I can understand the concern about the future of SLRC portfolio company DS Waters. AINV got into difficulty when one of its very large holdings, Innkeepers USA Trust, went on non-accrual, and subsequently entered Chapter 11 bankruptcy in July of 2010. InnKeepers exited bankruptcy 15 months later. I am not sure AINV has fully recovered from that mistake. But there is little evidence, at this point, that DSW is an "InnKeepers".
I have not tried to quantify the affect on SLRC's NAV or earnings should DS Waters get into serious trouble because I don't think DSW is in any real trouble. Yes, DSW had to refinance the maturing debt, and because they gave up a lot to get the new package, things were obviously not as smooth as one would hope for. But the refinancing is done and DSW is moving forward. DSW is a big Company. It has been around a long time and appears to have stable and improving operations, and it has a strengthened management team. One could take the worst case (total loss) and get a rough estimate of the affect on SLRC NAV by taking the current fair value of the DSW investment and dividing that number by the SLRC shares outstanding. Earnings would be a bit more difficult because we have to consider both the forward losses to NII (PIK is an income statement item even if not yet collected) and the realized capital loss. But, in my judgment, DSW is a survivor and SLRC will monetize that investment sooner than later, and on favorable terms. So even though vigilance is appropriate, to speculate on DSW's demise at this point, may not be very realistic or productive.
Also consider this. SLRC is expected to deliver one of its best quarters (in Q2) from a portfolio growth standpoint. Not only should this performance subsequently result in increased earnings, but it will also reduce the concentration risk of the DS Waters holding in the portfolio.
To editorialize a bit, I think too many folks are too concerned about the risk involved with investing in BDC stocks. During the 2008 market collapse, BDC's were under price pressure as were most other companies. But not one BDC filed for or went into any bankruptcy chapter. Yes, there were take over mergers (ARCC bought ALD; PSEC took out Patriot Capital), and there were restructures (GNV to SAR and HCD to non-BDC HCF), and four withdrew from BDC status (KED, TTO, UTK, and MACC). All BDC's survived either in a different format or as part of another company. None caused a total loss to their investors as did so many other non-BDC companies.
So from a safety standpoint, what have BDC's got going for them?
1) BDC portfolio companies often have two sets of management teams. One is the management team that runs the portfolio company and the second is the BDC managers themselves or the sponsor managers for sponsored loans. That is a lot of brain power.
2) leverage is limited by regulation. A high debt structure can become a difficult burden. The BDC's debt to equity restrictions do not permit the BDC's to accumulate excessive debt.
3) Because of the high dividend payments, BDC's tend to recover from down periods faster than most. And the high fixed income provided by the right BDC's, makes it much easier to ride through economic and stock market downturns.
4) Yes, BDC's invest in younger companies and younger, smaller companies are often considered more risky companies. But not only do these portfolio companies have advisory help (see item 1 above), but the BDC's themselves have numerous companies in their portfolios representing a variety of industries. SLRC has 34 of them. And these portfolio companies sell a huge variety of products to countless customers. So no one product failure or even a particular industry slowdown, will be that troublesome for a BDC. If one believes in diversification, BDC's are your game.
Like any other industry, you must pick the right BDC. There are 37 of them out there and many are not worthy investment candidates. There are those which are very small and go nowhere. Some have had erratic operations with many dividend cuts. Others fail to demonstrate an ability to grow or grow at a very slow pace. Some pay no dividend at all which tend to defy the BDC model.
On the other hand, there are many fine BDC's out there. For example, PNNT is solid and steady and has never cut the dividend. ARCC may have the best management team in the BDC industry. At present my two favorites for near term appreciation are (a) SLRC because of its' high dividend yield and because its' current quarter is off to a great start and (b), MCC because of the recent strong increase in the quarterly dividend and because management has effectively said that Q2 will show increased earnings and an even bigger dividend.
One way to make money with BDC's is to find a new, young, well managed BDC and invest in it as the Company puts its new IPO funds to work thus setting the stage for increasing earnings and increasing dividends. Note that a new/young BDC does not necessarily mean a new/young company. Many firms convert from a different structure to the BDC structure and bring with them existing portfolios and lots of experience. One such entity is TCPC (IPO on April 4th). It is about to issue its first quarterly report, and has already declared its first quarterly dividend of $.34. The prospectus is available on the SEC web page. The quiet period is about to end so we should see a lot of comments from the various analysts. There were ten brokerage firms in the underwriting/selling group. We will learn much more about TCPC in the coming week.
Well, I have gone on long enough. Good hunting to all. And, as usual, all of the above is just one opinion.
Jan
