Pursuant to the regulations governing Small Business Investment Companies (“SBICs”), an SBIC is permitted to make a controlling investment in a portfolio company. In order to retain control of a portfolio company for more than seven years after the date that control was originally acquired, however, an SBIC must obtain the prior written approval of the U.S. Small Business Administration (the “SBA”). This requirement applies to all SBICs, whether leveraged or unlevered, and to both debenture SBICs and participating securities SBICs.

Section 107.865 of the regulations governing SBICs provides that an SBIC will be presumed to have control if it has at least (1) 50% of the voting securities in a portfolio company with fewer than 50 stockholders, (2) 25% of the voting securities in a portfolio company with more than 50 stockholders, or (3) 20% of the voting securities in a portfolio company and no other party holds a larger ownership interest in such portfolio company.

The regulations provide that the SBA may grant approval for an SBIC to maintain control of a portfolio company for more than seven years if an extension is “reasonably necessary to complete divestiture of control or to ensure the financial stability of the portfolio company.”

SBICs that make controlling investments in portfolio companies should review their portfolios to ensure compliance with this regulation. SBICs that anticipate having control of a portfolio company for more than seven years (currently those investments made prior to March 2005) should seek SBA consent far enough in advance of the seventh anniversary of obtaining control to enable SBA to review the request and grant consent before the seventh anniversary to avoid a regulatory violation.