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The First Brands Group bankruptcy has cast a spotlight on one of the fastest-growing corners of private credit: asset-backed finance.
Private asset-backed finance, or ABF, involves lending against a specific asset, income stream, or loan rather than lending to a company based on its cash flow. According to KKR, the private ABF market has doubled since 2008 to over $6 trillion today – larger than the syndicated loan market, high-yield bond and direct lending markets combined.
The ABF market is expected to top $9 trillion by 2029, according to KKR. In a report, the global investment firm said that while direct lending may have powered the private-lending growth last decade, ABF is now “taking a similar road, grabbing the spotlight with its historically attractive yields, diversification benefits and vast market size.”
Asset-backed finance is often touted as being less risky than direct lending. While banks have pulled back from ABF since the financial crisis, private direct lenders have poured in. A lender often bundles ABF loans in pools, collateralizing everything from financial assets (accounts receivable or consumer loans) or hard assets like aircraft, warehouses or even music royalties. The pooled approach is aimed at providing a safer portfolio of loans, with more diversification.
Yet some experts say that the flood of capital pouring into private credit and ABF strategies has resulted in lower standards and increasingly exotic assets pledged as collateral. First Brands, the auto parts company, borrowed against its receivables, or the money owed by its customers. In bankruptcy filings and lender statements, some lenders say the company may have pledged the same receivables to different lenders.
While several private credit firms, like Apollo, spotted the potential problems at First Brands and even shorted the credit before the company filed for bankruptcy, others failed to notice the red flags.
Donald Clarke, president of Asset Based Lending Consultants, said ABF is “high-risk, high-reward” lending that requires especially rigorous due diligence.
Not only do lenders need to understand the fundamental business and complete business model, like typical lenders, but they also have to understand the specific collateral being pledged.
“The First Brands debacle demonstrated the lack of proper due diligence by the lenders — both banks and non-banks — who rushed to deploy capital,” Clarke said.
Given the rapid expansion of ABF and the billions flowing into private credit, he said he expects more problem loans to emerge — especially if there is a credit downturn.
“The race to deploy capital must be moderated by the need for proper due diligence on the borrower and proposed collateral,” he said. “Where there is a lot of money to lend, there is a lot of money to lose.”
