With interest rates on the rise and public-market activity on the decline, firms are looking with growing interest at private credit markets to secure cash and keep their businesses running. As a relatively nascent market, private credit has historically lacked the right infrastructure to be the right fit for all debtors and retail investors. But, with the right technologies in place, argues Nelson Chu, Founder and CEO of Percent, a private credit ecosystem can be more accessible, and permit smarter capital raises in the process. 

In an interview with The Financial Revolutionist, Chu describes Percent’s dual-pronged approach and outlines a promising future for private credit in a downturn. 

This interview has been edited for length and clarity.

The Financial Revolutionist: What brought you to founding Percent?

Nelson Chu: In 2017, alternative investment platforms were offering products with long durations, most were  three- to four-year investments, and the minimums were high, upwards of $25,000, which, as a retail investor, would deter me from ever trying it out. All the platforms' yields were effectively the same, between 9% and 16%, so our thesis was, if there’s no real brand loyalty, if we could offer a shorter-duration investment opportunity with lower minimums and the same yield, we’d be able to attract an investor base that could “try before they buy.”. With that hypothesis in mind, Percent was founded in 2018.

As we started to do the deals ourselves though,we realized very quickly that this entire $7T industry was completely manual. We had to build our own order book management systems, our own compliance attestation tools, even scarily enough, even our own asset surveillance tools. Nothing existed for us as the underwriter in this industry and it was at that moment that we recognized the true opportunity here - to be the infrastructure itself that could power the entire market and be a benefit for every market participant.

What does that underwriting component entail?

We took it upon ourselves to do our own underwriting and learn exactly what it takes to do these transactions at scale. As of the end of August we've done close to a billion dollars worth of volume across more than 350 transactions over the course of three years.

Being the underwriter in these transactions revolves around sourcing the borrower, diligencing them, assessing their performance, structuring an investment product that includes structural and risk mitigants, before finally marketing it to investors and syndicating it out.

As the infrastructure provider, we could handle all things asset surveillance and deal servicing so an underwriter wouldn’t have to do it. We could also help support the syndication process with technology versus relying on Google Sheets or Excel to manage an order book like it’s done today. We could even  support the structuring process as we could create standardized benchmark structures that would make it very easy and efficient for an underwriter to bring a deal to market as all the legal documentation and structures are turnkey. All these things provide tremendous value to the ecosystem that we only figured out by doing the deals ourselves as the underwriter 

Why create this infrastructure for private credit specifically?

There have been tremendous tailwinds for private credit even leading up to this most recent recession. Post global financial crisis in 2009, banks were forced to pare back lending as a result of new regulations and capital requirements. Non-bank lending emerged as the answer to support consumer and small business debt capital needs, 

Growth has been steady in the private credit market for the past decade, slowly but surely chugging along, but as expected it lagged the broader equity markets which were delivering outsized returns for the past few years. Prior to Q1 2022, every other asset class fintech companies set their sights on had their heyday. With a recession looming large though, Apollo, BlackStone, Carlyle, Goldman, and others are all saying private credit is now where they want to be because it is fundamentally a recession resilient asset class. 

Public equities are liquid and feeling the direct effects of a market downturn. Public debt has maturities that go out 25-30 years—they locked in their low rates and cost of capital, they don’t have to go back out to market again and will just weather out this downturn which explains why issuance volume is down 75% year over year. Private debt is of much shorter duration and companies are forced to go out to market out of necessity. Private debt has much shorter durations and almost provides a real-time reaction to the Fed. All these things bode well for us for private debt being the right asset class to be in for the foreseeable future as transaction volume continues to ramp up in 2022. 

Speaking of resilience: At the onset of Covid, private credit did move around quite a bit, especially as it relates to emerging markets, which aggravated macro situations on the ground in those countries. It led to capital outflows that complicated public-health responses through sudden exchange-rate shifts, and so forth. What is it about 2022 or Percent’s infrastructure that mitigates the risk of that trend from happening again, if any? 

In debt markets, liquidity never locks up forever, there’s always a market clearing price and our job is to be able to find out what that best price is, whether it's high or whether it's low, at a certain price there will be buyers that always come back. Before Covid, rates were tracking at around 9% or 10% on our platform. When Covid hit, what was 9% became 12%, and 12% became 15%. Rates slowly came back down, but they’ve ticked up dramatically again in this downturn. This is now going to be the new normal, for better or worse, as rates will remain elevated for the foreseeable future. All these issuers and borrowers will have to deal with how to survive and thrive in this new normal. And that's going to be tough, but I think that's the reality of it.

Our job is to provide the disclosures before investing in a dealand the tooling to be able to monitor the performance of the investment. Investors leverage this information and use their best judgment to dictate and drive the best market-driven price.

Part of this question about risk has to do with your underwriting capacities. Many pre-IPO scaleups are desperate for cash, and many of them have less than ideal balance sheets. What does that mean for Percent? What kind of warning signs do you need to look at before facilitating deals? 

That's a great question. Structures become tighter. There are two different types of private credit: One side is the asset-based side, which is more like a securitized product or a structured product, in which the underlying performance of the assets dictates what the structure is going to be. And the other side is corporate debt. 

The risk itself is definitely there, but that means that the premiums are there as well. Venture debt is a very exciting asset class to be in for the next foreseeable two years or so. If you look at vintages of venture portfolios, 2009 had one of the best vintages ever. The firms who survive are going to do really well. 

Technology lets us understand and monitor the balance sheet in real time, see how firms are performing, verify the accuracy of the information presented, and mitigate against fraud. We've now got pretty solid tooling at this point to be able to provide everything that underwriters need to be able to get transactions done. This is a tremendous value prop on the asset-based side that never existed before. Both underwriters and investors can see impending issues emerging before they become full blown problems.

Any final advice for The FR’s readers?

My message to every founder and every entrepreneur or aspiring entrepreneur is that this journey is a marathon not a sprint, so nothing's ever as bad as it seems, but nothing's ever as good as it seems either. Let things just roll right off of you—keep a level head and everything will be okay.