Private debt and direct lending in the UK: larger, tailored facilities from non-bank funds

Private debt is lending provided by investment funds and other non-bank institutions that raise capital from pension funds, insurers and other investors and lend it directly to companies. The loan is negotiated privately between the borrower and the fund, not traded on a public market, and the fund usually holds it to maturity.

The phrase "direct lending" describes the most common form: a single fund, or a small group of funds, provides a senior term loan to a mid-sized company. The structure is familiar to anyone who has borrowed from a bank, with a facility agreement, security and covenants, but the terms are often shaped around the deal rather than a standard product. Common uses include:

• funding a management buyout or a management buy-in
• buying a competitor or a complementary business as part of a buy-and-build strategy
• refinancing several existing facilities into one, sometimes releasing cash to shareholders
• buying out a departing shareholder through shareholder buyout finance
• funding growth that a bank sees as too fast or too concentrated for its risk appetite

The main difference is flexibility: a fund can lend on cash flow and enterprise value where a bank often wants hard security and a long track record, and it can shape repayment around the business plan. In return the borrower usually pays more and accepts closer monitoring.

Banks lend from deposits and are subject to capital rules that make some loans expensive for them to hold, particularly loans with high leverage, limited tangible security or bullet repayment. Funds are not constrained in the same way. They can offer longer interest-only periods, partial or full repayment at the end of the term, and a single facility that would otherwise need several lenders. Decision making is usually concentrated in a small investment committee, which can make the process more predictable once the fund is engaged.

Common structures

• Senior term loan. A first-ranking loan, often with some amortisation and a larger final repayment.
• Unitranche. A single loan that blends what would traditionally be senior and junior debt into one facility, with one set of documents and one blended price.
• Stretch senior. Senior debt that goes further than a bank would on leverage, sized on recurring cash flow.
• Accordion or acquisition line. A committed or uncommitted extra tranche that can be drawn later for bolt-on deals, subject to agreed tests.

Where a gap remains above senior debt, mezzanine finance can sit behind the senior lender, and asset-heavy businesses may find asset-based lending a better fit than a cash flow loan.

Direct lending generally suits established companies with consistent, demonstrable profits and a clear use of funds that justifies a larger, tailored facility. It is rarely the right first step for a small or early-stage business.

It can suit:

• companies with a steady record of earnings and recurring or contracted revenue
• management teams buying the business they run, often alongside a private equity sponsor, though many funds also back owner-managed businesses without one
• groups pursuing acquisitions that need one lender able to fund the plan as it unfolds
• businesses whose bank has reached its limit on exposure to them or their sector
• companies that value speed of execution and certainty over the lowest possible price

It usually does not suit:

• start-ups and businesses with losses or volatile profits
• companies needing a modest sum that a growth finance facility, secured business loan or asset finance would cover more cheaply
• owners unwilling to provide monthly reporting or accept financial covenants
• businesses where the real need is working capital that rises and falls with sales, which an invoice or revolving facility serves better

Larger companies weighing all their options can also read our page for large enterprises.

A private debt facility typically takes several weeks to a few months from first approach to drawdown, depending on the size and complexity of the deal, the state of the information pack and how quickly due diligence and legal work progress.

Indicative interest from a fund can often come within a few working days in straightforward cases once it has a well-prepared pack. The longer stages are the fund's own due diligence, investment committee approval and negotiation of the facility agreement and intercreditor arrangements. For an acquisition, the timetable is usually set by the deal itself, so it pays to engage lenders before heads of terms are signed rather than after.

Direct lenders normally take a debenture over the borrowing company and, in group structures, guarantees and security from the main trading subsidiaries. Personal guarantees are less common at this level than in smaller business lending, but they are not unheard of, particularly for owner-managed borrowers.

The security package usually includes fixed and floating charges, a share pledge over the borrower and, where relevant, charges over property. Our guide to debentures and fixed and floating charges explains how these work. Covenants matter as much as security: common tests cover leverage, interest or debt service cover and sometimes capital expenditure, measured quarterly. Some facilities are "covenant-light", with fewer maintenance tests, though this is more typical of larger transactions. Monthly reporting and a compliance certificate each quarter are standard.

Direct lending costs more than bank debt for the same company, reflecting the higher leverage, flexibility and certainty it offers. The cost is made up of several parts, and the right comparison is the total over the expected life of the loan.

• Interest margin. Usually a margin over a reference rate such as SONIA, sometimes with a floor. Some facilities allow part of the interest to roll up rather than be paid in cash.
• Arrangement fee. Charged at completion, usually deducted from the advance.
• Commitment fee. Payable on undrawn amounts of any committed tranche.
• Monitoring or agency fee. An annual charge in some structures.
• Prepayment fees. Charges for repaying early, often reducing over the first two or three years.
• Third-party costs. Both sides' legal fees and due diligence costs, which are usually paid by the borrower.

We do not quote rates or fees here because they depend entirely on the company, the deal and the lender.

Direct lending is one route among several, and a smaller or differently shaped facility can be cheaper and simpler.

• Asset-based lending combines invoice finance, stock, plant and property into one facility, often at lower cost for asset-rich businesses.
• A revolving credit facility suits fluctuating working capital needs rather than a one-off transaction.
• Specialist acquisition finance lenders fund many smaller deals without the full private debt process.
• Commercial mortgages may release cheaper capital where the company owns its premises.
• Equity from a private equity investor or family office reduces debt but dilutes ownership; we do not arrange equity, but we can explain how debt and equity fit together.