Senate bill gives BDCs hope for increased leverage

Legislation would allow business development companies to increase debt-to-equity ratio to 2:1, up from 1:1

Feb 2, 2018 @ 3:52 pm

By Mark Schoeff Jr.

Bipartisan support for the first Senate legislation to reform business development company rules is giving backers of the alternative investment hope for big changes ahead.

In January, Sens. Dean Heller, R-Nev., and Joe Manchin, D-W.Va., introduced the Small Business Credit Availability Act that would allow BDCs to increase their debt-to-equity ratio to 2:1 — up from the current 1:1 — and would ease filing requirements. Sen. Joe Donnelly, D-Ind., is another co-sponsor.

The Senate move follows House Financial Services Committee approval of a companion bill in a November vote of 58-2. The legislation is now awaiting action by the full House.

"The introduction of a bill in the Senate is a significant milestone," said Michael Gerber, executive vice president of FS Investments, an asset manager specializing in alternative investments. "With strong bipartisan support in both chambers, we believe there's momentum behind the bill and the opportunity to pass it into law this Congress."

The legislation is advancing as BDCs, which are typically used to diversify portfolios and provide income streams, suffered setbacks last year in sales and equity raising.

Previous BDC legislation failed to get through the House. This year's version removed several controversial provisions, including ones that would have allowed BDCs to have an ownership stake in a registered investment advisory firm, issue preferred equity and increase their investments in financial companies.

Those changes were not enough to assuage Bartlett Naylor, financial services advocate at the consumer group Public Citizen, who warned of the potential for BDCs to harm investors.

"Reducing disclosure and raising leverage limits won't help investors but expose them to a greater chance of failure," Mr. Naylor wrote in an email. "BDCs are growing rapidly. Given that a sizable number have suffered losses, such as in the energy sector, there's no need to supercharge this area."

The investment vehicles are required to invest 70% of their assets in small- and medium-size U.S. businesses. The other 30% can be invested in financial companies.

Advocates for BDCs stress their role in helping domestic startup companies get financing when they can't obtain it from traditional banks.

"This is really a buy-American mandate," said Anya Coverman, director of government relations and general counsel at the Investment Program Association, an alternative-investments trade group. "They play a very important role in the economy."

When BDC legislation was being considered in the House in 2015, then-Securities and Exchange Commission chairwoman Mary Jo White wrote a letter to the House Financial Services Committee opposing the measure because it posed a risk to investors.

The SEC has not written a similar letter to lawmakers, as Congress again takes up BDC legislation. An SEC spokeswoman declined to comment.

"It's a modest increase in leverage — particularly when considering the high degree of transparency BDCs offer — and would result in much more limited use of leverage compared to that of other lenders in the marketplace, such as banks and hedge funds," Mr. Gerber said.

But Mr. Naylor said the BDC legislation would let debt levels rise too high because "some of the portfolio companies already carry debt."


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