Structured finance has expanded into new issuer types, new tactical situations, and new forms of capital. What’s driving this period of innovation?
Over the past decade, the rise of non-bank lending has shifted more and more capital towards private credit, insurance and other alternative sources. Operating issuers are coming with whole-business, digital infrastructure and royalties-based bonds that complement traditional capital. Investors are using structured finance to make sure what they’re buying fits the right pockets of capital and risk allocation on their balance sheets. Structured finance is a natural tool for placing the right product with the right risk appetite.
How has private credit’s growth changed ABS origination and placement?
We’re only at the beginning of this shift. Ten years ago, structured finance was primarily a 144A product. Now, a large share consists of private-credit or private-capital managers executing deals directly or in clubs. In large private-credit-based digital-infrastructure financings, for example, structures often need to be designed quickly as business needs arise. We often don’t have time to get to a fully rated, bankruptcy-remote structured product for the first capital needs. But we can get most of the way there with private credit and enhanced structuring, then transition later to a fully structured ABS offering after further work with ratings agencies and investors.
What is driving structured finance up the capital structure and how far can it go?
Large pockets of capital that are willing to invest in a stable cash-flow stream outside of bond form — JVs, lines of business or carve-outs. You’ll see more rated joint-venture interests, hybrids, fund structures and other isolated cash streams. It’s about identifying a stable business and financing and valuing that risk independently. These structures can unlock value, especially in tactical situations with distressed companies that have one or more strong lines of business or with structured joint ventures freeing up capital for growth.
What types of issuers or asset classes do you expect to emerge next as candidates for structured solutions?
Across our practice, we’re predicting growth in finding new and creative ways to identify stable parts of businesses, sometimes called “yieldcos” or “stablecos,” and isolate them using joint ventures, structured equity sales or transactional techniques such as license agreements and IRUs. Structured finance can then take those cash flows and rate and finance them in the capital markets. Another key development will be speed of execution. Tactical scenarios often require fast action. If a capital provider can move quickly and take a view on future rateability, value can be unlocked with a structured refinancing following shortly after. The increased access to large pools of managed capital is going to help with this velocity.
How do you see the relationship between structured finance and private equity evolving over the near to medium term?
Seeing private equity and private debt as separate worlds is increasingly outdated. We see increased flexibility as to capital being able to change its form. Some private-equity clients have “tactical opportunities” groups that are product-neutral, and that’s the right way to think about the structured-finance world today. I expect more crossover strategies, more hybrid financing and more fund-level structures. But the question then becomes: how do we make execution efficient? How do we make these products syndicateable for broader investor participation? Many of our clients are innovating at the edge while also working to make those products more efficient and replicable across their platforms.
What do you expect structured finance as a sector to look like in three to five years and what will feel meaningfully different from today?
One major development is a convergence of understanding among our clients, our counterparts and ratings agencies across different sectors of the market. Structured-finance lawyers need to “speak” leveraged finance and M&A and vice-versa. This cross-understanding helps ensure flexibility in capital structures from day one, making later execution more efficient. On our end, we’re giving structuring advice earlier, making sure people know that these tools exist and don’t accidentally close off these options through other financings. Borrowers and investors will continue to focus on financing the right asset with the right type of financing, tailored to the right pocket of risk tolerance. Liquidity and speed of execution will continue to be at a premium and will drive continued innovation in both areas. We also may see increased bank lending into sturctured finance with the recently-announced changes to leveraged lending guidance.
Michael Urschel (pictured) is a partner in the Complex Securitizations Practice Group in the New York office of Kirkland & Ellis LLP. He focuses on securitization, structured private credit and private placements, hybrid finance and structured lending, with a particular emphasis on complex, first-of-their-kind transactions involving non-traditional assets.
