A characteristic of private credit is that lenders are increasingly willing to look beyond hard asset security when assessing credit risk. Depending on the transaction, that may mean lending against receivables, underwriting predictable cashflows or relying on sponsor support within a wider fund structure. In each case, the lender's analysis focuses on where repayment ultimately comes from, rather than simply what assets sit behind the loan.
In particular, when a lender looks beyond the underlying asset and starts underwriting sponsor support, three structures tend to dominate the conversation: guarantees, equity commitment letters (ECLs) and direct access to investor commitments. Although they are often discussed together, they should not be analysed in the same way.
Whilst all three are designed to support repayment, they work in fundamentally different ways. More importantly, they give lenders very different rights when things go wrong.
Why are ECLs attracting attention?
The use of ECLs has grown alongside the broader expansion of private credit.
As lenders become more comfortable financing acquisitions, developments, infrastructure projects and fund-backed investment platforms, there is a need for a form of support that sits somewhere between pure equity and a traditional guarantee. That is where ECLs tend to appear.
An ECL, at its core, is a commitment to provide capital when certain agreed events occur. Those events might include a liquidity shortfall, a cost overrun, a debt service deficiency, or funding the gap between a lender's advance rate and the total capital required for a project.
In some transactions, the ECL is simply one part of a broader collateral package but, in others, lenders may be placing reliance on the ECL as their primary source of repayment support.
That distinction matters because, once an ECL becomes a lender's primary source of repayment support, the legal instrument is only part of the credit analysis.
Where does the money come from?
When ECLs are discussed, the conversation often starts with enforceability. Can the lender enforce it? Is it legally binding? Will a court uphold it? Those are important questions, but they are not the most interesting ones.
The better question is: where does the money come from and what is the lender's route to accessing it?
Even if an ECL is enforceable, a lender still needs a practical route to the capital sitting behind it, and that means understanding the wider funding chain.
In many structures that funding chain includes:
- investor commitments;
- capital call rights;
- GP or manager decision making;
- fund governance provisions;
- investor concentration; and
- competing financing arrangements (intercreditor issues).
In reality, lenders are underwriting more than the ECL itself. They are underwriting the path to repayment.
Three forms of credit support
Guarantees
A guarantee is the most straightforward form of support: the guarantor agrees to pay if the borrower does not.
The lender benefits from direct recourse against the guarantor, and that simplicity is its greatest strength, particularly where the guarantor has significant covenant strength. We are seeing structures where a guarantee from a public sector entity, whether that entity is within the wider borrower group or a third party, has the ability to unlock transactions at the right cost of funding.
The challenge is that guarantees are not always available or desirable, particularly within fund structures where regulatory, constitutional or commercial considerations point towards a different solution.
ECLs
An ECL sits in the middle ground: the ECL provider is not usually agreeing to pay the lender directly but instead agrees to fund its subsidiary/portfolio entity i.e. the borrower.
That may appear to be a minor distinction, but it fundamentally changes the lender's analysis.
The lender is no longer looking solely at the creditworthiness of the support provider. It must also understand the mechanics that sit behind that support. A lender needs to understand available commitments, capital call rights, investor restrictions and competing creditor claims because they all become central to the credit analysis.
That is why ECL backed transactions can come with enhanced reporting, monitoring and covenant packages given the indirect nature of the credit support.
Investor commitments
Direct access to investor commitments is seen in fund finance transactions, where lenders benefit from security over capital call rights, collection accounts and related proceeds. It is less common in traditional corporate, real estate or infrastructure financings where lenders are typically underwriting assets, cashflows or sponsor support rather than the fund's investor base itself.
For that reason, understanding where a lender sits within the wider sponsor and fund structure becomes particularly important. A lender with direct access to investor commitments is effectively underwriting a different source of repayment to a lender relying on a guarantee or an ECL.
This approach takes lenders closest to the underlying source of capital. Rather than relying on a sponsor's commitment to fund, lenders have direct rights over capital call mechanics and the proceeds generated from those calls.
The focus shifts away from sponsor support and towards the quality, concentration and enforceability of the underlying investor commitments.
There are still risks, including investor concentration, excuse rights and competing claims. The difference is that there are fewer steps between the lender and the ultimate source of repayment.
What matters most?
There is no "best" form of credit support. A guarantee, an ECL and access to investor commitments solve different problems and are designed for different circumstances. The important point is understanding where repayment ultimately comes from and how the lender accesses it.
At Trowers & Hamlins, we are advising on transactions where the strongest structures are not necessarily those with bespoke documents or a comprehensive security packages. Instead, they are the structures where lenders have a clear understanding of where repayment ultimately comes from and the practical route to accessing that capital if things do not go to plan.
This is particularly relevant as private credit structures continue to evolve and traditional categories of debt, equity and credit support become increasingly blurred. Understanding those distinctions is what separates a well-structured transaction from one that merely appears well protected.
