News
Capturing the Structured Capital Opportunity (Sponsored Q&A)
Q: In an increasingly crowded private credit space, with a push toward greater specialisation of strategies, is structured capital here to stay? What is driving demand?
We view structured capital as a solutions provider. It is not about coming to the market as an equity fund or debt fund, but using market knowledge of the lower mid-market and certain industry specialisms to help companies achieve their goals. The goal is to craft bespoke solutions that meet a business’s capital requirement, whether that is liquidity, funding for organic growth or add-on acquisitions, or taking out a partner. For a prospective portfolio company, capital has to be cost-effective, efficient and comfortable in terms of safety. For us, it’s about balancing risk and reward, so if we propose a solution, we are asking whether that meets the needs of the company and whether it makes a compelling risk-reward proposition for us and our investors. Within that context, we have broad discretion as to whether a deal looks more equity-like or more debt-like, so whether it has primary preferred stock, pays dividends or interest, has a payment-in-kind element or a liquidity preference at the end. We do believe that private credit has become a crowded space and there are increasingly scaled players out there. It is becoming much more commoditised, not too dissimilar to the syndicated loan market of the past, so it is difficult to differentiate. Where we are playing, one day we are competing with an equity player on lack of dilution or greater flexibility for the entrepreneur, and the next day we are competing with a debt player on flexibility or terms. We take board roles on all our investments. People can view that as onerous for a finance provider, but many entrepreneurs appreciate the insights we bring from having worked with countless other companies at a similar stage of development facing similar challenges. We are looking for that alignment with the founder and management team and they are looking for an active partner in the strategic development of the business. We certainly think that means structured capital is here to stay. We have seen during our more than 20- year history that this product becomes in greater demand as people realise opportunities sometimes don’t fit neatly into equity or debt. For investors, it can generate equity-style returns while delivering less volatility from asset to asset and good downside protection.
Q: In which niche do you observe the greatest opportunity?
For us, the focus is on the lower mid-market, which means typically companies with $3 million to $15 million of EBITDA profit. We look for established companies that have been growing and generating real profit for a number of years. They are typically non-sponsored and usually founder-led companies. We have found that niche helpful because those founders are looking for a partner, whether majority or minority, to help them take their business to the next level. Our experience is in helping companies at that stage of development. We can take the founder and management team through some war stories and explain what not to do and what works well. The other overlay is industry expertise. Each of the markets that we operate in – healthcare, education and technology-enabled business services – have their own characteristics, but they are all healthy markets growing faster than nominal GDP growth. They typically have institutional end users, demand patterns that are relatively stable and growing, and some degree of underlying growth that we can get behind. By bringing our perspective to external factors like competitive dynamics and regulation, we can speak the same language as founders and the quality of our advice gives us additional credibility.
Q: In-depth familiarity with small business growth challenges is a critical differentiator for lower midmarket investors. What does it take to succeed?
It really takes a commitment to the space. Experience matters; some of the most impactful conversations that we have with founders involve sharing the war stories we have accumulated working with similar companies facing similar situations. That experience helps us build confidence among entrepreneurs – our advice is well-reasoned. When we are pointing out potential pitfalls and ways to mitigate those, it makes sense to explore what we are saying. As part of the due diligence process, we do a lot of work on companies to explore the sort of partners we think they will be. We strongly encourage founders to speak to chief executive officers and founders that we have worked with in the past about how we have acted when things got tough, and the extent to which we have been willing to roll up our sleeves and work with them to figure things out. Having a long track record in this space, and being consistent in the types of deals and situations we invest in, helps when we are working with companies to navigate challenges and opportunities. We like to call this a full-contact sport because unlike other forms of private credit, we are hands-on and working in close partnership with our portfolio companies on a daily basis.
Q: How is structured capital particularly suited to closing financing gaps in the current market environment?
The leveraged finance market has generally healed very well from the dark days of the Silicon Valley Bank collapse. It is no longer the case that the banks are absent and private debt is needed just to provide incremental credit. Today, it is much more about delivering tailored solutions for companies that may not be a perfect fit for equity or credit solutions. The founders we work with may be mindful of dilution, they may be on a good growth trajectory and want to take some chips off the table, or they may want to do some bolt-on acquisitions without wanting to sell 80 or 90 percent of the company. Bringing in a minority partner can help them to keep a greater percentage of the future upside while adding a partner that can help them realise and maximise that upside. So, we leverage situations where we have really strong alignment and our partners have a significant go-forward ownership stake. We are not relying on someone that has just cashed out to generate returns for us.
Q: Can you give us an example of a recent deal that illustrates these dynamics?
In the fourth quarter of 2024, we invested in a company called Lane Four, a Toronto-based business that helps companies optimise and scale their go to-market operations using Salesforce. Their senior executives have come out of senior roles in revenue operations and they also provide managed services to help customers improve their potential to achieve sustained revenue growth and optimise operational performance. Lane Four works with a lot of high-profile companies and has been growing rapidly through referrals. The founder, Andrew Sinclair, is relatively young and had been receiving approaches from private equity, so he hired an investment bank to look at options. We called him up and asked him why he was selling the company, given he had built up tens of millions of dollars of value and still owned substantially 100 percent. We raised the idea that instead of doing a majority control deal, we would invest as a minority investor, have some structure in our investment in the form of a convertible preferred equity security that gives us some downside protection and fixed return, while he continues to own most of the business. Even though we earn a little bit lower as a percentage, he remains fully committed to growing the business as we allow him to keep more of that upside. The business has never done any add-on acquisitions but there are adjacent technologies it would like to get involved with to meet customer demand. Our plan is to help execute those deals and integrate them seamlessly into the business. When Andrew first came to market, he didn’t know a solution like structured capital existed, but having surveyed his options, he wanted some of the benefits of having a real partner on board without the need to sell his baby.
Q: What is your outlook for this strategy in 2025 and beyond?
Overall, we expect this market to continue to grow. I have been in private equity and private credit for about 25 years and it’s amazing how much more sophisticated potential portfolio companies are today. As that sophistication grows, the desire for more tailored, bespoke solutions that are really customised to meet specific needs is only going to continue growing as well. On the supply side, we are seeing new firms enter the market, but it is a pretty specialist skillset required, combining the origination and value creation skills of private equity with the structuring and downside protection elements of credit. Different firms have slightly different takes on how they approach that but overall, the hybrid market should be large because a lot of companies have requirements that don’t neatly fit into one category or another. For LPs, we used to get asked what structured capital was and which bucket it should fit into. That’s no longer the case. During our last fundraising in 2021-22, we had a number of LPs that had created specific buckets for this type of capital and viewed it as are turn enhancement to their traditional private credit portfolios. It is a way to generate more alpha and raise the overall level of returns without dialling up the risk as they would if they moved into equity. The growth drivers on all sides therefore suggest we can expect this market to continue to expand.