KKR's BDC affiliate sponsoring first-time middle-market CLO

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KKR is sponsoring its first middle-market CLO transaction stemming from its direct lending partnership with FS Investments, according to presale reports.

According to a presale reports, the $506.8 million FS KKR MM CLO 1 LLC will be managed by FS KKR Capital Corp. (NYSE:FSK), a business development company established last year with KKR with $8 billion in assets invested in over 220 companies.

FS KKR Capital Corp. is one of six BDCs that were placed under a joint partnership, FS/KKR Advisor, LLC, with a total of $18 billion in AUM. FS Investments had previously partnered with GSO Capital Partners, the former sub-adviser to FS-sponsored funds.

The transaction structure includes a Class A-1A $284.4 million floating-rate tranche priced at 170 basis points over three-month Libor, and a $15 million, 4% fixed-rate Class A-1B tranche – both of which have preliminary AAA ratings from S&P Global Ratings and Fitch Ratings.

The rest of the capital stack consists of a $52.3 million Class A-2 tranche (rated AA) and a Class B tranche (rated) A which totals $27 million (albeit with deferrable obligations).

FS KKR’s management disclosed in a first-quarter earnings call earlier this month that the firm was considering collateralized loan obligation market as a means to diversify its funding sources for private company loans, including unsecured bonds and an undrawn revolving credit lines.

More direct lenders in the middle-market space were expected to turn to BDCs for CLO sponsorship, especially after last year’s tax changes included a provision allowing BDCs to increase their allowable leverage to 2:1 from 1:1.

However, middle-market CLO issuance was slow in the first quarter, with wider spreads contributing to compressed weighted average spread (21 basis points year over year, according to Fitch Ratings) that made deals unpalatable to issuers. The first quarter new-deal output totaled just 20% of the volume recorded in the first quarter of 2018.

But that pace has quickened in April and May. Middle-market CLOs marketed or priced in the second quarter include those from GSO, The Carlyle Group, Antares Capital, Golub Capital Partners, and BMO Asset Management.

In additional, other first-time issuers have emerged next to FS KKR, including Owl Rock Capital Advisors which sponsored its debut $596 million middle-market CLO this month.

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