Fifth Street Capital is making an unusual pitch to limited partners in its ongoing fund-raising process: This will be its last fund.
The New York-based mezzanine specialist has raised $100 million of a targeted $400 million third fund through a conventional private limited partnership. But soon the firm plans to convert into a business development company that raises capital through the public equity markets. No date has been set for the offering, says Fifth Street Managing Partner Leonard Tannenbaum. When the offering takes place, LP interests would be converted into shares in the BDC.
The firm has verbal commitments for more than $200 million, says one person familiar with the situation. The next close is expected to come in late April. The firm plans to raise the complete $400 million before it converts to a BDC. Fund II raised $157 million in early 2006. Limited partners in the second fund include DuPont Capital Management, Sumitomo Mitsui Banking Corp., Diaco Investments, GKM Capital Inc., Sterling Stamos Capital Management and WP Global Partnersa.
In becoming a BDC, Fifth Street would join a number of mezzanine firms, the largest of which is American Capital Strategies, (Nasdaq: ACAS). Among the advantages of the structure are the ability to raise money through secondary offerings, to obtain a lower cost of capital, and to offer investors more liquidity.
The drawbacks include an increased regulatory scrutiny that comes with having shares trade on the public markets. Tannenbaum says that he has had his hands full explaining the BDC launch to limited partners. “Once it clicks they realize how great it is for them and for us. But it has to click,” he says.
Fifth Street Capital typically invests $3 million to $20 million in lower-middle-market deals. In one of its larger deals, the firm recently provided $40 million in financing to National Renal Alliance, a deal co-led by Goldman Sachs. In February, the firm arranged a second-lien term loan to help Dubin Clark & Co. recap Signature Systems. —Mark Cecil