Gladstone restructures loans in Galaxy Tool, Tread; sells Funko

Gladstone Investment Corporation has restructured investments in Galaxy Tool and Tread Corp. in the recent fiscal quarter, exchanging debt holdings for equity, an SEC filing showed.

Gladstone Investment booked a realized loss of $10.5 million when the lender restructured its investment in Galaxy Tool. Debt to Galaxy Tool with a cost basis of $10.5 million was converted into preferred equity with a cost basis and fair value of zero through the restructuring transaction, the SEC filing showed.

Galaxy Tool, based in Winfield, Kan., manufactures tooling, precision components, and molds for the aerospace and plastics industries.

An investment in Tread included debt with a cost basis of $9.26 million. This was also converted into preferred equity. Gladstone Investment realized a loss of $8.6 million through the transaction.

Tread was Gladstone Investment’s sole non-accrual investment as of Sept. 30. As of Dec. 31, 2015, a revolving line of credit to Tread remained on non-accrual. Tread remains Gladstone Investment’s sole non-accrual investment.

Based in Roanoke, Va., Tread manufactures explosives-handling equipment including bulk loading trucks, storage bids, and aftermarket parts.

Also in the quarter, Gladstone Investment sold an investment in bobblehead and toy maker Funko, realizing a gain of $17 million. Gladstone Investment received cash of $14.8 million and full repayment of $9.5 million in debt as part of the sale.

Gladstone Investment Corporation, based in McLean, Va., is an externally managed business development company that trades on the Nasdaq under the ticker GAIN. The BDC aims for significant equity investments, alongside debt, of small and mid-sized U.S. companies as part of acquisitions, changes in control, and recapitalizations. — Abby Latour

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Middle market: Cadence Credit Partners launching today, founded by Miller Buckfire’s Kubick

Cadence Credit Partners, a new independent capital markets advisory firm specializing in strategic finance, is launching today.

The founder of the firm is Ron Kubick.

Cadence Credit Partners will specialize in arranging secured credit facilities of $35–500 million for public, private, and sponsor-owned companies that are undergoing a turnaround, executing an acquisition, or need incremental working capital.

Cadence Credit Partners intends to draw upon established relationships with regulated and non-regulated sources of financing, including commercial banks, investment banks, insurance companies, BDCs, specialty finance companies, family offices, and credit hedge funds.

Prior to launching the new firm, Kubick was a managing director at Miller Buckfire & Co. Also, Kubick created and led strategic finance groups at Morgan Stanley and Barclays Capital, and he was a founding member of GE Capital’s Retail and Restructuring Finance Group.

The firm will have offices in New York and is actively recruiting for up to two associate level positions and one director level banker. Each position will have deal-execution responsibilities and direct client interaction. — Abby Latour

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Tiny BDC, pursued by activist, announces plan to liquidate

Crossroads Capital, a tiny BDC once targeting pre-IPO equity, announced this week it would liquidate its investment portfolio and distribute cash to shareholders.

This news comes after activist Bulldog Investors became the largest shareholder of the company, previously called BDCA Venture. BDCA Venture changed its name from Keating Capital in July 2014.

Crossroads Capital’s investments are in preferred stock, common stock, subordinated convertible bridge notes, subordinated secured notes, and equity warrants, although under previous management the company made an eleventh-hour attempt to switch to a debt strategy.

However, as of Jan. 25, the company’s investment strategy became “preservation of capital and maximization of shareholder value,” and will immediately pursue a sale of investments.

The plan to liquidate “was made after considerable analysis, review and deliberation. Both management and the board believe this is the most efficient way to deliver the company’s underlying value to our shareholders,” a Jan. 25 statement said.

Among the investments in the portfolio as of Sept. 30 are social media content company Mode Media, ecommerce network Deem, online dating company Zoosk, software company Centrify, renewable oils company Agilyx, human resources software company SilkRoad, waste management company Harvest Power, and solar thermal energy company BrightSource Energy.

Net assets totaled $54.5 million as of Sept. 30, 2015, or $5.63 per share, consisting of 12 portfolio company investments with a fair value of $39 million and cash and cash equivalents of $16.2 million. Shares in Crossroads Capital, which trade on Nasdaq as XRDC, closed at $2.10 yesterday.

In September 2014, the company’s previous board approved a change in strategy to focus on debt of private companies, moving away from venture equity. The change was part of then-management’s attempt to reduce the company’s stock discount to NAV.

But this plan was too little, too late, for some.

In May, Bulldog Investors filed a proxy statement soliciting support for a plan to elect its own board members, terminate an external management agreement with BDCA Adviser, and pursue a plan to maximize shareholder value through liquidation, a sale, or a merger.

Bulldog Investors criticized the strategy to convert BDCA Venture away from venture capital–backed or high-growth companies into an income-oriented fund, saying the BDC’s small size and high expense ratio meant the plan was “almost certainly doomed to fail.”

BDCV’s shares were trading at $5.05 at the time the proxy was filed in May 2015, a 25% discount from its March 31 NAV of $6.71. That compared to a listing price of $10 at the time of the company’s IPO on Nasdaq in December 2011.

In contrast, BDCV’s expenses in the three years prior to the proxy totaled $13.25 million, or $1.33 per share, according to the Bulldog proxy.

The plan laid out in May 2015 has more or less come to pass.

In July, shareholders elected Bulldog-nominated directors Richard Cohen, Andrew Dakos, and Gerald Hellerman. A proposal to terminate the investment advisory agreement with BDCA Venture Adviser failed to pass in a vote at the 2015 annual meeting, but was approved by the board in October.

CEO Timothy Keating resigned in late July, replaced by COO Frederic Schweiger. Around that time, the company held equity investments in 12 portfolio companies, 11 of which were private portfolio companies and the other which was publicly traded Tremor Video. The company did not expect any of the private companies to complete an IPO in 2015.

Schweiger resigned as CEO in December, and was replaced by Ben Harris. Harris is a director of NYSE-listed Special Opportunities Fund.

At the same time, BDCA Venture announced a name change to Crossroads Capital. The ticker changed to XRDC on Nasdaq, from BDCV. — Abby Latour

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Wild or Mild? Oil & Gas Write-Downs Loom for BDCs. But How Deep Will They Be?

This version updates crude oil prices as of this afternoon, adds marks against principal amounts, and clarifies bids for Larchmont Resources among HMS Income Fund, Main Street Capital, and White Horse Finance.

There’s no doubt that BDCs will write down fourth-quarter valuations for Oil & Gas sector investments. The big question hanging over the market, therefore, is by how much?

Oil & Gas values at BDCs have tracked the same downward trajectory as bids in the S&P/LSTA Index over the past year, albeit at a less severe pace, an LCD analysis shows.

oil gas loan bids - updated

For the Index, Oil & Gas loans slumped 21% in the fourth quarter amid further declines in oil prices. If BDCs continue to shadow the Index, marks should fall somewhere inside that level.

KBW is estimating a decline of roughly 10%, according to equity analyst Greg Mason. BDCs start reporting fourth-quarter results this month, followed by details of investment portfolios shortly thereafter.

Looking at the third quarter, Oil & Gas in the Index slid 17%, to 70.8, from 85.51. Comparatively, BDC fair values dropped 6.9% against principal amount, and 7.2% against cost.

Not quite apples to apples
There are a couple of meaningful differences underlying Index bids versus BDC bids. To start, the BDC average bid is supported by a much larger number of investments: 125 versus 54 in the S&P LSTA Index.

Secondly, a large chunk of the BDC grouping skews to small-cap companies that are private and unknown to institutional investors. That makes them difficult to value, and as a result, they may not be as visibly volatile as the large, liquid names housed within the Index.

Additionally, values for the same asset can vary significantly among BDCs.

For example, marks for AAR Intermediate Holdings are 10 points apart. The 12% term loan due 2019 is marked at 70.4 against principal at Medley Capital, and at 80 at CM Finance. (At cost, the paper shows unrealized losses of 26 points at Medley, and 14 points at CM Finance.)

Meanwhile, values for Larchmont Resources are tight between debt investors. The 8.75% term loan due 2019 for Oklahoma City–based Larchmont Resources is marked at 85 against principal at HMS Income Fund and Main Street Capital (which is a sub-adviser to HMS, a non-listed BDC), and at 84 at White Horse Finance. (At cost, the paper indicates unrealized losses of three points at HMS, 11 points at Main, and 17 points at White Horse.)

Larchmont is backed by EIG Global Energy Partners.

There are a few shining stars in Oil & Gas, portfolios show. An 11.5% term loan due 2019 for U.S. Well Services is marked at par against principal at PennantPark, 99.5 at Capitala Finance, and 98 at CM Finance. (At cost, the paper is even at Capitala and CM Finance, and shows a two-point gain for PennantPark).

U.S. Well Services uses a new technology that greatly reduces the cost of extracting gas, so demand for their services has actually increased amid falling oil prices, according to KBW. In 2014, the company signed a five-year contract with Antero, one of the largest gas producers in the U.S. Last September, U.S. Well Services signed a contract with Anadarko. BlackRock has an equity stake in the business in addition to the debt.

value of BDC oil gas investments

On the whole, Oil & Gas represents about $2 billion, or roughly 3.7% of total BDC debt investments tracked by LCD, yet there are a handful of BDCs with higher concentrations.

BDC energy portfolios

Data in the above chart was provided by Wells Fargo Securities. Pricing information is based on Bloomberg, which means private or illiquid assets may see greater pricing volatility when credits become stressed. One large lender to Oil & Gas, specialty lender FSEP, was excluded from the chart due to its large size and 95% exposure to the sector.

At the end of the third quarter, Apollo Investment Corporation reduced its Oil & Gas holdings to 15%, from 16%. Apollo sold a portion of a first-lien loan to Deep Gulf and unsecured investments in Denver Parent. Apollo also is exiting Caza Petroleum, which breached covenants. Funds affiliated with Talara Capital Management acquired shares in Caza through a $45.5 million transaction.

BDC loans non-accrual

For much of 2015, Oil & Gas drove higher the number of non-accrual loans in BDC portfolios, and the list is likely to grow, with dividends potentially under threat.

In the third quarter, 40% of Oil & Gas loans were bid below 80 (against principal), up from 10% in the year ago period. By cost, Oil & Gas showed a loss of 34 points, versus eight points.

There are numerous Oil & Gas investments in BDC portfolios on watch by investors. In the third quarter, Prospect Capital moved one investment to its non-accruals list, CP Energy Services. Prospect Capital owns 82.3% of CP Energy equity.

Prospect Capital said it had “modest” exposure to the energy sector, at 3.5%, including first-lien loans where third parties bear first-loss capital risk. However, in the recent quarter, non-accruals increased to 1.4%, with 1.3% due to energy holdings.

Prospect’s loan investments on non-accrual status include CP Energy Services, Gulf Coast Machine & Supply Company,Wind River Resources Corporation, and Wolf Energy.

Wells Fargo equity analyst Jonathan Bock said it’s worth noting that Prospect Capital’s further exposure to the energy sector through CLO holdings, and the potential for reductions in those valuations going forward. He downgraded shares in Prospect Capital to “underperform” from “market perform” last week.

Meanwhile, Petroflow lifted Ares Capital Corp.’s non-accrual loans to 2.3% of the portfolio at cost in the fiscal third quarter, from 2.2% a year earlier. Petroflow is one of three companies that Ares considers true Oil & Gas–related investments, which only account for roughly 3% of the portfolio. ARCC’s Petroflow investment is a first-lien position originated in July 2014 prior to the dramatic decline in oil prices. Crude today hit $26 a barrel, down from $94 on Nov. 26, 2014, the day prior to last year’s so-called OPEC bombshell meeting.

Ares is working with Petroflow and the lender group to restructure Petroflow’s balance sheet, Ares told investors in an earnings call in November. The principal investment totals $52.3 million. Ares booked the first-lien loan at a cost of $49.7 million, and the deal was marked at a fair value of $37.9 million as of Sept. 30.

Marking down
There are plenty of markdowns at other BDCs. PennantPark Investment has marked a $45 million second-lien loan due 2019 to New Gulf Resources at $31.5 million as of Sept. 30, alongside a $15.2 million holding in subordinated notes, marked at $1.5 million. Subsequently, New Gulf Resources filed for Chapter 11 in December with a prearranged restructuring plan.

distressed oil gas loans

FS Investment Corp.’s second-lien investment in Ascent Resources–Utica, booked at $182 million at cost, is set to be marked down, as is a secured bond investment in SandRidge Energy.

“FSIC accurately marks its book in line with public marks, which we applaud, and we expect the 12/31 book to reflect the recent energy market volatility,” Bock said in a December research report.

The value of Apollo’s holding in Venoco also will be in focus for fourth-quarter investments. Venoco was restructured last year, and the unsecured debt was rolled into secured debt. The Venoco investment as of Sept. 30 consisted of a $40.5 million 12% first-lien loan due 2019 with a fair value of $39.3 million, and a $35.8 million holding of 8.875% notes due 2019, marked at $28 million at fair value, and $46 million on cost basis.

Apollo’s Venoco investment accounted for $12 million of the $30.2 million in realized losses for the quarter ended Sept. 30. In April, Standard & Poor’s raised the corporate rating on Venoco to CCC+, from SD (selective default), after the company completed a debt exchange of unsecured notes for new second-lien notes for 77.5% of par value.

Book values
Regardless of how much exposure they have to Oil & Gas, concerns about energy have pressured all BDCs. Assuming the worst case scenario—all investments fall to zero—book values would tank 9%, on average. BDCs with greater exposure to the sector would be looking at hits of 15–25%, KBW estimates.

The worst case is just that, however. “We do not believe this is a realistic assumption,” KBW equity analyst Troy Ward stated in a Jan. 7 research note. The worst case merely “…quantifies the downside risk related to energy,” he added. — Kelly Thompson/Abby Latour

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Tandem Diabetes Care increases term loan with CRG

Tandem Diabetes Care amended its term loan with Capital Royalty Partners (CRG) to provide an additional borrowing capacity of up to $50 million. Tandem will draw an initial $15 million in January and has a one-time option to borrow up to an additional $35 million on or before Dec. 31, according to a filing with the SEC.

Other terms are unchanged. Pricing on the loan due March 31, 2020, is 11.5% in cash, with an option for 9.5% cash and 2% PIK. As of Sept. 30 the company was paying all cash, a filing shows. The loan is interest-only until Dec. 31, 2019, and is governed by a minimum annual revenue covenant.

There was $30 million outstanding of the existing loan, which dates to January 2013.

Nasdaq-listed Tandem Diabetes Care is a medical device company focused on design, development, and commercialization of products for people with diabetes who use insulin. Tandem is based in San Diego, Calif. — Jon Hemingway


Twin Brook Adds Kamran to Head Middle-Market Healthcare Lending

Twin Brook Capital Partners has hired Faraaz Kamran to head its healthcare lending initiative, the firm announced today. Kamran will focus on originating and underwriting loans to middle-market companies in the healthcare sector, primarily those with private equity sponsors.

Kamran joins Twin Brook from Madison Capital Funding, where he was a Managing Director and Group Head of Healthcare Leveraged Finance. Prior to that, Kamran worked at Merrill Lynch Capital Healthcare Finance, Dresdner Kleinwort Wasserstein, and American National Bank and Trust Company of Chicago.

Twin Brook also expanded its underwriting team with the addition of three new underwriting associates.

Twin Brook is the middle-market direct lending subsidiary of Angelo, Gordon & Co. The firm, which focuses on loans to companies with EBITDA of $3–50 million, recently completed its eighteenth financing and has committed over $325 million of capital in its first eight months. — Staff reports

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Sutherland Perennials nets investment from Acacia, loan via Cadence

Cadence Bank is providing a senior credit facility backing an investment in Sutherland Perennials Group(SPG) by Acacia Partners. ORIX Mezzanine & Private Equity and other family offices contributed to the equity from Acacia.

Sutherland Perennials Group sells high-quality fabrics, outdoor furniture, and interior design products through retail showrooms through the brands Perennials Fabrics, Sutherland Furniture, and David Sutherland Showrooms.

Acacia Partners, based in Austin, Texas, invests in U.S. lower middle market companies generating EBITDA of more than $5 million and sales exceeding $20 million across industries. — Abby Latour

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Barclays, Ares to Pair, Provide Middle Market Loans to UK Cos.

Barclays Corporate Banking and Ares Management have agreed a partnership whereby the pair will provide financing to U.K. mid-market companies.

To underpin the partnership, Ares has purchased a portfolio of performing leveraged loans issued to U.K. mid-cap, sponsor-backed companies with a book value of roughly £500 million from Barclays Corporate Banking.

Barclays said it remained committed to the U.K. mid-market, and will continue to provide debt and wider banking services to such companies.

The partnership with Ares is non-exclusive and allows the pair to offer financing solutions including senior and unitranche loans, revolving credit, and capex facilities to U.K. borrowers.

The arrangement differs to Ares’ previous partnership with GE Capital, which was based around two formal joint venture vehicles, namely the European Senior Secured Loan Programme (ESSLP) and European Loan Programme (ELP).

The deal between Ares and Barclays follows a similar arrangement between RBS, AIG Asset Management, Hermes Investment Management, and M&G Investments announced earlier this month. — Oliver Smiddy

This story first appeared on LCD News.
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More activism likely in 2016 as BDCs grow up

The BDC industry is experiencing growing pains.

Shares of most BDCs are trading below net asset value. Several BDCs are under attack by activist investors for stock underperformance, and these very public, acerbic battles are casting a pall over the entire sector. The recent market sell-off also punished BDCs as investors fled the credit-focused asset class.

Looking ahead, 2016 is likely to be a year of more shareholder activism for BDCs, market players say, a trend that could ultimately lift BDC share prices in 2016.

“We believe the BDC group could see stock prices increase 5% in 2016. When combined with an average dividend yield of 10%, we expect BDC total returns of 15%. In addition, the growth in shareholder activism could be a further catalyst for the group, particularly for some of the more discounted stocks,” said Troy Ward, an equity analyst at Keefe, Bruyette & Woods, in a Dec. 7 research note.

What won’t likely be a theme next year is raising capital through equity offerings.

“In a period where few BDCs have access to equity capital at accretive levels, earnings growth will be a function of recycling capital and taking optimum advantage of debt capital,” said Merrill Ross, an equity analyst at Wunderlich Securities. “We are looking for earnings growth of approximately 6.7% in 2016.”

Sector dramas unfold
Rifts within the BDC sector will likely widen next year, with battle lines drawn over management fees, the willingness of boards to buy back stock, and whether investors perceive management to be aligned with shareholder interests.

“Activism is going to be a big issue,” said Golub Capital CEO David Golub. Shares in Golub Capital BDC were trading at $16.70 at midday on Dec. 18, a premium to NAV of $15.80 per share as of Sept. 30.

“We are in the midst of what I would characterize as a crisis of confidence in the BDC industry. Investors are skeptical because of self-serving behavior by many BDC managers, often at the expense of their shareholders,” Golub said. The comment was in response to a question on the prospects for the BDC modernization bill, the passing of which Golub believes could be marred by poor timing.

“I hope the industry comes out of this period of activism by becoming a better neighborhood—an industry that’s more focused on shareholder value, that’s more focused on doing things that are fair and good for everybody and not just good for managers. That would be good for the industry.”

For now, all eyes are on dramas involving activist investors, including Fifth Street Finance and Fifth Street Asset Management, which are targets of a class action lawsuit. The suit alleges that the firms fraudulently inflated the assets and investment income of Fifth Street Finance to increase revenue at Fifth Street Asset Management. The firms deny the allegations and are fighting them in court.

Fifth Street Finance has agreed to meet with RiverNorth Capital Management, which is currently the largest stockholder in Fifth Street Finance, with a 6% stake.

American Capital has also been the target of an activist investor since the company unveiled plans to spin off BDC assets. Last month, Elliott Management, which owns an 8.4% stake in the company, urged shareholders to vote against the plan, saying a split would further entrench an ineffective management team that has been overpaid for poor performance and placed valuable assets at risk.

American Capital followed with the launch of a strategic review aimed at maximizing shareholder value, run by an independent board committee and advised by Goldman Sachs and Credit Suisse. Results of the review, which could include a sale of all or part of the company, will be announced by Jan. 31.

American Capital also started a share-buyback program of up to $1 billion of common stock as long as shares are trading 85% below net asset value as of Sept. 30, which was $20.44 per share. Shares were trading at $14.00 at midday on Dec. 18.

In another saga, the board of KCAP Financial, an internally managed BDC, received a letter in October from funds managed by DG Capital Management, its third largest stockholder with a 3.1% stake. DG Capital told the board that selling the business to another BDC would likely reap the best yield to shareholders, who have endured a sustained period of underperformance.

A three-way battle over TICC Capital has intensified in recent months. TICC Capital is urging shareholders to allow Benefit Street Partners, the credit investment arm of Providence Equity Partners, to acquire TICC Management, which manages the investment activities of TICC Capital. NexPoint Advisors, an affiliate of Highland Capital Management, has also submitted a proposal to cut fees and invest in TICC Capital.

The third party, TPG Specialty Lending, has unveiled a stock-for-stock bid for TICC Capital Corp., saying the offer is superior to the competing proposals from either Benefit Street Partners or NexPoint.

The move thrust Josh Easterly, TPG Specialty Lending’s co-CEO, into a prominent role in the drama that could result in such drastic measures as the management company losing its ability to manage a BDC, an outcome that few expected at this time last year.

“Those familiar with our history and investment philosophy understand that it is not in our nature to be public market equity activists,” Easterly said during an earnings call on Nov. 4.

“We have reluctantly assumed this role with respect to TICC as our industry is going through an inflection point,” he said. “We believe that our ecosystem can only thrive in a culture that fosters real value creation for shareholders.”

Awkward years
One possible outcome for the industry longer term is lower management fees. Medley Capital, which has been named as a potential target of activist shareholders, this month unveiled plans to expand a share repurchase program to $50 million after buying back 1.4 million of shares in the most recent quarter, and cut its base management fee on gross assets exceeding $1 billion to 1.5%, from 1.75%, and incentive fees to 17.5%, from 20%.

Medley Capital was part of a trend last year that saw shares of its management company listed in an IPO, following in the footsteps of Ares Management and Fifth Street Asset Management. Medley Management, whose shares trade on NYSE as MDLY, derives most of its revenue from fees for managing BDCs Medley Capital and Sierra Income Corp.

Brian Chase, the CFO of Garrison Capital, said an important factor moving forward is whether a BDC manager also manages other funds, outside of their BDC, that invest in privately originated debt investments. Having access to this institutional capital will be key to staying relevant in the market, particularly in an environment where raising fresh equity is challenging.

Some upsets are possible in the near term due to activist investors’ attention on the BDC sector.

“The BDC space is going through its awkward teenage years. I expect that in due course the sector as a whole will mature and institutionalize, which should further open up access to more capital and solidify their role in the financial system,” said Chase.  — Abby Latour

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Congress approves expanded borrowing for managers of SBIC licenses

Congress passed legislation on Friday that expanded borrowing capacity of managers of multiple Small Business Investment Companies (SBICs) licenses to $350 million from $225 million.

Holders of multiple SBIC licenses will have expanded access to low cost SBA debentures, at a rate of just under 3% currently.

One beneficiary is Monroe Capital, holder of three licenses, including through MRCC SBIC which had $40 million in SBA-guaranteed debentures outstanding as of Sept. 30.

“The potential is there for $125 million extra. It’s a game changer for the BDC,” said Monroe Capital CEO Ted Koenig.

Other beneficiaries include Main Street Capital, Capitala Finance, and Triangle Capital.

For an individual SBIC, SBA debenture borrowing is limited at $150 million. This will not change.

The change was passed as part of the Small Business Investment Company (SBIC) Capital Act of 2015, which received bipartisan support because it increased investment in job-creating small business without increasing government spending. The item was part of a fiscal package that Congress passed today granting the government over $1 trillion in spending measures.

SBICs invested over $6 billion in 2015, and account for more than $25 billion in assets across over 240 licensed SBICs, the SBIA said.

“This legislation allows proven SBICs to raise new funds and put capital to use in small businesses,” said Brett Palmer, President of the Small Business Investor Alliance (SBIA).

Other SBIA-backed proposals were part of the package and are now slated to become law. They include permanent extension of withholding exemption for foreign investors in Regulated Investment Companies (RICs), which will encourage long-term investment by foreign investors in BDCs.

In addition, Congress approved permanent extension of 100% capital gains exclusion for qualified small business investment. At the end of 2014, the exclusion was cut to 50%. — Abby Latour

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