Jennifer Murray and James Salmon, founding members of Shawbrook’s Financial Sponsors team, talk to Real Deals about the bank’s new recurring revenue loan offering, the structure of the product and the rationale for launching a recurring revenue product at this point in the credit cycle. 

Why has Shawbrook launched a recurring revenue offering, especially given that credit markets are still adjusting to higher interest rates and slower deal activity in the venture capital and growth segments?

James Salmon: Lending to high-growth, early-stage, sponsor-backed companies is something that Shawbrook is well versed in. So, adding a recurring revenue offering alongside our venture debt and unitranche products has been a natural evolution for the bank.

Yes, credit, venture and growth capital markets have all had a tough 12 months, but if you take a step back and look past the current headwinds, the long-term underlying theme is that technology and software businesses are now a fundamental and ever-present feature of the broader economy.

Technology and software assets remain among the most attractive targets for sponsors to invest in

These companies are growing faster than other industries and accounting for a higher proportion of GDP year on year. Technology and software assets remain among the most attractive targets for sponsors to invest in.

The spectacular growth in technology and software has meant that an increasing proportion of our existing sponsor relationship base is comprised of pure tech investors or teams investing in models that have recurring revenue and subscription-based revenue features.

Sponsors are investing earlier in the technology development cycle, and by providing a recurring revenue lending option we are putting ourselves at the front of the queue to finance these deals. There is a growing opportunity for us to lend to businesses with recurring revenues and support the growth of the UK tech ecosystem.

Jennifer Murray: Another interesting point is that when you look at our portfolio, technology assets have actually been really resilient across both venture and private equity.
Technology companies are underpinned by very good commercial fundamentals and technology business models have demonstrated their resilience through a period of rising inflation. When you consider that valuations are less frothy than they were 18 to 24 months ago, we see a compelling pipeline of recurring revenue deal financing opportunities building.

Could you explain exactly how a typical recurring revenue facility is structured, and what distinguishes recurring revenue lending from your existing unitranche and venture debt offerings?

Salmon: The standard convention for leveraged lending is providing debt on a multiple of Ebitda, while a recurring revenue facility uses recurring revenue as the baseline metric rather than Ebitda.

As a lender, we are providing a facility that acknowledges that a business is less mature and is yet to generate the levels of profitability you would see across our unitranche book. But even though a recurring revenue credit may be pre-profit, it will demonstrate high growth and strong revenue quality, and that is what we are lending against.

The typical recurring revenue credit that we will underwrite will be a business that is growing at 20%-plus a year and has customers that are under contract.

As a lender, you can see consistent revenue streams. The high growth rate lays a pathway to profitability, and that gives the lender the confidence that the business can release future cashflows to service the recurring revenue facility if and when required. From the borrower’s perspective, a recurring revenue facility provides headroom and a runway of 12 to 18 months to invest in product development, sales and marketing.

The structure is similar to our existing venture debt solution but the key difference is that a recurring revenue loan will have key facility terms that are a little bit closer to our unitranche product. Another difference between a recurring revenue loan and a venture debt facility is that the main counterparty is often a single sponsor rather than a consortium of venture capital investors. All things being equal, the recurring revenue product is ‘lower risk’ than venture debt, so is priced slightly more keenly and has slightly more flexible terms. This supports the investment activity needed to support growth at the earlier stage of the business.

Murray: To James’ point, our recurring revenue offer is geared to classic private equity investors who are the sole sponsors leading a deal. That is a key criterion. The product is designed to finance an early-stage, high-growth business that is backed by a private equity house but isn’t quite ready for unitranche.

Our recurring revenue offer is geared to classic private equity investors who are the sole sponsors leading a deal

In terms of assessing credit quality in a recurring revenue facility, we will do significant amounts of work around revenue quality, contracts and client stickiness. We will also do extensive analysis on the growth of the company’s pipeline. That gives us comfort around how the pipeline will build and convert into profitability over time.
What we are excited about is that a recurring revenue offering will enable us to finance earlier-stage businesses that might not have had debt before, or may have had a lender that couldn’t grow with the business as it matures. It opens up a whole new part of the market for us. We also see the potential for a recurring revenue offering to develop into a nice feeder into the unitranche product.

What about sectors? Is this a product geared specifically towards technology and software companies, or is there scope for businesses in other sectors to also use recurring revenue financing effectively?

Salmon: We certainly would expect a significant amount of recurring revenue lending activity to be in the software and technology spaces, but other businesses in other sectors with similar recurring revenue characteristics would also find this form of financing an attractive option. Data, information services and media are other industries that spring immediately to mind, as they also have subscription-based revenue characteristics.

Recurring revenue finance works well with any business that has contracted recurring revenues, high gross margins and a strong return on investment in sales and marketing. Several software companies have these attributes, but so do companies in other industries.

Would it be accurate to see the development of a recurring revenue offering as a response to a wider trend of buyout investors backing companies earlier in their development than would have been the case five to 10 years ago?

Salmon: There has been a limited supply of mature, profitable technology businesses available for private equity investment, so sponsors have increasingly moved to originate technology assets earlier in their development. Recurring revenue lending does dovetail with this trend. It means we can work with private equity sponsors to finance the growing pipeline of earlier-stage companies that buyout firms are now looking at.

Murray: The last year has been challenging for buyout deal activity, but one area of dealflow that has been resilient has been bolt-on acquisitions, which also ties in with the theme of buyout firms backing younger companies in higher volumes.

The last year has been challenging for buyout deal activity, but one area of dealflow that has been resilient has been bolt-on acquisitions

What we see is that private equity is increasingly investing in clusters of smaller, subscale businesses and bolting them together as a platform play. They will then put in significant capital and operational expenditure to scale up these assets. This upfront investment can see these platforms go cashflow negative initially, before turning profitable. A recurring revenue solution can be a good fit for these build-up investment strategies.

The overarching focus for us, though, is to provide recurring revenue finance to do more with our client base across the lifecycle of their investments.

We are launching our recurring revenue offering after numerous conversations with our clients, who have shown strong appetite for this financing option. There is a need for recurring revenue debt that isn’t fully served, and this presents a great opportunity for us to fill the gap in the market, support our clients and extend the financing runway for high-growth companies. This is a fresh, creative new product and we see great potential for recurring revenue financing in the year ahead.

Salmon: We have established relationships with investors who consistently go out and do deals. A recurring revenue offer means we can do more business with these investors and their portfolio companies.

A recurring revenue lender has to be able to think about risk and value creation in a slightly different way, and look at things through the same frame as a sponsor.

Shawbrook has a long track record of working with sponsors in this way. We are leveraging the experience of an established team, which is familiar with lending to high-growth UK businesses and working with established sponsors. And we’re using this experience and understanding to bring something fresh to the market and to provide our clients with support across the total investment lifecycle.

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