For those that follow this blog, I once wrote about an asset class known as
business development companies, particularly middle-market lending BDCs. These businesses typically concentrate on investing through the financing of middle-market private equity transactions. Over the last year, some have come under pressure as a result of government regulations over BDCs which require them to maintain certain asset coverage levels. As a result of the disjunction in the markets, mark-to-market mark downs on BDC portfolios resulted in some BDCs (most recognizably Allied Capital and American Capital) falling out of line with asset coverage regulations, tripping debt covenants, and discontinuing dividends.
On Monday, a major shakeup was announced within the BDC industry. Ares Capital (ARCC), one of a few BDCs which has managed through the recession while maintaining a substantial dividend, announced that it was acquiring a former giant of the industry, Allied Capital (ALD). The acquisition is expected to be an all-stock deal where ALD shareholders will receive 0.325 shares of ARCC for each share of ALD they own.
ALD, which had breached the asset coverage covenants on its debt, has not been able to pay a dividend since the third quarter of 2008. Allied, in fact, has taken almost a year to restructure its debt agreements leading its auditors to issue a "going concern" warning in its 10Qs in each of the last few quarters. While concerns regarding the Company's debt agreements has weighed down the stock's value, the Company's net asset value per share was reported as $7.49 on June 30, 2009 which includes serious write downs taken by the company over the last year.
Why then does the stock trade at 43% of NAV/share? For one, questions about the Company's continued ability to access financing make it difficult to handicap whether or not Allied will ever have the luxury of time to "wait" for its investments to mature and be refinanced. In fact, pressure to de-lever has already forced the Company to make hundreds of millions in distressed investment sales over the year. Further, the Company has a history of questions being raised over the quality of Allied's investments and its methodology for establishing fair value for its reporting.
