bdc surveys - morrison & foerster · based upon allocable portion (subject to review by bdc’s...

BDC SURVEYS AND OTHER RESOURCES

BDC Surveys and Related Resources

TABLE OF CONTENTS

Business Development Companies Infographic ............................................ 3

Chart of BDC Adviser Fees ........................................................................... 4

Chart of BDC Administration Agreements ................................................... 8

Section 12(d)(1) and Business Development Companies Morrison & Foerster Client Alert .................................................................16

Acquired Fund Fee Expenses and Business Development Companies Morrison & Foerster Client Alert ................................................................ 20

Impact of DOL’s Final Rule on Business Development Companies Morrison & Foerster Client Alert ................................................................ 23

Shelf Offerings by Business Development Companies Morrison & Foerster Practice Pointers ...................................................... 25

Developments in Unitranche Financing (2016) Practical Law Company ............................................................................. 29

Frequently Asked Questions about Business Development Companies ..... 37

Survey of BDC IPO Underwriting Discounts (As of November 30, 2016) ......................................................................... 54

Historical BDC IPOs (March 20, 2015 to November 30, 2016) .................. 56

Business Development Companies Practice ............................................... 58


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CHART OF BDC ADVISER FEES: The chart below summarizes the adviser fee structures for a representative sampling of BDCs based on filings made with the SEC through November 30, 2016. The BDCs are listed in reverse chronological order based on the date of their respective IPOs. All of the BDCs listed are traded on an exchange. Those BDCs shaded in green are BDCs that have amended their adviser fee structures since May 31, 2014.

Base Management Fee Incentive Fee

Company Name IPO Date Advisor % of Gross Assets

Excludes Cash and Cash Equivalents?

Fee Based on % of Net Investment Income

Deferred Interest Payments Relating to PIK or OID

Hurdle Rate (annualized, except as noted)

Catch-Up Rate (annualized, except as noted)

Look-Back Feature/Total Return Requirement

Fee Based on % of Capital Gains

Goldman Sachs BDC, Inc.

3/17/15 Goldman Sachs Asset Management, L.P. 1.5% Yes 20.0% No 7.0% 8.75% Yes 20.0%

TPG Specialty Lending, Inc.

3/20/14 TSL Advisers, LLC 1.5% No 17.5% Yes 6.0% 7.28% No 17.5%

TriplePoint Venture Growth BDC Corp.

3/5/14 TPVG Advisers LLC 1.75% No 20.0% No 8.0% 10.0% Yes 20.0%

CM Finance Inc. 2/5/14 CM Investment Partners, LLC 1.75% Yes 20.0%

Yes, but only if cash actually received

8.0% 10.0% Yes 20.0%

Capitala Finance Corp.

9/24/13 Capitala Investment Advisors, LLC 1.75% Yes, but only for

first year 20.0% Yes 8.0% 10.0% No 20.0%

Fifth Street Senior Floating Rate Corp.

7/11/13 Fifth Street Management LLC 1.0% Yes 20.0% Yes 6.0%

10.0% (only applies to 50% of income)

No 20.0%

Harvest Capital Credit Corporation

5/2/13 HCAP Advisors LLC

2.0% on assets up to and including $350 million, 1.75% on assets above $350 million and up to and including $1 billion, and 1.50% on assets over $1 billion

Yes 20.0% Yes 8.0% 10.0% Yes 20.0%


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Garrison Capital Inc.

3/26/13 (fee structure revised on 5/6/14)

Garrison Capital Advisers LLC 1.75% Yes 20.0%1

Only if cash is actually received

8.0% 10.0% Yes 20.0%

WhiteHorse Finance, Inc.

12/10/12 H.I.G. WhiteHorse Advisers, LLC 2.0% No 20.0%2


7.0% 8.75% Yes 20.0%

Stellus Capital Investment Corporation

11/13/12 Stellus Capital Management, LLC 1.75% Yes 20.0%


8.0% 10.0% Yes 20.0%

OFS Capital Corporation

11/7/12 OFS Capital Management, LLC 1.75% Yes 20.0% No 8.0% 10.0% No 20.0%

Monroe Capital Corporation

10/24/12 Monroe Capital BDC Advisors, LLC 1.75% Yes, but only

cash 20.0% No 8.0% 10.0% Yes 20.0%

TCP Capital Corp. 4/3/12 Tennenbaum Capital Partners, LLC 1.5% Yes 20.0% Yes 8.0% 10.0% Yes 20.0%3

Fidus Investment Corporation

6/20/11 Fidus Investment Advisors, LLC 1.75% Yes 20.0% No 8.0% 10.0% No 20.0%

New Mountain Finance Corporation

5/19/11 New Mountain Finance Advisers BDC, L.L.C.

1.75% Yes 20.0% Yes 8.0% 10.0% No 20.0%

1 Deferral mechanism for incentive fee. 2 Deferral mechanism for incentive fee. 3 Capital gains portion of incentive fee subject to total return requirement.


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GSV Capital Corp.

4/28/11 (fee structure amended on 3/8/13)

GSV Asset Management LLC 2.0% No 20.0% Yes 8.0% 10.0% No 20.0%

Medley Capital Corporation

1/20/11 (fee structure amended on 12/12/13 and 2/8/16)

MCC Advisors LLC

1.75% on assets up to $1 billion and 1.50% on assets over $1 billion

No 20.0% No

1.50% multiplied by NAV (not annualized)

1.8182% multiplied by net assets (not annualized)

Yes 20.0%

Horizon Technology Finance Corporation


Horizon Technology Finance Management LLC

2.0% Yes 20.0% Yes 7.0% 8.75% Yes 20.0%

Great Elm Capital Corp. (formerly Full Circle Capital Corporation )


Great Elm Capital Management, Inc. 1.5% No 20.0% No 7.0% 8.75% No 20.0%

THL Credit, Inc. 04/21/10 THL Credit Advisors LLC 1.5% No 20.0% Yes 8.0% 10.0% Yes 20.0%

Golub Capital BDC LLC


GC Advisors LLC 1.375% Yes 20.0% No 8.0% 10.0% Yes 20.0%

Solar Capital Ltd. 2/9/10 Solar Capital partners, LLC 2.0% No 20.0% Yes 7.0% 8.75% No 20.0%

Fifth Street Finance Corp.

6/11/08 (fee structure amended on 5/4/11 and 1/19/16)

Fifth Street Management LLC 1.75% Yes 20.0% Yes 8.0% 10.0% No 20.0%


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BlackRock Kelso Capital Corporation

6/26/07 BlackRock Financial Management 2.0% No 20.0% No 8.0% N/A Yes 20.0%

PennantPark Investment Corporation

4/19/07 PennantPark Investment Advisers, LLC

2.0% No 20.0% No 7.0% 8.75% No 20.0%

Prospect Capital Corporation

7/27/04 Prospect Capital Management LLC 2.0% No 20.0% No 7.0% 8.75% No 20.0%

Apollo Investment Corporation


Apollo Management, L.P. 2.0% No 20.0% Yes 7.0% 8.75% No 20.0%


| PAGE 8

CHART OF BDC ADMINISTRATION AGREEMENTS: The chart below summarizes the administration agreements for a representative sampling of BDCs based on filings made with the SEC through November 30, 2016. The BDCs are listed in reverse chronological order based on the date of their respective IPOs. All of the BDCs have their equity securities listed on an exchange.

Company Name

IPO Date

Administrative Agent Types of Administrative Services Managerial

Services Compensation/Allocation of Costs and Expenses Indemnification

Goldman Sachs BDC, Inc.

3/17/15 State Street Bank and Trust Company

Various accounting and administrative services Can delegate services

No Compensation to be agreed to from time to time Reimbursement for reasonable out-of-pocket costs

Yes (except for negligence, bad faith or willful misconduct)


3/20/14 TSL Advisers, LLC (adviser)

Providing office space, equipment and office services, maintaining financial records, preparing reports to stockholders and reports filed with the SEC, and managing the payment of expenses and the performance of administrative and professional services rendered by others Can delegate services

No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities Including for outsourcing

Yes (except for willful misfeasance, bad faith, gross negligence, or reckless disregard of duties or obligations)


3/5/14 TPVG Administrator LLC (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Can delegate services

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion (subject to review by BDC’s board of directors) of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs; additional amount based on managerial services provided to portfolio companies, if any, which shall not exceed amount received from such portfolio companies for providing such managerial services Including for outsourcing

Yes (except for criminal conduct, willful misfeasance, bad faith, gross negligence, or reckless disregard of duties or obligations)

CM Finance Inc. 2/5/14 CM Investment Partners, LLC (adviser)


Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion (subject to review by BDC’s board of directors) of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs; additional amount based on managerial services provided to portfolio companies, if any, which shall not exceed amount received from such portfolio companies for providing such managerial services Including for outsourcing

Yes (except for criminal conduct, willful misfeasance, bad faith or gross negligence)


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Company Name

IPO Date



American Capital Senior Floating, Ltd.

1/15/14 American Capital Ltd. (affiliate)4

Administrative services provided by adviser through certain employees of affiliate or parent of adviser to enable adviser to perform its obligations and responsibilities under management agreement Can assign rights and obligations

Yes Certain fees payable by adviser Not specified

Capitala Finance Corp.

9/24/13 Capitala Advisors Corp. (affiliate)5

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Can delegate services; also can provide administrative services to adviser

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs and allocable portion of compensation of any administrative support staff Including for outsourcing

Yes (except for willful misfeasance, bad faith or negligence)


7/11/13 FSC, Inc. (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs

Yes (except for willful misfeasance, bad faith or gross negligence)

Harvest Capital Credit Corporation

5/2/13 JMP Credit Advisors LLC (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Can delegate services

No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs (except that payments required to be made during first year will be capped at $275,000) Including for outsourcing

Yes (except for willful misfeasance, bad faith or negligence)

4 Co-agent is American Capital Asset Management, LLC (parent). 5 Sub-agent is U.S. Bancorp Fund Services, LLC.


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Company Name

IPO Date



Garrison Capital Inc.

3/26/13 Garrison Capital Administrator LLC (affiliate)


Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs Including for outsourcing

Yes (except for willful misfeasance, bad faith, gross negligence or reckless disregard of duties or obligations)

WhiteHorse Finance, Inc.

12/10/12 WhiteHorse Administration (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Can delegate services; also can provide resources for BDC as collateral manager

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO, COO and CCO and their respective staffs Including for outsourcing


Stellus Capital Investment Corporation

11/13/12 Stellus Capital Management, LLC (adviser)


Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: (i) amount based upon allocable portion (subject to review by BDC’s board of directors) of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs; and (ii) additional amount based on managerial services provided to portfolio companies, if any, which shall not exceed amount received from such portfolio companies for providing such managerial services Including for outsourcing



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Company Name

IPO Date



OFS Capital Corporation

11/7/12 OFS Capital Services, LLC (affiliate)

Furnish office facilities and equipment, necessary software licenses and subscriptions, and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Can delegate services

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion (subject to review and approval of BDC’s board of directors) of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of officers, including CEO, CFO, CCO, CAO, if any, and their respective staffs Including for outsourcing


Monroe Capital Corporation

10/24/12

Monroe Capital Management Advisors, LLC (affiliate)


Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion (subject to review and approval of BDC’s board of directors) of overhead in performing obligations, including rent and allocable portion of cost of officers, including CFO and CCO and their respective staffs (amounts payable in any quarter through 12/31/13 will not exceed the greater of (i) 0.375% of average assets for such quarter and (ii) $375,000) Including for outsourcing


TCP Capital Corp.

4/3/12 SVOF/MM, LLC (affiliate)

Provide services including, but not limited to, the arrangement for the services of, and the overseeing of, custodians, depositories, transfer agents, dividend disbursing agents, other stockholder servicing agents, accountants, attorneys, underwriters, brokers and dealers, corporate fiduciaries, insurers, banks, stockholders and such other persons in any such other capacity deemed to be necessary or desirable; prepare reports to BDC’s board of directors of its performance of obligations under the administration agreement and furnish advice and recommendations with respect to such other aspects of BDC’s business and affairs determined to be desirable; also responsible for financial and other records that are required to be maintained and preparing all reports and other materials required by any agreement or to be filed with SEC or any other regulatory authority, including reports on Forms 8-K, 10-Q and periodic reports to stockholders, determining the amounts available for distribution as dividends and distributions to be paid to stockholders, reviewing and implementing any share purchase programs authorized by the BDC’s board of directors and maintaining or overseeing the maintenance of books and records as required under the 1940 Act, and

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations and the cost of certain officers and agent’s administrative staff and providing significant managerial assistance to portfolio companies Including for amounts owed by BDC to third-party providers of goods or services and paid by administrative agent



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Company Name

IPO Date



maintaining (or overseeing maintenance by other persons) such other books and records required by law or for BDC’s proper operation

Fidus Investment Corporation

6/20/11 Fidus Investment Advisors, LLC (adviser)


No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion (subject to review and approval of BDC’s board of directors) of overhead in performing obligations, including rent and allocable portion of cost of officers, including CFO and CCO and their respective staffs Including for outsourcing



5/19/11 (agreement amended on 5/5/15)

New Mountain Finance Administration, L.L.C. (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC, which includes, but is not limited to, providing the services of CFO; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Can delegate services

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent and allocable portion of cost of officers, including CFO and CCO and their respective staffs Including for outsourcing


GSV Capital Corp.


GSV Capital Service Company, LLC (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders and reports and other materials filed with SEC, which includes, but is not limited to, providing the services of CFO; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others Also provide administrative services to adviser

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead and other expenses in performing obligations, including a portion of the rent and compensation of CFO and CCO and any administrative support personnel



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Company Name

IPO Date



Medley Capital Corporation

1/20/11 MCC Advisors LLC (adviser) Provide administrative services, facilities and personnel No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: allocable portion of overhead and other expenses incurred in performing obligations, including rent and allocable portion of cost of certain officers and their respective staffs Including for amounts owed by BDC to third-party providers of goods or services and paid by administrative agent



10/28/10

Horizon Technology Finance Management LLC (adviser)

Provide administrative services, facilities and personnel No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of costs of compensation and related expenses of CFO and CCO and their respective staffs Including for amounts owed by BDC to third-party providers of goods or services and paid by administrative agent


Great Elm Capital Corp. (formerly Full Circle Capital Corporation)

10/31/10 (new agreement signed on 9/27/16)

Great Elm Capital Management, Inc. (adviser)

Provide administrative services, including furnishing BDC with office facilities, equipment, clerical, bookkeeping record keeping services and other administrative services

No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead and other expenses in performing its obligations Except that aggregate amount of expenses accrued for reimbursement that pertain to direct compensation costs of financial, compliance and accounting personnel that perform services for BDC, inclusive of fees charged by any sub-administrator to provide such financial, compliance and/or accounting personnel to BDC, during the year ending 11/4/17 shall not exceed 0.50% of BDC’s average NAV during such period


THL Credit, Inc. 04/21/10 THL Credit Advisors LLC (adviser)

Provide administrative services, facilities and personnel Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: allocable portion of overhead and other expenses incurred in performing obligations, including rent and allocable portion of cost of certain officers and their respective staffs



| PAGE 14

Company Name

IPO Date



Golub Capital BDC LLC

4/14/10 Golub Capital LLC (affiliate)

Provide administrative services, facilities and personnel Can delegate services

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: (i) amount based upon allocable portion (subject to review and approval of BDC’s board of directors) of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs; and (ii) additional amount based on managerial services provided to portfolio companies, if any, which shall not exceed amount received from such portfolio companies for providing such managerial services Including for outsourcing


Solar Capital Ltd.


Solar Capital Management, LLC (affiliate)

Furnish office facilities and equipment and provide clerical, bookkeeping, recordkeeping and other administrative services, including responsibility for financial and other records required to be maintained and preparing reports to stockholders; in addition, assist with determining and publishing NAV, overseeing preparation and filing of tax returns and printing and dissemination of reports and other materials to stockholders, and overseeing payment of expenses and performance of administrative and professional services rendered by others

Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of compensation of CFO and any administrative support staff


Fifth Street Finance Corp.


FSC CT LLC (affiliate)


Yes



BlackRock Kelso Capital Corporation

6/26/07

BlackRock Financial Management, Inc. (affiliate)

Provide administrative services, facilities and personnel No

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead and other expenses in performing obligations, including rent and allocable portion of cost of certain officers and their respective staffs



| PAGE 15

Company Name

IPO Date




4/19/07

PennantPark Investment Administration, LLC (affiliate)


Yes

Reimbursement for costs and expenses incurred in performing obligations and providing personnel and facilities, which include, but are not limited to: amount based upon allocable portion of overhead in performing obligations, including rent, fees and expenses associated with performing compliance functions and allocable portion of cost of CFO and CCO and their respective staffs Including for outsourcing

Yes (except for willful misfeasance, bad faith, negligence, or reckless disregard of duties or obligations)

Prospect Capital Corporation

7/27/04 Prospect Administration, LLC (affiliate)


Yes


Yes (except for willful misfeasance, bad faith, negligence, or reckless disregard of duties or obligations)

Apollo Investment Corporation


Apollo Investment Administration, LLC (affiliate)


Yes



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Client Alert August 4, 2016

Section 12(d)(1) and Business Development Companies

By Kelley Howes

Business development companies (BDCs), which provide a growing and important alternative source of capital to

smaller companies, face challenges raising money due to a quirk in the federal securities laws that limits how

much mutual funds can invest in them. But if BDCs, mutual funds, ETFs, and other participants in the capital

markets raise their voices, there is some hope that the Securities and Exchange Commission can ease the

restriction so that BDCs can fulfill their statutory mission of raising capital for smaller companies that cannot

otherwise find bank financing.

As investment companies, BDCs are subject to certain provisions of the Investment Company Act of 1940 (the

“1940 Act”) including the limitations in Section 12(d)(1) of the 1940 Act. Among other things, this section limits the

ability of other registered investment companies (including exchange-traded funds (ETFs) to acquire more than

three percent of a BDC’s total outstanding stock. Given the relatively small size of many BDCs, this meaningfully

restricts their ability to raise money from key institutional investors. Unfortunately, the trickle-down effect of this

restriction limits the ability of BDCs to use their capital to provide small and middle market businesses the ability

to continue to develop and grow.

It may be time for the Securities and Exchange Commission (the SEC)—or its staff—to consider rule making or

exemptive relief to address this limitation on the capital markets.

BACKGROUND

BDCs are closed-end investment companies that have elected to be subject to the provisions of Sections 55

through 65 of the 1940 Act.1 BDCs primarily invest in “eligible portfolio companies,” which are domestic issuers

that either (1) do not have any class of securities listed on a national securities exchange or (2) have a class of

equity securities listed on a national securities exchange, but have an aggregate market value of less than $250

million. In recent years, BDCs have increasingly focused on mezzanine and debt investments that generate

current income.

Many BDCs are listed on a national securities exchange. They therefore provide investors with the same liquidity

as any other publicly traded security, but they are held and traded primarily by retail investors. Interestingly, many

BDCs do not have a large institutional shareholder base. This may be attributable, at least in part, to the fact that

Section 12(d)(1) of the 1940 Act limits the ability of registered investment companies, including ETFs, to hold

1 BDCs are subject to many, but not all, of the provisions of the 1940 Act. For more information regarding BDCs and their operations, see our

“Frequently Asked Questions about Business Development Companies,” available at: http://media.mofo.com/files/Uploads/Images/FAQ-Business-Development-Companies.pdf.

http://www.mofo.com/people/h/howes-kelley-a

http://media.mofo.com/files/Uploads/Images/FAQ-Business-Development-Companies.pdf

http://media.mofo.com/files/Uploads/Images/FAQ-Business-Development-Companies.pdf


Client Alert more than three percent of the outstanding shares of another investment company, including a BDC. This

restriction limits the ability of BDCs to raise meaningful amounts of capital from a key participant in the institutional

marketplace and, in turn, restricts the ability of BDCs to use that capital to invest in the small- and middle-market

companies that they serve, to the detriment of such companies, including small, startup businesses.

Policy Concerns

Prior to the enactment of the 1940 Act, individuals could acquire control of a fund and use its assets to acquire

control of the assets of another fund, which, in turn, could use its assets to control a third fund. As a result, a few

individuals effectively could control millions of dollars in shareholder assets invested in various acquired funds

and could influence the investments in such funds for their benefit. Such structures also resulted in the

duplication of fees, which were borne by investors. Section 12(d)(1) of the 1940 Act was precisely designed to

limit the opportunity for such “pyramid” structures or investments in multiple funds.

In order to eliminate the opportunity for pyramid structures or investments, Section 12(d)(1)(A) prohibits a

registered investment company from:

acquiring more than three percent of another investment company’s voting securities;

investing more than five percent of its total assets in any one acquired investment company; or

investing more than ten percent of its total assets in all acquired investment companies.

Since BDCs are closed-end investment companies, the ability of registered investment companies—whether

open-end or closed-end—to invest in BDCs is restricted by the provisions of Section 12(d)(1)(A).

ANALYSIS

BDCs are inappropriately disadvantaged by the restrictions imposed by Section 12(d)(1)(A) on registered funds

that seek to invest in BDCs in order to gain exposure to private companies in the small and middle markets. In

particular, BDCs do not present the kind of policy concerns that the three percent ownership limit is designed to

address because of the statutory and regulatory restrictions already imposed on a BDC’s investment portfolio.

Under Section 55(a) of the 1940 Act, a BDC must generally have at least 70 percent of its total assets in the

following investments:

privately issued securities purchased from issuers that are eligible portfolio companies (or from

certain affiliated persons);

securities of eligible portfolio companies that are controlled by the BDC and of which an affiliated

person of the BDC is a director (a controlling interest is presumed if the BDC owns more than 25

percent of a portfolio company’s voting securities);

privately issued securities of companies subject to a bankruptcy proceeding, reorganization,

insolvency, or similar proceeding or otherwise unable to meet their obligations without

material assistance;


Client Alert cash, cash items, government securities, or high-quality debt securities maturing in one year or

less; and

office furniture and equipment, interests in real estate and leasehold improvements, and facilities

maintained to conduct the business of the BDC.

BDCs are also required to offer eligible portfolio companies “significant managerial assistance,” which may

include operational and management advice or membership on the board of directors of a portfolio company. In

other words, unlike most registered investment companies, BDCs are not passive investors. BDCs operate more

like private equity investors. Moreover, Section 60 of the 1940 Act imposes the restrictions of Section 12 on

BDCs to the same extent as though BDCs were registered closed-end investment companies. Accordingly,

BDCs cannot have significant investments in other registered or unregistered investment companies.2 In other

words, the investment portfolio of a BDC is distinguishable from passive investments made by other investment

companies and the opportunity for pyramid structures or investments does not exist.3

BDCs could, however, provide an opportunity for registered funds to gain exposure to private companies in the

small and middle markets, including SBICs, in the form of a registered security. BDCs are typically registered

under the Securities Act of 1933, as amended, and are subject to all of the registration and reporting requirements

of that statute and the Securities Exchange Act of 1934, as amended. BDCs also are often listed on an exchange

and subject to the exchange’s corporate governance requirements. More importantly, BDCs are closed-end

investment companies and thus are subject to many of the restrictions and requirements of the 1940 Act. These

include limitations on the ability to use leverage, routine reporting requirements, valuation obligations, and the

oversight of a board of directors that includes members that are not “interested persons” (as defined in the 1940

Act) of the BDC or its adviser, if applicable. In addition, the board of directors of a BDC must approve, and the

BDC must implement, a written compliance program reasonably designed to ensure compliance with the federal

securities laws.

In short, acquiring more than three percent of the outstanding voting securities of a BDC does not seem to

present the types of policy concerns that Section 12(d)(1)(A) was designed to address. Indeed, the SEC Staff on

more than one occasion has granted exemptive relief to enable registered funds operating as exchange-traded

funds to invest in BDCs in excess of the three percent limitation.4

In granting such relief, the SEC Staff has imposed conditions designed to address the public policy concerns of

pyramid structures or investments, including oversight by the acquiring investment company’s board of trustees,

limitations on layering fees, adoption of policies regarding proxy voting, limitations on the ability to exercise control

2 BDCs may create wholly owned subsidiaries that operate as “small business investment companies” (SBICs),which rely on an exclusion from

the definition of “investment company” under the 1940 Act. 3 However, the staff (the “SEC Staff”) of the Division of Investment Management of the SEC has granted no-action relief from Sections

2(a)(48) and 55(a) of the 1940 Act to enable a feeder fund to elect to be treated as a BDC notwithstanding the fact that the feeder fund’s investment in the master fund would not be an investment in an eligible portfolio company and the feeder fund would not make significant managerial assistance available to the issuers of securities held by the master fund. Carey Credit Income Fund and Carey Credit Income Fund 2015 T, SEC No-Action Letter (July 15, 2015). 4 See, e.g., In the matter of Global X Funds et al., Rel. No. IC-30454 (Apr. 9, 2013); In the matter of PowerShares Exchange-Traded Fund

Trust et al., Rel. No. 32035 (Mar. 22, 2016). As made applicable to BDCs by Section 60 of the 1940 Act, Section 12(d)(1)(C) of the 1940 Act limits the ability of any investment company (whether registered or not) to acquire more than 10 percent of the total outstanding voting stock of a BDC. However, the exemptive relief granted to date has also provided relief from this limitation.


Client Alert over an underlying BDC, and the requirement for the acquiring fund and the BDC to enter into participation

agreements and provide records to monitor compliance with the provisions of the exemptive relief. These

conditions could, however, be included in a general exemptive rule rather than requiring that investment

companies bear the significant cost and the delay of seeking individual exemptive relief.

CONCLUSION

Over the last several years, recognizing that access to traditional forms of capital has become increasingly

difficult, Congress has moved decisively to help small businesses more easily access the capital markets. The

SEC could do its part by adopting a new exemptive rule under Section 12(d)(1)(A) to enable registered

investment companies (including ETFs) to invest in BDCs in excess of the three percent threshold. Alternatively,

the SEC and the SEC Staff could work with registrants to grant individual exemptive relief. In either event, BDCs

stand ready to use that capital to provide small- and middle-market businesses the ability to continue to develop

and grow.

Contact:

Kelley Howes

(303) 592-2237

[email protected]

Jay Baris

(212) 468-8053

[email protected]

Anna Pinedo

(212) 468-8179

[email protected]

Ze'-ev Eiger

(212) 468-8222

[email protected]

About Morrison & Foerster:

We are Morrison & Foerster—a global firm of exceptional credentials. Our clients include some of the largest

financial institutions, investment banks, Fortune 100, technology and life science companies. We’ve been

included on The American Lawyer’s A-List for 13 straight years, and Fortune named us one of the “100 Best

Companies to Work For.” Our lawyers are committed to achieving innovative and business-minded results for our

clients, while preserving the differences that make us stronger. This is MoFo. Visit us at www.mofo.com.

Because of the generality of this update, the information provided herein may not be applicable in all situations

and should not be acted upon without specific legal advice based on particular situations. Prior results do not

guarantee a similar outcome.

mailto:[email protected]




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1

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Acquired Fund Fee Expenses and Business Development Companies

Background

The requirement of the Securities and Exchange Commission (the “SEC”) for registered open-end funds to disclose “acquired fund fees and expenses” (“AFFE”) of other funds they invest in, including business development companies (“BDCs”), is useful to revisit at this time in light of the recent release of the U.S. Department of Labor’s final fiduciary rule (the “DOL final rule”). The DOL final rule, among other things, prohibits a fiduciary providing investment advice to a plan subject to the Employee Retirement Income Security Act of 1974, as amended (“ERISA”), from causing the fiduciary or any of its affiliates to receive commission or transaction-based compensation unless there is an available exemption. Investments in BDCs are not a restricted asset class under the DOL final rule, and one available exemption is the “best interest contract exemption” (“BICE”). However, the requirements of the BICE limit its practical benefit for investments in BDCs and will likely result in ERISA plans avoiding such investments, whether directly or indirectly through an index.1 This in turn will further reduce the level of institutional ownership in BDCs. The decline of institutional ownership in BDCs, which has contributed to the volatility of BDC stocks, can be traced to the establishment of the AFFE requirement (which we describe in more detail below) and was further exacerbated by the removal of BDCs from the Russell 2000 Index in March 2014.

AFFE Requirement

In June 2006, the SEC adopted amendments to Form N-1A to require any registered open-end fund investing in shares of another fund, including BDCs, to include in its prospectus fee table an additional line item titled “Acquired Fund Fees and Expenses.”2 Under amended Item 3 of Form N-1A, an acquiring fund must aggregate the amount of total annual fund operating expenses of acquired funds (which are indirectly paid by the acquiring fund) and transaction fees (which are directly paid by the acquiring fund over the past year) and express the total amount as a percentage of average net assets of the acquiring fund. The acquiring fund must determine the average invested balance and number of actual days invested in each acquired fund. The acquiring fund also must include in the expense calculation any transaction fee the acquiring fund paid to acquire or dispose of shares of an acquired fund during the past fiscal year (even if it no longer holds shares of the acquired fund).

1 For more information regarding the DOL final rule and the BICE, see our client alert titled “Impact of DOL’s Final Rule on Business Development Companies” (August 1, 2016), available at: http://www.mofo.com/~/media/Files/ClientAlert/2016/08/160801PracticalImpactDOLRule.pdf. 2 See Fund of Funds Investments, Investment Company Act Release No. 27399 (June 20, 2006) (“Fund of Funds Investments Release”), available at: http://www.sec.gov/rules/final/2006/33-8713.pdf.

http://www.mofo.com/~/media/Files/ClientAlert/2016/08/160801PracticalImpactDOLRule.pdf

http://www.sec.gov/rules/final/2006/33-8713.pdf

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SEC Q&As

In June 2007, the staff (the “Staff”) of the SEC’s Division of Investment Management provided guidance, in the form of responses to questions (the “Q&As”), on the AFFE disclosure requirement.3 Although Q&As specifically refer to Item 3 of Form N-1A, the Staff indicated that the responses apply equally to similar items in Form N-2 and Form N-3. Highlights of the Q&As include the following:

AFFE is intended to include the expenses of investments in investment companies, hedge funds, private equity funds, and other entities traditionally considered pooled investment vehicles. Therefore, the Staff would not recommend enforcement action if an acquiring fund does not include in the fee table expenses associated with investments in structured finance vehicles, collateralized debt obligations, or other entities not traditionally considered pooled investment vehicles.

Instruction 3(f)(iv) to Item 3 of Form N-1A provides that the total annual operating expense ratio used for purposes of calculating AFFE is the annualized expense ratio disclosed in the acquired fund’s most recent shareholder report. This expense ratio does not include expenses an acquired fund has incurred through its investment in other companies.

Open-end feeder funds filing on Form N-1A must disclose in their fee tables the aggregate expenses of the feeder fund and the master fund.

The term “most recent” refers to the acquired fund’s shareholder report available at the time the acquiring fund calculates the AFFE. The acquiring fund should use the acquired fund’s required expense ratio presented in the financial highlights table contained in the most recent annual or semi-annual report when the acquiring fund calculates the AFFE. However, if the semi-annual report is the most recent report, the acquiring fund must use an annualized expense ratio.

For the AFFE formula, weekend days should be included in the calculation of the daily expense ratio and the number of days invested in an acquired fund. However, weekend days should not be included in the calculation of the average invested balance.

The amounts invested in an acquired fund are calculated using the value of the investment in the acquired fund as of the measurement date, which would take into account market appreciation (except for money market investments priced at amortized cost). For example, if the acquiring fund calculates average daily investment in a registered open-end fund, the acquiring fund would base the value of that investment on the acquired fund’s net asset value (“NAV”) at the end of each day, which would include any unrealized appreciation or loss with respect to the acquiring fund’s investment.

Fees and expenses associated with investment of cash collateral received in connection with loans of portfolio securities in a money market fund or other cash sweep vehicle that meets the definition of acquired fund do not have to be included in the calculation of AFFE.

Any transaction fees paid in connection with acquiring or disposing of a debt interest in an acquired fund must be included in the calculation of AFFE but not its pro rata portion of the cumulative expenses charged by the acquired fund because these expenses do not impact its debt interest in the acquired fund.

Response of Industry Participants

Since the issuance of the Fund of Funds Investments Release, various industry participants have recommended that the SEC remove or amend the AFFE disclosure requirement with respect to BDCs for two main reasons. First, much like real estate investment trusts (“REITs”) and regional/commercial banks, BDCs are not passive investment companies and instead “operate” a portfolio of financial assets that requires sourcing and managerial

3 See SEC Staff Responses to Questions Regarding Disclosure of Fund of Funds Expenses (last modified May 23, 2007), available at: https://www.sec.gov/divisions/investment/guidance/fundfundfaq.htm.

https://www.sec.gov/divisions/investment/guidance/fundfundfaq.htm

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expertise. Therefore, BDCs should not be treated as funds for purposes of the AFFE disclosure requirement, particularly when their impact on mutual funds and indexes is relatively small. For example, while the estimated impact of BDCs to the Russell 2000 Index was less than 0.10% in 2014, the estimated impact from REITs and regional/commercial banks was approximately 1.19% (= 11.80% average REIT costs as a percentage of equity multiplied by 10.11% equity REIT representation in the Russell 2000 Index) and 1.61% (= 24.30% average regional bank cost as a percentage of equity multiplied by 6.62% regional bank representation in the Russell 2000 Index), respectively. (Source: Bloomberg and Wells Fargo Securities, LLC) Second, the AFFE disclosure requirement results in overstated expense ratios because an acquiring fund’s indirect expenses required to be included in the calculation of AFFE can often be significantly greater than the direct expenses and the expense ratios of BDCs can be extremely high. Furthermore, a BDC’s expenses (1) are similar to the expenses paid by any operating company held by an acquiring fund, (2) are not direct costs paid by the acquiring fund’s shareholders, (3) are not used to calculate the acquiring fund’s NAV, (4) have no impact on the costs associated with the operations of the acquiring fund, and (5) are not included in the acquiring fund’s financial statements, which provide a clearer picture of the acquiring fund’s actual operating costs. At this time, it is not clear whether the SEC will take any action regarding the AFEE disclosure requirement with respect to BDCs.

Author Ze’-ev Eiger New York (212) 468-8222 [email protected]

Contacts Jay Baris New York (212) 468-8053 [email protected]

Kelley Howes Denver (303) 592-2237 [email protected]

About Morrison & Foerster

We are Morrison & Foerster—a global firm of exceptional credentials. Our clients include some of the largest financial institutions, investment banks, Fortune 100, technology and life sciences companies. We’ve been included on The American Lawyer’s A-List for 13 straight years, and Fortune named us one of the “100 Best Companies to Work For.” Our lawyers are committed to achieving innovative and business-minded results for our clients while preserving the differences that make us stronger. This is MoFo. Visit us at www.mofo.com. © 2016 Morrison & Foerster LLP. All rights reserved. For more updates, follow Thinkingcapmarkets, our Twitter feed: www.twitter.com/Thinkingcapmkts.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.





http://www.twitter.com/Thinkingcapmkts

1



Impact of DOL’s Final Rule on Business Development Companies

On April 6, 2016, the U.S. Department of Labor (DOL) released its final rule defining who is a fiduciary in connection with investment advice that is provided to benefit plans subject to the Employee Retirement Income Security Act of 1974, as amended (ERISA). The new rule is currently scheduled to become effective on April 10, 2017. Only employer-sponsored retirement accounts such as 401(k)s, defined benefit plans and certain types of individual retirement accounts (IRAs) are subject to the rule change because these accounts are under the authority of the DOL. Broker-dealers providing services to all other types of investment accounts, including traditional and Roth IRAs, would generally not be deemed fiduciaries, but would remain subject to the suitability requirements set forth in FINRA rules and SEC cases. Investment advisers are deemed fiduciaries with respect to all managed accounts.

Under the current fiduciary standard, a person is considered a fiduciary only if he or she provides investment advice on a regular basis pursuant to a mutual agreement, arrangement or understanding that is the primary basis for investment decisions and is individualized for the particular needs of the retirement investor. Under the new rule, the requirements that the investment advice (i) be given on a regular basis; (ii) be pursuant to a mutual agreement, arrangement or understanding; and (iii) be the primary basis for investment decisions are each removed. The new rule also expands the definition of investment advice to include any communication that could be reasonably viewed as a suggestion that the client take a certain action or refrain from taking a certain action in relation to a security or investment strategy.

A fiduciary under a plan subject to ERISA is required to give investment advice to the client or plan with the care, skill, prudence and diligence under the circumstances then prevailing that a prudent person acting in a like capacity and familiar with such matters would use. A determination that an investment is suitable for a particular client or plan is not sufficient for a fiduciary providing investment advice. Additionally, a fiduciary providing investment advice cannot cause itself or any of its affiliates to receive commission or transaction-based compensation unless there is an available exemption.

Exemptions from the new fiduciary rule include (i) the “seller’s exception” which generally carves out investment advice provided to certain sophisticated clients or professionally managed plans, and (ii) the best interest contract exemption (BICE). The proposed BICE as released in 2015 would have strictly excluded transactions involving securities of business development companies. Following the receipt of over 3,000 comment letters, the DOL’s final rule omitted business development companies as a restricted asset class. While this change technically permits all business development companies (and other asset classes) to continue to be used in self-directed IRAs and other benefit plans, the conditions associated with the BICE may specifically limit its practical benefit for business development company investments.

While the BICE does create an avenue for undertaking transactions on a commission or transaction basis with retail retirement clients who would otherwise not qualify for the seller’s exception, the fee disclosure required by

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the BICE may make it unworkable for broker-dealers that would like to recommend business development company investments. One of the conditions of the BICE requires a relying broker-dealer to provide its client or plan with disclosures regarding the fees charged by the assets sold and purchased by the broker-dealer on behalf of the client or plan. However, when determining fees, business development companies are required by SEC rules to aggregate the amount of total annual fund operating expenses of acquired funds (which are indirectly paid by the business development company) and transaction fees (which are directly paid by the business development company) and express the total amount as a percentage of average net assets of the business development company (this is referred to as “AFFE”). As a result, the AFFE disclosure typically results in overstated expense ratios because a business development company’s indirect expenses required to be included in the calculation of AFFE can often be significantly greater than the direct expenses, and the expense ratios of BDCs can therefore be extremely high. From a practical perspective, broker-dealers relying on the BICE may encounter difficulty justifying fees associated with business development company investments, including associated advisor and administrator fees, to their clients and plans when compared to other similar investments that are not required to include AFFE disclosure. We expect many broker-dealers will simply avoid recommending business development company investments to their clients and plans instead of relying on the technical availability of the BICE.

Author Brian Hirshberg New York (212) 336-4199 [email protected]


We are Morrison & Foerster—a global firm of exceptional credentials. Our clients include some of the largest financial institutions, investment banks, Fortune 100, technology and life sciences companies. We’ve been included on The American Lawyer’s A-List for 12 straight years, and Fortune named us one of the “100 Best Companies to Work For.” Our lawyers are committed to achieving innovative and business-minded results for our clients while preserving the differences that make us stronger. This is MoFo. Visit us at www.mofo.com. © 2016 Morrison & Foerster LLP. All rights reserved. For more updates, follow Thinkingcapmarkets, our Twitter feed: www.twitter.com/Thinkingcapmkts.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.




Overview

Business development companies (“BDCs”) are U.S. publicly held investment funds that invest primarily in private and thinly traded

public U.S. businesses. BDCs have generally faced capital raising challenges when seeking to issue new securities after their initial

public offerings due to regulatory constraints imposed upon them by the Investment Company Act of 1940, as amended (the “1940

Act”). Unlike many other issuers of common stock, a BDC is not generally able to issue and sell shares of its common stock at a price

below its net asset value (“NAV”) per share unless it has received prior approval from its shareholders. Historically, shares of common

stock of BDCs frequently trade at a discount to NAV, thereby limiting the ability of BDCs to raise capital by issuing shares of common

stock. Additionally, any debt or senior security issued by a BDC must have asset coverage of at least 200%. The 1940 Act currently

treats preferred stock similarly to other types of senior securities and imposes a number of restrictions on the issuance of preferred stock

and similar securities in addition to the asset coverage test.

Notwithstanding the aforementioned regulatory constraints, a shelf registration statement can help a BDC overcome capital raising

challenges that are related to the timing and certainty of a securities offering. A BDC can use a shelf registration statement on Form N-2

to register multiple offerings of securities in order to raise capital. An effective shelf registration statement enables a BDC to quickly

access capital markets when needed or when market conditions are optimal. The shelf registration statement can be filed with the

Securities and Exchange Commission (the “SEC”) and reviewed by the SEC staff while the BDC is trading at a discount to its NAV and

then can be used to conduct an offering of the BDC’s shares of common stock when market conditions permit. Takedowns from an

effective shelf registration can then be consummated without SEC staff review or delay. As a result, an effective shelf registration

statement permits a BDC to offer its shares of common stock to the general public at a price above or at NAV when the BDC is trading at

a sufficient premium. This is particularly useful for BDCs seeking to raise capital that trade at a premium to NAV for only a short and

typically unpredictable period of time.

The SEC has recently imposed a limit on the cumulative dilution to a BDC’s current NAV per share that a BDC may incur while using a

shelf registration statement to sell shares of common stock at a price below NAV. A BDC can complete multiple offerings off of an

effective shelf registration statement only to the extent that the cumulative dilution to the BDC’s NAV per share does not exceed 15%.

Once the cumulative dilution exceeds 15%, the BDC must file a post-effective amendment to the shelf registration statement or file a new

shelf registration statement. A BDC also must provide, in the related prospectus supplement for the offering, specific dilution tables

showing the dilutive or accretive effects that the offering will have on different types of investors and a chart based on the number of

shares of common stock offered, as well as the discount to the most recently determined NAV.

N-2 Shelf Registration Requirements

Securities may be registered by a BDC on Form N-2 for an offering to be made on an immediate, continuous or delayed basis pursuant to

Rule 415 under the Securities Act of 1933, as amended (the “Securities Act”), so long as:

• the BDC is organized or incorporated under the laws of the United States or any state or territory or the District of Columbia and

has its principal business operations in the United States or its territories;

• the BDC has a class of shares that is required to be registered pursuant to Section 12(b) or 12(g) of the Securities Exchange Act

of 1934, as amended (the “Exchange Act”), or the BDC is subject to the reporting requirements of Section 15(d) of the

Exchange Act;

• the BDC is subject to the requirements of Section 12 or 15(d) of the Exchange Act and has filed with the SEC all material

required to be filed pursuant to Section 13, 14 or 15(d) of the Exchange Act for a period of at least 12 calendar months prior to

the shelf registration statement filing;

• the BDC has filed with the SEC in a timely manner all reports required to be filed during that 12-month period (other than

certain current reports on Form 8-K);

• the BDC has not (i) failed to pay any dividend or sinking fund installment on preferred stock or (ii) defaulted on any installment

for indebtedness for borrowed money or on any rental on long-term leases, in each case, since its last fiscal year-end; and

Practice Pointers on: Shelf Offerings by

Business Development Companies

• the aggregate market value of the voting and non-voting common equity held by non-affiliates of the BDC is at least

$75 million.

N-2 Shelf Registration Statement Limitations

While Form S-3 permits shelf registration statements of “well-known seasoned issuers” (“WKSIs”) to be automatically effective upon

filing, BDCs are expressly excluded from the statutory definition of a WKSI, pursuant to Rule 405 of the Securities Act. Therefore, shelf

registration statements of BDCs are not effective automatically upon filing. Additionally, Form S-3 allows a company to incorporate by

reference the disclosure from its current and future Exchange Act reports to satisfy the disclosure requirements of the Form.

Incorporation by reference occurs when disclosure in one filed document is legally deemed to be included in another document.

Incorporation by reference is central to the SEC’s “integrated disclosure” framework. The rationale for incorporation by reference is that

disclosure that is available to investors does not necessarily need to be repeated in each disclosure document. Unfortunately, BDCs must

register their shelf securities on Form N-2 (as opposed to Form S-3), which currently does not allow periodic reports to be incorporated

by reference. As a result of its inability to forward incorporate by reference periodic reports, in order to maintain a BDC’s shelf

registration statement, a BDC is required to file a post-effective amendment to its shelf registration statement to reflect in the prospectus

any facts or events that represent a material change or omission in the information set forth in the registration statement, including the

BDC's quarterly and annual reports.

In June 2015, the Subcommittee on Capital Markets and Government Sponsored Enterprises of the House Financial Services Committee

conducted hearings with respect to a draft bill titled ‘The Small Business Credit Availability Act’ that would require, among other things,

the SEC to amend Form N-2 to allow BDCs to (i) file automatic shelf offerings for BDCs that qualify as WKSIs and (ii) incorporate by

reference reports and documents that they have filed with the SEC under the Exchange Act. If enacted and adopted, the changes included

in the bill would streamline the registration process and give BDCs more flexibility in conducting public offerings and raising capital.

Additionally, a BDC is not permitted to use a free writing prospectus or an electronic roadshow. Instead, a BDC must use advertisement

materials pursuant to Rule 482 under the Securities Act to communicate certain information to potential investors. “Access equals

delivery” under Rule 172 under the Securities Act, which deems electronic availability of the prospectus equivalent to physical delivery

in certain circumstances, also is not available to BDCs.

SEC Review Process for a BDC

As noted above, a BDC’s shelf registration statement is not permitted to become effective automatically upon filing. As such, the SEC

staff typically reviews a BDC’s shelf registration statement filing. The typical SEC review process for an initial shelf registration

statement takes approximately 30 to 45 days from the initial filing. As part of the initial shelf registration statement filing, a BDC will

typically include a “base” prospectus that complies with the applicable Form N-2 disclosure requirements and enables the shelf

registration statement to go effective. The “base” prospectus provides prospective investors with a general description of the offerings of

securities that a BDC may conduct pursuant to the shelf registration statement. The SEC staff typically provides comments on the initial

filing, and the BDC must respond to those comments in writing and file a pre-effective amendment to the registration statement reflecting

the agreed-upon changes. When all comments have been satisfactorily resolved, the BDC submits an acceleration request and the SEC

staff declares the shelf registration statement effective. The effective shelf registration statement can only be used for three years (subject

to a limited extension) after its initial effective date. Under the current rules, new shelf registration statements must be filed every three

years, with unsold securities and fees paid under an “expiring” registration statement rolled over to the new registration statement.

BDC Shelf Offerings

Under the shelf registration process, which constitutes a delayed offering in reliance on Rule 415 under the Securities Act, a BDC may

offer, from time to time, in one or more offerings, up to an expressed maximum aggregate amount of its registered securities. The

securities registered may include common stock, preferred stock, warrants (representing rights to purchase shares of common stock),

subscription rights, or debt securities, on terms to be determined at the time of the offering. The securities may be offered at prices and

on terms described in one or more supplements to the prospectus that is included as part of the shelf registration statement.

Each time a BDC uses its prospectus to offer securities, it will provide a prospectus supplement that will contain specific information

about the terms of that offering. A prospectus supplement may also add, update or change information contained in the base prospectus.

The terms of any shelf offering are finalized at the time of the offering and disclosed in a prospectus supplement. BDCs may engage in

sales immediately after effectiveness of the shelf registration statement if the offering-specific information is included as a part of the

registration statement in a prospectus supplement filed under Rule 497 under the Securities Act.

BDCs typically use shelf registration statements to issue debt and equity securities. Debt securities are issued by BDCs from time to time

either in “follow-on” offerings or “takedowns” from a medium-term note program (in which case a prospectus supplement for the

medium-term note program is first filed with the SEC). BDCs also frequently list their debt securities on a national securities exchange

(such debt securities are referred to as “baby bonds” due to their low minimum denominations). Equity securities are issued by BDCs

from time to time either in follow-on offerings or in “at the-market” (“ATM”) offerings as described in more detail below.

In addition to the types of securities offerings mentioned above, a BDC may also issue rights that convert into voting securities even

when its common stock is trading below NAV, subject to certain limitations. In a rights offering, a BDC’s existing shareholders receive

the opportunity to purchase, on a pro rata basis, newly issued shares of the BDC’s common stock at an exercise price typically set at a

significant discount to the market price of the common stock. A rights offering may be a useful way of raising capital while avoiding

shareholder approval requirements. Rights offerings may be either transferable or non-transferable. A transferable rights offering

permits the subsequent sale of such rights in the open market. The SEC has generally taken the position that no more than one additional

share of common stock may be issued for each three shares of common stock currently outstanding in connection with a transferable

rights offering below NAV. Due to the reduced dilution concern, non-transferable rights offerings are not subject to the same limitation.

ATM Offerings for BDCs

An ATM offering is an offering of securities into an existing trading market for outstanding shares of the same class at other than a fixed

price (i) on, or through the facilities of, a national securities exchange, or (ii) to or through a market-maker. Therefore, the price at which

securities are sold in an ATM offering will vary because it is based on the price of the securities in the trading market. An “equity

distribution program” provides a means for a BDC to conduct ATM offerings from time to time using a shelf registration statement to or

through a broker-dealer acting either on a principal or agency basis. Each ATM offering then is a “takedown” from the related shelf

registration statement.

The BDC can either (i) use an allocated portion of an already existing universal shelf registration statement specifically for ATM

offerings or (ii) prepare a new shelf registration statement specifically for ATM offerings. If the issuer decides to use an already existing

shelf registration statement, then the BDC must prepare a prospectus supplement specifically for the equity distribution program. At the

time the ATM offering commences, the BDC will file a prospectus supplement pursuant to Rule 497 under the Securities Act that

discloses the terms of the offering, including the name of the sales agent. A post-effective amendment to the shelf registration statement

will be filed with the equity distribution agreement entered into between the BDC and the sales agent. Post-effective amendments filed

solely to add exhibits, such as the equity distribution agreement, become effective upon filing with the SEC. Note that for BDCs, the

equity distribution agreement is subject to the requirements of Section 15(c) of the 1940 Act and must be approved at an in-person board

meeting called for the purpose of voting on the agreement by a majority of the BDC’s directors who are not interested parties.

Shelf Offering NAV Determination

As noted above, a BDC is not generally able to issue and/or sell its common stock at a price below its NAV per share unless it has

received prior approval from its shareholders. As a result, a BDC’s board of directors or an authorized committee thereof will be

required to make a determination that the BDC is not selling shares of its common stock at a price below the then-current NAV at the

time the sale is made. In the context of an offering of common stock under a shelf registration statement, the BDC’s board of directors

typically considers the following factors, among others, in making its offering-specific NAV determination:

• the BDC’s NAV disclosed in its most recent periodic report that was filed with the SEC;

• management’s assessment of whether any material change in the BDC’s NAV has occurred (including through the realization of

gains on the sale of its portfolio securities) during the period beginning on the date of the BDC’s most recently disclosed NAV

and ending two days prior to the date of the sale of the BDC’s common stock; and

• the magnitude of the difference between (i) a value that the BDC’s board of directors has determined reflects the BDC’s current

NAV, which is generally based upon the BDC’s NAV disclosed in the most recent periodic report that it filed with the SEC, as

adjusted to reflect management’s assessment of any material change in the BDC’s NAV since the date of the BDC’s most

recently disclosed NAV; and (ii) the current offering price of the BDC’s common stock.

Undertakings

Among other requirements, Form N-2 requires a BDC to undertake to:

• suspend any offering of shares of common stock until the prospectus is amended if (i) subsequent to the effective date of its

registration statement, the BDC’s NAV declines more than 10% from its NAV as of the effective date of the registration

statement; or (ii) the BDC’s NAV increases to an amount greater than the net proceeds as stated in the prospectus;

• file a post-effective amendment to the registration statement to include any prospectus required by Section 10(a)(3) of the

Securities Act;

• file a post-effective amendment to the registration statement to reflect in the prospectus any facts or events after the effective

date of the registration statement (or the most recent post-effective amendment thereof) that, individually or in the aggregate,

represent a fundamental change in the information set forth in the registration statement;

• remove from registration by means of a post-effective amendment any of the securities being registered that remain unsold at

the termination of the offering; and

• file a post-effective amendment to the registration statement in the event that the BDC’s common stock is trading below its

NAV and either (i) the BDC receives, or has been advised by its independent registered accounting firm that it will receive, an

audit report reflecting substantial doubt regarding the BDC’s ability to continue as a going concern; or (ii) the BDC has

concluded that a material adverse change has occurred in its financial position or results of operations that has caused the

financial statements and other disclosures in the registration statement, on the basis of which the offering would be made, to be

materially misleading.

Contacts

Ze’-ev Eiger

New York

(212) 468-8222

[email protected]

Brian Hirshberg

New York

(212) 336-4199

[email protected]


We are Morrison & Foerster—a global firm of exceptional credentials. Our clients include some of the largest financial institutions, investment banks,

Fortune 100, technology, and life sciences companies. We’ve been included on The American Lawyer’s A-List for 13 straight years, and Fortune named

us one of the “100 Best Companies to Work For.” Our lawyers are committed to achieving innovative and business-minded results for our clients while

preserving the differences that make us stronger. This is MoFo. Visit us at www.mofo.com. © 2016 Morrison & Foerster LLP. All rights reserved.

For more updates, follow Thinkingcapmarkets, our Twitter feed: www.twitter.com/Thinkingcapmkts.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should

not be acted upon without specific legal advice based on particular situations.





© 2016 Thomson Reuters. All rights reserved.

Search the Resource ID numbers in blue on Practical Law for more.

Resource ID: w-002-6841

GEOFFREY R. PECK AND TODD M. GOREN, MORRISON & FOERSTER LLP, WITH PRACTICAL LAW FINANCE

Developments in Unitranche Financing (2016)

The increasing use of unitranche financing, both domestically and abroad, has created new opportunities for middle market loan participants. However, lenders must understand the legal issues and potential bankruptcy risks unique to unitranche structures.

The volume of middle market unitranche financings continues to rise in the US and European loan markets. Unitranche loans combine separate senior and subordinated debt financings into a single debt instrument. While unitranche financing is not new, the increased use of this type of financing, both domestically and abroad, creates new opportunities for middle market loan participants. However, unitranche financing also poses risks, and lenders who participate in unitranche financings must understand the related legal issues in order to adequately mitigate these risks.

This article provides an overview of traditional unitranche financing in the US and looks at recent developments in this area. Specifically, it:

�� Explores the growth of unitranche loans in the middle market.

�� Describes the basic unitranche financing structure.

�� Reviews the typical terms in an Agreement Among Lenders.

�� Examines key bankruptcy-related risks that are unique to unitranche financing.

�� Reviews recent cases involving unitranche financing.

�� Briefly describes the growing unitranche market in Europe.

UNITRANCHE LOANS IN THE US MIDDLE MARKETCURRENT DATA

In 2015, there were $142 billion of loans extended to middle market companies in the US (often defined as companies with annual revenues of less than $500 million and annual EBITDA of less than $100 million) (Thomson Reuters LPC, Leveraged Loan Monthly – Year-End 2015 Report). While there is not a lot of publicly available data on the volume of US unitranche financings, anecdotal evidence

and tracking by regular market participants indicates a growing volume of activity in the middle market.

The principal amount of unitranche financings can vary depending on the needs of the borrower. However, $50 million to $100 million is a fairly common size. As unitranche financings have gained acceptance, deals far exceeding $100 million are now not unusual.

MIDDLE MARKET LENDING: KEY ADVANTAGES

The middle market differs from the large corporate (or large cap) loan market in many ways. Certain characteristics associated with middle market lending have attracted a wide array of participants to the market, resulting in greater demand for middle market loans.

These characteristics include:

�� Higher yield for lenders.

�� Smaller lender groups, often involving club deals (two to three lenders) or smaller syndicates, giving lenders more control over documentation and decision-making.

�� Greater variety of investment structures available.

�� Less adherence to market terms and precedent.

�� Growing market share of business development companies (BDCs), mezzanine investment funds, hedge funds, and other non-bank lenders.

�� Growing private equity sponsor investment in middle market companies.

COMMON MIDDLE MARKET FINANCING STRUCTURES

There are two common middle market financing structures which involve both senior debt and a type of subordinated debt. They are:

�� 1st/2nd lien financing. In a 1st/2nd lien financing, there are two separate groups of lenders who are separately granted liens on the same collateral. Pursuant to an intercreditor agreement, the two lender groups agree that the first lien lenders have a senior priority lien and therefore recover first on the value of the collateral following the exercise of remedies by the lenders against the borrower.

�� Subordinated debt financing. In a subordinated debt financing, there are similarly two separate groups of lenders. In addition to

© 2016 Thomson Reuters. All rights reserved. 2


the collateral arrangement of a 1st/2nd lien financing, the junior lenders contractually subordinate their loans and agree not to receive payment on their loans until the senior debt is repaid.

There are other traditional middle market financing structures which are beyond the scope of this article, including structurally subordinated financings and hybrid debt/equity structures.

Both of these common financing structures involve two sets of loan documents, which often contain different covenants. Each lender group is often represented by separate law firms, who also negotiate an intercreditor or subordination agreement to define the relative priority of the debt and shared liens. These agreements contain provisions restricting the lenders’ rights to, among other things:

�� Amend their respective loan documents.

�� Bring remedies against the borrower or the collateral.

�� Raise certain technical defenses or claims as part of the borrower’s bankruptcy.

RISKS AND RETURNS IN MIDDLE MARKET LENDING

To understand any financing structure involving subordinated debt, market participants need to understand both the financial returns and the risks should the borrower fail to repay its loans. Figure A is a simple illustration of basic risk and return characteristics of the two traditional middle market financing structures in the event of a liquidation of the borrower’s assets.

FIGURE A: ILLUSTRATION OF RISKS AND RETURNS

The liquidation value of the borrower’s assets flow through the inverted pyramid, and gets paid to the borrower’s creditors, with any residual liquidation proceeds being paid last to the borrower’s equity holders.

SENIOR DEBT (1ST LIEN/SENIOR DEBT):

�� First lien lenders get priority on the borrower’s assets.

�� Lower risk of economic loss compared to subordinated debt and equity.

�� Lower interest rate than subordinated debt.

SUBORDINATED DEBT (2ND LIEN/SUBORDINATED DEBT):

�� Intermediate economic level of a company’s capital structure.

�� Higher risk of economic loss than senior debt.

�� Lower risk of economic loss than equity.

�� Higher interest rate than senior debt.

BASIC UNITRANCHE FINANCING STRUCTURE

Unitranche financing is a unique debt structure that involves a single layer of senior secured debt, without a separate subordinated debt financing. Because unitranche financing combines multiple debt tranches into a single financing, a borrower with a simple capital structure would appear to have only one class of creditors.

Unlike the traditional senior/subordinated debt structures, a unitranche financing has a single credit agreement and security agreement, signed by all of the lenders and the borrower. In a classic unitranche structure, the single credit agreement provides for a single tranche of term loans with the borrower paying a single interest rate to all lenders.

The interest rate is a “blended” rate which is often higher than, or about the same as, the interest rate of traditional senior debt, but lower than the interest rate for traditional 2nd lien or subordinated debt. All lenders benefit from the same covenants and defaults and, as described further below, the voting provisions are similar to a non-unitranche credit agreement (that is, governed by the majority vote of the lenders with some amendments being subject to the vote of all lenders or all affected lenders).

Separate from the credit agreement, unitranche lenders agree among themselves to create “first out” and “last out” tranches (also known as “first out” and “second out” tranches) through an agreement typically known as an Agreement Among Lenders (AAL). Common terms of AALs are described below (see Typical Terms in an AAL). The sizing of the first out and last out tranches changes by deal and is dependent on the attractiveness of the blended pricing that can be achieved and the lenders interested in any given deal at the proposed pricing and terms

Unitranche structures are growing more complicated and some provide for multiple tranches of term loans and a revolving loan facility, and even multiple, separate unitranche facilities. For example, the revolving loan facility may be the first out tranche and the term loan may be the last out tranche or there may be a revolver with more than one term loan tranche, with layers of priorities among the term loan tranches. In some unitranche deals with multiple tranches of term loans, the tranches represent the first out and last out tranches and include separate pricing for the tranches on the face of the credit agreement. Some of these multi-tranche deals also provide for voting rules by tranche on the face of the credit agreement. As described below, in a classic unitranche structure, pricing and voting arrangements among the lenders are dealt with in the AAL.

BENEFITS OF UNITRANCHE FINANCING

The volume of unitranche financings have increased as more borrowers have discovered the benefits of unitranche financing as compared to other middle market lending structures. The benefits include:

�� Reduced closing and administrative costs. With only one credit agreement, the amount of required loan documentation is cut in

3© 2016 Thomson Reuters. All rights reserved.


half. In addition, there is only one administrative agent and one law firm representing all of the lenders.

�� Speedier closings. Many unitranche lenders are willing to underwrite the full financing without pre-closing syndication. Combined with the faster documentation of one credit agreement, unitranche financing is particularly attractive in deals with multiple lenders competing to provide the financing and short timeframes to closing (such as in acquisitions).

�� Less syndication risk. In deals with full underwriting and no pre-closing syndication, there is no risk that the lead bank arranging the financing will be unable to syndicate the loans and, therefore, not close the financing. Similarly, many unitranche deals do not have flex provisions allowing the lead bank arranging a syndicate to change pricing and other loan terms to match the demands of the syndication market.

�� Greater amount of available senior debt. In many cases, the amount of senior debt available to a borrower in a unitranche financing is much higher than in a more traditional senior/subordinated financing structure.

�� Lower debt service costs. Unitranche loan pricing can be attractive compared to other middle market financing structures. Depending on the borrower and the sizing of the first out and last out tranches, the blended interest rate and fees can be lower.

�� Often no amortization or prepayment premiums. Many unitranche financing deals do not have amortization or prepayment premiums. This gives the borrower flexibility to refinance or pay down more expensive debt, which they may not have in a 1st/2nd lien or subordinated financing with a call premium. However, as unitranche structures have grown more complex, some multi-tranche unitranche deals have amortization or prepayment premiums in favor of the last out tranche.

�� Easier compliance and administration. With only one set of covenants and one reporting package to prepare, unitranche financing is easier for the borrower to administer and comply with.

While unitranche financing started as a structure used mostly by specialty finance companies, its acceptance has grown. Banks, BDCs, fund lenders, and other types of lenders now regularly provide unitranche financing options to their customers.

TYPICAL TERMS IN AN AAL

The AAL synthetically creates the benefits and risks to the lenders found in a senior and subordinated financing by defining which lenders are first out and which are last out. The AAL provides that the lenders holding the first out tranche (the first out lenders) receive a lower return for their lower risk of repayment and the lenders holding the last out tranches (the last out lenders) receive a higher return for their higher risk. The AAL includes other terms similar to an intercreditor agreement. For example, in an AAL, the lenders agree that as part of the remedies against the collateral (or possibly the borrower), the last out lenders will turn over any remedial recoveries to the first out lenders.

AAL terms vary from deal to deal. There is not a standard market form and there is not yet an agreed-upon set of “market” terms to be included in an AAL. With that caveat, typical terms seen in AALs deal with:

�� Tranching.

�� Payment waterfalls.

�� Interest and fee skims.

�� Voting.

�� Buyouts.

�� Remedial standstill.

The lack of standardization of AAL terms and forms has resulted in certain unitranche lenders working together more regularly based on a form of AAL that they have negotiated and generally use from deal to deal. As more lenders are entering the unitranche market, these pre-negotiated AAL forms are receiving more comments and changes.

Whether the borrower sees the AAL, or even acknowledges it (as it does with a typical 1st/2nd lien intercreditor agreement), varies by deal. In many deals, the borrower does not see the AAL and does not know how the tranches are split between the lenders. Recently, more unitranche borrowers are seeing AALs, especially with deals where some of the unitranche terms are included within the credit agreement. Private equity sponsors, who are now very active in the middle market, typically require a full understanding of the unitranche terms (including the terms in the AAL).

To win mandates from borrowers, many lenders who arrange unitranche deals are willing to underwrite and close the deal without pre-closing syndication. For an arranging lender who underwrites, having good partnerships with other unitranche lenders who regularly agree on AAL terms can help lessen the risk of not being able to assign the unitranche loans to other lenders post-closing. Some of these arranging lenders will also plan to hold all of the last out tranche under the belief that selling down the first out tranche may be easier, especially to banks who may be more interested in the first out tranche because many banks prefer the risk profile of the first out tranche.

TRANCHING

The AAL creates the separate first out and last out tranches and sets out how much of each tranche a lender holds. This core structural feature of the AAL synthetically creates a structure similar to 1st/2nd lien and debt subordinated structures where one lender group has more risk and gets paid more of the economics in return. The mechanics of this risk and return in unitranche financing is described further below.

PAYMENT WATERFALLS

Most AALs introduce the concept of a “waterfall triggering event,” (also sometimes known as a “payment application event”), which addresses how the two tranches share payments by the borrower under the credit agreement. While no waterfall triggering event exists, unitranche lenders usually share payments under the credit agreement pro rata (but subject to the interest and fee skims described below), without one group of lenders being paid first. In more complex unitranche structures, however, sharing of prepayments may be subject to a waterfall even in the absence of a waterfall triggering event.

Following a waterfall triggering event, the last out lenders are required to pay over any amounts received under the credit agreement (including all payments and proceeds of collateral



enforcement) to the first out lenders until the first out lenders are paid in full.

The list of events that constitute a waterfall triggering event varies. It can include the occurrence of any event of default, although the market is moving away from this approach. Many AALs have a negotiated and limited list of waterfall triggers. This list is becoming more complex and bespoke by deal or sponsor. The negotiated list, at a minimum, typically includes:

�� Payment default.

�� Bankruptcy/insolvency default.

�� Financial covenant default.

�� Exercise of remedies.

�� Acceleration of the loans.

There are four noteworthy complications relating to payments:

�� Paid in kind (PIK) interest is now common in many middle market deals, and is being included in unitranche deals. Payment waterfalls in unitranche deals with PIK interest need to address how and when PIK interest is paid.

�� In deals with a revolver, the revolving lenders want to be the first out tranche. Some revolving lenders negotiate additional rights more akin to the “super senior” status that is typical in UK unitranche deals (see European Perspective).

�� With banks being seen more in unitranche deals, particularly as first out lenders providing revolving loans, they typically seek to have any hedges or other bank products included as first out obligations. AALs need to address whether these obligations should be given priority, and if so any applicable caps.

�� In unitranche facilities where sponsors or their affiliates participate, AALs include complex provisions addressing rights of these inside lenders.

INTEREST AND FEE SKIMS

While the borrower pays one interest rate to all lenders under the credit agreement, the first out lenders assume less risk than the last out lenders. To compensate the last out lenders for their increased risk, the AAL requires the first out lenders to pay over to the last out lenders a specified portion of the interest received from the borrower. The administrative agent under the credit agreement manages these payments after receipt of debt service payments from the borrower.

In addition, some AALs provide that the first out lenders similarly pay over to the last out lenders a portion of the commitment fees, facility fees, and other regularly accruing credit agreement fees.

VOTING

Like a non-unitranche credit agreement, voting under a unitranche credit agreement on amendments, waivers, or remedies requires the consent of a majority of the lenders, with a few specified matters requiring the vote of all lenders or all affected lenders. Unitranche lenders in many AALs agree not to exercise these voting rights under the credit agreement unless the majority of both first out and last out lenders consent. This approach has resulted in practical difficulties for getting amendments passed, frustrating borrowers and sponsors. More complex voting arrangements are being seen in some AALs, sometimes becoming effective only after the occurrence of certain events of default,

which are similar to the waterfall triggering events, or only if the tranche without a blocking position would be adversely impacted.

Other AALs specify just certain credit agreement provisions that require a voting arrangement different from the customary majority lender vote in the credit agreement, including pro rata sharing and payment application provisions. A further complication arises when a lender holds both first out and last out loans, which some AALs prohibit or limit.

As borrowers and sponsors run into practicalities of getting amendments and waivers passed in unitranche deals, different mechanisms are being used to limit the ability of lenders to block amendments and waivers and, instead, encourage lender support.

BUYOUTS

Some AALs grant both first out and last out lenders the right to buy out each other’s loans at par in certain circumstances, including:

�� If the other debt tranche does not consent to an amendment or waiver.

�� Upon a payment default or the occurrence of any of the other waterfall triggering events.

�� For deals with complex voting provisions, some deals permit the buyout of the position of any lender blocking a desired vote.

REMEDIAL STANDSTILL

AALs often have standstill provisions similar to 1st/2nd intercreditor agreements that, in a classic AAL, restrict the right of the last out lenders to bring remedies following an event of default and give the first out lenders the exclusive right to bring remedies. Restrictions relating to decisions during bankruptcy are also often included. In many deals, however, the first out tranche is significantly smaller, by dollar amount, than the last out tranches. Last out lenders with more leverage try to negotiate broader remedial rights as a way to ensure remedies are carried out in a way that generates maximum proceeds, sufficient to reach the last out tranche.

AALs, accordingly, have become more complex with respect to remedial arrangements. The AAL may provide that the last out lenders can control remedies following certain, or even all, events of default. Other AALs provide for:

�� Remedies to be subject to the vote of the majority of both tranches.

�� Exclusive remedies in favor of the first out tranche only for certain enumerated defaults.

ASSIGNMENTS

Unitranche credit agreements usually have customary restrictions on assignments similar to a non-unitranche credit agreement. Those restrictions can include borrower or agent consent rights, with some exceptions for certain types of assignments, including assignments to affiliates or other lenders. Many AALs have additional assignment restrictions. This could include requiring consent of certain of the lenders, or requiring a selling lender to give the other lenders a right of first refusal or right of first offer before selling to a third party.

AALs also often have restrictions on lenders holding both first out and last out loans. While middle market and subordinated



loans often have less liquidity than large cap loans, the bespoke nature of unitranche financing, including additional restrictions on assignments in some deals, can further limit the liquidity of unitranche loans.

KEY BANKRUPTCY-RELATED RISKS

As seen in bankruptcy disputes among creditors in 1st/2nd lien financings, disputes among unitranche creditors could have a significant economic impact on creditor recoveries and the efficient resolution of a borrower’s bankruptcy case. Resolution of potential disputes among unitranche lenders, however, has not been fully tested by courts.

It is critical for unitranche lenders to accept this uncertainty and understand the potential bankruptcy risks unique to unitranche structures. Unitranche lenders can obtain some guidance from the intercreditor disputes in the 1st/2nd financing lien context, but in some cases, unitranche financings are fundamentally different and raise unique issues.

Potential issues that could arise in a bankruptcy proceeding of a borrower with a unitranche financing include:

�� Enforceability of the subordination provisions.

�� Jurisdiction over the AAL terms.

�� Whether voting provisions of the AAL will be enforced regarding sales of collateral or confirmation of a plan of reorganization.

�� Whether the first out lender will accrue post-petition interest.

�� How the claims will be classified.

SUBORDINATION

Subordination provisions, a feature of 1st/2nd lien intercreditor agreements and AALs, allow creditors to agree among themselves to repayment in a particular priority. These agreements are enforceable in bankruptcy under section 510(a) of the Bankruptcy Code, and are regularly given effect in bankruptcy plans of reorganization.

Although express reference to subordination in the Bankruptcy Code appears straightforward, it has given rise to disputes. When a bankruptcy court is asked to interpret a subordination provision (assuming it has the power to do so), the court applies applicable nonbankruptcy law. If a clause is enforceable under nonbankruptcy law, an issue that bankruptcy courts have addressed in a few cases is whether enforcement of an intercreditor agreement in the bankruptcy context negatively impacts fundamental rights afforded by the Bankruptcy Code to creditors and/or the debtor. In these circumstances, courts have ultimately refused to enforce the subordination provisions (or portions thereof) despite being allowable under nonbankruptcy law.

While the 1st/2nd lien bankruptcy cases on the meaning and limits of subordination, including the importance of fundamental bankruptcy policy, will be instructive for a unitranche dispute, there are unique aspects to unitranche financings that have not been previously addressed by bankruptcy courts. One open question is whether the unitranche lenders party to one debt instrument with a borrower presents a material difference compared to a 1st/2nd lien financing. The answer is likely to inform how a court interprets the AAL restrictions within the larger scope of promoting fundamental bankruptcy rights.

JURISDICTION

Generally, for a bankruptcy court to have jurisdiction over a dispute, the dispute needs to “arise in,” “arise under,” or be related to a case under the Bankruptcy Code. Bankruptcy courts often hold that a dispute between lenders brought before the court is not subject to the jurisdiction of the bankruptcy court on the grounds that the dispute is not inextricably related to the bankruptcy case. This is particularly true with these kinds of disputes arising early in a bankruptcy case, versus later in the case when the lender dispute could derail a chapter 11 plan that otherwise appears to have the necessary support.

This principle should also carry over to the unitranche financing context. Unlike 1st/2nd lien intercreditor agreements, however, many AALs are entered into only between lenders and, in some cases, without the knowledge of the borrower. It is unknown whether this distinguishing structure of unitranche financings could be a determinative factor in a jurisdiction dispute over AAL terms.

SALES OF COLLATERAL AND PLAN VOTING

Bankruptcy courts are often asked to resolve intercreditor disputes prior to approving a sale of collateral that secures more than one group of creditors or as part of a plan of reorganization. Often, 1st/2nd lien intercreditor agreements and AALs prohibit a second lien or last out lender from objecting to a sale in bankruptcy of collateral supported by the first lien or first out lenders or otherwise voting on a plan which has payment waterfalls that are inconsistent with those in the intercreditor agreement or AAL. Some intercreditor agreements and AALs also have the second lien or last out lenders assign bankruptcy voting rights to the first lien or first out lenders.

Courts are split on the enforceability of these clauses in the context of 1st/2nd lien intercreditor agreements. Some courts view certain rights of junior creditors as fundamental bankruptcy rights that cannot be altered by contract. Courts have not enforced assignments or waivers of voting rights in a few cases. In other cases, however, courts have enforced the contractual provisions of a 1st/2nd lien intercreditor agreement that waive or assign the junior lender’s right to vote on a sale. Courts uniformly, however, are less likely to enforce an intercreditor agreement (and likely an AAL) that does not clearly and expressly evidence the intent of the lenders.

In the unitranche financing context, the added wrinkle is that only one lien secures all lenders, and therefore there is only one class of secured lenders whose vote is needed (subject to the discussion below on classification). With a 1st/2nd lien financing, the second lien lenders are clearly in a separate class from the first lien lenders, with their own voting rights. With a unitranche financing, the single lien and often intended single class of creditors raises an issue regarding whether a court would permit one tranche to vote separately for these purposes or would be more likely to enforce a provision in the AAL that permits one tranche of lenders to control voting for all lenders in a bankruptcy.

POST-PETITION INTEREST

Section 506(b) of the Bankruptcy Code states that “to the extent that an allowed secured claim is secured by property the value of which, after any recovery . . . is greater than the amount of such claim, there shall be allowed to the holder of such claim, interest on such claim.”



Generally, loan principal does not accrue interest in a bankruptcy case unless the principal is secured and the value of the collateral is greater than the principal amount of the loan (that is, the lender is oversecured).

Some bankruptcy cases addressing post-petition interest issues outside the unitranche context have held that a single collateral granting clause covering multiple tranches of debt is considered to be one lien covering all tranches. In these cases, all tranches covered by the single granting clause were calculated together for purposes of post-petition interest. If the reasoning of these cases were applied in the unitranche context, it may be harder for a court to find that the outstanding debt to first out and last out lenders (taken as one class) exceeds the value of the collateral. A first out lender who might otherwise accrue post-petition interest if the financing were a 1st/2nd lien financing may not be able to accrue the same post-petition interest in a unitranche financing.

CLASSIFICATION

Under section 1122(a) of the Bankruptcy Code, “a plan may place a claim or an interest in a particular class only if such claim or interest is substantially similar to the other claims or interests of such class.” Claims may not get classified together if they are not substantially similar. Generally, courts have approved separate classification of first lien and senior claims, on the one hand, and second lien and subordinated claims, on the other, based on their unique legal rights (similar to separately classifying subordinated claims from general unsecured claims).

Classification can have a significant impact on creditors’ rights in a bankruptcy case, including recoveries and voting. If a disproportionately large block of senior debt is classified together with a small block of subordinated debt, the subordinated lenders may find themselves disenfranchised (that is, unable to reject a plan of restructuring that benefits the majority of the senior lenders but is not in the junior lenders’ best interests). Alternatively, if a large block of subordinated debt is classified with a small block of senior debt, the senior debt holders may find themselves disenfranchised. In either scenario, a voting assignment provision in the AAL could be agreed with the understanding that some bankruptcy courts have found these voting arrangements unenforceable.

ADDRESSING BANKRUPTCY RISKS

Clear documentation, strategic timing, and a keen understanding of the potentially significant economic impacts of a bankruptcy are the hallmarks for maximizing recoveries under the unitranche financing structure. Lenders and their counsel need to understand intercreditor disputes and be attuned to the possibility of exerting leverage at any point in the reorganization process to achieve a desired goal, including by seeking the bankruptcy court’s assistance. Because unitranche AALs involve private deals, lenders’ counsel needs to be experienced in addressing the issues specific to unitranche lending, as well as the associated bankruptcy implications.

US UNITRANCHE CASES

It remains an open question as to whether a bankruptcy court will accept jurisdiction, and to what extent, to enforce a unitranche AAL. This is particularly so with an AAL where the borrower is not a

party and may not even know about the agreement. There are two instructive bankruptcy cases involving unitranche financings, but neither provides clear guidance on how a bankruptcy court will deal with unitranche financings.

AMERICAN ROADS

The first case, In re American Roads LLC, is a 2013 case heard in the US Bankruptcy Court for the Southern District of New York (In re American Roads, LLC, 496 B.R. 727 (Bankr. S.D.N.Y. 2013)). American Roads issued two series of bonds, together with a swap for each series. Syncora Guarantee, Inc., a monoline insurer, insured both series and the swaps. The rights to payment of the bondholders, swap counterparties, and Syncora were secured by a single lien on the assets of American Roads. The loan documentation included a payment waterfall giving Syncora priority payment rights and a “no-action” clause, which, broadly speaking, gave Syncora the sole right to bring remedies against American Roads.

American Roads and Syncora negotiated a pre-packaged bankruptcy plan that:

�� Discharged Syncora’s claims in exchange for 100% of the equity of American Roads.

�� Separately classified the bondholders’ claims and discharged the claims without any distribution. (The swap counterparties’ claims had been previously discharged through their receipt of payments under the insurance policies.)

The bondholders raised objections. The court, however, held that the bondholders did not have legal standing to raise their objections because of the no-action clause.

Traditional unitranche lenders may be alarmed by this decision, including because the junior claimholders with a shared lien did not have standing to participate in a bankruptcy case. The junior claimholders therefore did not have the opportunity for their objections to the plan to be heard. The structure of the American Roads financing, however, is significantly different from a traditional unitranche financing because:

�� The “insured unitranche” structure involved two classes of claims. A traditional unitranche financing, by contrast, is structured as a single claim, which would likely frustrate a borrower’s attempt to divide the single claim into multiple claims in order to confirm a plan.

�� American Roads’ bondholders were not without a pathway to recovery. They had rights to seek payment from Syncora under the insurance policies.

Even if last out lenders in a traditional unitranche financing would not separately be classified and would have standing, unlike the junior creditors in American Roads, the court’s holding on the enforceability of the no-action clause is still noteworthy. The court, in a well-reasoned opinion, concluded that sophisticated parties would be bound by their prepetition agreements with respect to properly drafted no-action clauses. As discussed above, this conclusion is largely consistent with section 510(a) of the Bankruptcy Code, which provides that subordination agreements are enforceable in bankruptcy to the same extent they are otherwise enforceable under other applicable law.



RADIOSHACK

In re RadioShack Corp., heard in the US Bankruptcy Court for the District of Delaware, is more relevant for unitranche lenders, as the case involved more traditional unitranche structures (In re RadioShack Corp., No. 15-10197 (Bankr. D. Del.)). RadioShack had two unitranche financings with a split-collateral structure that included a:

�� Traditional unitranche term loan, where all term loan lenders shared a single first lien on RadioShack’s fixed assets and a single second lien on liquid assets.

�� Separate traditional unitranche asset-based loan with a single separate lien on the same collateral as the other loan facility, but with reversed priorities.

The relevant dispute in the RadioShack case arose in connection with a section 363 sale, where RadioShack sought to sell its assets. Standard General, the last out lender, offered to purchase a substantial portion of RadioShack’s stores by credit bidding its last out asset-based loans. As part of the credit bid, the first out lenders would be paid in cash. The first out lenders objected to the credit bid, contending that certain of their potential indemnification claims were not being discharged as required by the AAL. The primary question was whether the AAL required creation of a reserve for these potential claims before the last out lender could proceed with a credit bid.

Following four days of hearings, the unitranche lenders agreed to a settlement. The hearing transcripts show that many of the concerns with respect to AALs were raised by the lenders or the court. The judge explicitly stated that he was not ruling on whether the court had jurisdiction to hear the case, as the parties consented to jurisdiction. Further, arguments were made that the AAL does not impact the debtors’ estates, while others argued that the AAL was a subordination agreement enforceable under the Bankruptcy Code.

Unitranche lenders can take comfort that the RadioShack court permitted hearings and offered guidance in interpretation of an AAL. It is positive for unitranche lenders that the court was willing to recognize the importance of the AAL to a successful section 363 sale and to hear disputes regarding the agreement. The extent of comfort unitranche lenders should take, however, is unclear for a number of reasons, including that:

�� The court did not rule on whether it had jurisdiction to hear disputes regarding RadioShack’s AALs. The relevant parties in interest consented to the court hearing the dispute. As a result, RadioShack is not clear precedent that a bankruptcy court will accept jurisdiction to adjudicate the enforceability of an AAL, at least absent consent of the lenders.

�� All parties agreed, including the court, that the section 363 sale was critical to the survival of RadioShack as a going concern. It is unclear how much this swayed the court’s willingness to hold hearings on the AAL and whether the court would have permitted hearings had the unitranche dispute been less important to the case.

�� The unitranche lenders ultimately agreed on a settlement of their disputes and the court did not issue a ruling on the unitranche issues. Accordingly, we have no clear guidance on how the RadioShack court would have handled the ongoing dispute, which had the potential to derail a critical section 363 sale. The transcript

of the court hearing is useful, but does not have the same precedential import as a reasoned opinion.

While these two cases are noteworthy and offer some guidance on how a bankruptcy court may adjudicate certain disputes related to a unitranche financing, the market is far from having the legal certainty that exists with disputes related to 1st/2nd lien intercreditor agreements. Unitranche lenders should continue to keep this in mind as they consider the legal risks of the unitranche structure.

EUROPEAN PERSPECTIVE

A strong market for unitranche financings exists in Europe. Non-banks in Europe (called direct-lenders) are the primary providers of unitranche loans in Europe, with the UK market particularly active. Deloitte Alternative Deal Tracker reports a 9% increase in direct-lender European deals closed in the last quarter of 2015, with the majority being unitranche.

Unitranche financing on both sides of the Atlantic has a common meaning, which is a combination of senior and junior debt tranches into one loan agreement with a blended interest rate falling between the rate for senior and junior debt. While unitranche financing in the US refers to a specific loan structure, the term is used more broadly in Europe and includes multiple loan structures. In the UK, the most basic unitranche structure is a single tranche term loan with a blended interest rate. All term lenders have the same rights in this structure.

The unitranche structure can become more complicated if the borrower also wants to include a revolving loan tranche in the loan agreement. When there is a term tranche and revolving tranche, the revolving tranche is usually smaller than the term tranche (giving the term tranche lenders voting control under typical voting rules, whether a 66-2/3% or majority lender vote standard). The revolving tranche is nonetheless typically given a “super senior” status under the loan agreement. This status affords the revolving tranche certain priority rights, including:

�� Exclusive enforcement rights following default (or, often, only certain material defaults) and a standstill period.

�� Priority payment rights from collateral.

�� Often a separate financial covenant that benefits only the revolving tranche lenders.

�� Veto rights over certain material collateral sales.

�� Veto rights over amendments that adversely impact the super senior status.

Certain unitranche loan agreements add more complexity by granting term or swap debt (up to a cap) super senior status. These priority rights, however, are in the loan agreements and agreed to up front among the lenders and the borrower.

The US unitranche structure, with its AAL retranching loans behind the scenes, has been used in the UK and other European jurisdictions, but has not taken hold of the market yet. As European unitranche deals have grown in dollar amount and in the number of lenders, some deals use the US structure to attract more lenders by having the increased return that can result from retranching and interest/fee skims. Also, as more US private equity sponsors invest in Europe, their comfort with the US structure is resulting in its

8

Developments in Unitranche Financing (2016)Developments in Unitranche Financing (2016)

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increased use in Europe. As in the US, European insolvency law has not tested this structure.

FUTURE OF UNITRANCHE FINANCING

Unitranche financing has gained a strong foothold in middle market lending as a preferred structure for borrowers and lenders. Below are a few thoughts on the future of unitranche financing:

�� Greater deal volume. Unitranche deal volume should continue to grow as more borrowers, sponsors, and lenders (bank and non-bank) become comfortable with the structure and risks.

�� Increasingly complex deals. Unitranche deals will continue to grow in complexity and be tailored to the express needs (pricing or structure) of the borrower or to satisfy the unique investment and return requirements of unitranche lenders.

�� More standardization of unitranche terms. While the terms and forms used in many unitranche deals are viewed as proprietary and confidential by many lenders and counsel, more standardization of unitranche terms is expected. As deals get more complex, and more sponsors get comfortable with unitranche financing, there should be a push to have more standardized terms to speed up deal negotiation and closing. This should happen naturally as more lenders participate in unitranche deals, and a sense of “market terms” develops. Whether industry groups like the Loan

Syndications and Trading Association (LSTA) or the American Bar Association choose to support standardization efforts will be a function of whether it is encouraged by their membership.

�� More cross-border deals. The volume of unitranche structures will continue to grow outside of the US, including in Canada and Europe. The bankruptcy and insolvency analysis described above would need to be carefully considered by each jurisdiction so that lenders and attorneys understand the risks.

�� More multi-jurisdiction deals. Unitranche structures are being seen in deals with borrower groups in multiple jurisdictions, and this is expected to continue. These multi-jurisdiction deals require an understanding of each jurisdiction’s bankruptcy and insolvency risks. In addition, the documentation required for these deals will be more complex, reflecting the risks of all the jurisdictions.

�� Some migration of the unitranche structure to the large cap market. Unitranche structures, with all lenders signing the AAL, makes for a more cumbersome loan transfer process. This could make migration of unitranche financing to the large cap market more difficult, where ease of trading and execution are valued. Further, the lack of standardization in unitranche terms and documents could slow migration. However, it is expected that lenders and borrowers will seek to find ways to allow for this structure.

F R E Q U E N T L Y A S K E D Q U E S T I O N S

A B O U T B U S I N E S S

D E V E L O P M E N T C O M P A N I E S

Understanding Business Development Companies

What is a “business development company”?

Business development companies (“BDCs”) are special

investment vehicles designed to facilitate capital

formation for small and middle-market companies.

BDCs are closed-end investment companies; however,

BDCs are exempt from many of the regulatory

constraints imposed by the Investment Company Act of

1940, as amended (the “1940 Act”), and the rules

thereunder. Section 2(a)(48) of the 1940 Act defines

“business development company” to mean a domestic

closed-end company that (1) operates for the purpose of

making investments in certain securities specified in

Section 55(a) of the 1940 Act and, with limited

exceptions, makes available “significant managerial

assistance” with respect to the issuers of such securities,

and (2) has elected business development company

status. As a general matter, a BDC must also maintain

at least 70% of its investments in eligible assets before

investing in non-eligible assets.

To be treated as a BDC, a company must elect,

pursuant to Section 54(a) of the 1940 Act, to be subject to

the provisions of Sections 55 through 65 of the 1940 Act.

The company must then file a Form N-6 (intent to file

a notification of election) and a Form 54A (election to be

regulated as a BDC).

BDCs are also typically registered under the Securities

Act of 1933, as amended (the “Securities Act”), and the

Securities Exchange Act of 1934, as amended (the

“Exchange Act”), and are subject to all registration and

reporting requirements under those two statutes. In

order to register under the Securities Act, a BDC must

prepare a registration statement on Form N-2. For more

information regarding the registration process for BDCs,

see “Disclosure Requirements” below.

Why are BDCs attractive?

BDCs can be more attractive than other types of

investment funds for several reasons. First, BDCs

provide investors with the same degree of liquidity as

other publicly traded investments, unlike open-end

investment companies, or mutual funds, in which

investors can only sell and buy shares directly to, and

from, the fund itself. Investors also do not need to meet

the income, net worth or sophistication criteria imposed

on private equity investments. Second, managers of

2

BDCs have access to “permanent capital” that is not

subject to shareholder redemption or the requirement

that capital (as well as returns on such capital) be

distributed to investors as investments are realized or

otherwise generate income. Third, managers of BDCs

may immediately begin earning management fees after

the BDCs have gone public and, unlike other registered

funds, charge performance fees. Fourth, BDCs have

greater flexibility than other types of registered

investment funds to use leverage and engage in affiliate

transactions with portfolio companies. In fact, BDCs

have increasingly focused in recent years on mezzanine

and debt investments that typically generate current

income and provide greater upside potential.

However, BDCs (1) must maintain low leverage (total

debt outstanding cannot exceed total equity);

(2) typically seek to build a diversified portfolio of

investments (no single investment can account for more

than 25% of total holdings); (3) are required by the 1940

Act to distribute a minimum of 90% of their taxable

earnings quarterly (in practice, most pay out 98% of

taxable income and all short-term capital gains); and

(4) pay out dividends at a relatively stable level as most

of the their portfolio investments are in debt securities.

What types of investments are permissible for BDCs?

Pursuant to Section 55(a) of the 1940 Act, a BDC must

generally have at least 70% of its total assets in the

following investments:

privately issued securities purchased from

issuers that are “eligible portfolio companies”

(or from certain affiliated persons);

securities of eligible portfolio companies that

are controlled by a BDC and of which an

affiliated person of the BDC is a director (a

controlling interest is presumed if the BDC

owns more than 25% of a portfolio company’s

voting securities);

privately issued securities of companies subject

to a bankruptcy proceeding, reorganization,

insolvency or similar proceeding or otherwise

unable to meet their obligations without

material assistance;

cash, cash items, government securities or high

quality debt securities maturing in one year or

less; and

office furniture and equipment, interests in real

estate and leasehold improvements and

facilities maintained to conduct the business of

the BDC.

An “eligible portfolio company” means a domestic

issuer that either (1) does not have any class of securities

listed on a national securities exchange, or (2) has a class

of equity securities listed on a national securities

exchange, but has an aggregate market value of

outstanding voting and non-voting common equity of

less than $250 million and, in each case, (A) is not, with

limited exceptions, a registered or unregistered

investment company; or (B) either: (i) does not have a

class of securities that are “margin securities,” (ii) is

controlled by a BDC and has an affiliated person of the

BDC as a director, or (iii) has total assets of not more

than $4 million and capital and surplus (shareholders’

equity less retained earnings) of not less than $2 million.

In addition, under Section 12(d)(3) of the 1940 Act, a

BDC generally cannot acquire securities issued by (1) a

broker-dealer, (2) an underwriter or (3) an investment

adviser of an investment company or a registered

investment adviser, unless such issuer is (A) a

corporation all the outstanding securities of which are

(or after such acquisition will be) owned by one or more

3

registered investment companies and (B) primarily

engaged in the business of underwriting and

distributing securities if the gross income of such issuer

normally is derived principally from such business or

related activities. However, the SEC has granted no-

action relief from such prohibition in two cases. In the

first, a BDC was organized in a master feeder structure

and the master fund proposed to form one or more

private funds for which it would serve as the

investment adviser and the feeder funds would hold

membership units in the master fund.1 In the second, an

internally managed BDC, which was registered as an

investment adviser and served as a sub-adviser for an

unaffiliated externally managed BDC, sought to transfer

the sub-advisory agreement to its wholly owned

subsidiary.2

Further, the SEC has granted no-action relief from

Sections 2(a)(48) and 55(a) of the 1940 Act to enable a

feeder fund to elect to be treated as a BDC

notwithstanding the fact that the feeder fund’s

investment in the master fund would not be an

investment in an eligible portfolio company and the

feeder fund would not make significant managerial

assistance available to the issuers of securities held by

the master fund.3

What types of securities may BDCs issue?

BDCs may issue debt and equity securities, as well as

derivative securities, including options, warrants and

rights that convert into voting securities. Any debt or

senior security issued by a BDC must have asset

1 See New Mountain Finance Corporation, SEC No-Action

Letter, Division of Investment Management (Nov. 4, 2013). 2 See Main Street Capital Corporation, SEC No-Action Letter,

Division of Investment Management (Nov. 7, 2013). 3 See Carey Credit Income Fund and Carey Credit Income Fund

2015 T, SEC No-Action Letter, Division of Investment

Management (July 15, 2015).

coverage of 200%, which is less restrictive than the 300%

asset coverage requirement imposed on traditional

closed-end funds and mutual funds. Also, no dividends

can be declared on common stock unless the BDC’s debt

and senior securities, if any, have asset coverage of

200%.

Can a BDC issue convertible securities?

A BDC is generally able to issue convertible securities,

including convertible debt securities and convertible

preferred stock, where the convertibility feature is not

the predominant factor in the determination of the

market value upon issuance. Convertible securities are

generally considered “senior securities” under the 1940

Act requiring an issuing BDC to have asset coverage of

at least 200% prior to issuing the convertible securities.

However, if the conversion option is such a significant

investment characteristic of the convertible security as

to make it, in substance, not a senior security but a right

to purchase voting securities, the BDC must instead

look to Section 61(a)(3) of the 1940 Act. Section 61(a)(3)

allows a BDC to, among other things, issue warrants,

options or rights to subscribe for or convert into voting

securities if the following conditions are satisfied:

the warrants, options or rights expire by their

terms within ten years;

the underlying voting securities are not be

separately transferable from the warrants,

options or rights, unless no class of such

warrants, options or rights and the underlying

voting securities has been publicly distributed;

the exercise or conversion price is not be less

than the current market value at the date of

issuance, or if no such market value exists, the

current net asset value (“NAV”) of the

underlying voting securities; and

4

the proposal to issue the warrants, options or

rights is authorized by the BDC’s shareholders

and such issuance must be approved by a

majority of the BDC’s directors on the basis

that such issuance is in the best interests of the

BDC and its shareholders.

Can a BDC repurchase its own securities?

Pursuant to Section 23(c) of the 1940 Act, a BDC is

permitted to repurchase its own securities, including

debt and equity securities, if the repurchase (i) occurs on

a securities exchange and the BDC has informed its

shareholders of its intent to purchase the securities

within the preceding six months or (ii) is made pursuant

to a tender offer and a reasonable opportunity to sell

has been given to all holders of the class of securities

proposed to be repurchased. A BDC also may

repurchase its outstanding debt securities for cash from

a non-affiliate, subject to the conditions set forth in Rule

23c-1(a) under the 1940 Act which include, among

others, the following:

the dividends payable under the debt

securities proposed to be repurchased are not

in arrears;

all debt securities that are senior to the debt

securities proposed to be repurchased must

have an asset coverage of at least 300% and all

senior securities that are stock must have an

asset coverage of at least 200%, in each case,

immediately after such repurchase;

the repurchase is made at or below market

value;

the repurchase is not made in a manner or on a

basis which discriminates unfairly against any

holder of the class of debt securities proposed

to be repurchased; and

the BDC files with the SEC a copy of any

written solicitation used to repurchase the debt

securities.

Due to significant discounts recently between the book

and market value for many BDC stocks, many BDCs

have recently authorized share repurchase programs

allowing them to repurchase their outstanding shares of

common stock at prices below NAV per share. Under a

share repurchase program, a BDC may, but is not

obligated to, repurchase its shares of common stock in

the open market or in privately negotiated transactions

from time to time. Any share repurchases made by a

BDC must comply with the requirements of Rule 10b-18

under the Exchange Act.4 The timing, manner, price

and amount of any share repurchases may be

determined by a BDC’s board of directors in its

discretion and the share repurchase program may be

suspended, extended, modified or discontinued by the

BDC at any time.

What constitutes “significant managerial assistance”?

Unlike typical registered investment companies, BDCs

are not passive investors. Rather, a BDC is required to

make available “significant managerial assistance” to

the companies that it treats as satisfying the 70%

standard. This includes any arrangement whereby a

BDC, through its directors, officers, employees or

general partners, provides significant guidance and

counsel concerning the management, operations or

business objectives and policies of the portfolio

4 For more information regarding share repurchase programs

under Rule 10b-18, see our “Frequently Asked Questions About

Rule 10b-18 and Stock Repurchase Programs,” available at:

https://media2.mofo.com/documents/faq-rule-10b-18-stock-

repurchases.pdf.

https://media2.mofo.com/documents/faq-rule-10b-18-stock-repurchases.pdf

https://media2.mofo.com/documents/faq-rule-10b-18-stock-repurchases.pdf

5

company. It may also mean exercising a significant

controlling influence over the management or policies

of the portfolio company. Note that if a BDC intends to

operate under the Small Business Investment Act of

1958, making loans to a portfolio company would

satisfy the “significant managerial assistance”

requirement.

May BDCs operate Small Business Investment

Companies?

BDCs may create wholly owned subsidiaries which are

licensed by the Small Business Administration (“SBA”)

to operate as Small Business Investment Companies

(“SBICs”). The SBIC subsidiary is able to rely on an

exclusion from the definition of “investment company”

under the 1940 Act. The SBIC subsidiary issues SBA-

guaranteed debentures, subject to the required

capitalization of the SBIC subsidiary. SBA-guaranteed

debentures carry long-term fixed rates that are generally

lower than rates of comparable bank and other debt.

Under the regulations applicable to SBICs, an SBIC may

have outstanding debentures guaranteed by the SBA

generally in an amount of up to twice its regulatory

capital, which generally equates to the amount of its

equity capital. The SBIC regulations currently limit the

amount that an SBIC subsidiary may borrow to a

maximum of $150 million, assuming that it has at least

$75 million of equity capital. The SBIC is subject to

regulation and oversight by the SBA, including

requirements with respect to maintaining certain

minimum financial ratios and other covenants. In

addition, an SBIC subsidiary in certain instances may

have to elect to be treated as a BDC and file with the

SEC a registration statement on Form N-5.

In addition, a BDC may be deemed an indirect issuer

of any class of “senior security” issued by its direct or

wholly owned SBIC subsidiaries. In such case, the

senior securities will not be treated as senior securities

or indebtedness for purposes of the BDC’s asset

coverage requirement of 200%, but only if the SBIC

subsidiary has issued indebtedness that is held or

guaranteed by the SBA.

What is the tax treatment of BDCs?

BDCs are typically organized as limited partnerships in

order to obtain pass-through tax treatment. However, a

BDC cannot be a “publicly traded partnership” for

federal income tax purposes. Thus, if the BDC is to be a

partnership for tax purposes, either (a) its interests

cannot be traded on an exchange or on a secondary

market or equivalent, or (b) it must qualify for one of

the exceptions to treatment as a “publicly traded

partnership” for U.S. federal income tax purposes.

Instead of being treated as a partnership for tax

purposes, some BDCs have been organized as

corporations and have obtained pass-through tax

treatment by qualifying as regulated investment

companies (“RICs”) under Subchapter M of the Internal

Revenue Code of 1986, as amended. To qualify as an

RIC, a BDC must, among other things, elect to be so

treated, must hold a diversified pool of assets and must

distribute substantially all (e.g., 90%) of its taxable

income each year. Generally, distributions by a BDC are

taxable as either ordinary income or capital gains in the

same manner as distributions from mutual funds and

closed-end funds, and a BDC shareholder will recognize

taxable gain or loss when it sells its shares.

How are portfolio investments valued?

BDCs cannot establish loan loss reserves to absorb

losses in their loan portfolios. Instead, BDCs must mark

their loan portfolio to fair value on a quarterly basis,

with any unrealized gains or losses reflected on their

6

income statements. Fair value is determined through

the cooperation of a BDC’s management and board of

directors, often with participation from internal auditors

and third-party valuation firms. The adoption in 2008

of SFAS 157, Fair Value Measurements, resulted in

slight adjustments to BDC balance sheets and income

statements as BDC fair value procedures were already

similar to SFAS 157 requirements. Currently, the

majority of BDC portfolio investments are deemed to be

valued in the Level 3 category with unobservable

inputs. As a result, BDCs conduct yield analysis and

enterprise value calculations to arrive at individual

portfolio valuations.

Affiliate Transactions

What are the various types of restricted transactions?

Unlike traditional investment companies, which are

subject to the affiliate transaction prohibitions of

Section 17 of the 1940 Act, BDCs are subject to Section

57 of the 1940 Act, which is a substantially modified and

relaxed version of Section 17. Section 57 generally

prohibits BDCs from effecting or participating in

transactions involving conflicts of interest unless certain

procedures are satisfied. Subsections 57(a) and (d)

prohibit certain persons (“affiliates”) from participating

in certain transactions involving BDCs and describes the

following four types of transactions (“Restricted

Transactions”) that such persons (and certain affiliated

persons of those persons), acting as principal, may not

enter into with BDCs without prior approval:

an affiliate may not knowingly sell any

securities or other property to a BDC or a

company controlled by it, unless either the

BDC is the issuer of the securities being sold,

or the affiliate is the issuer and the security is

part of a general offering to the holders of a

class of its securities;

an affiliate may not knowingly purchase from

a BDC, or a company controlled by it, any

security or other property except securities

issued by the BDC;

an affiliate may not knowingly borrow money

or other property from a BDC, or a company

controlled by it, with limited exceptions; and

an affiliate is prohibited from knowingly

effecting any joint transactions with a BDC, or

a company controlled by it, in contravention of

rules of the Securities and Exchange

Commission (the “SEC”).

What are the categories of BDC affiliates regulated by

Section 57?

Affiliates can be grouped into one of three general

categories, and this categorization determines the type

of approval, if any, required before engaging in a

Restricted Transaction. The categories of BDC affiliates

are described below.

First Tier Affiliates: Restricted Transactions with the

following “first tier affiliates” of a BDC are prohibited

unless the BDC receives prior approval from the SEC:

any director, officer or employee of the BDC;

any entity that a director, officer or employee

of the BDC controls; or

a BDC’s investment adviser, promoter, general

partner or principal underwriter, or any person

that controls or is under common control with

such persons or entities or is an officer,

7

director, partner or employee of any such

entities.

Second Tier Affiliates: Restricted Transactions with the

following “second tier affiliates” of a BDC are

prohibited unless a majority of the directors or general

partners who are not interested persons of the BDC (as

defined in the 1940 Act), and who have no financial

interest in the transaction, approve the transaction:

any 5% shareholder of the BDC, any director or

executive officer of, or general partner in, a 5%

shareholder of the BDC, or any person

controlling, controlled by, or under common

control with such 5% shareholder; or

any affiliated person of a director, officer or

employee, investment adviser, principal

underwriter for or general partner in, or of any

person controlling or under common control

with, the BDC.

The SEC has issued guidance recognizing that, in

many circumstances, limited partners and shareholders

should be treated comparably for purposes of

determining whether a Restricted Transaction involves

a first tier affiliate or second tier affiliate of a BDC. For

example, where a limited partner of a private fund

(under common control with a BDC by the BDC’s

investment adviser), who also owns 5% or more (but

25% or less) of the private fund’s outstanding voting

securities, is a first tier affiliate of the BDC solely

because the private fund is organized as a limited

partnership and the limited partner is seeking to co-

invest with the BDC, the limited partner may be treated

as if it were a shareholder of the private fund for

purposes of determining whether it is a second tier

affiliate of the BDC.

Controlled Affiliates: A “controlled affiliate” is a

downstream affiliate of a BDC whose securities are

more than 25% owned by the BDC. A controlled

affiliate is treated in the same manner as a second tier

affiliate when engaging in Restricted Transactions with

the BDC. However, the affiliate transaction prohibitions

of Section 57 “flow through” to all controlled affiliates

of the BDC. For example, if a BDC owns 30% of

Company A, Company A could not purchase securities

from a first tier affiliate of the BDC, unless the BDC

receives prior SEC approval.

Section 57(h) of the 1940 Act also requires the directors

or general partners of the BDC to maintain procedures

to monitor the possible involvement of first and second

tier affiliates in Restricted Transactions. Attached to

these FAQs as Exhibit A is a chart showing various

possible affiliates of a BDC and whether such affiliates

are first tier, second tier or controlled affiliates. Also

attached as Exhibit B is a table showing examples of

affiliate transactions of BDCs and guidance on whether

such transactions require the SEC’s or the BDC’s board

of directors’ approval. Note that an examination of all

potential affiliate transactions is beyond the scope of

these FAQs.

Internal Versus External Management Issues

What are the advantages of internal management?

A BDC may be internally or externally managed. In

some instances, the officers and directors of internally

managed BDCs supervise daily operations. In other

instances, an internally managed BDC will establish a

wholly owned subsidiary to conduct daily operations.

The officers, directors or wholly owned subsidiary of an

internally managed BDC are not registered with the

8

SEC as investment advisers. Internally managed BDCs

generally have lower expense ratios because the BDC

pays the operating costs associated with employing

investment management professionals as opposed to an

investment advisory fee, which includes a profit

margin. Internally managed BDCs also have fewer

conflicts between the interests of the manager and the

owners of the BDC. However, an internally managed

BDC must develop the infrastructure and hire

employees or establish a subsidiary to manage the BDC

and must address issues related to having custody of

the portfolio assets.

Note that it should be possible to limit the activities of

investment professionals invested in an internally

managed BDC to avoid registration under the

Investment Advisers Act of 1940 (the “Advisers Act”),

given that the investment professionals invested in the

few existing internally managed BDCs have not yet

registered under the Advisers Act.

What are the advantages of external management?

An externally managed BDC must contract with a third

party to provide investment advisory services. An

external investment adviser presumably already has the

infrastructure, staff and expertise to satisfy the

regulatory requirements applicable to BDCs, including

requirements relating to custody of assets. However,

the investment advisory agreement memorializing the

third-party contract is subject to the requirements of the

1940 Act, which include, among other things, approval

by the board of directors and shareholders of the BDC.

Certain inherent conflicts of interest may exist regarding

the adviser’s allocation of investment opportunities

between the BDC and the adviser’s other clients.

Investment advisers to externally managed BDCs also

must be registered with the SEC. Therefore, if an

adviser previously operated as an unregistered

investment adviser, the adviser may be required to

register with the SEC before serving as the BDC’s

investment adviser.

Registration as an investment adviser also adds

another layer of regulatory requirements, including,

among other things, adoption of a compliance program,

appointment of a chief compliance officer and adoption

of a code of ethics for directors, officers and investment

personnel governing personal investing activities.

What fees may be paid to an investment adviser?

Typically, an investment adviser is paid a management

fee equal to an annual rate of 1.75% to 2.5% of the gross

assets of the BDC’s portfolio (including any

borrowings), paid quarterly in arrears. Section 205(b)(3)

of the Advisers Act permits an investment adviser of a

BDC to also receive performance-based compensation,

provided that it does not exceed 20% of the realized

capital gains of the BDC, net of realized capital losses

and unrealized capital appreciation over a specified

time period or as of specified dates. The SEC staff has

stated that the 20% limitation is the maximum

performance fee, and not the maximum total

compensation. Thus, the investment adviser can receive

a management fee in addition to the performance fee.

The performance fee is typically paid out as follows:

0% of all net investment income earned at or

below a “hurdle rate” of 7%;

100% of all net investment income earned

above the 7% hurdle rate but below a “catch-

up rate” of 8.75%; and

20% of all net investment income earned above

the 8.75% “catch-up rate.”

9

Finally, as is the case with traditional closed-end

funds, brokers that sell BDC shares generally receive

significant compensation from front-end sales loads

charged to investors.

If a BDC elects to pay its investment adviser

performance-based compensation, then the BDC cannot

maintain an executive compensation plan that would

otherwise be permitted under the 1940 Act. Section

61(a)(3)(B) of the 1940 Act permits a BDC to issue to

certain directors, officers and employees warrants,

options and rights to purchase voting securities of the

BDC pursuant to an executive compensation plan if,

among other requirements:

the issuance is approved by the partners and

directors of the BDC (also requires SEC

approval if issuance is to a director who is not

also an officer or employee of the BDC);

the exercise or conversion price of such

warrants, options and rights is no less than the

current market value or net asset value of the

voting securities;

the voting securities are non-transferable

(except by gift, will or intestacy); and

the warrants, options and rights are not

separately transferable (unless no class of such

warrants, options or rights and the securities

accompanying them have been publicly

distributed).

How may a BDC compensate its management?

Internally managed BDCs may compensate

management through either (i) performance-based

compensation, including issuance of at-the-market

options, warrants or rights under an executive

compensation plan; or (ii) through the maintenance of a

profit-sharing plan. If an internally managed BDC

elects not to adopt either of these options, they may

compensate management through the use of cash

compensation. An externally managed BDC which

receives an incentive fee cannot participate in any

equity-based compensation plan.

Disclosure Requirements

What is a Form N-2?

A BDC that registers under the Securities Act must

register its securities on Form N-2. The registration

statement must provide enough “essential information”

about the BDC so as to help the investor make informed

decisions about whether to purchase the securities being

offered. Generally, the registration statement must

describe, among other things:

the terms of the offering, including the amount

of shares being offered, price, underwriting

arrangements and compensation;

the intended use of the proceeds;

investment objectives and policies, including

any investment restrictions;

risk factors associated with investing in the

BDC, including special risks associated with

investing in a portfolio of small and

developing or financially troubled businesses;

and

the management of the BDC, including

directors, officers and the investment adviser.

The registration statement must also include financial

statements of the BDC meeting the requirements of

Regulation S-X. In addition, BDCs with certain

10

significant subsidiaries may need to provide separate

financial statements or summarized financial

information for those subsidiaries as required by

Regulation S-X. Rule 3-09 under Regulation S-X

describes, among other things, the circumstances under

which separate financial statements of an

unconsolidated majority-owned subsidiary are required

to be filed with the SEC. Rule 4-08(g) under Regulation

S-X generally requires registrants to present in the notes

to their financial statements summarized financial

information for all unconsolidated subsidiaries when

any unconsolidated subsidiary, or combination of

unconsolidated subsidiaries, meets the definition of a

“significant subsidiary” in Rule 1-02(w) under

Regulation S-X. If a BDC is required to present

summarized financial information, the SEC generally

will not object if the BDC presents summarized financial

information in the notes to the financial statements only

for each unconsolidated subsidiary which individually

meets the definition of a “significant subsidiary” in Rule

1-02(w) but does not present summarized financial

information in the notes to the financial statements for

all unconsolidated subsidiaries.

What information regarding prospective portfolio

companies and the BDC’s investment methodology

must be included?

To the extent that a BDC has identified but not yet

purchased prospective portfolio companies in

anticipation of its initial public offering (“IPO”), the

initial registration statement should, at a minimum,

describe the general characteristics of the prospective

portfolio companies and the BDC’s criteria for

identifying prospective portfolio companies. The

description should include general guidelines used in

making investment decisions and any key elements of

the BDC’s investment methodology. If the BDC owns

the portfolio company at the time of registration, then

the registration statement must (1) identify each

portfolio company; and (2) disclose the following:

(A the nature of the portfolio company’s business,

(B) the title, class, percentage of class and value of the

portfolio company’s securities held by the BDC, (C) the

amount and general terms of all loans to the portfolio

company, and (D) the relationship of the portfolio

company to the BDC.

Is the SEC’s new reporting regime for registered

investment companies applicable to BDCs?

On October 13, 2016, the SEC adopted a new reporting

regime, including new reporting forms and

amendments to existing rules, for registered investment

companies. Although BDCs are not required to register

as investment companies under the 1940 Act, BDCs

elect to be subject to certain specialized provisions of the

1940 Act. As a result, BDCs are generally subject to a

different reporting regime than registered investment

companies. However, the amendments to Articles 6

and 12 of Regulation S-X included as part of the new

reporting regime are applicable to both registered

investment companies and BDCs.

The amendments to Regulation S-X require

standardized, enhanced disclosure about derivatives in

the BDC’s financial statements. Previously, Regulation

S-X did not prescribe specific information for most types

of derivatives, including swaps, futures and forwards.

However, Regulation S-X will now require prominent

placement of disclosure regarding investments in

derivatives in a BDC’s schedule of investments rather

than allowing such schedules to be disclosed in the

11

notes to the BDC’s financial statements.5 In addition,

the amendments to Regulation S-X modify the required

disclosures for investments in and advances to BDC

affiliates.6 The SEC expects that the amendments to

Regulation S-X will assist investors with comparing

BDCs and increase transparency regarding the use of

derivatives by BDCs. The amendments to Regulation

S-X will take effect on August 1, 2017.

What are the ongoing reporting requirements for BDCs?

BDCs are required to (1) file a notice with the SEC

pursuant to which the BDC elects to be treated as a

BDC, (2) register a class of equity securities under

Section 12 of the Exchange Act, (3) file periodic reports

under the Exchange Act, including 10-Ks, 10-Qs and

8-Ks, and (4) file proxy statements pursuant to Section

14(a) of the Exchange Act. Additionally, management

5 The amendments to Regulation S-X generally re-number the

current schedules in Article 12 of Regulation S-X, break-out the

reporting of derivatives currently on Schedules 12 and 13 into

separate schedules and require new schedules for open futures

contracts, open forward foreign currency contracts and open

swap contracts. Specifically, for each open written options

contract, new Rule 12-13 under Regulation S-X requires BDCs

to disclose the following information: (1) the description of the

contract; (2) the counterparty; (3) the number of contracts;

(4) the notional amount; (5) the exercise price; (6) the expiration

date; and (7) the value. For each open futures contract, new

Rule 12-13A under Regulation S-X requires BDCs to disclose

the following information: (1) the description of the contract;

(2) the number of contracts; (3) the expiration date; (4) the

notional amount; (5) the value; and (6) the unrealized

appreciation/depreciation. For each open forward foreign

currency contract, new Rule 12-13B under Regulation S-X

requires BDCs to disclose the following information: (1) the

amount and description of currency to be purchased; (2) the

amount and description of currency to be sold; (3) the

counterparty; (4) the settlement date; and (5) the unrealized

appreciation/depreciation. Under new Rule 12-13C under

Regulation S-X, BDCs will also be required to report the

counterparty to each transaction (except for exchange-traded

and centrally cleared swaps), the contract’s value and any

upfront payments or receipts. 6 The amendments to Regulation S-X modify Column C of the

schedule to Rule 12-14 under Regulation S-X to include “net

realized gain or loss for the period” and modify Column D to

include “net increase or decrease in unrealized appreciation or

depreciation for the period” for each affiliated investment.

must report their ownership of, and trading in,

securities in the BDC and are subject to the short swing

profits rules.

Can a BDC use a shelf registration statement for

registering multiple offerings of securities?

Yes, a BDC can use a shelf registration statement on

Form N-2 to register multiple offerings of securities.

However, the SEC has recently imposed a limit on the

cumulative dilution to a BDC’s current NAV per share

that a BDC may incur while using a shelf registration

statement to sell shares of its common stock at a price

below NAV. A BDC can complete multiple offerings off

of an effective shelf registration statement only to the

extent that the cumulative dilution to the BDC’s NAV

per share does not exceed 15%. Once the cumulative

dilution exceeds 15%, the BDC must file a post-effective

amendment to the shelf registration statement or file a

new shelf registration statement. A BDC also must

provide (1) in the related prospectus supplement for the

offering, specific dilution tables showing the dilutive or

accretive effects that the offering will have on different

types of investors and a chart based on the number of

shares offered and the discount to the most recently

determined NAV, and (2) in the shelf registration

statement or post-effective amendment, an additional

undertaking that it will file a post-effective amendment

if its common stock is trading below NAV.

BDCs typically use shelf registration statements to

issue debt and equity securities. Debt securities are

issued by BDCs from time to time either in follow-on

offerings or takedowns from a medium-term note

program (in which case a prospectus supplement for the

12

medium-term note program is first filed with the SEC).7

BDCs also frequently list their debt securities on a

national securities exchange (such debt securities are

referred to as “baby bonds” due to their low minimum

denominations). Equity securities are issued by BDCs

from time to time either in follow-on offerings or in “at-

the-market” offerings. An “at-the-market” offering is an

offering of securities into an existing trading market for

outstanding shares of the same class at other than a

fixed price on, or through the facilities of, a national

securities exchange, or to or through a market maker

otherwise than on an exchange. Equity distribution

programs often are established for “at-the-market”

offerings (in which case a prospectus supplement for the

equity distribution program is first filed with the SEC),

and these programs are considered the equity analogue

to a medium-term note program.8

Can a BDC qualify as an “emerging growth company”

and what are the benefits?

Yes, a BDC may qualify as an “emerging growth

company” (“EGC”), which is a new category of issuer

under Title I of the Jumpstart Our Business Startups

(JOBS) Act enacted on April 5, 2012, which amends

Section 2(a) of the Securities Act and Section 3(a) of the

Exchange Act. An EGC is an issuer with total annual

gross revenues of less than $1 billion (with such

threshold indexed to inflation every five years), and

would continue to have this status until: (i) the last day

of the fiscal year in which the issuer had $1 billion in

7 For more information on medium-term note programs, see our

“Frequently Asked Questions About Medium-Term Note

Programs,” available at:

http://media.mofo.com/files/Uploads/Images/FAQAtTheMarke

tOfferings.pdf. 8 For more information on “at-the-market” offerings, see our

Frequently Asked Questions About At-the-Market Offerings,”

available at:

http://media.mofo.com/files/Uploads/Images/080818FAQsMT

N.pdf.

annual gross revenues or more; (ii) the last day of the

fiscal year following the fifth anniversary of the issuer’s

IPO; (iii) the date on which the issuer has, during the

previous three-year period, issued more than $1 billion

in non-convertible debt; or (iv) the date when the issuer

is deemed to be a “large accelerated filer” as defined by

the SEC. However, a BDC issuer will not be able to

qualify as an EGC if it first sold its common stock in an

IPO prior to December 8, 2011.

The benefits for a BDC of qualifying as an EGC

include the following:

may file a registration statement with the SEC

on a confidential basis;

expanded range of permissible pre-filing

communications made to qualified

institutional buyers or institutional accredited

investors;

only need to provide two years of audited

financial statements to the SEC (rather than

three years), and the auditor attestation on

internal controls requirement may be delayed;

exemption from the mandatory say-on-pay

vote requirement and the Dodd-Frank Act

required CEO pay ratio rules (to be adopted by

the SEC), and the ability to use certain smaller

reporting company scaled disclosure;

no requirement to comply with any new or

revised financial accounting standard until the

date that such accounting standard becomes

broadly applicable to private companies; and

no longer subject to any rules requiring

mandatory audit firm rotation or a supplement

to the auditor’s report that would provide

additional information regarding the audit of

http://media.mofo.com/files/Uploads/Images/FAQAtTheMarketOfferings.pdf

http://media.mofo.com/files/Uploads/Images/FAQAtTheMarketOfferings.pdf

http://media.mofo.com/files/Uploads/Images/080818FAQsMTN.pdf

http://media.mofo.com/files/Uploads/Images/080818FAQsMTN.pdf

13

the issuer’s financial statements (no such

requirements currently exist).

An EGC may forego reliance on any exemption

available to it. However, if it chooses to comply with

financial reporting requirements applicable to non-

EGCs, the EGC must comply with all such standards

and cannot selectively opt in or opt out of requirements.

Any election must be made at the time the EGC files its

first registration statement or Exchange Act report.

Can a BDC conduct a road show? What about a

“non-deal” roadshow?

During the offering process, a BDC’s management may

make presentations to invited groups of institutional

investors, money managers and other potential

investors. This is commonly referred to as a “road

show” and is usually organized by the underwriters in

the offering. A BDC may also conduct a “non-deal”

road show, in which case the BDC meets with

institutional investors even though no offering is then

contemplated. In either case, the BDC must give

consideration as to whether the communications or

presentations made during the road show may be

deemed to be written communications in connection

with an offering of the BDC’s securities. Written

communications (other than the offering prospectus)

may not be used in connection with an offering of a

BDC’s securities because BDCs, along with blank-check

companies, shell companies, penny-stock issuers, asset-

backed issuers and investment companies, are not

permitted to rely on Rule 433 under the Securities Act

and use free writing prospectuses (“FWPs”).9 Although

9 The term “free writing prospectus” refers to any “written

communication” that constitutes an offer to sell or a solicitation

of an offer to buy SEC-registered securities and is not (i) a

statutory prospectus, (ii) a communication made in reliance on

special rules for issuers of asset-backed securities and (iii) a

communication given together with or after delivery of a final

the SEC and the courts interpret the term “offer”

broadly, a live road show is generally not considered a

written communication. A live road show includes any

of the following:

a live, in-person road show to a live audience;

a live, in real-time road show to a live audience

that is transmitted graphically;

a live, in real-time road show to a live audience

that is transmitted to an “overflow room”;

a webcast or video conference that originates

live and in real-time at the time of transmission

and is transmitted through video conferencing

facilities or is webcast in real-time to a live

audience; and

a slide deck or other investor presentation used

during any such live road show, unless

investors are permitted to print or take copies

of such information.

With respect to the slide deck or investor presentation

used in non-deal road shows, it is common practice for

BDCs to post their slide decks or investor presentations

on their websites and update them periodically. Under

certain circumstances, particularly if the BDC is

concerned with Regulation FD, a BDC may also file or

furnish the non-deal road show materials under cover

of Form 8-K. Regulation FD prohibits the intentional

disclosure of material non-public information regarding

an issuer or its securities to select categories of people,

such as broker-dealers, investment advisers, investment

companies and other select investors that would

typically be the audience for a “non-deal” road show.10

prospectus. An FWP can only be used after a registration

statement is filed. 10 For more information on Regulation FD, see our “Frequently

Asked Questions About Regulation FD,” available at:

https://media2.mofo.com/documents/faqs-regulation-fd.pdf.

https://media2.mofo.com/documents/faqs-regulation-fd.pdf

14

Ongoing 1940 Act Requirements

Are there certain requirements regarding the board of

directors of a BDC?

Since the enactment of the 1940 Act, Congress and the

SEC have emphasized the role that boards of directors

play in overseeing investment companies and policing

the conflicts between investment companies and their

investment advisers. To ensure that a board is unbiased

when policing conflicts, a majority of the board of

directors must be persons who are not “interested

persons” of the BDC. Under the 1940 Act, an

“interested person” is defined to include the following:

(1) any officer, director and employee of the BDC

(however, no person is deemed to be an interested

person solely by reason of being a member of the board

of directors); (2) a five percent or more voting

shareholder of the BDC; (3) a person who is a member

of the immediate family of an affiliate of the BDC;

(4) legal counsel to the BDC; or (5) any natural person

who the SEC determines to have had a material

business relationship in the past two completed fiscal

years with the BDC or the BDC’s chief executive officer.

In addition to traditional corporate responsibilities

and fiduciary duties imposed on the board of directors

of a BDC by common law as well as state law, directors

are charged with certain responsibilities under the 1940

Act. The board of directors must approve any

underwriting agreements, valuation policies,

compliance policies and the investment advisory

agreement.

What policies and procedures must the BDC adopt?

A BDC and, if applicable, its external investment

adviser, must adopt a code of ethics reasonably

designed to prevent certain persons who may have

access to information regarding securities trades made

on behalf of the BDC (such people are referred to as

“access persons”) from engaging in any fraudulent,

deceptive, or manipulative acts. The code of ethics must

require periodic reporting by such access persons and

impose recordkeeping requirements on the BDC and

investment adviser, as applicable. Under the periodic

reporting requirements, the access persons must

provide three types of reports: (i) an initial holdings

report, disclosing the securities held by the person upon

becoming an “access person”; (ii) a quarterly transaction

report, disclosing transactions during a calendar quarter

including the nature of the transactions; and (iii) an

annual holdings report, disclosing securities held by the

access person at the end of a calendar year. Annually,

the BDC must provide its board of directors with a

report describing issues arising under the code of ethics,

material violations and sanctions in response to material

violations of the code of ethics.

Additionally, every registered investment company

must adopt and implement policies and procedures

reasonably designed to prevent violations of the federal

securities laws and must designate a chief compliance

officer to oversee the administration of these policies

and procedures. The BDC’s compliance procedures

must address, at a minimum, the following areas:

(i) portfolio management processes; (ii) trading

practices; (iii) accuracy of disclosures; (iv) safeguards on

client assets from advisory personnel; (v) accurate

creation of records; (vi) valuation of portfolio holdings;

(vii) identification of affiliated persons; (viii) protection

of non-public information; and (ix) compliance with the

various governance requirements. The compliance

procedures must be approved by the board of directors,

including a majority of the independent directors.

Annually, the board of directors must review the

15

compliance policies to ensure the ongoing effectiveness

of the procedures.

Section 31 of the 1940 Act requires that every

registered investment company maintain and preserve

records as prescribed under the rules adopted by the

SEC. The rules require, among other items, that all

investment companies maintain and keep current the

following documents: (i) all documents relating to the

filing of financial statements; (ii) records relating to the

purchase and sale of securities (including the

commissions paid); (iii) all ledgers reflecting assets and

liabilities; (iv) corporate charters; (v) proof of cash

balances; (vi) persons and groups of persons authorized

to transact in securities; and (vii) brokerage orders. The

records may be maintained in electronic format as long

as they are arranged and indexed in a manner that

permits easy access and a legible true and complete

copy of the document can be promptly provided. It is

recommended that every BDC adopt a records retention

policy to ensure reasonable compliance with the SEC

rules.

Furthermore, all securities of the BDC must be held by

a custodian meeting the requirements of Section 26(a)(1)

of the 1940 Act.

Note that an examination of all of the required policies

and procedures are beyond the scope of this FAQ.

Are there any specific insurance requirements a BDC

must comply with?

A BDC must provide and maintain a bond issued by a

fidelity insurance company to protect the BDC against

embezzlement and larceny. The fidelity bond must

cover each officer and employee who has access to

funds and securities. The amount of coverage is tied to

the amount of the BDC’s assets.

_____________________

By Ze’-ev D. Eiger, Partner, and

Anna T. Pinedo, Partner,

Morrison & Foerster LLP

© Morrison & Foerster LLP, 2016

BDC

Director and

Officers of BDC

Control

Affiliate* D & Os Partners

> 5% Owner

but < 25%

Affiliated

Person** Portfolio Company***

Control

Affiliate* Investment Adviser

Partner of I/A

D & Os

Principal Underwriter Controlled Affiliate

(i.e., BDC owns >25% of

portfolio company)

General Partner

of BDC

Shaded Entities = First Tier Affiliates (SEC Approval Required)

Unshaded Entities =Second Tier Affiliates (Board Approval Required)

* Any person that controls (i.e., >25% owner), is controlled by (i.e., >25% owned), or is under common control with the other person.

** Any person that owns at least 5%, but not more than 25% of the other person.

*** No approval required if only relationship is with a common director.

Possible

Co-Directors

Exhibit A

Partner of P/U

D & Os

Flo

w T

hro

ug

h

Affiliated

Person**

Affiliated

Person**

Affiliated

Person**

Control

Affiliate*

Control

Affiliate*

Controlling Affiliate

(i.e., 25% owner of BDC)

or under Common

Control with BDC

= one way affiliation

= two way affiliation

Affiliated

Person**

Private Fund

Affiliated

Person**

Exhibit B

Proposed Transaction Result Under Section 57 of the 1940 Act

Sale by a 25% shareholder of a BDC of securities of

Company A to the BDC

Prohibited without prior SEC approval

Simultaneous investment by a BDC and a general

partner of the BDC in Company A


Sale by a director, officer or employee of a BDC of

securities of Company A to the BDC


Joint venture between a controlling interestholder

in the BDC and a portfolio company

Prohibited without prior SEC approval if the

portfolio company is a controlled affiliated of the

BDC; otherwise permissible

Simultaneous investment by a BDC and a 5%

shareholder of the BDC in Company A

Permissible with prior approval of the BDC’s

independent directors

Sale by a BDC of securities of Company A to a 5%

shareholder of the BDC’s investment adviser



Sale by a 5% shareholder of a BDC of securities of

Company A to Company B, 25% of which is owned

by the BDC



Simultaneous investment by a BDC and a limited

partner of a private fund (under common control

with the BDC by the BDC’s investment adviser),

who also owns 5% or more (but 25% or less) of the

private fund’s outstanding voting securities



Loan by a BDC to a company which is 50% owned

by the BDC*

Not Prohibited

Acquisition by a BDC of securities of Company A,

which is 25% owned by the BDC, from a director

and 10% shareholder of Company A*

Not Prohibited

Follow-on investment by a BDC in an existing

portfolio company

Not Prohibited

Sale by a BDC officer of securities of Company A,

5% of which is owned by the BDC, to Company A

Not Prohibited

__________________________

* Provided that the portfolio company (or director) does not own 5% of the BDC, and is not an affiliated

person of a director, officer, employee, principal underwriter, a general partner of, or any person controlling

(25% owner) the BDC.


| PAGE 54

SURVEY OF BDC IPO UNDERWRITING DISCOUNTS (AS OF NOVEMBER 30, 2016)

Issuer6 Date Public offering

price ($ per share)

Public offering price ($ total)

Underwriting discounts

($ per share)

Underwriting discounts ($ total)


(% of public offering price per share)

Goldman Sachs BDC, Inc. 3/17/15 $20.00 $120,000,000 $1.207 $7,200,000 6.00%

Alcentra Capital Corp. 5/9/14 $15.00 $100,000,000 $0.90 $6,000,000 6.00%


3/20/14 $16.00 $112,000,000 $0.96 $6,720,000 6.00%


3/5/14 $15.00 $124,999,995 $0.90 $7,500,0008 6.00%

CM Finance Inc. 2/5/14 $15.00 $100,000,000 $0.90 $6,000,000 6.00%

American Capital Senior Floating, Ltd.

1/15/14 $15.00 $150,000,000 $0.825 $7,837,500 5.50%

Capitala Finance Corp. 9/24/13 $20.00 $80,000,000 $1.00 $4,000,000 5.00%


7/11/13 $15.00 $100,000,020 $0.7875 $5,250,001 5.27%

Harvest Capital Credit Corp.

5/2/13 $15.00 $51,000,000 $0.90 $3,060,000 6.00%

Garrison Capital Inc. 3/26/13 $15.00 $80,000,010 $1.05 $5,600,000.70 7.00%

WhiteHorse Finance, Inc. 12/10/12 $15.00 $100,000,005 $0.90 $6,000,000.30 6.00%

Stellus Capital Investment Corp.

11/13/12 $15.00 $120,000,000 $0.90 $7,200,000 6.00%

OFS Capital Corp. 11/8/12 $15.00 $100,000,005 $1.05 $6,230,3509 7.00%

Monroe Capital Corp. 10/24/12 $15.00 $75,000,000 $0.90 $4,077,00010 6.00%

6 All of the BDCs listed are traded on an exchange. 7 The issuer’s investment adviser will pay 70% of the underwriting discount ($.84 per share) and the issuer will pay 30% of the underwriting discount ($.36 per share). 8 The total sales load for the offering was approximately $7.5 million. The adviser has agreed to pay the underwriters 50% of the total sales load in an amount equal to approximately $3.75 million. 9 There were no underwriting discounts for 733,000 shares sold to certain investors. 10 There were no underwriting discounts for 470,000 shares sold to certain friends and family.


| PAGE 55

Issuer6 Date Public offering

price ($ per share)

Public offering price ($ total)


($ per share)

Underwriting discounts ($ total)


(% of public offering price per share)

TCP Capital Corp. 4/3/12 $14.75 $84,812,500 $0.74 $4,240,625 5.02%

Fidus Investment Corp. 6/20/11 $15.00 $70,050,000 $1.05 $4,533,01011 7.00%


5/19/11 $13.75 $99,999,996 $0.9625 $7,000,000 7.00%


5/19/11 $13.75 $99,999,996 $0.9625 $7,000,000 7.00%

GSV Capital Corp. (formerly NeXt

Innovation Corp.) 4/28/11 $15.00 $50,025,000 $1.05 $3,501,750 7.00%

Solar Senior Capital Ltd. 2/25/11 $20.00 $160,000,000 $1.40 $11,200,000 7.00%

Medley Capital Corp. 1/20/11 $12.00 $133,333,344 $0.72 $7,400,001 6.00%


10/28/10 $16.00 $100,000,000 $1.12 $7,000,000 2.33%


4/19/07 $15.00 $300,000,000 $0.975 $19,500,000 6.50%

11 For the 4,262,236 shares sold directly to the public the underwriting discounts were $4,475,348, for 256,666 shares sold to certain friends and family there were no underwriting discounts and for 51,098 shares sold to certain friends and family there were underwriting discounts of $56,662.


| PAGE 56

HISTORICAL BDC IPOS (MARCH 20, 2015 TO NOVEMBER 30, 2016)12

Sierra Income Corporation

Terra Income Fund 6, Inc.

Carey Credit Income Fund 2016 T

Carey Credit Income Fund - I

Freedom Capital Corporation

Corporate Capital Trust II FS Investment Corporation IV

LLC/ Corporation Corporation Corporation Delaware Statutory

Trust Delaware Statutory

Trust Corporation Delaware Statutory Trust Corporation

“Conversions” No No No No No No No

Exchange Not listed Not listed Not listed Not listed Not listed Not listed Not listed

Small Business Investment

Companies (“SBIC”) No No No No No No No

Blind Pools vs. Identified Assets Identified assets Blind pool Blind pool Blind pool Blind pool Blind pool Blind pool

If Identified Assets, Assets Acquired

from Affiliate

Certain negotiated co-investments with affiliates

N/A N/A N/A N/A N/A N/A

Track Record of Investment Advisor

General bios. SIC Advisors is an

affiliate of Medley and has offices in

New York and San Francisco.

Medley is an asset management firm

with approximately $3.7 billion of assets under

management as of December 31, 2014.

General bios only General bios only General bios only General bios only General bios only

General bios. The managers, officers and other personnel of the issuer’s Advisor also currently manage the following entities through affiliated

investment advisers: (i) FS Investment Corporation (gross assets

of $4,358,345,000); (ii) FS Investment Corporation II (gross assets of $5,122,417,000); (iii) FS Investment Corporation III (gross assets of $1,934,483,000); (iv) FS

Energy and Power Fund (gross assets of $3,973,223,000); and (v) FS Global

Credit Opportunities Fund (gross assets of $1,374,753,000).

Exemption in N-6F 3(c)(1) 3(c)(1) 3(c)(1) 3(c)(1) 3(c)(1) 3(c)(1) 3(c)(1)

Date N-6F Filed July 18, 2011 March 2, 2015 September 22, 2014 September 9, 2014 March 3, 2015 September 30, 2015 May 15, 2015

12 Includes unlisted BDCs due to the fewer number of offerings for listed BDCs in the relevant period.


| PAGE 57

Sierra Income Corporation

Terra Income Fund 6, Inc.

Carey Credit Income Fund 2016 T

Carey Credit Income Fund - I

Freedom Capital Corporation Corporate Capital Trust II FS Investment Corporation IV

Date N-54 Filed April 13, 2012 April 20, 2015 July 17, 2015 July 29, 2015 September 2, 2015 October 9, 2015 October 9, 2015

Pricing Date April 14, 2015 April 20, 2015 July 24, 2015 (continuous)

July 31, 2015 (continuous)

September 14, 2015 October 21, 2015 October 28, 2015

Exemptive Relief from Investment Company Act of

1940

The issuer expects to originate the majority of its investments through its

adviser’s direct origination

platform, and in particular through

negotiated co-investment

transactions with certain of its

adviser’s affiliates pursuant to an

exemptive order received by certain

of its affiliated entities from the

SEC on November 25,

2013.

The issuer intends to seek exemptive

relief from the SEC to engage in co-

investment transactions with its advisor and its

affiliates, including the Terra Income Funds; however, there can be no

assurance that it will obtain such exemptive relief. Even if the issuer does obtain such exemptive relief,

the conditions imposed by the SEC in granting

such an order may preclude the issuer from transactions in which it would

otherwise be entitled to engage.

The issuer has applied for

exemptive relief with the SEC to

engage in co-investment

transactions.

The issuer has applied for

exemptive relief with the SEC to

engage in co-investment

transactions.

None

On May 21, 2013, the SEC issued an order granting

Corporate Capital Trust, Inc., (“CCT”) an affiliate of one of

the Advisors, exemptive relief that expanded CCT’s ability to co-invest with certain of the affiliates of CCT’s advisors in

privately negotiated transactions. Subject to the conditions specified in the

exemptive order, CCT is permitted to co-invest with

those affiliates in certain additional investment

opportunities, including investments originated and directly negotiated by the Advisor. On December 24,

2014, CCT and the issuer filed an amendment with the SEC to

request expansion of the exemptive relief granted to CCT to include the issuer so that the issuer will also have the ability to co-invest with

certain of the affiliates of the Advisors, including CCT, in

privately negotiated transactions, including certain

investments originated and directly negotiated by the

Advisors.

The prospectus relates to the issuer’s shares of Class A, Class D, Class T and

Class I common stock. The issuer is currently only offering Class T shares for sale. The issuer has submitted to

the SEC an application for an exemptive order to permit it to offer

additional classes of common stock. If an exemptive order satisfactory to it is granted prior to the Trigger Date, the

issuer intends to offer Class A, Class D and Class I shares and may offer other

classes of common stock. If an exemptive order satisfactory to it is

not granted prior to the Trigger Date, the issuer will close the offering of Class T shares (other than shares

issued under our distribution reinvestment plan) and will not issue Class A, Class D or Class I shares. The

exemptive order may require the issuer to supplement or amend the terms set forth in the prospectus, including the terms of the Class T

shares offered thereby, and the issuer will file a prospectus supplement or an amendment to the registration

statement to the extent required by the SEC.

| PAGE 58

Practice Group Description

Business Development Companies

Business development companies ("BDCs") are special investment vehicles designed to facilitate capital formation for small and middle-market companies. BDCs elect to be subject to certain provisions of the 1940 Act and benefit from favorable tax treatment. Given the dislocations caused by the financial crisis, BDCs are playing an increasingly significant role as providers of capital to small and emerging companies that may not be able to obtain bank financing or do so at attractive levels. Morrison & Foerster's leading securities practice, combined with our knowledge of the 1940 Act, the Advisers Act and the tax considerations applicable to BDCs, make us a regular choice for private equity and other sponsors of BDCs and for the underwriters and advisers to BDCs. Morrison & Foerster has for decades been known as a leading firm advising issuers and underwriters on initial public offerings. Given our depth of capital markets experience, and our expertise in some of the most active industries for offerings, we are a key partner for issuers transitioning to public ownership. With our tax and investment management colleagues, we assist sponsors, management and boards of directors in structuring and forming their BDCs. We help our clients to anticipate potential accounting and regulatory issues; plan the company's financing strategy several steps beyond the IPO; structure intercompany relationships; adopt the requisite compliance policies and procedures; obtain requisite exemptive relief; and, of course, draft disclosure. Given our roots in Silicon Valley, we are committed to emerging companies, and have championed many of the reforms that made their way into the JOBS Act. Once the JOBS Act was enacted, we promptly launched various dedicated JOBS Act resources. We regularly represent issuers, underwriters and placement agents in all aspects of equity capital markets transactions, including advising on public (IPO and follow-on) and private offerings, including confidentially marketed public offerings, at-the-market offerings, shelf offerings, private placements of equity securities and PIPE transactions. We also are one of the preeminent firms advising on debt issuances. We advise clients on a full range of disclosure, governance and regulatory matters relating to the federal securities laws, including the 1940 Act and the Advisers Act. We prepare registration documents, and help our clients in all phases of their operations, including disclosure, compliance, risk management, record-keeping, and oversight by independent directors. We also advise BDCs on best practices regarding compliance policies and procedures. In addition, we provide practical advice on matters relating to capital structure, including compliance with the asset coverage test, the issuance of securities below net asset value, transactions with affiliates, the valuation of securities, social media and related matters.

| PAGE 59

Practice Group Description

With increased interest in consolidations in the BDC sector, we are well equipped to advise boards on matters related to replacing advisers to BDCs, negotiating new advisory agreements, evaluating merger opportunities, and negotiating acquisitions. Our financial transactions group and our bankruptcy and restructuring group also provide support for our BDC clients. Our financial transactions group works with BDCs to negotiate and establish credit facilities. We also have extensive experience structuring and negotiating investments in BDC portfolio companies. This includes first and second lien loans, unitranche and other first out/last out loans, covenant-lite loans, PIK debt, subordinated loans, debtor-in-possession loans, high-yield debt securities, convertible debt, preferred equity and other mezzanine financings. Our bankruptcy and restructuring group advises BDCs and other lenders in connection with distressed investments, including restructurings, out-of-court workouts, foreclosures and bankruptcy proceedings. Finally, our tax department is an integral part of the Morrison & Foerster team advising BDCs. As such, the tax team focuses on creating the most tax efficient structure depending on the facts and circumstances of any particular BDC or company looking to become a BDC. Our tax department has significant experience with both private and public BDCs. In addition, members of our tax team have decades worth of experience with the taxation of regulated investment companies that are eligible for favorable tax treatment. This experience is of particular significance to public BDCs since they typically elect to be treated as regulated investment companies.

For more information about our BDC practice, visit our website: http://www.mofo.com/practices/services/industries/business-development-companies

http://www.mofo.com/practices/services/industries/business-development-companies

http://www.mofo.com/practices/services/industries/business-development-companies

@thinkingcapmkts

www.mofo.com

About Morrison & Foerster With more than 1,000 attorneys across the United States, Asia, and Europe, Morrison & Foerster offers comprehensive, global legal services to our clients. The consistently high quality and efficacy of our work across a wide range of practices has been well recognized. We’ve been included on The American Lawyer’s A-List for 13 straight years, and Fortune named us one of the “100 Best Companies to Work For.” Best Lawyers in America 2017 names 134 of our attorneys from our domestic offices to their list of leading lawyers, based on peer recommendations. Chambers USA 2016 ranks MoFo among the leading practices nationally and regionally in 54 areas and Legal 500 US 2016 ranks us in 50 of our practice areas.

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