The case for private debt in agri

Emerging economies may offer a good fit for investors and funds looking to diversify their portfolios into agriculture.

Private capital investment into agriculture can be a tricky game when matching fund structures to different pockets of the asset class. But while equity gets the lion’s share of attention, a growing case exists for private debt.

Private debt investments are well-suited to agri’s longer-term cash-flows. In addition, falls in commodity prices have opened up opportunities to refinance existing debt at a time when banks have retrenched, creating financing gaps.

Reflecting this, Canadian firm Cordiant Capital, which has been investing into agriculture for years, is currently raising its first debt fund devoted exclusively to the industry, targeting an initial $100 million raise that could scale up to between $300 and $400 million.

“Agriculture has been a growing focus within our portfolio since 2010 as we’ve gotten more and more demand from borrowers,” said David Anderson, head of trade finance and agribusiness lending with the firm, noting that its last two general lending funds have invested $75 million of $353 million and $90 million of $460 million into agri, respectively.

Private debt in general has blossomed into a formidable asset class following the global recession. According to data from sister publication Private Debt Investor, 2016 saw 151 private debt funds close globally, raising a total of $111 billion — behind the $120 billion break out year that was 2015, but well above the annual average of $89.5 billion since 2009.

Agriculture is one alternative asset class that can allow for diversification as these funds are deployed. Due to the strain suffered during the crisis and more burdensome regulations, banks have withdrawn from agriculture, as they have from other asset classes, creating an opportunity for funds and investors to gain exposure to it.

More pronounced gaps in the availability of financing exist in emerging markets, which were hardest impacted by changing bank regulatory capital requirements followed by the liquidity crisis. Part of the agri debt problems in emerging markets stemmed from the use of short-term debt to finance the purchase of long-term assets when commodity prices and asset values were high, Anderson explains.

He notes that many agri-businesses are now having to rollover short- to medium-term debt, one- to three-year facilities, leading to a refinance scramble at a time when traditional banks are reducing their market presence.

This has provided an opportunity for private debt lenders like Cordiant to step in by providing longer term, three- to five-year financing, which borrowers are now seeking.

“Investors are beginning to realize that in the private debt space you can pick up an illiquidity premium in pricing over bonds and also better manage risk by tailoring each individual portfolio investment to match the risk profile of the borrower or project,” Anderson says.

Cordiant’s agri strategy focuses on trade finance, pre-export, pre-crop and storage loans in addition to infrastructure-related deals, usually structured as senior loans but also as mezzanine debt where it makes sense to maximize returns.

“We’re not on the scale of a bank so we can afford to be very choosy in terms of what exposures we take because we don’t have to generate a massive amount of business to get a good return,” Anderson says. “We only have to deploy a more limited amount of capital.”

But despite the increase in investor demand for private debt, competition is not yet fierce, he adds. One reason might be that GPs looking at agri may remain fixated on achieving private equity-like returns, while others may be averse to developing economies.

While debt investments typically won’t garner private equity-type returns, they compare favorably to the bond markets, and the blended use of longer term or mezzanine-type loans can stretch returns into the double-digits, Anderson says.

“The opportunity right now is a growing one, not a shrinking one, so we don’t have any problem deploying capital to borrowers with an attractive risk/return profile,” he says.

If you’re looking for a way into agriculture investment, you might want to have a look at the debt side of the equation.