Fitch Revises BDC Sector Outlook to Negative, Maintains Stable Outlooks for Owl Rock BDCs

April 20, 2020 | Marisol Grandi | S&P Global Market Intelligence

Fitch Ratings reviewed nine business development companies and affirmed its sector outlook for BDCs at negative, warning that COVID-19 outbreak will likely cause elevated portfolio credit issues.

Fitch revised its rating outlooks for Ares Capital Corp., BlackRock TCP Capital Corp., FS KKR Capital Corp., Goldman Sachs BDC Inc. and Oaktree Specialty Lending Corp to negative from stable, as they exhibit smaller risk-adjusted asset coverage cushions or have smaller cushions to minimum equity covenants. The rating agency also affirmed the companies’ long-term issuer default ratings.

In addition, Fitch maintained the rating outlooks for Owl Rock Capital Corp, Owl Rock Capital Corp. II, Solar Capital Ltd. and TPG Specialty Lending Inc. at stable and also affirmed their long-term issuer default ratings.

BDCs have also experienced increased revolver draws as underlying portfolio companies have tried to maintain liquidity. Fitch believes BDCs have sufficient borrowing capacity on credit facilities to fund these revolver draws, but that will result in higher leverage and more pressured asset coverage cushions. Moreover, the rating agency believes available liquidity will vary across the sectors, so some firms will be better positioned to support existing portfolio companies.

Recent coronavirus-related rating cuts will pressure portfolio yields, leading to the emergence of portfolio credit issues. Fitch expects BDCs’ earnings and dividend coverage will be challenged in the coming quarters. According to Fitch, as portfolio companies struggle to make interest payments, BDCs’ interest income is expected to decrease in the coming months. Moreover, net investment income coverage of dividends will decline in 2020, resulting in dividend cuts.

Fitch also noted that BDC stocks have traded down significantly. On April 10, they were trading at a 34.7% average discount to net asset value, compared to a 6.5% average discount on Feb. 28, which is expected to prevent most BDCs from accessing the equity markets to raise capital.

On April 8, the SEC adopted amendments to the Small Business Credit Availability Act and the Economic Growth, Regulatory Relief and Consumer Protection Act relating to BDCs. The commission permitted BDCs the option to exclude valuation marks on portfolio companies that are not permanently impaired in their calculation of the asset coverage ratio. However, Fitch does not expect the rated BDCs to use that option.

Source:  S&P Global Market Intelligence