FS/KKR double up in BDC merger

In accordance with the idea that size matters, a partnership between FS Investments and KKR, that manages two business development companies, has agreed to merge them.

“Scale is a critical factor in positioning us for higher-quality investment flow within the middle market,” Michael Forman, chairman and chief executive officer of both FS KKR Capital Corp and FS KKR Capital Corp II, said in a conference call with investors.

The combination will create the largest BDC by net asset value, and the second largest by assets, with a pro forma total of $14.9 billion as of 30 September, just behind Ares Capital Corp, according to an investor presentation.

The proposed merger, which was approved by the boards of both publicly traded companies, will create an entity armed with more than $3 billion of committed capital to lend. The merger is expected to be completed during the second or third quarter of 2021.

“We want to be the premier firm to provide capital to the middle markets,” Daniel Pietrzak, chief investment officer of the FS/KKR joint venture, and co-president of both BDCs, said in an interview. He noted that there was a good balance between the two firms, with FSK producing more earnings but with FSKR less levered. “We believe the companies will be stronger together than apart.”

The merger calls for the shares to be exchanged based on an equivalent NAV. The market gave its stamp of approval, with the shares of each BDC rising more than 4 percent the day after the merger was announced.

The partnership said the merger is expected to generate about $5 million in near-term annual synergies by eliminating duplicative internal and external functions. It also called for the combined company, which will trade under the symbol FSK, to permanently reduce its income incentive fee to 17.5 percent from the current 20 percent. The hurdle rate will remain the same at 7 percent.

At closing, the FSK/KKR partnership has agreed to waive $90 million of incentive fees, to be spread evenly over the first six quarters after closing. The company said during the investor call that it expects the 9 percent minimum target yield to continue.