The First Brands & Tricolor Bankruptcies and Their Implications for Private Credit Investing

October 2025 

Key Takeaways 

The recent failures of First Brands Group and Tricolor Holdings in September have spotlighted structural  and underwriting weaknesses across parts of the private-credit ecosystem. While each collapse  involved company-specific issues such as accounting irregularities, leverage, and opaque off–balance sheet financing, the ripple effects have been broader. Valuations have been repriced and allocators  began questioning concentration risk and underwriting discipline. 

These events highlight two key lessons for allocators: 

1. Smaller managers with focused strategies, alignment, and local expertise can have an edge over  asset-gathering giants. 

2. Diversification, both across managers and strategies, remains the most effective way to manage  risk much like asset allocation principles in public markets. 

Background: What Happened 

• Tricolor Holdings (subprime auto finance): Filed for Chapter 7 bankruptcy in mid-September  after losing access to funding lines. The company’s collapse left large loan pools and collateral  stranded, with early reports of misrepresented data and poor risk controls. 

• First Brands Group (auto parts manufacturer): Entered Chapter 11 later the same month amid  revelations of hidden liabilities and off–balance-sheet obligations that left lenders unexpectedly  exposed. 

These bankruptcies exposed weaknesses in due diligence, monitoring, and transparency within certain  credit structures particularly in vehicles where private loans were re-packaged or securitized. Regulators  and market participants are now re-examining leverage, covenant erosion, and concentration across the  private-credit market. 

Impact to Private Credit Investors 

• Direct Exposure: Funds holding loans or asset-backed notes linked to these issuers faced NAV  declines and limited liquidity. 

• Counterparty and Conduit Risk: Warehouse lenders, CLOs, and credit conduits with exposure  to related sectors experienced repricing and stress.

• Repricing of Risk Premiums: Lenders are demanding wider spreads and stronger covenants,  temporarily slowing new originations and forcing managers to re-underwrite existing portfolios. 

Why Smaller Managers Can Have an Advantage 

Smaller, specialist credit managers often operate in segments where information asymmetry and  relationship-driven sourcing still matter. Their advantages are particularly clear when compared with the  asset-gathering dynamics now driving many of the industry’s largest players. 

• Focused Origination & Local Knowledge: Smaller managers typically focus on defined niches such as regional equipment finance, healthcare lending, or lower-middle-market sponsor deals.  This allows for deeper due diligence and faster identification of early warning signals. 

• Alignment & Co-Investment: Many boutique managers commit personal capital alongside LPs,  ensuring alignment and reinforcing disciplined underwriting standards. 

• Flexibility in Workouts: With leaner teams and fewer bureaucratic hurdles, smaller managers  can act decisively in restructurings and amend and extend negotiations. 

• Avoiding the “Asset-Gathering Trap”: Large private-credit platforms are increasingly forced to  deploy capital quickly to avoid dilution of returns and meet fundraising targets. This dynamic  has led to: 

  • Participation in highly competitive syndicated deals with compressed spreads and  weakened covenants 

  • Deterioration of credit quality as these firms chase scale rather than selectivity 

  • Self-cannibalization, as they end up lending into the same deals and crowding one  another out, eroding returns across their own portfolios 

In contrast, smaller managers can stay selective, walk away from marginal risk, and maintain pricing  power within specialized lending verticals. 

The Power of Diversification - Applying Public Market Allocation Lessons to Private  Credit 

Private credit investors can borrow several proven concepts from public market portfolio construction: 

• Manager Diversification: Avoid overexposure to a single manager or investment process. Blend  large institutional managers with smaller, specialized ones for differentiated sourcing. 

• Strategy Diversification: Balance direct lending, asset-backed finance, opportunistic credit,  and distressed strategies. Uncorrelated credit cycles provide smoother overall returns. 

• Vintage Diversification: Deploy capital across multiple vintages to manage timing risk and  reduce exposure to one market regime’s underwriting standards.

• Risk-Budgeting and Correlation Awareness: Limit aggregate exposure to correlated sectors  (e.g., subprime auto and consumer receivables). 

The logic mirrors public markets. Diversification doesn’t eliminate losses, but it dampens drawdowns  and accelerates recovery. The failures of First Brands and Tricolor illustrate why portfolios built around a  single manager are more vulnerable to market shocks. 

Contagion Risk: Contained but Revealing 

While the bankruptcies of Tricolor Holdings and First Brands Group appear idiosyncratic, they have  reignited concerns about contagion risk in private credit. In traditional banking crises, losses cascade  through interconnected balance sheets. In private credit, contagion is transmitted through sentiment,  redemption pressures, and risk repricing among funds exposed to similar structures or underwriting  practices. 

The direct impact appears limited to a few large banks and asset managers. Yet the indirect  consequences are meaningful and warrant attention: 

• Tighter lending standards as managers reassess underwriting practices and borrower quality. 

• Wider spreads for lower-quality or sub-sponsor borrowers, reflecting a repricing of perceived  risk. 

• Renewed scrutiny of covenant protection, especially in competitive direct-lending structures. 

• Heightened investor caution, leading to slower capital deployment and selective deal  participation. 

• Potential liquidity pressure on managers offering redemption-based vehicles or leverage dependent funds. 

In this context, contagion is psychological as much as it is financial, spreading through shifts in risk  perception rather than a surge of actual defaults. These bankruptcies remind investors that contagion  risk in private markets is best managed through: 

• Diversification across sectors, borrowers, and structures to prevent correlated losses.

• Disciplined manager selection, emphasizing underwriting rigor and transparency. 

• Smaller, focused managers who are less driven by asset-gathering pressures and more  selective in deal origination. 

The resulting resilience helps prevent localized failures from becoming systemic. In short, the contagion  from Tricolor and First Brands is not, as of now, systemic but instructive. It reveals that the greatest  systemic protection in private credit remains selectivity, diversification, and discipline. 

Recommendations for Allocators

• Reassess Exposure: Map direct and indirect holdings tied to at-risk sectors such as consumer  credit, auto lending, and industrial manufacturing. 

• Demand Transparency: Require quarterly loan-level reporting, third-party audits, and collateral  verification. 

• Reward Alignment: Favor managers with material personal capital at risk and independent  credit committees. 

• Build a Diversified Private Credit “Core-Satellite” Portfolio: 

  • Core: Stable senior direct-lending or asset-backed exposure from established  managers. 

  • Satellites: Higher-return, niche specialty credit managed by smaller, expert boutiques. 

Conclusion 

The bankruptcies of Tricolor and First Brands are unlikely to derail the private credit market’s growth  trajectory, but they serve as an important checkpoint. It underscores that even a maturing asset class  like private credit is not immune to cycles of excess and complacency. In pursuit of scale, some of the  largest platforms have begun to resemble the public markets they sought to replace by prioritizing AUM  growth over selectivity and underwriting discipline. 

Allocators who diversify across managers, strategies, and vintages and who deliberately include smaller,  specialized credit firms will be better positioned to capture the asset class’s structural yield premium  without inheriting its concentration and covenant risk. As in public markets, portfolio construction is the  ultimate risk mitigant. 

About Divergent Capital Asset Management 

Divergent Capital Asset Management helps RIAs and family offices access and build customized  portfolios of private market investments including private credit, private equity, venture capital, and real  estate. The firm provides institutional-quality infrastructure for sourcing, structuring, and managing  alternative investments. They handle everything from due diligence to administration, allowing advisors  to offer branded, turnkey private market solutions. Divergent’s platform bridges the gap between  institutional access and independent advisor needs. 

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