Focus on: Navigating the Evolving Landscape in Singapore and beyond

Private credit (loans made by non-bank lenders which may include private equity firms and alternative asset managers to corporates) has gained increased traction in recent years in the Asia-Pacific region, with market participants forecasting that the demand for, and supply of, private credit is here to stay.

Whilst there is no single factor that has led to the rise and growth of private credit financing activity globally as well as in the region, it is becoming increasingly clear that banks have become more selective in their lending practices following heightened regulatory scrutiny after the Global Financial Crisis, and even more so amidst growing focus on Environmental, Social and Governance alignment in recent years. Private credit as an alternative source of funds provides a wealth of opportunities for institutional investors, including higher returns and risk diversification, making it an attractive asset class.

Private credit first gained traction in the United States but has since grown rapidly in Europe and is now expanding in Asia-Pacific and Singapore. In the Asia-Pacific, private credit assets under management reached approximately USD 120 billion at the end of 2023, a twofold increase from four years earlier. Demand for private credit in Asia is fuelled largely by a large and growing number of Small and Medium Enterprises (SMEs) who may struggle to secure financing from banks due to their perceived risk. With the higher-for-longer interest rate environment resulting in comparable borrowing costs between bank loans and private credit facilities, private credit has become the preferred alternative to bridge the financing gap. Consequently, the private credit market in the Asia-Pacific is expected to continue expanding.

In Singapore, Prime Minister Lawrence Wong announced the introduction of a S$1 billion Private Credit Growth Fund as part of Budget 2025 to assist fast-growing local enterprises seeking to raise capital. This comes just months after Singapore’s state investment company Temasek announced that it had established a wholly owned private credit entity with an initial portfolio valued at $10 billion. Such moves in Singapore signal a growing recognition of private credit’s value in diversifying investment portfolios and providing alternative financing options to support entrepreneurship in the country. As government-backed entities expand into this space, it also encourages more investment in the private credit market, further fuelling its growth.

 

Types of Private Credit Structures

Private credit can be structured in numerous forms, including senior debt, unitranche debt and mezzanine debt. It can also be utilised in a loan-on-loan financing structure. These structures will be further explored below.

Senior debt

Senior debt or direct lending (referring to funds that are provided to borrowers on a “first lien” basis or where debt is secured by assets over which lenders have first claim to) is a popular private credit sub-asset class according to a poll conducted by global investment firm Cambridge Associates on Asian investors, with over 60 percent of respondents indicating that senior debt was part of their investment portfolios. As senior debt has a lower risk profile within the capital structure, it typically offers lower interest rates compared to junior or subordinated debt, and is commonly sought-after by borrowers and opportunities have opened up for private credit firms and investors to provide senior debt capital to corporates for their diverse financial needs.

Unitranche debt

The demand for private credit has expanded beyond senior debt as investment strategies become more diverse, with unitranche debt emerging as another popular and sought-after structure. Unitranche debt represents a hybrid loan structure where senior debt and subordinated debt are combined into a single loan, with banks typically taking on the senior debt portion and private credit firms providing the subordinated debt portion. The interest rates payable by the borrower under this hybrid structure fall somewhere between the generally higher interest rates which would be applicable on a pure private credit financing and the generally lower interest rates which would be applicable on a pure bank financing. Additionally, the added risk from taking on subordinated debt is mitigated by its integration with senior debt.

For borrowers, the unitranche structure is thought to offer a streamlined, one-stop solution, allowing borrowers to access funding from multiple parties through a more efficient and simplified process. Under this structure, there is just a single loan agreement and generally fewer documentation requirements, unlike where a borrower takes on senior and subordinated debt. In the latter scenario, the borrower has to deal with a syndicate of lenders, with each tranche operating independently and thereby requiring its own loan agreement, security package and covenants. Quicker execution is one of the key reasons why unitranche financing has become popular in facilitating leveraged buyouts and acquisition deals where timing to put in place the financing for such acquisition is paramount.

Loan-on-loan financing

An interesting financing structure involving subordinated private credit is the loan-on-loan structure. The loan-on-loan financing structure, which is increasingly being adopted in commercial real estate financings, has the following characteristics:

1. A debt fund lender, which can be a private credit lender, creates a special purpose vehicle to serve as the lender on record (“the SPV Lender”) who extends a loan (the “First Loan”) to a borrower (the “Propco”) for acquiring or developing real estate assets. The debt fund lender may also provide financing to the SPV Lender in the form of notes.
2. A separate loan (the “Second Loan”), referred to as the loan-on-loan, is extended to the SPV Lender by a back leverage provider, and the proceeds of the Second Loan will be on-lent by the SPV Lender to the Propco. The back leverage provider will typically be a bank or a traditional financial institution which may not want direct exposure to the underlying real estate asset or the capital treatment that accompanies lending directly to the end-borrower who holds the underlying real estate asset (e.g., there could be regulatory requirements that mandate banks to allocate a certain amount of their own capital to mitigate potential losses from their loans and investments).
3. The security for the Second Loan comprises all-asset security from the SPV Lender in favour of the back leverage provider and principally includes an assignment of rights of the SPV Lender in respect of security granted to it by the borrower under the underlying loan.
4. Payments of loan principal and interest received by the SPV Lender will be applied towards payments on the Second Loan with covenants under both the First Loan and the Second Loan focused on the First Loan.

As part of this hybrid structure comprising both private credit and bank loans, risk-tolerant private credit lenders can potentially receive higher returns on their investment, while banks can provide lower-risk senior debt without direct exposure to the underlying assets. Such a hybrid structure also offers bespoke financing solutions for the end-borrower, especially in complex or large-scale real estate transactions, making it attractive to the parties involved.

Mezzanine debt

Private credit can also take on the form of mezzanine debt, which sits below senior debt in the capital structure, and often includes a hybrid of debt and equity features, where mezzanine lenders are given the right to convert debt to equity which may be exercised upon the occurrence of a specified event outlined in the agreement. Borrowers may take up mezzanine debt when more affordable senior secured lending options are unavailable, such as when borrowers are considered too highly leveraged or because their business model is perceived as too risky for conventional lenders. Due to relatively more enhanced risks involved, mezzanine financing offers some of the highest interest returns to lenders and private credit investors.

 

Collaborating for Success: The Partnership between Private Credit Lenders and Banks

In recent years, private credit lenders have increasingly turned their attention to senior debt, a market traditionally dominated by banks. While this shift has been particularly notable in North America and Europe, the Asia-Pacific is also currently witnessing changes. With increased regulatory pressure on traditional lenders and growing demand for more flexible financing options, private credit funds have seized the opportunity, expanding their role in providing senior loans to businesses. The surge of private credit lenders into the senior debt space has been noted to be remarkable in Australia, where non-bank lenders are no longer limited to offering subordinated or mezzanine debt but are increasingly willing to take on senior debt pieces themselves. While the private credit market in Singapore may not currently be as vibrant compared to the Australian market, Singapore has been actively ramping up its private credit activity (as mentioned above), with Temasek’s S$10 billion private credit portfolio and the Singapore government’s S$1 billion private credit fund signalling an appetite for servicing larger loans in the region.

These developments in the private credit market have sparked conversations about the evolving dynamics between private credit lenders and banks. While private credit lenders make an offer of flexibility, speed and tailored financing solutions, banks continue to play a vital role in the financial ecosystem, offering stability, regulatory oversight and a range of services that complement the offerings of private credit lenders.

Further, recognising the demand for non-bank lending and attractive returns that private credit lenders can offer, banks have also been expanding their private credit capabilities – by either establishing or enhancing their own private credit arms. For example, Deutsche Bank and Goldman Sachs have expanded their Asian presence in private credit in recent years, providing more flexible debt financing solutions, including senior and mezzanine debt, to mid-market companies. With increased involvement from banks in the private credit arena, such broader market participation is poised to contribute to the growth and diversification of the financial landscape.

Exploring Opportunities for Collaboration Across Key Areas

The future of financing in this space can be said to be one that envisions collaboration between banks and private credit lenders. As banking models evolve and private credit lending continues to gain prominence, the integration of these two sectors offers a powerful solution for broadening access to capital and meeting the diverse needs of borrowers. Opportunities for collaboration include banks providing liquidity support, joining hands with private credit lenders to provide hybridised lending structures (as mentioned above) and facilitating access to customer networks.

The Contribution of Banks to Liquidity Management in Private Credit

One significant area of collaboration has been bank funding of private credit firms for liquidity management, which has allowed private credit funds to meet the increasing demand for flexible, tailored financing while ensuring they maintain sufficient liquidity for their investments. Banks, in this regard, are playing a crucial role in supporting the operations of private credit firms. By providing funding lines or loan-on-loan financing, banks help private credit firms manage liquidity risk, particularly when they are involved in large or complex deals. For example, Standard Chartered has collaborated with Apollo Global Management, aiming to raise $3 billion for infrastructure investments where Standard Chartered is expected to provide funding lines and co-investment opportunities, facilitating Apollo’s lending activities and enabling the execution of large-scale deals across multiple jurisdictions. In Singapore, EvolutionX Debt Capital, a partnership between DBS Bank and Temasek, is a US$500 million growth-stage debt financing platform offering non-dilutive financing to companies across Asia and the platform has extended loans to companies such as Singapore’s Atome Financial and India’s Ola Electric. Such arrangements allow private credit funds to access capital more efficiently, reducing liquidity risks and enhancing their ability to manage complex transactions.

Bank support of private credit firms is particularly important in the context of the growing demand for customised financing solutions in markets like Singapore. As the need for more flexible and bespoke debt financing continues to rise, private credit firms often require access to more capital to support their investments. Banks are well-positioned to provide such support due to their access to low-cost deposits and their ability to provide large-scale liquidity, allowing private credit funds to offer more flexible loan structures while maintaining sufficient capital reserves to meet borrower needs whether by way of co-lending unitranche structures or otherwise.

The Facilitative Role of Banks in the Private Credit Ecosystem

Beyond liquidity support and hybridised lending, banks are also playing an increasingly important role as facilitators between corporate clients and private credit lenders. Rather than viewing private credit funds as competitors, banks are facilitating access to these alternative sources of capital for their clients. For example, DBS Bank has strategically positioned itself as a facilitator in the private credit sector, including a substantial $200 million investment into Muzinich & Co’s Asia-dedicated private credit fund. In many cases, banks direct borrowers to private credit funds when they require more specialised financing or when their needs exceed the risk appetite of traditional banks. By facilitating access to private credit, banks ensure that clients have access to a wider range of capital sources, while private credit lenders are able to tap into a larger pool of high-quality borrowers.

This role of banks as facilitators between corporate clients and private credit lenders highlights the growing complementarity between the two types of lenders and the shifting of mindsets to view banks not as competitors but as partners in assisting borrowers to source access to private credit, thus expanding the options available to businesses and fostering a more collaborative approach to financing.

 

Some key issues that merit consideration when entering into PC deals

Higher cost for borrowers

When borrowers consider entering into private credit deals, a key issue that merits consideration is the increased cost of borrowing. As it is not uncommon for private credit to be extended to middle-market firms who may be perceived as more high-risk, private credit facilities typically attract higher interest rates and fees as compared to traditional senior bank loans.

Structure of private credit financing

Another key consideration would be the structure of the private credit financing. The appeal of private credit traditionally lies in its flexibility and that it is typically less covenant-heavy compared to traditional bank loans. However, depending on how the private credit financing is structured, the degree of flexibility varies. For example, senior private credit debt facilities which are secured by almost all the assets of the borrower group may still come with extensive sets of covenants (including financial maintenance covenants) offering robust protections for lenders. In such situations, borrowers may choose to explore other private credit financing structures with lenders with greater risk appetite and who may be willing to provide greater flexibility in terms of covenants.

Complex Regulatory Landscape for Private Credit Lending in the Asia-Pacific

Private credit lenders entering the Asian market must be cognisant and familiar with the regulatory landscape that governs financial transactions in the region which may add complexity to lending operations.

Some of the considerations for lenders include:

Lending Licenses

Private credit firms must determine whether they can make loans directly to borrowers without triggering the requirement for a local banking license or money-lending license. Different jurisdictions may also have specific rules about whether lending activities require the lender to be licensed as a bank or a financial institution.

Collateral Security

One of the most crucial elements in secured private credit lending is the collateral that secures the loan. The types of collateral that can be taken, as well as the process for perfecting or registering the security interest, vary across jurisdictions and private credit lenders must ensure that such issues are considered and such perfection/registration requirements are fulfilled.

Tax implications and capital control

Taxation and capital controls are two additional factors that can significantly impact private credit lending. Lenders need to be aware of the local tax treatment of interest income, as well as any withholding tax obligations or capital gains taxes that may arise from their lending activities. Additionally, many countries in the Asia-Pacific impose capital controls that restrict the flow of capital across borders, which can affect the lender’s ability to move funds in and out of the country especially if the lender is intending to fund the loan out of a different jurisdiction from where the borrower is incorporated or formed.

 

Conclusion

Private credit in Singapore and the Asia-Pacific has experienced rapid growth over the past few years, marking a notable shift in the region’s financial landscape. As the demand for more tailored and flexible financial solutions increases, the collaboration between private credit lenders and banks will be essential in shaping the future of financing in the region. Current statistics reveal that the level of private credit activity still falls behind traditional bank lending and bank funded and non-bank funded credit in Singapore are split 69% and 31% respectively. While it remains to be seen whether the needle will move more towards private credit in Singapore in the future, one thing is clear: private credit lenders and banks are well-positioned to collaborate effectively, leveraging their respective strengths to meet the region’s financing needs.