Key Takeaways
- • Kennedys Law LLP has launched a five-part mini-series on dispute risks in private credit, a non-bank lending market that has grown substantially over the past decade.
- • The firm identifies five pressure points: investor redemption requests and fund gating, due diligence questions at origination, valuation and ratings of loan assets, covenant-light loan documentation, and limited regulation.
- • Private credit funds are governed by US state law, English law, Bermudian law or European law, and the firm states the litigation risks share much in common across jurisdictions.
- • Participants across the chain are advised to preserve documentary and electronic evidence, observe time bars and limitation periods, and seek legal advice early when a dispute risk emerges.
Summary
Kennedys Law LLP has published Part 1 of a mini-series examining dispute risks in the private credit space, which it describes as 'non-bank lending' in which a loan is made to a business by an entity other than a bank. According to the firm, private credit has grown significantly over the past decade, largely because banks have become less willing to lend to medium-sized businesses due to capital-holding obligations imposed in the wake of the 2008 financial crisis.
Since 2008, a proliferation of private credit funds has emerged. Investors place capital into a fund, which lends to borrowers, typically middle-market corporations with lower credit ratings that are prepared to pay higher interest rates. The fund manager earns contractually agreed fees, commonly a percentage of the net asset value (NAV) of the loan portfolio, as calculated by the fund or a third-party valuer. Investor withdrawals are generally governed by fund documentation and are often restricted.
The firm identifies recent pressures that may increase dispute risk: a significant number of investors seeking withdrawals and funds restricting or 'gating' redemptions; questions over due diligence at origination; doubts about the valuation and ratings of fund assets and whether loans will be repaid in full; concerns that loan documentation was overly generous to borrowers ('covenant-light'); and questions about the lack of regulation in the sector. Kennedys notes that the mounting distress may be further exacerbated by recent global economic shocks.
Private credit funds are established across the US, UK, Europe and offshore jurisdictions and may be governed by US state law, English law, other common law systems such as Bermudian law, or the law of a European country. The firm says the resulting disputes are likely to involve novel issues, with outcomes depending on documentation, governing law and the jurisdictions of incorporation. The series, drawing on Kennedys offices in the US, UK, Bermuda, Hong Kong, Singapore and France, will cover fund structures, investor complaints, fund claims against service providers and borrowers, and claims by insolvency practitioners.
The firm recommends that any participant anticipating a specific dispute take steps to protect its position, including preserving evidence such as prospectuses, fund documents, loan agreements and related correspondence; considering recorded telephone lines and messaging apps; documenting valuation practices in the wider market at the relevant time; reviewing time bars and limitation periods; and seeking legal advice while protecting confidentiality.
Since 2008, a proliferation of private credit funds has emerged. Investors place capital into a fund, which lends to borrowers, typically middle-market corporations with lower credit ratings that are prepared to pay higher interest rates. The fund manager earns contractually agreed fees, commonly a percentage of the net asset value (NAV) of the loan portfolio, as calculated by the fund or a third-party valuer. Investor withdrawals are generally governed by fund documentation and are often restricted.
The firm identifies recent pressures that may increase dispute risk: a significant number of investors seeking withdrawals and funds restricting or 'gating' redemptions; questions over due diligence at origination; doubts about the valuation and ratings of fund assets and whether loans will be repaid in full; concerns that loan documentation was overly generous to borrowers ('covenant-light'); and questions about the lack of regulation in the sector. Kennedys notes that the mounting distress may be further exacerbated by recent global economic shocks.
Private credit funds are established across the US, UK, Europe and offshore jurisdictions and may be governed by US state law, English law, other common law systems such as Bermudian law, or the law of a European country. The firm says the resulting disputes are likely to involve novel issues, with outcomes depending on documentation, governing law and the jurisdictions of incorporation. The series, drawing on Kennedys offices in the US, UK, Bermuda, Hong Kong, Singapore and France, will cover fund structures, investor complaints, fund claims against service providers and borrowers, and claims by insolvency practitioners.
The firm recommends that any participant anticipating a specific dispute take steps to protect its position, including preserving evidence such as prospectuses, fund documents, loan agreements and related correspondence; considering recorded telephone lines and messaging apps; documenting valuation practices in the wider market at the relevant time; reviewing time bars and limitation periods; and seeking legal advice while protecting confidentiality.
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