority stake, and as a result, a majority return.
The capital raised from a private credit transaction enables management teams to execute immediate business and growth goals, such as funding mergers and acquisitions, customer and asset acquisitions, expanding an existing well-honed growth model, and other strategies. In other words, the goal of private credit is to preserve the integrity of companies, leaving companies mostly intact. By their very definition, private credit transactions hinge on the belief that current management has strong conviction in the future and a solid plan to grow. Structurally, there is no upside for private credit providers to pursue deals that seek to raise capital by cutting overhead, reducing headcount, and liquidating assets. Private credit further distinguishes itself with its penchant for supporting the “little guys” and emerging businesses of the corporate universe. The ideal candidates for private credit transactions are small-to-medium enterprises without as much access to capital as their larger competitors.
Private credit exists right in the aperture of companies with sizable growth potential but that do not yet have the needed assets or profitability for traditional bank loans.
Private credit is unsuitable if the goal is to sell or to raise equity at valuations that are sub- optimal. Good private credit recipients are not in distress or in dire need of changes to their management structure –a disruptive and expensive undertaking in itself. Rather, they are the companies with leadership that understands the importance of culture and whose existing leadership is worth preserving to execute their growth plan. Some well-established private credit firms offer support to growing small businesses beyond dollars. Over the last two decades as a CEO and Board director, and today as an interim/fractional CEO, I’ve put dozens of companies on the path of greater profitability, mainly by identifying and focusing on the highest-quality revenue streams. I now put this background to work by similarly advising companies ripe for private-credit-fueled growth. Especially in this moment, it would be a huge mistake to reflexively impose a massive regulatory regime on private credit without a thorough and fair assessment of its positive contributions to the marketplace.
Investment in 2024 faces a virtually unprecedented combination of headwinds: consumer confidence is challenged by untamable inflation, a white-hot labor market adding to the upward pressure on prices, soaring borrowing costs, and a more conservative banking sector. It is emerging businesses that are bearing the brunt of this squeeze – IPO prices fell 60% in 2023 versus their high two years prior. Consider the pivotal field of healthcare. Investment and expansion in this sector are crucial to serve an aging population. But the recent reality has been the opposite: Walmart, Walgreens and others have announced severe contractions in their market stake in healthcare provision. Now more than ever, it is in the greater good to foster a friendly environment for investment.
For policymakers who turn a leery eye toward Wall Street, private credit deserves favorable consideration as a vehicle: the best private credit firms prefer to work with companies that have a conviction in their own future and believe that disrupting a positive corporate culture leads to a bad customer and employee experience. For all parties – investors, consumers, salaried workers and entrepreneurs – private credit offers optimal outcomes as a capital investment pathway. Its robust growth should be encouraged and leveraged.
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