Lenders scramble to contain the fallout
The collapse of U.S. auto parts maker First Brands Group is reverberating across the banking sector on both sides of the Atlantic. The company’s rapid demise – which is now unravelling a maze of complex debt agreements held with a range of lenders and investment funds globally – highlights the risks associated with private credit’s often “aggressive” funding structures. Jefferies said Wednesday that its Leucadia Asset Management unit has a $715 million exposure to the stricken Ohio-based company through its Point Bonita Capital Fund, which invests in invoice receivables. UBS O’Connor — the private markets, hedge fund and commodities-focused asset management unit of the Swiss bank — has more than $500 million in overall exposures. The UBS Working Capital Finance Opportunistic Fund has an estimated 30% exposure through invoice financing specifically. The bank’s funds also have positions in working capital fintech platform Raistone – whose earnings came mostly from First Brands, and in which O’Connor also reportedly holds an equity stake, according to the Financial Times. “This event affects many private credit and working capital providers across the industry. In this highly fluid situation, we are working to determine the potential performance impact on the small number of our affected funds and are focused on protecting the interests of our clients,” UBS said in a statement. In an update Wednesday, Jefferies said it is communicating with First Brands’ advisors in order to determine what the impact on Point Bonita might be. The Point Bonita strategy – which manages about $3 billion in assets altogether – has had a First Brands exposure stretching back to 2019, it said. The $715 million exposure is invested in receivables due from a number of companies, including Walmart , Autozone and NAPA. “In its bankruptcy filings, First Brands indicated that its special advisors were investigating whether receivables had been turned over to third-party factors upon receipt and whether receivables may have been factored more than once,” Jefferies said. “We have not yet received any information regarding the results of that investigation. We intend to exert every effort to protect the interests and enforce the rights of Point Bonita and its investors.” Jefferies revealed separately Wednesday that its Apex Credit Partners business, which focuses on collaterized loan obligations (CLOs) made up of broadly syndicated loans, has a smaller $48 million exposure through First Brands’ term loans — about 1% of the CLO assets managed by Apex. Millennium, the $79 billion multi-strategy hedge fund, earlier took a $100 million writedown resulting from an exposure to First Brands’ debt. A Millennium spokesperson declined to comment on the matter. Weaker lending standards First Brands, founded in 2014 and owned privately by Singapore-born investor Patrick James, quickly grew through acquisitions of other auto parts companies across the U.S. It was fuelled by an assortment of off-balance sheet private debt and broadly-syndicated bank financing, as well as other non-traditional lending structures, much of which was backed by outstanding invoice receivables, factoring and other supply chain financing, often involving special purpose vehicles and collateralized loan obligations. The group – whose subsidiary companies made spark plugs, window wipers, filters, brake parts and other replacement parts — filed for Chapter 11 bankruptcy on Sept. 28. An earlier aborted refinancing attracted closer scrutiny of the firm’s debt arrangements, estimated at about $10 billion according to the initial bankruptcy filing. The private credit market has boomed in recent years, emerging as an increasingly important source of real economy financing, particularly for smaller companies, start-ups and other borrowers with riskier credit profiles. Private credit lenders and other alternative investment funds have stepped in to plug the funding gap left by traditional investment banks, whose lending standards were tightened up in the aftermath of the 2008 Global Financial Crisis. The level of the equity market and the tightness of credit spreads may have created something of an optical illusion that all elements of the world are in a better place. Founding partner and CIO, Fourier Asset Management. Orlando Gemes Questions are now being asked about how the demise of a relatively unknown auto parts supplier has spread across the global banking and fund management industry, where potentially billions of dollars are entangled in the collapse. “None of this should be a surprise — we’re in a higher interest rate environment where leveraged companies have been using very aggressive financing structures,” Orlando Gemes, founding partner and chief investment officer at Fourier Asset Management. “The level of the equity market and the tightness of credit spreads may have created something of an optical illusion that all elements of the world are in a better place.” Gemes said that, on the whole, the private credit market has done “a good job” of moving credit off banks’ balance sheets and into longer-duration, more appropriate capital structures. But he warned that the sector’s market structure has changed. “There’s very clear evidence that lending standards in the leveraged finance market are the weakest they’ve ever been,” Gemes told CNBC. “Private credit has been very aggressive in offering covenant-lite loans, but also a higher percentage of loans with a Payment-in-Kind structure, creating even more risk.” First Brands implosion ‘not the last’ Industry insiders say the nature of certain private markets transactions means problems are becoming increasingly tricky to spot, despite more intensive levels of due diligence among investors, often involving private investigators. Gemes said there are more defaults and lower recoveries than are being publicly reported, noting there are a number of high-profile deals in Europe where there is very little information available because of the private nature of the deals. “This is not a canary in the coal mine — it’s not the first, and it’s not the last,” he said of the First Brands episode. While the broader systemic risk from the First Brands’ implosion is considered to be low – mainly due to stricter lending rules put in place post-Global Financial Crisis and improved structural protections in CLOs – the debacle is already drawing comparisons to both the 2008 blow-up and the Greensill Capital collapse in 2021, owing to the presence of complex financial engineering, high-risk borrowing and trade receivables assets. Swiss litigation and dispute resolution firm Lalive said the First Brands funding model’s mix of private credit and supply chain finance is reminiscent of the Greensill approach. Lalive, which worked for a large group of institutional investors on a successful recovery action during the Greensill scandal, said the off-balance sheet nature of supply chain financing can “mask latent weaknesses” in funding models, and increase the risk of distress. It also compared UBS’s First Brands quagmire with Credit Suisse’s $10 billion exposure to Greensill-linked funds. “The structural similarities between the two cases suggest that this may be more than just a credit event,” Lalive wrote in a note. “In public markets, you can look on your screen and see where a company trades — you can see what the liquidity is, what the volumes are, you can stress-test it. In private markets you don’t have that,” Patrick Ghali, co-founder and managing partner at Sussex Partners, told CNBC. ” There are some real risks.” In an FT interview, high-profile short seller Jim Chanos said private credit “has put another layer between the actual lenders and the borrowers,” and compared such structures with the subprime mortgage-backed securities at the center of the 2008 crash. Ghali, meanwhile, said: “There are a lot of people who probably don’t remember 2008 as it was almost 20 years ago, but there are lessons to be learned from it. I understand the disintermediation of the banks, I understand why this exists – I’m just very concerned people need to do their homework. There is so much money that has gone into that space, and so much money that may still go into that space, and that’s a little scary.”
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