Jason Colodne of Colbeck Capital Details the Biggest Risks Facing Lenders in 2023
Although the United States isn’t in an official recession, the economic environment is still rife with challenges for both businesses and lenders. The money supply is shrinking and economic growth is coming to a standstill. As a result, companies are struggling to secure financing.
According to Jason Colodne , Co-Founder and Managing Partner of Colbeck Capital, this environment can create several risks that lenders need to protect themselves against in 2023. Jason Colodne shares how firms like Colbeck Capital can address these heightened risks in 2023, as well as how to spot opportunities in times of uncertainty.
The 4 Biggest Risks to Lenders in 2023, Per Jason Colodne of Colbeck Capital
Colbeck Capital specializes in lending to companies in transition. Jason Colodne shares that the Colbeck team is seeing an uptick in distressed companies in need of financing. “Often times there is a time-sensitive capital need that can’t be resolved with traditional debt. Additionally, while these companies may have significant collateral value to secure the loans, they could have some kind of complexity in their credit story that makes it difficult to find regular way financings ,” he said in an interview with Bloomberg.
While lenders face a variety of challenges going into 2023, Colodne believes four major risks will challenge lenders this year.
First, geopolitical and macroeconomic uncertainty is always a risk. The Russian invasion of Ukraine and the threat of a global recession make it difficult for companies and lenders to plan for the future. “It’s hard for companies to forecast their cash flows and therefore difficult for traditional lenders to underwrite their loans,” Colodne explained.
Second, is excess leverage. “Debt is going to continue to be challenging to service and to refinance as the cost of capital rises and the economy continues to contract,” Colodne said.
Third, companies that thrived during previous low-interest periods will need to make material changes in 2023. “They’re likely to face significant challenges,” Jason Colodne explained. “Specifically, in the tech sector, which has overbuilt headcount and inventory; or businesses that are reliant on non-essential discretionary consumer spending, like retail, travel or homebuilders.”
Jason Colodne believes a fourth risk to lenders is misrepresentation. Colodne believes that many companies will struggle to secure financing in today’s environment. “Many of the loans to companies that were extended during the eras of easy credit can’t be refinanced easily in the contracting economy,” he added. This adds to a heightened risk of misrepresentation, which can create significant issues for lenders, both legally and financially. “In fact, the chief accountant at the SEC was recently quoted saying that the current economic environment was subject to significant uncertainties and, historically, that oftentimes leads to heightened risk.”
How Colbeck Capital Protects Loan Principal
Jason Colodne believes that lenders can extend loans to companies during difficult times in the economy, but they need to do their due diligence. “From a lender’s perspective, the way to protect principal is through substantial diligence and strong documentation. Diligence, structure, and security are oftentimes the best mitigants to risk in general,” he explained.
Broadly, the market isn’t moving towards stronger loan covenants, but it is something that Colbeck Capital is embracing to mitigate risk. “Ultra-competitive situations encourage documentation without strong covenants and protections,” Colodne explained. “Our documents tend to be very robust with covenants, protections, representations, security, and structure to manage through different types of situations.”
Where Colbeck Capital Sees Opportunities in 2023
“We’re seeing opportunities to finance middle-market companies that aren’t backed by private equity firms,” Jason Colodne said. We also expect to see financing opportunities to small public companies in 2023. “As equity valuations remain depressed, many of these companies will seek strategic capital that would be non-dilutive to their shareholders,” he said.
Colbeck Capital also finances growth through M&A and rollup transactions. “Examples would be in waste management, insurance in the government contractor sectors, energy, healthcare and defense. Typically, roll-up strategies in these sectors have elastic products and services with defensible cash flows,” Colodne shared.
In 2023, Colbeck Capital is focusing on sectors that are more resilient, thanks to predictable pricing and costs. These sectors tend to have significant downside protection due to higher margins, stickier customer bases, recurring revenues and cost structures that are less vulnerable to input price increases.”
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