As we highlighted in a previous blog post, investors in FS Energy and Power Fund (“FSEP” or the “Fund”) may be able to recover losses on their investment in arbitration through arbitration before the Financial Industry Regulatory Authority (“FINRA”), if the recommendation to invest in FSEP was unsuitable, or if the broker or financial advisor who recommended the investment made a misleading sales presentation. Headquartered in Philadelphia, PA, the Fund is structured as a non-traded business development company (“BDC”) that invests primarily in the debt of a portfolio of private U.S. energy and power companies.
BDCs first emerged in the early 1980’s when the U.S. Congress enacted legislation that amended the federal securities laws. These legislative changes allowed BDCs — which are a type of closed-end fund — to make investments in developing companies and firms. BDCs are in the business of providing various debt and mezzanine financing solutions for small and medium-sized businesses that otherwise could not access credit in the same way as more established companies.
By providing credit solutions to less established companies, BDCs frequently collect much higher than average interest income and seek to pass along such income to investors in the form of dividends. While an investment in a BDC may seem like an attractive option for an investor seeking enhanced income, our office has frequently encountered situations in which financial advisors recommended unsuitable nonconventional investment products to their clients, including non-traded BDCs, such as FSEP.
An investment in a BDC carries the same risks associated with other non-traded investment vehicles. These risks include, but are not limited to: excessive front-end fees (as high as 10%) to the soliciting broker and his or her firm, in addition to the illiquid nature of such non-traded investments. In fact, FINRA has offered the following cautionary guidance regarding such liquidity concerns: “Due to the illiquid nature of non-traded BDCs, investors’ exit opportunities may be limited only to periodic share repurchases by the BDC at high discounts.”
FSEP is managed by Franklin Square, a firm specializing in alternative investment funds. As of September 2015, Franklin Square managed approximately $17 billion in total assets, including $15.7 billion in BDC assets, thus making Franklin Square the largest manager of BDCs. A review of recent SEC filings indicates that FSEP closed its public offering in November 2016.
Investors who wish to exit their FSEP investment position are limited in their options due to the Fund’s illiquidity. For example, investors seeking to redeem their shares directly through Franklin Square need to wait until the Fund makes a quarterly tender offer, or wait until a future liquidity event transpires that may not occur for a number of years. According to SEC filings, on December 29, 2017, the Fund announced a decrease in the price of shares issued under the dividend reinvestment plan (‘DRIP’) to $6.70 from $7.15 a share.
Moreover, while a secondary market to sell FSEP does exist, it is fragmented and relatively inefficient. For example, Central Trade and Transfer recently listed shares of FSEP with a bid-ask spread of $6.60 – $6.85 per share. The recent pricing in the Fund — both through SEC filings by FSEP and through the secondary market — suggests that investors in this non-traded BDC may well have suffered considerable investment losses of approximately 35% on their initial investment (which does not include distributions paid to date). With respect to distributions, FSEP recently announced a reduction in the amount of their dividend: a decrease of nearly 30%. Particularly for income-oriented investors, this is not a favorable sign.
If you have invested in FSEP, or another non-traded alternative investment product, and you have suffered losses (or are currently unable to exit your illiquid investment position without incurring losses), you may be able to recover your losses in FINRA arbitration. Investors may contact a securities arbitration lawyer at Law Office of Christopher J. Gray, P.C. at (866) 966-9598 or via email at newcases@investorlawyers.net for a no-cost, confidential consultation.