Friday, July 27, 2012

A Banal BDC Bash

Here is an article on non-traded business development companies (BDCs) from  It presents some good information but it's mixed with bad information, so read the article carefully.  If you're going to slam a product type, you need to get your facts correct.  

Several times the article refers to non-traded BDCs as private investments. Here is a big quote, the second paragraph of the article:
“In my opinion, brokers should not be selling private anything—private placement, private REIT, private business development corporation—because it limits the flexibility, it limits liquidity, it limits transparency, and it almost always means higher fees internal,” said Joshua Brown, vice president of Investments at Fusion Analytics Investment Partners. “The only reason [non-traded BDCs] get sold is because it’s product and it’s sexy and it’s a way for a broker to get a higher fee for the same dollars that they would put into a public version.”
All the BDCs being offered today, and the ones discussed in the article, are public entities, not private placements.  The disclosure for these public non-traded BDCs is excellent, and should be the same as for traded BDCs.  If you read the SEC filings of non-traded BDCs you get a good sense of how the BDCs are performing.

Financial journalists need to understand the important distinction between non-traded entities and private placements.  Just because an entity is not traded doesn't mean it's a private placement. 

The article points out that many sponsors of non-traded REITs have jumped into the BDC sponsorship business.   This is certainly true, and unfortunately, it's one reason why BDCs and non-traded REITs are lumped together.  Only one sponsor, AR Capital, is managing its BDC portfolio, and it hired an experienced BDC team to build and manage the portfolio, so the real estate guys are not doing double duty learning the leveraged, middle market loan business on the fly.  The typical approach, is for a non-traded REIT sponsor to contract with an experienced sub-advisor to manage the BDC assets, so again, the non-traded REIT sponsors are not managing BDC assets.  The use of sub-advisors has its own issues, but to imply that non-traded REIT sponsors are all of a sudden credit and debt managers is incorrect.

The initial load for all the non-traded BDCs I've seen is 11.50%.  After this, and it's obviously a big this, the on-going fee structures between traded and non-traded BDCs are nearly identical, as the both traded and non-traded BDCs pay asset management fees and incentive compensation to their sponsors.   BDCs can be very lucrative to BDC sponsors and advisors, whether the BDC is traded or non-traded. 

BDCs are not new, but have seen a resurgence due to the credit crisis and the capital raising success of Franklin Square's BDCs.  Advisors and broker / dealers need to understand that BDCs are high yield, leveraged loan funds that make loans to private middle market companies (typically companies with revenue of less than $1 billion).  BDCs are not a panacea, not for every client, and are not some risk-free way to generate high commissions and high yields.  Advisors and broker / dealers need delve into and understand not only BDCs' fee structures but their whole business models.  The article, while providing some good information, does not give broker / dealers and advisors a complete picture of BDCs.

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