PIK Is Whispering. Are You Listening?
And How AI Can Help You Detect Stress Signals Before the Write-Downs Hit
What’s compounding faster than private credit loan balances? Concerns about PIK interest.
At first glance, Payment-in-Kind (PIK) interest seems like a great tool. Instead of paying cash, borrowers simply add the interest to the principal balance. No cash changes hands. The lender books interest income. Fund NAV goes up.
Let me give you an example: a borrower takes a $100,000 loan at 10% interest. Instead of paying $10,000 in cash at year-end, the loan balance rolls to $110,000. The loan appears current, and the lender recognizes $10,000 in income (helpful for optics, less so if the lender is a BDC and needs to distribute real cash to investors, but I digress).
There are plenty of use cases where PIK is a great solution: e.g. in construction loans secured by real estate, or growth-stage deals where cash burn is expected. But not all PIK is created equal.
So I borrowed a term from Lincoln International and started thinking of PIK in two buckets:
Good PIK — the right fit for the deal economics.
Bad PIK — a red flag. Usually reactive, emerging when the borrower’s cash flow is stressed and cash interest is no longer sustainable.
Of course, private credit being opaque as it is, you as an investor are not handed a clear breakdown of which is which. You’re left to dig through reams of financial reports and compare notes from quarter to quarter.
But don’t despair just yet - I have a solution.
Hello Darkness Pluralsight, My Old Friend
I decided to see if AI could help me spot PIK patterns in financials of a randomly selected public BDC. Within 20 minutes, this name showed up in my results:
Pluralsight. Yep, the same Pluralsight I wrote about last year. It’s back from the dead - and still features PIK.
This is where I will take you on a short diversion and tell you a story, in case you forgot.
➡️ In 2021, Vista Equity Partners took Pluralsight private in a $3.5 billion deal backed by $1.5 billion in debt. The debt was extended based on very optimistic growth projections. But Pluralsight’s growth stalled, and it never generated the cash flow needed to service the loans.
➡️ By 2023, Vista was asking lenders for covenant relief. Over time, Payment-in-Kind interest and maturity extensions masked the growing distress, even as Vista marked its equity to zero. Lenders, meanwhile, showed wildly inconsistent valuations—Golub still marked the loan at 97 cents, while Blue Owl dropped it to the low 80s.
➡️ In early 2024, Pluralsight triggered a restructuring by moving key intellectual property (IP) — the company’s most valuable asset — into a non-guarantor subsidiary to raise $170 million in new debt, $50 million of which came from Vista itself.
❗️This “drop-down” maneuver (similar to the story of J. Crew restructuring) caught lenders off guard and weakened their collateral position. The lending group (including Ares, Blue Owl, Franklin Templeton, and others) negotiated a deal to convert $1.2 billion of debt into equity, injected $275 million in fresh capital, and effectively took control of the company.
(For those curious, Vista Partners lost something to the tune of $4 billion on this deal).
But enough about Pluralsight—let’s talk about the tool that surfaced it.
I fed several quarters of fund financials into an AI model and asked it to flag any investments with PIK interest. Then I had it run quarter-over-quarter comparisons and generate a report (see below).
Today, I’ll walk you through why tracking PIK interest should be table stakes for LPs, and how to use AI to do it at scale.
(I’ll also share the prompt and workflow I used to generate the report below. You can copy, adapt, and start using it today).
