Private credit went from niche allocation to core in about ten years. The loans written during that growth are now reaching the part of the cycle where some of them have stopped performing. Working a loan out is a different discipline from making one, and it sits outside what some credit funds are built to do.

The growth explains the timing. For ten years, the competition in private credit ran on capital. Speed to commit, flexibility to structure, capacity to deploy. But today’s funds are built to run on a different discipline. A borrower stops performing, and someone must decide what to do about a company that can no longer perform. That is workout. Most funds hold some workout capability, but it is rarely the team's primary focus. Asset management teams underwrite and monitor, but they rarely run restructurings as a primary function.

With these changes, the distress has moved from forecast to fact. Fitch's broader measure put the U.S. private credit default rate at a record 6.1% through July 2026. Half of those defaults came in the form of deferrals or conversions to payment in kind. Around 40% of private credit borrowers now run negative free cash flow, up from roughly a quarter in 2021. The pressure builds one borrower at a time.

Sources: Fitch Ratings, U.S. private credit default rate (through July 2026); IMF Global Financial Stability Report (2025).

The private credit distress cycle: From forecast to decision

Public commentary has begun to converge around a general diagnosis. Marks can be opaque. Reported defaults understate the real number because so much of the distress surfaces as deferrals. Valuation practice is drawing regulatory attention. These symptoms tell a lender where the problem shows up, but it provides little clarity about what to do after a covenant trips, when the refinancing exit has closed, and the situation has to be resolved in direct negotiation with the lender at the table as a principal.

Refinancing into the bank market used to be the standard exit, but it has now narrowed sharply for the borrowers who most need it. Too much leverage against too little free cash flow in sectors the banks have grown wary of or already exited. More resolutions are landing out of court in direct negotiation. Debt-to-equity conversion has become a live outcome rather than a remote one, leaving lenders holding equity in companies they financed. Once a lender becomes an owner, the problem becomes an operating challenge, which is a different kind of problem (with a different solution) than the one the credit was underwritten against.

The limits of a liability management exercise in private credit

When a borrower comes under pressure, the reflex is a liability management exercise (LME). An amend-and-extend pushes maturity. An uptier re-ranks the lenders. A drop-down moves collateral. An exchange captures a discount. Over six years, the LME goes from exotic to routine, and it usually does the job. In fact, of the names in our tracked universe that ran one, roughly three out of four never went on to file.

The minority that did file share a pattern a lender can read ahead of time. An LME rearranges the claims on a business. It settles who is owed what, in what order, and by when. The business itself carries on unchanged. In this scenario, it’s the enterprise that has broken, and it could be its end-market, cost structure, and/or its ability to generate cash (among other issues). Reshuffling the paper only postpones the day the enterprise can no longer support any version of the stack. The debt gets restructured, but the company does not.

What separates the failures from the survivors is one question. Did the exercise truly cut leverage against the value of the business or only reshape it, retranching, extending, and capturing a discount while total debt stayed roughly the same? In the names that failed, the answer sits at the reshaping end. WeWork's 2023 exchange took out around $1.5 billion of bonds and pushed maturities into 2027. The company filed six months later. The fulcrum was the lease stack the exchange left untouched. The question leaders should be asking is whether the exercise truly repaired the liability that could bring the company down.

An LME can buy a borrower time. The question is what that time actually gets used for.

Reading the early warning signs of private credit distress

The documents are more useful than the commentary here. A failure does not appear out of nowhere on the day of the filing. It develops as a profile, visible in the documents, long before the confirming event. This could look like:

• A class of lenders left behind by priming or non-pro-rata terms, leading to less cooperation.
• New paper that clears around thirty cents on the dollar, which tells you the market has already priced an enterprise that cannot sustain the old stack.
• A coupon that accretes rather than paying cash, so principal grows through the relief period and the cash burden returns larger when the toggle expires.
• Maturities only pushed out. Total leverage flat or higher than before the exercise.
• A repeat exercise on a name that has restructured before.

Each of these lives in the amendment, compliance certificate, borrowing-base notice, and public filing.

Those credit signals are symptoms, but the cause lives in the business, and a purely financial metric will miss it.

A structurally shrinking end-market gives a borrower nothing to recover into. Leverage measured against a real asset base tells a very different story from the one a headline multiple tells. A liquidity runway too short to fund a turnaround forecloses the fix before it can begin. A cash-interest burden the business cannot support and an acquisition bought with debt, then never integrated, each add their own weight.

Read the debt and the business side by side, and the likely outcome becomes answerable on the terms of the exercise and the condition of the company — well ahead of the eventual statement that makes it undeniable.

This is familiar ground for our restructuring and turnaround team. We track the universe of distressed and post-LME names, and our collective view of the cycle comes from cases that resolved. Much of our work has been alongside the ad hoc lender group, where we have operated with more than 90 private credit clients (most of them hedge funds and credit funds) in the situations similar to those described above: various challenging situations: a position that has turned, an operating plan that has to be built from the ground up, a recovery that depends on execution once the financial engineering is spent. The observations in this piece and the diagnostics we use in the field come out of that work.

We look at whether the exercise cut leverage against a realistic enterprise value or only reallocated it among lenders, at leverage against the asset base, whether the decline is structural or cyclical, the liquidity runway, maturity and covenant pressure, the cash-interest burden, at undigested acquisitions, and whether the borrower has restructured before. No single attribute decides the outcome on its own. The failures tend to be a preponderance, with the median name carrying five of these eight at once. Scored early, the profile gives a lender a clear read on whether the exercise is likely to sustain, while there is still room to influence what happens next.

Private credit workout checklist: 10 recommendations for lenders facing distress

Drawing on our work at the top of the capital structure, we advise lender clients to take an active role in managing exposure to a name that is turning. What follows is a list of 10 actions, drawn from resolved cases, covering every stage of managing a turning loan, from early triage to out-of-court resolution.

These are operating questions as much as financial ones. They sit outside what a credit mandate is built to answer, which is why they tend to get settled under pressure. They matter most at the moment a lender moves from creditor to owner.