In the face of intensifying competition from the broadly syndicated loan market, private credit lenders are leveraging their ability to provide payment-in-kind flexibility to secure deals
Private credit lenders in the US are responding to increased competition from the broadly syndicated loan (BSL) market and from one another by offering flexibility to borrowers in the form of payment-in-kind (PIK) facilities.
Over the course of 2024 and early 2025, as the BSL market reopened, many borrowers opted to refinance private credit loans with BSLs. In the first quarter of 2025, companies refinanced at least US$7.3 billion of direct lending deals with syndicated loans, according to Pitchbook. This was the second-highest quarterly figure for refinancing from private credit loans to syndicated loans in at least four years, with borrowers achieving an average spread saving of 263 basis points (bps), according to Pitchbook.
Benefits of PIK options
Renewed competition from the BSL market has prompted private credit lenders to lower their margins, with some lenders bringing them as low as 4.5%, according to Bloomberg. That is significantly lower than just a couple of years ago—average direct lending spreads reached as high as 6.75% in March 2023, according to Bloomberg.
In addition to competing on price, private credit lenders are emphasizing the flexibility they can offer borrowers in an uncertain market. Their ability to incorporate PIK functionality into a unitranche loan structure has proven to be a key differentiator for private credit lenders. According to Configure Partners, approximately 14% of private credit loans made in the last quarter of 2024 included a PIK option from the start of the loan term.
PIK loans allow borrowers to add the interest owed on a loan to the principal balance rather than pay the interest in cash. Against a backdrop of still-elevated interest rates and uncertainty in the macroeconomic environment, PIK functionality has allowed some borrowers to sustain levels of leverage that would be difficult to service if all interest had to be paid at once in cash. Other borrowers do not plan to use the PIK flexibility but instead include it as a buffer in case of deteriorating financial performance or slower than expected growth.
In the BSL space, offering the same kind of flexibility that PIK instruments afford has been difficult to replicate. This is principally because the CLO investors who are a major buyer of syndicated loans often do not have a mandate to invest in instruments that do not pay cash interest, or that have only limited capacity to do so.
In some cases, the BSL market has attempted to mimic the private credit playbook by offering borrowers “synthetic” PIK options. In these structures, borrowers can draw down on a delayed term draw loan facility to cover interest payments—effectively incurring debt to meet the interest obligation, which gives borrowers some temporary relief by reducing cash outflows. While not widespread, some private credit lenders have also incorporated “synthetic” PIK options in their deals.
PIK in practice
Private credit lenders are often comfortable adding a PIK option as part of a standard senior secured unitranche deal, particularly in large cap deals with financial sponsors. Terms will vary from deal to deal, but typically a borrower will only be able to “PIK” a portion of the margin component of the interest payable, usually up to 50% of the margin.
To compensate lenders for using the PIK feature, the interest rate margin will increase on the portion of the interest that is paid in kind, typically by around 50 bps. In some deals, borrowers have been able to PIK up to 25% of the applicable margin for a 25-bps premium, and then up to 50% of the margin for a 50-bps premium.
PIK features are also often included in annual recurring revenue-based facilities (ARR deals), which give early-stage companies the flexibility to reinvest cash in their businesses to support growth. In the majority of cases, the PIK option is available only on term loans, not on revolving credit facilities.
In addition, the PIK option will usually only be available for a limited time, typically the first two years after the closing of the financing. The availability of the PIK option can also be subject to compliance with certain conditions to protect the lenders’ position. For example, borrowers that have defaulted may not be able to use a PIK option. In some cases, lenders will impose a more restrictive covenant regime while a PIK option is being used (for example, by imposing certain restrictions on a borrower’s ability to incur other debt or pay dividends).
However, these types of restrictions will vary from deal to deal. Generally, large, high-quality borrowers backed by top-tier private equity sponsors will be subject to fewer restrictions when taking advantage of the PIK option available as part of a unitranche loan.
Sustained demand
Perceptions of PIK loans have evolved over the past 20 years. PIK features became popular in leveraged loans and high yield bonds in the lead-up to the 2008 financial crisis. But, in the aftermath of the crisis, they came to be seen as an indication of a frothy, overheated market. Over the next decade, the inclusion of a PIK feature was seen as an indicator of deep distress, but in recent years the option has been used in various contexts.
That said, some market participants still have concerns that the recent increase in PIK usage is a sign that many borrowers’ balance sheets are under strain. PIK flexibility may result in situations where a borrower has been making regular interest payments in cash but then switches to PIK as earnings slide and/or debt servicing costs increase, which can mask the default risk and delay lenders from having a seat at the table. However, there may be other scenarios where borrowers are simply using PIK flexibility to direct cashflow toward growing their business rather than making interest payments, or to smooth out cashflow and debt servicing through periods of interest rate and liquidity disruption.
Historically, borrowers’ appetite for PIKs has been cyclical, with demand increasing in periods when interest rates are rising. Even though interest rates have fallen during the past 12 months, PIK flexibility may remain in high demand as the global economy navigates the changing trade dynamics.
The competitive dynamic between private credit and BSL lenders will be another factor sustaining PIK issuance, as private credit players continue to offer PIK flexibility to win and defend their share of the market.
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