The Asia Pacific region offers great opportunities for yield-hungry investors and for protection against interest rate risks.

By Andrew Tan, Head of Asia Pacific Private Debt at Muzinich & Co.

The Asia Pacific region is home to around 150 million small and medium-sized enterprises.1 However, disproportionately, they only benefit from approximately 20 percent of all bank lending. 

Post-Pandemic Financing Need

A joint report released in 2017 by the International Finance Corporation (IFC) and SME Finance Forum estimated that SMEs in Asia face a funding gap of around $2 trillion, a sum which is likely to increase due to the global pandemic.2

Lending to companies in the middle market (with EBITDA of between $5-50 million) offers less competition with a greater ability to get better deal terms and covenants. Here we are seeing a reduction of risk appetite by banks to make new loans plus an increased willingness to dispose of existing non-core, middle-market loans.

Financing Growth

We are encountering middle-market companies who are either not able to get bank financing or only short-term working capital financing from banks. These companies are not able to get term financing for growth, capital expenditure, business expansion or acquisition, or even to help turn their business around.

This is where private debt from alternative lenders comes in to fill the lending gap, with the ability to provide term financing in the 2-5 year tenor range to help these companies reach their growth potential. 

Private Debt Can Fill The Lending Gap

There is also the opportunity to replace existing bank lending to SMEs where the banks are looking to exit, not for credit reasons, but due to requirements to reduce risk and increase return on risk-weighted assets (RWA). Middle-market companies tend to take up more regulatory capital and therefore drag down the return on RWA calculations for banks. 

Private debt can bridge this funding gap and the asset class is starting to gain traction in the Asia Pacific region. We have seen a 15 percent per annum growth rate in private debt assets under management in the region since 2014 and it is expected this to continue.3

Strong Credit Quality

The lending landscape is still in its early stages of development when compared to the US and Europe. A less competitive environment offers direct lenders the opportunity to take advantage of a fragmented and underserved market.

Credit quality also appears strong in Asia, as well as the covenant discipline; covenant-lite transactions are not usual practice, whereas they have been growing in other markets.  

Environmental, social and governance (ESG) due diligence and ongoing monitoring are only now coming to the fore as a key element of best practice. While ESG considerations in Asia Pacific middle-market companies are not always straightforward to comprehend and are typically context-specific, managers are increasingly looking to apply ESG frameworks to identify the ESG issues most relevant to financial performance in specific industries.

Financing Gap Creates Opportunities 

Asia Pacific private debt can offer good credit quality and collateralized security packages and has the potential to offer higher, risk-adjusted returns than other regions. Risks can be mitigated with transactions having good covenant protection and deals being shorter-dated.

Overall, we believe the private debt opportunity in Asia looks set to continue its growth trajectory and we continue to see a lot of demand from companies and sponsors seeking financing. 

1 Asia Pacific Economic Cooperation (APEC) Policy Support Unit Report Titled: Overview of the SME Sector in the APEC Region: Key Issues on Market Access and Internationalization as of April 2020.
2
International Finance Corporation (IFC) World Bank Group, Micro, Small and Medium Enterprises (MSME) Finance Gap Report 2017. Most recent data used.
3
Preqin, as of May 2021.


Andrew Tan is Head of Asia Pacific Private Debt at Muzinich & Co. He has close to 20 years of industry experience in private debt. He is a graduate of the University of Melbourne.


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