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A large credit fund managed by KKR tumbled on Thursday after reporting a jump in troubled loans and lower investment income, highlighting the mounting strains in private markets.
FS KKR Capital Corporation, a publicly traded vehicle holding private loans, dropped 15 per cent after saying that it would slash its dividend and the valuation of the assets within its portfolio.
The markdowns of the FSK fund come amid fears of rising defaults across private equity portfolios and particularly software companies vulnerable to new AI technologies.
Worries about rising credit losses and investor redemptions from private credit funds have pummelled the stocks of listed private capital groups such as Blue Owl, KKR, Blackstone and Ares Management this year.
KKR’s FSK fund oversees a $13bn portfolio, mostly of loans made to private-equity-backed midsized companies during a record wave of takeover activity over the past decade. Deal activity hit a peak in 2021 and 2022 at the end of an era of historically low interest rates that quickly reversed the following year, causing an industry-wide crunch.
Private equity firms are sitting on a growing $4tn logjam of unsold deals, according to consultancy Bain & Co, with many facing an unclear path to exit these holdings. Many of these companies have high levels of debt and some are falling into distress.
FSK’s portfolio was hit by large markdowns in the fourth quarter on debt extended to software companies. The fund’s holdings in debt tied to janitorial services groups, and so-called roll-ups of dental clinics, veterinarians groups and defence contractors also saw markdowns.
The vehicle said its net investment income fell to 48 cents a share in the fourth quarter, from 57 cents in the third quarter.
FSK, a type of vehicle known as a business development company, wrote down the value of Cubic Corporation, the payments software system used by the New York City subway, which was acquired by an affiliate of hedge fund Elliott Management and specialist private equity group Veritas Capital for $3bn in 2021.
Other troubled companies in its portfolio include AmeriVet, a network of more than 100 vet hospitals acquired in 2022 by AEA Investors, a PE firm founded with backing from the Rockefeller, Mellon and Harriman families, with past-due interest payments.
These so-called non-accrual loans also included Dental Care Alliance, a roll-up of hundreds of dental offices owned by multiple PE groups, and a language translation service.
The most prominent writedown at FSK and other listed credit funds was the additional one of Medallia, a customer service software company acquired by software private equity group Thoma Bravo for $6.4bn in 2022. BDCs reporting earnings this week slashed the value of their Medallia loans to below 80 cents on the dollar.
The deal was part of a surge in software takeovers struck by Thoma and others in 2021 and 2022 that won financing because of firms’ massive equity investments. Thoma ploughed about $5bn of investor equity into the deal.
Blackstone, which also lent Medallia money, said this week that it had appraised its enterprise value lower by 70 per cent, valuing Medallia’s loans at a steep discount of 78 cents on the dollar. That valuation implies that Thoma’s equity investment would also be steeply discounted.
A person familiar with the matter said FSK has maintained a 9.1 net internal rate of return since inception and that part of its weak fourth-quarter performance was the result of selling some assets as part of a process to calibrate its portfolio.
