The US private credit market is undergoing renewed stress tests. Loan defaults by software firm Medallia and dental services provider Affordable Care, involving over $4.4 billion in exposure for private credit giants including Blackstone, KKR, and Apollo, have tightened nerves in this contentious corner of Wall Street.
According to media reports citing informed sources, Medallia is unable to repay approximately $3 billion in loans. Its private equity owner, Thoma Bravo, recently informed the largest lender, Blackstone, that it will hand control of the company back to creditors. The roughly $5.1 billion Thoma Bravo invested in the 2021 acquisition is likely a total loss. Concurrently, Blackstone, KKR, and other institutions are engaged in restructuring negotiations concerning Affordable Care's $1.4 billion loan.
These defaults are directly impacting the market. Blackstone's largest private credit fund, BCRED, disclosed this week that its non-accrual loan rate rose to a record 2.4% in the first quarter, relative to its $80.5 billion portfolio, naming Medallia and Affordable Care as primary reasons. Blackstone CEO Stephen Schwarzman emphasized the fund's ample liquidity during an analyst call on Thursday, yet Blackstone's stock price still fell 6% that day.
Losses are now accumulating at an accelerating pace for private credit funds. Individual investors have continued to accelerate withdrawals from these funds this year. Meanwhile, the potential impact of artificial intelligence on the software industry is fueling concerns about a broader wave of defaults.
The seeds of Medallia's troubles were sown even before the AI surge. Thoma Bravo completed a highly leveraged buyout of the company, which provides employee and customer feedback management software, in 2021. Subsequently, the Federal Reserve's significant interest rate hikes in 2022 caused loan interest expenses to balloon—a common challenge for many leveraged buyouts from that period. Compounding this, competitor Qualtrics, also owned by private equity and itself mired in debt, continued to erode Medallia's market share, putting pressure on sales performance.
This year, a specific clause in the loan agreement became the trigger. The clause required Thoma Bravo to inject more capital if Medallia failed to meet profitability targets. Thoma Bravo had a funding window until the end of June, but according to sources, the firm recently informed Blackstone it has chosen to cede control of the company to creditors.
Creditors have hired financial advisory firm Alvarez & Marsal to review Medallia's finances, aiming for an out-of-court restructuring rather than a bankruptcy filing. Sources indicate creditors are considering reducing Medallia's outstanding loan balance to approximately $1 billion to $1.4 billion, equating to about 5 to 7 times its roughly $200 million EBITDA. In exchange, creditors would receive 100% equity in the company.
Regarding this costly misstep, Thoma Bravo founder Orlando Bravo acknowledged last month on CNBC, "Medallia is a good company, we made a mistake, which caused us to pay too high a price." He added that other companies in its portfolio are "performing exceptionally well." Thoma Bravo also recently signaled optimism at an investor conference, stating it still identifies acquisition opportunities and can differentiate between companies vulnerable to AI disruption and those poised to benefit.
The two defaults have left clear marks on the books of several private credit firms. Blackstone and KRR had valued their Medallia loans at approximately 80 cents on the dollar last December, but this plummeted to 60 cents this month. Blackstone stated that the two problematic companies together represent only about 1% of BCRED's portfolio fair value, with related loans significantly written down, "reflected in performance." Blackstone also reported a 25% year-over-year increase in first-quarter distributable earnings, yet its stock still fell.
For KKR, this restructuring will further increase the default rate of one of its private credit funds, sized around $13 billion. This fund's default rate had already reached 5.5% last December, prompting Moody's to downgrade it to junk status in March due to poor performance.
At Apollo, Co-President and Co-Head of the Asset Management division, John Zito, has been candid about valuations. Reportedly, in discussions with some investors, Zito stated, "I really think all the valuations are wrong... I think private equity valuations are wrong."
Medallia's plight highlights deeper structural risks in the private credit market. Many institutions have concentrated 20% or more of their fund assets in loans to software companies. The rapid rise of AI now poses a disruptive challenge to the business models of some software firms. Analysts at UBS warned in a report this month that an impending "SaaSpocalypse" could double the private credit default rate this year to 9-10%.
While fund management companies attribute accelerated retail investor withdrawals to media-driven irrational fears and emphasize low delinquency rates in their loan portfolios, the reality of accelerating losses is shifting market sentiment. Wells Fargo analyst Finian O'Shea noted, "Last quarter, we saw a lot of bad news continuing to get worse. Things aren't getting worse now, but they're not getting better either—this is likely to persist all year, a kind of slow bleed."
Private credit firms are actively drawing lines. Stephen Schwarzman stressed that while defaults are rising, funds hold sufficient cash and other resources to absorb losses, stating a need to "separate fact from fiction." The industry also points out that, compared to private equity firms which might lose their entire investment in a default, credit losses are relatively contained. However, as these two major defaults materialize, investors and analysts find it increasingly difficult to ignore the mounting pressure in this market segment.
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