The following discussion and analysis should be read in conjunction with our condensed and consolidated financial statements and related notes included in this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements and involves numerous risks and uncertainties, including but not limited to those described in Part I, Item 1A of our annual report on Form 10-K for the year ended
December 31, 2020and Part II, Item 1A of this Form 10-Q of this Quarterly Report. Our actual results could differ materially from those anticipated by such forward-looking statements due to factors discussed under the "Risk Factors" section included in our SECfilings and "Note About Forward-Looking Statements" appearing elsewhere in this Form 10-Q.
We are an externally managed, non-diversified closed-end investment company that has elected to be regulated as a business development company ("BDC") under the Investment Company Act of 1940 (the "1940 Act").
Sierra Crest Investment Management LLC(the "Adviser") is an affiliate of BC Partners LLP(" BC Partners"). Subject to the overall supervision of the Board, the Adviser is responsible for managing our business and activities, including sourcing investment opportunities, conducting research, performing diligence on potential investments, structuring our investments, and monitoring our portfolio companies on an ongoing basis through a team of investment professionals. We originate, structure, and invest in secured term loans, bonds or notes and mezzanine debt primarily in privately-held middle market companies but may also invest in other investments such as loans to publicly-traded companies, high-yield bonds, and distressed debt securities (collectively the "Debt Securities Portfolio"). We also invest in joint ventures and debt and subordinated securities issued by collateralized loan obligation funds (" CLO Fund Securities"). In addition, from time to time we may invest in the equity securities of privately held middle market companies and may also receive warrants or options to purchase common stock in connection with our debt investments. In our Debt Securities Portfolio, our investment objective is to generate current income and, to a lesser extent, capital appreciation from the investments in senior secured term loans, mezzanine debt and selected equity investments in privately-held middle market companies. We define the middle market as comprising companies with EBITDA of $10 millionto $50 millionand/or total debt of $25 millionto $150 million. We primarily invest in first and second lien term loans which, because of their priority in a company's capital structure, we expect will have lower default rates and higher rates of recovery of principal if there is a default and which we expect will create a stable stream of interest income. The first lien term loans may include traditional first lien senior secured loans or unitranche loans. Unitranche loans combine characteristics of traditional first lien senior secured loans as well as second lien and/or mezzanine debt ("Junior Debt"). Unitranche loans will expose us to the risks associated with first lien loans and Junior Debt. While there is no specific collateral associated with senior unsecured debt, such positions are senior in payment priority over subordinated debt investments. The investments in our Debt Securities Portfolio are all or predominantly below investment grade, and have speculative characteristics with respect to the issuer's capacity to pay interest and repay principal. Our investments in CLO Fund Securitiesare primarily managed by our formerly wholly-owned asset management subsidiaries Trimaran Advisorsand Trimaran Advisors Management, L.L.C.From time-to-time we have also made investments in CLO Fund Securitiesmanaged by other asset managers. Our collateralized loan obligation funds ("CLO Funds") typically invest in broadly syndicated loans, high-yield bonds and other credit instruments. Our portfolio may include "covenant-lite" loans which generally refer to loans that do not have a complete set of financial maintenance covenants. Generally, "covenant-lite" loans provide borrower companies more freedom to negatively impact lenders because their covenants are incurrence-based, which means they are only tested and can only be breached following an affirmative action of the borrower, rather than by a deterioration in the borrower's financial condition. Accordingly, to the extent we invest in "covenant-lite" loans, we may have fewer rights against a borrower and may have a greater risk of loss on such investments as compared to investments in or exposure to loans with financial maintenance covenants. We have elected to be treated for U.S.federal income tax purposes as a RIC under the Code and intend to operate in a manner to maintain our RIC status. As a RIC, we intend to distribute to our stockholders substantially all of our net ordinary taxable income and the excess of realized net short-term capital gains over realized net long-term capital losses, if any, for each year. To qualify as a RIC, we must, among other things, meet certain source-of-income and asset diversification requirements. Pursuant to this election, we generally will not have to pay corporate-level U.S.federal income taxes on any income that we timely distribute to our stockholders. Depending on the duration of the novel coronavirus (also known as "COVID-19") pandemic and the extent of its impact on our portfolio companies' operations and our net investment income, any future distributions to our stockholders may be for amounts less than our historical distributions, may be made less frequently than historical practices, and may be made in part cash and part stock, subject to a limitation that the aggregate amount of cash to be distributed to all stockholders must be at least 20% of the aggregate declared distribution. From time to time, we may seek to retire, repurchase, or exchange debt securities in open market purchases or by other means dependent on market conditions, liquidity, contractual obligations, and other matters. In addition, we evaluate strategic opportunities available to us, including mergers, divestures, spin-offs, joint ventures and other similar transactions from time to time. 80
-------------------------------------------------------------------------------- During the fourth quarter of 2020, LibreMax sold its minority stake in the Adviser to a wholly-owned subsidiary of
Mount Logan. An affiliate of BC Partnersserves as administrator to Mount Logan, and certain officers and directors of the Company serve in similar capacities for Mount Logan. In addition, Mount Loganowns a minority equity stake in the Advisor, and Mount Loganowns a minority equity stake in the Company.
April 1, 2019(the "Closing"), we became externally managed (the "Externalization") by the Adviser, pursuant to a stock purchase and transaction agreement (the "Externalization Agreement") with BC Partners Advisors L.P.("BCP"), an affiliate of BC Partners. In connection with the Externalization, our stockholders approved an investment advisory agreement (the "Advisory Agreement") with the Adviser. See "-Advisory Agreement" below. Pursuant to the Externalization Agreement with BCP, the Adviser became our investment adviser in exchange for a cash payment from BCP, or its affiliate, of $25 million, or $0.669672per share of our common stock, directly to our stockholders. In addition, the Adviser (or its affiliate) will use up to $10 millionof the incentive fee actually paid to the Adviser prior to the second anniversary of the Closing to buy newly issued shares of our common stock at the most recently determined net asset value per share of our common stock at the time of such purchase. In November 2020, the Adviser purchased approximately $570 thousandnewly issued shares of our common stock in connection therewith, and in May 2021, the Adviser purchased approximately $4.0 millionof newly issued shares of our common stock in connection therewith. In both cases, the shares were issued at the most recently determined net asset value per share of our common stock. The obligations of the Advisor to use incentive fees to purchase shares expired on April 1, 2021. For the period of one year from the first day of the first quarter following the quarter in which the Closing occurred, the Adviser will permanently forego up to the full amount of the incentive fees earned by the Adviser without recourse against or reimbursement by us, to the extent necessary in order to achieve aggregate net investment income per share of common stock for such one-year period to be at least equal to $0.40per share, subject to certain adjustments. BCP and the Adviser's total financial commitment to the transactions contemplated by the Externalization Agreement was $35.0 million. OHAI Transaction On December 18, 2019, we completed our acquisition of OHA Investment Corporation ("OHAI"). In accordance with the terms of the merger agreement, each share of common stock, par value $0.001per share, of OHAI (the "OHAI Common Stock") issued and outstanding was converted into the right to receive (i) an amount in cash, without interest, equal to approximately $0.42, and (ii) 0.3688 shares of common stock, par value $0.01per share, of the Company (plus any applicable cash in lieu of fractional shares). Each share of OHAI Common Stock issued and outstanding received, as additional consideration funded by the Adviser, an amount in cash, without interest, equal to approximately $0.15.
June 24, 2020, we entered into an Agreement and Plan of Merger (the "GARS Merger Agreement") with Garrison Capital Inc., a publicly traded BDC ("GARS"), the Adviser and a wholly-owned merger subsidiary of the Company (such transaction, the "GARS Acquisition"), and on October 28, 2020we completed the GARS Acquisition. To effect the acquisition, our wholly owned merger subsidiary merged with and into GARS, with GARS surviving the merger as our wholly owned subsidiary. Immediately thereafter and as a single integrated transaction, GARS consummated a second merger, whereby GARS merged with and into us, with the Company surviving the merger. In accordance with the terms of the GARS Merger Agreement, each share of common stock, par value $0.001per share, of GARS (the "GARS Common Stock") issued and outstanding was converted into the right to receive (i) an amount in cash, without interest, equal to approximately $1.19and (ii) approximately 1.917 shares of common stock, par value $0.01per share, of the Company (plus any applicable cash in lieu of fractional shares). Each share of GARS Common Stock issued and outstanding received, as additional consideration funded by the Adviser, an amount in cash, without interest, equal to approximately $0.31. In connection with the closing of the GARS Acquisition, the Board approved an increase in the size of the Board from seven members to nine members, and appointed each of Matthew Westwoodand Joseph Moreato serve on the Board. 81 --------------------------------------------------------------------------------
Acquisition and Repossession and Redemption of HCAP Tickets by HCAP
December 23, 2020, we entered into an Agreement and Plan of Merger (the "HCAP Merger Agreement") with Harvest Capital Credit Corporation, a publicly traded BDC ("HCAP"), the Adviser and a wholly-owned merger subsidiary (the "Acquisition Sub") of the Company (such transaction, the "HCAP Acquisition"). On June 9, 2021the Company completed the HCAP Acquisition, pursuant to the terms and conditions of the HCAP Merger Agreement. To effect the acquisition, the Acquisition Sub merged with and into HCAP, with HCAP surviving the merger as the Company's wholly owned subsidiary. Immediately thereafter and as a single integrated transaction, HCAP consummated a second merger, whereby HCAP merged with and into the Company, with the Company surviving the merger. As a result of, and as of the effective time of, the second merger, HCAP's separate corporate existence ceased. Under the terms of the HCAP Merger Agreement, HCAP stockholders as of immediately prior to the effective time of the first merger (other than shares held by a subsidiary of HCAP or held, directly or indirectly, by the Company or Acquisition Sub, and all treasury shares (collectively, "Cancelled Shares")) received a combination of (i) $18.54 millionin cash paid by the Company, (ii) 15,252,453 validly issued, fully paid and non-assessable shares of the Company's common stock, par value $0.01per share, and (iii) an additional cash payment from the Adviser of $2.15 millionin the aggregate. With respect to the merger consideration from PTMN, HCAP stockholders as of immediately prior to the effective time of the first merger (other than Cancelled Shares) were entitled, with respect to all or any portion of the shares of HCAP common stock they held as of the effective time of the first merger, to elect to receive the merger consideration in the form of cash (an "Election") or in the form of PTMN common stock, subject to certain conditions and limitations in the merger agreement. Any HCAP stockholder who did not validly make an Election was deemed to have elected to receive shares of the Company's common stock with respect to the merger consideration as payment for their shares of HCAP common stock. Each share of HCAP common stock (other than Cancelled Shares) with respect to which an Election was made was treated as an "Electing Share" and each share of HCAP Common Stock (other than Cancelled Shares) with respect to which an Election was not made or that was transferred after the election deadline on June 2, 2021was treated as a "Non-Electing Share." Pursuant to the conditions of and adjustment mechanisms in the HCAP Merger Agreement, 475,806 Electing Shares were converted to Non-Electing Shares for purposes of calculating the total mix of consideration to be paid to each Electing Share in order to ensure that the value of the aggregate cash consideration paid to holders of the Electing Shares equaled the aggregate cash consideration that HCAP received from the Company under the terms of the HCAP Merger Agreement. Accordingly, as a result of the Elections received from HCAP stockholders and any resulting adjustment under the terms of the HCAP Merger Agreement, each Electing Share received, in aggregate, approximately $7.43in cash and 0.74 shares of PTMN common stock, while each Non-Electing Share received, in aggregate, approximately 3.86 shares of PTMN common stock. On June 9, 2021, the Company entered into a third supplemental indenture (the "HCAP Third Supplemental Indenture") by and between the Company and U.S. Bank National Association, as trustee (the "Trustee"), effective as of the closing of the HCAP Acquisition. The HCAP Third Supplemental Indenture relates to the Company's assumption of $28.75 millionin aggregate principal amount of HCAP's 6.125% Notes due September 15, 2022(the "HCAP Notes"). Pursuant to the HCAP Third Supplemental Indenture, the Company expressly assumed the due and punctual payment of the principal of (and premium, if any) and interest, if any, on the HCAP Notes and the performance of HCAP's covenants under the base indenture, dated as of January 27, 2015, by and between HCAP and the Trustee, as supplemented by the second supplemental indenture, dated as of August 24, 2017, by and between HCAP and the Trustee. No change of control offer was required to be made in respect of the HCAP Notes in connection with the consummation of the HCAP Acquisition. The HCAP Notes could be redeemed by the Company at any time at par value plus accrued and unpaid interest. On July 23, 2021, the Company redeemed the entire notional amount of $28.75 millionof the HCAP Notes.
Reverse stock split
August 23, 2021, the Company filed a Certificate of Amendment (the "Reverse Stock Split Certificate of Amendment") to the Company's Certificate of Incorporation with the Secretary of State of the State of Delawareto effect a 1-for-10 reverse stock split of the issued and outstanding (or held in treasury) shares of the Company's common stock, par value $0.01per share (the "Reverse Stock Split"). The Reverse Stock Split became effective as of 12:01 a.m. (Eastern Time)on August 26, 2021. As a result of the Reverse Stock Split, every ten shares of issued and outstanding common stock were automatically combined into one issued and outstanding share of common stock, without any change in the par value per share. No fractional shares were issued as a result of the Reverse Stock Split. Instead, any stockholder who would have been entitled to receive a fractional share as a result of 82
-------------------------------------------------------------------------------- the Reverse Stock Split received cash payments in lieu of such fractional shares (without interest and subject to backup withholding and applicable withholding taxes). On
August 23, 2021, the Company filed a Certificate of Amendment to decrease the number of authorized shares of common stock by one half of the reverse stock split ratio (the "Decrease Shares Certificate of Amendment") with the Secretary of State of the State of Delaware. The Decrease Shares Certificate of Amendment became effective as of 12:05 a.m. (Eastern Time)on August 26, 2021. Following the effectiveness of the Decrease Shares Certificate of Amendment, the number of authorized shares of common stock under the Company's Certificate of Incorporation was reduced from 100 million shares to 20 million shares.
The reverse stock split amendment certificate and the stock decrease amendment certificate were approved by the shareholders of the Company at its annual meeting held on
PORTFOLIO AND INVESTMENT ACTIVITY
Our primary investments are lending to and investing in middle-market businesses through investments in senior secured loans, junior secured loans, subordinated/mezzanine debt investments, and other equity investments, which may include warrants, investments in joint ventures, and investments in
CLO Fund Securities.
Total portfolio investment activity (excluding investment securities activity) for the nine months ended
Asset Debt CLO Fund Equity Manager Joint Total Securities Securities Securities
Affiliates Ventures Derivatives Portfolio Fair value at
2020 activity: 186 802 908 31 968 202 9 864 419
- 45,087,967 (33,437 ) 273,690,061 Purchases / originations / draws 380,765,492 - 4,937,711 - 14,098,055 - 399,801,258 Pay-downs / pay-offs / sales (198,364,694 ) (4,432,200 ) (1,515,936 ) - (7,760,136 ) (976,968 ) (213,049,934 ) Net accretion of interest 8,228,390 3,541,296 - - - - 11,769,686 Net realized gains (losses) 7,616,860 - (989,131 ) - - 976,968 7,604,697 Increase (decrease) in fair value 19,811,899 (11,494,743 ) 1,647,812 - (2,076,723 ) (1,075,182 ) 6,813,063 Fair Value at December 31, 2020 2021 Activity (unaudited): 404,860,855 19,582,555 13,944,875 - 49,349,163 (1,108,619 ) 486,628,831 Purchases / originations / draws 236,503,017 - 8,755,376 - 26,400,886 - 271,659,279 Pay-downs / pay-offs / sales (197,531,424 ) (6,440,089 ) (4,480,709 ) - (10,774,967 ) (880,000 ) (220,107,189 ) Net accretion of interest 25,673,012 - (208 ) - - - 25,672,804 Net realized gains (losses) (7,132,262 ) (5,323,484 ) 173,666 - - 880,000 (11,402,080 ) Increase (decrease) in fair value (7,293,322 ) 9,354,652 3,905,759 - 2,654,032 (873,472 ) 7,747,649 Fair Value at September 30, 2021
$ 455,079,876 $ 17,173,634 $ 22,298,759$ - $ 67,629,114 $ (1,982,091 ) $ 560,199,29283
-------------------------------------------------------------------------------- The level of investment activity for investments funded and principal repayments for our investments can vary substantially from period to period depending on the number and size of investments that we invest in or divest of, and many other factors, including the amount and competition for the debt and equity securities available to middle market companies, the level of merger and acquisition activity for such companies and the general economic environment.
The following table shows the Company’s portfolio by type of securities to be
September 30, 2021(Unaudited) December 31, 2020Cost/Amortized
Cost / Amortization
Security Type Cost Fair Value %¹ Cost Fair Value %¹ Senior Secured Loan 367,212,162 380,960,592 68 304,539,184 328,845,612 68 Junior Secured Loan 82,973,411 74,076,080 13 87,977,057 75,807,477 16 Senior Unsecured Bond 416,171 43,204 0 416,170 207,766 0 CLO Fund Securities 33,964,238 17,173,634 3 45,727,813 19,582,555 4 Equity Securities 29,041,687 22,298,759 4 24,593,639 13,944,876 3 Asset Manager Affiliates2 17,791,230 - - 17,791,230 - - Joint Ventures 70,558,377 67,629,114 12 54,932,458 49,349,163 10 Derivatives 30,609 (1,982,091 ) - 30,609 (1,108,618 ) - Total
$ 601,987,885 $ 560,199,292100 % $ 536,008,160 $ 486,628,831100 %
¹ Represents the percentage of the total portfolio at fair value.
² Represents the equity investment in companies affiliated with the asset manager.
Sectoral concentrations, based on the fair value of the Company’s investment portfolio at
September 30, 2021 (Unaudited) December 31, 2020 Cost/Amortized Cost/Amortized Industry Classification Cost Fair Value %¹ Cost Fair Value %¹
Aeronautics and Defense
$ 11,342,227 $ 11,218,1932 Asset Management Company 2 17,791,230 - - 17,791,230 - - Automotive 10,890,444 11,481,530 2 10,840,171 11,651,714 2 Banking, Finance, Insurance & Real Estate 39,155,006 41,403,610 7 30,074,875 31,121,723 6 Beverage, Food and Tobacco 5,317,124 5,437,500 1 9,196,359 9,100,107 2 Capital Equipment 19,596,337 18,296,975 3 10,276,249 8,204,690 2 Chemicals, Plastics & Rubber 6,347,714 6,711,605 1 6,608,887 7,230,131 1 CLO Fund Securities 33,964,238 17,173,634 3 45,727,813 19,582,555 4 Construction & Building 8,860,985 7,481,916 1 9,802,754 10,946,643 2 Consumer goods: Durable 19,681,262 21,500,071 4 32,435,115 34,858,844 7 Consumer goods: Non-durable 5,663,236 6,284,237 1 1,837,151 2,102,176 0 Containers, Packaging and Glass 2,786,954 2,591,064 0 2,806,740 2,502,994 1 Electronics 17,964,277 19,901,030 4 28,389,620 31,564,533 6 Energy: Oil & Gas 9,370,825 3,633,657 1 13,501,691 6,878,115 1 Environmental Industries 7,283,447 7,502,505 1 3,939,764 3,585,669 1 Finance 10,936,537 10,936,000 2 - - - Forest Products & Paper 1,581,127 1,358,240 0 1,576,633 1,270,880 0 Healthcare, Education and Childcare 9,797,292 9,765,443 2 14,059,921 13,791,048 3 Healthcare & Pharmaceuticals 68,913,038 62,299,025 11 83,481,401 78,823,040 16 High Tech Industries 60,348,479 61,537,690 11 32,949,892 35,052,389 7 Hotel, Gaming & Leisure 9,804,159 9,800,000 2 - - - Joint Ventures 70,558,377 67,629,114 12 54,932,458 49,349,163 10 Machinery (Non-Agrclt/Constr/Electr) 7,880,124 8,754,282 2 6,712,460 7,227,441 1 Media: Advertising, Printing & Publishing 3,027,661 3,510,461 1 2,830,592 3,170,254 1 Media: Broadcasting & Subscription 4,029,968 4,021,034 1 3,955,772 3,901,188 1 Media: Diversified & Production 10,325,089 10,438,340 2 2,658,914 2,612,250 1 Metals & Mining 13,129,929 13,682,518 2 1,219,188 1,326,500 0 Retail 5,975,549 6,773,201 1 5,790,208 6,597,338 1 Services: Business 78,816,384 80,129,332 14 58,027,464 60,119,401 12 Services: Consumer 3,837,036 3,840,200 1 4,241,127 4,198,243 1 Telecommunications 6,313,276 5,619,837 1 8,930,322 9,023,109 2 Textiles and Leather 12,418,665 11,118,299 2 12,415,194 10,860,696 2 Transportation: Cargo - - - 7,655,970 8,757,804 2 Transportation: Consumer 7,808,033 7,848,130 1 - - - Total $ 601,987,885 $ 560,199,292100 % $ 536,008,160 $ 486,628,831100 %
1 Calculated as a percentage of the total portfolio at fair value.
2 Represents the equity investment in affiliates of the asset manager.
Debt securities portfolio
September 30, 2021and December 31, 2020, the weighted average contractual interest rate on our loans and debt securities was approximately 8.2% and 7.8%, respectively. At September 30, 2021and December 31, 2020, the weighted average contractual interest rate on our loans and debt securities, excluding non-accrual and partial non-accrual investments, and excluding CLO Fund Securitiesand Joint Ventures, was approximately 7.9% and 7.7%, respectively. 85 -------------------------------------------------------------------------------- The investment portfolio (excluding our investments in the CLO Funds, Joint Ventures and short-term investments) at September 30, 2021was spread across 30 different industries and 184 different entities with an average par balance per entity of approximately $3.3 million. As of September 30, 2021, six of our investments were on non-accrual status. As of December 31, 2020, eight of our investments were on non-accrual status. We may invest up to 30% of our investment portfolio in "non-qualifying" opportunistic investments such as high-yield bonds, debt and equity securities of CLO Funds, foreign investments, joint ventures, managed funds, partnerships and distressed debt or equity securities of large cap public companies. At September 30, 2021and December 31, 2020, the total amount of non-qualifying assets to total assets was approximately 15.6% and 13.8% of total assets, respectively. The majority of non-qualifying assets were the Company's investments in joint ventures, in the aggregate representing approximately 10.8% and 8.2%, of the total assets as of September 30, 2021and December 31, 2020, and our total assets including our investments in CLO Funds, which are typically domiciled outside the U.S.and represented approximately 2.7% and 3.3% of total assets on such dates, respectively. Our portfolio may include "covenant-lite" loans which generally refer to loans that do not have a complete set of financial maintenance covenants. Generally, "covenant-lite" loans provide borrower companies more freedom to negatively impact lenders because their covenants are incurrence-based, which means they are only tested and can only be breached following an affirmative action of the borrower, rather than by a deterioration in the borrower's financial condition. Accordingly, to the extent we invest in "covenant-lite" loans, we may have fewer rights against a borrower and may have a greater risk of loss on such investments as compared to investments in or exposure to loans with financial maintenance covenants. Asset Manager Affiliates The Disposed Manager Affiliates manage CLO Funds that invest in broadly syndicated loans, high yield bonds and other credit instruments. The CLO funds managed by the Disposed Asset Manager Affiliates consist primarily of credit instruments issued by corporations. In connection with the LibreMax Transaction, on December 31, 2018, our wholly-owned subsidiary Commodore Holdings, LLCsold the Disposed Manager Affiliates, which represented substantially all of our investment in the Asset Manager Affiliates, to LibreMax for a cash purchase price of approximately $37.9 million. Accordingly, certain CLO fund investments were reclassified from CLO funds managed by affiliates to CLO funds managed by non-affiliates on December 31, 2018. Effective April 1, 2019, as a result of the Externalization and related transactions, CLO Fundinvestments managed by LibreMax were assigned to CLO Funds managed by affiliates. In the fourth quarter of 2020, Libremax disposed of its equity interest in the Adviser and as a result, CLO funds managed by Libremax or its affiliates were reclassified to CLO funds managed by non-affiliates. As of September 30, 2021, our Asset Manager Affiliates had approximately $300 millionof par value of assets under management, for which management fees were waived and thus were deemed to have no value. In connection with the Externalization, during the first quarter of 2019, KCAP Management agreed to waive management fees it is otherwise entitled to receive for managing the Fund. In addition, the Joint Venture was restructured such that we are now entitled to receive a preferred distribution in an amount equal to the fees waived by KCAP Management. The impact of these transactions was a reduction in the fair value of the Asset Manager Affiliates (realized loss) and increase the fair value of our investment in the Joint Venture (unrealized gain) during the first quarter of 2019. Although the investment in the Asset Manager Affiliates is deemed to have no value at September 30, 2021and December 31, 2020, certain of these subsidiaries continue to exist as a legal matter and until such entities are formally dissolved, the Company will continue to report the cost basis of its investment in the Asset Manager Affiliates in its financial statements. Upon the final disposition of these entities, the Company expects to write off any remaining cost basis, which will result in a reclassification in the statement of operations between realized and unrealized gains and losses.
We have made minority investments in the subordinated securities or preferred shares of CLO Funds managed by the Disposed Manager Affiliates and may selectively invest in securities issued by CLO Funds managed by other asset management companies. As of
September 30, 2021and December 31, 2020, we had approximately $17.2 millionand $19.6 million, respectively, invested in CLO Fund Securities, issued primarily by CLO Funds managed by the Disposed Manager Affiliates.
CLO funds invest primarily in heavily syndicated non-investment grade loans, high yield bonds and other credit instruments of private issuers. The underlying assets of each of the
The structure of CLO Funds, which are highly levered, is extremely complicated. Since we primarily invest in securities representing the residual interests of CLO Funds, our investments are much riskier than the risk profile of the loans by which such CLO Funds are collateralized. Our investments in CLO Funds may be riskier and less transparent to us and our stockholders than direct investments in the underlying loans. The CLO Funds in which we invest have debt that ranks senior to our investment. Our
CLO Fundinvestments are generally thinly traded or have only a limited trading market. CLO Funds are typically privately offered and sold, even in the secondary market. As a result, investments in CLO Funds may be characterized as illiquid securities. In addition to the general risks associated with investing in debt securities, CLO Funds carry additional risks, including, but not limited to: (i) the 86 -------------------------------------------------------------------------------- possibility that distributions from collateral securities will not be adequate to make interest or other payments; (ii) the quality of the collateral may decline in value or default; (iii) the fact that the Company's investments in CLO tranches will likely be subordinate to other senior classes of note tranches thereof; and (iv) the complex structure of the security may not be fully understood at the time of investment and may produce disputes with the CLO Fundor unexpected investment results. The Company's net asset value may also decline over time if the Company's principal recovery with respect to CLO subordinated note investments is less than the price that the Company paid for those investments. For a more detailed discussion of the risks related to our investments in CLO Funds, please see "Risk Factors - Risks Related to Our Investments - Our investments may be risky, and you could lose all or part of your investment." in Part I, "Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2020. Our CLO Fund Securitiesas of September 30, 2021and December 31, 2020are as follows: September 30, 2021 December 31, 2020 2 Amortized Amortized CLO Fund Securities Investment %1 Cost Fair Value Cost Fair Value Catamaran CLO 2013- 1 Ltd. Subordinated Notes 23.3 5,695,115 3,404,930 6,219,310 2,611,423 Catamaran CLO 2014-1 Ltd. Subordinated Notes 22.2 9,619,786 5,218,279 9,998,258 3,835,632 Dryden 30 Senior Loan Fund Subordinated Notes 6.8 1,099,276 1,365,000 1,272,501 1,322,100 Catamaran CLO 2014-2 Ltd. Subordinated Notes 24.9 6,065,598 - 6,065,598 -
Catamaran CLO 2015-1 Ltd. Subordinate
Notes 9.9 2,660,968 162,426 4,141,981 1,609,400 Catamaran CLO 2016-1 Ltd. Subordinated Notes 24.9 - - 8,872,484 3,549,000 Catamaran CLO 2018-1 Ltd. Subordinated Notes 24.8 8,823,494 7,023,000 9,157,681 6,655,000 Total
$ 33,964,237 $ 17,173,635 $ 45,727,813 $ 19,582,555
1 Represents the percentage of the class held
2 As of
As a result of the severe economic consequences resulting from the COVID 19 pandemic, during the second quarter of 2020, the Company was notified that four of the Catamaran CLO Funds breached certain covenants contained in their respective indentures, and as a result, available cash within the
CLO Fundwill be diverted away from the subordinated notes owned by the Company and will be applied to more senior noteholders in the capital structure of the CLO Fund. It is also possible, based upon the severe economic consequences resulting from the COVID 19 pandemic, that additional CLO Fund Securitiesowned by the Company, and including the subordinated securities issued by Great Lakes KCAP F3C Senior LLCCLO, which are owned by the KCAP Freedom 3 Joint Venture, could also cease making distributions to the Company. As of September 30, 2021, three of the four CLO funds whose distributions to the Company had been temporarily interrupted in 2020 have resumed making distributions to the Company. The estimated timing and amount of future distributions, if any, from such other CLO Fund Securitiesis uncertain. Investment in Joint Ventures KCAP Freedom 3 LLC During the third quarter of 2017, we and Freedom 3 Opportunities LLC("Freedom 3 Opportunities"), an affiliate of Freedom 3 Capital LLC, entered into an agreement to create KCAP Freedom 3 LLC (the "Joint Venture"). We contributed approximately $37 millionand Freedom 3 Opportunities contributed approximately $25 million, in assets to the Joint Venture, which in turn used the assets to capitalize a new fund, Great Lakes KCAP F3C Senior Funding L.L.C.(formerly known as KCAP F3C Senior Funding, L.L.C.) (the "Fund") managed by KCAP Management, LLC, one of the Asset Manager Affiliates. In addition, the Fund used cash on hand and borrowings under a credit facility to purchase approximately $184 millionof primarily middle-market loans from us and we used the proceeds from such sale to redeem approximately $147 millionin debt issued by KCAP Senior Funding I, LLC("KCAP Senior Funding"). The Fund invests primarily in middle-market loans and the Joint Venture partners may source middle-market loans from time-to-time for the Fund. During the fourth quarter of 2017, the Fund was refinanced through the issuance of senior and subordinated notes. The Joint Venture purchased 100% of the subordinated notes issued by the Fund. In connection with the refinancing, the Joint Venture made a cash distribution to us of approximately $12.6 million. $11.8 millionof this distribution was a return of capital, reducing the cost basis of our investment in the Joint Venture by that amount. The final determination of the tax attributes of distributions from the Joint Venture is made on an annual (full calendar year) basis at the end of the year, therefore, any estimate of tax attributes of distributions made on an interim basis may not be representative of the actual tax attributes of distributions for the full year. 87
In connection with the Externalization, during the first quarter of 2019, KCAP Management agreed to waive management fees it is otherwise entitled to receive for managing the Fund. In addition, the Joint Venture was restructured such that we are now entitled to receive a preferred distribution in an amount equal to the fees waived by KCAP Management. The impact of these transactions was a reduction in the fair value of the Asset Manager Affiliates (realized loss) and increase the fair value of our investment in the Joint Venture (unrealized gain) during the first quarter of 2019. During the second quarter of 2021, the Company contributed an additional
$2.5 millioncash investment to the Joint Venture, increasing its equity ownership interest to 62.83% in the Joint Venture. While we own a 62.83% interest in the Joint Venture, the Joint Venture is structured as an unconsolidated Delawarelimited liability company. All portfolio and other material decisions regarding the Joint Venture must be submitted to its board of managers, which is comprised of four members, two of whom were selected by us and two of whom were selected by Freedom 3 Opportunities, and must be approved by at least one member appointed by us and one appointed by Freedom 3 Opportunities. In addition, certain matters may be approved by the Joint Venture's investment committee, which is comprised of one member appointed by us and one member appointed by Freedom 3 Opportunities. We have determined that the Joint Venture is an investment company under Accounting Standards Codification ("ASC"), Financial Services - Investment Companies ("ASC 946"), however, in accordance with such guidance, we will generally not consolidate our investment in a company other than a wholly owned investment company subsidiary or a controlled operating company whose business consists of providing services to us. We do not consolidate its interest in the Joint Venture because we do not control the Joint Venture due to allocation of the voting rights among the Joint Venture partners.
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