THL, Peltz Eye BDC Business With IPO Plans

Firm: Thomas H. Lee Partners

Fund: THL Credit Inc.

Target: $300 Million

Underwriters: Merrill Lynch, Citigroup Global Markets, Deutsche Bank Securities

Firm: Trian Fund Management

Fund: Trian Capital Corporation

Target: $300 million

Underwriter: Merrill Lynch

Buyout shop Thomas H. Lee Partners has filed to take its credit unit public as a business development corporation, or BDC. THL Credit Inc. seeks to raise $300 million in a blind pool IPO with no legacy investments, according to a June 1 filing with the Securities and Exchange Commission. Merrill Lynch, Citigroup Global Markets and Deutsche Bank Securities are serving as underwriters.

Known for its part in mega-buyout deals like those of Clear Channel Communications Inc. and Dunkin’ Brands, Thomas H. Lee (THL) Partners launched its credit investing unit in June 2007, raising $500 million from private investors to invest in structured debt finance. The credit business, known as THL Credit Advisors, is led by James Hunt, who previously was a managing director and co-founder of Bison Capital. Other execs include AIG vet Sam Tillinghast, who serves as president and COO of THL Credit; Gregg Hammer and Christopher Ochs, who co-headed Leveraged Capital at AIG; and Hunter Stropp, previously of GE Asset Management.

In its filing, THL Credit said commercial bank consolidation has reduced the number of lenders serving middle-market companies, and that it intends to help fill the void by making private subordinated debt investments in that market.

“Because the general economic climate and financial markets have deteriorated since the summer of 2007, we believe opportunities to invest in solid, underserved middle-market companies remain plentiful,” the filing states.

The BDC plans to distinguish itself with investor-friendly terms. THL Credit Inc. will charge a 1.5 percent management fee and 15 percent carried interest on its funds, which is lower than the typical 2 percent and 20 percent fee structure for private equity vehicles.

The new fund, as well as THL Credit’s first fund, has the capacity to invest in the debt of THL Partners’ portfolio companies, a source familiar with the situation said. THL Credit, which is not fully deployed, has made some secondary debt purchases in THL Partners’s portfolio companies. However, the BDC will seek to invest in companies smaller than the typical THL Partners fare. THL Credit defines “middle market” as companies with revenue between $50 million and $500 million, or EBITDA of around $10 million on a yearly basis.

THL Credit isn’t the only firm mulling a foray into the BDC market. Earlier this month, Nelson Peltz’s firm, Trian Fund Management filed a prospectus with plans for a similar offering. His firm has formed a new subsidiary called Trian Capital Corporation, which seeks to raise a $300 million blind pool in the form of a BDC. The fund will invest in “leveraged companies” through senior and junior secured loans, subordinated loans, bonds, mezzanine loans and direct equity investments. Peltz will serve as Trian Capital Corp.’s chairman with Peter May as its vice chairman. Merrill Lynch is acting as the firm’s underwriter.

THL Credit and Trian Capital Corp. will be entering the market during a time of consolidation for BDCs. Plummeting stock prices and mark-to-market accounting rules have diminished the firms’ collateral against lines of credit, which in turn, has diminished their ability to lend. Smaller shops like Patriot Capital and GSC Investment have announced plans to explore strategic alternatives. The broad auction for Patriot Capital is underway, with two to three bids from fellow BDCs and at least one from a private equity suitor, according to Buyouts sister publication Patriot Capital came under distress when one of its credit facilities was terminated because the value of assets provided as collateral had dropped.

Meanwhile, American Capital faces a potential bankruptcy if it cannot negotiate a deal with lenders over a recent default on its debt. CEO Malon Wilkus said recently he is “confident” a deal will be reached. Even Fifth Street Capital, a small BDC which managed to take itself public during financial market tumult last year, cut its Q3 dividend by 24% on April 15, to account for non-accruing investments. Fifth Street Capital CEO Len Tannenbaum told his firm was not in the running to acquire the assets of Patriot Capital, as Fifth Street Capital would rather pursue new deal origination than wind down the assets of another firm.

Michael Arougheti, CEO of Ares Capital, an active upper-middle market BDC, recently said there are benefits to consolidation among BDCs. In a March roundtable discussion hosted by investment bank Stifel Nicolaus, he said, “Over time, consolidation is necessary to bring more efficiencies and get the sector moving in the right direction again.”