Crisis will be 'Darwinian' for private debt — Tikehau’s co-founder Mathieu Chabran
GlobalCapital's Silas Brown spoke to Mathieu Chabran, co-founder of European alternative asset manager Tikehau Capital. They discussed how the relatively new private debt market in Europe will navigate its way through the pandemic, who the winners and losers will be in the asset class, and what opportunities may emerge from the dust.
For someone who started an investment fund more than 15 years ago, Mathieu Chabran is still remarkably young. Along with a fellow former banker, Antoine Flamarion, Chabran founded Tikehau Capital back in 2004 with just €4m of assets under management.
The pair had met in Merrill Lynch’s principal investment department in the late 1990s. Flamarion then headed to Goldman Sachs, while Chabran moved to Merrill's high yield capital markets team before joining Deutsche Bank’s real estate debt desk in 2002. He was in his late twenties when they set up Tikehau Capital, and Flamarion in his early thirties.
Tikehau now stands as one of the largest alternative asset managers in Europe — specialising in private debt and direct lending — with over €25bn of assets under management. It boasts Francois Fillon, the prime minister of France under Nicolas Sarkozy, as a senior adviser, and has had high profile backers like Bernaud Arnault, the CEO of LVMH.
But as a lender to Europe's mid-market, Tikehau is in a tricky place during this pandemic. GlobalCapital spoke to Chabran about the response from governments and established forms of finance, as well as what Tikehau Capital can achieve during a state of heightened insecurity. Where others see danger, Chabran assures GlobalCapital he sees potential.
GlobalCapital: When did you first realise how badly Europe would become affected by the pandemic, and what were your first steps to mitigate the expected risk?
Chabran: We first found out when our colleagues in Asia told us two or three weeks before it really hit Europe. We have a hub in Singapore but also colleagues in Seoul and Tokyo and they told us that coronavirus was a serious threat. Thanks to this, we could quickly set up a business continuation plan from an operational standpoint, and have our 530-odd people set up remotely.
These extra weeks gave Tikehau Capital’s portfolio managers time to prepare our companies proactively, and tell them that, effectively, the situation could become very bad. A lot of borrowers we finance are either family-owned or sponsored, and as stakeholders we could sit side by side with the sponsors and try to leverage our position. I think we managed the first chapter of the situation quite well.
GlobalCapital: As we enter the second chapter, what now occupies your time? What are your key responsibilities?
We have two types of clients, our investors and our companies. At Tikehau Capital we are pretty unique in that the firm is majority owned by our management, and that skin in the game helps create an increased level of energy and commitment. When you are a portfolio manager your job is to convert savings into investment, but at Tikehau Capital people across the group think and act as stakeholders, and as a founding partner that’s extremely satisfactory.
For our private debt business alongside our other roles, it is also making sure our companies are aware of what’s available to them, be that access to state guarantee loans or tax pushbacks and any other scheme available to them.
Also, as a manager of the firm, I am very much involved in fundraising. There is a very strong and real opportunity right now to deploy capital in a nimble way, both in private financing but also secondaries.
GlobalCapital: We will come on to the opportunities that will come out of the pandemic in a moment. But secondary private debt is not a concept you hear too often about. Can you speak about your strategy?
We’re launching a secondary private debt business, going to LPs and investors who invest in the asset class but who may take an opposite view on a particular credit or manager. We will then buy them out and take on their exposure.
Secondary private equity has been booming for the past 15 years, but in private debt that hasn’t yet taken off, but we intend to be a leading initiative in that field.
We hired a partner at the end of last year to look into setting up a secondary business. While we were betting on a late cycle trend, we were not expecting something quite as bad as Covid-19 — but that can only accelerate the trend, I think.
If you invest in private debt, you can be five times levered on your portfolio with 6%-7% type of return. Your portfolio is static by nature, and owned to maturity.
But as the market re-opens you will be able to achieve a wider spread with a more defensive structure, and a better protected covenant package — all of a sudden you can invest in a three times leveraged asset at 10%. You may say, you know what, I’m happy to sell my previous vintage at 90 cents on the dollar and free up and reallocate capital. Liquidity’s the name of the game right now.
GlobalCapital: What is happening on the fundraising side? Has that all come to a complete halt? Is fundraising a harder sell?
It’s hard to say. Due diligence right now is impacted, but we’ve found existing LPs and shareholders of ours can be very reactive and committed.
But so can others, too. A US public pension fund, for example, which has been considering investing in us for a while, had scheduled an on-site operational due diligence meeting in London and Paris for the end of March.
When it got close to this date, we thought this may be cancelled as they are based in the US. But instead their investment team spent from 10am to 6pm one day interviewing 35 of our partners across five offices remotely. We were all positively encouraged by this dynamic and we see this approach as a potential future for LP and GP’s interactions.
Of course, some others don’t pick up the phone as they are too busy right now dealing with their portfolio companies, so everything is not sunny, but I am not expecting that to last, as these investment strategies benefit from strong structural tailwinds.
GlobalCapital: Are investors still as prepared to invest in private debt as they were before the crisis?
We believe investors will still invest in the asset class. In fact, I believe it makes even more sense now than a month ago. If you remember everyone spoke about whether there was too much dry powder raised, or whether there was a bubble — in effect, are you finding enough opportunity to deploy the capital raised?
This has all changed now. When the market re-opens the risk/reward should be much more attractive than three months ago, regarding leverage, protection, covenants and pricing. Direct lenders have a huge responsibility to behave in a positive way. We’re now fundraising on a special opportunity fund that has been launched last autumn. We are launching our fifth direct lending fund.
There are also opportunities right here and right now. Sponsors have to deploy their own capital and some of these targets might be cheaper today — I would say that now you can expect one turn less of leverage and an increase of 200bp-300bp.
GlobalCapital: Will the pandemic help or hinder private debt as an asset class — ie will it speed up its journey to mainstream, establishment finance or will it cast it out further as banks and traditional forms of finance come to the (short term) rescue. What do you think private debt’s fate is?
Let me put it this way, I think it will be fairly Darwinian. The people who will survive will be people with a solid track record and solid roots. They will be people with a strong and diverse LP base who have worked through cycles before and managers with a broad origination footprint.
Private debt is an asset class which should generate its return on its own merit.
Who will be the ones in jeopardy? I call them the alchemists — the ones who try to convert lead into gold. People who take a weak credit and put leverage on it to try to take a 5% yielding asset to a low teen yielding asset. It is these people — people with weak underlying portfolio and too much leverage — that will be in trouble.
People with sub-scale operations and who don’t have sufficient working capital resources could potentially be at risk.
A fund which doesn’t have liquidity to weather three or six months of a difficult fundraising environment might have to find alternative solutions and I expect consolidation in our space. As far as Tikehau Capital is concerned we are engaged in discussion with some and will remain open and opportunistic.
GlobalCapital: The French government’s response to coronavirus — has it been enough? And have the French banks coped well?
Yes to both of your two questions. Regarding the French banks, they have benefitted from reacting early to government-backed guarantees. Banks in general are in a much better shape from a balance sheet standpoint and they are benefitting from extremely low costs of liquidity.
The government has been very good at covering the extremes of the spectrum, very small ‘mom and pop’ style businesses, as well as critical, large businesses like Air France, that just cannot go bust. But there is a gap in the middle. Let me put it like this: it is very easy to get a loan of €1bn or a loan of €100,000. If you need €100m, that is where it becomes trickier — and that’s definitively where Tikehau Capital and other private debt funds will take part in financing the real economy.