KKR takes on inflation with sector-focused private credit

Reflationary trends are not set to hit all business sectors equally, and are boosting prospects within private credit, according to a first quarter letter written by KKR KKR 53,55 -1,81 -3,27% Private Credit Partners Matthieu Boulanger and Daniel Pietrzak.

The pair recently examined the top line growth at nearly 300 borrowers within the firm’s global private credit portfolio and saw a significant increase with revenue growth rates trending toward 20% over the last 12 months.

“However, this growth is occurring at a time of unprecedented levels of coordinated global monetary stimulus,” the pair write. “This begs the question: “Is it really safe to jump back into the water again?” We sense the presence of an inflationary threat swimming just below the calm surface that should compel credit investors to reconsider their allocations.”

Looking on a sector basis, they said there are clearly winners and losers as there are sectoral differences in how companies are reacting in this complex investment environment and the prospect of persistent inflation.

KKR’s credit business dates back to 2004. KKR’s private credit strategies are vast, encompassing both alternative credit and leveraged credit. Within alternative credit, the strategies include direct lending, private opportunistic credit and special situations. Then within leveraged credit there are a variety of funds including bank loans, revolving credit, and opportunistic credit.

KKR remains focused on preferred sectors that have a demonstrable stability of cash flow generation. And secondly, they have financed businesses that have pricing power.

The firm has allocated over $30 billion of credit capital across its ‘preferred sectors’, which includes: software; IT services; capital goods; pharmaceuticals, biotech and life sciences; healthcare equipment and services; insurance brokers; commercial and professional services; and diversified consumer goods.

At $7.3 billion, the healthcare equipment and sectors sector has gotten the largest slice of capital at KKR.

Historically, KKR has carried a bias towards larger borrowers. Those companies have high EBITDA margins and are positioned in such a way where commodity prices are not a large proportion of overall input costs.

The team expects that the average EBITDA of its borrowers will remain at over $100 million within its global direct lending and mezzanine portfolios. Larger companies are able to grow franchises, cut costs when needed and deal with higher input costs brought on by inflation, officials pointed out.

And while the firm has seen increased interest from its investors in credit strategies, KKR’s team is acutely focused on risk management.

“In order to mitigate the risks, we continue to focus on underwriting to long-term sustainable cash flows and a heavy bias towards asset-based finance and large companies with pricing power in asset classes that have floating rates and high credit spreads,” the letter concluded.

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