EXCLUSIVE: BDCs Face ‘Double Whammy’ As PIK Loans Rise And Spreads Compress, Oxane Managing Director Says

The rise in payment-in-kind (PIK) loans and narrowing lending spreads signal a "strong stress signal" for private credit portfolios, according to Oxane Partners Managing Director Kanav Kalia told. The share of PIK loans in business development company (BDC) portfolios has roughly doubled over the past four to five years, rising from about 5% in 2022 or 2023 to roughly 10% currently, Kalia said. " Borrowers like PIK loans because they let them defer cash interest payments by adding interest to the outstanding balance.

While the structure can provide companies with additional liquidity, increasing use typically indicates that borrowers are struggling to generate enough cash to service their debt. That puts pressure on BDC earnings and distributions if underlying borrower cash flows deteriorate further. 35B, Kinetik Up For Sale, LIV Golf Bankruptcy Software Adds Another Risk Software has emerged as another area investors are watching closely as artificial intelligence reshapes business models and raises questions about the durability of some companies’ revenue projections.

Kalia said BDCs came under pressure as investors questioned their exposure to software companies and whether some holdings still deserved par valuations. But he cautioned against treating the entire software sector as vulnerable. "Cookie-cutter" software businesses offering products that AI can potentially replace are more exposed, while highly specialized companies embedded in industry workflows have proven more resilient, he said. That distinction could become increasingly important for BDC managers evaluating borrowers whose business models face AI disruption.

Banks have also become more exposed to the BDC market. Kalia said banks now provide roughly 40% of BDC leverage, up from about 20% a decade ago. That creates a potential "second-order risk" for banks if BDC portfolio performance deteriorates, even though banks typically occupy senior positions in BDC financing structures. Larger BDCs are likely to be better positioned to withstand pressure because of their scale and access to multiple sources of capital.

Smaller BDCs, however, could face greater challenges if borrower cash flows weaken. Redemptions Could Return Investor redemptions have eased after a period of heightened concern, but Kalia said another deterioration in loan performance could trigger renewed withdrawals. "If suddenly there’s a large chunk of loans here that start to underperform, you might see a few more of those high redemptions come back in," he said. ” Still, with PIK loans rising, spreads tightening, and banks becoming more deeply tied to the sector, investors will be watching closely for signs that borrower-level stress is spreading across portfolios over the next six to 12 months.

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