David Nissenbaum Samuel Roh Schulte Roth & Zabel LLP Schulte Roth & Zabel LLP Sponsored content

David Nissenbaum is a partner and co-head of the investment man- Samuel Roh is an associate in the investment management group at agement group at Schulte Roth & Zabel LLP. He primarily represents Schulte Roth & Zabel LLP. He focuses his practice on advising private Schulte Roth & institutional and entrepreneurial investment managers, financial investment funds and investment advisers in connection with their services firms and private investment funds in all aspects of their structuring, formation and ongoing operational needs. businesses. He structures investment management and financial services firms along with credit, distressed investing, , Zabel LLP hybrid, , activist and energy funds, co-investments, funds of funds and scalable platforms for fund sponsors.

Setting up to win in 2021 and beyond David Nissenbaum and Samuel Roh of Schulte Roth & Zabel LLP assess the challenges 2020 has brought to the credit space and look ahead to the opportunities for positive rebounding in 2021 and beyond

t the end of 2019, a While there are some bright spots in Private debt funds and premier global invest- the industry (for emergent opportunities ment bank touted that example, fundraising for single asset The strength of demand for private debt the US economy is and co-investment deals has remained and special situation funds has been nearly recession-proof.1 healthy, especially in the context of one of the private investment industry AJust a few months and one virus later, facilitating syndications or acquisitions highlights. The surge in demand started the US economy took an unprece- by a main fund), the broader private eq- before the pandemic and has sustained dented downturn. It recorded the uity market slowed down in the summer. itself partly because of factors such steepest drop in economic output on Accordingly, private equity sponsors as the diminishing interest rate on the record, and over 30 million US work- are increasingly having to discover 10-year treasury and the relative perfor- ers filed for unemployment benefits by creative ways to extract more mileage mance of direct lending funds. May 2020. out of capital, such as seeking greater With the volatility in the econo- No one could have foreseen this recycling capacity, asking investors my, managers and investors alike in black swan and its effect on the for greater follow-on investment the distressed debt space now find broader economy, albeit pockets of capacity and requesting extensions themselves asking, “Will the opportu- the economy have fared better than to marketing periods. More so in the nities in distressed investments remain the rest. The federal government current climate than in the recent past, voluminous or will the recovery of the took swift action, and the economy managers are clamouring for cash markets and low-cost borrowing choke was buoyed by the stimulus, which while investors increasingly see it as an demand?” provided a level of liquidity that has attractive haven. Data from Preqin show that sig- been beneficial to many industries, With liquidity in high demand, the nificant capital is being raised in the including the investment management private equity secondaries industry distressed investment space, especially sector. The alternative investment continues to build on the years-long by larger managers. On the other hand, industry is, in a sense, reflective of the momentum. According to Lazard, certain industry insiders have pointed unevenly affected economy – some 2019 was a record year for spon- to signals that more muted ex- managers have found their strategies sor-led secondary transactions with pectations. Analysis suggests lowered and efforts gain traction while others $28bn of deal volume across 58 interest rates and government interven- have found returns and fundraising to transactions. Such developments in tion may result in fewer opportunities be elusive. But there are steps man- the secondaries market preceded than initially estimated.2 agers, especially those in the credit the Covid-19 lockdown, and the crisis Even with much uncertainty sur- space, can take to weather and even has only accelerated the growth in rounding the market, some events seem thrive in the current economic climate. secondary fund . more likely than not – the pandemic

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will continue to spur and investments and not worry about liquid- their current program should examine activity. In contrast to ity to address investor redemptions. whether they have the flexibility to do prior recessions, this current economic Such a structure may feature a two so under their current disclosures (or a climate has chilled many sectors of the to four-year investment period from strategy drift and its undesired conse- economy (save for certain tech indus- the final closing date (or in some cases quences may result). tries that benefit from remote work and measured from the initial closing date) social distancing). Therefore, it is likely as a shorter investment period may A new virtual reality that distressed investing opportunities prove more marketable to investors. Besides the economic hardship, Cov- will continue to be robust, and managers Moreover, the term may be shorter id-19 has brought with it an unprece- that raised distressed debt funds that than a typical private equity product, dented acceleration of digitisation of are willing to seek opportunities across keeping to a five to seven-year term. human interaction. From virtual coffees industries may be in a position to profit. Shorter terms indicate to the investors and lunches to Zoom meetings, more of Despite the current economic an intention to deploy capital quickly our communication has moved online. conditions, because many nonbank into immediate opportunities and reap Raising capital and cultivating investor lenders have entered into agreements the benefits in a or medium-term relations have also moved to the vir- with lighter covenants for years, many time horizon. tual platform. In this new environment, distressed companies have avoided certain managers have not wasted the renegotiations with creditors and have Structure two: single chance to connect more frequently staved off . Many of these investment vehicles or with their clients, and investors, in turn, companies make poor candidates for co-investment vehicles for appreciate the new level of accessibili- . Moreover, unlike one-off opportunities ty to their managers. those seen in past downturns, recov- Another attractive structure to nimbly Some asset managers have even eries in this climate may take the form respond to the current market is a conducted virtual due diligence, of post-reorganisation equity, which is vehicle for a single investor or a small working around allocators’ require- illiquid and requires significant time for group of investors to exploit a discrete ments for in-person meetings with recovery. investment opportunity. This type of new managers before investing. But fundraising has become much more with the industry shifting to the virtual Fund structures to seize common in recent years, and it may space, managers should continue to be current opportunities allow a manager to raise money quickly mindful of the disclosures they make to A sustained level of investor demand when other types of structures may not. investors, including, for example, that for distressed investments is far from Furthermore, for start-ups and the investment teams conduct onsite guaranteed. However, managers today less-established managers, a single due diligence before committing to can start thinking about structures that investment vehicle can be a launching material investments. can facilitate quick delivery of dis- pad for a fuller investment strategy and The pandemic and the subsequent tressed assets product to market. can provide a runway for a manager to economic fallout have led to many per- establish a track record in a particular manent and semi-permanent changes. Structure one: closed-end sector. Managers of all types will adapt to new funds with medium-length Terms for such vehicles vary, but market conditions. However, those term lockups are common with an abbrevi- who are diligent and plan with purpose With a closed-end structure, not only ated set of documents. The manager will be able to capture more of the up- do managers benefit from a stable and investors often collaborate closely coming rebound and opportunities. source of money, but they can call to determine the terms, with much of capital only as needed, which such the energy spent on investment thesis 1 See “Don’t Look Now, But Goldman Sachs is Saying the structure allows the added benefit of rather than structuring the vehicle. Economy is Nearly Recession-Proof” CNBC, published removing idle cash from performance While it is possible to quickly launch December 31, 2019 and updated January 2, 2020. calculation. With investors locked in for a new product, managers looking 2 See, for example, “Not Everyone Sees Opportunity in Dis- several years, managers can focus on to add a distressed debt strategy to tressed Debt Mega-Funds,” , May 5, 2020.

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