The alternative investment sector known as Private Debt, which until recent years represented a segment often in competition with the banking channel, in 2021 recorded levels of fund raising and investment never seen in the last decade. And this happened not only in Italy, but also worldwide.
But in 2022, with high inflation and raising interest rates determining substantial instability in the markets, is the most promising asset class in the alternative investment landscape confirming its leadership?
According to last March report on the Italian private debt market, published by Aifi in collaboration with Deloitte, the private debt sector in Italy (private debt “core”) closed 2021 with a total amount of €987 million, with an investment amount of €2,214 million, an increase equal to 79% and 92% respectively, compared to the previous year.
This growth is due to several factors. On the one hand, the pandemic has left the Italian enterprises, mainly composed of SMEs, with strong liquidity needs to be met in the short term, while the most resilient companies took advantage to undertake development operations as early as 2021. On the other hand, the regulatory environment of recent years, combined with the main macroeconomic factors as well as the distinctive features of this asset class, have ensured its emergence in the post-pandemic period.
The Decreto Rilancio, which implemented the introduction of Alternative PIRs in 2020, favoured the increase in the issuance of mini bonds, combined with the tax benefits of holding such instruments in the portfolio. Further, the increased capital requirements for banks and their growing concern about the rise in NPL, have certainly favoured the shortening in the gap between retail investors, private debt operators and Italian companies.
In addition, private debt has proven itself over the years as a dynamic and multidimensional asset class because it does not only include a wide range of debt products, from venture debt to special situations, but it also has some intrinsic characteristics that are well combined with the current uncertainty and that attract investors, to the point that in recent years many private equity operators have started to structure dedicated private debt funds.
Private debt figures in recent years are therefore encouraging, showing how this segment of alternative investment is moving in the wake of the steady growth shown by private equity. The Italian panorama represents an interesting case study for the evaluation of the opportunities of implementation of this asset class, as many SMEs are eligible for access to debt capital as well as being an opportunity to reduce traditional and high reliance on bank credit.
With the emergence of such financing instruments for SMEs, companies gain access to a means of financing which is useful both for their capitalisation and for the implementation of growth and restructuring projects, as private debt operators demonstrate a long-term strategic vision and attention to the sustainability of the economic-productive system.
For companies, access to these alternative sources of financing entails greater transparency burdens and an adequate development of the information process and control of the financials and capital structure.
This is because, on the one hand, private debt instruments guarantee an extra return compared to other bond instruments (and the recent rise in interest rates implies a greater commutability of banking products with non-bank ones) but such instruments are also able to reduce the risk associated with investors’ portfolios, precisely through a deep assessment of target’s economic and financial conditions and the prospects of their business, which lead to the selection of counterparties to be financed with a high probability of investment success, and therefore, returns.
This is in line with the implications of private investment, with features of high illiquidity that imply for investors the need for in-depth due diligence on SMEs, to consider the dynamics of the sector, the competitive positioning, the corporate governance, historical and prospective performances. All these are preparatory activities to the structuring of a debt product that has a pricing in line with the financial structure of the targets and ad hod contractual conditions.
The affirmation of the sector on the national territory has shown how SMEs actually compete with each other in the acquisition of available resources, making it almost essential to be ready on the market for the evaluation by potential private debt funds: the drafting of a three/five-year business plan and an Information Memorandum defining the structure of the loan operation are essential, together with further certification of financial statements by auditors and sound financial sustainability of the new debt product over the funding horizon.
On the investor side, private debt instruments represent a poorly correlated asset with traditional markets, which often guarantee a constant cash flow, through debt products that require the payment of periodic coupons, and which can also be structured with variable rates providing protection against inflation.
Notwithstanding the recent trends shown by the private debt sector and the expectations of operators, who considered the asset class to be able to replicate the growth of 2021, H1 2022 data do not seem to confirm the growing pace.
Source: Aifi – Deloitte “H1 2022: Italian private debt market”
According to this report, in H1 2022 investments in private debt contracted by 29% compared to the same half of 2021, from 746 Mln to 531 Mln, and the collection, even if doubled compared to the first half of 2019 and 2020, decreased by 24% compared to the first half of 2021.
However, private debt until now has proven to be able to concretely support companies through uncertain economic contexts, additionally offering inflation protection, lower risks, and certain returns for investors.
Then, will private debt establish itself as an asset class able to compete on the same level as bank financing, shifting the focus of investors from the more traditional equity instruments to debt instruments that have more flexibility and adaptability to individual targets, or will it return to being a niche segment as it was until few years ago if macroeconomic conditions were to move towards normalisation?
Source: Pitchbook, AIFI, IlSole24Ore, Vistra
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