Volatile times yet private markets continue to provide...

When COVID-19 first took hold in Australia, activity in private markets initially hesitated but appetite and activity gradually returned, albeit with a more cautious outlook. Now that both Australia and New Zealand are faced with a ‘second wave’, investors remain active but are exercising greater caution and investment decisions are highly scrutinized. 

We have seen a significant transfer of talent and expertise into alternative investment funds, as large financial institutions and consulting groups continue to scale back their operations and retrench staff. Newly established and existing family offices have also benefited from this outflow of talent, hiring experienced investment professionals as they elect to either start, or increase, direct management of their funds and investment portfolios.  

This structural development, coupled with increasing investor sophistication and exposure to alternative investments across private markets, is expediting private markets momentum, facilitating deal execution and significantly accelerating the adoption of alternatives investment by various investor groups.  

Those investors moving away from third-party managed funds and seeking to focus on direct investments are generally more established groups who have experience in the private markets and are now ‘taking the next step’ to grow and formalize their investment operations.

Conversely, we are also seeing investors who may have made some initial direct investments pre-COVID and are now electing to blend their portfolios with indirect fund investments, typically in sectors where they may not have deep experience, e.g. ESG. We see this product mix as a prudent and practical investment approach in the short- to mid-term for those that are building out their private markets expertise and track record in the current environment.

We continue to see increased inbound enquiries from wealth managers, family offices and wholesale investors seeking new direct investment opportunities across the alternatives space, particularly from Asia into Australia. Geo-political driven shifts in the origin of investor enquiry are also apparent, e.g. Singapore-based enquiry increasing and Hong Kong-based enquiry decreasing.

Corporate Finance – Private Debt

On the corporate finance side of our business, across both the private debt and equity segments, there is a marked increase in approaches from companies who are seeking help with prospective capital activity as they attempt to deal with the current environment. 

We have found that companies are either bolstering up their balance sheets in preparation for a potentially longer term downturn or, as a result of a directional shift in their operating activities, have some balance sheet reparations to undertake due to discontinued business lines or require growth capital

Prior to the pandemic, there was already extensive global investment and continuous growth in private debt activity. We see this trend continuing and note that the Australian market has some catching up to do in terms of adoption of private lending in line with global peers, who have the benefit of deeper credit markets and larger pools of investor capital.

Whilst the prudential regulator in Australia, APRA, earlier this year granted a degree of capital relief to the major banks that allowed them to ‘dip’ into their capital reserves to keep lending flowing throughout the pandemic period, we do not believe this will be continued as we move into 2021/22 in what we would hope is a gradual climb out of the 2020 COVID impacted period.  

With recent announcements of capped dividend payments from banks now being allowable, albeit with a focus on reinvestment plans to ensure capital buffer is front of mind, we believe the 2024 APRA Tier 1 capital requirements adoption timeframe in Australia will continue to  decrease in risk appetite. This will naturally continue to restrict appetite for certain types of lending and create further opportunities for the private debt markets to grow in Australia, e.g. non-bank lending relationships etc. We do, however, stress that we see the most optimal situation for the future is for banks and private debt providers to complement one another and co-exist as we see very workable synergies. Neither sector truly benefits to work in isolation.

We see the superannuation funds eventually playing a larger role in direct lending but believe there is still some way to go as they build out their credit departments, improve infrastructure and upskill for this activity with acceptable risk parameters.  

Corporate and property finance alternative credit funds have led the way in the private debt space in Australia and whilst we have witnessed some reduction in risk appetite and changes in lending parameters, i.e. lower LVRs and higher pricing, we don’t see this sector slowing anytime soon.

Venture Capital and Private Equity

We are seeing a greater proportion of quality VC investment opportunities at the scale-up stage as COVID appears to have acted as a filter through which mainly stronger candidates have endured. Founders have generally applied sensible adjustments to their valuations although we are now seeing small pockets of investors demand more aggressive valuation discounts.  Generally speaking, pro-active discussions are being undertaken during the capital raise process with sensible expectations on both sides.

Cyber security, Regtech, Fintech (particularly payments), SaaS, marketplaces, online delivery platforms and ESG related opportunities, are all sectors that continue to attract interest and more so now in the current environment.

We are seeing increased M&A activity as companies continue to consolidate and adjust their short to mid-term capital strategies. The increased activity has been cited by some as ‘deciding the sum of the parts was a better way forward rather than competing with each other for what is now a smaller pie’ or as opportunistic acquisitions that have unexpectedly presented themselves as a result of the COVID pandemic.

We anticipate this activity will continue to grow and expect to see more distressed opportunities as a number of companies struggle to operate through a sustained period of economic stress.

Real Estate Finance

Private off-market divestitures

We initially saw a decrease in off-market commercial property and development site divestitures and whilst there are still less opportunities than pre-COVID, we are seeing a number of sites coming back to market as vendors adjust their strategies and seek to re-position their portfolios.

No surprises that prospective international buyers of hotels and development hotel sites in Australia has decreased as the ‘wait and see what happens’ approach takes hold. There are still some prospective buyers but mostly seeking significant discounts or sites where they can add value.   

We have been approached by a number of developers seeking to off-load land-banked commercial development sites in order to decrease their exposure or improve liquidity for higher priority projects. Whilst there is steady buy-side demand, Vendors report that buyers are often seeking distressed pricing on assets that they are under no pressure to sell.   We believe there are good development land deals to be secured for investors willing to look at picking up sites at reasonable discounts to pre-COVID pricing. As reporting season plays out with larger real estate companies announcing results, we anticipate seeing further volatility across this space, especially in the commercial leasing markets.  

Development Finance

After an initial dip, we have seen a resurgence in non-bank lending to development finance projects over the past 6 months. 

For some time, Thames Capital has worked with real estate developers who are seeking construction finance by assessing their funding requirements, supporting them through the funding process and  securing finance via non-bank lending channels.

Financing via these channels was traditionally sought by developers where bank finance was unavailable to them or they did not wish to finance via a bank. These were typically developer/builders, first-time developers or developers seeking to expand their business or existing bank clients requiring higher LVRs and/or timely and predictable credit approvals than the banks could provide.

We are increasingly receiving enquiries from developers who have always secured bank financing but find themselves being declined by banks as a result of changes in risk appetite or lengthy delays.  

At the onset of the pandemic, we initially encountered a short hiatus in the private lending landscape as lenders elected to took time to review their existing portfolio and current exposures. Some lenders have pulled lending back from regional lending preferring to focus on well understood metropolitan districts. Lenders have used a combination of levers to reflect changes in risk appetite, principally reducing LVR, increasing pricing and pre-sales.

However, private lenders are very much open, competing for business and offering terms commensurate with the current market environment. Encouragingly, we are seeing more developers adopt an organised and professional approach to financing with realistic with pricing expectations.  

ESG & Impact

ESG and Impact related investment are growing asset classes in their own right and continue to go from strength to strength. We see increased investor demand for this sector supported by the perfect storm, combining an increase in wealth and market investment opportunities, millennial focus on environmental and social issues, older generations broadening their understanding of and allocation to ESG / impact investing, social good programs adopted within organisations, the need to address topics such as food security and poverty inequality and the world taking notice of and moving to adopti the UN 17 Sustainable Development Goals.  

If you would like to find out more about our activity at Thames Capital, please visit our website.

N.B. this narrative is informed solely by the activities we undertake in the private markets and the sectors we cover, coupled with our investor and client feedback. None of this article constitutes any form of financial advice.