Private business development companies (BDCs) do not have publicly traded shares. For investors in these vehicles, liquidity opportunities take a number of forms. One liquidity option that private BDCs tend to offer is the option to split off part of the BDC into a new vehicle that would seek to list its shares. The US Securities and Exchange Commission (SEC) Division of Investment Management recently granted an exemptive order for “split-off relief” filed by TCW Direct Lending LLC (the Company) and certain of its affiliates. The Company sought exemptive relief from the SEC to permit it to transfer assets to the new split-off “Extension Fund” and to complete other aspects of the split-off. Relief was needed because the investment adviser to the Company would be managing, and may be deemed to control, both the Company and the Extension Fund, and the Investment Company Act of 1940 (1940 Act) prohibits entities under common control from engaging in certain transactions.
This is the first exemptive order granted to a private BDC allowing it to undertake a liquidity event that might otherwise be prohibited by the 1940 Act. The Company requested this relief in order to give its investors the option to exchange their shares in the Company for shares of the Extension Fund, which would seek to conduct an initial public offering (IPO) and list its shares on an exchange.
The Company is structured as a private BDC.1 Unlike a traditional publicly listed BDC that typically commences operations after completing an IPO, the Company initially raised capital by conducting private offerings of its Units to investors. The Units are not traded on any securities exchange and are not freely transferable, and the Company does not conduct periodic repurchases of Units from Unitholders. Instead, Unitholders are provided liquidity on their investment through periodic distributions by the Company in combination with the Company’s finite term, as reflected in the Company’s limited liability operating agreement (LLC Agreement). The LLC Agreement provides that the Company will be dissolved upon the expiration of its six-year term on September 19, 2020 (subject to any extensions of the term in accordance with the procedures set forth in the LLC Agreement), whereupon the Company’s assets will be liquidated in an orderly manner, capital will be returned to the Unitholders, and the Company will wind up.
Like the Company, most private BDCs provide investors with liquidity on their investments through periodic distributions in combination with the BDC’s finite term. However, unlike other BDCs, the Company’s organizational documents do not permit the Company to conduct an initial public offering or listing of its Units.
The Company’s organizational documents outline a framework that balances investor optionality with the desirability to engage in an initial public offering or listing transaction at a later stage. The Company’s LLC Agreement provides for the ability of the Company to engage in a split-off transaction. Specifically, the LLC Agreement provides that at any time after the second anniversary of the Company’s initial closing date (September 19, 2014) the Company may offer Unitholders the option to elect to either (i) retain their ownership of Units, or (ii) exchange their Units for shares of common stock in a newly formed fund (i.e., the Extension Fund) that would elect to be treated as a BDC and a regulated investment company and which could, among other things, seek to complete an initial public offering of its common stock.
To effect this option, the LLC Agreement provides that: (1) the Company would transfer a pro rata portion of its assets and liabilities attributable to the Unitholders that elect to invest in the Extension Fund (the Electing Unitholders) to the Extension Fund and (2) the Units of the Electing Unitholders would be exchanged for Extension Fund Shares. If the Company does not complete the proposed transactions related to the split-off, the Company will continue operations under its existing structure and commence liquidation at the end of its term in accordance with its organizational documents.
The Company’s exemptive application2 details the proposed transactions that would need to be completed in order to complete the split-off and the reasons the proposed transactions meet the requirements for the SEC to grant the requested exemptive relief. For example, the boards of the Company and the Extension Fund will both have to make all of the necessary determinations required under the application, including authorizing and approving the proposed transactions necessary to complete the split-off.
As noted above, this is the first exemptive order granted to a private BDC allowing it to undertake a liquidity event that might otherwise be prohibited by the 1940 Act. The SEC has previously granted similar relief to registered closed-end funds to facilitate spin-off transactions for other reasons. As other private BDCs are nearing the expiration of their finite terms, additional applications for split-off or spin-off relief are expected to be filed with the SEC, which may or may not follow the same strategy as the Company’s split-off.