Senior secured loans carry the least risk among all investments within a company’s capital structure.
Our primary area of focus is first lien senior secured loans, second lien secured loans, and to a lesser extent, subordinated loans, of private U.S. companies. These investments are part of a typical company's capital structure whereby senior secured loans represent the senior-most obligations of a company and have the first claim on its assets and cash flows. As such, first lien senior secured loans carry the least risk among all investments in a firm. First lien senior secured loans are followed in priority by second lien secured loans, subordinated debt, preferred equity, and finally, common equity.
Due to this priority of cash flows and claims on assets, an investment’s risk increases as it moves further down the capital structure. Investors are usually compensated for the risk associated with this sliding scale of cash flows, or junior status, in the form of higher returns, either through higher interest payments or potentially higher capital appreciation. As depicted in the chart above, we intend to focus on components of the capital structure with higher priority of cash flows, and therefore less risk.
Our flexible investment platform allows us to invest throughout the corporate capital structure, giving us the ability to position our investors to capitalize on what we believe to be the strongest risk-adjusted opportunities in the debt markets.
In times of economic distress, we will weight our portfolio heavily toward senior secured debt, where investments are secured by collateral and recovery rates (i.e., the amount of principal a lender recovers after a default) are strongest among all types of corporate securities in the event of default. However, when the economic outlook is strong and corporate profits are expected to grow, we may broaden our focus to include more junior forms of debt, such as subordinated loans, which offer less downside protection but generally offer more attractive total returns. Subordinated loans offer returns both through high interest rates and potential equity appreciation in the borrower (they often award lenders equity interests at little or no cost). In accordance with the best interests of our stockholders, management will continue to monitor our targeted investment mix as economic conditions evolve.