Persistent pestilence: parsing PE’s ‘zombie’ problem

December 2026  |  COVER STORY | PRIVATE EQUITY

Financier Worldwide Magazine

December 2026 Issue

Pervading private equity (PE) like a plague and seemingly unable to die, zombie companies represent a significant drain on economies across the globe – a financial pestilence that is persistent and multiplying.

While there is no formal definition, a zombie company is generally understood to be a mature, heavily indebted business that generates just enough cash to continue operating. Though able to service the interest on its debt, such a company cannot realistically repay its principal borrowings or invest meaningfully in future growth.

Like a creeping plague, these companies become moribund, avoiding corporate death by relying on banks to roll over loans, governments to provide support or lenders to extend inexpensive credit. In effect, they remain on financial life support indefinitely.

Zombies in the US

In the US, where PE is a major force within the financial system, zombie companies are particularly prevalent. They form part of an extensive liquidity logjam that has left the industry sitting on an estimated $3.8 trillion in unrealised value trapped within thousands of unsold portfolio companies and ageing zombie funds.

According to PitchBook, of the 13,509 companies backed by US PE firms, approximately 33.8 percent have exceeded the traditional five-to-seven-year exit window. That translates into nearly 4600 PE-backed zombie companies, representing more than $860bn in buyout net asset value, many of which have not completed a single deal, exit or refinancing since the end of 2021.

Their numbers may continue to grow. According to Coller Capital’s 2026 ‘Global Private Capital Barometer’, more than half of limited partners (LPs) (54 percent) expect the number of zombie funds in their portfolios to increase over the next two years.

Despite this, such businesses can be difficult to identify.

“For an outsider, it can be nearly impossible to spot a zombie company,” suggests Rami Cassis, principal and founder of Parabellum Investments. “Funds report valuations periodically, and these are assets for which there often is not a liquid market.

“There is also undeniable conflict in the process, because a general partner (GP) does not want to damage their ability to raise the next fund,” he continues. “I would not say, though, that valuations are deliberately inflated; rather, the current structure has a bias toward more optimistic reporting.”

These companies are not necessarily failing businesses. “In many cases, it is an operationally sound company trapped in a bad capital structure and simply part of a broader problem: PE funds struggling, or reluctant, to exit,” adds Mr Cassis.

Anatomy of a zombie

As the name suggests, a zombie company is not truly alive. Unproductive or ‘undead’, these businesses emerge for a variety of reasons, presenting a complex challenge for GPs.

According to Cliffe Dekker Hofmeyr’s 2025 analysis, ‘Why PE’s zombie companies persist and how to revive them’, several factors contribute to their survival.

One of the most important is the reluctance to realise losses. Publicly acknowledging a failed investment through liquidation or deep restructuring may require sponsors to crystallise significant losses, affecting fund performance metrics and potentially making future fundraising more difficult. As a result, there is often an incentive to delay difficult decisions in the hope that conditions improve.

“Amid changing interest rates and growing valuation gaps, the holding period of a portfolio company has grown,” asserts Mr Cassis. “Swathes of these companies were acquired in a period of low borrowing costs, and often with substantial leverage. Now, interest rates have risen, valuation multiples have fallen and the economics of the original transaction just do not work.

“GPs are often wary of realising such losses, because there is little incentive for them to do so,” he continues. “A GP’s ability to raise the next fund depends on the performance of current and previous funds – crystallising a loss can have serious knock-on effects, so the temptation is to buy time wherever possible.”

Another factor is the growing use of refinancing and amendment strategies that postpone a reckoning without necessarily addressing the underlying problem. Debt maturities can be extended, payment schedules revised and covenant terms adjusted, providing breathing space for both lenders and sponsors.

While these measures may prove valuable for fundamentally healthy businesses facing temporary challenges, they can also allow weak performers to remain in portfolios for years longer than originally anticipated. In some instances, management teams spend more time negotiating capital structures than pursuing operational improvements or growth initiatives.

Reputational considerations can also influence decision making. Liquidating a business carries a significant stigma and can damage a PE firm’s standing in the market. Investors, lenders and prospective LPs may view such an outcome as evidence of poor investment selection, inadequate portfolio support or ineffective management.

A shortage of liquidity can compound the problem. In difficult markets, an unsuccessful sale process can leave a lasting mark on an asset. Once a failed sale becomes known, a company may become even harder to sell, encouraging firms to retain ownership and wait for more favourable market conditions.

“It is a systemic liquidity and credibility challenge for the asset class,” says Jason Goldman, co-managing partner of Davis Goldman. “It is driven fundamentally by the interest rate environment. Acquisitions were made at peak multiples in 2020-21 when debt was cheap and exits were underwritten assuming low rates would continue.”

The complexity of modern buyout structures can further prolong the lifespan of zombie companies. Many transactions are supported by substantial leverage, and unwinding intricate debt and equity arrangements can be expensive, time consuming and operationally disruptive. For underperforming businesses, restructuring efforts may also place strain on relationships with lenders and other stakeholders.

“PE portfolios lack public disclosure requirements,” explains Mr Goldman. “Sponsors are incentivised to maintain the appearance of health, often using financial audit footnotes and adjustments to help obscure underlying financial performance. If the business model only works at 2021 rates and the sponsor burned through extension options or initial refinancing, that is a zombie.”

Zombie impacts

Zombie companies can exert a drag on economic performance at both company and economy-wide level, highlighting the need for stronger lending disciplines and more rigorous due diligence.

Within PE, GPs may continue to collect annual management fees on ageing assets, creating potential misalignment between managers and investors. When capital remains trapped, LPs receive fewer distributions and become less willing or able to commit capital to new funds. This, in turn, contributes to weaker fundraising and greater reliance on continuation vehicles and other liquidity solutions.

The effects can also be seen in M&A activity. Businesses that might otherwise become attractive acquisition targets can remain trapped in PE portfolios, limiting deal flow and reducing opportunities for strategic buyers. Corporate management teams often report frustration when competitors continue operating despite weak fundamentals, supported by lenders or sponsors unwilling to crystallise losses. Prolonged stagnation can distort market signals, making it harder for investors to distinguish genuinely resilient companies from those surviving largely because fresh financing remains available on terms that may not reflect underlying performance.

“When debt was cheap, many PE-backed financings were documented with fewer maintenance covenants that gave GPs more ways to avoid technical defaults,” says Mr Goldman. “In a traditional covenant-heavy structure, lenders can intervene earlier, negotiate amendments and impose operational improvements and sponsor capital injections before things become critical. With covenant-lite loans, everyone waits until the maturity wall, when fewer options exist.”

Beyond PE, zombie companies can absorb human, physical and financial capital that might otherwise flow toward more productive enterprises. By competing aggressively for credit, customers or talent, they can squeeze margins and restrict the growth of healthier businesses. In the event of a credit shock, distress can spread through debt markets, regional banks and local labour markets.

“Lenders will likely reintroduce stronger covenants, and PE sponsors will face more diligence on refinancing risk,” predicts Mr Goldman. “We may see a regulatory or legislative push for increased private credit transparency and reporting, as well as covenant requirements for private credit lending. The idea will be to decrease systemic risk and increase visibility for regulators.”

Zombie concentrations

According to PitchBook, ageing and unsold portfolio companies are concentrated most heavily in software and technology sectors, along with other industries that experienced elevated valuations and intense deal activity between 2018 and 2022.

Healthcare and biotechnology have also seen growing numbers of zombie companies, driven by rising operating costs and inconsistent funding conditions. Manufacturing and retail remain historically vulnerable owing to high fixed costs, intense competition and the legacy of debt accumulated during periods of low interest rates.

Consumer-facing industries also warrant attention. Businesses operating in discretionary spending categories often face fluctuating demand, rising labour costs and shifting customer preferences, creating conditions that can expose weaknesses in highly leveraged capital structures. Companies that expanded aggressively during periods of abundant financing may find themselves carrying debt burdens that become harder to support once growth slows. Transport, logistics and certain business services segments can face similar pressures, particularly where margins are thin and profitability depends heavily on economic conditions that remain outside management’s direct control.

Real estate is another area of concern. Identified by Kearney as one of the most heavily zombified sectors globally, real estate funds often continue beyond their planned lifespan because property values have fallen and buyers refuse to meet previous pricing expectations. “Real estate is a particular concern because valuations move inversely to interest rates, which means challenges multiply when rates increase,” says Mr Goldman.

Mining, quarrying and oil and gas extraction have also long exhibited relatively high concentrations of financially distressed, capital-intensive businesses.

“The most vulnerable sectors are those where we see high acquisition multiples, significant leverage and increased financing costs,” says Mr Cassis. “Commercial real estate provides a good example, because higher interest rates can hit both sides of the equation at the same time.

“Another interesting example is the technology and software sector,” he continues. “Businesses were acquired at high multiples based on assumptions about recurring revenue and future growth, which now sometimes need to be reassessed given the pace of technological change.”

Despatching zombies

Like their counterparts on screen, zombie companies can be remarkably difficult to kill. Ultimately, however, investors must decide whether a business can be revived or whether it should be wound down responsibly.

According to the Coller Capital Barometer, one preferred option is to reduce management fees paid on ageing funds. Another is to reset manager incentives by changing a fund’s economic terms to encourage quicker exits. Some investors may also choose simply to let existing funds run their course.

Secondary transactions are playing an increasingly important role in addressing ageing assets. Through continuation vehicles and GP-led restructurings, investors can choose between retaining exposure to a portfolio company or receiving liquidity. These mechanisms have provided a useful release valve for an industry facing a shortage of traditional exits. They are not without critics, however, particularly where questions arise over valuation, conflicts of interest or the fairness of transaction terms. Greater transparency and stronger governance standards may help increase investor confidence in such solutions.

“It is important to remember that zombie companies continue to operate,” notes Mr Goldman. “They are not bankrupt, they pay employees and they often service interest obligations even if they are not deleveraging. That disincentivises political and regulatory action.

“Markets can provide more direct pressure with lenders granting fewer extensions, demanding tighter covenants and generally being less forgiving,” he continues. “Credit markets may force more teetering businesses into orderly sales or bankruptcy, while aggressive regulation may cause an unwanted chain reaction unless managed in tandem with credit markets more generally.”

Mr Cassis is unconvinced that eliminating all zombie companies should be the objective. “We should not assume they are all hopeless, but instead interrogate whether the underlying business deserves to survive and, if it does, fix the capital structure,” he contends. “There will be companies that fail on the viable business test, and in these cases, fresh capital is not the answer.”

At some point, however, GPs will have to recognise losses through an exit, restructuring or closure. “The objective, therefore, should not be to eliminate all zombie companies,” opines Mr Cassis. “It should be to make it easier and quicker to distinguish those that would benefit from restructuring from those that would not.”

Zombies in 2027

With no obvious solution in sight, containment appears to be the prevailing strategy. While this approach may limit the growth of heavily indebted firms within PE portfolios, it risks prolonging wider economic inefficiencies.

“GPs cannot postpone the inevitable forever, so we will see situations where lenders effectively take control of businesses from their existing equity owners,” foresees Mr Cassis. “In many cases, these failures may be part of the solution – giving businesses a new opportunity to generate an adequate return or free up capital that can be redeployed into more productive companies.”

Future developments may depend heavily on the direction of interest rates. While US monetary policy remains uncertain, Citigroup has pushed back its forecast for the next Federal Reserve rate cut to June 2027. Abandoning its previous call for cuts in October and December 2026 and January 2027, Citigroup now expects 25-basis-point reductions in June, September and December 2027.

“There may be a cliff approaching in 2027 for zombies that have run out of runway,” says Mr Goldman. “Credit markets may take a harsher view of what companies are viable versus simply delaying the inevitable. If interest rates do not decrease, there may be a wave of distressed M&A, restructurings and liquidations.”

PE’s zombie problem, however, is unlikely to be resolved through economic recovery or Federal Reserve rate cuts alone. The industry’s vast pool of unrealised value, ageing portfolio companies and continuing liquidity pressures suggest the challenge will remain a defining feature of PE for years to come.

© Financier Worldwide

BY

Fraser Tennant