abstract. Over the past generation, conflicting trends have reshaped the ownership of corporate equity on the one hand and corporate debt on the other. In equity, the two great trends have been the shift from public markets to private ownership and the consolidation of American companies’ stock in the hands of powerful investment funds. In debt, by contrast, the great trends have been a shift from private loans to quasi-public markets and dispersed ownership.

In this Article, we chronicle the recent and dramatic reversal of these trends in the debt markets. Private investment funds executing a “private credit” strategy have become increasingly important corporate lenders, bringing into corporate debt the same forces of privatization, concentration, and illiquidity that have been reshaping the equity markets. We offer new data that illustrate the meteoric rise of the now $1.5 trillion private credit industry, and we explore the allure and implications of private credit. For many corporate borrowers, private credit offers a faster, more efficient, and more accessible source of financing than either banks or the public (and quasi-public) debt markets. Yet the transition from bank-intermediated finance to private credit will transform not only corporate finance, but also firm behavior and economic activity more generally. First, as the corporate debt markets follow the equity markets in going dark, information about many large firms will be lost to the investing public. For better or worse, these firms will act with unprecedented discretion—having been shielded from the discipline and scrutiny of regulators, the trading markets, and the general public. Second, corporate debt—like corporate equity—will become the dominion of investment funds, some of which are already unimaginably large. These funds will influence everything from firm operations and strategy to corporate distress, with uncertain consequences.

authors. Jared A. Ellias is Scott C. Collins Professor of Law, Harvard Law School. Elisabeth de Fontenay is Karl W. Leo Distinguished Professor of Law, Duke University School of Law. The authors thank Josh Clarkson, Cole Harten, Madeleine Hung, Nicole Fang, Russell Feinman, Michael Finkenbinder, Farrah Kalach, Alina Kilcoyne, Chinmay Pandit, Bo Roy, Johnathan Sun, and Vivian Zhang for their helpful research assistance. For helpful comments, the authors also thank William Birdthistle, Vince Buccola, John Coates, Jeff Ferris, Jeff Himstreet, Scott Hirst, Dan Kamensky, Dorothy Lund, Mariana Pargendler, Alex Platt, Elizabeth Pollman, Eric Pratt, Adriana Robertson, Mark Roe, David Smith, Roberto Tallarita, and Andrew Tuch; representatives of the LSTA, the Alternative Investment Management Association (AIMA), and the Alternative Credit Council (ACC); as well as seminar audiences at Harvard Law School, the 2024 BYU Winter Deals Conference, the 2024 American Law and Economics Annual Meeting, and the 2024 Penn/N.Y.U. Conference on Law and Finance, as well as the many industry participants who generously shared their insights.

Introduction

The ownership, governance, and financing of corporate America look radically different today than they did only a few decades ago. By now, we have become accustomed to the two key features of this new landscape—namely, (1) that companies increasingly choose to remain private, and (2) that the equity (stock) of both public and private companies is increasingly concentrated in the hands of powerful investment funds.1 Over the past few decades, companies have increasingly chosen to remain, or become, private firms. Unlike public companies, private firms are not subject to the public-disclosure requirements of the securities laws, and their shares are not traded on a public stock exchange.2 Instead, their shares are typically owned by private investment funds such as private equity or venture capital funds.3 Meanwhile, the shares of the shrinking set of public companies are increasingly owned by public (or “registered”) investment funds sponsored by a handful of the world’s largest asset managers, rather than by individual investors or even smaller investment funds.4 One could, accordingly, describe the two major trends in corporate equity ownership as privatization—the large-scale exit of companies from the public regulatory scheme and from information-rich markets—and concentration of ownership.

Within the world of corporate debt, however, opposite trends had been at work until recently.5 Historically, firms both large and small borrowed on a secured basis from banks.6 (Large firms also borrowed on an unsecured basis from investors in the public bond markets.7) With this form of secured lending, banks lent their own money—either internal funds or customer deposits—to corporations.8 The 1990s saw secured lending evolve dramatically.9 The role of banks shifted from originating loans to identifying corporations that needed capital and finding nonbank investors to supply it, building what became known as the “syndicated debt markets.”10 With the development of syndicated lending, secured debt began to resemble the world of public equity and public bonds: a liquid market dominated by dispersed, passive investors, with firm and market information reflected continuously in trading prices.11

To state it differently, while the trend in corporate equity has been for public companies to go private and for shared ownership to become concentrated in a smaller number of asset managers, the trend in corporate debt has been the opposite: large numbers of dispersed, passive investors supply the capital, and companies are disciplined by the trading markets rather than by active, expert intermediaries such as banks. Corporate debt ownership has thus been dispersing as corporate equity has been concentrating.

In this Article, we provide a comprehensive account of a startling reversal of this trend for corporate debt: since the 2010s, the same trends of privatization and concentration that reshaped corporate equity are now reshaping corporate debt. This ongoing shift is driven by an investment strategy known as “private credit.”12 While private credit lacks a strict definition, we define private credit loans as commercial loans that are arranged and originated not by banks, but primarily by private investment funds.13 Among other important features, private credit loans are not generally traded and are held to maturity by the private investment fund that makes the loan.14 Collectively, private credit funds originate a major and accelerating share of all commercial loans.15 Individually, private credit funds are often able to originate a given company’s entire outstanding debt singlehandedly, rather than hold a small piece of the company’s debt along with many other creditors. This has radically transformed firms’ capital structure: such companies face a single loan from a single lender, instead of a complex web of different types and tranches of debt, each funded by large numbers of passive (and often warring) creditors.

Investment funds deploying private-credit investment strategies—such as secured lending, subordinated lending, and distressed investing, with senior secured lending making up the bulk of the strategy—managed $400 million in 2000, $300 billion in 2010, and an estimated $1.6 trillion in 2023.16 These funds may be on their way to managing $3.5 trillion in 2028.17 Large public retirement funds are currently allocating at least $100 billion into the asset class.18 As institutional investors stampede into private credit, corporate governance and corporate finance are transforming once again.

The rise of private credit has many drivers.19 Borrowers are choosing private credit loans over alternatives because private credit funds can deploy capital quickly, flexibly, and with greater confidentiality and certainty than is possible in public debt markets.20 Institutional investors are pouring money into private credit funds to earn handsome returns from investing in illiquid assets; to obtain priority in bankruptcy through secured debt and contractual protections that go beyond what has become typical in syndicated loan deals; and to protect themselves from the “creditor-on-creditor violence” that has become a feature of the public and quasi-public debt markets.21 For their part, asset managers are drawn to sponsoring private credit funds for the opportunities to earn high compensation, to deploy capital with minimal regulatory constraints, and, in some cases, to profit from size while building gigantic funds.22

Although many commentators have remarked on the meteoric growth of private credit,23 we argue that its impact has, if anything, been understated. Private credit should instead be understood as heralding a sharp reversal in the trend toward dispersed and traded debt, which will have transformative impacts on corporate governance and corporate finance along three dimensions.24

First, as private credit increasingly competes with traditional bank syndication for loans to large firms and reaches an ever-wider array of smaller firms, we should anticipate a world in which the entire capital structure—both the equity and the debt—of many or most American firms is held primarily by private investment funds.25 This means that the strengths, limitations, and incentives of these fund managers will take on the same outsize importance in the debt markets as in the equity markets.26 Even the largest companies now have the option to forgo underwritten debt offerings to large syndicates of lenders or dispersed bondholders and instead have their entire debt arranged and funded by a single private credit fund, in record time. Yet it appears that private credit not only substitutes for existing sources of debt financing (such as traditional bank loans, syndicated loans, and high-yield bonds), but also expands the supply of credit, both by extending credit to new borrowers and by adding still more leverage to existing borrowers. In other words, private credit not only changes how the corporate-debt “pie” is split, but also expands the size of the pie. Crucially, the pie increasingly rests in the hands of a relatively small number of private investment funds.

Second, with the addition and expansion of private credit, information about firms, investors, and transactions will change, and, for larger firms, grow scarcer.27 Among U.S. companies that take on outside capital, the modal firm may very soon be one that is owned by a private equity fund and financed by a private credit fund.28 For some smaller firms that would have otherwise borrowed from traditional banks or not borrowed at all, this may lead to somewhat more disclosure about the firm, if the private credit lender is a business development company, as further described below.29 But for larger firms that would have otherwise accessed the public or quasi-public debt markets and made statutorily or contractually required disclosures to dispersed investors or even to the public, information will be shared far less widely and often will evade the eyes of both bank regulators and securities regulators. On the one hand, the lack of scrutiny by regulators, trading markets, rating agencies, and the public may promote economic activity by granting firms extraordinary flexibility in both their operations and their governance. On the other hand, it raises the potential for large-scale misallocation of capital and illiquidity in the long run. In the old equilibrium, the debt of large companies traded actively in the loan and bond markets, providing early signals of when companies were in trouble and giving investors and regulators visibility into challenged companies or industries. Now, many firms and even entire industries will seek capital instead from private credit funds. As a result, only certain asset managers will enjoy the high level of visibility into the economy that was previously more widely shared, making objective valuation by outsiders considerably more difficult.

Third, private credit will have a major impact on corporate insolvency and the process of restructuring corporate debt. The consequences will remain highly uncertain until the market is tested by a major correction. Nonetheless, we advance several hypotheses, based on the idea that private credit represents a tradeoff between (1) the benefits of potentially better monitoring of corporate borrowers and lower debt-renegotiation costs and (2) the costs of greater opacity and greater risk of misvaluation by outsiders.

Our three hypotheses are as follows. First, to the extent that private credit increases the size of the corporate-debt pie (by providing leverage to new borrowers and adding more leverage to existing borrowers), the rise of private credit should produce more episodes of corporate financial distress and insolvency. Second, however, among firms that are financially distressed, private credit should lead to fewer bankruptcies. The structure of private credit deals—with fewer lenders at the bargaining table—could solve some of the coordination problems and creditor conflicts that plague workout talks for large firms and require the bankruptcy process for resolution. In addition, some private credit lenders are more willing than traditional banks to take over ownership of distressed firms or their assets. To the extent that private credit replaces traditional banks for smaller loans to middle-market borrowers, therefore, it may offer a new bargaining counterparty that is better able to restructure deals, own assets, and inject new capital when necessary. Third, and counterintuitively, for some subset of corporate borrowers, private credit may delay resolution of the firm’s financial distress inefficiently. As discussed above, in most cases, private credit should result in faster renegotiation and restructuring than public and quasi-public debt by reducing collective-action costs. Unlike investors in public and quasi-public debt, however, private credit lenders sometimes have both the incentive and the ability to avoid taking or marking losses on their loan portfolio, and instead to forbear indefinitely in the hope that the borrower’s condition improves. Such incentives raise the risk of so-called “zombie firms” among private credit borrowers. At this stage, we do not know enough to gauge the severity of this risk.

When bankruptcies do occur among private credit borrowers, the process of restructuring corporate debt will look very different from the market-based practices that dominated corporate financial distress in the prior world of dispersed and traded debt.30 Over the course of the 2000s, investors in quasi-public debt embraced specialized roles, ushering in an industry of expert investors who specialized in buying distressed debt and helping firms reorganize.31 Bankruptcy judges embraced a more passive, procedural role that relied on “market checks” and the presence of sophisticated investors to guide firms through Chapter 11 processes. In a world where debt no longer trades and where information on corporate borrowers is less widely shared, the core assumption that enabled this ecosystem and set of legal procedures to develop will unravel, and the biases and idiosyncrasies of private investment funds (and their sponsors) will dominate the landscape of financial distress. We argue that as markets fade, bankruptcy judges may need to assert a more muscular role in administering bankruptcy law as a safety valve to promote efficient asset reallocation.

This Article explores the reemergence of a new form of relationship-based lending, which promises profound consequences for the future of corporate governance and corporate finance. Before proceeding, however, we briefly review the extant literature on private credit, focusing particularly on the direct lending approach, whereby private credit funds originate and hold loans to companies themselves, rather than simply participating in bank-arranged financing.

Legal scholarship on private credit is surprisingly sparse. Most recently, Narine Lalafaryan directly examined the role of private credit in corporate governance and corporate finance.32 She compared private credit to commercial banking along a variety of measures and concluded that private credit can be efficient for firms, notwithstanding potential conflicts with the interests of their equity holders.33 Cathy Hwang, Yaron Nili, and Jeremy McClane briefly described some of the characteristics of direct loans, based on interviews with finance lawyers.34 In early and prescient papers, William A. Birdthistle and M. Todd Henderson in 2009 and Andrew F. Tuch in 2017 observed that large private equity firms were increasingly sponsoring private credit funds, and they discussed the associated conflicts of interest.35 Another strand of the legal literature, including recent work by Patrick M. Corrigan, examines the risks and opportunities of “shadow banking” generally, which under some definitions includes private credit.36 Christina Parajon Skinner argued in favor of private credit in 2019, on the view that private investment funds can provide a counter-cyclical source of debt capital for businesses, while reducing some risk to the financial system associated with bank lending.37

The financial-economics literature examining private credit funds and their direct-lending investment strategy is more extensive but remains nascent. One strand of this literature focuses on the performance or other characteristics of private credit funds themselves.38 Some scholars have used private data from the large institutional investors and analytics providers that allocate capital to them,39 and others have conducted surveys of the asset managers that sponsor them.40 A second strand focuses on the smaller set of private credit funds that are publicly traded business development companies (BDCs), using these funds’ SEC filings to examine their behavior, as we do in Section II.B.41 A third strand examines the characteristics of the loans extended by private credit funds that adopt a direct lending strategy.42 A final strand ties the rise of direct lending to regulatory arbitrage around tighter bank regulation.43

This Article departs from the extant literature by situating private credit within the broader context of how our capital markets are evolving. Viewed in isolation, private credit can be described simply as an alternative source of financing for borrowers ranging from small middle-market firms all the way to very large firms. As we discuss, the success of private credit likely rests on certain efficiencies gained when corporate debt is funded by a single lender using long-term, locked-in capital from institutional investors, rather than by a bank using short-term customer deposits or by dispersed, passive creditors in the debt markets.

Viewed within the overall evolution of the capital markets, however, private credit is the final major step in the extraordinary movement of firms and capital out of the public trading markets and into the hands of private investment funds—a trend that began only a few decades ago. As yet, this particular version of the story has no conclusion. We do not know whether private capital will render the public markets largely obsolete, other than for the very largest companies, or whether firms and investors will cycle endlessly between public and private capital as regulation, efficiencies, and pathologies in each market ebb and flow. If private credit does emerge as a clear victor in the long run, perhaps firms will no longer require public disclosure or trading markets to function efficiently, thanks to the genius of the private-investment fund structure. Alternatively, perhaps letting all of corporate finance “go dark” will result in misallocated capital and less productive firms in the long run. It is too early to know. In the meantime, we should keep a close watch on private credit—the final piece of this puzzle.

This Article proceeds as follows. Part I briefly surveys the evolution of corporate debt prior to the rise of private credit, whereby relationship lending by banks transformed into syndicated lending.

Part II describes the explosive rise of private credit and presents new data documenting it. A key challenge to understanding the phenomenon is that, by design, private credit funds produce very little public information. To overcome that challenge partially, we have created new machine-reading models to examine evidence from one publicly visible slice of the market: the private credit loans held by publicly traded BDCs. Among other findings, we show that, between 2010 and 2022, the assets deployed by private-credit BDCs have increased by a factor of more than ten, and the number of private credit loans made by those funds grew from 1,395 to 20,182.

Part III considers the potential advantages of private credit relative to the public and quasi-public debt markets, focusing on the three key players in a private credit transaction: the borrower, the debt investors, and the asset manager. Part IV predicts the major consequences of the rise of private credit for corporate governance, corporate information production, and corporate finance. The Article then concludes.