Earnings Up, Cash Flow Down: A Warning Sign

Private credit borrowers have demonstrated robust earnings growth over the past two years, with EBITDA increasing by 27% through the first quarter of 2026. Despite these strong earnings, the cash generated from business operations has lagged significantly, rising by only 8% during the same period. This indicates a decline in how efficiently companies convert their earnings into usable cash.

The median ratio of operating cash flow to EBITDA has decreased from 33% two years ago to 21%. This suggests that a larger portion of earnings is being consumed by debt servicing and working capital needs, leaving less liquidity. Consequently, approximately 48% of borrowers in the analyzed dataset reported negative operating cash flow, a notable increase from 39% two years prior, highlighting a common characteristic of stressed credits.

Furthermore, the ability of these companies to service their debt has been impacted. While the EBITDA-based interest coverage ratio stood at a median of 1.6x, the ratio based on operating cash flow dropped to a mere 0.3x. This suggests that many borrowers have minimal cash remaining after meeting their debt obligations, leaving little buffer for unforeseen challenges.

This cash crunch restricts companies' ability to invest in upgrades, expansion, or acquisitions. To cope, many are resorting to drawing on credit lines, seeking equity injections from private equity sponsors, or negotiating covenant relief. However, Kroll Bond Rating Agency warns these measures offer only temporary solutions, as capital has become more selective, particularly for companies with impaired equity value or poor exit visibility.