On April 8, the SEC issued an order granting relief to business development companies (BDCs) by permitting BDCs to issue and sell senior securities and participate in certain joint enterprises or other joint arrangements that would otherwise be prohibited by section 57(a)(4) of the 1940 Act and Rule 17d‑1 thereunder. A BDC is a closed-end investment company that elects to be regulated under the 1940 Act.

The SEC issued the relief to permit BDCs to continue to meet their statutory mandate to provide capital to small and mid-market companies. The SEC noted that, in light of the coronavirus outbreak and its effect on the capital markets, a BDC may face certain challenges. In particular, a BDC may be unable to satisfy the asset coverage requirements under the 1940 Act due to temporary mark-downs in the value of its loans to portfolio companies, and certain BDC affiliates may be prohibited from participating in additional investments in the BDC’s portfolio companies due to restrictions in the SEC’s current exemptive order permitting co-investments (Co-Investment Order).

Issuance and Sale of Senior Securities by BDCs

Until December 31, 2020, BDCs can issue and sell senior securities by calculating an “adjusted asset coverage ratio” (AACR) based on portfolio values. Without the relief, BDCs would be required to calculate asset coverage ratios based on portfolio values within the 48 hours (not including Sundays or holidays) preceding the issuance and sale of senior securities.

In order to determine the AACR, a BDC first determines its adjusted portfolio value (APV) using the fair value of the BDC’s individual portfolio investments as of December 31, 2019 for portfolio investments held by the BDC as of that date and for which the BDC is not recognizing a realized loss. The adjustment does not apply to portfolio investments acquired after December 31, 2019 or portfolio investments where a permanent impairment or realized loss is recognized.

AACR is then calculated by reducing the asset coverage ratio calculated using the APV by an amount equal to 25 percent of the difference between the asset coverage ratio calculated using the APV and the unadjusted asset coverage ratio.

The SEC order provides the following example:

A BDC has a 220% asset coverage ratio on December 31, 2019. Its asset coverage ratio declines to 160% on March 31, 2020 under the standard calculation methodology due to temporary markdowns of its portfolio investments, and 200% if calculated with APV. This BDC would have to meet an AACR of 190% (200% minus 10% (25% of the difference between 200% and 160%)).

Reliance on the order for the issuance and sale of senior securities by a BDC is conditioned on:

• board approval of its election to rely on the order

• filing a Form 8-K to announce its election to rely on the order

• for period of 90 days after its election, a relying BDC cannot make an initial investment in any portfolio company in which the BDC was not already invested as of April 8, 2020. Notwithstanding the election, a BDC may continue to make an initial investment in a new portfolio company if the BDC would be permitted to make such an investment under the 1940 Act without the relying on the relief.

• board approval of each issuance of senior securities

• at least monthly board review of adviser’s efforts to bring the BDC in compliance with the asset coverage ratio by December 31, 2020 (the end of the exemption period)

• prohibition on payments for distribution.

Expansion of Relief for BDCs With Existing Co-Investment Orders

The SEC also expanded existing relief previously granted to some BDCs to permit certain additional co-investment transactions not currently permitted in these BDCs’ existing Co-Investment Order. Under this relief, a BDC may participate in follow-on investments with one or more regulated funds and/or affiliated funds, provided that

• if the participant is a regulated fund, it has previously participated in a co-investment transaction with the BDC with respect to the issuer, and

• if the participant is an affiliated fund, it either has previously participated in a co-investment transaction with the BDC with respect to the issuer or is not invested in the issuer.

Reliance on the SEC order with respect to co-investments is conditioned upon compliance with the terms and conditions of the BDC’s existing exemptive order and board oversight.