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The distressed debt (DD) and special situation strategies comprise USD 339bn, or 6% of private markets AUM. (UBS)

Private Markets Distressed debt in a nutshell

26 March 2019, 1:01 pm CET, written by UBS Editorial Team

The distressed debt (DD) and special situation strategies comprise USD 339bn, or 6% of private markets AUM. DD is a subset of a broader special situation strategy umbrella, which aims to provide financing in areas of stress or dislocations appearing at any stage of the economic cycle.

The distressed debt strategy targets companies that are company in business. The fund can extend maturity in financial distress and are at or near bankruptcy. The dates, defer interest payments on outstanding debt, strategy aims to monetize investments by extracting or obtain/provide emergency financing. Other actions maximum asset value through normalizing firm profitability, can involve renegotiating leases and contracts, cutting restructuring, or asset liquidation. Distressed securities are costs, improving sales, and disposing of noncore assets. often undervalued by the market given: 1) difficulties conducting financial analysis on troubled companies, 2) • The DD median vintage year IRR from 1997 to 2014 presence of complex legal situations, and 3) lack of reliable is 9.1%. The standard deviation of vintage year IRR is external sources of information on the company. 5.7% over the same time frame. • The strategy aims to monetize investments by • The opportunity set for DD is typically counter cyclical, extracting maximum asset value through normalizing with lower corporate earnings growth, higher debt firm profitability, restructuring, or asset liquidation. levels, interest rates, and default rates supportive for DD strategies. • A typical distressed target is a company at or near bankruptcy. These companies are struggling to meet • Distressed debt strategies add idiosyncratic exposure their interest payment obligations from existing cash to companies or assets not often traded on public flows. markets. • DD managers leverage their experience in financial • While more illiquid than hedge fund distressed analysis, legal expertise, and operational execution to debt strategies, private managers can extract identify, value, and monetize on distressed assets. differentiated value from adding time and complexity • The distressed position may require a restructuring to the reorganization process, with equity exposure to reorganize outstanding obligations to keep the potentially enhancing returns. UBS Investment Insights For UBS marketing purposes

• With significant differences in manager performance, key risks to distressed debt include credit risk, restructuring execution, and exit timing. Other, more general private market risks also apply, including significant illiquidity of fund vehicles, limited control, and high fees.

For more, see Private markets education: Distressed Debt, March 25, 2019.

Main contributor: Jay Lee

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