FS KKR Capital Corp II (NYSE: FSK) is a collection of business development companies (BDCs) that provided capital for privately traded companies. Private placements always present a high degree of risk for investors, but investors may not have realized just how risky and illiquid their investment was before the recent economic downturn. After FS KKR II went public in June 2020, many investors found that their shares had greatly declined in value.

BDCs do not perform well during an economic downturn. After the pandemic started to affect small businesses, FS KKR Capital suffered significant losses in March and April. As of June 2020,  shares had declined by 34.4%. FS KKR Capital went public in hopes they could recover, but while the economic slump continues, so could defaults.

What is FS KKR?

Franklin Square Investments (FS) and KKR Credit Advisors announced they would merge the following four non-traded business development companies in December 2019:

  1. FS Investment Corporation II (FSIC II)
  2. FS Investment Corporation III (FSIC III)
  3. FS Investment Corporation IV (FSIC IV)
  4. Corporate Capital Trust II (CCT II)

KKR Credit is an investment firm that manages multiple alternative asset classes, including private equity, energy, infrastructure, real estate, and credit. Franklin Square is one of the oldest BDCs on the market.

This merger created a combined entity called FS KKR Capital Corp II (FSK II). Following the merger, FS KKR Capital Corp II had $9.5 billion in assets, making it the second-largest business development company. Michael Forman, the CEO of FSK II, stated in a press release, “We believe the scale, diversification, operating efficiencies and capital structure flexibility of the combined entity will drive shareholder value.” Supposedly, the mergers would cut down on legal and administrative expenses, providing better value for shareholders.

What is a Business Development Company (BDC)?

BDCs usually offer debt financing for private, middle-market companies. These are typically newer businesses. To qualify as a BDC, the company must invest at least 70% of its assets in private U.S. companies or in public companies with a market capitalization of less than $250 million.

BDCs are relatively new investment vehicles. After the 2007 financial crisis, banks stopped offering riskier loans, creating a market for new lenders. Franklin Square Investment Corp (FSIC) was the first non-traded BDC, launching in 2009.  

Why Did FSKR Investors Lose Money?

Middle-market lending companies often rely on credit lines from banks for funding. Amid the 2020 pandemic, companies started drawing down on their credit lines, making it harder for banks to produce the cash they need at one time. This creates what The Wall Street Journal calls “a two-part squeeze” for BDCs: Private companies start to default on their payments while banks lower borrowing limits. BDCs receive less money from their borrowers and simultaneously can’t borrow as much from banks.

Can I Recover Losses from an FS KKR Investment?

BDCs comprise private companies, which always present more of a risk for investors. Although no one could have predicted the pandemic, financial advisors know that crises are inevitable, and should have made sure that investors understood the potential for losses.

Here are few points that financial advisors should have emphasized to investors before recommending that the purchase shares of FSKR:

·         Lack of Liquidity

FSKR shares are illiquid. According to their SEC filing, FS KKR securities could be subject to legal restrictions for resale, making them difficult to sell.

·         Use of Leverage

If a BDC desperately needs money, they might make use of leverage – that is, they might borrow capital. This increases the company’s debt as well as the potential risk for losses for the investors.

·         Commissions and Fees

Brokers can earn commissions of 7% to 10% when their client invests in a BDC. This obviously creates a conflict of interest. If a financial advisor cares more about their commission than your risk tolerance, they are more likely to recommend unsuitable investments, in violation of FINRA and SEC rules.

What Can I Do Now?

If your financial advisor did not tell you about the risks involved in FS KKR (or any business development company), you may be able to recover your losses. For a free case evaluation, contact the experienced securities attorneys of Fitapelli Kurta. Call (877) 238-4175 or email info@fkesq.com.

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