BDCs and Their Fees

We’ve criticized buyout firms for their egregious fee-taking, but it seems that their BDC peers aren’t much better. In a move not unlike buyout firms earning returns on bankrupt companies, business development corporations that lend to small and mid-market companies can take fees on loans that ultimately produce a loss on their balance sheet.

That includes large groups like Apollo Investment Corp. all the way down to smaller shops like PennantPark Investment Corp.

But one firm is looking to change the paradigm is Golub Capital. The New York-based firm recently filed to bring one of its funds public as a BDC, raising $150 million under the ticker GBDC. Comparing the fee structure described in the vehicle’s N-2 filing to that of its peers, it appears the firm has one of the most favorable fee structures around.

The difference between Golub Capital’s fee structure and that of other BDCs comes down to incentive-based fees. The current norm is for a BDC to charge a 2% base management fee, a 20% fee on interest income with a hurdle rate of 7% to 8%, and a 20% capital gains fees on the performance of the loans. This is problematic because if there is a capital loss, the firm still gets to take its 20% interest income. According to a research report from Stifel Nicolas, a handful of the BDCs have unique structures that attempt to fix this issue but don’t fully address the problem: Ares Capital and Blackrock Kelso have “catch-up” provisions that stop incentive fees if book value decreases and Gladstone Capital Corp. voluntarily waved its incentive fee in 2005 after raising its management fee from .5% to 2%. But most BDCs are essentially able to earn performance fees on loans, even their value drops to zero.

Golub Capital’s BDC has circumvents that issue with a cumulative income incentive fee calculation. The interest income fee is calculated like a normal BDC, including a hurdle and “catch up feature,” but its capital gain component is only calculated at the end of each year, and its calculated net of all realized losses. More importantly, the fee is capped at 20%. Meaning, the firm will never pay itself a greater-than-20% incentive fee.

The filing from Golub Capital is different from IPO plans the firm filed in 2007. At that point Golub Capital had filed to take the entire firm public as a publicly traded partnership. This time around, it’s only one of Golub Capital’s eight funds which will be going public as an externally-managed BDC. The firm has around $4 billion under management. Wells Fargo and UBS are serving as joint bookrunners on the offering.