Private Equity Experience

Private Equity vs. Private Credit: Demystifying the Capital Stack, Risk, and Returns

• Emily Sander • Season 1 • Episode 12

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In this episode, we dive into the world of private credit and its relationship with private equity. Our hosts, Rory, Emily and Ed, share their expertise on the differences and similarities between these two asset classes.

Key Takeaways:
Private credit refers to debt financing that is not publicly traded and is typically provided by private companies or investors.

Private credit is not a new phenomenon, but its terminology has become more prominent in recent years as a separation from traditional banking and debt financing.

Private credit is often used in conjunction with private equity, and both asset classes share similar players, such as limited partners (LPs) and endowments.

The risk profile of private credit is different from private equity, with private credit being generally less risky but offering lower returns.

The capital stack is a key concept in private credit, with different levels of risk and return, including senior secured, mezzanine, and equity.

Private credit can be used to provide financing for companies that may not be able to access traditional bank debt or may need additional capital to support growth.

Private Credit vs. Private Equity:
Private credit provides steady cash flows through monthly or quarterly interest payments, whereas private equity returns are typically realized through a lump sum at the end of the investment period.

Private credit is generally less risky than private equity, but offers lower returns.

Private credit can be used to balance a portfolio by providing a steady income stream, whereas private equity is often used for growth and upside potential.

Private Credit Market:
The private credit market is growing rapidly, with assets under management expected to exceed $10 trillion by 2032.

Private credit funds are used to provide debt financing to companies, and can be structured in various ways, including mezzanine debt and preferred equity.

The private credit market is less regulated than traditional banking, offering more flexibility in structuring and terms.

Takeaways for LPs:
Private credit can be an attractive option for LPs looking for steady cash flows and reduced risk.

Private credit can be used to balance a portfolio by providing a steady income stream.

LPs should consider private credit as a complement to private equity investments.

Final Thoughts:
Private credit is not a new asset class, but its terminology has become more prominent in recent years.

Private credit offers a unique combination of risk and return, and can be used to support growth and provide steady cash flows.

LPs and investors should consider private credit as a viable option in their investment portfolios.

Who We Are

If we haven’t met before—Hi! We’re a team of professionals who’ve worked together at multiple companies, seen private equity from all sides, and are here to share what we’ve learned to help you succeed. Ed Barton brings decades of tax and financial strategy experience; Rory Liebhart is a finance and M&A pro with a track record of high-growth exits; and Emily Sander is a former Chief of Staff, multi-time author, podcast host, and founder of Next Level Coaching, helping leaders and organizations accelerate their growth.


Connect with Ed

Connect with Emily

Connect with Rory

emily-sander_1_05-15-2025_153630:

We are back with the private equity experience and today we are adding a new acronym to the Mix pc,

squadcaster-gg3c_1_05-15-2025_153629:

goodness.

emily-sander_1_05-15-2025_153630:

not your computer, not PC versus Mac. It is

squadcaster-gg3c_1_05-15-2025_153629:

correct

emily-sander_1_05-15-2025_153630:

not politically correct. That's not this podcast at all. Um, we're talking private credit and private equity. How these are different and how they frequently go together.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

emily-sander_1_05-15-2025_153630:

Who wants?

squadcaster-gg3c_1_05-15-2025_153629:

frequently do.

emily-sander_1_05-15-2025_153630:

Yes. Okay. Who wants to start with the, like what, what, what is private credit? You just talked about private equity. What is private credit?

squadcaster-gg3c_1_05-15-2025_153629:

I'll start by saying it's a, it's a term that you hear a lot more now than you did. Say 10 years ago. But the fact is it's not a new, it's not a new phenomenon. I mean, ed and I have been working with private credit partners for damn near 20 years now. Uh, it's taken on a little bit more of a, um, you know, a terminology position in the market as a separation from basically, accessing debt financing through banks and other, you know, income markets. But in the, in the name, it's, it's implied, it's private. It's a private, it's a private. Market access to debt, uh, goes alongside private equity. There's some similarities and you know, a few differences too.

emily-sander_1_05-15-2025_153630:

Wait, so Okay. It's private, meaning it's not on like a public trade, publicly traded, um, market. It's credit, which is like debt. It reminds me of like a credit card debt. Is that

squadcaster-gg3c_1_05-15-2025_153629:

yeah.

emily-sander_1_05-15-2025_153630:

size?

squadcaster-gg3c_1_05-15-2025_153629:

I mean, there are some, there are some large firms, just like there are some large private equity firms that. their shares in public markets. But what what it really means is you're a private sector access to financing for your business or your assets.

emily-sander_1_05-15-2025_153630:

Okay. What would, um. We have some similar players though, right? Like we're still talking like, uh, LPs or whatever that's called on the PC side, we're talking like endowments and insurance companies. And those are the same people funding pc. Right. Okay. And then like what's different about like the whole times or like the, or is it more, is it more or less risky than private equity? Like what are we talking about here?

squadcaster-gg3c_1_05-15-2025_153629:

place to

ed-barton_1_05-15-2025_153627:

Great

squadcaster-gg3c_1_05-15-2025_153629:

Risk. Risk. And I'll just kick it off and Ed can wonk it out.'cause this is, this is Ed. I just, I'll just sit back and listen to Ed, but, but yeah, remember everybody that. You know, when you look at a capital structure, there's levels of risk generally speaking to different levels in your capital structure. Otherwise, as we say in our book, the capital stack, so on the on the top end, lowest risk is your senior lenders. Because you have other folks below that that take the first hit before, um, before anything happens with, with that senior de position. Then below that you have potentially mezzanine uh, debt, which is sort of a, if you want to think about it really simply, it's kind of like a hybrid between debt and equity. And then lastly, you have equity, which is at the bottom of the capital stack represents the highest risk, but also the highest return. And so that's the basics. Ed can walk it out from there. Probably sprinkle in risk premium in terms of that, uh. In terms of that description,

ed-barton_1_05-15-2025_153627:

Yeah. So at each, at each one of those, let's call it three basic levels. So you've got your and, and each one of these components breaks into a bunch of sub-components. So you could have

squadcaster-gg3c_1_05-15-2025_153629:

yes.

ed-barton_1_05-15-2025_153627:

secured, senior unsecured, junior secured, junior unsecured. Specific secured, and then you could have unsecured mezzanine, and then you could have mezzanine with participation. And then you can have preferred equity and equity. And

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

the capital stack could look like, like a rainbow a, a financing rainbow with all sorts of different colors of stuff in there. So

emily-sander_1_05-15-2025_153630:

Do,

ed-barton_1_05-15-2025_153627:

uh.

emily-sander_1_05-15-2025_153630:

you wanna briefly explain like, the function, like why there's, there's different, not, not each specific one. We were like in high school for a while with like senior and junior, and then we moved to like secure, insecure, like, like just generally speaking. What are all those things you mentioned? I.

ed-barton_1_05-15-2025_153627:

So, so generally speaking, each one of them has a different risk premium associated with them. so the

squadcaster-gg3c_1_05-15-2025_153629:

we go.

ed-barton_1_05-15-2025_153627:

the one that's at the top, so senior secured essentially says, look, this is, we get paid first. So anything happens with a business, we get paid first. And. Our position, our debt is also secured by something specific. So it's not just a general debt of the business. It may be secured by patents, it may be secured by inventory, it may be secured by real estate. It may be, so not only do we have the, we get paid first if anything happens, but we also have a security interest in assets that we can seize that no one else can use to get paid.

emily-sander_1_05-15-2025_153630:

Is it like a lien on a house or like a HELOC loan on a.

ed-barton_1_05-15-2025_153627:

exactly. So, so your, your first mortgage on your house is your senior secured. Then if you have a heloc, they're gonna be a junior secured they're behind, they're behind the, the senior secured but they're still secured by the house. But the first position gets paid off first before the next one does.

squadcaster-gg3c_1_05-15-2025_153629:

Mm-hmm.

ed-barton_1_05-15-2025_153627:

Right. Each, each one of those companies use those because they want to be able to get different levels of debt financing or they want to be able to not have as much equity financing.'cause again, as Rory noted, the equity is the highest risk, highest return. Your founders and, and kind of those folks, they, they have that initial equity. That's where the big up is. You know, you can get 10 x. Okay, great. But the way you're getting 10 x might be'cause you're using financial leverage. And that's the debt that's sitting here. And so. might go, well, I got senior secured debt, and they might be getting 6%. And then if you need more money, the next people come in and go, well, I, I can't be senior secured because you already have someone in that position. So I'll be a subordinate, you know, kind of junior secured or junior unsecured. So I get paid next in the waterfall, and so then I, you know, but I'm gonna charge you 9%. And then you might get the mezzanine where they go, okay, I'm gonna charge you 12% plus warrants. So that way I get a little equity play on this too.

emily-sander_1_05-15-2025_153630:

So that's the hybrid one, Rory said. So you're doing both credit and equity in that one.

ed-barton_1_05-15-2025_153627:

Yeah, there's normally an

squadcaster-gg3c_1_05-15-2025_153629:

to

ed-barton_1_05-15-2025_153627:

equity option. Yeah, there's normally an equity

squadcaster-gg3c_1_05-15-2025_153629:

be in the, like the, the middle, the meat in the sandwich

ed-barton_1_05-15-2025_153627:

that's where you wanna be. where a lot of these private, private credit plays is in, is in the mezzanine because you get the, you get a good coupon, which is basically your percentage interest rate that's being charged on the debt. Plus you've got equity participation or potential equity participation.'cause you could be, they're normally warrants or options and so. If it doesn't work out, I can, I could, know, I'm not gonna do it. And if it does, you know, then I get when a company goes, goes public or sells, I actually get additional, I get additional payment off of that transaction.

emily-sander_1_05-15-2025_153630:

Can you be in multiple layers at once or,

ed-barton_1_05-15-2025_153627:

Oh, yes.

emily-sander_1_05-15-2025_153630:

okay.

ed-barton_1_05-15-2025_153627:

yeah.

squadcaster-gg3c_1_05-15-2025_153629:

yeah. And I think you asked the right question up top is, do some of these firms participate in both private credit and private equity? Absolutely, yes. You look at like a, like Apollo or a Aries Management or a Blackstone, they have a private equity group. They have a private credit group, probably have a special situations mezzanine group,

ed-barton_1_05-15-2025_153627:

Yeah, I'm sure.

squadcaster-gg3c_1_05-15-2025_153629:

Ed's point, you know, the reason that you usually have a mezzanine slice of your capital stack is because a need to have a little bit more. Equity than you have to access, like the debt that you need. So if somebody comes in with this little special situation, slice of the sandwich and sits in there with a nice position, so

emily-sander_1_05-15-2025_153630:

What does, what does that mean? What you just said. If we need more equity, we wanna be able to.

squadcaster-gg3c_1_05-15-2025_153629:

like if I have, uh, if I, if I'm looking for if much debt as I can get, you know, a lender, a private credit lender or a bank, uh, will, will lend up to a certain. Amount of what you required to make an acquisition, let's say,

emily-sander_1_05-15-2025_153630:

Okay.

squadcaster-gg3c_1_05-15-2025_153629:

um, that, you know, ed and I, and the businesses that we've been in together, that's usually somewhere between 80 and 90% of the, need, well, let's say you can only come up with enough cash to get, get up to, you know, 95% of the purchase price, right? So you have, let's say, you know, a million dollar portfolio you wanna buy, you can get$800,000 of debt. But in order to access that debt you need. 200,000 of equity. Well let, let's say you can only come up with, you know, a hundred thousand dollars of like just out of the back pocket of your investors' wallet. You may need somebody to come in and say, Hey, I'll come to the rescue. I'll be the additional a hundred thousand dollars and sit in between you, the equity holder and the lender so that you can access this debt. of how it tends to work.

emily-sander_1_05-15-2025_153630:

Let me recap what I think. I know there's a capital stack on top of the stack is credit stuff.

squadcaster-gg3c_1_05-15-2025_153629:

yes,

emily-sander_1_05-15-2025_153630:

bottom of the stack is equity stuff.

squadcaster-gg3c_1_05-15-2025_153629:

yes.

emily-sander_1_05-15-2025_153630:

the credit stuff is less risky, but you get less return.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

emily-sander_1_05-15-2025_153630:

equity stuff is more risky, but you get more return and then you can, you can like plug and play at different layers of this thing

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

emily-sander_1_05-15-2025_153630:

finance. Okay.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah. So you asked the question, you know, like, what are some of the. Similarities between these two, know, private credit, credit, private equity, a lot of it has to come down to, the way these funds are set up is very similar. So you look at the investors in these funds, limited partners, they could be pension funds, endowments, uh, you know, all sorts of sovereign wealth funds, et cetera. It's just another alternative asset class. big, big funds have big LPs in both private equity and, and. Private credit. Also, the compensation scheme's very similar too. you know, assets under management that you'll earn as a fund in private credit, and the same as in private equity. And there's a carried interest component, which you'll earn in both of those two. So there's functionally very similar in how they're managed.

emily-sander_1_05-15-2025_153630:

if I'm an lp, why do I want PC versus PE in any given situation?

ed-barton_1_05-15-2025_153627:

So pc PC is gonna give you generally two things that private equity is not. So the first thing it's gonna give you is steady cash flows.

squadcaster-gg3c_1_05-15-2025_153629:

Yep.

emily-sander_1_05-15-2025_153630:

Ah,

ed-barton_1_05-15-2025_153627:

what you're gonna be, what you're gonna have on a private credit situation is you're gonna have monthly or quarterly payments of interest or interest. No, it's

emily-sander_1_05-15-2025_153630:

Oh.

ed-barton_1_05-15-2025_153627:

in principle. Returning. And so your money is now, you're gonna have to put it back to work, but you're getting a constant stream of cash where private equity, you might not see cash for years until it that, until that investment flips. So it's a, it's got a different cash flow, uh, of. Characteristic. And then the other piece is from a risk perspective, you are sitting kinda higher stack, and so it's less risky. And as a result, you may have a situation where you're looking at a, you're looking at a company or, or you're a, you're a. Limited partner and you're going, look, I've got X amount of equity exposure, I need some debt exposure, uh, you know, to kind of balance my portfolio. But the debt I want isn't, I don't want CDs, I don't want, you know, kind of normal corporate bonds. I wanna be able to get, you know, a higher rate of return and maybe throw some equity juice in there with the, with warrants and some of

emily-sander_1_05-15-2025_153630:

I.

ed-barton_1_05-15-2025_153627:

So I'm gonna play in this private credit arena where I've got, yeah, where I've got some, where I've got better cash flow, lower risk than, um, than on the private equity side. But I've got I've got higher cash flow and higher risk than I would if it was a traditional bond or bank debt instrument.

emily-sander_1_05-15-2025_153630:

So, so to me that then largely depends on what else is going on in that LPs world and, and that portfolio. So it might be like, I don't know, is there a. Ratio of equity to credit, they have to hit or they prefer.

ed-barton_1_05-15-2025_153627:

not normally. Not normally. think that, that actually could be a whole nother podcast is the characteristics of LPs and because they, like, you're gonna have some LPs, and I'll use an example, like a, like a college, uh. Where they need to spin off cash every year to help support the college with,

squadcaster-gg3c_1_05-15-2025_153629:

Asset liabilities management. Yeah.

ed-barton_1_05-15-2025_153627:

They've gotta be able to send cash to the university every year the endowment does to be able to pay for scholarships and you know, repairs to buildings and other things. And you may have others. Others that are sitting there going, no, we don't need any current income. And so they're gonna, so if you've got one that is kind of leaning more toward, I've gotta have some current period income pensions. Tend to need current period income insurance companies tend to need current period income actuarially.

squadcaster-gg3c_1_05-15-2025_153629:

Yep.

ed-barton_1_05-15-2025_153627:

need to structure their portfolio in such a way that part of that portfolio is spitting off cash. So that's where they would go, yeah, I'll allocate some to a debt instrument where the probability of that cash and a predictability of that cash is much higher. And then the rest of it I can is longer term and I can push that off and be less liquid.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah, I mean, the other way to think about it, uh, for just person kind of applying it to their own lives, it's no, no different at all than kind of going to your. You know, your financial advisor, Raymond James person, whatever, overpriced wealth manager, whatever that may be, and just be like, they tell you, well, you should have a portfolio of a bro. How old are you? What are your obligations? Okay, you're

emily-sander_1_05-15-2025_153630:

Yeah.

squadcaster-gg3c_1_05-15-2025_153629:

so maybe you should have 60% in stocks, 40% or 60% equity, 40% fixed income. it's, it's no different. You know, you're just allocating of magnitude, larger sums, but it really comes down to a fixed income strategy and an equity strategy. kind of blending those together and making from a risk return standpoint.

emily-sander_1_05-15-2025_153630:

Yeah, and I'll sound fancy'cause this is true. Yesterday I was talking to a ultra high net worth individual and she was looking for, she had a VC firm where she was investing in Port Coast, but she was also looking to be an LP for VC and PE firms. and so she was like, look, I, I have cash to spend. She had certain things she wanted to hit in terms of. Mission and, uh, the impact in the world and certain things like that. But, she was, look, she was looking for good places to, to invest her money.

squadcaster-gg3c_1_05-15-2025_153629:

absolutely. And you know, that's, you touched on a nice little subject there, and so you know, the same as how we've talked about in our book and on this podcast. What's the difference between. You know, uh, venture capital equity plays and private equity plays, you know, there's early stage more risky and the venture less risky. On the equity side, the same thing occurs on the private credit side too. So there's, you know, venture debt funds out there and there's ven, you know, private credit funds that are act more like equity. Uh. in so far as like the types of companies in the life stage that they're at. I work for a startup, you know, myself, and we talk more to VCs and venture debt providers than I talk to around private equity and private credit today. You know, it's just a major of like risk at the end of the day and, uh, and where a company's at as far as their, their lifecycle's concerned, you know, so. two sides of the same coin, if you will, just to kind of put a, you a button on that. Um, but there's just some distinct differences on, as, as we talked about, that risk return profile. And a lot of times these two entities or these two asset classes work together. Like if it, you know, a private equity group, uh, is buying a company, they need, they need leverage to, to make that acquisition. You know, if, if they can't get as attractive at terms. As they want with, you know, one of the big banks out there, private credit is right there to lock arms with them and do a deal. And oftentimes they do a deal in the, in the early part of it, and then quickly get refied out. Once,

emily-sander_1_05-15-2025_153630:

Oh.

squadcaster-gg3c_1_05-15-2025_153629:

once the company they're buyings hit a certain threshold where they can support, you know, bank debt and stuff like that.

emily-sander_1_05-15-2025_153630:

Okay, so gimme an example. If I'm like a pe we're a PE firm. and the market conditions are such as they are. We talked about this last time, so I don't know if this affects it, where it's like, oh, in this market condition, we want more of this. can you run me through a scenario where we would want to be in multiple layers of that cap stack,

ed-barton_1_05-15-2025_153627:

Yeah, I can give you, I can give you one kind of out the gate, which is, as you, if you're investing in a business, you may come in as a. As preferred equity, for instance. And that business is kind of cranking along. It might be doing fine, but it's not performing the way you anticipated and they need some additional cash.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

Um, and so you go, okay, instead of putting in more private, more preferred equity, I'm gonna put in mezzanine debt. I'm gonna basically put in some debt. So I'm gonna get some cash out.'cause you, they probably can't go to a bank or we don't want to go to a bank because, you know, we're in a. Either covenants or something along those lines where we can't.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

as a private equity firm, instead of going, I'm gonna give you more equity, they go, no, I'm gonna give you a Mez debt and I'm going to kind of charge you 14% interest and I'm gonna take another 10% of equity as a in warrants. And that way I'm more protected. I've kind of, I've kind of put a. against my other equity investment, so I get paid first I'll get that money out. So if it essentially crams down more on the, on the common

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

emily-sander_1_05-15-2025_153630:

Okay. Gonna switch tenses. We're no longer the PE firm, we're just podcast people talking about this. So if the PE firm, you said they, the PE firm, uh, they were charging 14%. Like to whom?

ed-barton_1_05-15-2025_153627:

to their portfolio company.

emily-sander_1_05-15-2025_153630:

Okay. So they're adding, they're saying you're not performing well. So, and we don't wanna stroke a check and, or we can't take out a further bank loan.

ed-barton_1_05-15-2025_153627:

they're stroking a check. They're just going, the check we're stroking is now debt, not more equity, and you have to start paying us back right away.

emily-sander_1_05-15-2025_153630:

Oh.

ed-barton_1_05-15-2025_153627:

And, and we're gonna charge you interest and we're gonna pass that through to the LPs and you're gonna give us more equity founder because you haven't quite performed the way we expected. And, but we think you will. But we're not gonna, but the way we're gonna put in more money is in a. Higher on the capital stack position that's gonna get us cash flow. Now

squadcaster-gg3c_1_05-15-2025_153629:

I see that a lot too. I mean, it's just another form of a bridge loan, you know, in, in a company that needs it, you know? And a lot of these cases, you know, you ask the question, well, why would, why would somebody ever. Work with private credit or mezzanine lenders when they could, maybe they could go get bank debt. Well,

ed-barton_1_05-15-2025_153627:

they probably can't.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah, they probably can't. And banks move slow banks are often a lot more regulated, which means their appetite for risk changes from time to time. Right. so one thing that's consistent is the private credit market is a lot less regulated. There's more flexibility in structuring because they're non-depository institutions that have. Very specific capital requirements and things like that. There's a whole line of reasons why there is a whole, there is in fact a private credit market that exists to be basically an alternative to banks. Because if, if, if the banks ruled the world entirely, there wouldn't be a private credit market. But there sure is because of some of the challenges that banks have and folks have with working with banks from time to time, you know,

emily-sander_1_05-15-2025_153630:

Can we put some numbers to this? So we talked about private equity was like, I think it was like 7.5 trillion and private credit was significantly less, like 1.7 trillion, but still we're talking like trillions with a T.

squadcaster-gg3c_1_05-15-2025_153629:

And I, I saw, I read a stat today even that's, by 2032, it's gonna be well over 10 trillion on both sides. So private credit is probably growing faster right now than private equity. But private equity still is nominally bigger only because. The credit market, let's just say the fixed income market globally is many multiples bigger than the equities market. But there's public securitizations, there's bond, public bond offerings, there's bank debt, there's, there's, that means that like the bigger slices of the overall credit market, there's already big players in there, private credit represents a, a large and growing proportion of all of that. So if you will, the. The pie is getting bigger of credit, but also the size of the pie with private credits getting bigger as it becomes more viable, all of those things.

emily-sander_1_05-15-2025_153630:

what's the name of a private credit company?

squadcaster-gg3c_1_05-15-2025_153629:

Gosh, I could name a, a lot of, um, Blackstone's got a private credit strategy. Apollo, Aries, I mean there's a whole, there's whole so many. I mean, I have a private. Investment business that acquires consumer bankruptcy debt that could be considered both a private equity fund and a private credit

emily-sander_1_05-15-2025_153630:

Oh.

squadcaster-gg3c_1_05-15-2025_153629:

which way you slice it. So

ed-barton_1_05-15-2025_153627:

Mm-hmm.

squadcaster-gg3c_1_05-15-2025_153629:

is just a term that means you're providing debt in a private market. So it could be a million dollar fund, it could be a, you know, billion fund. Same thing

emily-sander_1_05-15-2025_153630:

Is it kind of like a bank has different divisions of the bank that do very different things, but they're all part of the same bank

squadcaster-gg3c_1_05-15-2025_153629:

for the big funds. Absolutely.

emily-sander_1_05-15-2025_153630:

ish. Okay. Okay.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

Well, and and what's interesting is this private credit market, some of the banks have tried to get into it. SVB, Silicon Valley Bank was extraordinarily successful for a long time. And working the fringes of this market and going, Hey, we're gonna loan, they're gonna be kind of with sponsor finance. So they had a sponsor finance group and they would kinda work with private equity to provide the debt. Um, they would get fund guarantees, they would get, you know, participations, they'd get. You know, all the, that kind of stuff. And they, they were like the bank lender that played in this space. The problem was they, when they failed, they didn't fail.'cause they weren't profitable. They failed because they weren't liquid.

squadcaster-gg3c_1_05-15-2025_153629:

Mm-hmm.

ed-barton_1_05-15-2025_153627:

couldn't get, they, there was a kind of run on deposits. They couldn't get the, they couldn't get these loans to, you know, you can't sell'em on a secondary market. They don't, you know, they, they are performing, but you know, you have to get certain level of liquidity and they're illiquid relative to normal bank debt.

emily-sander_1_05-15-2025_153630:

So are you locked in for a duration?

ed-barton_1_05-15-2025_153627:

Uh, it there. So in a lot of cases, if you're in a, if you're in a bank environment, um, traditional, uh, depository institution, bank environment, there, there. Regulated by both federal regulation, international regulations, so like Basel Basel too, which is, you know, kind of here's what your risks need to look like. And they can sell and do sell loans across, like, and they sell participation in loans and, you know, so they, they don't hold all this stuff on their books, securitize it, which, you know, Rory was talking about. So ones with certain types will

squadcaster-gg3c_1_05-15-2025_153629:

Yeah, pull it up.

ed-barton_1_05-15-2025_153627:

the market. A lot of these private, private credit, um, type loans. They're so bespoke as far as the terms and conditions and what they're kind of, what, sweeteners are in'em and those kind of things that they, that you can't securitize'em and they don't tend to play with participation and they don't fit in the Basel two type, uh, uh, credit And so when you, when if you want someone else to play, it's normally gotta be another private credit fund. You can't just kind of go out and go, well, banks, you know, why don't you wanna play in this, in this pool?

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

And so it's a, it's a different, it's a different animal.

emily-sander_1_05-15-2025_153630:

So if there's a run on the private credit, there's nowhere for them to turn to try to get.

ed-barton_1_05-15-2025_153627:

the thing is with private credit, there is no run because private credit's not a depository institution with a bank. The depository institution like Silicon Valley Bank, the loans on this side, on the, on the asset side of the balance sheet are offset by deposits. On the liability side of the balance sheet. And so if all of a sudden people want a bunch of depo, want their de their money back for deposits, bank has to pay cash. Well, the only way to get cash is you have reserves and then you've got the, the loans and they can't, it's tough to bundle those loans up and sell'em they don't fit the, they don't fit these buckets nicely.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah, and that's why banks are governed. The way they are so heavily is so that can be avoided at at the highest possible way, which is why you don't like relatively. see a lot of runs on bank deposits and, and bank failures. I think the one was, was kind of unique by, by virtue of the specialization, ed talked about, you know, you'll, you'll never see. mean, you'll never, you're never gonna see a Bank of America fail. I mean, it, it just, it's not gonna happen because of the, all of the regulation around that. Uh, and also just, you know, they'll get propped up.

ed-barton_1_05-15-2025_153627:

Right. Yeah.

squadcaster-gg3c_1_05-15-2025_153629:

SDB was kind of propped up even

ed-barton_1_05-15-2025_153627:

Mm-hmm.

squadcaster-gg3c_1_05-15-2025_153629:

to go down that hole. I mean, they were packaged up and sold to, I think first Citizens. but anyway, point being is the illiquidity aspect of the private. Equity in private credit markets presents more risk and therefore more return. But there's, you know, you know the return's not guaranteed. Let's just say it that way.

emily-sander_1_05-15-2025_153630:

Then if we're talking like numbers, what, so first of all, we talked about the characteristics. So for private credit, you're getting paid out monthly, not dividends. What was the word you used? Interest. Interest.'cause

ed-barton_1_05-15-2025_153627:

gonna be in principle.

emily-sander_1_05-15-2025_153630:

interest to principle. Okay, so those are paid out and boom. Like slow drip, slow drip, slow drip every month. The private equity is a big slug at the end if you do well. Yes.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

that's a good generalization. It's not. That's

emily-sander_1_05-15-2025_153630:

Fair.

ed-barton_1_05-15-2025_153627:

every situation's

emily-sander_1_05-15-2025_153630:

Sure. Broad strokes. And then for the private credit, is there something at the end or is it just the slow drip?

ed-barton_1_05-15-2025_153627:

Yeah, there could be. If there were warrants attached to it,

emily-sander_1_05-15-2025_153630:

Okay.

ed-barton_1_05-15-2025_153627:

there could very well be equity that, that, that kind of converts into equity. And so when the company transacts, they end up with another slug or, you know, but that's general, that's generally gonna look like a warrant or a, an option.

squadcaster-gg3c_1_05-15-2025_153629:

But yeah, put some numbers behind it though. Think about maybe I. Your typical private equity return profile is probably twice what the private credit return profile is. So you might be looking at a 15 to 25% of return expectation on private equity, somewhere between seven and 12% on average on

emily-sander_1_05-15-2025_153630:

Okay.

squadcaster-gg3c_1_05-15-2025_153629:

reflecting that risk differential.

emily-sander_1_05-15-2025_153630:

Okay. Um, this might be a silly question, but. Is it like a hedge situation? So if the company does well, the credit does less well, or is it like No. If the company does well, both of those ships rise

ed-barton_1_05-15-2025_153627:

Um, with, with private credit, especially mezzanine structured, ships rise but normally your equity ship rises higher

emily-sander_1_05-15-2025_153630:

higher. Okay.

ed-barton_1_05-15-2025_153627:

Um, but the, but the debt gets paid off and normally there was some, know, a sweetener or something in there where they get a, where they get some juice at the end too.

squadcaster-gg3c_1_05-15-2025_153629:

generally speaking, the company does well, you know, um, all sort of parts of the capital stack generally do well. I mean,

emily-sander_1_05-15-2025_153630:

Okay.

squadcaster-gg3c_1_05-15-2025_153629:

the point. Now, if it gets, it's on the middle ground where it's does okay, but not great, that means that. Probably the lender's gonna do just fine, but maybe the equity's not gonna be doing quite as good. Right. So you could find scenarios where maybe the relative

ed-barton_1_05-15-2025_153627:

Yep. No, very much so. Yeah.

emily-sander_1_05-15-2025_153630:

Hmm.

squadcaster-gg3c_1_05-15-2025_153629:

I've been part of businesses like that. I

emily-sander_1_05-15-2025_153630:

Yeah, and this is also where it ties into our previous episodes where it's like that initial negotiation of where you fall in the waterfall and when you get paid out can make night and day difference.

ed-barton_1_05-15-2025_153627:

Yep.

squadcaster-gg3c_1_05-15-2025_153629:

both initial negotiation, but also continued negotiation as the company evolves. you know, as Ed and I have worked together on some of these deals literally over the, like last 15, 20 years, it's like, know, there's a lot of times in which you restructure a business and you're, you're renegotiating the positions of all the capital providers in, in that stack, you know, multiple times over the life cycle of a business. It's, that's how it goes.

emily-sander_1_05-15-2025_153630:

Is there an equivalent of like when you hear about diluting equity or splitting shares, is there an equivalent for the credit side?

squadcaster-gg3c_1_05-15-2025_153629:

Hmm. Good question. Hmm.

emily-sander_1_05-15-2025_153630:

Both of them.

ed-barton_1_05-15-2025_153627:

Not really. I mean, what, what, what you end up, what you end up, because it's not like shares to dilute. It's basically what could happen is you end up with a s with someone who's in a Mez position, and then they add additional senior debt above you. And normally there's a restriction. Mez folks will put restrictions on kind of how far they can get buried in the cap stack,

emily-sander_1_05-15-2025_153630:

Yeah.

ed-barton_1_05-15-2025_153627:

Normally that's gonna end up being a, you know, if you have a, a formal restructuring or a receivership or a bankruptcy, that's where, you know, you get the pennies on a dollar.

squadcaster-gg3c_1_05-15-2025_153629:

Well, yeah.

ed-barton_1_05-15-2025_153627:

The, the, the Mez folks may get, you know, the, the senior secured may get fully paid.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

ed-barton_1_05-15-2025_153627:

folks may get 40 cents, 30 cents, 10 cents on a dollar equity gets nothing.

squadcaster-gg3c_1_05-15-2025_153629:

Right. to the, to the, maybe the of your question too was around, hey, you, no matter what position that you're in, in the cable stack, can you. Can you, can you see your return kind of be diminished? The answer to that is yes. And like on, even on, even though it's not share based in, in the debt side, credit part of it, I've, I've been the, uh, cause of this, uh, in other businesses where, you know, you, you do all this work with a lender to put a facility in place. And the markets move and you're able to refi that debt out, you can kind of screw the lender because they went into it with the intention, like, I'm gonna get, uh, a rate of return of, you know, 12%. But if you refi that out, yeah, sure, you're paying back all the principle, but you do it quickly, they're not gonna get a 12% return. It'll be much less than that. So it's, that's, and it just like it is in the, you know, personal mortgage industry. Right. Or like, you know, constantly finding better rates and you're trying to. You know, get the best deal for yourself. Well, you, you know, every time you do that, know, unless there's specific structure in place where returns kind of guaranteed, which in a lot of cases that is how it works. You know, that lender can, can kind of screwed for all the time, effort, and energy, and even risk that they put into it, but then they don't get the return from all of that.

ed-barton_1_05-15-2025_153627:

I'll give a, I'll give a real world example, and Emily, you real, you probably weren't aware of this, but the last company we worked together at, we had seniors, senior debt, um, provided by Silicon Valley Bank. We did an acquisition, the seller did seller financed debt. Which had to subordinate to,

emily-sander_1_05-15-2025_153630:

Oh.

ed-barton_1_05-15-2025_153627:

Silicon Valley Bank, and so they had a higher interest rate and we were making the payments. But when Covid hit, we flunked covenants.

emily-sander_1_05-15-2025_153630:

I remember that.

ed-barton_1_05-15-2025_153627:

and so, Silicon Valley Bank said, um, you will no longer make payments to your junior, to your, to the, to the subordinated debt. And so we had to stop making payments. We had to stand still that, that, those debt payments. And so that was one.

squadcaster-gg3c_1_05-15-2025_153629:

a perfect example.

ed-barton_1_05-15-2025_153627:

Where they were like, wait a second, what do you mean you're stopping the, the debt payments? And we're like, sorry. The, the senior, the senior lender has a provision where if we trip to covenants, you don't get paid until we're back into compliance. And so.

squadcaster-gg3c_1_05-15-2025_153629:

Yeah.

emily-sander_1_05-15-2025_153630:

You gotta read the fine print.

ed-barton_1_05-15-2025_153627:

Well, and, and there's not, yeah, you do, but it's also understand where you're at

emily-sander_1_05-15-2025_153630:

Yeah.

ed-barton_1_05-15-2025_153627:

stack and you can get kind of disintermediated temporarily or permanently, depending on kind of what it looks like. But that's one where it was a temporary, they ended up getting made whole at the end, um, when a company sold. But until then, it was, you know, you're getting some of it. You're getting none of it. You're getting, you know, this, this quarter you're fine. Next quarter you're not. And they were in a subordinated position,

emily-sander_1_05-15-2025_153630:

All right. Final thoughts, takeaways for our listeners? Private cap.

ed-barton_1_05-15-2025_153627:

so, so private. So the on a private debt side, um. You know, you had mentioned there's more money flowing into there now, and the reason, part of the reason for that is as you have uncertainty, wanna reduce the risk. And so that beco makes it more attractive. You go higher on the cap stack, you're better, you're more likely to get repaid. The cash flows are a little bit more predictable.

squadcaster-gg3c_1_05-15-2025_153629:

Hmm.

ed-barton_1_05-15-2025_153627:

Um, you're willing to take. The, the market itself is riskier, so you're shifting your asset class a little bit by taking less risk in that asset class by shifting over from a, from equity to debt. And it's a really useful, it truly is a really useful and probably underutilized, um, tool. A lot of founders, I think, probably would've been better served to look at a private debt placement.

squadcaster-gg3c_1_05-15-2025_153629:

that's a good

ed-barton_1_05-15-2025_153627:

Rather than private equity where they're selling off, where they're selling off ownership, you get less, less dilution. And while it might feel a little bit worse, um, at the end of the day you, you're gonna end up having a much higher upside, you know, I.

squadcaster-gg3c_1_05-15-2025_153629:

of that big time in, uh, you know, in the venture world where, where venture debt is a thing where you get your first institutional round of equity, you layer on some, you basically take less equity, more venture debt. Venture debt wants to come in with an institutional investor you don't dilute yourself as much. So, yeah, I just, I think that like some of the ones that Ed and I have worked for. Where they don't go through that venture debt round, they just kind of go through bootstrap. From bootstrap to private equity is Ted's point, should consider the private credit route in conjunction with any private equity that's, uh, you know, considered. So yeah, I mean there's myriad of things and I think the only thing we wanted to take away, one of the things we wanted take away is. what does this term mean? You hear it thrown around so much these days, but it's not something that's new. It's just something that is focused on now. And you know, hopefully we've demystified it a little bit the same way we've done that with private equity, uh, as an asset class.

emily-sander_1_05-15-2025_153630:

Yeah, so dear listener, now you know what PC stands for. You know about the debt side, you know that being disintermediated is bad. You know that being in the mid mezzanine level is good for both cap stacks and theater viewing and. You can join us next time for the next round of the risk Premium drinking game here on the.

squadcaster-gg3c_1_05-15-2025_153629:

go. Let's go. Yep. I can't wait.