Madison Capital Funding, a subsidiary of New York Life Insurance Co., has long been a stellar source of capital in the middle market. Since its founding in 2001, the Chicago lender has invested $29.2 billion of net funded commitments in 1,075 transactions with 287 different private equity sponsors. With $9.5 billion in assets under management, Madison invests alongside private equity sponsors and other investors to provide cash-flow based debt products to companies with a minimum $3.5 million in Ebitda. To gain insights on how lenders evaluate potential transactions in today’s highly competitive market, we asked Madison’s chief underwriting officer Jennifer Cotton to share her thoughts. Cotton oversees Madison’s underwriting and portfolio management teams and serves as a member of the Investment Committee as well as the Senior Leadership team.
What trends are you seeing in middle-market loans and in underwriting?
In the current market environment, Madison Capital continues to see an abundance of capital driving highly competitive processes, which has resulted in compressed timelines, higher leverage, tighter pricing and more aggressive documentation terms. At our core, we always conduct a deep and thorough underwriting process, which historically was well-aligned with our private equity sponsors and the deal timelines. The market changes are forcing participants to complete more analysis and diligence in a shorter timeframe, requiring expedited deliveries, review and discussion. A benefit we have, given Madison Capital’s long history, is our ability to draw on our experience and knowledge from past portfolio investments, spanning more than 1,075 deals, and our expertise in general industries, healthcare, software and technology, and insurance and financial services. We are also spending more time analyzing and debating key documentation terms and structural flexibility, including how these evolving terms may impact our capital position and recovery within a particular deal.
What do you look for when you evaluate loans?
My evaluation begins with an assessment of the underlying business fundamentals. For example, a good investment target has an experienced and engaged management team, can demonstrate strong and consistent financial performance, maintains diversity across products, customers and suppliers, and operates in a stable to growing industry with a defensible market strategy. Realistically, most investment opportunities fail to hit the mark on all of these traits, but it is important to see a majority of these traits listed as strengths. This is not to say I can’t find a path to making an investment, but my view on structure, pricing and covenants will likely reflect my comfort level with the inherent risk characteristics. On Madison Capital’s Investment Committee, we spend a lot of time debating the relevant strengths and identified issues of a particular credit, and we ascribe great value to the experience and support of the private equity firm looking to acquire the business. Industry sector and operating experience can provide a lot of comfort when looking at a business exposed to economic cycles or one with a checkered operating history. In the end, the decision to invest or not to invest is multi-faceted and no two decisions are alike, but a balanced approach to lending has proven to be a successful strategy for us.
How has the underwriting process changed to meet the compressed timeframes of today’s deals?
At Madison Capital, we continue to take a thoughtful and comprehensive approach to lending, which is driven by our investor-like mentality. Our process has not really changed, though in some cases we have modified our staffing approach in order to deliver commitments within compressed timeframes, primarily by leveraging the knowledge of our experienced underwriters and expanding our deal teams to provide additional resources. Fortunately, in the middle market, there is still a strong desire to fully diligence transactions by all parties given the relative Ebitda size of the underlying companies. At Madison Capital, we take a collaborative approach to underwriting – meaning our originators and underwriting teams are tasked with identifying key strengths, issues or risks, and ultimately empowered to make the decision on which opportunities to pursue. To balance the desire for growth with overt risk taking, our teams engage in thorough discussions and healthy debates at almost every level, and finally a discussion with our Investment Committee. That said, we are now almost 10 years into a recovery and predicting the timing or cause of the next recession is challenging. Those of us with sharp memories of the last recession, and the ones that pre-dated the 2008-09 recession, spend a lot of time educating and training our team members to adequately model and stress-test investment opportunities.