Distressed Debt Renegotiation: New Evidence from Private Debt and Private Equity
Young Soo Jang, Finance PhD student
Banks have long known to monitor borrowers using contract terms and realign incentives through renegotiation. A new class of lenders, private debt funds, increasingly have replaced banks as corporate lenders, particularly in transactions led by private equity sponsors. In this paper, I study how these lenders differ from banks in their role of monitoring. Preliminary analysis with hand-collected data on distressed debt renegotiation led by private debt lenders during COVID suggests the following. Like banks, private debt lenders use covenants to monitor distress. Yet, they appear to be more reasonable in renegotiation while demanding more from private equity sponsors in highly distressed situations. Anecdotal evidence suggests that banks no longer efficiently monitor these small, risky firms served now by private debt lenders because the post-crisis banking regulations and influx of institutional capital into the bond and syndicated loan markets have altered banks’ economies of scale to primarily serve larger firms’ financial needs. Hence, private debt lenders likely have eased financing constraints for bank-shunned borrowers with high monitoring costs.