Spotlight on Natalie Garcia, Managing Director, Head of Underwriting, Deerpath Capital
Global Thought Leader Spotlight
Natalie Garcia, Managing Director, Head of Underwriting, Deerpath Capital
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My primary responsibilities include overseeing the underwriting component in Deerpath’s broader investment process as well as participating as a permanent member of the Investment Committee (IC).
A member of my team or I participate as a part of the “deal teams” assigned to each new opportunity and actively work through the process from initial screening, IC review, term sheet proposal to acceptance.
Once a term sheet is signed, the deal team will prepare a due diligence work plan. I then oversee the final underwriting process, including the final approval memo and legal documentation. The deal team remains involved through a full business, earnings and legal review and preparation of the final recommendation memo to the investment committee for approval and final closing.
The inflation dragon and direct lending markets
Inflationary pressures remain a persistent theme across most parts of the Western world. Central banks pursuing contractionary monetary policy have constrained, but not slain, the inflationary dragon.
This leads us to our next question; will structurally higher interest rates lead to a material slowdown in the underlying economies?
This question remains unanswered. Higher funding costs will ultimately adversely impact corporate profitability and household balance sheets.
In the short term, higher reference rates continue to be a relative positive for the direct lending market, as loans issued are almost exclusively floating rate in nature. Therefore, the impact on existing loan portfolios rolls through in the form of higher returns to investors, albeit at a lag.
However, over the last decade, the core direct lending market has witnessed a material reduction in the scope and quality of traditional structural protections afforded to lenders as large amounts of capital entered the sector via a plethora of new institutionally funded private credit managers which then increased the competition for deals.
This increased competition manifested in the acceptance of “cov-lite/cov-loose” loan structures by these new lenders. The loans encompass higher levels of leverage and, ultimately, credit risk for each unit of return.
The competition for deals is increasing, yet ‘all in yields’ remain robust. Reference rates and credit spreads are likely to remain at current levels with the outlook for direct lending in the near term being a strong one. Thus, investors are well poised to receive good compensation for the risk taken.
Implications for the sophisticated investor
Should the macroeconomic environment materially worsen then, institutional investors that have allocated to the core and upper middle direct loan market (loans that vary in size from US$100 million to upwards of US$500 million), over the last 5 years could well experience outcomes that are not consistent with their expectations for the asset class.
A slowdown in economies, combined with stubborn inflation, could increase the strain on the profitability of those companies in direct lending portfolios. This scenario, intertwined with the higher leverage carried by larger companies, coupled with weakened lender protections, could combine to see default rates and recoveries in the event of default be materially worse than historical levels.
When institutional investors look to provide debt financing to companies in a less supportive economic environment, they should focus on making sure they have appropriate diversification, protection, and compensation for the risk they are taking on.
At Deerpath our focus has always been on the lower middle market, a part of the direct lending opportunity set that still enjoys full covenant loan terms, other lender protections and lower leverage at the company level. Thus, the returns and the protections are higher compared to other parts of the market.
Furthermore, we have deliberately avoided the temptation to raise larger funds and allocate to larger loans, despite the obvious operational leverage and profitability benefits.
The ultimate question that institutional investors should be considering is whether their interests and those of their direct lending managers are aligned with each other.
Natalie will be presenting at Global Investment Institute’s upcoming Private Credit Investment Forum, taking place on Thursday, 2 May 2024 at the Grand Hyatt Melbourne, Victoria.
Register your interest in attending here or for more information email zlatan@globalii.com.au
Natalie Garcia, Managing Director, Head of Underwriting Deerpath Capital
Natalie is a Managing Director of Deerpath Capital and a member of the Investment Team. She joined Deerpath in 2015 and has 18 years of industry experience. She previously worked in private equity and leveraged finance at Palladium Equity Partners, Macquarie Capital Partners and JP Morgan.
Natalie is a graduate of the Wharton School of the University of Pennsylvania (M.B.A., 2011) and Georgetown University (B.A., 2004).
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