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Golub BDC merger partly driven by improved access to securitization, CEO says

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The decision to merge Golub Capital BDC and Golub Capital Investment Corp. was driven, in part, by a desire to give the combined companies better access to funding in the securitization market, David Golub, president and CEO of the two business development companies, reiterated Thursday.

The deal, announced in November, would create the fourth largest externally managed publicly traded business development company by assets based on the $3.5 billion fair value holdings of each company as of Sept 30.

It’s one of three combinations underway among some of the biggest players in this sector. In December, FS Investments completed a $17 billion merger with Corporate Capital Trust; the combined company has been renamed FS/KKR Capital Corp. And in August, three other BDCs with a total of $5 billion in assets, Sierra Income Corp., Medley Capital Corp. and Medley Management announced plans to merge, with Sierra as the surviving company. Sierra and Medley subsequently received an unsolicited offer from the $13.8 billion NexPoint Capital to serve as their investment advisor; they have rejected the offer.

Business development companies are closed-end funds that lend to small and medium-sized companies. Until last year, they were limited in the amount of leverage they could employ. The Small Business Credit Availability Act, which became law in late March 2018, increases the amount of debt BDCs can employ, relative to their equity, to 1.5 from 1.0 previously.

Still, many BDCs, including Golub, are in no rush to take on more debt. Instead, both Golub Capital, which is publicly traded, and GCIC, which is privately held, have been funding much of their lending by bundling loans on their balance sheet into collateral for bonds, and using proceeds from the bonds to make more loans.

In September, Golub got the green light from the Securities and Exchange Commission for an alternative way to comply with risk retention requirements. And in November, GBDC issued a new CLO with a weighted average spread over Libor of 1.64%. On the fourth-quarter earnings conference call, the CEO said this was about 50 basis points lower than the current spread over Libor of the company’s bank facilities. “So (it's) a very meaningful savings,” he said.

The CEO said the SEC's blessing of the firm's preferred method of complying with risk retention "informed our board’s thinking about whether increasing our regulatory leverage limit would be good for shareholders."

The board of directors subsequently put a proposal to increase leverage up for shareholder vote; a move that would allow the BDC to act faster than if it relied solely on approval from the board itself. Shareholders passed the measure on Feb. 5. that reduces the BDC's asset coverage from 200% to 150%.

"What does this mean for GBDC In the near term? It means primarily that we will have additional flexibility to manage capital and a peer cushion to the regulatory leverage limit," Golub said. "It’s GBDC’s current intention to continue to target a GAAP debt-to-equity ratio of about 1 times."

In thinking about leverage, he said, the company's keeps three things in mind: "One, the Hippocratic oath, do no harm. We think we have got a pretty good model today. Two, the attractiveness of the investment opportunities that it could be accessed with higher leverage. And three, the costs and risks associated with incremental debt.

"Based on where things stand right now, we think GBDC’s current level of leverage is about right. But we believe it’s good for the company and good for shareholders to have flexibility to secure additional financing if conditions change and warranted."

The CEO expressed confidence that shareholders of both BDCs would agree to the merger, as the firm had always intended to ramp up GCIC as a private entity and eventually either merged it with GBDC or to take it public in some other form. “So I am quite confident that that schema is what our investors want, because that’s what we told them we were going to do and they — this is the strategy they were enthusiastic about participating in,” he said.

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