Private Markets 360° | Episode 33: Capitalizing on Chaos - Canyon’s Opportunistic Credit Playbook

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Jocelyn Lewis [00:00:02]:

Welcome to Private Markets 360, your insider's guide to the world of private investments. Today we're diving into the dynamic world of opportunistic credit with two exceptional guests from Canyon Partners. Joining us are Chaney Sheffield and Jonathan Barzideh, co heads of opportunistic credit at Canyon, a $28 billion global alternative investment manager. Cheney Sheffield is an investment partner bringing deep expertise across sectors like packaging, leisure, lodging, gaming and healthcare. And Jonathan Barzideh is also an investment partner overseeing asset backed finance, bankruptcy claims and risk arbitrage opportunities. His sector focus includes energy, utilities, renewables and more. Chaney, Jonathan, welcome to Private Markets360.

 

Christina McNamara [00:00:55]:

We are thrilled to have you both on the episode today. Let's start things off with both of you telling us about what initially drew you to opportunistic credit and how your investment approach on this segment has changed over time.

 

Chaney Sheffield [00:01:10]:

I started my career at Deutsche bank and the desk that I was working on did a variety of different things, but one of the things that we focused on was post reorg equities. That was really my introduction to to the reorganization process and what can really happen to a company as it goes through the metamorphosis involved in restructuring both the left and right side of the balance sheets. So as I got introduced to that, to that part of the investment investment landscape, here you are really rolling up your sleeves, trying to fix a problem and creating on the back end a much healthier company with much more value. And from the perspective of an investor, that sounded really appealing to me. And as I moved over to Canyon, part of the allure was to get more involved into in those those types of restructurings and really creating value through all kinds of opportunistic credit investing, but including the restructurings. So I moved over to Canyon in 2007 and got involved in a variety of different sectors. I started off in the chemical space and just moving over to the buy side right before the GFC really gave me a lot of perspective and a crash course in restructuring really just in the sense that the amount of opportunities there were to encounter problem credits and figure out how to fix them and all the dynamics at play in restructuring. So over the years I've looked at chemicals and energy power like you mentioned, and a variety of other different, more esoteric situations as well.

 

Jonathan Barzideh [00:02:45]:

I'll jump in. I've been doing distress really since 2004. I started my career at Morgan's family, started out on the investment banking group where we covered the casino space and our distress team actually purchased a series of bonds in Trump's Atlantic City casinos and their thesis had an overall M and A component. So they pulled in the banking team, the young banking analyst. I ended up getting sequestered in the distressed research group for a month and a half working on this project. And that was my first taste of distress. Coming out of the end of that project I actually moved from banking into distressed research. So from 2004, 2008 I was sitting on the trading floor.

 

Jonathan Barzideh [00:03:27]:

The environment actually reminds me a little bit of today. Overall economy going pretty strong but the Fed's on a hiking cycle seeing a lot of particular cracks underneath the surface and learning to stress. And then great financial crisis hit and I actually joined Canyon the day Federal regulators seized IndyMac Corporation. So my first day on the job they put me out on the trading floor, actually sat me next to my partner in JB and we jumped right into the great financial crisis. And over that time period as you mentioned are responsible for sectors in the gaming, lodging, leisure space, pay for packaging. But then more recently healthcare. Things are different than before around things. I'm sure we'll touch on documentation co ops LMEs.

 

Jonathan Barzideh [00:04:14]:

The crux of opportunistic credit is still the same. You're looking for dislocations and opportunities to put capital to work in situations where you think you've got solid debt like downside but equity like upside.

 

Christina McNamara [00:04:28]:

That's a great foundation. Thanks for sharing your journeys. And what makes opportunistic credit so compelling? Let's dig a little bit deeper into how we actually define the space itself. Opportunistic credit is one of those terms that can mean different things to different people. How would you define it in today's market and how has that definition evolved as the credit landscape and investor needs have shifted over the years?

 

Jonathan Barzideh [00:04:56]:

Oh, I'd say opportunistic credit is Canyon's DNA. We've been around for 30 years. We're always looking for the gaps and cracks in the the otherwise functioning markets. So it's anywhere you can, you know some people call it capital solutions. You can provide a solution for a company and put money to work in a credit like instrument that that gives you what we believe to be asymmetric upside. Look with your downside protected that can be distress, that can be rescue financings or similarly just stress credits that need a short term solution. It really does spam the whole gamut.

 

Chaney Sheffield [00:05:34]:

No, I think you said it well on risk and reward and when you're doing opportunistic credit you have to, I think you are trying to do two things really. You're trying to solve a problem and you're trying to create some convexity in return for that solution that you're bringing to the table. So that can happen in a variety of different asset classes. It can happen in a variety of different places in the capital structure. Each situation is unique. So you need to have that flexibility of mindset and framework as you approach these situations.

 

Christina McNamara [00:06:02]:

I like that. Framing opportunistic credit as a tool for flexibility and problem solving rather than just a response to distress. That naturally leads to my next question. Given the broader definition, what makes today's environment particularly attractive for this kind of investing? For the likes of Canyon, every cycle brings its own set of challenges and opportunities. What makes it a compelling landscape for, for opportunistic credit investors like Canyon?

 

Jonathan Barzideh [00:06:32]:

I think last three years of this hiking cycle has created one of the more robust opportunities that, that we've seen over the last at least my 18 years at Canyon. And that's because quite simply we had decade, a decade plus of low for longer so for almost zero environment. And that created a lot of capital structures. And, and you can't really overstate the impact that higher rates has on levered capital structures. So whether it's in real estate or corporates, if you conceived a world and under ended your underwriting and financing, assuming SOFR close to zero and it goes up 400 to 500 basis points, you're likely to have a cashflow problem. And that is independent of whatever industry you're in, whatever sector you, you need to generate cash to be able to invest in your people, your plans and your future. And what you've seen as a result of the last three years, those capital structures that are over levered are finding ways to, to extend and hope for a better day. Or more recently, I think you're really starting to see people bite the bullet and start to address the underlying issue that really introduce some equity to the capital structures.

 

Jocelyn Lewis [00:07:52]:

Great points. And you guys have really painted a vivid picture of the opportunity set in today's credit markets which like you mentioned, who would have thought they would have grown so dynamically from call it 10, even 20 years ago. But much of what's driving the demand for private credit, really opportunistic credit, is by these broader macroeconomic forces. So if we zoom out for a moment, how are you thinking about building resilient credit portfolios in the face of inflation? You've mentioned some of the rate volatility and the geopolitical uncertainty that exists today. Yeah, those are. And it sounds like a big part of your more traditional private equity, what they're looking to do, right?

 

Jocelyn Lewis [00:08:44]:

Certainly. And like was mentioned earlier too, really focusing on the price, the price and the valuation is key in order to make sure that you're getting a solid investment that then you can do what you need to in order to then have that value accretion. And like you mentioned, really then sell the simplicity that you've created. I also think your perspective on being resilient is really key. And another macroeconomic shift is the global policy, especially around tariffs. And it's really shaping different dynamics across sectors. Cheney, maybe starting with you, could you comment on which sectors are most impacted by the evolving US and global tariff policies and how you're positioning Canyon its investments to capitalize on these shifts?

 

Jonathan Barzideh [00:09:39]:

I think it's also worth highlighting despite spreads that at or near record tights and the equity indices reading reaching all time highs, the sheer volume of paper is very different than it was 15 years ago. So default rates are low. Yes. But if you include all these liability management exercises and out of court restructurings, the numbers start looking more like 2010 level default rates. But the levered loan market's almost four times the size it was in 2010. And that doesn't even include or speak to the phenomenal growth of the private credit market is roughly another 2 trillion. So as far as the sheer volume of paper and number of credits that were funded with floated rate debt, that's susceptible to this interest rate change, it's quite significant.

 

Chaney Sheffield [00:10:29]:

Yeah. I would just add to that. I think that it's exactly right. And what we're seeing really and from the perspective of a portfolio manager, what's really interesting is that the factors that are at play here are exogenous to any individual industry. So we're seeing these stressors on a variety of different companies, regardless of the business that they're in and more about the timing of their capital structures. And so if you're putting on your portfolio manager's hat, what that does for you is it allows you to build a unique portfolio of a variety of different companies, different industries, and you're not really exposed to any one particular set of fundamentals, which I think is really great. And we haven't seen a setup like that since the gfc. Right.

 

Chaney Sheffield [00:11:15]:

Like in the past, you think about previous distressed cycles, there have been periods of time where energy was really under the water or healthcare because of the opioid crisis was really in flux. You had retail really under pressure from the effects of Amazon and, and you were in part making a fundamental bet on how the fund, how the fundamentals of an industry were going to recover. That is not the case today. Today we are looking at broken capital structures that are broken because of decisions that really pertain to when they decided to finance, finance an asset purchase or refinance their cap structure as opposed to what's happening with actual company's fundamentals. So it, it really, it's really diverse in terms of the opportunity set and it's pretty deep as well.

 

Jonathan Barzideh [00:12:02]:

Yeah, I would just add the, the key differentiator is price and there are just two worlds out there. There's the healthy world and then there's the over levered world that there, all the concerns you mentioned, there's some element of that price then. And then you layer in the complexity and the labor and cost of restructuring balance sheets, those have all gone up dramatically. And like I said at the beginning, it's just two worlds out there. And you get prices and valuations that I haven't seen really since the very beginning of my career when people used to say things were worth four to six times EBITDA and then over 15 years everything became worth eight to 10 times EBITDA. So we're excited for the opportunity, but it takes a lot of work and you have to embrace the complexity.

 

Jocelyn Lewis [00:12:50]:

Well, it certainly sounds like you both are really diving in and doing a lot of diligence around your portfolio, new investments as well. One other question that we have for you, Jonathan, maybe going back to you, is how do you balance agility and discipline when you're navigating whether these windows of opportunity created from some of this volatility, are they short lived, are they long lived, like what we're seeing in tariffs? How do you ascertain that and then decide how deep you're going to go into specific areas?

 

Chaney Sheffield [00:13:32]:

So I guess I'll start off. And Chanie, please feel free to chime in here. One of the things that's important to keep in mind is that when we are coming to these capital structures, the variety of opportunities that we assess, typically it's when they have been towards the tail end of receiving the punishment of the interest rate volatility, the inflation, the inflation impacts and the macro pressures that have been on them. So a lot of that has been priced in to some degree and sometimes maybe even overly priced in. And that's really what we are focused on. Those are the things that we are assessing is the impacts on those exogenous stressors on the company's balance sheet and so when we take a look at these situations the question then becomes has the impact, has it begun to recede? Are we seeing green shoots in their own specific supply chain from the perspective of inflation? Have they had an ability to push out their maturities or there's still more work to be done and therefore what role can we play in there? We are, we're coming into each of these situations with exactly what you laid out in mind and trying to assess where we are in the life cycle of that impact so that we can be on the receiving end of the benefits and the convexity you get from those improving and those pressures ameliorating.

 

Jonathan Barzideh [00:14:53]:

It's certainly complimentary. I like when you're creating these back end equities on particularly these middle market sponsor backed companies, you are recreating the company much cheaper than it was originally purchased for because we are in a different interest rate environment, multiple environment. There are so many of these. We. Our job is to sift the good ones and separate the good ones from the bad ones. But valuation degradation is just so striking that we feel that there are many opportunities where you're creating a lot of cushion to withstand a worse. A potentially worsening macro environment. And also obviously the upside to the extent things improve.

 

Jonathan Barzideh [00:15:32]:

For sure.

 

Jocelyn Lewis [00:15:33]:

Understanding the fundamentals for the investment that you're looking at and also how it relates to the broader sector, it certainly helps to understand that relationship and then determine whether or not that particular investment makes sense within your overall portfolio. Wondering about interest rates? We've touched on it a little bit. Still higher for longer. We recently had a conference and it was discussed that there were actually a couple investments that some firms had seen where out of the gate, right out of underwriting. They actually had a PIC component there where traditionally we've seen more pick components follow restructuring. So that's just one example of something that was discussed. Discussed. Wondering if there's any other trends similar to that that you've witnessed across the market or in relation to your portfolio.

 

Jocelyn Lewis [00:16:36]:

Cheney maybe starting with you for that question.

 

Jonathan Barzideh [00:16:38]:

Sure. Obviously the introduction of tariffs is a major change to decades of global policy and you're seeing it in a few different ways. One there are the companies directly impacted? I think we've tried generally done a very good job of avoiding companies that are reliant on inexpensive imports for their profitability. We're more interested in assessing the secondary effect that it has on the consumer. And you are really starting to see in 3Q earnings more and more discussion of this K shaped economy where I'm seeing It in leisure. Right. Leisure had been ridiculously strong since COVID Everybody wanted to go get out. There's work from home giving you more free time.

 

Jonathan Barzideh [00:17:27]:

You're now starting to see more and more companies. It seems as though they're speaking that the impact that it's had on the lower end consumer is seemingly creeping up into the higher areas of the socioeconomic ladder. We're still entering the top end is doing great. But tariffs are effectively attacks. And there's been no shortage of headlines and disruptions and noise over the last 12 months. That is seemingly starting to impact the consumer. So we try and factor all that in and again it is showing up in the price. You're seeing even major chemical companies, leisure companies that their stocks are below March 2020, which blows my mind.

 

Jonathan Barzideh [00:18:15]:

Like that was when we thought everybody was kind of stay home and these companies were going to go bankrupt. But the dispersion between the tech ecosystem and the rest of the economy just is that rubber band seems to be continually getting stretched out to a. We see whenever it snaps back. But that's certainly the theme we're thinking about most in the most recent months.

 

Chaney Sheffield [00:18:37]:

Okay. To start. Yeah. I would just add to that. I think that it's exactly right. And what we're seeing really and from the perspective of a portfolio manager, what's really interesting is, is that the, the factors that are at play here are exogenous to any individual industry. So we're seeing these stressors on a variety of different companies, regardless of the business that they're in, and more about the timing of their capital structures. And so if you're putting on your portfolio manager's hat, what that does for you is it allows you to build a unique portfolio of a variety of different companies, different industries, and you're not really exposed to any one particular set of fundamentals, which I think is really great.

 

Chaney Sheffield [00:19:21]:

And we haven't seen a setup like that since the gfc. Right. Like in the past, you think about previous distressed cycles. There have been periods of time where energy was really under the water or healthcare because of the opioid crisis was really in flux. You had retail really under pressure from the effects of Amazon and, and you were in part making a fundamental bet on how the fund, how the fundamentals of an industry were going to recover. That is not the case today. Today we are looking at broken capital structures that are broken because of decisions that really pertain to when they decided to finance, finance an asset purchase or refinance their cap structure as opposed to what's happening with the actual company's fundamentals. So and it's really, it's really diverse in terms of the opportunity set and it's pretty deep as well.

 

Jonathan Barzideh [00:20:12]:

I think it's also worth highlighting. Despite spreads at or near record tights and the equity indices reading reaching all time highs, the sheer volume of paper is very different than it was 15 years ago. So default rates are low. Yes, but if you include all these liability management exercises and out of court restructurings, the numbers start looking more like 2010 level default rates. But the levered loan market's almost four times the size it was in 2010. And that doesn't even include or speak to the no more growth of the private credit market is roughly another 2 trillion. So as far as the sheer volume of paper and number of credits that were funded with floating rate, that's susceptible to this interest rate change, it's quite significant.

 

Jocelyn Lewis [00:21:02]:

Great points. And you guys have really painted a vivid picture of the opportunity set in today's credit markets which like you mentioned, who would have thought they would have grown so dynamically from call it 10, even 20 years ago. But much of what's driving the demand for private credit, really opportunistic credit, is by these broader macroeconomic forces. So if we zoom out for a moment, how are you thinking about building resilient credit portfolios in the face of inflation? You've mentioned some of the rate volatility and the geopolitical uncertainty that exists today.

 

Chaney Sheffield [00:21:45]:

So I guess I'll start off and Chani, please feel free to chime in here. One of the things that's important to keep in mind is that when we are coming to these capital structures, the variety of opportunities that we assess, typically it's when they have been towards the tail end of receiving the punishment of the interest rate volatility, the inflation, the inflation impacts and the macro pressures that have been on them. So a lot of that has been priced in to some degree and sometimes maybe even overly priced in. And that's really what we are focused on. Those are the things that we are assessing is the impacts on those exogenous stressors on the company's balance sheet. And so when we take a look at these situations, the question then becomes, has the impact, has it begun to recede? Are we seeing green shoots in their own specific supply chain from the perspective of inflation? Have they had an ability to push out their maturities or there's still more work to be done and therefore what role can we play in there? We are, we're coming into each of these situations with exactly what you laid out in mind and trying to assess where we are in the life cycle of that impact so that we can be on the receiving end of the benefits and the convexity you get from those improving and those pressures ameliorating.

 

Jonathan Barzideh [00:23:07]:

Yeah. I would just add the key differentiator is price. And there are just two worlds out there. There's the healthy world and then there's the over levered world that there all the concerns you mentioned, there's some element of that priced in and then you layer in the complexity and the labor and cost of restructuring balance sheets, those have all gone up dramatically. And like I said at the beginning, it's just two worlds out there and you get prices and valuations that I haven't seen really since the very beginning of my career when people used to say things were worth four to six times EBITDA and then over 15 years everything became worth eight to 10 times EBITDA. So we're excited for the opportunity, but it takes a lot of work and you have to embrace the complexity.

 

Chaney Sheffield [00:23:54]:

Yeah. And the only other thing I would, if I could just say one more thing about complexity. A mantra that we have at Canyon is that we like to buy complexity and sell simplicity. So a lot of times what we are seeking to do is to get paid for the work that Chaney was mentioned, Chany was mentioning, which is you get into a very complex situation, understand it, solve the problems and on the back end what you provide to the markets is a much simpler, easier to understand and easier to underwrite situation which should provide accretion in value. So that's, that is a big part.

 

Jocelyn Lewis [00:24:27]:

Of what we do and it sounds like a big part of your more traditional private equity what they're looking to do. Right.

 

Jonathan Barzideh [00:24:34]:

It's certainly complimentary. When you're creating these backend equities on particularly these middle market sponsor backed companies, you are recreating the company much cheaper than it was originally purchased for because we are in a different interest rate environment, multiple environment, but there are so many of these. We, our job is to sift the good ones and separate the good ones from the bad ones. And in a lot of cases the valuation degradation is just so striking that we feel that there are many opportunities where you're creating a lot of cushion to withstand a worse, a potentially worsening macro environment. And also obviously the upside to the extent things improve, certainly.

 

Jocelyn Lewis [00:25:16]:

And like was mentioned earlier too, really focusing on the price, the price and the valuation is key in order to make sure that you're getting some solid investment that then you can do what you need to in order to then have that value accretion and like you mentioned, really then sell the simplicity that you've created. I also think your perspective on being resilient is really key. And another macroeconomic shift is the global policy, especially around tariffs. And it's really shaping different dynamics across sectors. Cheney, maybe starting with you, could you comment on which sectors are most impacted by the evolving US and global tariff policies and how you're positioning canyon its investments to capitalize on these shifts?

 

Jonathan Barzideh [00:26:11]:

Sure. Obviously the introduction of tariffs is a major change to decades of global policy and you're seeing it in a few different ways. One, there are the companies directly impacted. I think we generally done a very good job of avoiding companies that are reliant on inexpensive imports for their profitability. We're more interested in assessing the secondary effect that it has on the consumer and the. You are really starting to see in 3Q earnings more and more discussion of this K shaped economy. Where I'm seeing it in leisure. Right.

 

Jonathan Barzideh [00:26:51]:

Leisure had been ridiculously strong since COVID Everybody wanted to go get out there's work from home giving you more free time. You're now starting to see more and more companies. It seems as though they're speaking that the impact that it's had on the lower end consumer is seemingly creeping up into higher versions of the or higher areas of the socioeconomic ladder. We're still hearing the top ends doing great, but tariffs are effectively attacks and there's been no shortage of headlines and disruptions and noise over the last 12 months. That is seemingly starting to impact the consumer. So we try and factor all that in and again it is showing up in the price. You're seeing even major chemical companies, leisure companies that their stocks are below March 2020 blows my mind. Like that was when we thought everybody was gonna stay home and these companies were gonna go bankrupt.

 

Jonathan Barzideh [00:27:55]:

But the dispersion between the tech ecosystem and the rest of the economy just is that rubber band seems to be continually getting stretched out to a. We'll see we see whenever it snaps back.

 

Chaney Sheffield [00:28:07]:

But that.

 

Jonathan Barzideh [00:28:08]:

That's certainly the theme we're thinking about most in the most recent months.

 

Jocelyn Lewis [00:28:12]:

So clearly the rate environment is shaping or somewhat shaping the opportunity set. And on that note, let's talk a little bit about sourcing. So Jonathan, are you seeing more creativity in deal structuring today?

 

Chaney Sheffield [00:28:29]:

Yeah. Cheney mentioned chemical companies. I think we're. We are seeing it in. In chems, in industrials, in packaging, in. In In a variety of more traditional economic sectors outside of tech, where order flows have been trying to adjust, customers and inventories have been trying to adjust to the notion of tariffs coming into view. And that has definitely disrupted volumes and buying patterns and that is flowing through into the fundamentals of these companies. We expect that ultimately it should wash through, but right now it's coming at a bad time.

 

Chaney Sheffield [00:29:09]:

It's coming at a time when these companies are already living hand to mouth in terms of free cash flow because of where interest rates are. And so people look at the indices and they look at how well the broader market seems to be doing, even though the breadth of performance is not there. And it's really concentrated in a few different companies. But from what we have seen, a lot of these other industries have been in some type of recession for a few years.

 

Jocelyn Lewis [00:29:37]:

Well, certainly sounds like you both are really diving in and doing a lot of diligence around your portfolio, new investments as well. One other question that we have for you, Jonathan, maybe going back to you, is how do you balance agility and discipline when you're navigating whether these windows of opportunity created from some of this volatility, are they short lived, are they long lived, like what we're seeing in tariffs? How do you ascertain that and then decide how deep you're going to go into specific areas?

 

Chaney Sheffield [00:30:19]:

That's a great question and it is the operative question in terms of the day to day management of these portfolios. And one of the things that we try to do is we look at the reaction that is taking place in the markets and what is it exactly that they are reacting to? Are we in a shoot first, ask questions later type market, in which case there are many opportunities to find overreactions and things for us to do. And then the question is how quickly do you have to act before that that opportunity dissipates. And so as an example, on Liberation Day, we saw several capital structures have their bond prices move 10, 15 points lower instantaneously. And in, in that environment we, we, we reacted quickly to purchase the companies that we thought were just getting thrown out with the bathwater, to mix metaphors. But there are other times where maybe the initial reaction was misplaced in certain cap structures. But over time the market does figure out where the stress is going to be and you start to see it flow through into the fundamentals. So now coming into, into the fourth quarter of the year, we're starting to see that impact actually in some specific companies and how it's impacting their, their order books and their outlooks for next year.

 

Chaney Sheffield [00:31:42]:

So that is going to be more, more long lived. And it's the same. It's the same stress, right. It was the terrorists.

 

Jonathan Barzideh [00:31:49]:

The initial reaction could be misplaced. And then ultimately over time the market.

 

Chaney Sheffield [00:31:52]:

Does figure out where, where the actual pressure is going to show up. And so our jobs and the way we've organized our investment team by sector is to understand the fundamentals and the drive, the drivers of our industries so that we can see through that.

 

Chaney Sheffield [00:32:11]:

What is misplaced, what's real and what's ephemeral.

 

Jonathan Barzideh [00:32:14]:

We're always trying to balance flexibility with conviction. And you start off with smaller physicians and as you get a firmer handle on the process, that's when you really dig in and upsize for sure.

 

Jocelyn Lewis [00:32:27]:

Understanding the fundamentals for the investment that you're looking at and also how it relates to the broader sector, it certainly helps to understand that relationship and then determine whether or not that particular investment make sense within your overall portfolio. Wondering about interest rates, we've touched on it a little bit still higher for longer. We recently had a conference and it was discussed that there were actually a couple investments that some firms had seen where out of the gate, right out of underwriting, they actually had a pit component that there where traditionally we've seen more pit components follow restructuring. So that's just one example of something that was discussed. Wondering if there's any other trends similar to that that you've witnessed across the market or in relation to your portfolio. Cheney, maybe starting with you for that question.

 

Jonathan Barzideh [00:33:33]:

I'm not sure that I'd say there's any particular trend. The pick has been a theme for several years now and that's simply because as I mentioned, there's just not enough cash flow to pay it in cash. Oh, as a cheat. And you're getting a more expensive, more appropriate cost of capital for what you're providing. But it speaks to the underlying reality that you are underwriting a significant improvement in cash flow or there's some floating rate component that will ease the interest rate pressures. I think that the trend we're seeing more recently is less of the band aids that pick and just try and kick the problem off two or three years and more realization, as I said before, that this is not sustainable. For this company to grow its cash flows, it needs to be healthier, it needs to have a motivated management team. It needs to be to assure its customers that it's going to provide great service.

 

Jonathan Barzideh [00:34:34]:

So you're looking to engage in the real work of A more fulsome restructuring.

 

Chaney Sheffield [00:34:39]:

Yeah, the other, I guess the other trend that we're seeing that speaks to what Cheney is highlighting is that there are times where people are more rework a capital structure and instead there is a set of rules in place for how the company can transition over to the lender.

 

Jocelyn Lewis [00:34:56]:

So clearly the rate environment is shaping or somewhat shaping the opportunity set. And on that note, let's talk a little bit about sourcing. So Jonathan, are you seeing more creativity in deal structuring today?

 

Chaney Sheffield [00:35:13]:

I think we, we encounter sourcing in a variety of different ways. Can come from anywhere really. And I think the most important thing is to keep an open mind and know your companies well, understand where their needs might arise and really being able to, to give the the company and their advisors some real time feedback that is helpful in figuring out how to structure what they're trying to do next. I think they value that and that's why we get those calls early and why we get those early looks so that we can be involved in the process and help them arrive at, at a structure that could work for the company.

 

Jocelyn Lewis [00:35:54]:

Well, side run within the sectors that you cover. Chanie, are you also seeing the similar types of opportunities within deal structuring?

 

Jonathan Barzideh [00:36:04]:

Yeah, I think I was just going to say the creativity seems to come in due to the flexibility in the docs. So we used to have firmer rules in what is the art of the possible. And now that the documents have so much flexibility there is room for more euphemistically called creativity in ways to advantage yourself or a group of lenders versus others. Fund different boxes in the corporate structure. The end goal obviously being somehow address the company's liquidity, extend the Runway, improve your positioning should things continue to deteriorate and you wind up in a filing. So it's evolution, not revolution, it's distressed. Part of the interesting part of distress is always putting yourself in other stakeholders shoes and anticipating what they're doing and thinking through the game theory and how do you make it work for the company as well. It's three dimensional chess.

 

Jonathan Barzideh [00:37:04]:

It keeps people on their toes and it's highly interesting. And the complexity though is reflected in the pricing. Once, once those discussions start, prices collapse. And so the question is do you want to jump in into the uncertainty or in some cases we wait and just see what the deal looks like on the back end and that any company that's gone through a restructuring will likely have tighter documentation and firmer guidelines and rules and it becomes much more investable.

 

Chaney Sheffield [00:37:35]:

So obviously the first Thing you notice is the price and the pricing moves and just how dramatic of a move you're dealing with. That is obviously the first indicator that would pop up on anyone's radar. But I think one of the most important things to assess and price is a little bit of a symptom of this, but one of the most important things to assess is really what are the attitudes of the people that are in the cap structure already, how are they positioned and what are they trying to accomplish? And there's a wide spectrum of interests and desires. When you look at any particular company's capital structure as it goes through the evolution of original lenders to more stressed lenders, to possibly already distressed lenders and also how they're positioned, are they in multiple parts of the cap structure? Are they focused on one particular part? And so really gaining an understanding of the psychology and the positioning of the, of the stakeholders that are there currently and trying from there to ascertain how the lender base is going to evolve and what the different factions, if there are factions, might be pushing for is I think a key component of assessing a situation.

 

Jonathan Barzideh [00:38:53]:

We at Canyon are organized by industry. So our, we have daily updates and movers and JV and I have a pipeline call every two weeks where we're updating what's happening on a micro level across all of our industries. And that is the primary driver. But of course we're looking at broader macroeconomic trends and spreads and what's going on with the consumer. The, the spread environment has been, has been tight. It's much easier to call and deploy capital and the spread environment blows out. That hasn't been the case the last couple years.

 

Jocelyn Lewis [00:39:27]:

You made a good point that documentation is also really key because that really outlines that really can be done and can't be done and allows also for some interpretation. But taking that a step further beyond structure, execution is also really critical. So I would love to hear about some of the more complex capital solutions that Canyon has tackled recently and any lessons that you can draw from them.

 

Jonathan Barzideh [00:40:01]:

Yeah, 25 and 26 again, I think it's. It is often situation specific depends on the relative size of a group within a capital structure. They've been particularly effective in large capital structures where even the largest funds decide to form a cooperation agreement to prevent an aggressive sponsor's divide and conquer strategy. And so it is a form of defense that is definitely a required tool in the toolkit given the lack of protections in many credit agreements and bond indentures. So I think you'll continue to See them, they take varying forms. And again as JV was mentioning before, it's very much depends on who's in the credit with you and what are the goals when you form that co op.

 

Chaney Sheffield [00:40:55]:

Yeah. So we, we are very focused on protecting downside and making sure that where we sit in the cap structure pro forma for the transaction that we're involved in gives us a look through to asset coverage and ultimately document protections. Right. Like the documents are so important and part of the reason why so many credits fall out of bed is because the documents allow for way, way too many shenanigans on the part of the borrower. And so those are very important for us. The documents matter a lot. But like you said, the upside potential in the convexity, the position is also very important. So when we are fixing these problems we are, we are either coming into it with enough of a discount that we think that there is a high MOIC opportunity or, and, or sometimes we will create a right tail through warrants or a piece of equity or preferred equity in the capital structure that allows us to share an upside while beyond par.

 

Jocelyn Lewis [00:41:55]:

Right. So having alignment really with the other participants that you're in a deal with and also understanding the motivations, I think both of you have really covered a lot of what you've learned from your experience that will then help you pave the way for getting then the best deals and outcomes that you can can. So all of those lessons are incredibly valuable. Shifting gears slightly, are there any under the radar trends or asset classes that you're particularly watching right now?

 

Jonathan Barzideh [00:42:34]:

Sure, a lot of talk about specific situations but I think that complexity you're referring to, it really is in, in the process of finding that solution to a over levered balance sheet and like we've been touching upon it is it requires collaboration with your fellow lenders. It requires a series of often sticks and carrots to get participation in the deal and get everyone to agree. Sometimes that comes with the threat of bankruptcy to get everybody to, to fall in line and deal with holdouts. But it's, it is still a very manually intensive human interaction negotiation that sometimes takes months. So it is, is still as far from AI algorithmic trading as you can get.

 

Chaney Sheffield [00:43:32]:

Yeah. And without getting into any specific company though, it's say from a structuring perspective and how we work through these things, one of the things that we try to focus on is you know, what are the assets and how have they been pledged or leaned already to other parts of the cap structure. There are sometimes opportunities to unlock value or potential for new money to come in in those ways. And then within the restructuring, different parts of the lender base may be interested in different types of assets. So you can also whack it up differently as well. And so understanding the assets and you know, who, who wants what out of the restructuring can help you figure out sometimes a value maximizing optimization where you know, not everybody's after the same thing per se for sure.

 

Jocelyn Lewis [00:44:26]:

And it's all great insight that you've provided. And one other question that we are wondering about is we're both focused on financial technology but thinking the tools behind some of these strategies. With technology continuing to evolve, how do you see technology playing a role in credit analysis? It's not going to replace humans, but help augment some of the analysis that they're doing with human judgments still being irreplaceable. But where do you think technology can really help?

 

Chaney Sheffield [00:45:06]:

I think what the way you laid it out is exactly right and I think that so we've begun using AI in, in our workflow and one of the ways we use it is to help synthesize vast amounts of information to create a mapping where the analysts can go and figure out more quickly where they want to spend time and drill down. And so we would AI might get there one day, but it's definitely not there today. And we've seen it in trying it but we, we're definitely not relying on AI to do any of the fundamental analysis but to synthesize what's out there, what's been written to help the team really optimize its time. And use of time has been helpful and we'll see how it evolves from there. I think the one thing that is hard to imagine technology and AI really replacing is, is the relationship component, the human factor in putting these deals together, in negotiating and trying to understand and read the personalities involved and in each one's unique and getting to a solution for any particular company.

 

Jocelyn Lewis [00:46:17]:

Thank you for joining us for this episode of Private Markets360. We appreciate you tuning in and hope you found this discussion as enlightening as we did. Don't forget to subscribe to Private Markets 360 for more expert insights and trends in the world of private investments. Until next time.