The fundamentals of credit analysis always apply. “We are looking for well run businesses that have strong balance sheets and are seeking to borrow money to increase their profitability and to grow,” says Brett Craig, director, private credit at Aura Group. Aura does not participate in distressed debt situations, for instance.

There are few shortcuts when assessing a private credit deal, adds Nicole Kidd, head of private debt, Asia-Pacific at Schroders Capital. “We are trying to assess what the right price is for credit risk, for the term of the loan, the duration of our exposure – there are a lot of factors that can go into whether the borrower can perform over the life of a loan. It is all taken into account when we decide whether the return is adequate for the risk of the investment.”

At pricing, private debt investors say they compare what they are being offered against the bond market to see whether compensation is at an appropriate level to balance the complexity of a transaction.

“An investor today has a lot of choice, so to justify ‘why private debt’ we have to ensure they are capturing the illiquidity premium over the return they would get for a more liquid asset class, like bonds,” Kidd says. “There are also many other benefits to private credit that suit investors, such as the fact most are floating-rate assets and also returns have little or no correlation to public markets.”

Schroders assesses transactions using a ratings model with a target band equivalent to S&P Global Ratings scores around B+ to BB- and a comparison with recent transactions bearing equivalent risk. “It’s so nuanced, because every deal is a little different and a lot of the documentation is very bespoke,” Kidd tells KangaNews.

Once the business case is understood and headroom in covenants is assessed, among many other things, the Schroders team assesses how attractive it might be to the market based on deal size, duration and liquidity levels, to determine the rate it could be priced at.

For a syndicated deal, pricing input might not be a strong determinant of final margin. “But when the price is determined by the arranger or the borrower, we have to be comfortable before we invest that we are getting enough of the illiquidity and complexity premia,” Kidd explains.

Schroders revises its ratings each quarter, against updates to borrowers’ compliance certificates and investor expectations. “When we make the original investment we use an external system to derive a rating, so if the interim reporting suggests performance is materially less than we expected it would be a trigger for rerating internally,” Kidd says.