Why BlackRock is investing $12 billion in private credit shop HPS

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HPS Investment Partners is not much different from its suitor, BlackRock. While $11.5 trillion giant BlackRock is best known for investing its clients’ money across vast swaths of the public markets, HPS has racked up windfalls with targeted bets in the private lending sector. are earning profits.

BlackRock’s more than $12 billion deal with HPS earlier this month comes as the world’s largest asset manager is trading in a market widely seen as one of the financial industry’s next major battlegrounds. The company is aiming to compete with groups such as Blackstone and Apollo, which are already deeply entrenched in the industry.

BlackRock’s planned acquisition of HPS this year is part of the company’s nearly $30 billion in private markets M&A, with pension funds, insurance companies and other investors looking to buy everything from corporate acquisitions to consumer loans. The dynamics of private credit providing funding may change rapidly. An area previously dominated by the traditional banking sector.

“(HPS) has really opened up these markets,” BlackRock Chief Financial Officer Martin Small said at a conference earlier this month.

Founded in 2007 by former Goldman Sachs banker Scott Kapnick, HPS has made a name for itself by making big, often risky bets.

The New York-based private credit company was spun off from JPMorgan Chase & Co. in 2016 and has made billions of dollars by raising private equity acquisition funds. The group specializes in “junior capital” that funds transactions, which is riskier than senior capital, which receives preferential treatment in the event of a debtor’s bankruptcy.

HPS risks significant losses if the company goes bankrupt, as it did when Chicken Soup for the Soul filed for bankruptcy earlier this year. But in many cases, that bet has yielded juicy returns that are close to what acquiring companies get compared to the more limited payouts that debt-focused funds typically get.

When HPS was founded, there were only a handful of large-scale competitors, including Goldman’s merchant bank and GSO Capital Partners, Blackstone’s credit arm.

HPS’s advisers said the group was willing to “take on more risks to get a better return on its debt”. Furthermore, they added: “When you’re a (private equity) sponsor and you’re stuck on a deal and you’re trying to win, but you can’t raise the debt and you don’t want to give away any more equity, they come in. Yes, it’s not cheap.”

HPS made a big profit earlier this year when private equity firm Madison Dearborn sold insurance broker NFP to Aon in a $13 billion deal, according to people familiar with the matter. HPS invested in NFP’s shares and also invested in some of the group’s debt issues.

These are the kinds of deals that appeal to BlackRock, which is looking to shore up its direct lending franchise and already has about $90 billion in private debt under management. BlackRock paid what some analysts and investors in the sector considered a high price for the group, underscoring the company’s perceived importance in private markets.

Goldman estimates that the price, including potential future payments, is worth about 34.9 times the profits HPS would generate in 2025, making it the most expensive alternative investment firm it tracks. far above average.

HPS’s junior capital investment business is one of the company’s core strategies, along with so-called direct lending, which lends directly to companies, and together account for three-quarters of the company’s private credit assets under management. occupies more than that.

BlackRock joins a world where more companies raise money in both private and public markets, with chipmaker Intel, cloud storage provider Dropbox and energy group EQT among others turning directly to asset managers. This partnership is key to BlackRock’s broader ambitions, as it positions itself for the future. In recent years.

This change is being facilitated by the structuring ability of separate asset managers like Apollo, which allows cash flows to be split between investments in assets such as manufacturing projects and data centers. The higher quality of these structured deals are designed to earn investment-grade credit ratings, allowing risk-averse insurance companies to funnel billions of dollars into them.

Top executives at HPS were already looking to expand into higher-grade investments following a recent deal with pension insurer Guardian Life. After the acquisition is completed in 2025, the company is expected to work closely with BlackRock to market its unique structured services to large enterprises.

“BlackRock is probably the largest shareholder of 4,000 companies in the U.S. They have a lot of power in managing the money, so they participate in every conversation,” said one HPS executive.

BlackRock says the opportunity to sell private credit to insurance companies played a pivotal role in pursuing HPS and the logic behind its transactions. HPS touts the higher returns of private asset-backed credit trading to its customers. “Combining public and private debt is the biggest opportunity for us. . . . We’re actually partnering with the general accounts of insurance companies,” Small told analysts on a call announcing the deal. .

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Nevertheless, new risks are introduced as HPS moves further beyond its core junior capital and direct lending franchise. The company is still well-positioned given its long track record of investments, including high-end assets, the people said.

HPS is “in a relatively tight group of five or six people who really control the upper echelons of the (direct lending) market based on size and track record, but it’s a linear story,” the company said. A person familiar with the matter said. “Success in the (investment grade private credit) space over the next 10 years will define the major companies that are globally relevant.”