NAV finance: Behind the headlines

17Capital senior managing director Stephen Quinn explains how the noise around NAV finance is playing into its growth as a standalone asset class within private credit. By Hannah Gannage-Stewart

Given the amount of commentary on NAV finance in recent months, investors may be forgiven for thinking that this is a relatively new investment vehicle. In fact, NAV finance has been around for about two decades.

17Capital has been a specialist for most of that time. The firm has focused solely on NAV finance for 16 years, dealing in no other form of debt. It has deployed $13bn (£10bn) to date and forecasts the overall market opportunity for NAV finance to grow from $100bn in 2020 to more than $700bn by 2030.

Senior managing director Stephen Quinn joined 17Capital in June 2019 from Lloyds Banking Group, where he was the global head of financial sponsors.

Having worked across private equity and private credit for 30 years, he is unfazed by the recent disquiet around NAV finance although he is keen to introduce some perspective to the debate.

“The vast majority of the capital that we provide is intended to create growth over and above the cost of financing, so that the net result should be accretive to you as investors,” he says.

“It’s the only reason why it makes sense for the GP as well, it’s this value creation that’s at the centre of it, and you’re going to create more value in a stronger performing fund, than a weaker one. That is why our focus is on stronger performing funds.”

17Capital typically works with relatively mature, large, portfolios. What Quinn likes to term ‘trading businesses’, in that they are widely known names, as opposed to unicorn-style start-ups with massive valuations but no tangible track record.

According to Quinn, the primary consideration behind whether to take on NAV finance should be whether it will create value, and ultimately, return that value to investors. Although, there has been criticism levelled at the sector for being used to enable distributions, Quinn is sceptical that there is any basis for that concern in real terms.

“In general, the distribution part of the market is 10 to 15 per cent. I would argue that in the last 12 months, it’s probably less than 10 per cent, probably low single digits. So, although it’s created most of the headlines, it’s actually by far the minority of the business,” Quinn explains.

“NAV finance was never intended to be the panacea of investor liquidity. Investors are getting less liquidity than they have in years gone by, that’s just a fact, and NAV finance hasn’t cured that with the best will in the world, because it isn’t the use case for the financing that we provide. If you didn’t get beyond the headlines, I can see why you’d be a little bit sceptical.”

Private credit of all ‘flavours’, as Quinn likes to characterise the various forms of lending, has come in for criticism in recent years, as it continues to challenge the position of banks and other traditional financial institutions.

Read more: BoE sounds the alarm on NAV financing

Recently, regulators have publicly queried the reliability of private credit valuations, implying that because they are often dealing with unlisted companies, they are less transparent than their public counterparts, and may be less accurate.

Quinn, along with many of his private credit peers, believes the criticism is unfounded, and based mainly on commentators’ unfamiliarity with the market.

Read more: Boom in NAV financing set to continue

“Clearly, we scrutinise the valuations, and scrutinise the process that goes on behind those valuations,” he says. “We look at the track records of managers, and how they have performed in terms of what they said a company was worth and what they’ve sold for. All that diligence goes into the front end.”

He adds that part of the reason 17Capital does not focus on real estate or venture financing is because those valuations can be complex and are outside of the firm’s expertise. It is when lenders start to dabble in disciplines they are not expert in that things can go wrong, he says.

For 17Capital, the driving force behind what they do is a desire to offer strategic flexibility to private equity, through NAV finance.

“This is not distressed capital, this is not last roll of the dice capital,” he adds. “This is capital that’s designed to be value accretive. Obviously, the execution needs to be delivered well, but certainly the plan and the expectation is that it will be accretive.”

Asked whether he has seen approaches for NAV finance that have no obvious justification in terms of generating growth or being otherwise beneficial for LPs, he suggests they are given short shrift at 17Capital. “They tend to leave my mind very quickly, because they’re so quickly off my desk.”

While the majority of 17Capital’s business is with large cap managers, Quinn is clear that the size of the portfolio is not the primary consideration. “We don’t just look at size. What we’re looking for is quality. So, we can do a lower-mid-market manager, for example. What we’re looking for is performance, an institutionalised manager, strong governance, a broad bench of senior leadership that bring scrutiny and challenge into their businesses.”

As far as Quinn is concerned, NAV finance is no more of a risk than any other kind of private debt, but it does offer another way for private equity firms to fund strategic growth – and as the market becomes better understood, demand for that option is only going to increase.

17Capital recently opened an office in Dubai, headed up by investment director Pierre Garnier. The office is currently a small hub, enabling the firm to be close to a growing base of investors in the region. Quinn says there are no other international expansion plans to date but he would not rule it out if there were a need to be close to investors somewhere else.

Looking ahead, he sees private credit, and NAV finance in particular, continue to establish itself as a viable funding option for a wide spectrum of businesses. “We’re not going to see the industry levels of 2021, but certainly the sense from our network is that we do expect private equity deployment start to ramp up a bit,” he says. “It’s hard to know if that’s happened already because of the lag in numbers.

“I think private credit will continue to be a big element of that support for private equity investment. I’m reticent to use the well-worn phrase ‘green shoots’, but, certainly, some of the lead indicators are better than they were 12 months ago.”

Speaking just days after Kier Starmer’s election as UK prime minister, Quinn was not convinced that the change of government would have much bearing on the future of private credit.

“Beyond whether we have a Labour government, particularly looking at the last four or five years, there is a renewed emphasis on growth,” he explains. “Growth that simply hasn’t been coming through in developed economies worldwide.

“It’s not about the government change, we’ve seen private equity and private credit navigate some really challenging markets, and there’s nothing that makes me think that will do anything but continue.”

Moreover, the fall in inflation and interest rates is creating a positive trajectory, and a climate of stability that gives the market more confidence than it has had in the recent past. Quinn seems hopeful that this renewed sense of stability will create an environment more conducive to investment.

This leads Quinn to believe that 17Capital’s prediction that NAV finance will establish itself as a standalone asset class within private credit and hit $700bn by 2030, is looking increasingly likely.