Nowadays, banks are reluctant to provide loans. This makes entrepreneurs increasingly need to look at alternative solutions to attract financing.
Emergence of private credit
In these uncertain times with rising interest rates and inflation, it is harder to get a loan from a bank. Due to higher interest rates and the fact that European banks are less likely to lend after the financial crisis, we are seeing a rise in private credit. Whereas the size of private credit was $800 billion in 2019, Moody's predicts it will grow to $2 trillion by 2027.
Investors in private credit are often willing to lend businesses much larger amounts and are subject to less stringent rules than banks. Also, investors are looking for returns on their investments and are therefore less risk-averse. On the other hand, there is a higher interest rate.
Why private credit?
Private credit offers the advantage of increased financing readiness for businesses that may not qualify for bank loans. Also, the flexibility of private credit allows entrepreneurs to explore customized solutions that better meet their unique business needs and goals based on the knowledge and experience in specific sectors or industry segments.
In addition, private credit has the advantage of shorter KYC (Know Your Customer) processes than in the banking sector. For many customers, the KYC process at banks is very frustrating because of the amount of information required and the time it takes for the bank to complete an application. Banks are in the process of automating KYC processes, but it is not going very fast yet has been revealed by recent research.
Attracting private credit
For entrepreneurs where a bank loan is not an option and they need fast credit, several alternative options for financing are available. Within the Netherlands there are several direct-lending platforms that often provide entrepreneurs with an offer for financing within 24 hours. It is important to note that the interest rates for such loans are generally considerably higher than those of banks, which is the main disadvantage of private credit.
Private credit offers a wide range of financial solutions for businesses. Factoring involves selling outstanding invoices to a specialized business to obtain immediate liquidity. There is also the possibility of entering into a "sale and lease back" structure, where businesses can free up capital by selling their assets and then leasing them back. Another financing structure is "asset-based financing," in which a business uses its inventory and equipment as collateral to raise capital.
Furthermore, mezzanine financing can also be chosen. The most common structure for this is unsecured, subordinated debt. Mezzanine is thus fundamentally the same as a subordinated loan. The main difference is that mezzanine debt usually refers to debt associated with equity participation. Mezzanine loans are not repaid until all other loans are repaid.
Conclusion
Private credit is growing in popularity as an alternative source of financing for businesses. This is mainly due to rising interest rates and reduced lending by European banks. Private investors are willing to lend significant amounts. Therefore, for businesses, private credit can be a good alternative form of financing.
Private credit offers alternative financing options through direct-lending platforms, factoring, asset-based financing and mezannine, among others. These financing structures can provide a quick solution. However, a major drawback is that interest rates tend to be higher than for bank loans. In contrast, private credit offers a solution for businesses where a bank loan is not an option or where specific financing needs are an issue.
