In our "Mitigate the Risk of Asset-Based Lending with Detailed Asset Tracking" blog, we discussed asset-based lending (ABL), with its risks and considerations. ABL is made up of many subcategories, however, and each brings its nuances and challenges. Net Asset Value (NAV) lending, is one such subcategory. In this article, we’ll cover some reasons why lenders are expanding their NAV lending, some common challenges that borrowers and lenders face, and how to address them.
NAV Lending 101
When a private equity fund borrows against the value of underlying company portfolio investments, it is called NAV lending, and as mentioned earlier, it is becoming more and more widespread. NAV lending has more than doubled since 2020 to approximately $44B in 2023, with the potential to reach $145B by 2030.[1] The typical NAV loan is non-dilutive capital in the form of floating rate senior debt or equity with loan to values (LTV) less than 50%.[2]
Specialty lenders, insurers and banks have traditionally comprised the universe of NAV lenders, but as banks continue to experience constraints with extending credit, non-bank lenders are happily filling the gap. Here are a few top reasons why:
- Returns are comparable to direct lending
- Strong downside protections compared to direct lending
- Senior position in the capital structure
- Relatively low volatility compared to private equity returns
- Speed to close the loan
For borrowers, NAV lending can provide liquidity, leverage to enhance returns due to the lower cost of debt compared to equity, and to help return LP capital in a timely fashion when market valuation of existing investments does not permit exiting and yet help achieve the target returns on an investment by holding on to it. Due to NAV lending’s non-dilutive capital, the borrower retains the upside equity and provides liquidity to make additional investments.
NAV Lending Risks
In all lending situations, the biggest risk is default. Default risk is mitigated by strong underwriting of the portfolio company investments coupled with loan covenants. Examples of loan covenants are LTV constraints, liquidity ratio tests, portfolio company diversification requirements and limits on investor distributions based on portfolio company events.
Technology and Expertise Can Help
With SS&C Loan Solutions and Private Credit Fund Administration capabilities, NAV lenders can manage these risks as well as other challenges that come with NAV lending. Our deep private credit expertise and advanced technology converge to support the entire loan and fund lifecycle for private credit funds.
To learn more about NAV lending and how SS&C can help you mitigate risk, increase efficiency and optimize your results, contact us.
[1] NAV Finance 101, The Next Generation of Private Credit, Oak Tree Capital, https://www.oaktreecapital.com/docs/default-source/default-document-library/nav-finance-101.pdf?sfvrsn=6e1e5766_2
[2] NAV Finance 101, The Next Generation of Private Credit, Oak Tree Capital, https://www.oaktreecapital.com/docs/default-source/default-document-library/nav-finance-101.pdf?sfvrsn=6e1e5766_2
