One Step Beyond

Published: February 04, 2025

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One Step Beyond
Reuben Daniels picture
Reuben Daniels
Managing Director, Global Head of Investment Banking, Chatham Financial
Tom Alford picture
Tom Alford
Deputy Editor, Treasury Management International

Time for Treasury to Fully Embrace Alternative Capital Sources?

As alternative lenders become ever more competitive with their traditional financing counterparts, should conservative market participants such as treasurers be exploring new avenues of capital availability? We discuss the benefits and drawbacks of stepping off the standard path.

“Capital is super-abundant and has been growing in its profusion for quite some time,” declares Reuben Daniels, Managing Director, Global Head of Investment Banking, Chatham Financial. While this may ring true for some businesses, it may sound unlikely for many others. The reason, explains Daniels, is that capital’s apparent growth in availability has been highly fragmented.

“If you look back 20 years ago, companies typically went to banks and broadly syndicated securities transactions for their capital. It was plentiful then, but not fragmented,” he notes. However, since then, the growth in private credit and direct capital, and a reduction in the capacity and appetite for banks to provide capital, has served to splinter the growth in the market.

“The most sophisticated borrowers understand this,” states Daniels. “They are now using sources of capital within banks other than traditional bank revolvers and term loans. But they are also going to private capital sources, raising the scale and flexibility of capital that they need to run their businesses.” There is, he suggests, a notable driver for this quest to step beyond the traditional and unlock additional funding sources, and that is the growth in the market caps of the largest companies, which today he says are “far greater than you could have imagined 20 years ago”. That needs feeding.

A changing industry

In the early days of that growth, most private capital was expensive, notes Daniels. Even so, it meant firms could achieve the rising scale that the traditional markets could not match. And, importantly, these private deals could be established on a flexible, negotiated basis.

The typical mode of distribution for a syndicated deal will see a lead bank’s syndicate desk set up meetings with a number of potential participating parties as it seeks to promote the ‘packaged’ product. In the private credit space, the approach applied to raising that debt capital is more akin to an M&A transactional auction among the large asset manager and insurance capital spaces.

There has been a slow awakening to a new possibility in the banking sector as that model has gained ground. Most recently, Goldman Sachs announced its creation of a new Capital Solutions Group to, it says, “better serve corporate and investor clients and grow its business in private credit, private equity and other asset classes”.

This response, comments Daniels, is a reflection of the fact that some banks finally understand that traditional syndication is not necessarily best set up to serve modern corporate client needs. By re-structuring in this way, they will be able to more widely distribute that “super-abundancy of capital”, in line with the upward shift in credit offerings being seen in the private space. He explains: “While the private debt markets used to be for lower-rated companies in need of structured capital, now investment-grade capital is being provided into large-cap investment grade companies”.

And while the ‘stressed’ end of the spectrum will always attract a premium, the upwards shift in private capital towards higher-rated corporates is generating a beneficial outcome for those businesses that sit in that space between investment grade and junk, notes Daniels. “Where the low tide was single-B rated companies, the tide is rising so that now for higher-yield companies there’s a price compression, with deals being completed at rates comparable to syndicated transactions, but with far more product flexibility.”

Piecing the market together

Within the market for private capital, there are favoured areas for investment, such as infrastructure development, including digital infrastructure and data centres, and the financial institutions group (FIG) space. This naturally creates specialisation among investors, says Daniels. But, he notes, industries that have slipped out of favour with banks, in part due to their heightened regulatory and ESG challenges, are also being funded by alternative markets.

The hugely diverse out-of-favour list includes office real estate (with banks facing regulatory notice that over-exposure here is to be avoided), as well as firearms and other defence solutions, prison facilities, and the historically rapidly expanding (but currently sliding) cannabis market.

It happens that in a fragmented market, where capital is abundant, private investors - less obviously beholden to regulatory or ESG commitments - are keen not just to cherry-pick the ‘best’ industries, but many are also willing to fund these out-of-favour concerns, says Daniels. Those that choose to do so recognise that the dearth of financial providers serving these types of operations means they can approach deals, in terms of pricing, flexibility and collateral, on their own terms.

But this also means businesses that are able to access capital without prejudice now have no need to remain faithful to traditional sources. Indeed, argues Daniels, it is prudent for treasurers of any such company today to be aware of these sources, not least because their competitors will be using them to their benefit.

Gaining the advantage

A clear example of an investment-grade firm stepping beyond the usual sources to this effect is Intel. In June 2024, it announced a deal  with Apollo Global Management for an $11bn investment to create a semiconductor fabrication plant in Ireland. Intel had struck a similar deal in 2022 with Brookfield, building a fabrication plant in the US. The technology giant describes this strategy as “smart capital”. Daniels agrees, commenting: “If you’re in the business of building large factories, how are you not thinking about other sources besides traditional bank bond and equity?”

The confluence of large-scale corporate funding needs, and alternative but sophisticated investor appetite, can be seen increasingly in sectors such as data-centre construction. Here, the combination of real estate and digital infrastructure has created an entirely new arena of financing, and in particular private capital financing, says Daniels.

“Joint ventures between large infrastructure investors and sovereign wealth funds  together with large corporates are putting significant dollars into investment-grade company projects,  effectively as off-balance-sheet deals,” he reports. “Private, non-syndicated, non-broadly distributed credit is coming to big public investment-grade companies. If you’re a treasurer today, you need to know about it.”

To add weight to his case, Daniels cites a recent trend among large global alternative investment managers to combine insurance subsidiaries, and the capital flow it raises from these, with their asset management businesses, particularly in credit, that is disrupting the traditional private placement business. “The growth and abundance of capital is profound in this space. It is coming to fruition, and so now they want companies to come to them.”

Opening windows

Clearly market momentum is building, and corporate treasurers should be exploring how this might help their organisations. However, there is a fundamental challenge here, notes Daniels.

“The vast majority of companies rely on their bankers to bring them financing opportunities. The problem is that the entire system is set up to offer broadly syndicated securities deals, not to arrange private capital. Most companies don’t see these new opportunities because their bankers are not incentivised to show them alternative sources of capital.”

So while some of the largest corporates are approached directly – as per the restructured aims of some of the largest funds – Daniels believes most other treasurers are at a “distinct disadvantage” when it comes to accessing alternative sources of capital. “There are thousands of lenders out there, but how do they reach the treasurer at the precise point they need the money, and at the time when the lender wants to lend it?”

Because most of their window onto the capital markets is delivered by banks that aren’t in that space, Daniels argues that many corporate treasurers are subject to a “mismatch of information” that ensures they remain unaware of the size and scale and positive impact of this source. While some bankers are figuring out the opportunities here - Goldman Sachs is one example - their corporate clients remain largely or only partially unaware. They typically find out about alternative capital only when they are facing financial distress and realise they’re not able to work with their banks at the level needed.

The prudent approach for any treasurer would thus be to explore all options well before it ever comes to that. A worthwhile exercise in this respect, suggests Daniels, is to undertake an analysis of the organisation’s capital stack as it affects the business.

By running parallel financing paths it should be possible to determine the efficacy of a ‘regular’ (bank-led) financing path versus various alternative market options. The aim, he explains, is to reconsider the company’s financing structure through an unrestricted market lens, so that treasury can determine how best to fit the range of different investment mandates available to the needs of their business.

It may, for example, be possible to finance a certain set of assets separately, suggests Daniels. A company seeking finance that has an operating business as well as a large real estate component, may consider a traditional broadly syndicated bond deal. It could also consider a singular private credit deal that would be similar to the bond. But given the often specialised nature of the alternative markets, the two components together may not suit certain investors.

However, by bifurcating the business – setting up the real-estate component as a real estate investment trust (REIT) alongside the operating business - and therefore separating their cash flows, it becomes easier to find lenders focused on those discrete buckets.

“In looking for alternative ways to finance, treasurers should be thinking about funding at the whole level, but also at a sub level, then comparing those two paths, and playing one against the other. If they can show one set of lenders that there’s another set of lenders looking at the assets differently, treasury may be able to secure a much better deal from one of those providers.”

This approach to financing has been around a long time - it’s not uncommon to restructure sections of a distressed business. Daniels explains that in a world where capital sources are fragmented, and banks are required by certain forces to reduce their exposures to specific sectors, it can force otherwise healthy companies to look at alternative sources of capital. It then places treasury, with or without third-party guidance, in a strong position to begin translating their business into what the alternative lending market is willing to buy into.

Advantage treasury

The benefits of pursuing alternative sources financing could be quite significant in terms of cost savings, source diversification, and flexibility. But, Daniels stresses, for some, funding availability is now a more pressing matter. Potential shortfalls are emerging where the appetite of senior secured lenders (banks) to engage is declining, yet companies still need the incremental capital to reach the equity level of their capital stack.

“If a company is borrowing at four turns of leverage from its banks, but those banks are now saying it can borrow only two turns of leverage, it has to find new ways to fund that gap. But is that second lien, mezzanine or preferred? And who will provide that capital, and at what price? Treasurers need to be aware of how to fully fill in their capital stack because they can’t just fund part of it.”

While most banks are not typically structured to deliver private capital solutions, at least in a systematic way, it’s clear that some players, such as Goldman Sachs, are ready to change. They acknowledge that this is going to be “an extremely important, active, sizable market”, says Daniels. And as banks, and the panoply of alternative providers, set a course towards direct corporate origination, treasurers should be readying their organisations to take advantage.

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Article Last Updated: February 04, 2025

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