EDGAR 10-K Filing

Company CIK: 1501729
Filing Year: 2025
Filename: 1501729_10-K_2025_0001628280-25-012773.json

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ITEM 1. BUSINESS
Item 1. Business.
FS Specialty Lending Fund, or the Company, which may also be referred to as "we," "us" or "our," was organized in September 2010 and commenced investment operations in July 2011. We are an externally managed, non-diversified, closed-end management investment company that has elected to be regulated as a business development company, or BDC, under the Investment Company Act of 1940, as amended, or the 1940 Act. In addition, we have elected to be treated for U.S. federal income tax purposes, and intend to qualify annually, as a regulated investment company, or RIC, under Subchapter M of the Internal Revenue Code of 1986, as amended, or the Code. As of December 31, 2024, we had total assets of approximately $2.1 billion.
We are managed by FS/EIG Advisor, LLC, or FS/EIG Advisor, a registered investment adviser under the Investment Advisers Act of 1940, as amended, or the Advisers Act, pursuant to an investment advisory and administrative services agreement dated as of April 9, 2018, as amended, or the FS/EIG investment advisory agreement. FS/EIG Advisor oversees the management of our operations and is responsible for making investment decisions with respect to our portfolio.
In May 2023, we announced that our board of trustees approved our transition from an investment policy of investing primarily in Energy (as defined below) companies to a diversified credit investment policy of investing across private and public credit in a broader set of industries, sectors and sub-sectors. Following a shareholder notice period, our new investment policy became effective on September 29, 2023. Our allocation to Energy investments has declined and we expect it to further decline over time, in each case, through the natural course of maturities, repayments and sales activity and by growing the total size of the portfolio through leverage facilities. The pace of the portfolio rotation remains dependent upon a number of factors, including the turnover of concentrated illiquid Energy investments, performance of underlying portfolio companies, high yield and energy market conditions, our access to borrowings and the amount and pace of the payment of enhanced distributions to shareholders, among others.
Our investment policy is to invest primarily in a portfolio of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments, which, under normal circumstances, will represent at least 80% of our total assets. This investment policy may not be changed without at least 60 days’ prior notice to holders of our common shares of any such change. For purposes of our policy, “credit instruments” may include senior secured loans, unsecured loans, corporate bonds, notes, bills, debentures, distressed securities, mezzanine securities, collateralized debt obligations, collateralized bond obligations, collateralized loan obligations, bank loans, corporate loans, government and municipal obligations, mortgage-backed securities, asset-backed securities, repurchase agreements and other fixed-income instruments of a similar nature that may be represented by derivatives such as options, forwards, futures contracts or swap agreements.
Our current investment objectives are to generate current income and, to a lesser extent, long-term capital appreciation. We intend to pursue our investment objectives by investing in both direct originations and broadly syndicated investments of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments. Investing in both direct originations and broadly syndicated investments allows us to be dynamic in our pursuit of opportunities across changing economic and credit cycles in an effort to generate returns for our investors with an acceptable level of risk. Both categories of investments are described below.
•Direct Originations: Direct lending and innovative capital structure solutions to both sponsored and non-sponsored companies, typically based in the U.S. and operating within the middle market. These investments may include both debt and equity components.
•Broadly Syndicated Loan and Bond Transactions: Opportunistic investments into primary and secondary markets, broadly syndicated loans and bonds. Broadly syndicated loans and bonds are generally more liquid than our directly originated investments and provide a complement to our less liquid strategies. In the case of broadly syndicated investments, we generally intend to capitalize on market inefficiencies by investing in loans, bonds, and other asset classes where the market price of such investment reflects a lower value or the yield is higher than we believe is warranted based on our fundamental analysis, providing us with an opportunity to earn an attractive return on our investment.
However, we may pursue other investment opportunities if we believe they are in our best interests and consistent with our investment objectives.
We seek to achieve our current investment objectives by:
•utilizing the experience and expertise of FS/EIG Advisor in sourcing, evaluating and structuring transactions;
•employing a conservative investment approach focused on high conviction investment opportunities across the investment universe that offer attractive risk-adjusted income and returns and long term investment performance;
•investing across various sectors and sub-sectors depending on, among other things, market conditions, available investment opportunities, portfolio composition and other factors;
•opportunistically investing in liquid investments and dynamically adjusting allocations between public and private markets depending on where the risk adjusted returns are attractive;
•focusing primarily on debt or debt-like investments in a broad array of companies within the United States;
•making select equity investments in certain companies that have strong growth potential;
•investing primarily in established, stable enterprises with positive cash flow and strong asset and collateral coverage so as to limit the risk of potential principal loss; and
•maintaining rigorous portfolio monitoring in an attempt to anticipate and pre-empt negative events within our portfolio.
Prior to September 29, 2023, our investment policy was to invest, under normal circumstances, at least 80% of our total assets in securities of Energy companies and our investment objectives were to generate current income and long-term capital appreciation. We consider Energy companies to be those companies that engage in the exploration, development, production, gathering, transportation, processing, storage, refining, distribution, mining, generation or marketing of natural gas, natural gas liquids, crude oil, refined products, coal or power, including those companies that provide equipment or services to companies engaged in any of the foregoing.
Under our previous investment policy, we sought to concentrate our investments on debt securities in Energy companies that we believed had, or were connected to, a strong infrastructure and/or underlying asset base so as to enhance collateral coverage and downside protection for our investments. We also made select equity investments in certain Energy companies meeting our previous investment objectives. Our primary areas of focus were the upstream, midstream, power and service and equipment sub-sectors of the Energy industry; however, we broadly defined our ‘‘Energy Investment Universe’’ as follows:
•Upstream-businesses that find, develop and extract energy resources, including natural gas, crude oil and coal, from onshore and offshore reservoirs;
•Midstream-businesses that gather, process, store and transmit energy resources and their by-products, including businesses that own pipelines, gathering systems, gas processing plants, liquefied natural gas facilities and other energy infrastructure;
•Downstream-businesses that refine, market and distribute refined energy resources, such as customer-ready natural gas, propane and gasoline, to end-user customers;
•Power-businesses engaged in the generation, transmission and distribution of power and electricity or in the production of alternative energy; and
•Service and Equipment-businesses that provide services and/or equipment to aid in the exploration and production of oil and natural gas, including seismic, drilling, completion and production activities, as well as those companies that support the operations and development of power assets.
The majority of our portfolio is comprised of income-oriented securities, which principally refers to debt securities and other income-producing investments, of privately-held companies within the United States. Historically, our portfolio has largely been invested in Energy companies, although we expect our portfolio to continue to shift away from investments in Energy companies as we further pursue a diversified credit strategy. Generally, in the long-term, we expect to weight our investments more heavily towards directly originated investments, as this will provide us with the ability to tailor investments to best match a project’s or company’s needs with our investment objectives. However, our current investment policy enables FS/EIG Advisor to opportunistically invest in broadly syndicated investments and dynamically adjust allocations between private and public markets depending on where the risk-adjusted returns are most attractive. We intend to weight our portfolio towards senior secured debt, which we believe offers opportunities for superior risk-adjusted returns and income generation. Our debt investments may take the form of corporate or project loans or bonds, may be secured or unsecured and may, in some cases, be accompanied by yield enhancements. These yield enhancements may include common equity, warrants, options, net profits interests, cash flow participations or other forms of equity participation that can provide additional consideration or “upside” in a transaction. In connection with certain of our debt investments or any restructurings of these debt investments, we may on occasion receive equity interests, including warrants or options, as additional consideration or otherwise in connection with a restructuring. In addition, a portion of our portfolio may be comprised of derivatives, including total return swaps, credit default swaps and other swap contracts. FS/EIG Advisor will seek to tailor our investment focus as market conditions evolve. Depending on market conditions, we may increase or decrease our exposure to less senior portions of the capital structure or other more opportunistic investments. We expect that the size of our individual investments
will generally range between $10 million and $70 million each, although investments may vary proportionately as amounts available for investment change and the size of our capital base changes and will ultimately be at the discretion of FS/EIG Advisor, subject to oversight by our board of trustees.
To seek to enhance our returns, we employ leverage as market conditions permit and at the discretion of FS/EIG Advisor, but in no event will leverage employed exceed the maximum amount permitted by the 1940 Act. With certain limited exceptions, we are only allowed to borrow amounts or issue debt securities if our asset coverage, as calculated pursuant to the 1940 Act, equals at least 200% immediately after such borrowing. The minimum asset coverage requirement applicable to BDCs under the 1940 Act, however, is currently 150% provided that certain disclosure and approval requirements are met.
As a BDC, we are subject to certain regulatory restrictions in making our investments. For example, BDCs generally are not permitted to co-invest with certain affiliated entities in transactions originated by the BDC or its affiliates in the absence of an exemptive order from the U.S. Securities and Exchange Commission, or SEC. However, BDCs are permitted to, and may, simultaneously co-invest in transactions where price is the only negotiated term. In an order dated June 4, 2013, or the Original Order, the SEC granted exemptive relief permitting us, subject to the satisfaction of certain conditions, to co-invest in certain privately negotiated investment transactions with certain affiliates of its former investment adviser, including FS KKR Capital Corp., or collectively our co-investment affiliates. Effective April 9, 2018, or the JV Effective Date, and in connection with the transition of advisory services to a joint advisory relationship with EIG (as defined below), our board of trustees authorized and directed that we (i) withdraw from the Original Order, except with respect to any transaction in which we participated in reliance on the Original Order prior to the JV Effective Date, and (ii) rely on an exemptive relief order dated April 10, 2018, granted to EIG and its affiliates which permits us to participate in co-investment transactions with certain other EIG advised funds, or the EIG Order. Effective November 13, 2024, and in connection with the change to our investment strategy, our board of trustees authorized and directed that we (x) withdraw from the EIG Order, except with respect to any transaction in which we participated in reliance on the EIG Order prior to such date, and (y) rely on an exemptive relief order dated November 13, 2024, granted to us and certain of our affiliates which permits us, subject to the satisfaction of certain conditions, to co-invest in certain privately negotiated investment transactions with certain of our affiliates, or the FS Order.
While a BDC may list its shares for trading in the public markets, we have currently elected not to do so. Prior to any liquidity event, a non-traded structure allows us to operate with a long-term view, instead of managing to quarterly market expectations. We and FS/EIG Advisor will continue to evaluate the appropriate form and timing of any liquidity event, taking into account, among other things, the composition of our portfolio, portfolio performance and market conditions.
For information regarding our share repurchase program and distributions, including certain related tax considerations, see “Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities-Share Repurchase Program, De Minimis Account Liquidation and Distributions” and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations-RIC Status and Distributions.”
About FS/EIG Advisor
FS/EIG Advisor is a Delaware limited liability company, located at 201 Rouse Boulevard, Philadelphia, PA 19112, registered as an investment adviser with the SEC under the Advisers Act. FS/EIG Advisor is jointly operated by an affiliate of Franklin Square Holdings, L.P. (which does business as FS Investments), and EIG Asset Management, LLC, or EIG. Our chairman and chief executive officer, Michael C. Forman, serves as FS/EIG Advisor’s chairman and chief executive officer.
FS/EIG Advisor’s management team has significant experience investing in the credit markets, including private lending and private equity investing, and has developed an expertise in using all levels of a firm’s capital structure to produce income-generating investments, while focusing on risk management. The team also has extensive knowledge of the managerial, operational and regulatory requirements of publicly registered alternative asset entities, such as BDCs. We believe that the active and ongoing participation by personnel of FS Investments, EIG and their respective affiliates in the credit markets, and the depth of experience and disciplined investment approach of FS/EIG Advisor’s management team, will allow FS/EIG Advisor to successfully execute our investment strategies.
Our board of trustees, including a majority of independent trustees, oversees and monitors our investment performance, and annually reviews the FS/EIG investment advisory agreement to determine, among other things, whether the fees payable under such agreement are reasonable in light of the services provided.
About FS Investments
FS Investments is a global alternative asset manager dedicated to delivering superior performance and innovative investment and capital solutions. The firm manages over $85.5 billion in assets for a wide range of clients, including institutional investors, financial professionals and individual investors. FS Investments provides access to a broad suite of alternative asset classes and strategies through its best-in-class investment teams and partners. With its diversified platform and flexible capital solutions, the firm is a valued partner to general partners, asset owners and portfolio companies. FS Investments is grounded in its high-performance culture and guided by its commitment to building value for its clients, investing in its colleagues and giving back to its communities. The firm has nearly 600 employees across offices in the U.S., Europe and Asia and is headquartered in Philadelphia.
About EIG
EIG is a leading institutional investor in the global energy and infrastructure sectors with $23.4 billion under management as of December 31, 2024. EIG specializes in private investments in energy and energy-related infrastructure on a global basis. During its 42-year history, EIG has committed over $49.8 billion to the energy sector through over 416 projects or companies in 44 countries on six continents. EIG’s clients include many of the leading pension plans, insurance companies, endowments, foundations and sovereign wealth funds in the U.S., Asia and Europe. EIG is headquartered in Washington, D.C. with offices in Houston, London, Sydney, Rio de Janeiro, Hong Kong and Seoul. For additional information, please visit EIG’s website at www.eigpartners.com.
Potential Market Opportunity
FS/EIG Advisor believes that opportunities exist in non-traditional areas of the credit market that can offer enhanced return potential. These opportunities may offer above-market returns because they are misunderstood or can be difficult to source, analyze, structure and/or have illiquidity premiums.
Characteristics of and Risks Related to Investments in Private Companies
The majority of our portfolio is comprised of income-oriented securities of privately-held companies within the United States. Historically, our portfolio has largely been invested in Energy companies, although our portfolio has shifted away from investments in Energy companies as we pursue a diversified credit strategy. Investments in private companies pose significantly greater risks than investments in public companies. First, private companies have reduced access to the capital markets, resulting in diminished capital resources and ability to withstand financial distress. As a result, these companies, which may present greater credit risk than public companies, may be unable to meet the obligations under their debt and equity securities that we hold. Second, the investments themselves may often be illiquid. The securities of many of the companies in which we invest are not publicly traded or actively traded on the secondary market and are, instead, traded on a privately negotiated over-the-counter secondary market for institutional investors. In addition, our directly originated investments generally will not be traded on any secondary market, and a trading market for such investments may not develop. These securities may also be subject to legal and other restrictions on resale. As such, we may have difficulty exiting an investment promptly or at a desired price prior to maturity or outside of a normal amortization schedule. These investments may also be difficult to value because little public information generally exists about private companies, requiring an experienced due diligence team to analyze and value the potential portfolio company. Finally, these companies may not have third-party debt ratings or audited financial statements. We must therefore rely on the ability of FS/EIG Advisor directly, or indirectly through FS Investments or EIG, to obtain adequate information through their due diligence efforts to evaluate the creditworthiness of, and risks involved in investing in, these companies, and to determine the optimal time to exit an investment. These companies and their financial information will also generally not be subject to the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and other rules and regulations that govern public companies that are designed to protect investors.
Investment Strategy
Our investment policy is to invest primarily in a portfolio of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments, which, under normal circumstances, will represent at least 80% of our total assets. This investment policy may not be changed without at least 60 days’ prior notice to holders of our common shares of any such change. In accordance with the best interests of our shareholders, FS/EIG Advisor monitors our targeted investment mix as economic conditions evolve.
We seek to achieve our current investment objectives by focusing on strategies such as direct originations, including innovative capital structure solutions, and broadly syndicated loan and bond transactions, which may include event-driven investments, opportunistic performing credit and special situations. By focusing on these opportunities, FS/EIG Advisor believes it can create a portfolio that offers high potential income and returns while limiting our risk. These strategies are described in further detail below.
Direct Originations
Capital Structure Solutions
Constrained mandates create an opportunity to lend to companies that do not satisfy conventional lending criteria. Non-traditional borrowers include companies without financial sponsors or backed by small or emerging sponsors, businesses in industries that are in transition, overlevered, stressed or distressed businesses and/or companies with unconventional or niche assets. Traditional lenders, whether banks, private credit funds or others, tend to avoid lending to these businesses because of regulations, limited investment mandates or lack of expertise.
Based on prior experience, FS/EIG Advisor believes that it can offer target portfolio companies a variety of customized financing solutions to meet their capital needs, while providing us with attractive risk-adjusted returns. These solutions are typically highly structured and offer yield premiums compared to traditional blue chip sponsor-based private lending and investments in high yield and broadly syndicated loans. The highly structured nature of the investments can also provide for significant downside protection in the form of strong creditor protections. FS/EIG Advisor believes that this capital structure solutions investment strategy provides us with an alternative and differentiated capability that diversifies and enhances our risk-adjusted return profile.
Broadly Syndicated Loan and Bond Transactions
Event-Driven
We may seek to take advantage of dislocations that arise in the markets due to an impending event for which the market’s apparent expectation of value differs substantially from the view of FS/EIG Advisor. Event-driven investing requires FS/EIG Advisor to make judgments concerning, among other things, (i) the likelihood that an event will occur and (ii) the impact such event will have on the value of a company’s loans and securities. Such events may include a looming debt maturity or default, merger, spin-off or other corporate reorganization, an adverse regulatory or legal ruling or a material contract expiration, any of which may significantly improve or impair a company’s financial position. Event-driven investing depends much more heavily on FS/EIG Advisor’s ability to successfully predict the outcomes of these events than on underlying macroeconomic fundamentals such as the level of interest rates or gross domestic product. As a result, successful event-driven strategies may offer substantial diversification benefits and the ability to generate performance in uncertain market environments. Our investment strategy revolves around a thorough due diligence process and is based on the belief that a deep understanding of companies and the industries in which they operate is critical to generating positive income and returns.
Opportunistic Performing Credit
We seek to capitalize on market price inefficiencies by investing in loans, bonds and other securities for which the income of such investment reflects a higher risk premium or the market price of such investment reflects a lower value than deemed warranted by FS/EIG Advisor’s fundamental analysis. These opportunities may often be idiosyncratic in nature, as specific issues or complexity related to a prospective investment may drive the excess yield or total return potential. FS/EIG Advisor believes that market price inefficiencies may occur due to, among other things, a misunderstanding by the market of a particular company or an industry being out of favor with the broader investment community. Market price inefficiencies may also arise from broader market dislocations, which can include broad-based, risk-off sentiment across multiple markets as well as specific technical dislocations within a single market. FS/EIG Advisor seeks to allocate capital to securities that have been mispriced by the market and that it believes represent attractive investment opportunities.
Special Situations
Our special situations credit strategy provides flexibility to take advantage of secondary market credit opportunities with asymmetrical risk and return profiles. We seek to purchase instruments at a discount to intrinsic value from forced sellers or unnatural holders as a result of stress, distress or major events, or change at a company or industry level. The need for holders to transition out of a credit combined with a high level of complexity surrounding the investment can present an opportunity to purchase instruments at a significant discount to its fair value as determined by FS/EIG Advisor. Such investment opportunities may include investments in loans, bonds and other securities issued by companies that are over levered, facing temporary or permanent business issues, have a current or pending covenant violation, have looming debt maturities and may lack the ability to refinance or have defaulted on their debt instruments. Investments may include purchasing a portion of outstanding debt, the entire tranche or a portfolio of investments. Opportunities can be created by idiosyncratic issues at the company or industry level or by a macro-driven credit cycle.
Idiosyncratic opportunities can generate attractive returns at any point in the credit cycle, with low correlation to credit market indexes. Macro-driven credit cycles can provide an additional source of risk-adjusted return to the investment strategy by increasing the investible universe which is often coupled with market dislocations that creates increased discounts to intrinsic value.
Other
Investments may also include other assets or opportunities that are consistent with our investment approach, provided that such investments are appropriate from a tax, regulatory and operational perspective.
Our flexible strategy across several areas of opportunity allows FS/EIG Advisor to focus on what we believe are the most attractive opportunities across both the public and private markets at any given point in time. We believe this helps to mitigate timing risk and contributes to consistent deal flow.
When identifying prospective portfolio companies pursuant to the investment strategy described above, we often focus on the attributes set forth below, which we believe help us generate higher total returns with an acceptable level of risk. While these criteria provide general guidelines for our investment decisions, we caution investors that, if we believe the benefits of investing are sufficiently strong, not all of these criteria necessarily will be met by each prospective portfolio company in which we choose to invest. These attributes are:
•Deeply-rooted asset value. We seek to invest in companies that have significant asset value rather than speculative investments. We focus on companies that have strong potential for enhancing asset value through factors within their control, such as operating cost reductions and revenue increases driven by improved operations of previously under-performing or under-exploited assets. We expect such investments to have significant collateral coverage and downside protection irrespective of the broader economy.
◦Defensible market positions. We seek to invest in companies that have developed strong positions within their sector or sub-sector and exhibit the potential to maintain sufficient cash flows and profitability to service our investments in a range of economic environments. We seek companies that can protect their competitive advantages through, among other things, scale, scope, customer loyalty, product pricing or product quality versus their competitors, thereby minimizing business risk and protecting profitability.
◦Proven management teams. We focus on companies that have experienced management teams with an established track record of success. We typically require our portfolio companies to have proper incentives in place, which may include non-cash and performance-based compensation, to align management’s goals with ours.
◦Allocation among various issuers, sectors and sub-sectors. We seek to allocate our portfolio broadly among issuers, sectors and sub-sectors, thereby attempting to reduce the risk of a downturn in any one company, sector or sub-sector having a disproportionate adverse impact on the value of our portfolio where possible.
In addition, since November 13, 2024, the FS Order has permitted us to co-invest in certain privately negotiated investment transactions with certain affiliates of FS/EIG Advisor, including FS Credit Opportunities Corp. and FS Credit Income Fund, among others. We believe that the ability to participate in co-investment transactions with other funds under the FS Order will permit us to participate in a broader range of, and allocate a higher percentage of our portfolio to, secured, directly negotiated investments as we pursue a diversified credit strategy.
Joint Venture
Since January 2020 until December 2024, we invested with Imperial Sustainable Infrastructure Investments, LLC, or
Imperial, a subsidiary of Imperial Capital Asset Management, LLC, through Sustainable Infrastructure Investments, LLC, or SIIJV, a
joint venture between us and Imperial. On December 18, 2024, we purchased Imperial Sustainable Infrastructure
Investments, LLC’s remaining 12.5% interest in SIIJV and SIIJV became a wholly-owned subsidiary of us.
Potential Competitive Strengths
We believe that we offer investors the following potential competitive strengths:
Large Platform with Seasoned Investment Professionals.
We believe that the breadth and depth of the experience of FS/EIG Advisor’s management team, which is dedicated to sourcing, structuring, diligencing, executing and monitoring a broad range of private and public investments, provides us with a significant competitive advantage in sourcing and analyzing what we believe to be attractive investment opportunities.
Long-term Investment Horizon.
Our long-term investment horizon gives us great flexibility for pursuing transactions, which we believe allows us to maximize returns on our investments. Unlike private equity and venture capital funds, we are not required to return capital to our
shareholders once we exit a portfolio investment. Such funds typically can only be invested once and capital must be returned to investors after a specific time period. These provisions often force private equity and venture capital funds to seek liquidity events, including initial public offerings, mergers or recapitalizations, more quickly than they otherwise might, potentially resulting in a lower return to investors. We believe that freedom from such capital return requirements, which allows us to invest using a longer term focus, provides us with the opportunity to increase total returns on invested capital, compared to other private company investment vehicles.
Disciplined, Income-Oriented Investment Philosophy.
FS/EIG Advisor employs an investment approach focused on current income and, to a lesser extent, long-term investment performance. This investment approach involves a multi-stage selection process for each investment opportunity, as well as ongoing monitoring of each investment made, with particular emphasis on early detection of deteriorating credit conditions at portfolio companies which would result in adverse portfolio developments. This strategy is designed to maximize current income and minimize the risk of capital loss while maintaining the potential for long-term capital appreciation.
Investment Expertise Across All Levels of the Corporate Capital Structure.
FS/EIG Advisor believes that its broad expertise and experience investing at all levels of a company’s capital structure enable us to manage risk while affording us the opportunity for positive returns on our investments. We attempt to capitalize on this expertise in an effort to produce and maintain an investment portfolio that will perform in a broad range of economic conditions. In addition, we seek to leverage this broad-ranging capability to enable us to provide companies with financing that most closely aligns with their particular capital needs. We believe that such flexibility is valuable to companies and provides us with an advantage over other capital providers that are more limited in the securities in which they invest.
Investment Sourcing Capabilities.
We believe that the experience, technical expertise, depth and continuity of FS/EIG Advisor’s team are key differentiators for us relative to our competitors. We believe that FS/EIG Advisor’s substantial in-house technical expertise and recognized brand name in the industry provide a competitive advantage in sourcing, analyzing and executing diversified credit investments, as FS/EIG Advisor is typically able to make independent evaluations of investment opportunities without significant reliance on third-party consultants.
Operating and Regulatory Structure
Our investment activities are managed by FS/EIG Advisor and supervised by our board of trustees, a majority of whom are independent. Under the FS/EIG investment advisory agreement, we have agreed to pay FS/EIG Advisor an annual base management fee based on the average weekly value of our gross assets during the most recently completed calendar quarter as well as an incentive fee based on our performance. See Notes 2 and 4 to our consolidated financial statements included in this annual report on Form 10-K for a description of the fees we pay to FS/EIG Advisor.
FS/EIG Advisor oversees our day-to-day operations, including the provision of general ledger accounting, fund accounting, legal services, investor relations, certain government and regulatory affairs activities and other administrative services. FS/EIG Advisor also performs, or oversees the performance of, our corporate operations and required administrative services, which includes being responsible for the financial records that we are required to maintain and preparing reports for our shareholders and reports filed with the SEC. In addition, FS/EIG Advisor assists us in calculating our net asset value, overseeing the preparation and filing of tax returns and the printing and dissemination of reports to our shareholders, and generally overseeing the payment of our expenses and the performance of administrative and professional services rendered to us by others.
Pursuant to the FS/EIG investment advisory agreement, we reimburse FS/EIG Advisor for expenses necessary to perform services related to our administration and operations, including FS/EIG Advisor’s allocable portion of the compensation and/or related expenses of certain personnel of FS Investments and EIG providing administrative services to us on behalf of FS/EIG Advisor, and for transactional expenses for prospective investments, such as fees and expenses associated with performing due diligence reviews of investments that do not close, often referred to as "broken deal" costs. We reimburse FS/EIG Advisor no less than quarterly for all costs and expenses incurred by FS/EIG Advisor in performing its obligations and providing personnel under the FS/EIG investment advisory agreement. The amount of this reimbursement is set at the lesser of (1) FS/EIG Advisor’s actual costs incurred in providing such services and (2) the amount that we estimate would be required to pay alternative service providers for comparable services in the same geographic location. FS/EIG Advisor allocates the cost of such services to us based on factors such as time allocations and other reasonable metrics. Our board of trustees reviews the methodology employed in determining how the expenses are allocated to us and assesses the reasonableness of such reimbursements for expenses allocated to us based on the breadth, depth and quality of such services as compared to the estimated cost to us of obtaining similar services from third-party service providers known to be available.
In addition, our board of trustees considers whether any single third-party service provider would be capable of providing all such services at comparable cost and quality. Finally, our board of trustees compares the total amount paid to FS/EIG Advisor for such services as a percentage of our net assets to the same ratio as reported by other comparable BDCs. We do not reimburse FS/EIG Advisor for any services for which it receives a separate fee, or for rent, depreciation, utilities, capital equipment or other administrative items allocated to a controlling person of FS/EIG Advisor.
In addition, we have contracted with State Street Bank and Trust Company, or State Street, to provide various accounting and administrative services including, but not limited to, preparing preliminary financial information for review by FS/EIG Advisor, preparing and monitoring expense budgets, maintaining accounting and corporate books and records, processing trade information provided by us and performing testing with respect to RIC compliance.
As a BDC, we are required to comply with certain regulatory requirements. Also, while we are permitted to finance investments using debt, our ability to use debt will be limited in certain significant respects pursuant to the 1940 Act. Within the limits of existing regulation, we will adjust our use of debt, according to market conditions, to the level we believe will allow us to generate maximum risk-adjusted returns. See "-Regulation." We have elected to be treated for U.S. federal income tax purposes, and intend to qualify annually, as a RIC under Subchapter M of the Code.
Investment Types
We may invest in both private and public U.S. and, to a lesser extent non-U.S., debt and equity securities, including, without limitation, senior secured, second lien and unsecured loans, secured and unsecured bonds, structured products, convertible bonds, preferred stocks and any other type of credit or equity investment that is consistent with our investment objectives. In making these investments, we may also seek to purchase investments across the investment spectrum that FS/EIG Advisor believes are mispriced and offer the potential for exceptional risk-adjusted income and returns.
The majority of our portfolio is comprised of income-oriented securities of privately-held companies within the United States. Historically, our portfolio has largely been invested in Energy companies, although our portfolio has shifted away from investments in Energy companies as we pursue a diversified credit strategy. Generally, in the long-term, we expect to weight our investments more heavily towards directly originated investments, as this will provide us with the ability to tailor investments to best match a project’s or company’s needs with our investment objectives. However, our investment policy enables FS/EIG Advisor to opportunistically invest in broadly syndicated investments and dynamically adjust allocations between private and public markets depending on where the risk-adjusted returns are most attractive. We intend to weight our portfolio towards senior secured debt, which we believe offers opportunities for superior risk-adjusted returns and income generation. Our debt investments may take the form of corporate or project loans or bonds, may be secured or unsecured and may, in some cases, be accompanied by yield enhancements. These yield enhancements may include common equity, warrants, options, net profits interests, cash flow participations or other forms of equity participation that can provide additional consideration or “upside” in a transaction. In connection with certain of our debt investments or any restructurings of these debt investments, we may on occasion receive equity interests, including warrants or options, as additional consideration or otherwise in connection with a restructuring. In addition, a portion of our portfolio may be comprised of derivatives, including total return swaps, credit default swaps and other swap contracts. FS/EIG Advisor will seek to tailor our investment focus as market conditions evolve.
Historically, we have focused on the following investment categories: (i) direct originations and (ii) broadly syndicated investments. Going forward, FS/EIG Advisor intends to continue to focus on these categories while being active in its pursuit of opportunities across changing economic and credit cycles. We expect our focus over time will be more heavily weighted towards directly originated investments, though the investment policy enables FS/EIG Advisor to opportunistically invest in broadly syndicated investments and dynamically adjust allocations between private and public markets depending on where the risk-adjusted returns are most attractive.
Senior secured debt
Senior secured debt is situated at the top of the capital structure. Because this debt has priority in payment, it typically carries the lowest risk among all investments in a company. Generally, senior secured debt in which we invest is expected to have a maturity period of three to seven years and have first priority security interests in the assets of the borrower. Senior secured debt may also include second lien debt, which is granted a second priority security interest in the assets of the borrower, meaning that any realization of collateral will generally be applied to pay first lien debt in full before second lien debt positions are paid, and the value of the collateral may not be enough to repay in full both first lien secured debt and second lien secured debt. Generally, we expect that the variable interest rate on our first lien debt will typically range between 3.5% and 9.0% over a standard benchmark, such as the Prime Rate, or the Secured Overnight Financing Rate, or SOFR. We expect that the variable interest rate on second lien debt will range between 6.0% and 12.0% over a standard benchmark. In addition, we may receive additional returns from any yield enhancements we receive in connection with these investments.
Unsecured debt
In addition to senior secured debt, we may invest a portion of our assets in unsecured debt. Unsecured debt is effectively subordinated to first lien and second lien secured debt to the extent of the collateral securing such debt, but is senior to preferred equity and common equity in the capital structure. In return for its junior status compared to first lien and second lien secured debt, unsecured debt typically offers higher returns through both higher interest rates and possible equity ownership in the form of warrants or other yield enhancements, enabling the investor to participate in the capital appreciation of the borrower. Where warrants are received, they typically require only a nominal cost to exercise. We intend to generally target unsecured debt with interest-only payments throughout the life of the security, with the principal due at maturity. Typically, unsecured debt investments have maturities of five to ten years. In normalized markets, we expect these securities to carry a fixed rate or a floating current yield of 4.0% to 10.0% over a standard benchmark. In addition, we may receive additional returns from any warrants or other yield enhancements we receive in connection with these investments. In some cases, a portion of the total interest may accrue or be paid-in-kind, or PIK.
Equity and equity-related securities
We hold and may continue to hold select and potentially significant positions in equity securities, including common stock and convertible securities, or other assets that we receive in exchange for our credit instruments as part of a reorganization or restructuring process, and may hold those assets until such time as FS/EIG Advisor believes that a disposition is most advantageous. Such assets, to the extent received as part of a reorganization or restructuring process, will be considered “credit instruments” for purposes of our intention to invest primarily in a portfolio of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments, which, under normal circumstances, will represent at least 80% of our total assets.
We may also purchase select positions in equity securities, including common stock and convertible securities. Such assets, to the extent purchased in the market or not received as part of a reorganization or restructuring process, will not be considered “credit instruments” for this purpose.
Preferred equity typically includes a stated value or liquidation preference that is contractually senior to common equity, and may include a dividend or yield feature. Holders of preferred equity can be entitled to a wide range of voting and other rights, depending on the structure of each security. Preferred equity can also include a conversion feature whereby the securities convert into common stock based on established parameters according to set ratios. We seek to invest in primarily income-oriented equity securities in a manner consistent with our status as a BDC.
Other equity securities are typically subordinated to all other securities within the capital structure and do not have a stated maturity. As compared to more senior securities, equity interests (including preferred equity interests) have greater risk exposure, but also have the potential to provide a higher return.
Non-U.S. securities
We may invest in non-U.S. securities, including securities of companies in emerging markets, which may include securities denominated in U.S. dollars or in non-U.S. currencies, to the extent permitted by the 1940 Act. In addition, investing in securities of companies in emerging markets involves many risks, including potential inflationary economic environments, regulation by foreign governments, different accounting standards, political uncertainties and economic, social, political, financial, tax and security conditions in the applicable emerging market, any of which could negatively affect the value of companies in emerging markets or investments in their securities.
Investments with Third-Parties
We may co-invest with third parties through partnerships, joint ventures or other entities, thereby acquiring jointly-controlled or non-controlling interests in certain investments in conjunction with participation by one or more third parties in such investment.
Structured Products
We may invest in structured products, which may include collateralized debt obligations, collateralized bond obligations, collateralized loan obligations, structured notes and credit-linked notes. The issuers of such investment products may be structured as trusts or other types of pooled investment vehicles. Such products may also involve the deposit with or purchase by an entity of the underlying investments and the issuance by that entity of one or more classes of securities backed by, or representing interests in, the underlying investments or referencing an indicator related to such investments.
Derivatives
We may also invest from time to time in derivatives, such as total return swaps, credit default swaps and other swap contracts. We anticipate that any use of derivatives would primarily be as a substitute for investing in conventional securities or for hedging purposes. Any use of derivatives may subject us to additional risks. See “Risk Factors-Risks Related to Our Investments-We may from time to time enter into total return swaps, credit default swaps, fixed price swaps or other derivative transactions which expose us to certain risks, including credit risk, market risk, commodity risk, liquidity risk and other risks similar to those associated with the use of leverage.”
Cash and cash equivalents
We may maintain a certain level of cash or equivalent instruments to make follow-on investments, if necessary, in existing portfolio companies or to take advantage of new opportunities or existing commitments. We may invest our excess funds in money market instruments, commercial paper, certificates of deposit and bankers’ acceptances, among other instruments. In addition, and in response to adverse market, economic or political conditions, we may invest in high quality fixed income securities, money market instruments and money market funds or may hold significant positions in cash or cash equivalents for defensive purposes.
Sources of Income
The primary means through which our shareholders may receive a return of value is through interest income, dividends and capital gains generated by our investments. In addition to these sources of income, we may receive fees paid by our portfolio companies, including one-time closing fees paid at the time each investment is made. FS/EIG Advisor has agreed to offset the amount of any structuring, upfront or certain other fees received by FS/EIG Advisor or its members against the management fees payable by us under the FS/EIG investment advisory agreement. Closing fees typically range from 1.0% to 2.0% of the purchase price of an investment. In addition, we may generate revenues in the form of non-recurring commitment, origination, structuring or diligence fees, fees for providing managerial assistance, consulting fees, prepayment fees and performance-based fees.
Risk Management
We seek to limit the downside potential of our investment portfolio by, among other things:
•applying our investment strategy guidelines for portfolio investments;
•requiring a total return on investments (including both interest and potential appreciation) that adequately compensates us for credit risk;
•allocating our portfolio among various issuers, sectors and sub-sectors, size permitting, with an adequate number of companies, across different sectors and sub-sectors, with different types of collateral; and
•negotiating or seeking debt and other securities with covenants or features that protect us while affording portfolio companies flexibility in managing their businesses consistent with preservation of capital, which may include affirmative and negative covenants, default penalties, lien protection, change of control provisions and board rights.
We may also enter into interest rate hedging transactions. Such transactions will enable us to selectively modify interest rate exposure as market conditions dictate.
Affirmative Covenants
Affirmative covenants require borrowers to take actions that are meant to ensure the solvency of the company, facilitate the lender's monitoring of the borrower and ensure payment of interest and loan principal due to lenders. Examples of affirmative covenants include covenants requiring the borrower to maintain adequate insurance, accounting and tax records, and to produce frequent financial reports for the benefit of the lender.
Negative Covenants
Negative covenants impose restrictions on the borrower and are meant to protect lenders from actions that the borrower may take that could harm the credit quality of the lender's investments. Examples of negative covenants include restrictions on the payment of dividends and restrictions on the issuance of additional debt without the lender's approval. In addition, certain covenants restrict a borrower's activities by requiring it to meet certain earnings interest coverage ratio and leverage ratio requirements. These covenants are also referred to as financial or maintenance covenants.
Investment Process
The investment professionals supporting FS/EIG Advisor have spent their careers developing the experience necessary to invest in private companies. Our current transaction process is highlighted below.
Our Transaction Process
Screening
The relationships of FS/EIG Advisor and its affiliates provide us with access to a robust and established pipeline of investment opportunities from a variety of different investment channels, including private equity sponsors, non-sponsored corporates, financial advisors, banks, brokers and family offices. In addition, personnel of FS/EIG Advisor have long-standing personal contacts who provide us with additional opportunities for directly originated investments. Similarly, substantial in-house technical expertise and recognized brand name in the industry of FS/EIG Advisor and its affiliates provide a competitive advantage in sourcing, analyzing and executing investment opportunities, as FS/EIG Advisor is typically able to make independent evaluations of investment opportunities without significant reliance on third-party consultants. Once a potential investment has been identified, FS/EIG Advisor screens the opportunity and makes a preliminary determination concerning whether to proceed with a more comprehensive deal-level due diligence review.
Due diligence
Before purchasing an investment, personnel of FS/EIG Advisor will conduct a thorough due diligence review of the opportunity to ensure that it fits our investment strategy and restrictions. The due diligence process may include, among other procedures: (i) an analysis to determine the presence of a catalyst for a corporate event such as a looming debt maturity, default or merger and the likelihood that an event will occur and the impact such event will have on the value of a company’s securities; (ii) fundamental analysis to capitalize on market price inefficiencies by investing in securities for which the market price of such investments reflects a higher or lower value than deemed warranted; (iii) operational analysis to identify the key risks and opportunities of the target’s business, including a detailed review of historical and projected financial results; (iv) a review of information furnished by the target company and external sources, including rating agencies, if applicable; (v) a review of industry dynamics, the competitive landscape and global macroeconomic conditions affecting the target company; (vi) a detailed analysis of regulatory, tax and legal matters, including applicable local laws and creditors’ rights; (vii) on site-visits, as necessary; (viii) in certain circumstances, background checks to further evaluate management and other key personnel; (ix) a review by legal and accounting professionals and environmental and other industry consultants, if necessary; (x) financial sponsor due diligence; and (xi) a review of management’s experience and track record.
Structure iterations and feedback
If a potential directly originated investment passes the initial review process, the investment team then negotiates preliminary terms with the potential portfolio company. We seek to maintain flexibility in structuring the form of investments and utilize this flexibility to provide tailor-made financing solutions. FS/EIG Advisor works to structure investments not only in an effort to maximize returns, create downside protection and create tax efficiencies, but also to ensure compliance with the varying regulatory guidelines governing us as a BDC and a RIC.
Recommendation and approval process
Generally, at an appropriate stage of the due diligence process, the deal team will prepare a draft investment recommendation for direct originations, which provides the analysis for the specific investment opportunity and appropriately fosters a process for reviewing the merits of the investment. A final investment recommendation for such investments is submitted to the FS/EIG Advisor investment committee for review and approval. Each direct origination must be pre-approved by the FS/EIG Advisor investment committee.
The FS/EIG Advisor investment committee has the authority to and has delegated its investment authority to certain investment professionals of FS/EIG Advisor with respect to publicly traded / syndicated investments, provided that the investment
types, risk and profiles are within the parameters set by the FS/EIG Advisor investment committee. The FS/EIG Advisor investment committee maintains its investment authority for and pre-approves all illiquid investments. On a regular basis, and no less than quarterly, the investment committee reviews individual investment decisions that have been made, the investment portfolio generally, and the investment parameters.
Execution
Once the FS/EIG Advisor investment committee has determined that the portfolio company is suitable for investment, FS/EIG Advisor works with the management team of the prospective company to finalize the structure and terms of the investment. We believe that structuring transactions appropriately is a key factor to producing strong investment results. Accordingly, we will actively consider transaction structures and seek to process and negotiate terms that provide the best opportunities for superior risk-adjusted returns.
Post-investment monitoring
Portfolio monitoring. FS/EIG Advisor monitors our portfolio with a focus toward anticipating negative credit events or other adverse outcomes that may affect the value of our investments. Ongoing due diligence may include closely tracking economic, industry and company trends. To maintain portfolio company performance and help to ensure a successful exit, FS/EIG Advisor works closely with the lead equity sponsor, loan syndicator, portfolio company management, consultants, advisers and other security holders to discuss financial position, compliance with covenants, financial requirements, catalysts and events driving an investment thesis and execution of the company’s business plan. In addition, depending on the size, nature and performance of the transaction, we may occupy a seat or serve as an observer on a portfolio company’s board of directors or similar governing body or seek active participation in the form of representation on creditors’ committees, equity holders’ committees or other groups. We believe that close contact with management, efficient flow of information and ongoing analysis form the basis of the monitoring process.
Typically, FS/EIG Advisor receives financial and other reports that may detail information such as operating performance, sales volumes, margins, cash flows, financial position and other key operating metrics on a quarterly basis from our portfolio companies. FS/EIG Advisor uses this data, combined with due diligence gained through contact with the company’s management, customers, suppliers, competitors, market research, expert networks and other methods, to conduct an ongoing, rigorous assessment of the company’s operating performance and prospects.
In addition to various risk management and monitoring tools, FS/EIG Advisor uses an investment rating system to characterize and monitor the expected level of returns on each investment in our portfolio. FS/EIG Advisor uses an investment rating scale of 1 to 5. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations-Portfolio Asset Quality” for a description of the conditions associated with each investment rating.
Valuation Process. Our board of trustees is responsible for overseeing the valuation of our portfolio investments at fair value as determined in good faith pursuant to FS/EIG Advisor’s valuation policy. As permitted by Rule 2a-5 of the 1940 Act, our board of trustees has designated FS/EIG Advisor as our valuation designee with day-to-day responsibility for implementing the portfolio valuation process set forth in FS/EIG Advisor’s valuation policy. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies and Estimates-Valuation of Portfolio Investments.”
Managerial Assistance. As a BDC, we must offer, and provide upon request, managerial assistance to certain of our portfolio companies. This assistance could involve, among other things, monitoring the operations of our portfolio companies, participating in board and management meetings, consulting with and advising officers of portfolio companies and providing other organizational and financial guidance. Depending on the nature of the assistance required, FS/EIG Advisor will provide such managerial assistance on our behalf to portfolio companies that request this assistance. To the extent fees are paid for these services, we, rather than FS/EIG Advisor, will retain any fees paid for such assistance.
Financing Arrangements
To seek to enhance our returns, we employ leverage as market conditions permit and at the discretion of FS/EIG Advisor, but in no event may leverage employed exceed the maximum amount permitted by the 1940 Act. See Note 9 to our consolidated financial statements contained in this annual report on Form 10-K for additional information regarding our financing arrangements.
Regulation
We have elected to be regulated as a BDC under the 1940 Act. The 1940 Act contains prohibitions and restrictions relating to transactions between BDCs and their affiliates, principal underwriters and affiliates of those affiliates or underwriters. The 1940 Act requires that a majority of our trustees be persons other than “interested persons,” as that term is defined in the 1940 Act. In addition, the 1940 Act provides that we may not change the nature of our business so as to cease to be, or to withdraw our election as, a BDC
unless approved by “a majority of our outstanding voting securities,” which the 1940 Act defines as the lesser of (i) 67% or more of the voting securities present at a meeting if the holders of more than 50% of our outstanding voting securities are present or represented by proxy or (ii) 50% of our voting securities.
We will generally not be able to issue and sell our common shares at a price per share, after deducting underwriting commissions and discounts, that is below our net asset value per share. See “Item 1A. Risk Factors-Risks Related to Business Development Companies-Regulations governing our operation as a BDC and a RIC will affect our ability to raise, and the way in which we raise, additional capital or borrow for investment purposes, which may have a negative effect on our growth.” We may seek the approval of our shareholders to issue shares of our common shares at a price below the then current net asset value per share for a twelve month period following shareholder approval. In addition, we may generally issue new shares of our common shares at a price below net asset value per share in rights offerings to existing shareholders, in payment of dividends and in certain other limited circumstances.
As a BDC, we are subject to certain regulatory restrictions in making our investments. For example, BDCs generally are not permitted to co-invest with certain affiliated entities in transactions originated by the BDC or its affiliates in the absence of an exemptive order from the SEC. However, BDCs are permitted to, and may, simultaneously co-invest in transactions where price is the only negotiated term. The FS Order permits us to co-invest in privately negotiated investment transactions with certain funds managed by certain of our affiliates.
During 2024, compliance with material governmental regulation applicable to us did not have a material effect on our capital expenditures, earnings, or competitive position.
Qualifying Assets
Under the 1940 Act, a BDC may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act, which are referred to as qualifying assets, unless, at the time the acquisition is made, qualifying assets represent at least 70% of the company's total assets. The principal categories of qualifying assets relevant to our business are any of the following:
1.Securities purchased in transactions not involving any public offering from the issuer of such securities, which issuer (subject to certain limited exceptions) is an eligible portfolio company, or from any person who is, or has been during the preceding 13 months, an affiliated person of an eligible portfolio company, or from any other person, subject to such rules as may be prescribed by the SEC. An eligible portfolio company is defined in the 1940 Act as any issuer which:
a.is organized under the laws of, and has its principal place of business in, the United States;
b.is not an investment company (other than a small business investment company wholly owned by the BDC) or a company that would be an investment company but for certain exclusions under the 1940 Act; and
c.satisfies any of the following:
i.does not have any class of securities that is traded on a national securities exchange;
ii.has a class of securities listed on a national securities exchange, but has an aggregate market value of outstanding voting and non-voting common equity of less than $250 million;
iii.is controlled by a BDC or a group of companies including a BDC and the BDC has an affiliated person who is a director of the eligible portfolio company; or
iv.is a small and solvent company having total assets of not more than $4.0 million and capital and surplus of not less than $2.0 million.
2.Securities of any eligible portfolio company that we control.
3.Securities purchased in a private transaction from a U.S. issuer that is not an investment company or from an affiliated person of the issuer, or in transactions incident thereto, if the issuer is in bankruptcy and subject to reorganization or if the issuer, immediately prior to the purchase of its securities, was unable to meet its obligations as they came due without material assistance other than conventional lending or financing arrangements.
4.Securities of an eligible portfolio company purchased from any person in a private transaction if there is no ready market for such securities and we already own 60% of the outstanding equity of the eligible portfolio company.
5.Securities received in exchange for or distributed on or with respect to securities described in (1) through (4) above, or pursuant to the exercise of warrants or rights relating to such securities.
6.Cash, cash equivalents, U.S. government securities or high-quality debt securities maturing in one year or less from the time of investment.
In addition, a BDC must have been organized and have its principal place of business in the United States and must be operated for the purpose of making investments in the types of securities described in (1), (2) or (3) above.
Managerial Assistance to Portfolio Companies
In order to count portfolio securities as qualifying assets for the purpose of the 70% test, we must either control the issuer of the securities or must offer to make available to the issuer of the securities (other than small and solvent companies described above) significant managerial assistance; except that, where we purchase such securities in conjunction with one or more other persons acting together, one of the other persons in the group may make available such managerial assistance. Making available managerial assistance means, among other things, any arrangement whereby the BDC, through its trustees, officers or employees, offers to provide, and, if accepted, does so provide, significant guidance and counsel concerning the management, operations or business objectives and policies of a portfolio company.
Temporary Investments
Pending investment in other types of "qualifying assets," as described above, our investments may consist of cash, cash equivalents, including money market funds, U.S. government securities or high-quality debt securities maturing in one year or less from the time of investment, which we refer to, collectively, as temporary investments, so that 70% of our assets are qualifying assets. Typically, we will invest in U.S. Treasury bills or in repurchase agreements, provided that such agreements are fully collateralized by cash or securities issued by the U.S. government or its agencies. A repurchase agreement involves the purchase by an investor, such as us, of a specified security and the simultaneous agreement by the seller to repurchase it at an agreed-upon future date and at a price that is greater than the purchase price by an amount that reflects an agreed-upon interest rate. There is no percentage restriction on the proportion of our assets that may be invested in such repurchase agreements. However, if more than 25% of our total assets constitute repurchase agreements from a single counterparty, we would not meet the Diversification Tests (as defined below) in order to maintain our qualification as a RIC for U.S. federal income tax purposes as described below under "-Taxation as a RIC." Thus, we do not intend to enter into repurchase agreements with a single counterparty in excess of this limit. FS/EIG Advisor will monitor the creditworthiness of the counterparties with which we enter into repurchase agreement transactions.
Senior Securities
We are permitted, under specified conditions, to issue multiple classes of debt and one class of shares senior to our common shares if our asset coverage, as applicable to us under the 1940 Act, is at least equal to 200% immediately after each such issuance. In addition, while any senior securities remain outstanding, we must make provisions to prohibit any distribution to our shareholders or the repurchase of such securities or shares unless we meet the applicable asset coverage ratios at the time of the distribution or repurchase. We may also borrow amounts up to 5% of the value of our total assets for temporary purposes without regard to asset coverage. For a discussion of the risks associated with leverage, see "Item 1A. Risk Factors-Risks Related to Debt Financing" and "Item 1A. Risk Factors-Risks Related to Business Development Companies."
Code of Ethics
We and FS/EIG Advisor have each adopted a code of ethics pursuant to Rule 17j-1 promulgated under the 1940 Act and Rule 204A-1 of the Advisers Act, respectively, that, among other things, establishes procedures for personal investments and restricts certain personal securities transactions. Personnel subject to the code may invest in securities for their personal investment accounts, including securities that may be purchased or held by us, so long as such investments are made in accordance with each code's pre-clearance and other requirements. Each code of ethics is available on our website at www.fsinvestments.com and on the EDGAR Database on the SEC's Internet site at www.sec.gov. Shareholders may also obtain a copy of each code of ethics, after paying a duplicating fee, by electronic request at the following e-mail address: publicinfo@sec.gov, or by writing the SEC's Public Reference Section, at 100 F Street, N.E, Washington, D.C. 20549.
Insider Trading Policy
We have adopted an insider trading policy governing the purchase, sale and other dispositions of our securities
that applies to our trustees, officers and other covered persons. We believe that our insider trading policy is reasonably designed to
promote compliance with insider trading laws, rules and regulations applicable to us. In addition, we comply with all applicable
securities laws with respect to sales of our securities. A copy of our insider trading policy is filed as Exhibits 19.1 to this Form 10-K.
Compliance Policies and Procedures
We and FS/EIG Advisor have adopted and implemented written policies and procedures reasonably designed to prevent violation of the federal securities laws and are required to review these compliance policies and procedures annually for their
adequacy and the effectiveness of their implementation. Our chief compliance officer and the chief compliance officer of FS/EIG Advisor are responsible for administering these policies and procedures.
Proxy Voting Policies and Procedures
We have delegated our proxy voting responsibility to FS/EIG Advisor. The proxy voting policies and procedures of FS/EIG Advisor are set forth below. The guidelines are reviewed periodically by FS/EIG Advisor and our non-interested trustees, and, accordingly, are subject to change.
As an investment adviser registered under the Advisers Act, FS/EIG Advisor has a fiduciary duty to act solely in the best interests of its clients. As part of this duty, it recognizes that it must vote client securities in a timely manner free of conflicts of interest and in the best interests of its clients.
These policies and procedures for voting proxies for the investment advisory clients of FS/EIG Advisor are intended to comply with Section 206 of, and Rule 206(4)-6 promulgated under, the Advisers Act.
Personnel of FS/EIG Advisor and its affiliates will vote proxies relating to our securities in the best interest of its clients. Such personnel will review on a case-by-case basis each proposal submitted for a shareholder vote to determine its impact on the portfolio securities held by its clients. Although FS/EIG Advisor will generally vote against proposals that may have a negative impact on its clients' portfolio securities, it may vote for such a proposal if there exist compelling long-term reasons to do so.
The proxy voting decisions are made by the senior personnel of FS/EIG Advisor and its affiliates who are responsible for monitoring each of its clients' investments. To ensure that its vote is not the product of a conflict of interest, it will require that: (a) anyone involved in the decision-making process disclose to its chief compliance officer any potential conflict that he or she is aware of and any contact that he or she has had with any interested party regarding a proxy vote; and (b) employees involved in the decision making process or vote administration are prohibited from revealing how FS/EIG Advisor intends to vote on a proposal in order to reduce any attempted influence from interested parties.
Shareholders may obtain information, without charge, regarding how FS/EIG Advisor voted proxies with respect to our portfolio securities by making a written request for proxy voting information to: Chief Compliance Officer, FS Specialty Lending Fund, 201 Rouse Boulevard, Philadelphia, Pennsylvania 19112 or by calling us collect at (215) 495-1150.
Other
We will be periodically examined by the SEC for compliance with the 1940 Act.
We are required to provide and maintain a bond issued by a reputable fidelity insurance company to protect us against larceny and embezzlement. Furthermore, as a BDC, we are prohibited from protecting any trustee or officer against any liability to us or our shareholders arising from willful misconduct, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of such person's office.
Exchange Act and Sarbanes-Oxley Act Compliance
We are subject to the reporting and disclosure requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, including the filing of quarterly, annual and current reports, proxy statements and other required items. In addition, we are subject to the Sarbanes-Oxley Act, which imposes a wide variety of regulatory requirements on publicly held companies and their insiders. Many of these requirements affect us. For example:
•pursuant to Rule 13a-14 promulgated under the Exchange Act, our chief executive officer and chief financial officer are required to certify the accuracy of the financial statements contained in our periodic reports;
•pursuant to Item 307 of Regulation S-K, our periodic reports are required to disclose our conclusions about the effectiveness of our disclosure controls and procedures; and
•pursuant to Rule 13a-15 promulgated under the Exchange Act, our management will be required to prepare a report regarding its assessment of our internal control over financial reporting.
The Sarbanes-Oxley Act requires us to review our current policies and procedures to determine whether we comply with the Sarbanes-Oxley Act and the regulations promulgated thereunder. We monitor our compliance with all regulations that are adopted under the Sarbanes-Oxley Act and take actions necessary to ensure that we are in compliance therewith.
Taxation as a RIC
We have elected to be treated as a RIC under Subchapter M of the Code. As a RIC, we generally will not have to pay corporate-level U.S. federal income taxes on any ordinary income or capital gains that we distribute as dividends to our shareholders. To qualify for and maintain our qualification as a RIC, we must, among other things, meet certain source-of-income and asset diversification requirements (as described below). In addition, in order to maintain RIC tax treatment, we must distribute to our shareholders, for each tax year, dividends of an amount at least equal to 90% of our "investment company taxable income," which is generally the sum of our net ordinary income plus the excess, if any, of realized net short-term capital gains over realized net long-term capital losses, determined without regard to any deduction for distributions paid, or the Annual Distribution Requirement.
If we:
•qualify as a RIC; and
•satisfy the Annual Distribution Requirement,
then we will not be subject to U.S. federal income tax on the portion of our income or capital gains we distribute (or are deemed to distribute) as dividends to our shareholders. We will be subject to U.S. federal income tax at the regular corporate rates on any income or capital gains not distributed (or deemed distributed) as dividends to our shareholders.
As a RIC, we will be subject to a 4% nondeductible federal excise tax on certain undistributed income unless we distribute dividends in a timely manner to our shareholders generally of an amount at least equal to the sum of (1) 98% of our net ordinary income (taking into account certain deferrals and elections) for the calendar year, (2) 98.2% of our capital gain net income, which is the excess of capital gains over capital losses (as adjusted for certain ordinary losses) for the one-year period ending October 31 of that calendar year and (3) 100% of any net ordinary income and capital gain net income recognized for the preceding years that were not distributed during such years and on which we paid no U.S. federal income tax, or the Excise Tax Avoidance Requirement. Any distribution declared by us during October, November or December of any calendar year, payable to shareholders of record on a specified date in such a month and actually paid during January of the following calendar year, will be treated as if it had been paid by us, as well as received by our U.S. shareholders on December 31 of the calendar year in which the distribution was declared. We generally will endeavor in each tax year to avoid any material U.S. federal excise tax on our earnings.
We have previously incurred, and may incur in the future, such excise tax on a portion of our income and capital gains. While we intend to distribute income and capital gains to minimize exposure to the 4% excise tax, we may not be able to, or may choose not to, distribute amounts sufficient to avoid the imposition of the tax entirely. In that event, we generally will be liable for the excise tax only on the amount by which we do not meet the Excise Tax Avoidance Requirement.
In order to qualify as a RIC for U.S. federal income tax purposes, we must, among other things:
•continue to qualify as a BDC under the 1940 Act at all times during each tax year;
•derive in each tax year at least 90% of our gross income from dividends, interest, payments with respect to certain securities, loans, gains from the sale of stock or other securities, or foreign currencies, net income from certain "qualified publicly-traded partnerships (which generally are partnerships that are traded on an established securities market or readily tradable on a secondary market (or the substantial equivalent thereof), other than partnerships that derive 90% of their income from interest, dividends and other permitted RIC income)," or other income derived with respect to our business of investing in such stock or other securities, or the 90% Income Test; and
•diversify our holdings so that at the end of each quarter of the tax year:
◦at least 50% of the value of our assets consists of cash, cash equivalents, U.S. government securities, securities of other RICs, and other securities if such other securities of any one issuer do not represent more than 5% of the value of our assets or more than 10% of the outstanding voting securities of such issuer; and
◦no more than 25% of the value of our assets is invested in the securities, other than U.S. government securities or securities of other RICs, of one issuer, of two or more issuers that are controlled, as determined under applicable Code rules, by us and that are engaged in the same or similar or related trades or businesses or of certain "qualified publicly-traded partnerships," or the Diversification Tests.
A RIC is limited in its ability to deduct expenses in excess of its investment company taxable income. If our expenses in a given tax year exceed our investment company taxable income, we may experience a net operating loss for that tax year. However, a RIC is not permitted to carry forward net operating losses to subsequent tax years and such net operating losses do not pass through to its shareholders. In addition, deductible expenses can be used only to offset investment company taxable income, not net capital gain. A RIC may not use any net capital losses (that is, the excess of realized capital losses over realized capital gains) to offset its investment company taxable income, but may carry forward such net capital losses, and use them to offset future capital gains,
indefinitely. Due to these limits on deductibility of expenses and net capital losses, we may for tax purposes have aggregate taxable income for several years that we are required to distribute and that is taxable to our shareholders even if such taxable income is greater than the net income we actually earn during those years.
For U.S. federal income tax purposes, we may be required to recognize taxable income in circumstances in which we do not receive a corresponding payment in cash. For example, if we hold debt instruments that are treated under applicable tax rules as having original issue discount (such as debt instruments with PIK interest or, in certain cases, increasing interest rates or debt instruments that were issued with warrants), we must include in income each tax year a portion of the original issue discount that accrues over the life of the obligation, regardless of whether cash representing such income is received by us in the same tax year. We may also have to include in income other amounts that we have not yet received in cash, such as deferred loan origination fees that are paid after origination of the loan or are paid in non-cash compensation such as warrants or stock. We anticipate that a portion of our income may constitute original issue discount or other income required to be included in taxable income prior to receipt of cash.
We invest a portion of our net assets in below investment grade instruments. Investments in these types of instruments may present special tax issues for us. U.S. federal income tax rules are not entirely clear about issues such as when we may cease to accrue interest, original issue discount or market discount, when and to what extent deductions may be taken for bad debts or worthless instruments, how payments received on instruments in default should be allocated between principal and income and whether exchanges of debt obligations in a bankruptcy or workout context are taxable. We will address these and other issues to the extent necessary in order to seek to ensure that we distribute sufficient income to avoid any material U.S. federal income or excise tax.
Because any original issue discount or other amounts accrued will be included in our investment company taxable income for the year of the accrual, we may be required to make a distribution to our shareholders in order to satisfy the Annual Distribution Requirement, even though we will not have received any corresponding cash amount. As a result, we may have difficulty meeting the Annual Distribution Requirement necessary to maintain RIC tax treatment under Subchapter M of the Code. We may have to sell or otherwise dispose of some of our investments at times and/or at prices we would not consider advantageous, raise additional debt or equity capital or forgo new investment opportunities for this purpose. If we are not able to obtain cash from other sources, we may fail to qualify for RIC tax treatment and thus become subject to corporate-level U.S. federal income tax.
Although we do not presently expect to do so, we are authorized to borrow funds and to sell or otherwise dispose of assets in order to satisfy distribution requirements. However, under the 1940 Act, we are not permitted to make distributions to our shareholders while our debt obligations and other senior securities are outstanding unless certain "asset coverage" tests are met. See "-Regulation-Senior Securities." Moreover, our ability to sell or otherwise dispose of assets to meet the Annual Distribution Requirement, or the Excise Tax Avoidance Requirement, may be limited by (1) the illiquid nature of our portfolio and/or (2) other requirements relating to our status as a RIC, including the Diversification Tests. If we sell or otherwise dispose of assets in order to meet the Annual Distribution Requirement or the Excise Tax Avoidance Requirement, we may make such dispositions at times that, from an investment standpoint, are not advantageous.
A portfolio company in which we invest may face financial difficulties that require us to work-out, modify or otherwise restructure our investment in the portfolio company. Any such transaction could, depending upon the specific terms of the transaction, result in unusable capital losses and future non-cash income. Any such transaction could also result in our receiving assets that give rise to non-qualifying income for purposes of the 90% Income Test or otherwise would not count toward satisfying the Diversification Tests.
Some of the income that we might otherwise earn, such as fees for providing managerial assistance, certain fees earned with respect to our investments, income recognized in a work-out or restructuring of a portfolio investment, or income recognized from an equity investment in an operating partnership, may not satisfy the 90% Income Test. To manage the risk that such income might disqualify us as a RIC for failure to satisfy the 90% Income Test, one or more subsidiary entities treated as U.S. corporations for entity-level tax purposes may be employed to earn such income and (if applicable) hold the related asset. Such subsidiary entities will be required to pay U.S. federal income tax on their earnings, which ultimately will reduce the yield to our shareholders on such fees and income.
Competition
Our primary competitors for investments include other BDCs and investment funds (including private equity funds, mezzanine funds and CLO funds). In addition, alternative investment vehicles, such as hedge funds, have begun to invest in areas in which they have not traditionally invested, including making investments in middle market private U.S. companies. We also compete with traditional financial services companies such as commercial banks. We believe we will be able to compete with these entities for financing opportunities on the basis of, among other things, the experience of FS/EIG Advisor’s senior management team.
Many of our competitors are substantially larger and have considerably greater financial, technical and marketing resources than we do. For example, some competitors may have a lower cost of capital and access to funding sources that are not available to us. In addition, some of our competitors may have higher risk tolerances or different risk assessments than we have. These characteristics
could allow our competitors to consider a wider variety of investments, establish more relationships and offer better pricing and more flexible structuring than us. Furthermore, many of our competitors have greater experience operating under, or are not subject to, the regulatory restrictions that the 1940 Act imposes on us as a BDC. For additional information concerning the competitive risks we face, see “Item 1A. Risk Factors-Risks Related to Our Business and Structure-We may face increasing competition for investment opportunities, which could delay deployment of our capital, reduce returns and result in losses.”
Employees
We do not currently have any employees. Each of our executive officers is a principal, officer or employee of FS/EIG Advisor or its affiliates, which manages and oversees our investment operations. In the future, FS/EIG Advisor may retain additional investment personnel based upon its needs.
Available Information
For so long as our bylaws require, we will distribute to all shareholders of record our quarterly report on Form 10-Q within 60 days after the end of each fiscal quarter and our annual report on Form 10-K within 120 days after the end of each fiscal year. We also file with or submit to the SEC annual, quarterly and current periodic reports, proxy statements and other information meeting the informational requirements of the Exchange Act. This information is available free of charge by calling us collect at (215) 495-1150 or on our website at www.fsinvestments.com. Information contained on our website is not incorporated into this annual report on Form 10-K and such information should not be considered to be part of this annual report on Form 10-K.
Shareholders also may inspect and copy these reports, proxy statements and other information, as well as this annual report on Form 10-K and related exhibits and schedules, from the EDGAR database on the SEC's web site at www.sec.gov. Shareholders also can obtain copies of such information, after paying a duplicating fee, by sending a request by e-mail to publicinfo@sec.gov.

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ITEM 1A. RISK FACTORS
Item 1A. Risk Factors.
Investing in our common shares involves a number of significant risks. In addition to the other information contained in this annual report on Form 10-K, investors should consider carefully the following information before making an investment in our common shares. If any of the following events occur, our business, financial condition and results of operations could be materially and adversely affected. In such case, the net asset value of our common shares could decline or the value of our debt or equity investments may decline, and investors may lose all or part of their investment.
Summary of Risk Factors
The following is a summary of the principal risk factors associated with an investment in us. Further details regarding each risk included in the below summary list can be found further below.
Risks Related to Our Business and Structure
•If our investment advisory agreement with our investment adviser, FS/EIG Advisor, were to be terminated, or if FS/EIG Advisor loses any members of its senior management team, our ability to achieve our objectives could be significantly harmed.
•The inability of FS/EIG Advisor to generate investment opportunities through relationships with private equity sponsors, investment banks and commercial banks could adversely affect our business.
•We operate in a highly competitive market for investment opportunities.
•Our board of trustees may change our investment policy or modify or waive our operating policies.
•Failure to safeguard the security of our data could compromise our ability to conduct business.
•The SBCA Act allows us to incur additional leverage.
Risks Related to FS/EIG Advisor and its Respective Affiliates
•FS/EIG Advisor and its affiliates face conflicts of interest as a result of arrangements between us and FS/EIG Advisor and related to obligations FS/EIG Advisor and its affiliates have to our affiliates and to other clients.
•We may be obligated to pay FS/EIG Advisor incentive compensation even if we incur a net loss.
•We may face additional competition because employees of FS/EIG Advisor are not prohibited from raising money for or managing another entity that makes the same types of investments that we target.
Risks Related to Business Development Companies and RICs
•Failure to maintain our status as a BDC would reduce our operating flexibility.
•Our ability to acquire investments may be adversely affected if we cannot obtain debt or equity financing.
•The requirement that we invest a sufficient portion of our assets in qualifying assets could preclude us from investing in accordance with our current business strategy; conversely, the failure to invest a sufficient portion of our assets in qualifying assets could result in our failure to maintain our status as a BDC.
Risks Related to Our Investments
•Inflation may adversely affect the business, results of operations and financial condition of our portfolio companies.
•Our investments in private investment funds subject us indirectly to the underlying risks of such private investments funds and additional fees and expenses.
•Our investments in prospective portfolio companies may be risky, and we could lose all of our investment.
•If our portfolio is concentrated in a single or limited number of investments at any given time, our performance may be significantly adversely affected by the unfavorable performance of a small number of such investments or a substantial write-down of the value of any one investment. There may be circumstances where our debt investments could be subordinated to claims of other creditors or we could be subject to lender liability claims. If there is a default, the value of any collateral securing our debt investments may not be sufficient to repay in full both the other creditors and us.
•Declines in market values or fair market values of our investments could result in significant net unrealized depreciation of our portfolio, which in turn would reduce our net asset value.
•A significant portion of our investment portfolio does not have a readily available market price and is and will be recorded at fair value in accordance with policies and procedures approved by our board of trustees and, as a result, there is and will be uncertainty as to the value of our portfolio investments.
•We are exposed to risks associated with changes in interest rates.
•Our investments may include original issue discount and PIK instruments.
•We may, from time to time, enter into derivative transactions which expose us to certain risks.
Risks Related to Debt Financing
•We currently incur indebtedness to make investments, which magnifies the potential for gain or loss on amounts invested in our common shares and may increase the risk of investing in our common shares.
•The agreements governing our debt financing arrangement contain various covenants which, if not complied with, could have a material adverse effect on our ability to meet our investment obligations.
Risks Related to an Investment in Our Common Shares
•Our common shares are not listed on an exchange or quoted through a quotation system, and may never be.
•We are not obligated to complete a liquidity event by a specified date.
•Only a limited number of common shares may be repurchased pursuant to our share repurchase program, if any.
•We may pay distributions from borrowings or the sale of assets and portions of the distributions that we make may represent a return of capital to shareholders.
•The timing of our repurchase offers, if any, may be at a time that is disadvantageous to our shareholders.
•A shareholder's interest in us will be diluted if we issue additional common shares.
•Certain provisions of our declaration of trust and bylaws could deter takeover attempts.
General Risk Factors
•Future economic downturns could impair our portfolio companies and harm our operating results.
•Future disruptions or instability in capital markets could negatively impact the valuation of our investments and our ability to raise capital.
•Events outside of our control, including public health crises, could negatively affect our portfolio companies and our results of operations.
•If a period of capital market disruption and instability continues for an extended period of time, there is a risk that investors in our equity securities may not receive distributions consistent with historical levels or at all, or that our distributions may not grow over time and a portion of our distributions may be a return of capital.
•Economic sanction laws in the United States and other jurisdictions may prohibit us and our affiliates from transacting with certain countries, individuals and companies.
Risks Related to Our Business and Structure
Our ability to achieve our investment objectives depends on FS/EIG Advisor’s ability to manage and support our investment process. If our agreement with FS/EIG Advisor were to be terminated, or if FS/EIG Advisor loses any members of its senior management team, our ability to achieve our investment objectives could be significantly harmed.
Because we have no employees, we depend on the investment expertise, skill and network of business contacts of FS/EIG Advisor. FS/EIG Advisor evaluates, negotiates, structures, executes, monitors and services our investments. Our future success depends to a significant extent on the continued service of FS/EIG Advisor, as well as its senior management team. The departure of any members of FS/EIG Advisor’s senior management team could have a material adverse effect on our ability to achieve our investment objectives.
Our ability to achieve our investment objectives depends on FS/EIG Advisor’s ability to identify, analyze, invest in, finance and monitor companies that meet our investment criteria. FS/EIG Advisor’s capabilities in structuring the investment process, providing competent, attentive and efficient services to us, and facilitating access to financing on acceptable terms depend on the employment of investment professionals in an adequate number and of adequate sophistication to match the corresponding flow of transactions. To achieve our investment objectives, FS/EIG Advisor may need to hire, train, supervise and manage new investment professionals to participate in our investment selection and monitoring process. FS/EIG Advisor may not be able to find investment
professionals in a timely manner or at all. Failure to support our investment process could have a material adverse effect on our business, financial condition and results of operations.
In addition, the FS/EIG investment advisory agreement has termination provisions that allow the parties to terminate the agreement without penalty. The FS/EIG investment advisory agreement may be terminated at any time, without penalty, by FS/EIG Advisor, upon 60 days’ written notice to us. If the FS/EIG investment advisory agreement is terminated, it may adversely affect the quality of our investment opportunities. In addition, in the event such agreement is terminated, it may be difficult for us to replace FS/EIG Advisor. Furthermore, the termination of the FS/EIG investment advisory agreement may adversely impact the terms of any existing or future financing arrangement, which could have a material adverse effect on our business, financial condition and results of operations.
Because our business model depends to a significant extent upon relationships with issuers, private equity sponsors, investment banks and commercial banks, the inability of FS/EIG Advisor to maintain or develop these relationships, or the failure of these relationships to generate investment opportunities, could adversely affect our business.
If FS/EIG Advisor fails to maintain its existing relationships with issuers, private equity sponsors, investment banks and commercial banks on which it relies to provide us with potential investment opportunities or develop new relationships with other issuers, sponsors or sources of investment opportunities, we may not be able to grow our investment portfolio. In addition, individuals with whom FS/EIG Advisor has relationships generally are not obligated to provide us with investment opportunities, and, therefore, there is no assurance that such relationships will generate investment opportunities for us.
We operate in a highly competitive market for investment opportunities, which could reduce returns and result in losses.
A number of entities compete with us to make the types of investments that we plan to make and we believe that recent market trends have increased the number of competitors seeking to invest in loans to private, middle market companies in the United States. We compete with public and private funds, commercial and investment banks, commercial financing companies and, to the extent they provide an alternative form of financing, private equity and hedge funds. Many of our competitors are substantially larger and have considerably greater financial, technical and marketing resources than we do. For example, we believe some of our competitors have access to funding sources that are not available to us. In addition, some of our competitors could have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments and establish more relationships than us. Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a BDC or the source of income, asset diversification and distribution requirements we must satisfy to maintain our qualification as a RIC. The competitive pressures we face could have a material adverse effect on our business, financial condition, results of operations and cash flows. As a result of this competition, we can provide no assurance that we will be able to take advantage of attractive investment opportunities that arise from time to time, and we can provide no assurance that we will be able to identify and make investments that are consistent with our investment objective.
The amount of capital in the private debt markets and overall competition for loans could result in short-term returns for us that are lower than our long-term targets. If there is a decrease in the number of new investment opportunities in U.S. middle market companies and if such conditions continue for an extended amount of time, they could have a material adverse effect on our business, financial condition and results of operations.
Identifying, structuring and consummating investments involves competition among capital providers and market and transaction uncertainty. FS/EIG Advisor can provide no assurance that it will be able to identify a sufficient number of suitable investment opportunities or to avoid prepayment of existing investments to satisfy our investment objectives, including as necessary to effectively structure credit facilities or other forms of leverage. The loan origination market is very competitive, which can result in loan terms that are more favorable to borrowers, and conversely less favorable to lenders, such as lower interest rates and fees, weaker borrower financial and other covenants, borrower rights to cure defaults, and other terms more favorable to borrowers than current or historical norms. Increased competition could cause us to make more loans that are “cov-lite” in nature and, in a distressed scenario, there can be no assurance that these loans will retain the same value as loans with a full package of covenants. As a result of these conditions, the market for leveraged loans could become less advantageous than expected for us, and this could increase default rates, decrease recovery rates or otherwise harm our returns. The risk of prepayment is also higher in the current competitive environment if borrowers are offered more favorable terms by other lenders. The financial markets have experienced substantial fluctuations in prices and liquidity for leveraged loans. Any further disruption in the credit and other financial markets could have substantial negative effects on general economic conditions, the availability of required capital for companies and the operating performance of such companies. These conditions also could result in increased default rates and credit downgrades, and affect the liquidity and pricing of the investments made by us. Conversely, periods of economic stability and increased competition among capital providers could increase the difficulty of locating investments that are desirable for us.
With respect to the investments we make, we do not seek to compete based primarily on the interest rates we offer, and we believe that some of our competitors could make loans with interest rates that will be lower than the rates we offer. In the secondary market for acquiring existing loans, we compete generally on the basis of pricing terms. With respect to all investments, we could lose some investment opportunities if we do not match our competitors’ pricing, terms and structure. However, if we match our competitors’ pricing, terms and structure, we could experience decreased net interest income, lower yields and increased risk of credit loss. We could also compete for investment opportunities with accounts managed or sponsored by FS/EIG Advisor or its affiliates. Although FS/EIG Advisor allocates opportunities in accordance with its allocation policy, allocations to such other accounts will reduce the amount and frequency of opportunities available to us and thus not necessarily be in the best interests of us and our securityholders. Moreover, the performance of investments will not be known at the time of allocation.
Our board of trustees may change our investment policy by providing our shareholders with 60 days’ prior notice, or may modify or waive our current operating policies and strategy without prior notice or shareholder approval, the effects of which may be adverse.
Prior to September 29, 2023, our investment objectives were to generate current income and long-term capital appreciation by investing primarily in privately-held U.S. companies in the energy and power industry. Prior to September 29, 2023, our investment policy was to invest, under normal circumstances, at least 80% of our total assets in securities of Energy companies.
In May 2023, we announced that our board of trustees approved our transition from an investment policy of investing primarily in energy companies to a diversified credit investment policy of investing across private and public credit in a broader set of industries, sectors and sub-sectors. We notified our shareholders of the new policy, which became effective on September 29, 2023. Under our new investment policy, our current investment objectives are to generate current income and, to a lesser extent, long-term capital appreciation by investing primarily in private and public credit in a broad set of industries, sectors and sub-sectors. Our investment policy is to invest primarily in a portfolio of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments, which, under normal circumstances, will represent at least 80% of our total assets.
This investment policy may be changed by our board of trustees if we provide our shareholders with at least 60 days’ prior notice. In addition, our board of trustees has the authority to modify or waive our current operating policies, investment criteria and strategy without prior notice and without shareholder approval. We cannot predict the effect any changes to our investment policy, current operating policies, investment criteria and strategy would have on our business, net asset value, operating results and the value of our common shares. However, the effects might be adverse, which could negatively impact our ability to pay distributions to shareholders and cause shareholders to lose all or part of their investment. Finally, because our common shares are not expected to be listed on a national securities exchange for the foreseeable future, shareholders will be limited in their ability to sell their common shares in response to any changes in our investment policy, operating policies, investment criteria or strategy.
If we, our affiliates and our and their respective third-party service providers are unable to maintain the availability of electronic data systems and safeguard the security of data, our ability to conduct business may be compromised, which could impair our liquidity, disrupt our business, damage our reputation or otherwise adversely affect our business.
Cybersecurity refers to the combination of technologies, processes, and procedures established to protect information technology systems and data from unauthorized access, attack, or damage. We, our affiliates and our and their respective third-party service providers are subject to cybersecurity risks. Our business operations rely upon secure information technology systems for data processing, storage and reporting. We depend on the effectiveness of the information and cybersecurity policies, procedures and capabilities maintained by our affiliates and our and their respective third-party service providers to protect their computer and telecommunications systems and the data that reside on or are transmitted through them. Cybersecurity risks have significantly increased in recent years and, while we have not experienced any material losses relating to cyber attacks or other information security breaches, we could suffer such losses in the future. Our, our affiliates and our and their respective third-party service providers’ computer systems, software and networks may be vulnerable to unauthorized access, computer viruses or other malicious code and other events that could have a security impact, as well as cyber-attacks that do not have a security impact but may nonetheless cause harm, such as causing denial-of-service attacks (i.e., efforts to make network services unavailable to intended users) on websites, servers or other online systems. If one or more of such events occur, it potentially could jeopardize confidential and other information, including nonpublic personal information and sensitive business data, processed and stored in, and transmitted through, computer systems and networks, or otherwise cause interruptions or malfunctions in our operations or the operations of our affiliates and our and their respective third-party service providers. This could result in significant losses, reputational damage, litigation, regulatory fines or penalties, or otherwise adversely affect our business, financial condition or results of operations.
Substantial costs may be incurred in order to prevent any cyber incidents in the future. The costs related to cyber or other security threats or disruptions may not be fully insured or indemnified by other means. Privacy and information security laws and regulation changes, and compliance with those changes, may result in cost increases due to system changes and the development of new administrative processes. In addition, we may be required to expend significant additional resources to modify our protective
measures and to investigate and remediate vulnerabilities or other exposures arising from operational and security risks. There is no assurance that any efforts to mitigate cybersecurity risks undertaken by us, our affiliates, or our or their respective third-party service providers will be effective. If we fail to comply with the relevant laws and regulations, we could suffer financial losses, a disruption of our business, liability to investors, regulatory intervention or reputational damage.
Changes in laws or regulations governing our operations or the operations of our business partners may adversely affect our business or cause us to alter our business strategy.
We, our portfolio companies and other counterparties are subject to regulation at the local, state and federal level. New legislation may be enacted, amended or repealed or new interpretations, rulings or regulations could be adopted, including those governing the types of investments we are permitted to make, any of which could harm us and out shareholders, potentially with retroactive effect. For example, certain provisions of the Dodd-Frank Act, which influences many aspects of the financial services industry, have been amended or repealed and the Code has been substantially amended and reformed. Uncertainty regarding the new presidential administration’s agenda with respect to legislation and regulations affecting the financial services industry or taxation could also adversely impact our business or the business of our portfolio companies. New or repealed legislation, interpretations, rulings or regulations could require changes to certain business practices of us or our portfolio companies, negatively impact the operations, cash flows or financial condition of us or our portfolio companies, impose additional costs on us or our portfolio companies or otherwise adversely affect our business or the business of our portfolio companies.
Additionally, any changes to or repeal of the laws and regulations governing our operations relating to permitted investments may cause us to alter our investment strategy to avail ourselves of new or different opportunities. Such changes could result in material differences to our strategies and plans as set forth in this annual report on Form 10-K and may result in our investment focus shifting from the areas of expertise of FS/EIG Advisor to other types of investments in which FS/EIG Advisor may have less expertise or little or no experience. Thus, any such changes, if they occur, could have a material adverse effect on our financial condition and results of operations and the value of a shareholder's investment.
The Small Business Credit Availability Act, or the SBCA Act, allows us to incur additional leverage.
On March 23, 2018, the SBCA Act became law. The SBCA Act, among other things, amends Section 61(a) of the 1940 Act to add a new Section 61(a)(2) which reduces the asset coverage requirements for senior securities applicable to BDCs from 200% to 150% provided that certain disclosure and approval requirements are met. Before the reduced asset coverage requirements under Section 61(a)(2) are effective with respect to us, the application of that section of the 1940 Act must be approved by either (1) a “required majority,” as defined in Section 57(o) of the 1940 Act, of our board of trustees or (2) a majority of votes cast at a special or annual meeting of our shareholders. If we choose to seek such approval, we may be able to incur substantial additional indebtedness, and, therefore the risk of an investment in us may increase. As of the date of this annual report on Form 10-K, the asset coverage ratio applicable to us remains 200%. See “Risks Related to Debt Financing-We currently incur indebtedness to make investments, which magnifies the potential for gain or loss on amounts invested in our common shares and may increase the risk of investing in our common shares.”
As an SEC-reporting company, we are subject to regulations not applicable to private companies, such as provisions of the Sarbanes-Oxley Act. Efforts to comply with such regulations involve significant expenditures, and non-compliance with such regulations may adversely affect us.
As an SEC-reporting company, we are subject to the Sarbanes-Oxley Act, and the related rules and regulations promulgated by the SEC. Our management is required to report on our internal control over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act. We are required to review on an annual basis our internal control over financial reporting, and on a quarterly and annual basis to evaluate and disclose changes in our internal control over financial reporting.
Developing and maintaining an effective system of internal controls may require significant expenditures, which may negatively impact our financial performance and our ability to make distributions. This process also may result in a diversion of our management’s time and attention. We cannot be certain of when our evaluation, testing and remediation actions will be completed or the impact of the same on our operations. In addition, we may be unable to ensure that the process is effective or that our internal controls over financial reporting are or will be effective in a timely manner. In the event that we are unable to develop or maintain an effective system of internal controls and maintain or achieve compliance with the Sarbanes-Oxley Act and related rules, we may be adversely affected.
We may invest in derivatives or other assets that expose us to certain risks, including market risk, liquidity risk and other risks similar to those associated with the use of leverage.
We may use derivative instruments including, in particular, swaps and other similar transactions, in seeking to achieve our investment objectives or for other reasons, such as cash management, financing activities or to hedge our positions. Accordingly, these derivatives may be used in limited instances as a form of leverage or to seek to enhance returns, including speculation on changes in credit spreads, interest rates or other characteristics of the market, individual securities or groups of securities. If we invest in a derivative for speculative purposes, we will be fully exposed to the risks of loss of that derivative, which may sometimes be greater than the derivative’s cost. The use of derivatives may involve substantial leverage. The use of derivatives may subject us to various risks, including counterparty risk, currency risk, leverage risk, liquidity risk, correlation risk, index risk and regulatory risk.
Furthermore, our ability to successfully use derivatives depends on FS/EIG Advisor’s ability to predict pertinent securities prices, interest rates, currency exchange rates and other economic factors, which cannot be assured. Additionally, segregated liquid assets, amounts paid by us as premiums and cash or other assets held in margin accounts with respect to derivatives are not otherwise available to us for investment purposes.
Rule 18f-4 under the 1940 Act, or the Derivatives Rule, provides a comprehensive framework for the use of derivatives by BDCs. The Derivatives Rule permits BDCs, subject to various conditions described below, to enter into derivatives transactions and certain other transactions notwithstanding the restrictions on the issuance of “senior securities” under Section 18 of the 1940 Act.
BDCs that don’t qualify as “limited derivatives users” as defined below, are required by the Derivatives Rule to, among other things, (i) adopt and implement a derivatives risk management program, or DRMP, and new testing requirements; (ii) comply with a relative or absolute limit on fund leverage risk calculated based on value-at-risk, or VaR; and (iii) comply with new requirements related to board and SEC reporting. The DRMP must be administered by a “derivatives risk manager,” who is appointed by the board and periodically reviews the DRMP and reports to the board.
The Derivatives Rule provides an exception from the DRMP, VaR limit and certain other requirements for a BDC that limits its “derivatives exposure” to no more than 10% of its net assets (as calculated in accordance with the Derivatives Rule), or a limited derivatives user, provided that the BDC establishes appropriate policies and procedures reasonably designed to manage derivatives risks, including the risk of exceeding the 10% “derivatives exposure” threshold.
The requirements of the Derivatives Rule may limit our ability to engage in derivatives transactions as part of our investment strategies. These requirements may also increase the cost of our investments and cost of doing business, which could adversely affect the value of our investments and/or our performance. The rule also may not be effective to limit our risk of loss. In particular, measurements of VaR rely on historical data and may not accurately measure the degree of risk reflected in our derivatives or other investments. There may be additional regulation of the use of derivatives transactions by BDCs, which could significantly affect our use. The ultimate impact of the regulations remains unclear. Additional regulation of derivatives transactions may make them more costly, limit their availability or utility, otherwise adversely affect their performance or disrupt markets.
We may experience fluctuations in our quarterly results.
We could experience fluctuations in our quarterly operating results due to a number of factors, including our ability or inability to make investments in companies that meet our investment criteria, the interest rate payable on the debt securities we acquire, the level of our expenses, variations in and the timing of the recognition of realized and unrealized gains or losses, the degree to which we encounter competition in our markets and general economic conditions. As a result of these factors, results for any previous period should not be relied upon as being indicative of performance in future periods.
We and our portfolio companies may maintain cash balances at financial institutions that exceed federally insured limits and may otherwise be materially affected by adverse developments affecting the financial services industry, such as actual events or concerns involving liquidity, defaults or non-performance by financial institutions or transactional counterparties.
Our cash is held in accounts at U.S. banking institutions. Cash held by us and our portfolio companies in non-interest-bearing and interest-bearing operating accounts may exceed the Federal Deposit Insurance Corporation insurance limits. If such banking institutions were to fail, we or our portfolio companies could lose all or a portion of those amounts held in excess of such insurance limitations. In addition, actual events involving limited liquidity, defaults, non-performance or other adverse developments that affect financial institutions, transactional counterparties or other companies in the financial services industry or the financial services industry generally, or concerns or rumors about any events of these kinds or other similar risks, have in the past and may in the future lead to market-wide liquidity problems, which could adversely affect our and our portfolio companies’ business, financial condition, results of operations, or prospects.
Although we assess our portfolio companies’ banking relationships as necessary or appropriate, our and our portfolio companies’ access to funding sources and other credit arrangements in amounts adequate to finance or capitalize our or our portfolio companies’ respective current and projected future business operations could be significantly impaired by factors that affect us or our portfolio companies, the financial institutions with which we or our portfolio companies have arrangements directly, or the financial services industry or economy in general. These factors could include, among others, events such as liquidity constraints or failures, the ability to perform obligations under various types of financial, credit or liquidity agreements or arrangements, disruptions or instability in the financial services industry or financial markets, or concerns or negative expectations about the prospects for companies in the financial services industry. These factors could involve financial institutions or financial services industry companies with which we or our portfolio companies have financial or business relationships but could also include factors involving financial markets or the financial services industry generally.
In addition, investor concerns regarding the U.S. or international financial systems could result in less favorable commercial financing terms, including higher interest rates or costs and tighter financial and operating covenants, or systemic limitations on access to credit and liquidity sources, thereby making it more difficult for us or our portfolio companies to acquire financing on acceptable terms or at all.
We are subject to risks associated with artificial intelligence and machine learning technology.
Artificial intelligence, including machine learning and similar tools and technologies that collect, aggregate, analyze or generate data or other materials, or collectively, AI, and its current and potential future applications including in the private investment and financial industries, as well as the legal and regulatory frameworks within which AI operates, continue to rapidly evolve.
Recent technological advances in AI pose risks to us, FS/EIG Advisor, and our portfolio investments. We and our portfolio investments could also be exposed to the risks of AI if third-party service providers or any counterparties, whether or not known to us, also use AI in their business activities. We and our portfolio companies may not be in a position to control the use of AI technology in third-party products or services.
Use of AI could include the input of confidential information in contravention of applicable policies, contractual or other obligations or restrictions, resulting in such confidential information becoming accessible by other third-party AI applications and users. While FS/EIG Advisor does not currently use AI to make investment recommendations, the use of AI could also exacerbate or create new and unpredictable risks to our business, FS/EIG Advisor’s business, and the business of our portfolio companies, including by potentially significantly disrupting the markets in which we and our portfolio companies operate or subjecting us, our portfolio companies and FS/EIG Advisor to increased competition and regulation, which could materially and adversely affect the business, financial condition or results of operations of us, our portfolio companies and FS/EIG Advisor. In addition, the use of AI by bad actors could heighten the sophistication and effectiveness of cyber and security attacks experienced by our portfolio companies and FS/EIG Advisor.
Independent of its context of use, AI technology is generally highly reliant on the collection and analysis of large amounts of data, and it is not possible or practicable to incorporate all relevant data into the model that AI technology utilizes to operate. Certain data in such models will inevitably contain a degree of inaccuracy and error-potentially materially so-and could otherwise be inadequate or flawed, which would be likely to degrade the effectiveness of AI technology. To the extent that we or our portfolio investments are exposed to the risks of AI use, any such inaccuracies or errors could have adverse impacts on us or our investments.
AI technology and its applications, including in the private investment and financial sectors, continue to develop rapidly, and it is impossible to predict the future risks that may arise from such developments.
We and FS/EIG Advisor could be the target of litigation.
We and FS/EIG Advisor could become the target of securities class action litigation or other similar claims if our common share price fluctuates significantly or for other reasons. The proceedings could continue without resolution for long periods of time and the outcome of any such proceedings could materially adversely affect our business, financial condition, and/or operating results. Any litigation or other similar claims could consume substantial amounts of our management’s time and attention, and that time and attention and the devotion of associated resources could, at times, be disproportionate to the amounts at stake. Litigation and other claims are subject to inherent uncertainties, and a material adverse impact on our financial statements could occur for the period in which the effect of an unfavorable final outcome in litigation or other similar claims becomes probable and reasonably estimable. In addition, we could incur expenses associated with defending ourselves against litigation and other similar claims, and these expenses could be material to our earnings in future periods.
Our business and operations could be negatively affected if we become subject to shareholder activism, which could cause us to incur significant expense, hinder the execution of our investment strategy or impact our share price.
Shareholder activism, which could take many forms, including making public demands that we consider certain strategic alternatives, engaging in public campaigns to attempt to influence our corporate governance and/or our management, and commencing proxy contests to attempt to elect the activists’ representatives or others to our board of trustees, or arise in a variety of situations, has been increasing in the BDC space recently. While we are currently not subject to any shareholder activism, because of a variety of reasons, we may in the future become the target of shareholder activism. Shareholder activism could result in substantial costs and divert management’s and our board of trustees’ attention and resources from our business. Additionally, such shareholder activism could give rise to perceived uncertainties as to our future and adversely affect our relationships with service providers and our portfolio companies. Also, we may be required to incur significant legal and other expenses related to any activist shareholder matters.
Risks Related to FS/EIG Advisor and its Respective Affiliates
There may be conflicts of interest related to obligations FS/EIG Advisor’s senior management and investment teams have to our affiliates and to other clients.
The members of the senior management and investment teams of FS/EIG Advisor serve or may serve as officers, directors or principals of entities that operate in the same or a related line of business as we do, or of investment vehicles managed by the same personnel. For example, the officers, managers and other personnel of FS/EIG Advisor serve and may serve in the future in similar capacities for the investment advisers to the other funds managed or advised by FS Investments or EIG, and may serve in similar or other capacities for the investment advisers to future investment vehicles affiliated with FS Investments or EIG. In serving in these multiple and other capacities, they may have obligations to other clients or investors in those entities, the fulfillment of which may not be in our best interests or in the best interest of our shareholders. Our investment objectives may overlap with the investment objectives of such investment funds, accounts or other investment vehicles. For example, we rely on FS/EIG Advisor to manage our day-to-day activities and to implement our investment strategy. FS/EIG Advisor and certain of its affiliates are presently, and plan in the future to continue to be, involved with activities which are unrelated to us. As a result of these activities, FS/EIG Advisor, its employees and certain of its affiliates will have conflicts of interest in allocating their time between us and other activities in which they are or may become involved, including the management of other entities affiliated with FS Investments. FS/EIG Advisor and its employees will devote only as much of its or their time to our business as FS/EIG Advisor and its employees, in their judgment, determine is reasonably required, which may be substantially less than their full time. The officers of FS/EIG Advisor and its affiliates devote as much time to us as FS/EIG Advisor deems appropriate; however, these officers may have conflicts in allocating their time and services among us and FS/EIG Advisor and its affiliates' accounts. During times where there are turbulent conditions or distress in the credit markets or other times when we will need focused support and assistance from FS/EIG Advisor and affliates’ employees, other entities that FS/EIG Advisor advises or manages will likewise require greater focus and attention, placing FS/EIG Advisor and our resources in high demand. In such situations, we may not receive the necessary support and assistance we require or would otherwise receive if FS/EIG Advisor or its affiliates did not act as a manager for other entities.
We, directly or through FS/EIG Advisor, may obtain confidential information about the companies or securities in which we have invested or may invest. If we possess confidential information about such companies or securities, there may be restrictions on
FS/EIG Advisor’s ability to dispose of, increase the amount of, or otherwise take action with respect to the securities of such
companies. FS/EIG Advisor and our management of other accounts could create a conflict of interest to the extent FS/EIG Advisor or
FS is aware of material non-public information concerning potential investment decisions. For example, an affiliate of FS’s
membership in a loan syndicate or on a loan borrower’s creditors’ committee could potentially prevent FS/EIG Advisor from entering
into a transaction involving a CLO that holds the related loan. We have implemented compliance procedures and practices designed to
ensure that investment decisions are not improperly made while in possession of material non-public information. There can be no assurance, however, that these procedures and practices will be effective. In addition, this conflict and these procedures and practices
may limit the freedom of the FS/EIG Advisor to make potentially profitable investments, which could have an adverse effect on our
operations. These limitations imposed by access to confidential information could materially adversely affect our business, financial
condition and results of operations, and its ability to pay dividends to its shareholders.
There are risks and conflicts of interests associated with the Base Management Fee we are obligated to pay FS/EIG Advisor.
We pay FS/EIG Advisor a base management fee based on gross assets, regardless of the performance of the portfolio. FS/EIG
Advisor’s entitlement to such non-performance-based compensation might reduce its incentive to devote the time and effort of its
professionals to seeking profitable opportunities for our portfolio, which could result in worse performance for our portfolio and could
materially adversely affect our business, financial condition and results of operations, and its ability to pay dividends to its shareholders. Furthermore, the participation of FS/EIG Advisor (including its investment professionals) in our valuation process, and the financial interest of our interested trustees in FS/EIG Advisor, creates a conflict of interest as the base management fee payable to
FS/EIG Advisor is based, in part, on our gross assets.
FS/EIG Advisor and its affiliates, including our officers and some of our trustees, face conflicts of interest caused by compensation arrangements with us and our affiliates, which could result in actions that are not in the best interests of our shareholders.
FS/EIG Advisor and its affiliates receive substantial fees from us in return for their services, and these fees could influence the advice provided to us. We pay to FS/EIG Advisor an incentive fee that is based on the performance of our portfolio and an annual base management fee that is based on the average weekly value of our gross assets. Because the incentive fee is based on the performance of our portfolio, FS/EIG Advisor may be incentivized to make investments on our behalf that are riskier or more speculative than would be the case in the absence of such compensation arrangement. The way in which the incentive fee is determined may also encourage FS/EIG Advisor to use leverage to increase the return on our investments. In addition, because the base management fee is based upon the average weekly value of our gross assets, which includes any borrowings for investment purposes, FS/EIG Advisor may be incentivized to recommend the use of leverage or the issuance of additional equity to make additional investments and increase the average weekly value of our gross assets. Under certain circumstances, the use of leverage may increase the likelihood of default, which could disfavor holders of our common shares. Our compensation arrangements could therefore result in our making riskier or more speculative investments, or relying more on leverage to make investments, than would otherwise be the case. This could result in higher investment losses, particularly during cyclical economic downturns.
We may be obligated to pay FS/EIG Advisor incentive compensation even if we incur a net loss due to a decline in the value of our portfolio.
The FS/EIG investment advisory agreement entitles FS/EIG Advisor to receive incentive compensation on income regardless of any capital losses. In such case, we may be required to pay FS/EIG Advisor incentive compensation for a fiscal quarter even if there is a decline in the value of our portfolio or if we incur a net loss for that quarter.
Any incentive fee payable by us that relates to our net investment income may be computed and paid on income that may include interest that has been accrued but not yet received. If a portfolio company defaults on a loan that is structured to provide accrued interest, it is possible that accrued interest previously included in the calculation of the incentive fee will become uncollectible. FS/EIG Advisor is not under any obligation to reimburse us for any part of the incentive fee it received that was based on accrued income that we never received as a result of a default by an entity on the obligation that resulted in the accrual of such income, and such circumstances would result in our paying an incentive fee on income we never received.
For U.S. federal income tax purposes, we are required to recognize taxable income (such as deferred interest that is accrued as original issue discount) in some circumstances in which we do not receive a corresponding payment in cash and to make distributions with respect to such income to maintain our status as a RIC. Under such circumstances, we may have difficulty meeting the Annual Distribution Requirement necessary to maintain RIC tax treatment under the Code. This difficulty in making the required distribution may be amplified to the extent that we are required to pay an incentive fee with respect to such accrued income. As a result, we may have to sell some of our investments at times and/or at prices we would not consider advantageous, raise additional debt or equity capital, or forgo new investment opportunities for this purpose. If we are not able to obtain cash from other sources, we may fail to qualify for RIC tax treatment and thus become subject to corporate-level income tax.
The time and resources that FS/EIG Advisor and individuals employed by FS/EIG Advisor devote to us may be diverted and we may face additional competition due to the fact that individuals employed by FS/EIG Advisor are not prohibited from raising money for or managing another entity that makes the same types of investments that we target.
Neither FS/EIG Advisor, nor persons providing services to us on behalf of FS/EIG Advisor, are prohibited from raising money for and managing another investment entity that makes the same types of investments as those we target. As a result, the time and resources that these individuals may devote to us may be diverted. In addition, we may compete with any such investment entity for the same investors and investment opportunities.
Our incentive fee may induce FS/EIG Advisor to make, and EIG to recommend, speculative investments.
The incentive fee payable by us to FS/EIG Advisor may create an incentive for it to enter into investments on our behalf that are risky or more speculative than would be the case in the absence of such compensation arrangement. The way in which the incentive fee payable to FS/EIG Advisor is determined may encourage it to use leverage to increase the return on our investments. In addition, the fact that our base management fee is payable based upon our gross assets, which would include any borrowings for investment purposes, may encourage FS/EIG Advisor to use leverage to make additional investments. Under certain circumstances, the use of leverage may increase the likelihood of default, which would disfavor holders of our common shares. Such a practice could result in our investing in more speculative securities than would otherwise be in our best interests, which could result in higher
investment losses, particularly during cyclical economic downturns. In addition, since EIG will receive a portion of the advisory fees paid to FS/EIG Advisor, EIG may have an incentive to recommend investments that are riskier or more speculative.
FS/EIG Advisor’s liability is limited under the FS/EIG investment advisory agreement, and we are required to indemnify FS/EIG Advisor against certain liabilities, which may lead it to act in a riskier manner on our behalf than it would when acting for its own account.
Pursuant to the FS/EIG investment advisory agreement, FS/EIG Advisor and its officers, managers, partners, members (and their members, including the owners of their members), agents, employees, controlling persons and any other person or entity affiliated with, or acting on behalf of, FS/EIG Advisor will not be liable to us for their acts under the FS/EIG investment advisory agreement, absent willful misfeasance, bad faith or gross negligence in the performance of their duties. We have agreed to indemnify, defend and protect FS/EIG Advisor and its officers, managers, partners, members (and their members, including the owners of their members), agents, employees, controlling persons and any other person or entity affiliated with, or acting on behalf of, FS/EIG Advisor with respect to all damages, liabilities, costs and expenses resulting from acts of FS/EIG Advisor not arising out of willful misfeasance, bad faith or gross negligence in the performance of their duties under the FS/EIG investment advisory agreement. These protections may lead FS/EIG Advisor to act in a riskier manner when acting on our behalf than it would when acting for its own account.
Risks Related to Business Development Companies
Failure to maintain our status as a BDC would reduce our operating flexibility.
If we do not remain a BDC, we might be regulated as a closed-end investment company under the 1940 Act, which would subject us to substantially more regulatory restrictions under the 1940 Act and correspondingly decrease our operating flexibility.
We are uncertain of our sources for funding our future capital needs and if we cannot obtain debt or equity financing on acceptable terms, or at all, our ability to acquire investments and to expand our operations will be adversely affected.
Any working capital reserves we maintain may not be sufficient for investment purposes, and we may require debt or equity financing to operate. We may also need to access the capital markets to refinance existing debt obligations to the extent maturing obligations are not repaid with cash flows from operations. In order to maintain RIC tax treatment, we must make distributions to our shareholders each tax year on a timely basis generally of an amount at least equal to 90% of our investment company taxable income, determined without regard to any deduction for distributions paid, and the amounts of such distributions will therefore not be available to fund investment originations or to repay maturing debt. In addition, with certain limited exceptions, we are only allowed to borrow amounts or issue debt securities or preferred shares, which we refer to collectively as "senior securities," such that our asset coverage, as calculated pursuant to the 1940 Act, equals at least 200% immediately after such borrowing, which, in certain circumstances, may restrict our ability to borrow or issue debt securities or preferred shares. In the event that we develop a need for additional capital in the future for investments or for any other reason, and we cannot obtain debt or equity financing on acceptable terms, or at all, our ability to acquire investments and to expand our operations will be adversely affected. As a result, we would be less able to allocate our portfolio among various issuers and industries and achieve our investment objectives, which may negatively impact our results of operations and reduce our ability to make distributions to our shareholders.
The requirement that we invest a sufficient portion of our assets in qualifying assets could preclude us from investing in accordance with our current business strategy; conversely, the failure to invest a sufficient portion of our assets in qualifying assets could result in our failure to maintain our status as a BDC.
As a BDC, we may not acquire any assets other than “qualifying assets” unless, at the time of such acquisition, at least 70% of our total assets are qualifying assets. Therefore, we may be precluded from investing in what we believe are attractive investments if such investments are not qualifying assets. Similarly, these rules could prevent us from making additional investments in existing portfolio companies, which could result in the dilution of our position, or could require us to dispose of investments at an inopportune time to comply with the 1940 Act. If we were forced to sell non-qualifying investments in the portfolio for compliance purposes, the proceeds from such sale could be significantly less than the current value of such investments. Conversely, if we fail to invest a sufficient portion of our assets in qualifying assets, we could lose our status as a BDC, which would subject us to substantially more regulatory restrictions and significantly decrease our operating flexibility.
Regulations governing our operation as a BDC and a RIC will affect our ability to raise, and the way in which we raise, additional capital or borrow for investment purposes, which may have a negative effect on our growth.
As a result of our need to satisfy the Annual Distribution Requirement in order to maintain RIC tax treatment under Subchapter M of the Code, we may need to periodically access the capital markets to raise cash to fund new investments. We may
issue "senior securities," as defined in the 1940 Act, including issuing preferred shares, borrowing money from banks or other financial institutions or issuing debt securities only in amounts such that our asset coverage, as defined in the 1940 Act, equals at least 200% after such incurrence or issuance. Our ability to issue certain other types of securities is also limited. Under the 1940 Act, we are also generally prohibited from issuing or selling our shares at a price per share, after deducting underwriting commissions, that is below our net asset value per share, without first obtaining approval for such issuance from our shareholders and our independent trustees. Compliance with these limitations on our ability to raise capital may unfavorably limit our investment opportunities. These limitations may also reduce our ability in comparison to other companies to profit from favorable spreads between the rates at which we can borrow and the rates at which we can lend.
In addition, because we incur indebtedness for investment purposes, if the value of our assets declines, we may be unable to satisfy the asset coverage test under the 1940 Act, which would prohibit us from paying distributions and, as a result, could cause us to be subject to corporate-level tax on our income and capital gains, regardless of the amount of distributions paid. If we cannot satisfy the asset coverage test, we may be required to sell a portion of our investments and, depending on the nature of our debt financing, repay a portion of our indebtedness at a time when such sales may be disadvantageous.
Our ability to enter into transactions with our affiliates is restricted.
We are prohibited under the 1940 Act from participating in certain transactions with certain of our affiliates without the prior approval of a majority of the independent members of our board of trustees and, in some cases, the SEC. Any person that owns, directly or indirectly, 5% or more of our outstanding voting securities will be our affiliate for purposes of the 1940 Act and we will generally be prohibited from buying or selling any securities from or to such affiliate, absent the prior approval of our board of trustees. The 1940 Act also prohibits certain "joint" transactions with certain of our affiliates, which could include investments in the same portfolio company (whether at the same or different times), without prior approval of our board of trustees and, in some cases, the SEC. In an order dated June 4, 2013, the SEC granted exemptive relief permitting us, subject to the satisfaction of certain conditions, to co-invest in certain privately negotiated investment transactions with our co-investment affiliates. Effective April 9, 2018, or the JV Effective Date, and in connection with the transition of advisory services to a joint advisory relationship with EIG, our board of trustees authorized and directed that we (i) withdraw from this order, except with respect to any transaction in which we participated in reliance on the Original Order prior to the JV Effective Date, and (ii) rely on an exemptive relief order dated April 10, 2018, granted to EIG and its affiliates which permits us to participate in co-investment transactions with certain other EIG advised funds, or the EIG Order. If a person acquires more than 25% of our voting securities, we will be prohibited from buying or selling any security from or to such person or certain of that person's affiliates, or entering into prohibited joint transactions with such persons to the extent not covered by our exemptive relief, absent the prior approval of the SEC. Similar restrictions limit our ability to transact business with our officers or trustees or their affiliates. As a result of these restrictions, we may be prohibited from buying or selling any security from or to any portfolio company of a fund managed by FS/EIG Advisor without the prior approval of the SEC, which may limit the scope of investment opportunities that would otherwise be available to us. Effective November 13, 2024, and in connection with the change to our investment strategy, our board of trustees authorized and directed that we (x) withdraw from the EIG Order, except with respect to any transaction in which we participated in reliance on the EIG Order prior to such date, and (y) rely on an exemptive relief order dated November 13, 2024, granted to us and certain of our affiliates which permits us, subject to the satisfaction of certain conditions, to co-invest in certain privately negotiated investment transactions with certain of our affiliates, or the "FS Order." Pursuant to the FS Order, we are permitted in certain privately negotiated transactions with certain affiliates of FS/EIG Advisor, including, among others, FS Credit Opportunities Corp. and FS Credit Income Fund.
Risks Related to Our Investments
Inflation may adversely affect the business, results of operations and financial condition of our portfolio companies.
Certain of our portfolio companies are in industries that may be impacted by inflation. If such portfolio companies are unable to pass any increases in their costs of operations along to their customers, it could adversely affect their operating results and impact their ability to pay interest and principal on our loans, particularly if interest rates rise in response to inflation. In addition, any projected future decreases in our portfolio companies’ operating results due to inflation could adversely impact the fair value of those investments. Any decreases in the fair value of our investments could result in future realized or unrealized losses and therefore reduce our net assets resulting from operations.
Our investments in prospective portfolio companies may be risky, and we could lose all or part of our investment.
Our investments may be risky and there is no limit on the amount of any such investments in which we may invest.
Senior Secured Loans, Second Lien Secured Loans and Senior Secured Bonds. There is a risk that any collateral pledged by portfolio companies in which we have taken a security interest may decrease in value over time or lose its entire value, may be difficult to sell in a timely manner, may be difficult to appraise and may fluctuate in value based upon the success of the business and
market conditions, including as a result of the inability of the portfolio company to raise additional capital. To the extent our debt investment is collateralized by the securities of a portfolio company's subsidiaries, such securities may lose some or all of their value in the event of the bankruptcy or insolvency of the portfolio company. Also, in some circumstances, our security interest may be contractually or structurally subordinated to claims of other creditors. In addition, deterioration in a portfolio company's financial condition and prospects, including its inability to raise additional capital, may be accompanied by deterioration in the value of the collateral for the debt. Secured debt that is under-collateralized involves a greater risk of loss. In addition, second lien secured debt is granted a second priority security interest in collateral, which means that any realization of collateral will generally be applied to pay senior secured debt in full before second lien secured debt is paid. Consequently, the fact that debt is secured does not guarantee that we will receive principal and interest payments according to the debt's terms, or at all, or that we will be able to collect on the debt should we be forced to enforce our remedies.
Unsecured Debt. Our unsecured debt investments will generally rank junior in priority of payment to senior debt and will generally be unsecured. This may result in a heightened level of risk and volatility or a loss of principal, which could lead to the loss of the entire investment. These investments may involve additional risks that could adversely affect our investment returns. To the extent interest payments associated with such debt are deferred, such debt may be subject to greater fluctuations in valuations, and such debt could subject us and our shareholders to non-cash income. Because we will not receive any principal repayments prior to the maturity of some of our unsecured debt investments, such investments will be of greater risk than amortizing loans.
Equity and Equity-Related Securities. We may make select equity investments in income-oriented preferred or common equity interests. In addition, when we invest in senior secured loans and notes or unsecured debt, we may acquire warrants to purchase equity securities. In connection with certain of our debt investments or any restructurings of these debt investments, we may on occasion receive equity interests, including warrants or options, as additional consideration or otherwise in connection with a restructuring. The equity interests we receive may not appreciate in value and, in fact, may decline in value. Accordingly, we may not be able to realize gains from our equity interests, and any gains that we do realize on the disposition of any equity interests may not be sufficient to offset any other losses we experience.
Convertible Securities. We may invest in convertible securities, such as bonds, debentures, notes, preferred stocks or other securities that may be converted into, or exchanged for, a specified amount of common stock of the same or different issuer within a particular period of time at a specified price or formula. A convertible security may be subject to redemption at the option of the issuer at a price established in the convertible security’s governing instrument. If a convertible security held by us is called for redemption, it will be required to permit the issuer to redeem the security, convert it into the underlying common stock or sell it to a third party. Any of these actions could have an adverse effect on our ability to achieve our investment objective.
Non-U.S. Securities. We may invest in non-U.S. securities, which may include securities denominated in U.S. dollars or in non-U.S. currencies and securities of companies in emerging markets, to the extent permitted by the 1940 Act. Because evidences of ownership of such securities usually are held outside the United States, we would be subject to additional risks if we invested in non-U.S. securities, which include possible adverse political and economic developments, seizure or nationalization of foreign deposits and adoption of governmental restrictions which might adversely affect or restrict the payment of principal and interest on the non-U.S. securities to investors located outside the country of the issuer, whether from currency blockage or otherwise. Because non-U.S. securities may be purchased with and payable in foreign currencies, the value of these assets as measured in U.S. dollars may be affected unfavorably by changes in currency rates and exchange control regulations. In addition, investing in securities of companies in emerging markets involves many risks, including potential inflationary economic environments, regulation by foreign governments, different accounting standards, political uncertainties and economic, social, political, financial, tax and security conditions in the applicable emerging market, any of which could negatively affect the value of companies in emerging markets or investments in their securities.
Structured Products. We may invest in structured products, which may include collateralized debt obligations, collateralized bond obligations, collateralized loan obligations, structured notes and credit-linked notes. When investing in structured products, we may invest in any level of the subordination chain, including subordinated (lower-rated) tranches and residual interests (the lowest tranche). Structured products may be highly levered and therefore, the junior debt and equity tranches that we may invest in are subject to a higher risk of total loss and deferral or nonpayment of interest than the more senior tranches to which they are subordinated. In addition, we will generally have the right to receive payments only from the issuer or counterparty, and will generally not have direct rights against the underlying borrowers or entities. Furthermore, the investments we make in structured products are at times thinly traded or have only a limited trading market. As a result, investments in such structured products may be characterized as illiquid securities.
Derivatives. We may invest from time to time in derivatives, including total return swaps, interest rate swaps, credit default swaps and foreign currency forward contracts. Derivative investments have risks, including: the imperfect correlation between the value of such instruments and our underlying assets, which creates the possibility that the loss on such instruments may be greater than
the gain in the value of the underlying assets in our portfolio; the loss of principal; the possible default of the other party to the transaction; and illiquidity of the derivative investments. If a counterparty becomes bankrupt or otherwise fails to perform its obligations under a derivative contract due to financial difficulties, we may experience significant delays in obtaining any recovery under the derivative contract in a bankruptcy or other reorganization proceeding, or may not recover at all. In addition, in the event of the insolvency of a counterparty to a derivative transaction, the derivative contract would typically be terminated at its fair market value. If we are owed this fair market value in the termination of the derivative contract and our claim is unsecured, we will be treated as a general creditor of such counterparty and will not have any claim with respect to the underlying security. Certain of the derivative investments in which we may invest may, in certain circumstances, give rise to a form of financial leverage, which may magnify the risk of owning such instruments. The ability to successfully use derivative investments depends on the ability of FS/EIG Advisor to predict pertinent market movements, which cannot be assured. In addition, amounts paid by us as premiums and cash or other assets held in margin accounts with respect to our derivative investments would not be available to us for other investment purposes, which may result in lost opportunities for gain.
Investments in Asset-Based Opportunities. We may invest in asset-based opportunities through joint ventures, investment platforms, private investment funds or other business entities that provide one or more of the following services: origination or sourcing of potential investment opportunities, due diligence and negotiation of potential investment opportunities and/or servicing, development and management (including turnaround) and disposition of investments. Such investments may be in or alongside existing or newly formed operators, consultants and/or managers that pursue such opportunities and may or may not include capital and/or assets contributed by third party investors. Such investments may include opportunities to direct-finance physical assets, such as airplanes and ships, and/or operating assets, such as financial service entities, as opposed to investment securities, or to invest in origination and/or servicing platforms directly. In valuing our investments, we rely primarily on information provided by operators, consultants and/or managers. Valuations of illiquid securities involve various judgments and consideration of factors that may be subjective. There is a risk that inaccurate valuations could adversely affect the value of our common shares. We may not be able to promptly withdraw our investment in these asset-based opportunities, which may result in a loss to us and adversely affect our investment returns.
Below Investment Grade Risk. In addition, we invest in securities that are rated below investment grade by rating agencies or that would be rated below investment grade if they were rated. Below investment grade securities, which are often referred to as "junk," have predominantly speculative characteristics with respect to the issuer's capacity to pay interest and repay principal. They may also be difficult to value and illiquid.
International investments create additional risks.
We expect to make investments in portfolio companies that are domiciled outside of the United States. We anticipate that up to 30% of our investments may be in these types of assets. Our investments in foreign portfolio companies are deemed “non-qualifying assets,” which means, as required by the 1940 Act, they, along with other non-qualifying assets, may not constitute more than 30% of our total assets at the time of our acquisition of any asset, after giving effect to the acquisition. Notwithstanding the limitation on our ownership of foreign portfolio companies, such investments subject us to many of the same risks as our domestic investments, as well as certain additional risks, including the following:
•foreign governmental laws, rules and policies, including those restricting the ownership of assets in the foreign country or the repatriation of profits from the foreign country to the United States;
•foreign currency devaluations that reduce the value of and returns on our foreign investments;
•adverse changes in the availability, cost and terms of investments due to the varying economic policies of a foreign country in which we invest;
•adverse changes in tax rates, the tax treatment of transaction structures and other changes in operating expenses of a particular foreign country in which we invest;
•the assessment of foreign-country taxes (including withholding taxes, transfer taxes and value added taxes, any or all of which could be significant) on income or gains from our investments in the foreign country;
•adverse changes in foreign-country laws, including those relating to taxation, bankruptcy and ownership of assets;
•changes that adversely affect the social, political and/or economic stability of a foreign country in which we invest;
•high inflation in the foreign countries in which we invest, which could increase the costs to us of investing in those countries;
•deflationary periods in the foreign countries in which we invest, which could reduce demand for our assets in those countries and diminish the value of such investments and the related investment returns to us; and
•legal and logistical barriers in the foreign countries in which we invest that materially and adversely limit our ability to enforce our contractual rights with respect to those investments.
In addition, we may make investments in countries whose governments or economies may prove unstable. Certain of the countries in which we may invest may have political, economic and legal systems that are unpredictable, unreliable or otherwise inadequate with respect to the implementation, interpretation and enforcement of laws protecting asset ownership and economic interests. In some of the countries in which we may invest, there may be a risk of nationalization, expropriation or confiscatory taxation, which may have an adverse effect on our portfolio companies in those countries and the rates of return that we are able to achieve on such investments. We may also lose the total value of any investment which is nationalized, expropriated or confiscated. The financial results and investment opportunities available to us, particularly in developing countries and emerging markets, may be materially and adversely affected by any or all of these political, economic and legal risks.
Our investments in private investment funds, including hedge funds, private equity funds, limited liability companies and other business entities, subject us indirectly to the underlying risks of such private investment funds and additional fees and expenses.
We may invest in private investment funds, including hedge funds, private equity funds, limited liability companies and other business entities which would be required to register as investment companies but for an exemption under Sections 3(c)(1) and 3(c)(7) of the 1940 Act. Our investments in private funds are subject to substantial risks. Investments in such private investment funds expose us to the risks associated with the businesses of such funds or entities as well as such private investment funds’ portfolio companies. These private investment funds may or may not be registered investment companies and, thus, may not be subject to protections afforded by the 1940 Act, covering, among other areas, liquidity requirements, governance by an independent board, affiliated transaction restrictions, leverage limitations, public disclosure requirements and custody requirements.
We rely primarily on information provided by managers of private investment funds in valuing our investments in such funds. There is a risk that inaccurate valuations provided by managers of private investment funds could adversely affect the value of our common shares. In addition, there can be no assurance that a manager of a private investment fund will provide advance notice of any material change in such private investment fund’s investment program or policies and thus, our investment portfolio may be subject to additional risks which may not be promptly identified by FS/EIG Advisor. Moreover, we may not be able to withdraw our investments in certain private investment funds promptly after we make a decision to do so, which may result in a loss to us and adversely affect our investment returns.
Investments in the securities of private investment funds may also involve duplication of advisory fees and certain other expenses. By investing in private investment funds indirectly through us, shareholders bear a pro rata portion of our advisory fees and other expenses, and also indirectly bear a pro rata portion of the advisory fees, performance-based allocations and other expenses borne by us as an investor in the private investment funds. In addition, the purchase of the shares of some private investment funds requires the payment of sales loads and (in the case of closed-end investment companies) sometimes substantial premiums above the value of such investment companies’ portfolio securities.
In addition, certain private investment funds may not provide us with the liquidity we require and would thus subject us to liquidity risk. Further, even if an investment in a private investment fund is deemed liquid at the time of investment, the private investment fund may, in the future, alter the nature of our investments and cease to be a liquid investment fund, subjecting us to liquidity risk.
We may acquire various structured financial instruments for purposes of “hedging” or reducing our risks, which may be costly and ineffective and could reduce the cash available to service debt or for distribution to shareholders.
We may seek to hedge against interest rate and currency exchange rate fluctuations and credit risk by using structured financial instruments such as futures, options, swaps and forward contracts, subject to the requirements of the 1940 Act. Use of structured financial instruments for hedging purposes may present significant risks, including the risk of loss of the amounts invested. Defaults by the other party to a hedging transaction can result in losses in the hedging transaction. Hedging activities also involve the risk of an imperfect correlation between the hedging instrument and the asset being hedged, which could result in losses both on the hedging transaction and on the instrument being hedged. Use of hedging activities may not prevent significant losses and could increase our losses. Further, hedging transactions may reduce cash available to service our debt or pay distributions to our shareholders.
Investing in middle market companies involves a number of significant risks, any one of which could have a material adverse effect on our operating results.
Investments in middle market companies involve some of the same risks that apply generally to investments in larger, more established companies. However, such investments have more pronounced risks in that they:
•may have limited financial resources and may be unable to meet the obligations under their debt securities that we hold, which may be accompanied by a deterioration in the value of any collateral pledged under such securities and a reduction in the likelihood of us realizing any guarantees we may have obtained in connection with our investment;
•have shorter operating histories, narrower product lines and smaller market shares than larger businesses, which tends to render them more vulnerable to competitors’ actions and changing market conditions, as well as general economic downturns;
•are more likely to depend on the management talents and efforts of a small group of persons; therefore, the death, disability, resignation or termination of one or more of these persons could have a material adverse impact on our portfolio company and, in turn, on us;
•generally have less predictable operating results, may from time to time be parties to litigation, may be engaged in rapidly changing businesses with products subject to a substantial risk of obsolescence, and may require substantial additional capital to support their operations, finance expansion or maintain their competitive position. In addition, our executive officers and trustees and members of FS/EIG Advisor may, in the ordinary course of business, be named as defendants in litigation arising from our investments in the portfolio companies; and
•may have difficulty accessing the capital markets to meet future capital needs, which may limit their ability to grow or to repay their outstanding indebtedness upon maturity.
If our portfolio is concentrated in a single or limited number of investments at any given time, our performance may be significantly adversely affected by the unfavorable performance of a small number of such investments or a substantial write-down of the value of any one investment.
We may from time to time hold securities of a single portfolio company that comprise more than 5% of our total assets and/or more than 10% of the outstanding voting securities of the portfolio company. For that reason, we are classified as a non-diversified management investment company under the 1940 Act. As of December 31, 2024, we had an investment in two portfolio companies, which represented approximately 20.0% of our total investment portfolio, by fair value. A consequence of the concentration of a small number of investments at any given time is that the aggregate income and returns we realize may be significantly adversely affected by the unfavorable performance of a single or small number of such investments or a substantial write-down of the value of any one investment.
Our portfolio companies may incur debt that ranks equally with, or senior to, our investments in such companies.
Our portfolio companies may have, or may be permitted to incur, other debt that ranks equally with, or senior to, the debt in which we invest. By their terms, such debt instruments may entitle the holders to receive payment of interest or principal on or before the dates on which we are entitled to receive payments with respect to the debt instruments in which we invest. Also, in the event of insolvency, liquidation, dissolution, reorganization or bankruptcy of a portfolio company, holders of debt instruments ranking senior to our investment in that portfolio company would typically be entitled to receive payment in full before we receive any proceeds. After repaying such senior creditors, such portfolio company may not have any remaining assets to use for repaying its obligation to us. In the case of debt ranking equally with debt instruments in which we invest, we would have to share on an equal basis any distributions with other creditors holding such debt in the event of an insolvency, liquidation, dissolution, reorganization or bankruptcy of the relevant portfolio company.
There may be circumstances where our debt investments could be subordinated to claims of other creditors or we could be subject to lender liability claims.
If one of our portfolio companies were to go bankrupt, depending on the facts and circumstances, including the extent to which we actually provided managerial assistance to that portfolio company, a bankruptcy court might recharacterize our debt investment and subordinate all or a portion of our claim to that of other creditors. In situations where a bankruptcy carries a high degree of political significance, our legal rights may be subordinated to other creditors. We may also be subject to lender liability claims for actions taken by us with respect to a borrower's business or in instances where we exercise control over the borrower or render significant managerial assistance.
Second priority liens on collateral securing debt investments that we make to our portfolio companies may be subject to control by senior creditors with first priority liens. If there is a default, the value of the collateral may not be sufficient to repay in full both the first priority creditors and us.
Certain debt investments that we make in portfolio companies may be secured on a second priority basis by the same collateral securing first priority debt of such companies. The first priority liens on the collateral will secure the portfolio company's obligations under any outstanding senior debt and may secure certain other future debt that may be permitted to be incurred by such
company under the agreements governing the loans. The holders of obligations secured by the first priority liens on the collateral will generally control the liquidation of and be entitled to receive proceeds from any realization of the collateral to repay their obligations in full before us. In addition, the value of the collateral in the event of liquidation will depend on market and economic conditions, the availability of buyers and other factors. There can be no assurance that the proceeds, if any, from the sale or sales of all of the collateral would be sufficient to satisfy the debt obligations secured by the second priority liens after payment in full of all obligations secured by the first priority liens on the collateral. If such proceeds are not sufficient to repay amounts outstanding under the debt obligations secured by the second priority liens, then we, to the extent not repaid from the proceeds of the sale of the collateral, will only have an unsecured claim against such company's remaining assets, if any.
We may also make unsecured debt investments in portfolio companies, meaning that such investments will not benefit from any interest in collateral of such companies. Liens on any such portfolio company’s collateral, if any, will secure the portfolio company’s obligations under its outstanding secured debt and may secure certain future debt that is permitted to be incurred by the portfolio company under its secured debt agreements. The holders of obligations secured by such liens will generally control the liquidation of, and be entitled to receive proceeds from, any realization of such collateral to repay their obligations in full before us. In addition, the value of such collateral in the event of liquidation will depend on market and economic conditions, the availability of buyers and other factors. There can be no assurance that the proceeds, if any, from sales of such collateral would be sufficient to satisfy our unsecured debt obligations after payment in full of all secured debt obligations. If such proceeds were not sufficient to repay the outstanding secured debt obligations, then our unsecured claims would rank equally with the unpaid portion of such secured creditors’ claims against the portfolio company’s remaining assets, if any.
The rights we may have with respect to the collateral securing the debt investments we make in our portfolio companies with senior debt outstanding may also be limited pursuant to the terms of one or more intercreditor agreements that we enter into with the holders of senior debt. Under such an intercreditor agreement, at any time that obligations that have the benefit of the first priority liens are outstanding, any of the following actions that may be taken in respect of the collateral will be at the direction of the holders of the obligations secured by the first priority liens: the ability to cause the commencement of enforcement proceedings against the collateral; the ability to control the conduct of such proceedings; the approval of amendments to collateral documents; releases of liens on the collateral; and waivers of past defaults under collateral documents. We may not have the ability to control or direct such actions, even if our rights are adversely affected.
We generally will not control our portfolio companies.
We do not control, and do not expect to control, most of our portfolio companies, even though we may have board representation or board observation rights, and our debt agreements with such portfolio companies may contain certain restrictive covenants. As a result, we are subject to the risk that a portfolio company in which we invest may make business decisions with which we disagree and the management of such company, as representatives of the holders of their common equity, may take risks or otherwise act in ways that do not serve our interests as debt investors. Due to the lack of liquidity for our investments in non-traded companies, we may not be able to dispose of our interests in our portfolio companies as readily as we would like or at an appropriate valuation. As a result, a portfolio company may make decisions that could decrease the value of our portfolio holdings.
Declines in market values or fair market values of our investments could result in significant net unrealized depreciation of our portfolio, which, in turn, would reduce our net asset value.
Under the 1940 Act, we are required to carry our investments at market value or, if no market value is ascertainable, at fair value, in accordance with policies and procedures approved by our board of trustees. While most of our investments are not and will not be publicly traded, applicable accounting standards require us to assume as part of our valuation process that our investments are sold in a principal market to market participants (even if we plan on holding an investment through its maturity) and impairments of the market values or fair market values of our investments, even if unrealized, must be reflected in our financial statements for the applicable period as unrealized depreciation, which could result in a significant reduction to our net asset value for a given period.
A significant portion of our investment portfolio does not have a readily available market price and is and will be recorded at fair value in accordance with policies and procedures approved by our board of trustees and, as a result, there is and will be uncertainty as to the value of our portfolio investments.
Under the 1940 Act, we are required to carry our portfolio investments at market value or, if no market value is ascertainable, at fair value in accordance with policies and procedures approved by our board of trustees. There is not a public market for the securities of certain of the companies in which we invest. Many of our investments are not publicly-traded or actively-traded on a secondary market but are, instead, traded on a privately negotiated over-the-counter secondary market for institutional investors or are not traded at all. As a result, FS/EIG Advisor, with oversight from our board of trustees, will value these securities quarterly at fair value.
Pursuant to Rule 2a-5 under the 1940 Act, our board has designated FS/EIG Advisor to perform, subject to board oversight, fair value determinations of our investments. Certain factors that may be considered in determining the fair value of our investments include dealer quotes for securities traded on the secondary market for institutional investors, the nature and realizable value of any collateral, the portfolio company’s earnings and its ability to make payments on its indebtedness, the markets in which the portfolio company does business, comparison to comparable companies, discounted cash flows and other relevant factors. Because such valuations, and particularly valuations of private securities and private companies, are inherently uncertain, may fluctuate over short periods of time and may be based on estimates, our determinations of fair value may differ materially from the values that would have been used if a ready market for these securities existed. Due to this uncertainty, our fair value determinations may cause our net asset value on a given date to materially understate or overstate the value that we may ultimately realize upon the sale of one or more of our investments.
We are exposed to risks associated with changes in interest rates.
We are subject to financial market risks, including changes in interest rates. General interest rate fluctuations may have a substantial negative impact on our investments, investment opportunities and cost of capital and, accordingly, may have a material adverse effect on our investment objectives, our rate of return on invested capital and our ability to service our debt and make distributions to our shareholders. Any reduction in the level of interest rates on new investments relative to interest rates on our current investments could also adversely impact our net investment income. In addition, an increase in interest rates would make it more expensive to use debt for our financing needs, if any.
Our investment portfolio primarily consists of senior secured debt with maturities typically ranging from three to seven years. The longer the duration of these securities, generally, the more susceptible they are to changes in market interest rates. As market interest rates have increased, those securities with a lower yield-at-cost have experienced a mark-to-market unrealized loss. An impairment of the fair market value of our investments, even if unrealized, must be reflected in our financial statements for the applicable period and may therefore have a material adverse effect on our results of operations for that period. A reduction in interest rates may result in both lower interest rates on new investments and higher repayments on current investments with high interest rates, which may have an adverse impact on our net investment income and results of operations.
Because we incur indebtedness to make investments, our net investment income is dependent, in part, upon the difference between the rate at which we borrow funds or pay interest on outstanding debt securities and the rate at which we invest these funds. The recent increases in interest rates have made it more expensive to use debt to finance our investments and to refinance our current financing arrangement. In addition, certain of our financing arrangements provide for adjustments in the loan interest rate along with changes in market interest rates. Therefore, in periods of rising interest rates, our cost of funds will increase, which could materially reduce our net investment income. Any reduction in the level of interest rates on new investments relative to interest rates on our current investments could also adversely impact our net investment income.
We have and may continue to structure the majority of our debt investments with floating interest rates to position our portfolio more favorably for rate increases. However, there can be no assurance that this will successfully mitigate our exposure to interest rate risk. For example, in rising interest rate environments, payments under floating rate debt instruments generally will rise and there may be a significant number of issuers of such floating rate debt instruments that will be unable or unwilling to pay such increased interest costs and may otherwise be unable to repay their loans. Rising interest rates could also cause portfolio companies to shift cash from other productive uses to the payment of interest, which may have a material adverse effect on their business and operations and could, over time, lead to increased defaults. Investments in floating rate debt instruments may also decline in value in response to rising interest rates if the interest rates of such investments do not rise as much, or as quickly, as market interest rates in general. Similarly, during periods of rising interest rates, our fixed rate investments may decline in value because the fixed rate of interest paid thereunder may be below market interest rates.
Furthermore, because a rise in the general level of interest rates can be expected to lead to higher interest rates applicable to our debt investments, an increase in interest rates would make it easier for us to meet or exceed the incentive fee hurdle rate in the investment advisory agreement and may result in a substantial increase of the amount of incentive fees payable to FS/EIG Advisor with respect to pre-incentive fee net investment income.
A covenant breach by our portfolio companies may harm our operating results.
A portfolio company's failure to satisfy financial or operating covenants imposed by us or other lenders could lead to defaults and, potentially, termination of its loans and foreclosure on its secured assets, which could trigger cross-defaults under other agreements and jeopardize a portfolio company's ability to meet its obligations under the debt or equity securities that we hold. We may incur expenses to the extent necessary to seek recovery upon default or to negotiate new terms, which may include the waiver of certain financial covenants, with a defaulting portfolio company.
Our portfolio companies may be highly leveraged.
Some of our portfolio companies may be highly leveraged, which may have adverse consequences to these companies and to us as an investor. These companies may be subject to restrictive financial and operating covenants and the leverage may impair these companies' ability to finance their future operations and capital needs. As a result, these companies' flexibility to respond to changing business and economic conditions and to take advantage of business opportunities may be limited. Further, a leveraged company's income and net assets will tend to increase or decrease at a greater rate than if borrowed money were not used.
We may not realize gains from our equity investments.
Certain investments that we may make may include equity related securities, such as rights and warrants that may be converted into or exchanged for shares or the cash value of the shares. In addition, we may make direct equity investments in portfolio companies. The equity interests we receive may not appreciate in value and, in fact, may decline in value. Accordingly, we may not be able to realize gains from our equity interests, and any gains that we do realize on the disposition of any equity interests may not be sufficient to offset any other losses we experience. We may also be unable to realize any value if a portfolio company does not have a liquidity event, such as a sale of the business, recapitalization or public offering, which would allow us to sell the underlying equity interests. We may be unable to exercise any put rights we acquire which grant us the right to sell our equity securities back to the portfolio company for the consideration provided in our investment documents if the issuer is in financial distress.
An investment strategy focused primarily on privately-held companies presents certain challenges, including the lack of available information about these companies.
Our investments are primarily in privately-held companies. Investments in private companies pose significantly greater risks than investments in public companies. First, private companies have reduced access to the capital markets, resulting in diminished capital resources and the ability to withstand financial distress. As a result, these companies, which may present greater credit risk than public companies, may be unable to meet the obligations under their debt and equity securities that we hold. Second, the investments themselves often may be illiquid. The securities of most of the companies in which we invest are not publicly-traded or actively-traded on the secondary market and are, instead, traded on a privately negotiated over-the-counter secondary market for institutional investors. In addition, such securities may be subject to legal and other restrictions on resale. As such, we may have difficulty exiting an investment promptly or at a desired price prior to maturity or outside of a normal amortization schedule. In addition, in a restructuring, we may receive substantially different securities than our original investment in a portfolio company, including securities in a different part of the capital structure. These investments may also be difficult to value because little public information generally exists about private companies, requiring an experienced due diligence team to analyze and value the potential portfolio company. Finally, these companies often may not have third-party debt ratings or audited financial statements. We must therefore rely on the ability of FS/EIG Advisor to obtain adequate information through due diligence to evaluate the creditworthiness and potential returns from investing in these companies. These companies and their financial information will generally not be subject to the Sarbanes-Oxley Act and other rules and regulations that govern public companies. If we are unable to uncover all material information about these companies, or receive timely information, we may not make a fully informed investment decision, and we may lose money on our investments.
A lack of liquidity in certain of our investments may adversely affect our business.
We invest in certain companies whose securities are not publicly-traded or actively-traded on the secondary market and are, instead, traded on a privately-negotiated over-the-counter secondary market for institutional investors, and whose securities are subject to legal and other restrictions on resale or are otherwise less liquid than publicly-traded securities. The illiquidity of certain of our investments may make it difficult for us to sell these investments when desired. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the value at which we had previously recorded these investments. The reduced liquidity of our investments may make it difficult for us to dispose of them at a favorable price or at all, and, as a result, we may suffer losses.
We may not have the funds or ability to make additional investments in our portfolio companies.
We may not have the funds or ability to make additional investments in our portfolio companies. After our initial investment in a portfolio company, we may be called upon from time to time to provide additional funds to such company or have the opportunity to increase our investment through the exercise of a warrant to purchase common stock. There is no assurance that we will make, or will have sufficient funds to make, follow-on investments. Any decisions not to make a follow-on investment or any inability on our part to make such an investment may have a negative impact on a portfolio company in need of such an investment, may result in a missed opportunity for us to increase our participation in a successful operation or may reduce the expected return on the investment.
Prepayments of our debt investments by our portfolio companies could adversely impact our results of operations and reduce our return on equity.
We are subject to the risk that the investments we make in our portfolio companies may be repaid prior to maturity. When this occurs, we will generally reinvest these proceeds in temporary investments, pending their future investment in new portfolio companies. These temporary investments will typically have substantially lower yields than the debt being prepaid and we could experience significant delays in reinvesting these amounts. Any future investment in a new portfolio company may also be at lower yields than the debt that was repaid. As a result, our results of operations could be materially adversely affected if one or more of our portfolio companies elect to prepay amounts owed to us. Additionally, prepayments, net of prepayment fees, could negatively impact our return on equity.
Our investments may include original issue discount and PIK instruments.
We have invested in original issue discount or PIK instruments and intend to continue to do so. To the extent that we invest in original issue discount or PIK instruments and the accretion of original issue discount or PIK interest income constitutes a portion of our income, we will be exposed to risks associated with the requirement to include such non-cash income in taxable and accounting income prior to receipt of cash, including the following:
•The higher interest rates on PIK instruments reflect the payment deferral and increased credit risk associated with these instruments, and PIK instruments generally represent a significantly higher credit risk than coupon loans;
•Original issue discount and PIK instruments may have unreliable valuations because the accruals require judgments about collectability of the deferred payments and the value of any associated collateral;
•An election to defer PIK interest payments by adding them to the principal on such instruments increases our future investment income which increases our gross assets and, as such, increases FS/EIG Advisor’s future base management fees which, thus, increases FS/EIG Advisor’s future income incentive fees at a compounding rate;
•Market prices of PIK instruments and other zero coupon instruments are affected to a greater extent by interest rate changes, and may be more volatile than instruments that pay interest periodically in cash. While PIK instruments are usually less volatile than zero coupon debt instruments, PIK instruments are generally more volatile than cash pay securities;
•The deferral of PIK interest on an instrument increases the loan-to-value ratio, which is a measure of the riskiness of a loan, with respect to such instrument;
•Even if the conditions for income accrual under GAAP are satisfied, a borrower could still default when actual payment is due upon the maturity of such loan;
•For accounting purposes, cash distributions to investors representing original issue discount income are not derived from paid-in capital, although they may be paid from the offering proceeds. Thus, although a distribution of original issue discount income may come from the cash invested by investors, the 1940 Act does not require that investors be given notice of this fact;
•Tax legislation requires that income be recognized for tax purposes no later than when recognized for financial reporting purposes;
•The required recognition of PIK interest for U.S federal income tax purposes may have a negative impact on liquidity, as it represents a non-cash component of our investment company taxable income that may require cash distributions to shareholders in order to maintain our ability to be subject to tax as a RIC; and
•Original issue discount may create a risk of non-refundable cash payments to FS/EIG Advisor based on non-cash accruals that may never be realized.
We may from time to time enter into total return swaps, credit default swaps, fixed priced swaps or other derivative transactions which expose us to certain risks, including credit risk, market risk, commodity risk, liquidity risk and other risks similar to those associated with the use of leverage.
We may from time to time enter into total return swaps, credit default swaps or other derivative transactions that seek to modify or replace the investment performance of a particular reference security or other asset. These transactions are typically individually negotiated, non-standardized agreements between two parties to exchange payments, with payments generally calculated by reference to a notional amount or quantity. Swap contracts and similar derivative contracts are not traded on exchanges; rather, banks and dealers act as principals in these markets. These investments may present risks in excess of those resulting from the referenced security or other asset. Because these transactions are not an acquisition of the referenced security or other asset itself, the
investor has no right directly to enforce compliance with the terms of the referenced security or other asset and has no voting or other consensual rights of ownership with respect to the referenced security or other asset. In the event of insolvency of a counterparty, we will be treated as a general creditor of the counterparty and will have no claim of title with respect to the referenced security or other asset.
A total return swap is a contract in which one party agrees to make periodic payments to another party based on the change in the market value of the referenced security or other assets underlying the total return swap during a specified period, in return for periodic payments based on a fixed or variable interest rate.
A total return swap is subject to market risk, liquidity risk and risk of imperfect correlation between the value of the total return swap and the debt obligations underlying the total return swap. In addition, we may incur certain costs in connection with a total return swap that could in the aggregate be significant.
A credit default swap is a contract in which one party buys or sells protection against a credit event with respect to an issuer, such as an issuer’s failure to make timely payments of interest or principal on its debt obligations, bankruptcy or restructuring during a specified period. Generally, if we sell credit protection using a credit default swap, we will receive fixed payments from the swap counterparty and if a credit event occurs with respect to the applicable issuer, we will pay the swap counterparty par for the issuer’s defaulted debt securities and the swap counterparty will deliver the defaulted debt securities to us. Generally, if we buy credit protection using a credit default swap, we will make fixed payments to the counterparty and if a credit event occurs with respect to the applicable issuer, we will deliver the issuer’s defaulted securities underlying the swap to the swap counterparty and the counterparty will pay us par for the defaulted securities. Alternatively, a credit default swap may be cash settled and the buyer of protection would receive the difference between the par value and the market value of the issuer’s defaulted debt securities from the seller of protection.
Credit default swaps are subject to the credit risk of the underlying issuer. If we are selling credit protection, there is a risk that we will not properly assess the risk of the underlying issuer, a credit event will occur and we will have to pay the counterparty. If we are buying credit protection, there is a risk that we will not properly assess the risk of the underlying issuer, no credit event will occur and we will receive no benefit for the premium paid.
A fixed price swap is a contract between two parties in which settlements are made at a specified time based on the difference between the fixed priced specified in the contract and the referenced settlement price. When the referenced settlement price is less than the price specified in the contract, one party receives an amount from the second party based on the price difference multiplied by the volume. Similarly, when the referenced settlement price exceeds the price specified in the contract, one party pays the second party an amount based on the price difference multiplied by the volume.
A fixed price swap is subject to commodity risk of the underlying commodity. If we are purchasing fixed price swaps for oil, there is a risk the fixed price we paid to enter the contract for oil will be more than the price of oil at the specified settlement date, and we will owe the counterparty the difference in price multiplied by the volume of the contracted volume.
A derivative transaction is also subject to the risk that a counterparty will default on its payment obligations thereunder or that we will not be able to meet our obligations to the counterparty. In some cases, we may post collateral to secure our obligations to the counterparty, and we may be required to post additional collateral upon the occurrence of certain events such as a decrease in the value of the reference security or other asset. In some cases, the counterparty may not collateralize any of its obligations to us.
Derivative investments effectively add leverage to a portfolio by providing investment exposure to a security or market without owning or taking physical custody of such security or investing directly in such market. In addition to the risks described above, such arrangements are subject to risks similar to those associated with the use of leverage. See “-Risks Related to Debt Financing.”
We may invest through joint ventures, partnerships or other special purpose vehicles and our investments through these vehicles may entail greater risks, and investments in which we have a non-controlling interest may involve risks specific to third-party management of those investments.
We may co-invest with third parties through partnerships, joint ventures or other entities, thereby acquiring jointly-controlled or non-controlling interests in certain investments in conjunction with participation by one or more third parties in such investment. We may have interests or objectives that are inconsistent with those of the third-party partners or co-venturers. Although we may not have full control over these investments, and therefore may have a limited ability to protect our position therein, we expect that we will negotiate appropriate rights to protect our interests. Nevertheless, such investments may involve risks not present in investments where a third party is not involved, including the possibility that a third-party partner or co-venturer may have financial difficulties, resulting in a negative impact on such investment, may have economic or business interests or goals which are inconsistent with ours, or may be in a position to take (or block) action in a manner contrary to our investment objectives or the increased possibility of
default by, diminished liquidity or insolvency of, the third party, due to a sustained or general economic downturn. Third-party partners or co-venturers may opt to liquidate an investment at a time during which such liquidation is not optimal for us. In addition, we may in certain circumstances be liable for the actions of our third-party partners or co-venturers. In those circumstances where such third parties involve a management group, such third parties may receive compensation arrangements relating to such investments, including incentive compensation arrangements.
Risks Related to Debt Financing
We currently incur indebtedness to make investments, which magnifies the potential for gain or loss on amounts invested in our common shares and may increase the risk of investing in our common shares.
The use of borrowings and other types of financing, also known as leverage, magnifies the potential for gain or loss on amounts invested and, therefore, increases the risks associated with investing in our common shares. When we use leverage to partially finance our investments, through borrowing from banks and other lenders or issuing debt securities, we, and therefore our shareholders, will experience increased risks of investing in our common shares. Any lenders and debt holders would have fixed dollar claims on our assets that are senior to the claims of our shareholders. If the value of our assets increases, then leverage would cause the net asset value attributable to our common shares to increase more sharply than it would have had we not utilized leverage. Conversely, if the value of our assets decreases, leverage would cause net asset value to decline more sharply than it otherwise would have had we not utilized leverage. Similarly, any increase in our income in excess of interest payable on our indebtedness would cause our net investment income to increase more than it would without leverage, while any decrease in our income would cause net investment income to decline more sharply than it would have had we not utilized leverage. Such a decline could negatively affect our ability to make distributions to shareholders. Leverage is generally considered a speculative investment technique.
In addition, the decision to utilize leverage will increase our assets and, as a result, will increase the amount of base management fees payable to FS/EIG Advisor. See “Risks Related to FS/EIG Advisor and its Respective Affiliates-FS/EIG Advisor and its affiliates, including our officers and some of our trustees, face conflicts of interest caused by compensation arrangements with us and our affiliates, which could result in actions that are not in the best interests of our shareholders.”
Illustration. The following table illustrates the effect of leverage on returns from an investment in shares of our common share assuming various annual returns, net of expenses. The calculations in the table below are hypothetical and actual returns may be higher or lower than those appearing below. The calculation assumes (i) $2,003,456 in total assets, (ii) a weighted average cost of funds of 7.77%, (iii) $500,000 in debt outstanding and (iv) $1,503,456 in shareholders' equity. In order to compute the “Corresponding return to shareholders,” the “Assumed Return on Our Portfolio (net of expenses)” is multiplied by the assumed total assets to obtain an assumed return to us. From this amount, the interest expense is calculated by multiplying the assumed weighted average cost of funds times the assumed debt outstanding, and the product is subtracted from the assumed return to us in order to determine the return available to shareholders. The return available to shareholders is then divided by our shareholders' equity to determine the “Corresponding return to shareholders.” Actual interest payments may be different.
Assumed Return on Our Portfolio (net of expenses) (10)% (5)% 0% 5% 10%
Corresponding return to shareholders (15.91)% (9.25)% (2.59)% 4.08% 10.74%
Similarly, assuming (i) approximately $2,003,456 in total assets, (ii) a weighted average cost of funds of approximately 7.77% and (iii) $500,000 in debt outstanding, our assets would need to yield an annual return (net of expenses) of approximately 1.94% in order to cover the annual interest payments on our outstanding debt.
The agreements governing our debt financing arrangement contain, and agreements governing future debt financing arrangements may contain, various covenants which, if not complied with, could have a material adverse effect on our ability to meet our investment obligations and to pay distributions to our shareholders.
The agreements governing our debt financing arrangement contain, and agreements governing future debt financing arrangements may contain, certain financial and operational covenants. These covenants require us and our subsidiaries to, among other things, maintain certain financial ratios, including asset coverage and minimum shareholders’ equity. Compliance with these covenants depends on many factors, some of which are beyond our and their control. In the event of deterioration in the capital markets and pricing levels subsequent to this period, net unrealized depreciation in our and our subsidiaries’ portfolios may increase in the future and could result in non-compliance with certain covenants, or our taking actions which could disrupt our business and impact our ability to meet our investment objectives.
There can be no assurance that we and our subsidiaries will continue to comply with the covenants under our financing arrangements. Failure to comply with these covenants could result in a default which, if we and our subsidiaries were unable to obtain
a waiver, consent or amendment from the debt holders, could accelerate repayment under any or all of our and their debt instruments and thereby force us to liquidate investments at a disadvantageous time and/or at a price which could result in losses, or allow our lenders to sell assets pledged as collateral under our financing arrangements in order to satisfy amounts due thereunder. These occurrences could have a material adverse impact on our liquidity, financial condition, results of operations and ability to pay distributions. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” for a more detailed discussion of the terms of our debt financings.
Risks Related to U.S. Federal Income Tax
We will be subject to corporate-level income tax if we are unable to qualify as a RIC under Subchapter M of the Code or to satisfy the RIC Annual Distribution Requirements.
Besides maintaining our election to be treated as a BDC under the 1940 Act, in order for us to qualify as a RIC under Subchapter M of the Code, we must meet the following annual distribution, income source and asset diversification requirements. See “Item 1. Business-Taxation as a RIC.”
•The Annual Distribution Requirement will be satisfied if we distribute to our shareholders on an annual basis at least 90% of our net ordinary income and net short-term capital gain in excess of net long-term capital loss, if any. We will be subject to a 4% nondeductible U.S. federal excise tax, however, to the extent that we do not satisfy the Excise Tax Avoidance Requirement. Because we use debt financing, we are subject to certain asset coverage ratio requirements under the 1940 Act and are currently, and may in the future become, subject to certain financial covenants under loan and credit agreements that could, under certain circumstances, restrict us from making distributions necessary to satisfy the Annual Distribution Requirement. If we are unable to obtain cash from other sources, we could fail to qualify for RIC tax treatment and thus become subject to corporate-level U.S. federal income tax.
•The 90% Income Test will be satisfied if we earn at least 90% of our gross income for each tax year from dividends, interest, gains from the sale of securities or similar sources.
•The Diversification Tests will be satisfied if we meet certain asset diversification requirements at the end of each quarter of our tax year. To satisfy these requirements, at least 50% of the value of our assets must consist of cash, cash equivalents, U.S. government securities, securities of other RICs, and other securities if such securities of any one issuer do not represent more than 5% of the value of our assets or more than 10% of the outstanding voting securities of such issuer; and no more than 25% of the value of our assets can be invested in the securities, other than U.S. government securities or securities of other RICs, of one issuer, of two or more issuers that are controlled, as determined under applicable Code rules, by us and that are engaged in the same or similar or related trades or businesses or of certain "qualified publicly traded partnerships." Failure to meet these requirements may result in our having to dispose of certain investments quickly in order to prevent the loss of RIC status. Because most of our investments will be in private companies, and therefore will be relatively illiquid, any such dispositions could be made at disadvantageous prices and could result in substantial losses.
We must satisfy these tests on an ongoing basis in order to maintain RIC tax treatment, and may be required to make distributions to shareholders at times when it would be more advantageous to invest cash in our existing or other investments, or when we do not have funds readily available for distribution. Compliance with the RIC tax requirements may hinder our ability to operate solely on the basis of maximizing profits and the value of our shareholders’ investments. Also, the rules applicable to our qualification as a RIC are complex, with many areas of uncertainty. If we fail to qualify for or maintain RIC tax treatment for any reason and are subject to corporate income tax, the resulting corporate taxes could substantially reduce our net assets, the amount of income available for distribution and the amount of our distributions. Such a failure may have a material adverse effect on us and on any investment in us. The Code provides certain forms of relief from RIC disqualification due to failures of the 90% Income Test or any of the Diversification Tests, although there may be additional taxes due in such cases. We cannot assure you that we would qualify for any such relief should we fail either the 90% Income Test or any of the Diversification Tests.
Some of our investments may be subject to corporate-level income tax.
We may invest in certain debt and equity investments through taxable subsidiaries and the taxable income of these taxable subsidiaries will be subject to federal and state corporate income taxes. We may invest in certain foreign debt and equity investments which could be subject to foreign taxes (such as income tax, withholding and value added taxes).
We may have difficulty paying our required distributions if we recognize income before or without receiving cash representing such income.
For U.S. federal income tax purposes, we may be required to recognize taxable income in circumstances in which we do not receive a corresponding payment in cash. For example, our investments may include debt obligations that are treated under applicable tax rules as having original issue discount (such as debt instruments with PIK interest or, in certain cases, increasing interest rates or debt obligations that were issued with warrants). To the extent original issue discount or PIK interest constitutes a portion of our income, we must include in taxable income each tax year a portion of the original issue discount or PIK interest that accrues over the life of the instrument, regardless of whether cash representing such income is received by us in the same tax year. We may also have to include in income other amounts that we have not yet received in cash, such as deferred loan origination fees that are paid after origination of the loan or are paid in non-cash compensation such as warrants or stock. We anticipate that a portion of our income may constitute original issue discounts or other income required to be included in taxable income prior to receipt of cash. Further, we may elect to amortize market discounts and include such amounts in our taxable income in the current tax year, instead of upon disposition, as not making the election would limit our ability to deduct interest expenses for tax purposes.
Because any original issue discount or other amounts accrued will be included in our investment company taxable income for the tax year of the accrual, we may be required to make a distribution to our shareholders in order to satisfy the Annual Distribution Requirement, even though we will not have received any corresponding cash amount. As a result, we may have difficulty meeting the Annual Distribution Requirement necessary to maintain RIC tax treatment under Subchapter M of the Code. We may have to sell some of our investments at times and/or at prices we would not consider advantageous, raise additional debt or equity capital or forgo new investment opportunities for this purpose. If we are not able to obtain cash from other sources, we may fail to qualify for or maintain RIC tax treatment and thus become subject to corporate-level income tax.
Furthermore, we may invest in the equity securities of non-U.S. corporations (or other non-U.S. entities classified as corporations for U.S. federal income tax purposes) that could be treated under the Code and U.S. Treasury regulations as “passive foreign investment companies” and/or “controlled foreign corporations.” The rules relating to investment in these types of non-U.S. entities are designed to ensure that U.S. taxpayers are either, in effect, taxed currently (or on an accelerated basis with respect to corporate level events) or taxed at increased tax rates at distribution or disposition. In certain circumstances, these rules also could require us to recognize taxable income or gains where we do not receive a corresponding payment in cash and, unless the income and gains are related to our business of investing in stocks and securities, all or a portion of such taxable income and gains may not be considered qualifying income for purposes of the 90% Income Test.
Our portfolio investments may present special tax issues.
Investments in below-investment grade debt instruments and certain equity securities may present special tax issues for us. U.S. federal income tax rules are not entirely clear about issues such as when we may cease to accrue interest, original issue discount or market discount, when and to what extent deductions may be taken for bad debts or worthless debt in equity securities, how payments received on obligations in default should be allocated between principal and interest income, as well as whether exchanges of debt instruments in a bankruptcy or workout context are taxable. Such matters could cause us to recognize taxable income for U.S. federal income tax purposes, even in the absence of cash or economic gain, and require us to make taxable distributions to our shareholders to maintain our RIC status or preclude the imposition of either U.S. federal corporate income or excise taxation.
Additionally, because such taxable income may not be matched by corresponding cash received by us, we may be required to borrow money or dispose of other investments to be able to make distributions to our shareholders. These and other issues will be considered by us, to the extent determined necessary, in order that we minimize the level of any U.S. federal income or excise tax that we would otherwise incur. See “Item 1. Business-Taxation as a RIC.”
If we do not qualify as a “publicly offered regulated investment company,” as defined in the Code, you may be taxed as though you received a distribution of some of our expenses.
A “publicly offered regulated investment company” is a RIC whose shares are either (i) continuously offered pursuant to a public offering, (ii) regularly traded on an established securities market or (iii) held by at least 500 persons at all times during the tax year. If we do not qualify as a publicly offered regulated investment company for any tax year, a noncorporate shareholder’s allocable portion of our affected expenses, including our management fees, will be treated as an additional distribution to the shareholder and will be deductible by such shareholder only to the extent permitted under the limitations described below. For noncorporate shareholders, including individuals, trusts, and estates, significant limitations generally apply to the deductibility of certain expenses of a non-publicly offered regulated investment company, including management fees. In particular, these expenses, referred to as miscellaneous itemized deductions, are deductible to an individual only to the extent they exceed 2% of such a shareholder’s adjusted gross income for the taxable years after 2025 and are entirely not deductible against gross income before 2026, are not deductible for alternative minimum tax purposes and are subject to the overall limitation on itemized deductions imposed by the Code. Although we
believe that we are currently considered a publicly offered regulated investment company, as defined in the Code, there can be no assurance, however, that we will be considered a publicly offered regulated investment company in the future.
Legislative or regulatory tax changes could adversely affect investors.
At any time, the federal income tax laws governing RICs or the administrative interpretations of those laws or regulations may be amended. Any of those new laws, regulations or interpretations may take effect retroactively and could adversely affect the taxation of us or our shareholders. Therefore, changes in tax laws, regulations or administrative interpretations or any amendments thereto could diminish the value of an investment in our shares or the value or the resale potential of our investments.
Risks Related to an Investment in Our Common Shares
Our common shares are not listed on an exchange or quoted through a quotation system, and will not be for the foreseeable future, if ever. Therefore, shareholders will have limited liquidity and may not receive a full return of invested capital upon selling common shares.
Our common shares are illiquid assets for which there is not a secondary market and it is not expected that any will develop in the foreseeable future. There can be no assurance that we will complete a liquidity event. A liquidity event could include (1) a listing of our common shares on a national securities exchange, (2) the sale of all or substantially all of our assets either on a complete portfolio basis or individually followed by a liquidation or (3) a merger or another transaction approved by our board of trustees in which our shareholders likely will receive cash or shares of a publicly-traded company, including potentially a company that is an affiliate of us.
In addition, any shares repurchased pursuant to our share repurchase program may be purchased at a price which may reflect a discount from the purchase price a shareholder paid for the common shares being repurchased. If our common shares are listed, we cannot assure shareholders that a public trading market will develop. In addition, a liquidity event involving a listing of our common shares on a national securities exchange may include certain restrictions on the ability of shareholders to sell their common shares. Further, even if we do complete a liquidity event, shareholders may not receive a return of all of their invested capital.
See “Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities-Share Repurchase Program, De Minimis Account Liquidation and Distributions” for a detailed description of our share repurchase program.
We are not obligated to complete a liquidity event by a specified date; therefore, it will be difficult for an investor to sell his or her common shares.
A liquidity event could include (1) a listing of our common shares on a national securities exchange, (2) the sale of all or substantially all of our assets either on a complete portfolio basis or individually followed by a liquidation, or (3) a merger or another transaction approved by our board of trustees in which our shareholders likely will receive cash or shares of a publicly-traded company, including potentially a company that is an affiliate of us. However, there can be no assurance that we will complete a liquidity event by a specified date or at all. If we do not successfully complete a liquidity event, liquidity for an investor's common shares will be limited to our share repurchase program, which we have no obligation to maintain.
Only a limited number of common shares may be repurchased pursuant to our share repurchase program, if any, and, to the extent shareholders are able to sell their common shares under our share repurchase program, shareholders may not be able to recover the amount of their investment in those shares.
Our share repurchase program includes numerous restrictions that limit shareholders' ability to sell their common shares. Historically, we limited the number of common shares repurchased pursuant to our share repurchase program as follows: (1) we limited the number of common shares to be repurchased during any calendar year to the number of common shares we could repurchase with the proceeds we received from the issuance of our common shares under our distribution reinvestment plan, although at the discretion of our board of trustees, we could also use cash on hand, cash available from borrowings and cash from the liquidation of securities investments as of the end of the applicable period to repurchase common shares; (2) we limited the number of common shares to be repurchased in any calendar year to 10% of the weighted average number of common shares outstanding in the prior calendar year, or 2.5% in each calendar quarter (though the actual number of common shares that we offered to repurchase could be less in light of the limitations noted above); (3) unless shareholders tendered all of their common shares, shareholders must tender at least 25% of the number of common shares they have purchased and generally must maintain a minimum balance of $5,000 subsequent to submitting a portion of their common shares for repurchase by us; and (4) to the extent that the number of common shares tendered for repurchase exceeded the number of common shares that we were able to repurchase, we would repurchase common shares on a pro rata basis, not on a first-come, first-served basis. Furthermore, the maximum number of common shares to be
repurchased for any repurchase offer could further be limited by the terms of our financing arrangements. See Note 9 to our consolidated financial statements contained in this annual report on Form 10-K for a discussion of the terms of our financing arrangements. In addition to the historical limitations described above, which we intend to apply in the future, we will have no obligation to repurchase common shares if the repurchase would violate the restrictions on distributions under federal law or Delaware law, which prohibits distributions that would cause a trust to fail to meet statutory tests of solvency. Any of the foregoing limitations may prevent us from accommodating all repurchase requests made in any year.
Our share repurchase program is currently suspended. In addition, in the future, our board of trustees may amend, suspend or terminate the share repurchase program upon 30 days' notice. In March 2020, our board of trustees determined to suspend for an indefinite period of time our share repurchase program and will reassess our ability to recommence such program in future periods. We will notify shareholders of such developments (1) in our quarterly reports or (2) by means of a separate mailing to shareholders, accompanied by disclosure in a current or periodic report under the Exchange Act. In addition, although we have adopted a share repurchase program generally, we have discretion to not repurchase common shares, to suspend the share repurchase program and to cease repurchases. Further, the share repurchase program has many limitations and should not be relied upon as a method to sell common shares promptly or at a desired price. Our distribution reinvestment plan was terminated effective September 15, 2023.
There is a risk that investors in our common shares may not receive distributions or that our distributions may not grow over time.
We cannot assure shareholders that we will achieve investment results that will allow us to make a specified level of cash distributions or year-to-year increases in cash distributions. All distributions will be paid at the discretion of our board of trustees and will depend on our earnings, our net investment income, our financial condition, maintenance of our RIC status, compliance with applicable BDC regulations and such other factors as our board of trustees may deem relevant from time to time. In addition, due to the asset coverage test applicable to us as a BDC, we may be limited in our ability to make distributions. See “Item 1. Business-Regulation-Senior Securities.”
Our distribution proceeds have exceeded and in the future may exceed our earnings. Therefore, portions of the distributions that we have made represented, and may make in the future may represent, a return of capital to shareholders, which lowers their tax basis in their common shares.
We may pay all or a substantial portion of our distributions from the proceeds of our continuous public offering or from borrowings in anticipation of future cash flow, which may constitute a return of shareholders’ capital and will lower such shareholders’ tax basis in their common shares. For instance, we expect a portion of the enhanced distributions expected to be paid to shareholders until the achievement of a long-term liquidity event may represent a return of capital to shareholders. A return of capital generally is a return of a shareholder’s investment rather than a return of earnings or gains derived from our investment activities and will be made after deducting the fees and expenses payable in connection with the offering, including any fees payable to FS/EIG Advisor. Moreover, a return of capital will generally not be taxable, but will reduce each shareholder’s cost basis in our common shares, and will result in a higher reported capital gain or lower reported capital loss when the common shares on which such return of capital was received are sold.
We may pay distributions from borrowings or the sale of assets to the extent our cash flows from operations, net investment income or earnings are not sufficient to fund declared distributions.
We may fund distributions from the uninvested proceeds of our continuous public offering and borrowings, and we have not established limits on the amount of funds we may use from such sources to make any such distributions. We have paid and may continue to pay distributions from the sale of assets to the extent distributions exceed our earnings or cash flows from operations.
The timing of our repurchase offers pursuant to our share repurchase program, if any, may be at a time that is disadvantageous to our shareholders.
If and when we make quarterly repurchase offers pursuant to our share repurchase program, we may offer to repurchase common shares at a price that is lower than the price that investors paid for common shares in our offering. As a result, to the extent investors have the ability to sell their common shares to us as part of our share repurchase program, the price at which an investor may sell common shares may be lower than what an investor paid in connection with the purchase of common shares in our offering.
In addition, in the event an investor chooses to participate in our share repurchase program, the investor will be required to provide us with notice of intent to participate prior to knowing what the repurchase price will be on the repurchase date. Although an investor will have the ability to withdraw a repurchase request prior to the expiration date of such tender offer, to the extent an investor seeks to sell common shares to us as part of our share repurchase program, the investor will be required to do so without knowledge of what the repurchase price of our common shares will be on the repurchase date.
A shareholder's interest in us will be diluted if we issue additional common shares, which could reduce the overall value of an investment in us.
Our investors do not have preemptive rights to any common shares we issue in the future. Our declaration of trust authorizes us to issue 700,000,000 common shares. Pursuant to our declaration of trust, a majority of our entire board of trustees may amend our declaration of trust to increase the number of authorized common shares without shareholder approval. After an investor purchases common shares, our board of trustees may elect to sell additional common shares in the future, issue equity interests in private offerings or issue share-based awards to our independent trustees or employees of FS/EIG Advisor. To the extent we issue additional equity interests after an investor purchases our common shares, an investor's percentage ownership interest in us will be diluted. In addition, depending upon the terms and pricing of any additional offerings and the value of our investments, an investor may also experience dilution in the book value and fair value of their common shares.
Certain provisions of our declaration of trust and bylaws could deter takeover attempts and have an adverse impact on the value of our common shares.
Our declaration of trust and bylaws, as well as certain statutory and regulatory requirements, contain certain provisions that may have the effect of discouraging a third party from attempting to acquire us. Our board of trustees may, without shareholder action, authorize the issuance of shares in one or more classes or series, including preferred shares; and our board of trustees may, without shareholder action, amend our declaration of trust to increase the number of our common shares, of any class or series, that we have authority to issue. In addition, a trustee may be removed only by vote of at least two-thirds of the votes entitled to be cast. These anti-takeover provisions may inhibit a change of control in circumstances that could give the holders of our common shares the opportunity to realize a premium over the value of our common shares.
General Risk Factors
Future disruptions or instability in capital markets could negatively impact the valuation of our investments and our ability to raise capital.
From time to time, the global capital markets may experience periods of disruption and instability, which could be prolonged and which could materially and adversely impact the broader financial and credit markets, have a negative impact on the valuations of our investments and reduce the availability to us of debt and equity capital. For example, between 2008 and 2009, instability in the global capital markets resulted in disruptions in liquidity in the debt capital markets, significant write-offs in the financial services sector, the re-pricing of credit risk in the broadly syndicated credit market and the failure of major domestic and international financial institutions. In particular, the financial services sector was negatively impacted by significant write-offs as the value of the assets held by financial firms declined, impairing their capital positions and abilities to lend and invest. While market conditions have recovered from the events of 2008 and 2009, there have been continuing periods of volatility. For example, continued uncertainty surrounding the negotiation of trade deals between Britain and the European Union following the United Kingdom’s exit from the European Union and uncertainty between the United States and other countries with respect to trade policies, treaties, and tariffs, among other factors, have caused disruption in the global markets. There can be no assurance that market conditions will not worsen in the future.
While most of our investments are not publicly traded, applicable accounting standards require us to assume as part of our valuation process that our investments are sold in a principal market to market participants (even if we plan on holding an investment through its maturity) and impairments of the market values or fair market values of our investments, even if unrealized, must be reflected in our financial statements for the applicable period, which could result in significant reductions to our net asset value for the period. With certain limited exceptions, we are only allowed to borrow amounts or issue debt securities if our asset coverage, as calculated pursuant to the 1940 Act, equals at least 200% immediately after such borrowing. Equity capital may also be difficult to raise during periods of adverse or volatile market conditions because, subject to some limited exceptions, as a BDC, we are generally not able to issue additional shares of our common shares at a price less than net asset value without first obtaining approval for such issuance from our shareholders and our independent trustees. If we are unable to raise capital or refinance existing debt on acceptable terms, then we may be limited in our ability to make new commitments or to fund existing commitments to our portfolio companies. Significant changes in the capital markets may also affect the pace of our investment activity and the potential for liquidity events involving our investments. Thus, the illiquidity of our investments may make it difficult for us to sell such investments to access capital if required, and as a result, we could realize significantly less than the value at which we have recorded our investments if we were required to sell them for liquidity purposes.
Future economic recessions or downturns could impair our portfolio companies and harm our operating results.
Many of our portfolio companies may be susceptible to economic slowdowns or recessions and may be unable to repay our loans or meet other obligations during these periods. Therefore, our non-performing assets are likely to increase, and the value of our portfolio is likely to decrease during these periods. Adverse economic conditions may also decrease the value of any collateral
securing our debt investments and the value of our equity investments. Economic slowdowns or recessions could lead to losses of value in our portfolio and a decrease in our revenues, net income, net worth and assets. Unfavorable economic conditions also could increase our funding costs, limit our access to the capital markets or result in a decision by lenders not to extend credit to us on terms we deem acceptable. These events could prevent us from increasing investments and harm our operating results. Economic downturns or recessions may also result in a portfolio company’s failure to satisfy financial or operating covenants imposed by us or other lenders. This could lead to defaults and, potentially, acceleration of the time when the loans are due and foreclosure on its assets representing collateral for its obligations, which could trigger cross defaults under other agreements and jeopardize our portfolio company’s ability to meet its obligations under the debt that we hold and the value of any equity securities we own. We may incur expenses to the extent necessary to seek recovery upon default or to negotiate new terms with a defaulting portfolio company. In addition, if one of our portfolio companies were to go bankrupt, even though we may have structured our interest as senior debt or preferred equity, depending on the facts and circumstances, including the extent to which we actually provided managerial assistance to that portfolio company, a bankruptcy court might recharacterize our debt or equity holding and subordinate all or a portion of our claim to those of other creditors.
Events outside of our control, including public health crises, could negatively affect our portfolio companies and our results of operations.
Periods of market volatility have occurred and could continue to occur in response to pandemics or other events outside of our control. We, FS/EIG Advisor, and the portfolio companies in which we invest in could be affected by force majeure events (i.e., events beyond the control of the party claiming that the event has occurred, such as acts of God, fire, flood, earthquakes, outbreaks of an infectious disease, pandemic or any other serious public health concern, war, terrorism, labor strikes, major plant breakdowns, pipeline or electricity line ruptures, failure of technology, defective design and construction, accidents, demographic changes, government macroeconomic policies, social instability, etc.). Some force majeure events could adversely affect the ability of a party (including us, FS/EIG Advisor, a portfolio company or a counterparty to us, FS/EIG Advisor, or a portfolio company) to perform its obligations until it is able to remedy the force majeure event. In addition, force majeure events, such as the cessation of the operation of equipment for repair or upgrade, could similarly lead to the unavailability of essential equipment and technologies. These risks could, among other effects, adversely impact the cash flows available from a portfolio company, cause personal injury or loss of life, including to a senior manager of FS/EIG Advisor or its affiliates, damage property, or instigate disruptions of service. In addition, the cost to a portfolio company or us of repairing or replacing damaged assets resulting from such force majeure event could be considerable. It will not be possible to insure against all such events, and insurance proceeds received, if any, could be inadequate to completely or even partially cover any loss of revenues or investments, any increases in operating and maintenance expenses, or any replacements or rehabilitation of property. Certain events causing catastrophic loss could be either uninsurable, or insurable at such high rates as to adversely impact us, FS/EIG Advisor, or portfolio companies, as applicable. Force majeure events that are incapable of or are too costly to cure could have permanent adverse effects. Certain force majeure events (such as war or an outbreak of an infectious disease) could have a broader negative impact on the world economy and international business activity generally, or in any of the countries in which we invest or our portfolio companies operate specifically. Such force majeure events could result in or coincide with: increased volatility in the global securities, derivatives and currency markets; a decrease in the reliability of market prices and difficulty in valuing assets; greater fluctuations in currency exchange rates; increased risk of default (by both government and private issuers); further social, economic, and political instability; nationalization of private enterprise; greater governmental involvement in the economy or in social factors that impact the economy; less governmental regulation and supervision of the securities markets and market participants and decreased monitoring of the markets by governments or self-regulatory organizations and reduced enforcement of regulations; limited, or limitations on, the activities of investors in such markets; controls or restrictions on foreign investment, capital controls and limitations on repatriation of invested capital; inability to purchase and sell investments or otherwise settle security or derivative transactions (i.e., a market freeze); unavailability of currency hedging techniques; substantial, and in some periods extremely high, rates of inflation, which can last many years and have substantial negative effects on credit and securities markets as well as the economy as a whole; recessions; and difficulties in obtaining and/or enforcing legal judgments.
We are currently operating in a period of capital markets disruption and economic uncertainty.
The success of our activities is affected by general economic and market conditions, including, among others, interest rates, availability of credit, inflation rates, economic uncertainty, changes in laws, and trade barriers. These factors could affect the level and volatility of securities prices and the liquidity of our investments. Volatility or illiquidity could impair our profitability or result in losses. These factors also could adversely affect the availability or cost of our leverage, which would result in lower returns. In addition, the U.S. capital markets have experienced extreme volatility and disruption including certain regional bank failures, and an inflationary economic environment. Disruptions in the capital markets have increased the spread between the yields realized on risk-free and higher risk securities, resulting in illiquidity in parts of the capital markets.
These and future market disruptions and/or illiquidity would be expected to have an adverse effect on our business, financial condition, results of operations and cash flows. Unfavorable economic conditions also would be expected to increase our funding
costs, limit our access to the capital markets or result in a decision by lenders not to extend credit to us. These events have limited and could continue to limit our investment originations, limit our ability to grow and have a material negative impact on our operating results and the fair values of our debt and equity investments.
If a period of capital market disruption and instability continues for an extended period of time, there is a risk that investors in our equity securities may not receive distributions consistent with historical levels or at all or that our distributions may not grow over time and a portion of our distributions may be a return of capital.
In the past, our board of trustees has suspended declaring regular cash distributions to shareholders until such time that our board of trustees and FS/EIG Advisor believe that market conditions and our financial condition support the resumption of such distributions. Our future ability to pay regular distributions consistent with our historical range or to pay distributions fully in cash rather than in common shares might be adversely affected by the impact of one or more of the risk factors described in this annual report on Form 10-K. If we are unable to satisfy the asset coverage test applicable to us under the 1940 Act as a business development company or if we violate certain covenants under our existing or future credit facilities or other leverage, we may also be limited in our ability to make distributions. If we declare a distribution and if more shareholders opt to receive cash distributions rather than participate in our dividend reinvestment plan, we may be forced to sell some of our investments in order to make cash distribution payments. To the extent we make distributions to shareholders that include a return of capital, such portion of the distribution essentially constitutes a return of the shareholder’s investment. Although such return of capital may not be taxable, such distributions would generally decrease a shareholder’s basis in our common shares and may therefore increase such shareholder’s tax liability for capital gains upon the future sale of such shares. A return of capital distribution may cause a shareholder to recognize a capital gain from the sale of our common shares even if the shareholder sells its shares for less than the original purchase price.
Uncertainty about federal government initiatives could negatively impact our business, financial condition and results of operations.
There is significant uncertainty with respect to legislation, regulation and government policy at the federal level, as well as the state and local levels. Recent events, including the 2024 U.S. presidential election, have created a climate of heightened uncertainty and introduced new and difficult-to-quantify macroeconomic and political risks with potentially far-reaching implications. The presidential administration's changes to U.S. policy may impact, among other things, the U.S. and global economy, international trade and relations, unemployment, immigration, corporate taxes, healthcare, the U.S. regulatory environment, inflation and other areas. Although we cannot predict the impact, if any, of these changes to our business, they could adversely affect our business, financial condition, operating results and cash flows. Until we know what policy changes are made and how those changes impact our business and the business of our competitors over the long term, we will not know if, overall, we will benefit from them or be negatively affected by them.
Global economic, political and market conditions may adversely affect our business, results of operations and financial condition.
The current global financial market situation, as well as various social and political tensions in the United States and around the world (including the current conflict in Ukraine and Russia and the conflicts in the Middle East) may contribute to increased market volatility, may have long-term effects on the United States and worldwide financial markets and may cause economic uncertainties or deterioration in the U.S. and worldwide. For example, the impact of downgrades by rating agencies to the U.S. government’s sovereign credit rating or its perceived creditworthiness as well as potential government shutdowns and uncertainty surrounding transfers of power could adversely affect the U.S. and global financial markets and economic conditions. Since 2010, several EU countries have faced budget issues, some of which may have negative long-term effects for the economies of those countries and other EU countries. There is ongoing concern about national-level support for the Euro and the accompanying coordination of fiscal and wage policy among European Economic and Monetary Union member countries. In addition, the fiscal policy of foreign nations, such as Russia and China, may have a severe impact on the worldwide and U.S. financial markets. The U.K.’s decision to leave the EU (the so-called “Brexit”) led to volatility in global financial markets. The longer term economic, legal, political and social implications of Brexit remain unclear. Brexit has led to ongoing political and economic uncertainty and periods of increased volatility in both the U.K. and in wider European markets for some time. Brexit could lead to calls for similar referendums in other European jurisdictions, which could cause increased economic volatility in the European and global markets. This mid- to long-term uncertainty could have adverse effects on the economy generally and on our ability to earn attractive returns. In particular, currency volatility could mean that our returns are adversely affected by market movements and could make it more difficult, or more expensive, for us to execute prudent currency hedging policies. Potential decline in the value of the British Pound and/or the Euro against other currencies, along with the potential further downgrading of the U.K.’s sovereign credit rating, could also have an impact on the performance of certain investments made in the U.K. or Europe.
The ongoing invasion of Ukraine by Russia and related sanctions have increased global political and economic uncertainty. Because Russia is a major exporter of oil and natural gas, the invasion and related economic sanctions have reduced the supply, and increased the price, of energy, which has a material effect on inflation and may continue to exacerbate ongoing supply chain issues.
There is also the ongoing risk of retaliatory actions by Russia against countries which have enacted sanctions, including cyberattacks against financial and governmental institutions, which could result in business disruptions and further economic turbulence. Although we have no direct exposure to Russia or Ukraine, the broader consequences of the invasion may have a material adverse impact on our portfolio and the value of an investment in us. Moreover, sanctions and export control laws and regulations are complex, frequently changing, and increasing in number, and they may impose additional legal compliance costs or business risks associated with our operations.
Similarly, conflicts in the Middle East, including the conflict between Israel and Hamas, could have a negative impact on the economy and business activity globally, and therefore could adversely impact the performance of our investments. The severity and duration of any such conflict and its future impact on global economic and market conditions (including, for example, oil prices and/or the shipping industry) are impossible to predict, and as a result, present material uncertainty and risk with respect to us, the performance of our investments and operations, and our ability to achieve our investment objectives. Similar risks exist to the extent that any portfolio companies, service providers, vendors or certain other parties have material operations or assets in the Middle East or the immediate surrounding areas.
FS/EIG Advisor's financial condition may be adversely affected by a significant general economic downturn and it may be subject to legal, regulatory, reputational and other unforeseen risks that could have a material adverse effect on FS/EIG Advisor's businesses and operations (including ours). A recession, slowdown and/or sustained downturn in the global economy (or any particular segment thereof) could have a pronounced impact on us and could adversely affect our profitability, impede the ability of us and/or our portfolio companies to perform under or refinance their existing obligations and impair our ability to effectively deploy our capital or realize its investments on favorable terms.
Any of the foregoing events could result in substantial or total losses to us in respect of certain investments, which losses will likely be exacerbated by the presence of leverage in a portfolio company's capital structure.
Changes to United States tariff and import/export regulations may have a negative effect on our portfolio companies.
There have been significant changes to United States trade policies, treaties and tariffs, and in the future there may be additional significant changes. These and any future developments, and continued uncertainty surrounding trade policies, treaties and tariffs, may have a material adverse effect on global economic conditions, inflation and the stability of global financial markets, and may significantly reduce global trade and, in particular, trade between the impacted nations and the United States. Any of these factors could depress economic activity and restrict our portfolio companies’ access to suppliers or customers, increase their supply-chain costs and expenses and could have material adverse effects on our business, financial condition and results of operations.
Economic sanction laws in the United States and other jurisdictions may prohibit us and our affiliates from transacting with certain countries, individuals and companies.
Economic sanction laws in the United States and other jurisdictions may prohibit us or our affiliates from transacting with certain countries, individuals and companies. In the United States, the U.S. Department of the Treasury’s Office of Foreign Assets Control administers and enforces laws, executive orders and regulations establishing U.S. economic and trade sanctions, which prohibit, among other things, transactions with, and the provision of services to, certain non-U.S. countries, territories, entities and individuals. These types of sanctions may significantly restrict or completely prohibit investment activities in certain jurisdictions, and if we, our portfolio companies or other issuers in which we invest were to violate any such laws or regulations, we may face significant legal and monetary penalties.
The Foreign Corrupt Practices Act, or FCPA, and other anti-corruption laws and regulations, as well as anti-boycott regulations, may also apply to and restrict our activities, our portfolio companies and other issuers of our investments. If an issuer or we were to violate any such laws or regulations, such issuer or we may face significant legal and monetary penalties. The U.S. government has indicated that it is particularly focused on FCPA enforcement, which may increase the risk that an issuer or we become the subject of such actual or threatened enforcement. In addition, certain commentators have suggested that private investment firms and the funds that they manage may face increased scrutiny and/or liability with respect to the activities of their underlying portfolio companies. As such, a violation of the FCPA or other applicable regulations by us or an issuer of our portfolio investments could have a material adverse effect on us. We are committed to complying with the FCPA and other anti-corruption laws and regulations, as well as anti-boycott regulations, to which it is subject. As a result, we may be adversely affected because of its unwillingness to enter into transactions that violate any such laws or regulations.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
Item 1B. Unresolved Staff Comments.
Not applicable.

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ITEM 2. PROPERTIES
Item 2. Properties.
We do not own any real estate or other physical properties materially important to our operation. Our headquarters are located at 201 Rouse Boulevard, Philadelphia, Pennsylvania, 19112. We believe that our office facilities are suitable and adequate for our business as it is presently conducted.

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ITEM 3. LEGAL PROCEEDINGS
Item 3. Legal Proceedings.
We are not currently subject to any material legal proceedings, and, to our knowledge, no material legal proceedings are threatened against us. From time to time, we may be party to certain legal proceedings in the ordinary course of business, including proceedings relating to the enforcement of our rights under contracts with our portfolio companies. While the outcome of any legal proceedings cannot be predicted with certainty, we do not expect that any such proceedings will have a material adverse effect on our financial condition or results of operations.

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ITEM 4. MINE SAFETY DISCLOSURE
Item 4. Mine Safety Disclosures.
Not applicable.
PART II
Many of the amounts and percentages presented in Part II have been rounded for convenience of presentation and all dollar amounts, excluding per share amounts, are presented in thousands unless otherwise noted.

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Market Information
There is currently no market for our common shares, and we do not expect that a market for our common shares will develop in the foreseeable future. In November 2016, we closed our continuous public offering of common shares to new investors. Following the closing of our continuous public offering, we continued to issue shares pursuant to our distribution reinvestment plan until it was terminated effective September 15, 2023.
Set forth below is a chart describing the classes of our securities outstanding as of March 3, 2025:
(1) (2) (3) (4)
Title of Class Amount
Authorized Amount Held by Us or
for Our Account Amount Outstanding
Exclusive of Amount
Under Column (3)
Common Shares 700,000,000 - 455,506,155
As of March 3, 2025, we had 87,221 record holders of our common shares.
Share Repurchase Program, De Minimis Account Liquidation and Distributions
In March 2020, our board of trustees determined to suspend for an indefinite period of time our share repurchase program and will reassess our ability to recommence such program in future periods. As a result, no common shares were purchased pursuant to our share repurchase program and there were no de minimis account liquidations during the year ended December 31, 2024.
Subject to applicable legal restrictions and the sole discretion of our board of trustees, we expect to provide enhanced quarterly distributions to shareholders until the achievement of a long-term liquidity event. For the quarter ended December 31, 2024, the distribution amount per share was $0.0821, comprised of an initial distribution per share of $0.0753 declared in December 2024 and the remaining distribution per share of $0.0068 declared in January 2025, representing an annualized distribution rate to shareholders of approximately 10.0% based on the net asset value of $3.30 per share as of December 31, 2024. The enhanced distributions are expected to be paid quarterly and increase in subsequent years until the achievement of a long-term liquidity event, subject to a maximum cap of 15.0% of our then-current estimated net asset value beyond 2026. We expect a portion of the distributions may represent a return of investor capital, helping to accelerate liquidity for shareholders in the near-term. There can be no assurance that we will be able to pay distributions in the future. The timing and amount of any future distributions to shareholders are subject to applicable legal restrictions and the sole discretion of our board of trustees.
The following table reflects the cash distributions per share that we have declared on our common shares during the years ended December 31, 2024, 2023 and 2022:
Distribution
For the Year Ended December 31, Per Share Amount
2022 $ 0.1200 $ 53,938
2023 $ 0.1892 $ 86,059
$ 0.3373 $ 153,643
See "Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations-RIC Tax Treatment and Distributions" and Note 5 to our consolidated financial statements contained in this annual report on Form 10-K for additional information regarding our distributions and our distribution reinvestment plan, including certain related tax considerations.
The table below provides information concerning purchases of our common shares by or on behalf of us or any “affiliated purchaser,” as defined by Rule 10b-18(a)(3) promulgated under the Exchange Act during the quarterly period ended December 31, 2024. Dollar amounts in the table below and the related notes are presented in millions, except for share and per share amounts.
Period
Total Number of Shares Purchased
Average Price Paid per Share(1)
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(2)
Maximum Number (or Approximate Dollar Value) of Shares that May Yet Be Purchased Under the Plans or Programs
October 1, 2024 through October 31, 2024
- $ - - $ -
November 1, 2024 through November 30, 2024
- - - -
December 1, 2024 through December 31, 2024
- - - -
- $ - -
____________
(1) Amount includes commissions paid.
(2) Includes amounts pursuant to the Share Repurchase Program and Affiliated Purchaser Program.

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ITEM 6. SELECTED FINANCIAL DATA
Item 6. Reserved

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
(in thousands, except share and per share amounts)
The information contained in this section should be read in conjunction with our consolidated financial statements and the related notes thereto included elsewhere in this annual report on Form 10-K.
Forward-Looking Statements
Some of the statements in this annual report on Form 10-K constitute forward-looking statements because they relate to future events or our future performance or financial condition. The forward-looking statements contained in this annual report on Form 10-K may include statements as to:
•our future operating results;
•our business prospects and the prospects of the companies in which we may invest, including our and their ability to achieve our respective objectives as a result of our board of trustees' approval of changes to our investment policy;
•the impact of the investments that we expect to make;
•the ability of our portfolio companies to achieve their objectives;
•our current and expected financing arrangements and investments;
•our ability to complete a liquidity event;
•changes in the general interest rate environment;
•the elevated levels of inflation, and its impact on our portfolio companies and on the industries in which we invest;
•the adequacy of our cash resources, financing sources and working capital;
•the timing and amount of cash flows, distributions and dividends, if any, from our portfolio companies;
•our contractual arrangements and relationships with third parties;
•actual and potential conflicts of interest with the other funds managed by FS/EIG Advisor, FS Investments, EIG, or any of their respective affiliates;
•the dependence of our future success on the general economy and its effect on the industries in which we may invest;
•general economic, political and industry trends and other external factors;
•our use of financial leverage;
•the ability of FS/EIG Advisor to locate suitable investments for us and to monitor and administer our investments;
•the ability of FS/EIG Advisor or its affiliates to attract and retain highly talented professionals;
•our transition from an investment policy of investing primarily in private U.S. energy and power companies to a diversified credit investment policy of investing across private and public credit in a broader set of industries, sectors and sub-sectors;
• our distribution rate and intention to declare dividends, including with respect to the amount and timing of any such distributions;
•our ability to maintain our qualification as a RIC and as a BDC;
•the impact on our business of U.S. and international financial reform legislation, rules and regulations;
•the effect of changes to tax legislation on us and the portfolio companies in which we may invest and our and their tax position; and
•the tax status of the enterprises in which we may invest.
Words such as ‘‘anticipate,’’ ‘‘believe,’’ ‘‘expect’’ and ‘‘intend’’ indicate a forward-looking statement, although not all forward-looking statements include these words. The forward-looking statements contained in this annual report on Form 10-K are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control and difficult to predict and could cause our actual results to differ materially from those expressed or forecasted in the forward-looking statements for any reason, including the factors set forth in ‘‘Item 1A. Risk Factors.’’ Other factors that could cause actual results to differ materially include changes relating to those set forth above and the following, among others:
i.changes in the economy;
ii.geo-political risks;
iii.risks associated with possible disruption in our operations or the economy generally due to terrorism, natural disasters or pandemics;
iv.future changes in laws or regulations and conditions in our operating areas; and
v.our ability to (i) transition to a diversified credit strategy within anticipated timeframes or at all, (ii) pay the targeted distributions, (iii) obtain leverage on terms satisfactory to us and (iv) achieve a liquidity event.
We have based the forward-looking statements included in this annual report on Form 10-K on information available to us on the date of this annual report on Form 10-K. You should not place undue reliance on these forward-looking statements. Except as required by the federal securities laws, we undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events or otherwise. Shareholders are advised to consult any additional disclosures that we may make directly to shareholders or through reports that we may file in the future with the SEC, including annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. The forward-looking statements and projections contained in this annual report on Form 10-K are excluded from the safe harbor protection provided by Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Exchange Act.
Overview
We were formed as a Delaware statutory trust under the Delaware Statutory Trust Act on September 16, 2010 and formally commenced investment operations on July 18, 2011. We are an externally managed, non-diversified, closed-end management investment company that has elected to be regulated as a BDC under the 1940 Act and has elected to be treated for U.S. federal income tax purposes, and intends to qualify annually, as a RIC under Subchapter M of the Code. In November 2016, we closed our continuous public offering of common shares to new investors.
Our investment activities are managed by FS/EIG Advisor and supervised by our board of trustees, a majority of whom are independent. Under the FS/EIG investment advisory agreement, we have agreed to pay FS/EIG Advisor an annual base management fee based on the average weekly value of our gross assets and an incentive fee based on our performance.
In May 2023, we announced that our board of trustees approved our transition from an investment policy of investing primarily in Energy companies to a diversified credit investment policy of investing across private and public credit in a broader set of industries, sectors and sub-sectors. Following a shareholder notice period, the new policy became effective on September 29, 2023. Our allocation to Energy investments has declined and we expect it to further decline over time, in each case, through the natural course of maturities, repayments and sales activity and by growing the total size of the portfolio through leverage facilities. The pace of the portfolio rotation remains dependent upon a number of factors, including the turnover of concentrated illiquid Energy investments, performance of underlying portfolio companies, high yield and energy market conditions, our access to borrowings and the amount and pace of the payment of enhanced distributions to shareholders, among others.
Our investment policy is to invest primarily in a portfolio of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments, which, under normal circumstances, will represent at least 80% of our total assets. This investment policy may not be changed without at least 60 days’ prior notice to holders of our common shares of any such change.
Our current investment objectives are to generate current income and, to a lesser extent, long-term capital appreciation. We intend to pursue our investment objectives by investing in both direct originations and broadly syndicated investments of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments. Investing in both direct originations and broadly syndicated investments allows us to be dynamic in our pursuit of opportunities across changing economic and credit cycles. We intend to focus on the following investment categories in an effort to generate returns for our investors with an acceptable level of risk.
• Direct Originations: Direct lending and innovative capital structure solutions to both sponsored and non-sponsored companies, typically based in the U.S. and operating within the middle market. These investments may include both debt and equity components.
• Broadly Syndicated Loan and Bond Transactions: Opportunistic investments into primary and secondary markets, broadly syndicated loans and bonds. Broadly syndicated loans and bonds are generally more liquid than our directly originated investments and provide a complement to our less liquid strategies. In the case of broadly syndicated investments, we generally intend to capitalize on market inefficiencies by investing in loans, bonds, and other asset classes where the market price of such investment reflects a lower value than we believe is warranted based on our fundamental analysis, providing us with an opportunity to earn an attractive return on our investment.
However, we may pursue other investment opportunities if we believe they are in our best interests and consistent with our investment objectives.
Prior to September 29, 2023, our investment policy was to invest, under normal circumstances, at least 80% of our total assets in securities of Energy companies and our investment objectives were to generate current income and long-term capital appreciation. We pursued our previous investment objectives by focusing on the following seven investment themes: (i) basin-on-basin competition in U.S. shale, (ii) globalization of natural gas, (iii) coal retirements and the evolving energy generation mix, (iv) renewables focused
on power grid parity, (v) export infrastructure for emerging U.S. producers, (vi) market liberalization opening new markets and (vii) midstream infrastructure connecting new supplies. However, we could pursue other investment opportunities if we believed they were in our best interests and consistent with our then-current investment objectives.
The majority of our portfolio is comprised of income-oriented securities of privately-held companies within the United States. Historically, our portfolio has largely been invested in Energy companies, although our portfolio has shifted away from investments in Energy companies as we pursue a diversified credit strategy. Generally, in the long-term we expect to weight our investments more heavily towards directly originated investments, as this will provide us with the ability to tailor investments to best match a project’s or company’s needs with our investment objectives. However, our investment policy enables FS/EIG Advisor to opportunistically invest in broadly syndicated investments and dynamically adjust allocations between private and public markets depending on where the risk-adjusted returns are most attractive. We intend to weight our portfolio towards senior secured debt, which we believe offers opportunities for superior risk-adjusted returns and income generation. Our debt investments may take the form of corporate or project loans or bonds, may be secured or unsecured and may, in some cases, be accompanied by yield enhancements. These yield enhancements may include common equity, warrants, options, net profits interests, cash flow participations or other forms of equity participation that can provide additional consideration or “upside” in a transaction. A portion of our portfolio may be comprised of derivatives, including the use of total return swaps, credit default swaps and other swap contracts. In connection with certain of our debt investments or any restructuring of these debt investments, we may on occasion receive equity interests, including warrants or options, as additional consideration or otherwise in connection with a restructuring. FS/EIG Advisor will seek to tailor our investment focus as market conditions evolve.
Our future financial condition, results of operations and cash flows may be impacted by the transition to a new investment policy.
Revenues
The principal measure of our financial performance is net increase or decrease in net assets resulting from operations, which includes net investment income, net realized gain or loss on investments, foreign currency and swap contracts, net change in unrealized appreciation or depreciation on investments, net change in unrealized gain or loss on foreign currency and net change in unrealized appreciation or depreciation on swap contracts. Net investment income is the difference between our income from interest, dividends, fees and other investment income and our operating and other expenses. Net realized gain or loss on investments is the difference between the proceeds received from dispositions of portfolio investments and their amortized cost, including the respective realized gain or loss on foreign currency for those foreign denominated investment transactions. Net realized gain or loss on foreign currency is the portion of realized gain or loss attributable to non-investment related foreign currency fluctuations. Net realized gain or loss on swap contracts is the portion of realized gain or loss attributable to the difference between the fixed price specified in the contract and the referenced settlement price. Net change in unrealized appreciation or depreciation on investments is the net change in the fair value of our investment portfolio, including the respective unrealized gain or loss on foreign currency for those foreign denominated investments. Net change in unrealized gain or loss on foreign currency is the net change in the value of receivables or accruals due to the impact of foreign currency fluctuations. Net change in unrealized appreciation or depreciation on swap contracts is the net change in the value of receivables or accruals due to the impact of the difference between the fixed price specified in the contract and the referenced settlement price.
We principally generate revenues in the form of interest income on the debt investments we hold. We also generate revenues in the form of dividends and other distributions on the equity or other securities we may hold. In addition, we may generate revenues in the form of non-recurring commitment, closing, origination, structuring or diligence fees, fees for providing managerial assistance, consulting fees, prepayment fees and performance-based fees.
Expenses
Our primary operating expenses include the payment of management and incentive fees and other expenses under the FS/EIG investment advisory agreement, interest expense from financing arrangements and other indebtedness, and other expenses necessary for our operations. The management and incentive fees compensate FS/EIG Advisor for its work in identifying, evaluating, negotiating, executing, monitoring and servicing our investments.
FS/EIG Advisor oversees our day-to-day operations, including the provision of general ledger accounting, fund accounting, legal services, investor relations, certain government and regulatory affairs activities, and other administrative services. FS/EIG Advisor also performs, or oversees the performance of, our corporate operations and required administrative services, which includes being responsible for the financial records that we are required to maintain and preparing reports for our shareholders and reports filed with the SEC. In addition, FS/EIG Advisor assists us in calculating our net asset value, overseeing the preparation and filing of tax returns and the printing and dissemination of reports to our shareholders, and generally overseeing the payment of our expenses and the performance of administrative and professional services rendered to us by others.
We reimburse FS/EIG Advisor for expenses necessary to perform services related to our administration and operations,
including FS/EIG Advisor’s allocable portion of the compensation and related expenses of certain personnel of FS Investments and EIG providing administrative services to us on behalf of FS/EIG Advisor, and for transactional expenses for prospective investments, such as fees and expenses associated with performing due diligence reviews of investments that do not close, often referred to as "broken deal" costs. We reimburse FS/EIG Advisor no less than quarterly for all costs and expenses incurred by FS/EIG Advisor in performing its obligations and providing personnel under the FS/EIG investment advisory agreement. The amount of this reimbursement is set at the lesser of (1) FS/EIG Advisor’s actual costs incurred in providing such services and (2) the amount that we estimate would be required to pay alternative service providers for comparable services in the same geographic location. FS/EIG Advisor allocates the cost of such services to us based on factors such as time allocations and other reasonable metrics. Our board of trustees reviews the methodology employed in determining how the expenses are allocated to us and assesses the reasonableness of such reimbursements for expenses allocated to us based on the breadth, depth and quality of such services as compared to the estimated cost to us of obtaining similar services from third-party service providers known to be available. In addition, our board of trustees considers whether any single third-party service provider would be capable of providing all such services at comparable cost and quality. Finally, our board of trustees compares the total amount paid to FS/EIG Advisor for such services as a percentage of our net assets to the same ratio as reported by other comparable BDCs. We do not reimburse FS/EIG Advisor for any services for which it receives a separate fee, or for rent, depreciation, utilities, capital equipment or other administrative items allocated to a controlling person of FS/EIG Advisor.
We bear all other expenses of our operations and transactions, including (without limitation) fees and expenses relating to:
•corporate and organization expenses related to offerings of our common shares, subject to limitations included in the FS/EIG investment advisory agreement;
•the cost of calculating our net asset value, including the cost of any third-party pricing or valuation services;
•the cost of effecting sales and repurchases of our common shares and other securities;
•investment advisory fees;
•fees payable to third parties relating to, or associated with, making investments and valuing investments, including fees and expenses associated with performing due diligence reviews of prospective investments;
•interest payments on our debt or related obligations;
•transfer agent and custodial fees;
•research and market data (including news and quotation equipment and services, and any computer hardware and connectivity hardware (e.g. telephone and fiber optic lines) incorporated into the cost of obtaining such research and market data);
•fees and expenses associated with marketing efforts;
•federal and state registration fees;
•federal, state and local taxes;
•annual fees of the Delaware trustee;
•fees and expenses of our trustees not also serving in an executive officer capacity for us or FS/EIG Advisor;
•costs of proxy statements, shareholders’ reports and notices and other filings;
•our fidelity bond, trustees and officers/errors and omissions liability insurance and other insurance premiums;
•direct costs such as printing, mailing, long distance telephone and staff;
•fees and expenses associated with accounting, corporate governance, government and regulatory affairs activities, independent audits and outside legal costs;
•costs associated with our reporting and compliance obligations under the 1940 Act and applicable federal and state securities laws, including compliance with the Sarbanes-Oxley Act;
•brokerage commissions for our investments;
•costs associated with our chief compliance officer; and
•all other expenses incurred by FS/EIG Advisor in connection with administering our business, including expenses incurred by FS/EIG Advisor in performing administrative services for us and administrative personnel paid by FS/EIG Advisor, to the extent they are not controlling persons of FS/EIG Advisor or any of its affiliates, subject to the limitations included in the FS/EIG investment advisory agreement.
In addition, we have contracted with State Street to provide various accounting and administrative services, including, but not limited to, preparing preliminary financial information for review by FS/EIG Advisor, preparing and monitoring expense budgets, maintaining accounting and corporate books and records, processing trade information provided by us and performing testing with respect to RIC compliance.
For information regarding the fee offset with FS/EIG Advisor, see Note 4 to our consolidated financial statements contained in this annual report on Form 10-K.
Expected Distributions
In March 2020, our board of trustees determined to suspend for an indefinite period of time our share repurchase program and will reassess our ability to recommence such program in future periods. As a result, no common shares were purchased pursuant to our share repurchase program and there were no de minimis account liquidations during the year ended December 31, 2024.
Subject to applicable legal restrictions and the sole discretion of our board of trustees, we expect to provide enhanced quarterly distributions to shareholders until the achievement of a long-term liquidity event. The enhanced distribution rate for the quarters ended March 31, 2024, June 30, 2024, September 30, 2024 and December 31, 2024 represented an annualized distribution rate of approximately 10.0%, in each case based on the then-current estimated net asset value. We expect to provide enhanced quarterly distributions to shareholders representing an annualized distribution rate of approximately 12.5% and 15.0% based on estimated net asset value as of such quarter end for 2025 and 2026 and beyond, respectively, provided we have not achieved a long-term liquidity event. We expect a portion of these distributions may represent a return of investor capital, helping to accelerate liquidity for shareholders in the near-term. Our board of trustees has and will continue to evaluate our ability to pay any distributions in the future. There can be no assurance that we will be able to pay distributions in the future. The timing and amount of any future distributions to shareholders are subject to applicable legal restrictions and the sole discretion of our board of trustees.
Portfolio Investment Activity for the Years Ended December 31, 2024 and 2023
Total Portfolio Activity
The following tables present certain selected information regarding our portfolio investment activity for the years ended December 31, 2024 and 2023:
For the Year Ended December 31,
Net Investment Activity 2024 2023
Purchases $ 1,510,253 $ 777,787
Sales and Repayments (1,142,396) (1,138,717)
Net Portfolio Activity $ 367,857 $ (360,930)
For the Year Ended December 31,
2024 2023
New Investment Activity by Asset Class Purchases Percentage Purchases Percentage
Senior Secured Loans-First Lien $ 1,267,125 84 % $ 690,650 89 %
Senior Secured Loans-Second Lien 26,540 2 % - -
Senior Secured Bonds 58,128 4 % 72,503 9 %
Unsecured Debt
35,562 2 % - -
Asset Based Finance
70,945 5 % - -
Equity/Other 51,953 3 % 14,634 2 %
Total $ 1,510,253 100 % $ 777,787 100 %
The following table summarizes the composition of our investment portfolio at cost and fair value as of December 31, 2024 and 2023:
December 31, 2024 December 31, 2023
Amortized
Cost(1)
Fair Value
Percentage
of Portfolio
Amortized
Cost(1)
Fair Value
Percentage
of Portfolio
Senior Secured Loans-First Lien $ 1,456,889 $ 1,445,351 78 % $ 878,013 $ 825,158 54 %
Senior Secured Loans-Second Lien 51,604 49,191 3 % 55,064 54,424 4 %
Senior Secured Bonds 104,296 103,726 6 % 82,793 84,468 5 %
Unsecured Debt
38,785 38,962 2 % - - -
Asset Based Finance
49,437 46,171 2 % - - -
Equity/Other 202,778 159,236 9 % 463,911 498,719 33 %
Sustainable Infrastructure Investments, LLC - - - 43,150 39,427 3 %
Short-Term Investments
- - - 20,994 21,000 1 %
Total
$ 1,903,789 $ 1,842,637 100 % $ 1,543,925 $ 1,523,196 100 %
_________________________
(1) Amortized cost represents the original cost adjusted for the amortization of premiums and/or accretion of discounts, as applicable, on investments.
The following table presents certain selected information regarding the composition of our investment portfolio as of December 31, 2024 and 2023:
December 31, 2024 December 31, 2023
Number of Portfolio Companies 86 65
% Variable Rate (based on fair value) 81.3% 54.8%
% Fixed Rate (based on fair value) 10.0% 9.9%
% Income Producing Equity/Other Investments (based on fair value)
5.8% 19.8%
% Non-Income Producing Equity/Other Investments (based on fair value)
2.9% 15.5%
Weighted Average Purchase Price of Debt Investments (as a % of par value) 97.9% 90.6%
% of Investments on Non-Accrual (based on fair value) 1.1% 11.9%
Gross Portfolio Yield Prior to Leverage (based on amortized cost) 9.2% 7.7%
Gross Portfolio Yield Prior to Leverage (based on amortized cost)-Excluding Non-Income Producing Assets 9.8% 10.2%
Subject to applicable legal restrictions and the sole discretion of our board of trustees, we expect to provide enhanced quarterly distributions to shareholders until the achievement of a long-term liquidity event. See "Expected Distributions" for a discussion of the enhanced quarterly distributions paid and expected to be paid, subject to applicable legal restrictions and the sole discretion of our board of trustees. For the quarter ended December 31, 2024, the distribution amount per share was $0.0821, comprised of an initial distribution per share of $0.0753 declared in December 2024 and the remaining distribution per share of $0.0068 declared in January 2025, representing an annualized distribution rate to shareholders of approximately 10.0% based on the net asset value of $3.30 per share as of December 31, 2024. For the quarter ended December 31, 2023, the distribution amount per share was $0.0643, comprised of an initial distribution per share of $0.0609 declared in December 2023 and the remaining distribution per share of $0.0034 declared in January 2024, representing an annualized distribution rate to shareholders of approximately 7.5% based on the net asset value of $3.43 per share as of December 31, 2023. The timing and amount of any future distributions to shareholders are subject to applicable legal restrictions and the sole discretion of our board of trustees. For the years ended December 31, 2024 and 2023, our total return was 6.20% and (6.89)%, respectively, and our total return without assuming reinvestment of distributions was 6.04% and (6.70)%, respectively.
Our estimated gross portfolio yield and annualized distribution rate to shareholders do not represent actual investment returns to shareholders. Our gross annual portfolio yield and distribution rate to shareholders are subject to change and in the future may be greater or less than the rates set forth above. See "Item 1A. Risk Factors" for a discussion of the uncertainties, risks and assumptions associated with these statements.
Direct Originations
We define Direct Originations as any investment where FS/EIG Advisor or its affiliates negotiate the terms of the transaction beyond just the price, which, for example, may include negotiating financial covenants, maturity dates or interest rate terms. These
Direct Originations include participation in other originated transactions where there may be third parties involved, or a bank acting as an intermediary, for a closely held club, or similar transactions.
The following table presents certain selected information regarding our Direct Originations as of December 31, 2024 and 2023:
Characteristics of All Direct Originations held in Portfolio December 31, 2024 December 31, 2023
Number of Portfolio Companies 40 27
% of Investments on Non-Accrual (based on fair value) 0.5% 21.6%
Total Cost of Direct Originations $1,001,354 $852,706
Total Fair Value of Direct Originations $953,612 $839,480
% of Total Investments, at Fair Value 51.8% 55.1%
Gross Portfolio Yield Prior to Leverage (based on amortized cost) of Funded Direct Originations 8.9% 5.4%
Gross Portfolio Yield Prior to Leverage (based on amortized cost) of Funded Direct Originations-Excluding Non-Income Producing Assets 9.7% 9.5%
Portfolio Composition by Strategy
The table below summarizes the composition of our investment portfolio by strategy and enumerates the percentage, by fair value, of the total portfolio assets in such strategies as of December 31, 2024 and 2023:
December 31, 2024 December 31, 2023
Portfolio Composition by Strategy
Fair Value
Percentage of Portfolio
Fair Value
Percentage of Portfolio
Direct Originations $ 953,612 52 % $ 839,480 55 %
Broadly Syndicated/Other 889,025 48 % 683,716 45 %
Total $ 1,842,637 100 % $ 1,523,196 100 %
See Note 7 to our consolidated financial statements contained in this annual report on Form 10-K for additional information
regarding our investment portfolio.
Portfolio Asset Quality
In addition to various risk management and monitoring tools, FS/EIG Advisor uses an investment rating system to characterize and monitor the expected level of returns on each investment in our portfolio. FS/EIG Advisor uses an investment rating scale of 1 to 5. The following is a description of the conditions associated with each investment rating:
Investment Rating
Summary Description
1 Investment exceeding expectations and/or capital gain expected.
2 Performing investment generally executing in accordance with the portfolio company’s business plan-full return of principal and interest expected.
3 Performing investment requiring closer monitoring.
4 Underperforming investment-some loss of interest or dividend possible, but still expecting a positive return on investment.
5 Underperforming investment with expected loss of interest and some principal.
The following table shows the distribution of our investments on the 1 to 5 investment rating scale at fair value as of December 31, 2024 and 2023:
December 31, 2024 December 31, 2023
Investment Rating
Fair Value
Percentage
of Portfolio
Fair Value
Percentage
of Portfolio
1 $ - - $ - -
2 1,687,410 92 % 1,132,772 75 %
3 42,047 2 % 173,486 11 %
4 104,898 6 % 158,773 10 %
5 8,282 0 % 58,165 4 %
Total $ 1,842,637 100 % $ 1,523,196 100 %
The amount of the portfolio in each grading category may vary substantially from period to period resulting primarily from changes in the composition of the portfolio as a result of new investment, repayment and exit activities. In addition, changes in the grade of investments may be made to reflect our expectation of performance and changes in investment values.
Results of Operations
Comparison of the Years Ended December 31, 2024, 2023 and 2022
Revenues
Our investment income for the years ended December 31, 2024, 2023 and 2022 was as follows:
Year Ended December 31,
2024 2023 2022
Amount Percentage of Total Income Amount Percentage of Total Income Amount Percentage of Total Income
Interest income $ 189,533 85 % $ 122,925 78 % $ 125,158 68 %
Paid-in-kind interest income 13,189 6 % 8,010 5 % 19,925 11 %
Fee income 5,932 3 % 3,662 2 % 11,928 6 %
Dividend income 14,437 6 % 23,125 15 % 27,956 15 %
Total investment income(1)
$ 223,091 100 % $ 157,722 100 % $ 184,967 100 %
____________________________
(1) Such revenues represent $199,482, $137,340 and $158,257 of cash income earned as well as $23,609, $20,382 and $26,710 in non-cash portions relating to accretion of discount and PIK interest for the years ended December 31, 2024, 2023 and 2022, respectively. Cash flows related to such non-cash revenues may not occur for a number of reporting periods or years after such revenues are recognized.
The level of interest income we receive is generally related to the balance of income-producing investments, multiplied by the weighted average yield of our investments. We may experience volatility in the amount of interest income that we earn as the accrual status of existing portfolio investments may fluctuate due to restructuring activity in the portfolio.
The increase in the amount of interest income and PIK income for the year ended December 31, 2024 compared to the year ended December 31, 2023 was primarily due to a combination of factors including interest received on certain preferred equity positions, an overall increase in the size of the investment portfolio and the removal of certain investments placed on non-accrual.
The decrease in the amount of interest income and PIK income for the year ended December 31, 2023 compared to the year ended December 31, 2022 was primarily due to a combination of factors including an overall decrease in the size of the investment portfolio, certain investments being placed on non-accrual and the divestiture of certain investments earning PIK income.
Fee income is transaction based, and typically consists of prepayment fees and structuring fees. As such, future fee income is generally dependent on new direct origination investments and the occurrence of events at existing portfolio companies resulting in such fees.
The increase in the amount of fee income for the year ended December 31, 2024 compared to the year ended December 31, 2023 was primarily due to the increase in delayed compensation and miscellaneous fees during the period. The decrease in the amount of fee income for the year ended December 31, 2023 compared to the year ended December 31, 2022 was primarily due to the decrease in prepayment activity during the period.
The decrease in the amount of dividend income for the year ended December 31, 2024 compared to the year ended December 31, 2023 was primarily due to the decrease in dividends paid with respect to our investments in certain common equities. The decrease in the amount of dividend income for the year ended December 31, 2023 compared to the year ended December 31, 2022 was primarily due to the decrease in dividends paid with respect to our investments in certain common equities.
Expenses
Our operating expenses for the years ended December 31, 2024, 2023 and 2022 were as follows:
Year Ended December 31,
2024 2023 2022
Management fees $ 35,515 $ 35,377 $ 44,559
Administrative services expenses 5,695 6,087 5,626
Share transfer agent fees 3,606 3,206 2,985
Accounting and administrative fees 594 588 731
Interest expense 35,891 23,698 55,716
Trustees' fees 656 667 742
Expenses associated with our independent audit and related fees 635 554 614
Legal fees 1,138 1,318 752
Printing fees 800 796 554
Other 1,772 1,826 3,185
Total operating expenses 86,302 74,117 115,464
Less: Management fee offset (8) (341) (2,619)
Net operating expenses before taxes 86,294 73,776 112,845
Federal and state taxes
2,226 2,583 2,353
Total net expenses, including federal and state taxes
$ 88,520 $ 76,359 $ 115,198
The following table reflects selected expense ratios as a percent of average net assets for the years ended December 31, 2024, 2023 and 2022:
Year Ended December 31,
2024 2023 2022
Ratio of operating expenses and federal and state taxes to average net assets
5.69 % 4.50 % 6.78 %
Ratio of management fee offset to average net assets (0.00) % (0.02) % (0.15) %
Ratio of net operating expenses and federal and state taxes to average net assets
5.69 % 4.48 % 6.63 %
Ratio of interest expense and federal and state taxes to average net assets
(2.45) % (1.54) % (3.34) %
Ratio of net operating expenses, excluding certain expenses, to average net assets 3.24 % 2.94 % 3.29 %
Interest expense may increase or decrease our expense ratios relative to comparative periods depending on changes in benchmark interest rates such as SOFR, leverage utilization rates and the terms of our financing arrangements, among other factors.
Management Fee Offset
Structuring, upfront or certain other fees received by FS/EIG Advisor or its members which were offset against management fees due to FS/EIG Advisor from us were $8, $341 and $2,619 for the years ended December 31, 2024, 2023 and 2022, respectively. See Note 4 to our consolidated financial statements contained in this annual report on Form 10-K for a discussion of the management fee offset for the years ended December 31, 2024, 2023 and 2022.
Net Investment Income
Our net investment income totaled $134,571 ($0.30 per share), $81,363 ($0.18 per share) and $69,769 ($0.16 per share) for the years ended December 31, 2024, 2023 and 2022, respectively.
Net Realized Gains or Losses
Our net realized gains (losses) on investments, foreign currency, swap contracts and debt extinguishment for the years ended December 31, 2024, 2023 and 2022 were as follows:
Year Ended December 31,
2024 2023 2022
Net realized gain (loss) on investments(1)
$ (8,736) $ (59,301) $ 37,383
Net realized gain (loss) on foreign currency (1) (123) (202)
Net realized gain (loss) on swap contracts 9,593 1,048 (2,785)
Net realized gain (loss) on debt extinguishment - - (929)
Total net realized gain (loss) $ 856 $ (58,376) $ 33,467
______________
(1) We sold investments and received principal repayments, other than short-term investments and U.S. government obligations, of $678,901 and $463,495, respectively, during the year ended December 31, 2024, $728,219 and $409,667, respectively, during the year ended December 31, 2023 and $457,619 and $413,370, respectively, during the year ended December 31, 2022.
Net Change in Unrealized Appreciation (Depreciation)
Our net change in unrealized appreciation (depreciation) on investments, swap contracts and foreign currency for the years ended December 31, 2024, 2023 and 2022 were as follows:
Year Ended December 31,
2024 2023 2022
Net change in unrealized appreciation (depreciation) on investments $ (40,423) $ (144,904) $ 82,009
Net change in unrealized appreciation (depreciation) on swap contracts 70 698 (698)
Net change in unrealized appreciation (depreciation) on foreign currency (30) 36 (45)
Total net change in unrealized appreciation (depreciation) $ (40,383) $ (144,170) $ 81,266
During the years ended December 31, 2024 and 2023, the net change in unrealized appreciation (depreciation) on our investments was primarily driven by the performance of our directly originated assets and certain of our upstream equity/other investments. During the year ended December 31, 2022, the net change in unrealized appreciation (depreciation) on our investments was primarily driven by the performance of our directly originated assets and certain of our upstream equity/other investments and the conversion of unrealized appreciation to realized gains.
Net Increase (Decrease) in Net Assets Resulting from Operations
For the years ended December 31, 2024, 2023 and 2022, the net increase (decrease) in net assets resulting from operations was $95,044 ($0.21 per share), $(121,183) ($(0.27) per share) and $184,502 ($0.41 per share), respectively.
This "Results of Operations" section should be read in conjunction with "Expected Distributions" above.
Financial Condition, Liquidity and Capital Resources
Overview
As of December 31, 2024, we had $202,091 in cash and cash equivalents, which we held in custodial accounts and a money market fund. There were no borrowings available under our financing arrangement. As of December 31, 2024, we also had broadly syndicated investments that could be sold to create additional liquidity. As of December 31, 2024, we had twenty senior secured loan investments with aggregate unfunded commitments of $92,715. We maintain sufficient cash on hand, available borrowings and/or liquid securities to fund such unfunded commitments and other contractual commitments should the need arise.
We generate cash primarily from cash flows from fees, interest and dividends earned from our investments as well as principal repayments and proceeds from sales of our investments. To seek to enhance our returns, we may also seek to employ leverage as market conditions permit and at the discretion of FS/EIG Advisor, but unless and until we elect otherwise, as permitted by the 1940 Act, in no event will leverage employed exceed 50% of the value of our assets, as required by the 1940 Act. See “-Financing Arrangement.”
Prior to investing in securities of portfolio companies, we invest the net proceeds from sales and paydowns of existing investments primarily in cash, cash equivalents, including money market funds, U.S. government securities, repurchase agreements and high-quality debt instruments maturing in one year or less from the time of investment, consistent with our BDC election and our election to be taxed as a RIC.
This “Financial Condition, Liquidity and Capital Resources” section should be read in conjunction with “Expected Distributions” above and “-Financing Arrangement” below.
Financing Arrangement
The following table presents a summary of information with respect to our outstanding financing arrangement as of December 31, 2024:
Arrangement(1)
Type of
Arrangement
Rate(2)
Amount
Outstanding
Amount
Available
Maturity Date
Barclays Facility Repurchase Term SOFR+3.00% $ 500,000 $ - September 6, 2026
________________________
(1) The carrying amount outstanding under the facility approximates its fair value, unless otherwise noted.
(2) The financing fee under the Barclays Facility is based on three-month term SOFR (with a floor of 0.00%) plus a facility margin calculated monthly as the weighted average of the individual margin of the collateral obligations (subject to a floor, in the aggregate, of 3.00%).
For additional information regarding our financing arrangements, see Note 9 to our consolidated financial statements contained in this annual report on Form 10-K.
RIC Tax Treatment and Distributions
We have elected to be treated for U.S. federal income tax purposes, and intend to qualify annually, as a RIC under Subchapter M of the Code. As a RIC, we generally do not have to pay corporate-level U.S. federal income taxes on any ordinary income or capital gains that we distribute as dividends to our shareholders. To maintain our qualification as a RIC, we must, among other things, meet certain source-of-income and asset diversification requirements. In addition, in order to maintain RIC tax treatment, we must distribute to our shareholders, for each tax year, dividends generally of an amount at least equal to 90% of our “investment company taxable income,” which is generally the sum of our net ordinary income plus the excess, if any, of realized net short-term capital gains over realized net long-term capital losses, determined without regard to any deduction for dividends paid. In addition, we may, in certain cases, satisfy the Annual Distribution Requirement by distributing dividends relating to a tax year after the close of such tax year under the “spillover dividend” provisions of Subchapter M of the Code. If we distribute a spillover dividend, such dividend will be included in a shareholder's gross income for the tax year in which the spillover distribution is paid. We intend to make sufficient distributions to our shareholders to maintain our RIC tax treatment each tax year. We will also be subject to nondeductible U.S. federal excise taxes on certain undistributed income unless we distribute in a timely manner to our shareholders of an amount at least equal to the sum of (1) 98% of our net ordinary taxable income (taking into account certain deferrals and elections) for the calendar year, (2) 98.2% of our capital gain net income, which is the excess of capital gains over capital losses (adjusted for certain ordinary losses), for the one-year period ending October 31 of that calendar year and (3) 100% of any ordinary income and capital gain net income recognized for the preceding years that were not distributed during such years and on which we paid no U.S. federal income tax. Any distribution declared by us during October, November or December of any calendar year, payable to our shareholders of record on a specified date in such a month and actually paid during January of the following calendar year, will be treated as if it had been paid by us, as well as received by our U.S. shareholders, on December 31 of the calendar year in which the distribution was declared.
In general, when we pay regular cash distributions, we intend to declare them on a quarterly or monthly basis and pay them on a monthly basis. We will calculate each shareholder’s specific distribution amount for the period using record and declaration dates and each shareholder’s distributions will begin to accrue on the date that common shares are issued to such shareholder. From time to time, we may also pay special interim distributions in the form of cash or common shares at the discretion of our board of trustees. The timing and amount of any future distributions to shareholders are subject to applicable legal restrictions and the sole discretion of our board of trustees.
Our distribution proceeds have exceeded and in the future may exceed our earnings. Therefore, portions of the distributions that we have made represented, and may make in the future may represent, a return of capital to shareholders, which lowers their tax basis in their common shares. A return of capital generally is a return of an investor’s investment rather than a return of earnings or gains derived from our investment activities and will be made after deducting the fees and expenses payable in connection with our continuous public offering, including any fees payable to FS/EIG Advisor. Moreover, a return of capital will generally not be taxable, but will reduce each shareholder’s cost basis in our common shares, and will result in a higher reported capital gain or lower reported capital loss when the common shares on which such return of capital was received are sold. Each year a statement on Form 1099-DIV identifying the sources of the distributions will be mailed to our shareholders.
We intend to make any regular distributions in the form of cash, out of assets legally available for distribution. Prior to September 15, 2023, shareholders could elect to receive their cash distributions in additional common shares under our distribution reinvestment plan. Any distributions reinvested under the plan nevertheless remained taxable to a U.S. shareholder. Our distribution reinvestment plan was terminated effective as of September 15, 2023.
Subject to applicable legal restrictions and the sole discretion of our board of trustees, we expect to provide enhanced quarterly distributions to shareholders until the achievement of a long-term liquidity event. The enhanced distribution rate for the quarters ended March 31, 2024, June 30, 2024, September 30, 2024 and December 31, 2024 represented an annualized distribution rate of approximately 10.0%, in each case based on the then-current estimated net asset value. We expect to provide enhanced quarterly distributions to shareholders representing an annualized distribution rate of approximately 12.5% and 15.0% based on estimated net asset value as of such quarter end for 2025, and 2026 and beyond, respectively, provided we have not achieved a long-term liquidity event. We expect a portion of these distributions may represent a return of investor capital, helping to accelerate liquidity for shareholders in the near-term. Our board of trustees has and will continue to evaluate our ability to pay any distributions in the future. There can be no assurance that we will be able to pay distributions in the future. For the quarter ended December 31, 2024, the distribution amount per share was $0.0821, comprised of an initial distribution per share of $0.0753 declared in December 2024 and the remaining distribution per share of $0.0068 declared in January 2025, representing an annualized distribution rate to
shareholders of approximately 10.0% based on the net asset value of $3.30 per share as of December 31, 2024. For the quarter ended December 31, 2023, the distribution amount per share was $0.0643, comprised of an initial distribution per share of $0.0609 declared in December 2023 and the remaining distribution per share of $0.0034 declared in January 2024, representing an annualized distribution rate to shareholders of approximately 7.5% based on the net asset value of $3.43 per share as of December 31, 2023. The timing and amount of any future distributions to shareholders are subject to applicable legal restrictions and the sole discretion of our board of trustees.
The following table reflects the cash distributions per share that we have declared on our common shares during the years ended December 31, 2024, 2023 and 2022:
Distribution
For the Year Ended December 31, Per Share Amount
2022 $ 0.1200 $ 53,938
2023 $ 0.1892 $ 86,059
2024 $ 0.3373 $ 153,643
See Note 5 to our consolidated financial statements contained in this annual report on Form 10-K for additional information regarding our distributions, including a reconciliation of our GAAP-basis net investment income to our tax-basis net investment income, the components of accumulated earnings on a tax basis and deferred taxes.
Critical Accounting Policies and Estimates
Our financial statements are prepared in conformity with GAAP, which requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Management has utilized available information, including our past history, industry standards and the current economic environment, among other factors, in forming the estimates and judgments, giving due consideration to materiality. Actual results may differ from these estimates. In addition, other companies may utilize different estimates, which may impact the comparability of our results of operations to those of companies in similar businesses. Understanding our accounting policies and the extent to which we use management judgment and estimates in applying these policies is integral to understanding our financial statements. We describe our most significant accounting policies in Note 2 to our consolidated financial statements contained in this annual report on Form 10-K. Critical accounting policies are those that require the application of management’s most difficult, subjective or complex judgments, often because of the need to make estimates about the effect of matters that are inherently uncertain and that may change in subsequent periods. We evaluate our critical accounting estimates and judgments required by our policies on an ongoing basis and update them as necessary based on changing conditions. We have identified one of our accounting policies, valuation of portfolio investments, as critical because it involves significant judgments and assumptions about highly complex and inherently uncertain matters, and the use of reasonably different estimates and assumptions could have a material impact on our reported results of operations or financial condition. As we execute our operating plans, we will describe additional critical accounting policies in the notes to our future financial statements in addition to those discussed below.
Valuation of Portfolio Investments
Our board of trustees is responsible for overseeing the valuation of our portfolio investments at fair value as determined in good faith pursuant to FS/EIG Advisor’s valuation policy. As permitted by Rule 2a-5 of the 1940 Act, our board of trustees has designated FS/EIG Advisor as our valuation designee, with day-to-day responsibility for implementing the portfolio valuation process set forth in FS/EIG Advisor’s valuation policy.
Accounting Standards Codification Topic 820, Fair Value Measurements and Disclosure, or ASC Topic 820, issued by the Financial Accounting Standards Board, or the FASB, clarifies the definition of fair value and requires companies to expand their disclosure about the use of fair value to measure assets and liabilities in interim and annual periods subsequent to initial recognition. ASC Topic 820 defines fair value as the price that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC Topic 820 also establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical securities; Level 2, which includes inputs such as quoted prices for similar securities in active markets and quoted prices for identical securities where there is little or no activity in the market; and Level 3, defined as unobservable inputs for which little or no market data exists, therefore requiring an entity to develop its own assumptions.
FS/EIG Advisor determines the fair value of our investment portfolio each quarter. Securities that are publicly-traded with readily available market prices will be valued at the reported closing price on the valuation date. Securities that are not publicly-traded with readily available market prices will be valued at fair value as determined in good faith by FS/EIG Advisor. In connection with that determination, FS/EIG Advisor will prepare portfolio company valuations which are based on relevant inputs, including, but not limited to, indicative dealer quotes, values of like securities, recent portfolio company financial statements and forecasts, and valuations prepared by independent third-party pricing and valuation services.
With respect to investments for which market quotations are not readily available, a multi-step valuation process is undertaken each quarter, as described below:
•our quarterly fair valuation process begins with FS/EIG Advisor facilitating the delivery of updated quarterly financial and other information relating to each investment to an independent third-party pricing or valuation service;
•the independent third-party pricing or valuation service then reviews and analyzes the information, along with relevant market and economic data, and determines proposed valuations for each portfolio company or investment according to the valuation methodologies in FS/EIG Advisor’s valuation policy and communicates the information to FS/EIG Advisor in the form of a valuation range for Level 3 assets;
•FS/EIG Advisor then reviews the preliminary valuation information for each portfolio company or investment and provides feedback about the accuracy, completeness and timeliness of the valuation-related inputs considered by the independent third-party pricing or valuation service and any suggested revisions thereto prior to the independent third-party pricing or valuation service finalizing its valuation range;
•FS/EIG Advisor then provides the valuation committee with its valuation determinations and valuation-related information for each portfolio company or investment, along with any applicable supporting materials; and other information that is relevant to the fair valuation process as required by FS/EIG Advisor's board reporting obligations;
•the valuation committee meets with FS/EIG Advisor to receive the relevant quarterly reporting from FS/EIG Advisor and to discuss any questions from the valuation committee in connection with the valuation committee’s role in overseeing the fair valuation process; and
•following the completion of its fair value oversight activities, the valuation committee (with the assistance of FS/EIG Advisor) provides our board of trustees with a report regarding the quarterly valuation process.
Determination of fair value involves subjective judgments and estimates. Accordingly, the notes to our consolidated financial statements refer to the uncertainty with respect to the possible effect of such valuations and any change in such valuations on our consolidated financial statements. In making its determination of fair value, FS/EIG Advisor may use any independent third-party pricing or valuation services for which it has performed the appropriate level of due diligence. However, FS/EIG Advisor is not required to determine fair value in accordance with the valuation provided by any single source, and may use any relevant data, including information sourced by FS/EIG Advisor or provided by any independent third-party pricing or valuation service that FS/EIG Advisor deems to be reliable in determining fair value under the circumstances. Below is a description of factors that FS/EIG Advisor and any independent third-party valuation services may consider when determining the fair value of our investments.
The valuation methods utilized for each portfolio company may vary depending on industry and company-specific considerations. Typically, the first step is to make an assessment as to the enterprise value of the portfolio company’s business in order to establish whether the portfolio company’s enterprise value is greater than the amount of its debt as of the valuation date. This analysis helps to determine a risk profile for the applicable portfolio company and its related investments, and the appropriate valuation methodology to utilize as part of the security valuation analysis. The enterprise valuation may be determined using a market or income approach.
Valuation of fixed income investments, such as loans and debt securities, depends upon a number of factors, including prevailing interest rates for like securities, expected volatility in future interest rates, call features, put features and other relevant terms of the debt. For investments without readily available market prices, FS/EIG Advisor may incorporate these factors into discounted cash flow models to arrive at fair value. Various methods may be used to determine the appropriate discount rate in a discounted cash flow model. Other factors that may be considered include the borrower’s ability to adequately service its debt, the fair market value of the borrower in relation to the face amount of its outstanding debt and the quality of collateral securing the debt investments.
For convertible debt securities, fair value generally approximates the fair value of the debt plus the fair value of an option to purchase the underlying security (i.e., the security into which the debt may convert) at the conversion price. To value such an option, a standard option pricing model may be used.
Valuation of CLO subordinated notes considers a variety of relevant factors, including recent purchases and sales known to FS/EIG Advisor in similar securities and output from a third-party financial model. The third-party financial model contains detailed
information on the characteristics of CLOs, including recent information about assets and liabilities, and is used to project future cash flows. Key inputs to the model include assumptions for future loan default rates, recovery rates, prepayment rates, reinvestment rates and discount rates. These are determined by considering both observable and third-party market data and prevailing general market assumptions and conventions.
Our equity interests in portfolio companies for which there is no liquid public market are valued at fair value. Generally, the value of our equity interests in public companies for which market quotations are readily available is based upon the most recent closing public market price.
When we receive warrants or other equity securities at nominal or no additional cost in connection with an investment in a debt security, the cost basis in the investment will be allocated between the debt securities and any such warrants or other equity securities received at the time of origination. FS/EIG Advisor subsequently values these warrants or other equity securities received at their fair value.
Swap contracts typically are valued at their daily prices obtained from an independent third party. The aggregate settlement values and notional amounts of the swap contracts are not recorded in the consolidated balance sheets. Fluctuations in the value of the swap contracts are recorded in the consolidated balance sheets as gross assets and gross liabilities and in the statements of operations as unrealized appreciation (depreciation) until closed, when they will be recorded as net realized gain (loss).
See Note 8 to our consolidated financial statements contained in this annual report on Form 10-K for additional information regarding the fair value of our financial instruments.
Contractual Obligations
We have entered into an agreement with FS/EIG Advisor to provide us with investment advisory and administrative services. Payments for investment advisory services under the FS/EIG investment advisory agreement are equal to 1.75% of the average weekly value of our gross assets and an incentive fee based on our performance. Base management fees are generally paid on a quarterly basis in arrears. FS/EIG Advisor is reimbursed for administrative services expenses incurred on our behalf. See Note 4 to our consolidated financial statements contained in this annual report on Form 10-K for a discussion of this agreement and for the amount of fees and expenses accrued under this agreement during the years ended December 31, 2024, 2023 and 2022.
Recently Issued Accounting Standards
In November 2023, the FASB issued ASU 2023-07, “Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures,” or ASU 2023-07, which enhances the disclosures required for reportable segments on an annual and interim basis. ASU 2023-07 is effective on a retrospective basis for annual periods beginning after December 15, 2023, for interim periods within fiscal years beginning after December 15, 2024, and early adoption is permitted. The Company has adopted ASU 2023-07 effective December 31, 2024, and concluded that the application of this guidance did not have any material impact on its consolidated financial statements.
We operate through a single operating and reporting segment with an investment objective to generate current income and, to a lesser extent, long-term capital appreciation. The chief operating decision maker, or CODM, is our chief executive officer. The CODM assesses the performance and makes operating decisions of us on a consolidated basis primarily based on our change in shareholders’ equity resulting from operations. In addition to numerous other factors and metrics, the CODM utilizes net investment income as a key metric in determining the amount of dividends to be distributed to our shareholders. As our operations comprise of a single reporting segment, the segment assets are reflected on the accompanying consolidated balance sheets as “total assets” and the significant segment expenses are listed on the accompanying consolidated statements of operations.

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
We are subject to financial market risks, including changes in interest rates. As of December 31, 2024, 81.3% of our portfolio investments (based on fair value) paid variable interest rates, 10.0% paid fixed interest rates, 5.8% were income producing equity/other investments and the remaining 2.9% consisted of non-income producing equity/other investments. A rise in the general level of interest rates can be expected to lead to higher interest rates applicable to any variable rate investments we hold and to declines in the value of any fixed rate investments we hold. However, many of our variable rate investments provide for an interest rate floor, which may prevent our interest income from increasing until benchmark interest rates increase beyond a threshold amount. To the extent that a substantial portion of our investments may be in variable rate investments, an increase in interest rates beyond this threshold would make it easier for us to meet or exceed the hurdle rate applicable to the subordinated incentive fee on income, and may result in a substantial increase in our net investment income and the amount of incentive fees payable to FS/EIG Advisor with respect to our increased pre-incentive fee net investment income.
Pursuant to the terms of the Barclays Facility, we borrow at a floating rate based on a benchmark interest rate. To the extent
that any present or future credit facilities or other financing arrangements that we or any of our subsidiaries enter into are based on a floating interest rate, we will be subject to risks relating to changes in market interest rates. In periods of rising interest rates when we or our subsidiaries have such debt outstanding or financing arrangements in effect, our interest expense would increase, which could reduce our net investment income, especially to the extent we hold fixed rate investments.
The following table shows the effect over a twelve-month period of changes in interest rates on our interest income, interest expense and net interest income, assuming no changes in the composition of our investment portfolio, including the accrual status of our investments, and our financing arrangement in effect as of December 31, 2024 (dollar amounts are presented in thousands):
Basis Point Change in Interest Rates
Increase (Decrease) in Interest Income(1)
Increase
(Decrease)
in Interest
Expense(2)
Increase
(Decrease) in
Net Interest
Income
Percentage
Change in
Net Interest
Income
Down 100 basis points $ (15,006) $ (5,000) $ (10,006) (7.8) %
No Change - - - -
Up 100 basis points $ 15,006 $ 5,000 $ 10,006 7.8 %
Up 300 basis points $ 45,019 $ 15,000 $ 30,019 23.4 %
Up 500 basis points $ 75,032 $ 25,000 $ 50,032 38.9 %
___________________
(1) Assumes no defaults or prepayments by portfolio companies over the next twelve months.
(2) Assumes current debt outstanding as of December 31, 2024, and no changes over the next twelve months.
We expect that our long-term investments will be financed primarily with equity and debt. If deemed prudent, we may use interest rate risk management techniques in an effort to minimize our exposure to interest rate fluctuations. These techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act. Adverse developments resulting from changes in interest rates or hedging transactions could have a material adverse effect on our business, financial condition and results of operations. During the years ended December 31, 2024, 2023 and 2022, we did not engage in interest rate hedging activities.
In addition, we may have risks regarding portfolio valuation and the potential inability of counterparties to meet the terms of their contracts. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies and Estimates-Valuation of Portfolio Investments.”

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Item 8. Financial Statements and Supplementary Data.
Page
Management's Report on Internal Control over Financial Reporting
Report of Independent Registered Public Accounting Firm (PCAOB ID 42)
Consolidated Balance Sheets as of December 31, 2024 and 2023
Consolidated Statements of Operations for the years ended December 31, 2024, 2023 and 2022
Consolidated Statements of Changes in Net Assets for the years ended December 31, 2024, 2023 and 2022
Consolidated Statements of Cash Flows for the years ended December 31, 2024, 2023 and 2022
Consolidated Schedules of Investments as of December 31, 2024 and 2023
Notes to Consolidated Financial Statements
MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. In connection with the preparation of our annual financial statements, management has conducted an assessment of the effectiveness of our internal control over financial reporting based on the framework set forth in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013. Management's assessment included an evaluation of the design of our internal control over financial reporting and testing of the operational effectiveness of those controls. Based on this evaluation, we have concluded that, as of December 31, 2024, our internal control over financial reporting was effective to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance accounting principles generally accepted in the United States of America.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Trustees of FS Specialty Lending Fund
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of FS Specialty Lending Fund (the Company), including the consolidated schedules of investments, as of December 31, 2024 and 2023, the related consolidated statements of operations, changes in net assets, and cash flows for each of the three years in the period ended December 31, 2024, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2024 and 2023, and the results of its operations, changes in its net assets, and its cash flows for each of the three years in the period ended December 31, 2024, in conformity with U.S. generally accepted accounting principles.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits, we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our procedures included confirmation of investments owned as of December 31, 2024 and 2023, by correspondence with the custodian, brokers, the underlying investee and others; when replies were not received from brokers, the underlying investee and others, we performed other auditing procedures. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account or disclosures to which it relates.
Valuation of investments using significant unobservable inputs and assumptions
Description of the Matter
At December 31, 2024, the fair value of the Company’s investments categorized as Level 3 investments within the fair value hierarchy (Level 3 investments) totaled $964 million. Management determines the fair value of the Company’s Level 3 investments by applying the methodologies outlined in Notes 2 and 8 to the consolidated financial statements and using significant unobservable inputs and assumptions. The selection of valuation techniques and the significant unobservable inputs and assumptions used by management requires subjective judgments and estimates. The primary valuation techniques used by the Company include market comparables and discounted cash flows. The primary significant unobservable inputs used to measure fair value include EBITDA multiples, discount rates, market yield percentages, proved reserve multiples and production multiples.
Auditing the fair value of the Company’s Level 3 investments was complex, as the unobservable inputs and assumptions used by the Company are highly judgmental, are sensitive to economic dislocations, and could have a significant effect on the fair value measurements of such investments.
How We Addressed the Matter in Our Audit
To test the valuation of the Company’s Level 3 investments, we gained an understanding of the valuation techniques, significant unobservable inputs and assumptions used by the Company in determining the fair value of the Company’s Level 3 investments. For a sample of Level 3 investments, with the support of our valuation specialists, we evaluated the valuation techniques used, tested the significant unobservable inputs and assumptions, and tested the mathematical accuracy of the related valuation models. For this sample of Level 3 investments, we agreed the significant inputs and underlying data used in the Company’s valuations including deal terms, portfolio company operating results, and market yields to transaction agreements, most recently available portfolio company financial statements or other financial or operating documents, information available from third-party sources and market data, as applicable. We also involved our valuation specialists to assist in developing independent estimates of fair value for a sample of investments by using portfolio company and market information, and we compared such estimates to the Company’s fair value of these investments. We also searched for and evaluated information that corroborated or contradicted the Company’s valuations of Level 3 investments.
/s/ Ernst & Young LLP
We have served as auditor of one or more FS Investments investment companies since 2013.
Philadelphia, Pennsylvania
March 14, 2025
FS Specialty Lending Fund
Consolidated Balance Sheets
(in thousands, except share and per share amounts)
December 31,
2024 2023
Assets
Investments, at fair value
Non-controlled/unaffiliated investments (amortized cost-$1,830,451 and $1,358,793 respectively)
$ 1,790,694 $ 1,414,684
Non-controlled/affiliated investments (amortized cost-$73,338 and $25,601, respectively)
51,943 7,496
Controlled/affiliated investments (amortized cost-$0 and $159,531, respectively)
- 101,016
Total investments, at fair value (amortized cost-$1,903,789 and $1,543,925, respectively)
1,842,637 1,523,196
Cash and cash equivalents
202,091 486,059
Restricted cash
36,945 6,699
Receivable for investments sold and repaid 33,895 27,860
Interest receivable 14,383 15,093
Dividends receivable 330 360
Unrealized appreciation on swap contracts 70 -
Swap income receivable 773 36
Prepaid expenses and other assets 112 254
Total assets $ 2,131,236 $ 2,059,557
Liabilities
Payable for investments purchased $ 82,699 $ 61,596
Repurchase facility payable (net of unamortized deferred financing costs of $3,486 and $5,563, respectively)(1)
496,514 394,437
Swap income payable 528 259
Shareholder distributions payable 34,335 27,740
Management fees payable 8,672 8,416
Administrative services expenses payable 346 108
Interest payable 1,365 1,603
Trustees' fees payable 164 164
Other accrued expenses and liabilities 3,157 3,179
Total liabilities 627,780 497,502
Commitments and contingencies(2)
Shareholders' equity
Preferred shares, $0.001 par value, 50,000,000 shares authorized, none issued and outstanding
- -
Common shares, $0.001 par value, 700,000,000 shares authorized, 455,506,155 and 455,506,155 shares issued and outstanding, respectively
456 456
Capital in excess of par value 3,129,574 3,185,784
Accumulated earnings (deficit) (1,626,574) (1,624,185)
Total shareholders' equity 1,503,456 1,562,055
Total liabilities and shareholders' equity $ 2,131,236 $ 2,059,557
Net asset value per common share at year end $ 3.30 $ 3.43
_________________________
(1) See Note 9 for a discussion of the Company's financing arrangements.
(2) See Note 10 for a discussion of the Company's commitments and contingencies.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Statements of Operations
(in thousands, except share and per share amounts)
Year Ended December 31,
2024 2023 2022
Investment income
From non-controlled/unaffiliated investments:
Interest income $ 184,842 $ 118,530 $ 119,003
Paid-in-kind interest income 11,830 4,685 12,666
Fee income 5,932 3,662 4,660
Dividend income 10,938 14,801 21,804
From non-controlled/affiliated investments:
Interest income 3,198 675 3,219
Paid-in-kind interest income 1,299 97 105
Fee income - - 7,268
Dividend income - - 5,417
From controlled/affiliated investments:
Interest income 1,493 3,720 2,936
Paid-in-kind interest income 60 3,228 7,154
Dividend income 3,499 8,324 735
Total investment income 223,091 157,722 184,967
Operating expenses
Management fees 35,515 35,377 44,559
Administrative services expenses 5,695 6,087 5,626
Share transfer agent fees 3,606 3,206 2,985
Accounting and administrative fees 594 588 731
Interest expense(1)
35,891 23,698 55,716
Trustees' fees 656 667 742
Other general and administrative expenses 4,345 4,494 5,105
Total operating expenses 86,302 74,117 115,464
Less: Management fee offset(2)
(8) (341) (2,619)
Net expenses 86,294 73,776 112,845
Net investment income before taxes 136,797 83,946 72,122
Federal and state taxes 2,226 2,583 2,353
Net investment income 134,571 81,363 69,769
Realized and unrealized gain/loss
Net realized gain (loss) on investments:
Non-controlled/unaffiliated 56,803 (29,350) (21,652)
Non-controlled/affiliated 148 (29,951) 43,136
Controlled/affiliated (65,687) - 15,899
Net realized gain (loss) on foreign currency (1) (123) (202)
Net realized gain (loss) on swap contracts 9,593 1,048 (2,785)
Net realized gain (loss) on debt extinguishment - - (929)
Net change in unrealized appreciation (depreciation) on investments:
Non-controlled/unaffiliated (95,648) (74,827) 54,379
Non-controlled/affiliated (3,290) 10,186 (4,010)
Controlled/affiliated 58,515 (80,263) 31,640
Net change in unrealized appreciation (depreciation) on swap contracts 70 698 (698)
Net change in unrealized appreciation (depreciation) on foreign currency (30) 36 (45)
Total net realized and unrealized gain (loss) (39,527) (202,546) 114,733
Net increase (decrease) in net assets resulting from operations $ 95,044 $ (121,183) $ 184,502
Per share information-basic and diluted
Net increase (decrease) in net assets resulting from operations (Earnings per Share) $ 0.21 $ (0.27) $ 0.41
Weighted average shares outstanding 455,506,155 454,418,684 449,393,210
_________________________
(1)See Note 9 for a discussion of the Company’s financing arrangements.
(2)See Note 4 for a discussion of the offset by FS/EIG Advisor, LLC, the Company's investment adviser, of certain management fees to which it was otherwise entitled during the applicable period.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Statements of Changes in Net Assets
(in thousands)
Year Ended December 31,
2024 2023 2022
Operations
Net investment income $ 134,571 $ 81,363 $ 69,769
Net realized gain (loss) on investments, foreign currency, swap contracts and debt extinguishment 856 (58,376) 33,467
Net change in unrealized appreciation (depreciation) on investments (40,423) (144,904) 82,009
Net change in unrealized appreciation (depreciation) on swap contracts 70 698 (698)
Net change in unrealized appreciation (depreciation) on foreign currency (30) 36 (45)
Net increase (decrease) in net assets resulting from operations 95,044 (121,183) 184,502
Shareholder distributions(1)
Distributions to shareholders (153,643) (86,059) (53,938)
Net decrease in net assets resulting from shareholder distributions (153,643) (86,059) (53,938)
Capital share transactions(2)
Reinvestment of shareholder distributions - 15,549 20,861
Net increase (decrease) in net assets resulting from capital share transactions - 15,549 20,861
Total increase (decrease) in net assets (58,599) (191,693) 151,425
Net assets at beginning of year 1,562,055 1,753,748 1,602,323
Net assets at end of year $ 1,503,456 $ 1,562,055 $ 1,753,748
_________________________
(1) See Note 5 for a discussion of the sources of distributions paid by the Company.
(2) See Note 3 for a discussion of the Company’s capital share transactions.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Statements of Cash Flows
(in thousands)
Year Ended December 31,
2024 2023 2022
Cash flows from operating activities
Net increase (decrease) in net assets resulting from operations $ 95,044 $ (121,183) $ 184,502
Adjustments to reconcile net increase (decrease) in net assets resulting from operations to net cash provided by (used in) operating activities:
Purchases of long-term investments
(1,392,398) (774,503) (375,192)
Paid-in-kind interest (13,189) (14,199) (19,925)
Proceeds from sales and repayments of long-term investments
1,024,541 1,135,433 869,402
Net proceeds from sales (purchases) of short-term investments
22,865 (20,994) -
Net realized (gain) loss on investments 8,736 59,301 (37,383)
Net change in unrealized (appreciation) depreciation on investments 40,423 144,904 (82,009)
Net change in unrealized (appreciation) depreciation on swap contracts (70) (698) 698
Accretion of discount (10,419) (6,023) (6,785)
Amortization of deferred financing costs and discount 2,077 3,414 6,095
(Increase) decrease in receivable for investments sold and repaid (6,035) (20,838) (2,047)
(Increase) decrease in interest receivable 710 6,839 4,310
(Increase) decrease in dividends receivable 30 518 (878)
(Increase) decrease in swap income receivable (737) 47 (83)
(Increase) decrease in prepaid expenses and other assets 142 (158) 60
Increase (decrease) in payable for investments purchased 21,103 61,596 (49,500)
Increase (decrease) in swap income payable 269 233 26
Increase (decrease) in management fees payable 256 (2,769) 719
Increase (decrease) in administrative services expenses payable 238 (978) (238)
Increase (decrease) in interest payable
(238) (11,768) (799)
Increase (decrease) in trustees' fees payable - - (36)
Increase (decrease) in other accrued expenses and liabilities (22) (1,672) 2,815
Net cash provided by (used in) operating activities (206,674) 436,502 493,752
Cash flows from financing activities
Shareholder distributions paid (147,048) (56,313) (32,922)
Borrowings under repurchase facility
100,000 400,000 -
Borrowings under credit facilities
- - 29,009
Repayments of credit facilities
- (305,676) (10,000)
Repayments under senior secured notes
- (457,075) (31,925)
Deferred financing costs paid - (6,335) (138)
Net cash provided by financing activities (47,048) (425,399) (45,976)
Total increase (decrease) in cash, cash equivalents and restricted cash
(253,722) 11,103 447,776
Cash at beginning of year 492,758 481,655 33,879
Cash, cash equivalents and restricted cash at end of year(1)
$ 239,036 $ 492,758 $ 481,655
Supplemental disclosure
Non-cash reinvestment of shareholder distributions $ - $ 15,549 $ 20,861
Non-cash purchases of investments $ (117,855) $ (3,284) $ (1,587)
Non-cash sales of investments $ 117,855 $ 3,284 $ 1,587
Federal and state taxes paid $ 1,858 $ 4,081 $ 404
Interest paid
$ 34,052 $ 32,052 $ 50,420
_________________________
(1)As of December 31, 2024, 2023 and 2022, the company held cash and cash equivalents of $202,091, $486,059 and $481,655, respectively, and restricted cash of $36,945, $6,699 and $0, respectively. Restricted cash is the cash collateral required to be posted pursuant to the Company’s derivative contracts.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments
As of December 31, 2024
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
Senior Secured Loans-First Lien-96.1%
Accupac, LLC (r) Pharmaceuticals, Biotechnology & Life Sciences S+700
2.0% 12/31/29 $ 41,783 $ 40,822 $ 40,947
Accupac, LLC (e)(r) Pharmaceuticals, Biotechnology & Life Sciences S+700
2.0% 12/31/29 6,267 6,267 6,142
Acrisure, LLC (q) Insurance S+300
11/6/30 18,849 18,849 18,904
AI Aqua Merger Sub, Inc. (f) Capital Goods S+350
0.5% 7/31/28 19,900 19,775 19,942
Alegeus Technologies Holdings Corp. (r) Health Care Equipment & Services S+675
1.0% 11/5/29 30,000 29,281 29,288
American Auto Auction Group, LLC Commercial & Professional Services S+450
0.8% 12/30/27 23,739 23,739 23,927
Amerit Fleet Solutions, Inc. (r) Commercial & Professional Services S+525
0.8% 12/17/31 30,250 30,032 30,023
Amerit Fleet Solutions, Inc. (r) Commercial & Professional Services S+525
0.8% 12/17/29 1,507 1,486 1,496
Amerit Fleet Solutions, Inc. (e)(r) Commercial & Professional Services S+525
0.8% 12/17/29 1,243 1,243 1,234
Ansira Partners, Inc. (f)(r) Media & Entertainment S+675
1.5% 7/1/29 35,538 34,601 34,694
Ansira Partners, Inc. (e)(r) Media & Entertainment S+675
1.5% 7/1/29 3,927 3,927 3,834
APTIM Corp. (f) Commercial & Professional Services S+750
5/23/29 27,500 27,500 27,431
Archer Acquisition, LLC (r) Equity Real Estate Investment Trusts (REITs) S+500
1.0% 10/6/29 19,309 19,115 19,115
Array Midco, Corp. (k)(r) Commercial & Professional Services S+650
3.0% 12/31/29 25,192 24,613 24,688
Array Midco, Corp. (e)(k)(r) Commercial & Professional Services S+650
3.0% 12/31/29 7,558 7,558 7,482
Auris Luxembourg III S.a r.l (k) Health Care Equipment & Services S+375
2/28/29 22,802 22,802 23,102
Aveanna Healthcare LLC (f) Health Care Equipment & Services S+375
0.5% 7/17/28 20,695 18,864 20,556
Brock Holdings III, LLC (f)(k) Capital Goods S+600
0.5% 5/2/30 8,479 8,322 8,542
CCS Acquisition, LLC (r) Health Care Equipment & Services S+550
1.0% 12/30/30 31,429 30,872 30,800
CCS Acquisition, LLC (e)(r) Health Care Equipment & Services S+550
1.0% 12/30/30 8,571 8,571 8,400
CCS-CMGC Holdings, Inc. (f)(m)(o)(r) Health Care Equipment & Services S+693
2.0% 6/9/25 13,430 11,849 6,751
CCS-CMGC Holdings, Inc. (m)(o)(q) Health Care Equipment & Services S+725
2.0% 6/9/25 3,162 2,551 3,194
CCS-CMGC Holdings, Inc. (m)(o) Health Care Equipment & Services S+725
2.0% 6/9/25 2,752 2,621 2,780
CCS-CMGC Holdings, Inc. (f)(m)(o)(r) Health Care Equipment & Services S+750
10/1/25 14,319 12,645 3,231
Charlotte Buyer, Inc. (f) Health Care Equipment & Services S+475
0.5% 2/11/28 17,710 17,792 17,840
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
Chinos Intermediate 2, LLC Consumer Discretionary Distribution & Retail S+600
9/17/31 $ 16,000 $ 15,726 $ 16,240
CircusTrix Holdings, LLC (r) Consumer Services S+650
1.0% 7/18/25 2,140 2,140 2,167
CircusTrix Holdings, LLC (f)(r) Consumer Services S+650
1.0% 7/18/28 20,706 20,705 20,964
CircusTrix Holdings, LLC (r) Consumer Services S+650
1.0% 7/18/28 1,344 1,344 1,354
CircusTrix Holdings, LLC (e)(r) Consumer Services S+650
1.0% 7/18/25 538 538 544
Clear Channel Outdoor Holdings, Inc. (f)(k) Media & Entertainment S+400
8/21/28 12,500 12,317 12,599
Cop Village Green Acquisitions, Inc. (r) Real Estate Management & Development S+475
1.0% 9/25/30 12,707 12,469 12,453
Cop Village Green Acquisitions, Inc. (e)(r) Real Estate Management & Development S+475
1.0% 9/25/30 3,661 3,661 3,661
Cop Village Green Acquisitions, Inc. (e)(r) Real Estate Management & Development S+475
1.0% 9/25/30 6,101 6,101 6,101
CPM Holdings, Inc. (f) Capital Goods S+450
0.5% 9/28/28 24,750 24,813 24,066
Crown SubSea Communications Holding, Inc. (f) Capital Goods S+400
0.8% 1/30/31 5,970 5,916 6,074
Delivery Hero Finco LLC (k) Consumer Services S+500
0.5% 12/12/29 24,813 24,742 24,988
Digicel International Finance Ltd. (f) Telecommunication Services S+515, 1.5% PIK (1.5% Max PIK)
0.5% 5/25/27 20,231 19,614 19,703
Electrical Components International, Inc. (f)(r) Capital Goods S+650, 0.0% PIK (2.0% Max PIK)
2.0% 5/10/29 47,163 46,308 47,163
Electrical Components International, Inc. (e)(r) Capital Goods S+650, 0.0% PIK (2.0% Max PIK)
2.0% 5/10/29 2,600 2,600 2,600
Engineered Machinery Holdings, Inc. (f) Capital Goods S+375
0.8% 5/19/28 24,669 24,613 24,893
First Brands Group, LLC (f) Automobiles & Components S+500
1.0% 3/30/27 24,649 24,435 23,212
FLNG Liquefaction 2, LLC (p)(r) Energy-Midstream S+150
12/31/26 24,931 23,684 23,684
GasLog Ltd. (k)(r) Energy-Midstream 7.8%
3/31/29 7,523 7,488 7,420
Gen4 Dental Partners Opco, LLC (f)(r) Health Care Equipment & Services S+550
1.0% 5/13/30 23,454 22,911 22,750
Gen4 Dental Partners Opco, LLC (e)(r) Health Care Equipment & Services S+550
1.0% 5/13/30 9,429 9,429 9,146
Gold Rush Amusements, Inc. (f)(r) Consumer Services S+750
2.0% 10/12/28 30,365 29,863 30,365
Guardian US Holdco, LLC (f) Software & Services S+350
0.5% 1/31/30 21,683 21,709 21,755
HMN Acquirer Corp. (r) Media & Entertainment S+475
1.0% 11/5/31 15,741 15,537 15,505
HMN Acquirer Corp. (e)(r) Media & Entertainment S+475
1.0% 11/5/31 9,259 9,259 9,120
IXS Holdings, Inc. (q) Materials S+425
0.8% 3/5/27 19,850 19,341 19,219
Knowlton Development Corporation Inc. (q) Household & Personal Products S+400
8/15/28 35,365 35,365 35,647
LABL, Inc. (f) Commercial & Professional Services S+500
0.5% 10/29/28 24,610 24,014 23,857
Learning Care Group No. 2 Inc. (f) Consumer Services S+400
0.5% 8/11/28 21,731 21,844 21,975
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
Level 3 Financing, Inc. (f)(k) Telecommunication Services S+656
2.0% 4/15/29 $ 19,291 $ 18,912 $ 19,703
LR Orion Bidco Ltd. (k)(r) Software & Services S+550
11/22/31 36,290 36,562 35,927
LR Orion Bidco Ltd. (e)(k)(r) Software & Services SA+300
5/22/31 £ 3,468 4,342 4,342
LR Orion Bidco Ltd. (e)(k)(r) Software & Services S+550
11/22/31 $ 4,839 4,839 4,815
M2S Group Intermediate Holdings, Inc. Materials S+475
0.5% 8/25/31 29,310 27,355 28,358
Magnera Corp. (k) Materials S+425
11/4/31 10,000 9,938 10,035
Mavis Tire Express Services TopCo, L.P. (f) Consumer Discretionary Distribution & Retail S+350
0.8% 5/4/28 12,232 12,254 12,329
MedImpact Healthcare Systems, Inc. (f) Health Care Equipment & Services S+725
3/31/28 24,367 22,096 24,601
NES Hercules Class B Member, LLC (p)(r) Energy-Renewables S+178
1/31/28 23,546 21,662 21,662
OmniMax International, LLC (r) Capital Goods S+575
1.0% 12/6/30 30,561 29,879 29,950
OmniMax International, LLC (e)(r) Capital Goods S+575
1.0% 12/6/30 9,439 9,439 9,250
Onbe, Inc. (f)(r) Financial Services S+550
1.0% 7/25/31 38,000 37,280 37,288
Peloton Interactive, Inc. (f)(k) Consumer Durables & Apparel S+600
5/30/29 24,875 24,649 25,507
Permian Production Holdings, LLC (r)(u) Energy-Upstream 7.0%, 2.0% PIK (2.0% Max PIK)
11/23/25 2,897 2,797 2,879
Plainfield Renewable Energy Holdings LLC (m)(o)(r) Energy-Power 6.0%, 9.5% PIK (9.5% Max PIK)
8/22/25 15,384 11,237 5,050
Plainfield Renewable Energy Holdings LLC (m)(o)(r) Energy-Power 10.0% PIK (10.0% Max PIK)
8/22/25 4,648 3,827 -
Plainfield Renewable Energy Holdings LLC, Letter of Credit (e)(r) Energy-Power 10.0% 8/22/25 2,344 2,344 -
PODS, LLC (f) Transportation S+300
0.8% 3/31/28 19,846 18,905 18,624
Pretium PKG Holdings, Inc. (f) Materials S+250, 2.5% PIK (2.5% Max PIK)
1.0% 10/2/28 32,965 32,524 34,077
Proampac PG Borrower LLC (f) Materials S+400
0.8% 9/15/28 22,770 22,781 22,870
Project Granite Buyer, Inc. (r) Insurance S+575
0.8% 12/31/31 16,050 15,665 15,729
Project Granite Buyer, Inc. (e)(r) Insurance S+575
0.8% 12/31/31 1,480 1,480 1,465
Project Granite Buyer, Inc. (e)(r) Insurance S+575
0.8% 12/31/30 2,470 2,470 2,421
Realtruck Group, Inc. (f) Automobiles & Components S+350
0.8% 1/31/28 24,692 24,006 24,003
Revlon Intermediate Holdings IV LLC (f) Household & Personal Products S+688
1.0% 5/2/28 15,000 15,034 14,912
RPC TopCo Inc. (r) Consumer Durables & Apparel S+500
1.0% 8/30/31 21,915 21,553 21,915
RPC TopCo Inc. (e)(r) Consumer Durables & Apparel S+550
1.0% 8/30/31 3,030 3,030 3,030
Ryan, LLC (f) Commercial & Professional Services S+350
0.5% 11/14/30 8,809 8,828 8,844
SupplyOne, Inc. Materials S+375
4/19/31 8,933 8,932 9,018
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
TKC Holdings, Inc. (f) Consumer Staples Distribution & Retail S+500
1.0% 5/15/28 $ 24,195 $ 23,320 $ 24,513
TruGreen, LP (f) Commercial & Professional Services S+400
0.8% 11/2/27 24,653 23,565 24,068
United Natural Foods, Inc. (f)(k) Consumer Staples Distribution & Retail S+475
5/1/31 20,895 20,505 21,276
Weber-Stephen Products LLC (f) Consumer Durables & Apparel S+325
0.8% 10/30/27 26,036 24,144 25,995
WildBrain Ltd. (k)(r) Media & Entertainment S+600
1.0% 7/23/29 506 440 502
WildBrain Ltd. (f)(k)(r) Media & Entertainment S+600
1.0% 7/23/29 31,468 30,887 31,193
WildBrain Ltd. (e)(k)(r) Media & Entertainment S+600
1.0% 7/23/29 2,867 2,867 2,842
WMK, LLC (f)(r) Consumer Discretionary Distribution & Retail S+650
3.0% 1/25/28 31,698 30,780 31,104
WMK, LLC (e)(r) Consumer Discretionary Distribution & Retail S+650
3.0% 1/25/28 2,750 2,750 2,698
Wok Holdings, Inc. (q) Consumer Services S+625
9/1/29 22,440 21,543 21,703
Total Senior Secured Loans-First Lien 1,549,604 1,538,066
Unfunded Loan Commitments (92,715) (92,715)
Net Senior Secured Loans-First Lien 1,456,889 1,445,351
Senior Secured Loans-Second Lien-3.3%
MBS Services Holdings, LLC (r) Commercial & Professional Services 15.0% PIK (15.0% Max PIK)
9/20/30 31,996 31,067 29,116
Tenrgys, LLC (f)(r) Energy-Upstream S+750 (S+950 Max PIK)
1.0% 3/17/27 20,537 20,537 20,075
Total Senior Secured Loans-Second Lien 51,604 49,191
Senior Secured Bonds-6.9%
Allegiant Travel Co. (k) Transportation 7.3% 8/15/27 12,271 11,427 12,347
Full House Resorts, Inc. (f) Consumer Services 8.3% 2/15/28 25,742 23,793 25,671
Guitar Center, Inc. (f) Consumer Discretionary Distribution & Retail 8.5% 1/15/26 23,568 22,210 20,160
ST EIP Holdings Inc. (f)(r) Energy-Midstream 6.3% 1/10/30 10,143 9,794 9,192
Universal Entertainment Corp. (k) Consumer Durables & Apparel 9.9% 8/1/29 9,625 9,538 9,608
Warren Resources, Inc. (r) Energy-Upstream 4.0% 11/30/26 30,745 27,534 26,748
Total Senior Secured Bonds 104,296 103,726
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
Unsecured Debt-2.6%
Leia Acquisition Ltd. (fka AirSwift Holdings, Ltd.) (r) Commercial & Professional Services 10.0% PIK (10.0% Max PIK)
7/15/29 $ 399 $ 399 $ 399
Pioneer Midco, LLC (f)(r) Consumer Services 11.6% PIK (11.6% Max PIK)
11/18/30 38,371 38,386 38,563
Total Unsecured Debt
38,785 38,962
Asset Based Finance-3.1%
Bridge Street CLO IV Ltd., Subordinated Notes (g)(k)(r)(s)(u) Financial Services 17.9%
4/20/37 23,700 23,945 20,679
Bridge Street Warehouse CLO V Ltd. (k)(r)(t)(u) Financial Services 1.8%
8/1/25 25,000 25,492 25,492
Total Asset Based Finance
49,437 46,171
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Number of
Shares Amortized
Cost Fair
Value(d)
Equity/Other-10.6%(l)
Arena Energy, LP, Contingent Value Rights (r) Energy-Upstream 126,632,117 $ 351 $ 269
Ascent Resources Utica Holdings, LLC, Common Equity (n)(o)(r) Energy-Upstream 1,486,929 42,169 42,047
Global Jet Capital Holdings, LP, Preferred Equity (o)(r) Commercial & Professional Services 17,183 9,806 7,066
GWP Midstream Holdco, LLC, Common Equity (n)(o)(r)(u) Energy-Midstream 105,785 6,681 2,518
Harvest Oil & Gas Corp., Common Equity (o)(u) Energy-Upstream 135,062 14,418 375
Maverick Natural Resources, LLC, Common Equity (n)(r) Energy-Upstream 503,176 93,044 72,622
MBS Services Holdings, LLC, A-3 Units (n)(o)(r) Commercial & Professional Services 522,382 522 669
Permian Production Holdings, LLC, Common Equity (n)(o)(r)(u) Energy-Upstream 1,968,861 5 -
Telpico, LLC, Common Equity (n)(o)(r)(u) Energy-Upstream 50 - -
Tenrgys, LLC, Common Equity (n)(o)(r) Energy-Upstream 50 7,571 830
USA Compression Partners, LP, Preferred Equity (f)(k)(r) Energy-Midstream 9.8%
4/3/28 28,561 28,211 32,840
Total Equity/Other 202,778 159,236
TOTAL INVESTMENTS-122.6%
$ 1,903,789 1,842,637
Cash and Cash Equivalents-13.4%
(i) 202,091
Liabilities in Excess of Other Assets-(36.0%)
(j) (541,272)
NET ASSETS-100.0% $ 1,503,456
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
Total Return Swaps
Counterparty Pay/Receive(h)
Underlying Reference
Type
Number of Shares Interest Rate(b)
Payment Frequency
Maturity
Notional Amount
Unrealized Appreciation (Depreciation)
Nomura Global Financial Products Inc. Receive
FS Credit Opportunities Corp. Common Stock Equity
2,875,868 OBFR+1.15% Monthly
9/21/26 $ 19,613 $ -
BNP Paribas
Receive
Aretec Group, Inc.
Loan
- S+350
Monthly
9/12/25 14,244 11
Receive
Clear Channel Outdoor Holdings, Inc.
Loan - S+400
Monthly
9/12/25 7,500 128
Receive BCPE Empire Holdings, Inc.
Loan - S+350
Monthly
9/12/25 29,750 2
Receive Charlotte Buyer, Inc.
Loan - S+475
Monthly
9/12/25 7,443 39
Receive Pro Mach Group, Inc.
Loan - S+350
Monthly
9/12/25 24,799 (27)
Receive Cirque Du Soleil Holding USA Newco, Inc. Loan - S+375
Monthly
9/12/25 8,303 21
Receive Allied Universal Holdco LLC Loan - S+375
Monthly
9/12/25 22,727 (104)
Total
$ 70
__________________
(a) Security may be an obligation of one or more entities affiliated with the named company.
(b) Certain variable rate securities in the Company’s portfolio bear interest at a rate determined by a publicly disclosed base rate plus a basis point spread. As of December 31, 2024, the three-month Sterling Overnight Index Average, or SONIA, or SA was 4.62%, the one-month and three-month Secured Overnight Financing Rate, or SOFR, or S, was 4.33% and 4.31%, respectively, and the Overnight Bank Funding Rate, or OBFR, was 4.33%. SOFR based contracts may include a credit spread adjustment that is charged in addition to the base rate and basis point spread. PIK means paid-in-kind. PIK income accruals may be adjusted based on the fair value of the underlying investment. Variable rate securities with no floor rate use the respective benchmark rate in all cases.
(c) Denominated in U.S. dollars, unless otherwise noted.
(d) See Note 8 for additional information regarding the fair value of the Company’s financial instruments.
(e) Security is an unfunded commitment. The stated rate reflects the spread disclosed at the time of commitment and may not indicate the actual rate received upon funding.
(f) Security or portion thereof held within FSSL Finance BB AssetCo LLC, a wholly-owned subsidiary of the Company, and is pledged as collateral supporting the obligations outstanding under the repurchase facility with Barclays Bank PLC (see Note 9).
(g) Exempt from registration under Rule 144A of the Securities Act of 1933, as amended. Such securities may be deemed liquid by the investment adviser and may be resold, normally to qualified institutional buyers in transactions exempt from registration. As of December 31, 2024, the total market value of Rule 144A securities amounted to $20,679, which represented approximately 1.4% of net assets.
(h) Receive represents that the Company receives payments for any positive net return and makes payments for any negative net return on the underlying reference. Pay represents that the Company receives payments for any negative net return and makes payments for any positive net return on the underlying reference.
(i) Includes cash equivalents held in the Allspring Government Money Market Fund with a cost and fair market value of $19,699 and a 7-day yield of 4.4% as of December 31, 2024.
(j) Includes the effect of swap contracts.
(k) The investment is not a qualifying asset under the Investment Company Act of 1940, as amended, or the 1940 Act. A business development company may not acquire any asset other than a qualifying asset, unless, at the time the acquisition is made, qualifying assets represent at least 70% of the business development company’s total assets. As of December 31, 2024, 83.0% of the Company’s total assets represented qualifying assets.
(l) Listed investments may be treated as debt for U.S. generally accepted accounting principles, or GAAP, or tax purposes.
(m) Security was on non-accrual status as of December 31, 2024.
(n) Security held within FSEP Investments, Inc., a wholly-owned subsidiary of the Company.
(o) Security is non-income producing.
(p) Security or portion thereof held within Sustainable Infrastructure Investments, LLC, a wholly-owned subsidiary of the Company.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
(q) Security or portion thereof unsettled as of December 31, 2024.
(r) Security is classified as Level 3 in the Company’s fair value hierarchy (see Note 8).
(s) Securities of a collateralized loan obligation (“CLO”) where an affiliate of the Company’s investment adviser serves as collateral manager and administrator (see Note 4). The fair value of the investment is inclusive of the present value of future senior management fee and subordinated management fee cash flows from the collateral manager and administrator of the CLOs to the Company. The stated rate on these securities represents the annualized yield as of December 31, 2024.
(t) Security is a related party investment where an affiliate of the Company’s investment adviser serves as collateral manager and administrator (see Note 4). The stated rate on these securities represents the annualized yield as of December 31, 2024.
(u) Under the 1940 Act, the Company generally is deemed to be an “affiliated person” of a portfolio company if it owns 5% or more of the portfolio company’s voting securities and generally is deemed to “control” a portfolio company if it owns more than 25% of the portfolio company’s voting securities or it has the power to exercise control over the management or policies of such portfolio company. As of December 31, 2024, the Company held investments in portfolio companies of which it is deemed to be an “affiliated person” but is not deemed to “control”. The following table presents certain information with respect to investments in portfolio companies of which the Company was deemed to be an affiliated person as of December 31, 2024:
Portfolio Company Fair Value at December 31, 2023
Gross Additions(1)
Gross Reductions(2)
Net Realized Gain (Loss) Net Change in Unrealized Appreciation (Depreciation) Fair Value at December 31, 2024
Interest Income(3)
PIK Income(3)
Senior Secured Loans-First Lien
Permian Production Holdings, LLC $ 4,816 $ 197 $ (2,045) $ 148 $ (237) $ 2,879 $ 432 $ 78
Asset Based Finance
Bridge Street CLO IV Ltd., Subordinated Notes - 23,945 - - (3,266) 20,679 2,766 -
Bridge Street Warehouse CLO IV Ltd. - 22,729 (22,729) - - - - 729
Bridge Street Warehouse CLO V Ltd. - 25,492 - - - 25,492 - 492
Equity/Other
GWP Midstream Holdco, LLC, Common Equity 1,661 - - - 857 2,518 - -
Harvest Oil & Gas Corp., Common Equity 271 - - - 104 375 - -
Permian Production Holdings, LLC, Common Equity 748 - - - (748) - - -
Telpico, LLC, Common Equity - - - - - - - -
$ 7,496 $ 72,363 $ (24,774) $ 148 $ (3,290) $ 51,943 $ 3,198 $ 1,299
_____________
(1) Gross additions may include increases in the cost basis of investments resulting from new portfolio investments, PIK interest, the amortization of unearned income, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company into this category from a different category.
(2) Gross reductions may include decreases in the cost basis of investments resulting from principal collections related to investment repayments or sales, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company out of this category into a different category.
(3) Interest and PIK income presented for the year ended December 31, 2024.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2024
(in thousands, except share amounts)
(v) Under the 1940 Act, the Company generally is deemed to “control” a portfolio company if it owns more than 25% of the portfolio company’s voting securities or it has the power to exercise control over the management or policies of such portfolio company. As of December 31, 2024, the Company held investments in portfolio companies of which it is deemed to be an “affiliated person” of and deemed to “control.” The following table presents certain information with respect to investments in portfolio companies of which the Company was deemed to be an affiliated person and deemed to control as of December 31, 2024:
Portfolio Company Fair Value at December 31, 2023
Gross Additions(1)
Gross Reductions(2)
Net Realized Gain (Loss) Net Change in Unrealized Appreciation (Depreciation) Fair Value at December 31, 2024
Interest Income(3)
PIK Income(3)
Dividend Income(3)
Senior Secured Loans-First Lien
Allied Wireline Services, LLC $ 22,200 $ - $ (19,282) $ (50,995) $ 48,077 $ - $ - $ - $ -
Warren Resources, Inc. 23,823 60 (20,357) (3,526) - - 1,493 60 -
Sustainable Infrastructure Investments, LLC
Sustainable Infrastructure Investments, LLC(4)
39,427 5,793 (46,607) (2,336) 3,723 - - - 3,499
Equity/Other
Allied Wireline Services, LLC, Common Equity - - - (1,527) 1,527 - - - -
Allied Wireline Services, LLC, Warrants - - - - - - - - -
Warren Resources, Inc., Common Equity 15,566 127 (13,578) (7,303) 5,188 - - - -
$ 101,016 $ 5,980 $ (99,824) $ (65,687) $ 58,515 $ - $ 1,493 $ 60 $ 3,499
_____________
(1) Gross additions may include increases in the cost basis of investments resulting from new portfolio investments, PIK interest, the amortization of unearned income, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company into this category from a different category.
(2) Gross reductions may include decreases in the cost basis of investments resulting from principal collections related to investment repayments or sales, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company out of this category into a different category.
(3) Interest, PIK and dividend income presented for the year ended December 31, 2024.
(4) On December 18, 2024, the Company purchased Imperial Sustainable Infrastructure Investments, LLC’s remaining 12.5% interest in Sustainable Infrastructure Investments, LLC, or SIIJV, and SIIJV became a wholly-owned subsidiary of the Company.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments
As of December 31, 2023
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
Senior Secured Loans-First Lien-52.9%
Acrisure, LLC (f) Insurance S+450
11/6/30 $ 20,175 $ 20,033 $ 20,251
AI Aqua Merger Sub, Inc. (f)(q) Capital Goods S+425
0.5% 7/31/28 16,522 16,398 16,625
AI Aqua Merger Sub, Inc. (e)(q) Capital Goods S+425
0.5% 7/31/28 3,478 3,452 3,500
Aimbridge Acquisition Co. Inc. (f) Consumer Services S+375
2/2/26 21,805 21,036 20,380
AIRRO (Mauritius) Holdings II (k)(p)(r) Energy-Power S+400, 3.0% PIK (3.0% Max PIK)
1.5% 7/24/25 22,856 20,779 23,050
Allied Universal Holdco LLC (f) Consumer Services S+475
0.5% 5/12/28 9,975 9,841 9,998
Allied Universal Holdco LLC (f) Consumer Services S+375
0.5% 5/12/28 9,929 9,627 9,903
Allied Wireline Services, LLC (m)(o)(r)(v) Energy-Service & Equipment 10.0% PIK (10.0% Max PIK)
6/15/25 70,277 70,277 22,200
American Auto Auction Group, LLC (f) Capital Goods S+500
0.8% 12/30/27 9,975 9,752 9,858
Aretec Group, Inc. (f)(q) Financial Services S+450
8/9/30 9,352 9,071 9,358
Auris Luxembourg III S.a r.l (f)(k) Health Care Equipment & Services S+375
2/27/26 20,287 19,912 20,079
Aveanna Healthcare LLC (f) Health Care Equipment & Services S+375
0.5% 7/17/28 15,909 14,054 14,852
BCPE Empire Holdings, Inc. (f) Consumer Services S+475
0.5% 12/11/28 24,900 24,983 24,998
CCS-CMGC Holdings, Inc. (f) Health Care Equipment & Services S+550
10/1/25 21,465 18,225 18,222
Charlotte Buyer, Inc. (f)(q) Health Care Equipment & Services S+525
0.5% 2/11/28 19,845 19,937 19,952
CircusTrix Holdings, LLC (f)(r) Consumer Services S+675
1.0% 7/18/28 20,915 20,915 21,098
CircusTrix Holdings, LLC (e)(r) Consumer Services S+675
1.0% 7/18/25 2,688 2,688 2,712
CircusTrix Holdings, LLC (e)(r) Consumer Services S+675
1.0% 7/18/28 1,344 1,344 1,356
Cirque Du Soleil Holding USA Newco, Inc. (f)(q) Financial Services S+425
0.5% 3/8/30 6,387 6,331 6,372
Clear Channel Outdoor Holdings, Inc. (f)(k) Media & Entertainment S+350
8/21/26 20,000 19,551 19,829
Clydesdale Acquisition Holdings Inc. (f) Financial Services S+418
0.5% 4/13/29 19,949 19,740 20,061
Cox Oil Offshore, LLC, Volumetric Production Payments (g)(i)(r) Energy-Upstream 12.9% 12/31/23 100,000 1,129 1,234
CPM Holdings, Inc. (f) Capital Goods S+450
0.5% 9/28/28 20,000 20,038 20,092
Crown SubSea Communications Holding, Inc. (f)(q) Capital Goods S+500
0.8% 4/27/27 4,500 4,523 4,534
Crown SubSea Communications Holding, Inc. (f)(q) Capital Goods S+525
0.8% 4/27/27 5,430 5,445 5,468
Engineered Machinery Holdings, Inc. (f) Capital Goods S+350
0.8% 5/19/28 19,924 19,847 19,840
First Brands Group, LLC (f) Automobiles & Components S+500
1.0% 3/30/27 19,905 19,620 19,781
FR XIII PAA Holdings HoldCo, LLC (f)(r) Energy-Midstream S+750
0.5% 10/15/26 17,047 16,855 17,156
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2023
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
GasLog Ltd. (k)(r) Energy-Midstream 7.8%
3/31/29 $ 13,951 $ 13,874 $ 13,510
Gold Rush Amusements, Inc. (f)(r) Consumer Services S+750
2.0% 10/12/28 30,673 30,079 30,059
Goodnight Water Solutions, LLC (f)(r) Energy-Midstream S+700
0.5% 6/3/27 14,516 14,326 14,379
Guardian US Holdco, LLC (f) Financial Services S+400
0.5% 1/31/30 19,925 19,922 20,008
Knowlton Development Corporation Inc. (f) Household & Personal Products S+500
8/15/28 21,000 20,370 20,858
LABL, Inc. (f) Commercial & Professional Services S+500
0.5% 10/29/28 19,864 19,335 19,106
Learning Care Group No. 2 Inc. (f) Consumer Services S+475
0.5% 8/11/28 19,950 20,070 20,100
Mavis Tire Express Services TopCo, L.P. (f) Consumer Discretionary Distribution & Retail S+400
0.8% 5/4/28 19,893 19,797 19,955
Nephron Pharmaceuticals Corp. (r) Pharmaceuticals, Biotechnology & Life Sciences S+900
1.5% 9/11/26 20,000 19,400 19,300
Permian Production Holdings, LLC (r)(u) Energy-Upstream 7.0%, 2.0% PIK (2.0% Max PIK)
11/23/25 4,864 4,497 4,816
Phoenix Guarantor Inc. (f)(q) Financial Services S+350
3/5/26 19,923 19,891 19,951
Plainfield Renewable Energy Holdings LLC (m)(o)(r) Energy-Power 6.0%, 9.5% PIK (9.5% Max PIK)
8/22/25 13,297 12,329 7,473
Plainfield Renewable Energy Holdings LLC (m)(o)(r) Energy-Power 10.0% PIK (10.0% Max PIK)
8/22/25 4,015 3,827 -
Plainfield Renewable Energy Holdings LLC, Letter of Credit (e)(r) Energy-Power 10.0% 8/22/25 2,709 2,709 -
Pretium PKG Holdings, Inc. (f) Materials S+500
1.0% 10/2/28 30,118 29,634 29,591
Pro Mach Group, Inc. (f) Capital Goods S+400
1.0% 8/31/28 19,924 19,979 20,007
Proampac PG Borrower LLC (f) Materials S+450
0.8% 9/15/28 20,000 19,994 20,062
Realtruck Group, Inc. (f)(q) Automobiles & Components S+350
0.8% 1/31/28 19,956 19,117 19,740
Ryan, LLC (f)(q) Commercial & Professional Services S+450
0.5% 11/14/30 9,844 9,868 9,890
Ryan, LLC (e)(q) Commercial & Professional Services S+450
0.5% 11/14/30 1,036 1,039 1,041
SRS Distribution Inc. (f)(q) Capital Goods S+350
0.5% 6/2/28 19,924 19,729 19,982
TKC Holdings, Inc. (f) Consumer Staples Distribution & Retail S+550
1.0% 5/15/28 19,650 18,681 18,830
TruGreen, LP (f) Commercial & Professional Services S+400
0.8% 11/2/27 19,910 18,614 19,268
Warren Resources, Inc. (f)(r)(v) Energy-Upstream S+900, 1.0% PIK (1.0% Max PIK)
1.0% 5/22/24 23,823 23,823 23,823
Wattbridge Inc. (f)(r) Energy-Power S+985
1.8% 6/30/27 42,938 42,938 41,882
Total Senior Secured Loans-First Lien 889,245 836,390
Unfunded Loan Commitments (11,232) (11,232)
Net Senior Secured Loans-First Lien 878,013 825,158
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2023
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Principal
Amount(c)
Amortized
Cost Fair
Value(d)
Senior Secured Loans-Second Lien-3.5%
Citizen Energy Operating, LLC (f)(r) Energy-Upstream S+765
1.0% 6/29/27 $ 35,000 $ 34,527 $ 34,426
Tenrgys, LLC (f)(r) Energy-Upstream S+750, (S+950 Max PIK)
1.0% 3/17/27 20,537 20,537 19,998
Total Senior Secured Loans-Second Lien 55,064 54,424
Senior Secured Bonds-5.4%
Allegiant Travel Co. (k) Transportation 7.3% 8/15/27 10,601 9,614 10,385
Aretec Escrow Issuer Inc. (f) Financial Services 10.0% 8/15/30 7,000 7,000 7,447
Full House Resorts, Inc. (f) Consumer Services 8.3% 2/15/28 20,742 18,561 19,517
Guitar Center, Inc. (f) Consumer Discretionary Distribution & Retail 8.5% 1/15/26 20,000 17,987 17,473
Navios Logistics Finance, Inc. (f)(k) Transportation 10.8% 7/1/25 20,000 19,680 19,772
ST EIP Holdings Inc. (f)(r) Energy-Midstream 6.3% 1/10/30 10,365 9,951 9,874
Total Senior Secured Bonds 82,793 84,468
Commitment Amount(c)
Cost
Fair
Value(d)
Sustainable Infrastructure Investments, LLC-2.5%
Sustainable Infrastructure Investments, LLC (k)(r)(v) Energy-Power $ 60,603 $ 43,150 $ 39,427
Total Sustainable Infrastructure Investments, LLC 43,150 39,427
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Number of
Shares/Units
Amortized
Cost Fair
Value(d)
Equity/Other-31.9%(l)
Abaco Energy Technologies LLC, Preferred Equity (o)(r) Energy-Service & Equipment 28,942,003 $ 1,447 $ 10,159
Abaco Energy Technologies LLC, Common Equity (o)(r) Energy-Service & Equipment 6,944,444 6,944 1,375
AIRRO (Mauritius) Holdings II, Warrants, Strike: $1.00
(k)(o)(p)(r) Energy-Power 35 2,652 -
AirSwift Holdings, Ltd., Common Equity (k)(o)(r) Commercial & Professional Services 3,750,000 6,029 3,413
Allied Wireline Services, LLC, Common Equity (n)(o)(r)(v) Energy-Service & Equipment 48,400 1,527 -
Allied Wireline Services, LLC, Warrants (n)(o)(r)(v) Energy-Service & Equipment 22,000 $ - $ -
Arena Energy, LP, Contingent Value Rights (o)(r) Energy-Upstream 126,632,117 351 571
Ascent Resources Utica Holdings, LLC, Common Equity (n)(o)(r) Energy-Upstream 1,486,929 44,573 39,545
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2023
(in thousands, except share amounts)
Portfolio Company(a)
Footnotes Industry Rate(b)
Floor(b)
Maturity Number of
Shares/Units
Amortized
Cost Fair
Value(d)
Global Jet Capital Holdings, LP, Preferred Equity (o)(r) Commercial & Professional Services 2,785,562 $ 2,786 $ -
Global Jet Capital Holdings, LP, Preferred Equity (m)(o)(r) Commercial & Professional Services 9.0% PIK (9.0% Max PIK)
10/1/28 19,965 12,493 10,357
GWP Midstream Holdco, LLC, Common Equity (n)(o)(r)(u) Energy-Midstream 105,785 6,681 1,661
Harvest Oil & Gas Corp., Common Equity (o)(u) Energy-Upstream 135,062 14,418 271
Maverick Natural Resources, LLC, Common Equity (n)(o)(r) Energy-Upstream 503,176 93,044 164,040
NGL Energy Partners, LP, Preferred Equity (f)(k)(m)(o)(r) Energy-Midstream 14.2%
7/2/27 156,250 157,633 141,141
NGL Energy Partners, LP, Warrants (Par), Strike: $14.54
(k)(o)(r) Energy-Midstream 2,187,500 3,083 2,682
NGL Energy Partners, LP, Warrants (Premium), Strike: $17.45
(k)(o)(r) Energy-Midstream 3,125,000 2,623 3,083
NGL Energy Partners, LP, Warrants (Premium), Strike: $16.27
(k)(o)(r) Energy-Midstream 781,250 576 735
NGL Energy Partners, LP, Warrants (Par), Strike: $13.56
(k)(o)(r) Energy-Midstream 546,880 630 621
Permian Production Holdings, LLC, Common Equity (n)(o)(r)(u) Energy-Upstream 1,968,861 5 748
Telpico, LLC, Common Equity (n)(o)(r)(u) Energy-Upstream 50 - -
Tenrgys, LLC, Common Equity (n)(o)(r) Energy-Upstream 50 7,571 4,418
USA Compression Partners, LP, Preferred Equity (f)(k)(r) Energy-Midstream 9.8%
4/3/28 79,336 78,091 98,333
Warren Resources, Inc., Common Equity (o)(r)(v) Energy-Upstream 4,415,749 20,754 15,566
Total Equity/Other 463,911 498,719
Short-Term Investments-1.3%
U.S. Treasury Bills (s) U.S Treasury Bills 1/2/24 21,000 20,994 21,000
Total Short-Term Investments
20,994 21,000
TOTAL INVESTMENTS-97.5%
$ 1,543,925 1,523,196
Cash and Cash Equivalents-31.1%
(t) 486,059
Liabilities in Excess of Other Assets-(28.6%)
(j) (447,200)
NET ASSETS-100.0% $ 1,562,055
Equity Total Return Swaps
Counterparty Pay/Receive(h)
Underlying Reference
Number of Shares
Interest Rate(b)
Payment Frequency
Maturity
Notional Amount
Unrealized Appreciation
(Depreciation)
Nomura Global Financial Products Inc.
Receive
FS Credit Opportunities Corp. Common Stock
6,756,299 OBFR+1.15% Monthly
9/21/26 $ 38,308 $ -
Total Equity Total Return Swaps
$ -
______________________
(a) Security may be an obligation of one or more entities affiliated with the named company.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2023
(in thousands, except share amounts)
(b) Certain variable rate securities in the Company’s portfolio bear interest at a rate determined by a publicly disclosed base rate plus a basis point spread. As of December 31, 2023, the one-month and three-month Secured Overnight Financing Rate, or SOFR, or S, was 5.35% and 5.33%, respectively, and the Overnight Bank Funding Rate, or OBFR, was 5.32%. SOFR based contracts may include a credit spread adjustment that is charged in addition to the base rate and basis point spread. PIK means paid-in-kind. PIK income accruals may be adjusted based on the fair value of the underlying investment. Variable rate securities with no floor rate use the respective benchmark rate in all cases.
(c) Denominated in U.S. dollars, unless otherwise noted.
(d) See Note 8 for additional information regarding the fair value of the Company’s financial instruments.
(e) Security is an unfunded commitment. The stated rate reflects the spread disclosed at the time of commitment and may not indicate the actual rate received upon funding.
(f) Security or portion thereof held within FSSL Finance BB AssetCo LLC, a wholly-owned subsidiary of the Company, and is pledged as collateral supporting the obligations outstanding under the repurchase facility with Barclays Bank PLC (see Note 9).
(g) Investment is a real property interest and is included with Senior Secured Loans-First Lien to facilitate comparison with other investments.
(h) Receive represents that the Company receives payments for any positive net return and makes payments for any negative net return on the underlying reference. Pay represents that the Company receives payments for any negative net return and makes payments for any positive net return on the underlying reference.
(i) Security held within EP Northern Investments, LLC, a wholly-owned subsidiary of the Company.
(j) Includes the effect of swap contracts.
(k) The investment is not a qualifying asset under the Investment Company Act of 1940, as amended, or the 1940 Act. A business development company may not acquire any asset other than a qualifying asset, unless, at the time the acquisition is made, qualifying assets represent at least 70% of the business development company’s total assets. As of December 31, 2023, 80.8% of the Company’s total assets represented qualifying assets.
(l) Listed investments may be treated as debt for U.S. generally accepted accounting principles, or GAAP, or tax purposes.
(m) Security was on non-accrual status as of December 31, 2023.
(n) Security held within FSEP Investments, Inc., a wholly-owned subsidiary of the Company.
(o) Security is non-income producing.
(p) Security or portion thereof held within FS Power Investments II, LLC, a wholly-owned subsidiary of the Company.
(q) Security or portion thereof unsettled as of December 31, 2023.
(r) Security is classified as Level 3 in the Company’s fair value hierarchy (see Note 8).
(s) Security or portion thereof is pledged as collateral supporting the equity total return swap with Nomura Global Financial Products Inc. (see Note 6).
(t) Includes $23,098 held in Allspring Government Money Market Fund with a 7-day yield of 5.3% as of December 31, 2023.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2023
(in thousands, except share amounts)
(u) Under the 1940 Act, the Company generally is deemed to be an “affiliated person” of a portfolio company if it owns 5% or more of the portfolio company’s voting securities and generally is deemed to “control” a portfolio company if it owns more than 25% of the portfolio company’s voting securities or it has the power to exercise control over the management or policies of such portfolio company. As of December 31, 2023, the Company held investments in portfolio companies of which it is deemed to be an “affiliated person” but is not deemed to “control”. The following table presents certain information with respect to investments in portfolio companies of which the Company was deemed to be an affiliated person as of December 31, 2023:
Portfolio Company Fair Value at December 31, 2022
Gross Additions(1)
Gross Reductions(2)
Net Realized Gain (Loss) Net Change in Unrealized Appreciation (Depreciation) Fair Value at December 31, 2023
Interest Income(3)
PIK Income(3)
Senior Secured Loans-First Lien
Permian Production Holdings, LLC $ 4,767 $ 231 $ - $ - $ (182) $ 4,816 $ 675 $ 97
Equity/Other
GWP Midstream Holdco, LLC, Common Equity 5,044 - (3,112) 3,112 (3,383) 1,661 - -
Harvest Oil & Gas Corp., Common Equity 810 - (641) - 102 271 - -
Limetree Bay Energy, LLC, Class A Units 1,885 246 - (21,704) 19,573 - - -
Permian Production Holdings, LLC, Common Equity 11,420 - - - (10,672) 748 - -
Ridgeback Resources Inc., Common Equity 41,851 - (35,240) (11,359) 4,748 - - -
Telpico, LLC, Common Equity - - - - - - - -
$ 65,777 $ 477 $ (38,993) $ (29,951) $ 10,186 $ 7,496 $ 675 $ 97
_______________
(1) Gross additions may include increases in the cost basis of investments resulting from new portfolio investments, PIK interest, the amortization of unearned income, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company into this category from a different category.
(2) Gross reductions may include decreases in the cost basis of investments resulting from principal collections related to investment repayments or sales, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company out of this category into a different category.
(3) Interest and PIK income presented for the year ended December 31, 2023.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Consolidated Schedule of Investments (continued)
As of December 31, 2023
(in thousands, except share amounts)
(v) Under the 1940 Act, the Company generally is deemed to “control” a portfolio company if it owns more than 25% of the portfolio company’s voting securities or it has the power to exercise control over the management or policies of such portfolio company. As of December 31, 2023, the Company held investments in portfolio companies of which it is deemed to be an “affiliated person” of and deemed to “control.” The following table presents certain information with respect to investments in portfolio companies of which the Company was deemed to be an affiliated person and deemed to control as of December 31, 2023:
Portfolio Company Fair Value at December 31, 2022
Gross Additions(1)
Gross Reductions(2)
Net Realized Gain (Loss) Net Change in Unrealized Appreciation (Depreciation) Fair Value at December 31, 2023
Interest Income(3)
PIK Income(3)
Dividend Income(3)
Senior Secured Loans-First Lien
Allied Downhole Technologies, LLC
$ 8,436 $ 138 $ (8,574) $ - $ - $ - $ 256 $ 139 $ -
Allied Wireline Services, LLC 63,888 6,389 - - (48,077) 22,200 - 2,910 -
Warren Resources, Inc. 23,584 239 - - - 23,823 3,464 179 -
Sustainable Infrastructure Investments, LLC
Sustainable Infrastructure Investments, LLC 51,098 - (11,364) - (307) 39,427 - - 8,324
Equity/Other
Allied Wireline Services, LLC, Common Equity 10,463 - - - (10,463) - - - -
Allied Wireline Services, LLC, Warrants - - - - - - - - -
Warren Resources, Inc., Common Equity 36,982 - - - (21,416) 15,566 - - -
$ 194,451 $ 6,766 $ (19,938) $ - $ (80,263) $ 101,016 $ 3,720 $ 3,228 $ 8,324
_____________
(1) Gross additions may include increases in the cost basis of investments resulting from new portfolio investments, PIK interest, the amortization of unearned income, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company into this category from a different category.
(2) Gross reductions may include decreases in the cost basis of investments resulting from principal collections related to investment repayments or sales, the exchange of one or more existing securities for one or more new securities and/or the movement of an existing portfolio company out of this category into a different category.
(3) Interest, PIK and dividend income presented for the year ended December 31, 2023.
See notes to consolidated financial statements.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements
(in thousands, except share and per share amounts)
Note 1. Principal Business and Organization
FS Specialty Lending Fund, or the Company, was formed as a Delaware statutory trust under the Delaware Statutory Trust Act on September 16, 2010 and formally commenced investment operations on July 18, 2011. Prior to September 29, 2023, the Company’s name was FS Energy and Power Fund. The Company is an externally managed, non-diversified, closed-end management investment company that has elected to be regulated as a business development company, or BDC, under the Investment Company Act of 1940, as amended, or the 1940 Act. In addition, the Company has elected to be treated for U.S. federal income tax purposes, and intends to qualify annually, as a regulated investment company, or RIC, as defined under Subchapter M of the Internal Revenue Code of 1986, as amended, or the Code. The Company has various wholly-owned financing subsidiaries, including special-purpose financing subsidiaries and subsidiaries through which it holds or expects to hold interests in certain portfolio companies. One of the wholly-owned financing subsidiaries is Sustainable Infrastructure Investments, LLC, or SIIJV, which prior to December 18, 2024, was a joint venture between the Company and Imperial Sustainable Infrastructure Investments, LLC. On December 18, 2024, the Company purchased Imperial Sustainable Infrastructure Investments, LLC’s remaining 12.5% interest in SIIJV and SIIJV became a wholly-owned subsidiary of the Company. The audited consolidated financial statements include both the Company’s accounts and the accounts of its wholly-owned subsidiaries as of December 31, 2024. All significant intercompany transactions have been eliminated in consolidation. Certain of the Company’s consolidated subsidiaries are subject to U.S. federal and state income taxes.
In May 2023, the Company announced that its board of trustees approved the Company’s transition from an investment policy of investing primarily in energy companies to a diversified credit investment policy of investing across private and public credit in a broader set of industries, sectors and sub-sectors. The new policy became effective on September 29, 2023.
The Company’s current investment objectives are to generate current income and, to a lesser extent, long-term capital appreciation by investing primarily in private and public credit in a broad set of industries, sectors and sub-sectors. The Company’s investment policy is to invest primarily in a portfolio of secured and unsecured floating and fixed rate loans, bonds and other types of credit instruments, which, under normal circumstances, will represent at least 80% of the Company’s total assets.
Prior to September 29, 2023, the Company’s investment objectives were to generate current income and long-term capital appreciation by investing primarily in privately-held U.S. companies in the energy and power industry. Prior to September 29, 2023, the Company’s investment policy was to invest, under normal circumstances, at least 80% of its total assets in securities of energy and power related, or Energy, companies. The Company considers Energy companies to be those companies that engage in the exploration, development, production, gathering, transportation, processing, storage, refining, distribution, mining, generation or marketing of natural gas, natural gas liquids, crude oil, refined products, coal or power, including those companies that provide equipment or services to companies engaged in any of the foregoing.
The Company’s allocation to Energy investments has declined and the Company expects it to further decline over time, in each case, through the natural course of maturities, repayments and sales activity and by growing the total size of the portfolio through leverage facilities. The pace of the portfolio rotation remains dependent upon a number of factors, including the turnover of concentrated illiquid Energy investments, performance of underlying portfolio companies, high yield and energy market conditions, the Company’s access to borrowings and the amount and pace of the payment of enhanced distributions to shareholders, among others.
The Company is managed by FS/EIG Advisor, LLC, or FS/EIG Advisor, pursuant to an investment advisory and administrative services agreement, dated as of April 9, 2018, or the FS/EIG investment advisory agreement. FS/EIG Advisor oversees the management of the Company’s operations and is responsible for making investment decisions with respect to the Company’s portfolio. FS/EIG Advisor is jointly operated by an affiliate of Franklin Square Holdings, L.P. (which does business as FS Investments) and EIG Asset Management, LLC, or EIG.
Note 2. Summary of Significant Accounting Policies
Basis of Presentation: The accompanying audited consolidated financial statements of the Company have been prepared in accordance with U.S. generally accepted accounting principles, or GAAP. The Company is considered an investment company under GAAP and follows the accounting and reporting guidance applicable to investment companies under Accounting Standards Codification Topic 946, Financial Services-Investment Companies. The Company has evaluated the impact of subsequent events through the date the consolidated financial statements were issued and filed with the Securities and Exchange Commission, or the SEC.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 2. Summary of Significant Accounting Policies (continued)
Use of Estimates: The preparation of the audited consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Many of the amounts have been rounded, and all amounts are in thousands, except share and per share amounts.
Cash and Cash Equivalents: The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. The Company may invest its cash in a money market fund, which is stated at fair value. The Company's cash and cash equivalents are maintained with high credit quality financial institutions, which are members of the Federal Deposit Insurance Corporation.
Valuation of Portfolio Investments: The Company’s board of trustees is responsible for overseeing the valuation of the Company’s portfolio investments at fair value as determined in good faith pursuant to FS/EIG Advisor’s valuation policy. As permitted by Rule 2a-5 of the 1940 Act, the Company’s board of trustees has designated FS/EIG Advisor as the Company’s valuation designee, with day-to-day responsibility for implementing the portfolio valuation process set forth in FS/EIG Advisor’s valuation policy.
Accounting Standards Codification Topic 820, Fair Value Measurements and Disclosure, or ASC Topic 820, issued by the FASB clarifies the definition of fair value and requires companies to expand their disclosure about the use of fair value to measure assets and liabilities in interim and annual periods subsequent to initial recognition. ASC Topic 820 defines fair value as the price that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC Topic 820 also establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical securities; Level 2, which includes inputs such as quoted prices for similar securities in active markets and quoted prices for identical securities where there is little or no activity in the market; and Level 3, defined as unobservable inputs for which little or no market data exists, therefore requiring an entity to develop its own assumptions.
FS/EIG Advisor determines the fair value of the Company’s investment portfolio each quarter. Securities that are publicly-traded with readily available market prices will be valued at the reported closing price on the valuation date. Securities that are not publicly-traded with readily available market prices will be valued at fair value as determined in good faith by FS/EIG Advisor. In connection with that determination, FS/EIG Advisor will prepare portfolio company valuations which are based on relevant inputs, including, but not limited to, indicative dealer quotes, values of like securities, recent portfolio company financial statements and forecasts, and valuations prepared by independent third-party pricing and valuation services.
With respect to investments for which market quotations are not readily available, a multi-step valuation process is undertaken each quarter, as described below:
•the quarterly fair valuation process begins with FS/EIG Advisor facilitating the delivery of updated quarterly financial and other information relating to each investment to an independent third-party pricing or valuation service;
•the independent third-party pricing or valuation service then reviews and analyzes the information, along with relevant market and economic data, and determines proposed valuations for each portfolio company or investment according to the valuation methodologies in FS/EIG Advisor’s valuation policy and communicates the information to FS/EIG Advisor in the form of a valuation range for Level 2 and Level 3 assets;
•FS/EIG Advisor then reviews the preliminary valuation information for each portfolio company or investment and provides feedback about the accuracy, completeness and timeliness of the valuation-related inputs considered by the independent third-party pricing or valuation service and any suggested revisions thereto prior to the independent third-party pricing or valuation service finalizing its valuation range;
•FS/EIG Advisor then provides the valuation committee with its valuation determinations and valuation-related information for each portfolio company or investment, along with any applicable supporting materials; and other information that is relevant to the fair valuation process;
•the valuation committee meets with FS/EIG Advisor to receive the relevant quarterly reporting from FS/EIG Advisor and to discuss any questions from the valuation committee in connection with the valuation committee’s role in overseeing the fair valuation process; and
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 2. Summary of Significant Accounting Policies (continued)
•following the completion of its fair value oversight activities, the valuation committee (with the assistance of FS/EIG Advisor) provides the Company's board of trustees with a report regarding the quarterly valuation process.
Determination of fair value involves subjective judgments and estimates. Accordingly, the notes to the Company's consolidated financial statements refer to the uncertainty with respect to the possible effect of such valuations and any change in such valuations on the Company's consolidated financial statements. In making its determination of fair value, FS/EIG Advisor may use any independent third-party pricing or valuation services for which it has performed the appropriate level of due diligence. However, FS/EIG Advisor is not required to determine fair value in accordance with the valuation provided by any single source, and may use any relevant data, including information sourced by FS/EIG Advisor or provided by any independent third-party pricing or valuation service that FS/EIG Advisor deems to be reliable in determining fair value under the circumstances. Below is a description of factors that FS/EIG Advisor and any independent third-party valuation services may consider when determining the fair value of the Company's investments.
The valuation methods utilized for each portfolio company may vary depending on industry and company-specific considerations. Typically, the first step is to make an assessment as to the enterprise value of the portfolio company’s business in order to establish whether the portfolio company’s enterprise value is greater than the amount of its debt as of the valuation date. This analysis helps to determine a risk profile for the applicable portfolio company and its related investments, and the appropriate valuation methodology to utilize as part of the security valuation analysis. The enterprise valuation may be determined using a market or income approach.
Valuation of fixed income investments, such as loans and debt securities, depends upon a number of factors, including prevailing interest rates for like securities, expected volatility in future interest rates, call features, put features and other relevant terms of the debt. For investments without readily available market prices, FS/EIG Advisor may incorporate these factors into discounted cash flow models to arrive at fair value. Various methods may be used to determine the appropriate discount rate in a discounted cash flow model. Other factors that may be considered include the borrower’s ability to adequately service its debt, the fair market value of the borrower in relation to the face amount of its outstanding debt and the quality of collateral securing the debt investments.
For convertible debt securities, fair value generally approximates the fair value of the debt plus the fair value of an option to purchase the underlying security (i.e., the security into which the debt may convert) at the conversion price. To value such an option, a standard option pricing model may be used.
Valuation of Collateralized Loan Obligations, or CLO, subordinated notes considers a variety of relevant factors, including recent purchases and sales known to FS/EIG Advisor in similar securities and output from a third-party financial model. The third-party financial model contains detailed information on the characteristics of CLOs, including recent information about assets and liabilities, and is used to project future cash flows. Key inputs to the model include assumptions for future loan default rates/recovery rates, prepayment rates, reinvestment rates and discount rates. These are determined by considering both observable and third-party market data and prevailing general market assumptions and conventions.
The Company's equity interests in portfolio companies for which there is no liquid public market are valued at fair value. Generally, the value of the Company's equity interests in public companies for which market quotations are readily available is based upon the most recent closing public market price.
When the Company receives warrants or other equity securities at nominal or no additional cost in connection with an investment in a debt security, the cost basis in the investment will be allocated between the debt securities and any such warrants or other equity securities received at the time of origination. FS/EIG Advisor subsequently values these warrants or other equity securities received at their fair value.
Swap contracts typically are valued at their daily prices obtained from an independent third party. The aggregate settlement values and notional amounts of the swap contracts are not recorded in the consolidated financial statements. Fluctuations in the value of the swap contracts are recorded in the consolidated balance sheets as gross assets and gross liabilities and in the statements of operations as unrealized appreciation (depreciation) until closed, when they are recorded as net realized gain (loss).
Revenue Recognition: Security transactions are accounted for on the trade date. The Company records interest income on an accrual basis to the extent that it expects to collect such amounts. The Company records dividend income on the ex-dividend date. Distributions received from limited liability company, or LLC, and limited partnership, or LP, investments are evaluated to determine if the distribution should be recorded as dividend income or a return of capital. The Company does not accrue as a receivable interest
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 2. Summary of Significant Accounting Policies (continued)
or dividends on loans and securities if it has reason to doubt its ability to collect such income. The Company's policy is to place investments on non-accrual status when there is reasonable doubt that interest income will be collected. The Company considers many factors relevant to an investment when placing it on or removing it from non-accrual status including, but not limited to, the delinquency status of the investment, economic and business conditions, the overall financial condition of the underlying investment, the value of the underlying collateral, bankruptcy status, if any, and any other facts or circumstances relevant to the investment. If there is reasonable doubt that the Company will receive any previously accrued interest, then the accrued interest will be written-off. Payments received on non-accrual investments may be recognized as income or applied to principal depending upon the collectability of the remaining principal and interest. Non-accrual investments may be restored to accrual status when principal and interest become current and are likely to remain current based on the Company's judgment.
Loan origination fees, original issue discount and market discount are capitalized and the Company accretes such amounts as interest income over the respective term of the loan or security. Upon the prepayment of a loan or security, any unamortized loan origination fees and original issue discount are recorded as interest income. Structuring and other non-recurring upfront fees are recorded as fee income when earned. The Company records prepayment premiums on loans and securities as fee income when it earns such amounts. For the year ended December 31, 2024, the Company did not recognize any structuring or other upfront fee revenue. For the year ended December 31, 2023, the Company recognized $591 in structuring or other upfront fee revenue. For the year ended December 31, 2022, the Company did not recognize any structuring or other upfront fee revenue.
The Company invests in CLOs. Interest income from investments in the “equity” class of the CLO (in the Company's case, subordinated notes) is recorded based upon an estimation of an effective yield to expected maturity utilizing assumed cash flows in accordance with Accounting Standards Codification Topic 325-40-35, Beneficial Interests in Securitized Financial Assets, or ASC Topic 325. The Company monitors the expected cash inflows from its equity investments in the CLO, including the expected principal repayments. The effective yield is determined and updated quarterly.
Net Realized Gains or Losses, Net Change in Unrealized Appreciation or Depreciation and Net Change in Unrealized Gains or Losses on Foreign Currency: Gains or losses on the sale of investments are calculated by using the specific identification method. The Company measures realized gains or losses by the difference between the net proceeds from the repayment or sale and the amortized cost basis of the investment, without regard to unrealized appreciation or depreciation previously recognized, but considering unamortized fees. Net change in unrealized appreciation or depreciation reflects the change in portfolio investment values during the reporting period, including any reversal of previously recorded unrealized gains or losses when gains or losses are realized and the respective unrealized gain or loss on foreign currency for any foreign denominated investments it may hold. Net change in unrealized gains or losses on foreign currency reflects the change in the value of foreign currency held, receivables or accruals during the reporting period due to the impact of foreign currency fluctuations.
Capital Gains Incentive Fee: Pursuant to the terms of the FS/EIG investment advisory agreement, the incentive fee on capital gains is determined and payable in arrears as of the end of each calendar year (or upon termination of such agreement). Such fee equals 20.0% of the Company’s “incentive fee capital gains,” which are the Company’s realized capital gains on a cumulative basis from inception, calculated as of the end of the applicable period, computed net of all realized capital losses and unrealized capital depreciation on a cumulative basis, less the aggregate amount of any previously paid incentive fees on capital gains. The Company will accrue for the incentive fee on capital gains, which, if earned, will be paid annually. The Company will accrue the incentive fee on capital gains based on net realized and unrealized gains; however, the fee payable to FS/EIG Advisor will be based on realized gains and no such fee will be payable with respect to unrealized gains unless and until such gains are actually realized.
Subordinated Income Incentive Fee: Pursuant to the terms of the FS/EIG investment advisory agreement, FS/EIG Advisor may also be entitled to receive a subordinated incentive fee on income. The subordinated incentive fee on income under the FS/EIG investment advisory agreement is calculated and payable quarterly in arrears and equals 20.0% of the Company’s “pre-incentive fee net investment income” for the immediately preceding quarter subject to a hurdle rate, expressed as a rate of return on adjusted capital, equal to 1.625% per quarter, or an annualized hurdle rate of 6.5%. As a result, FS/EIG Advisor will not earn this incentive fee for any quarter until the Company’s pre-incentive fee net investment income for such quarter exceeds the hurdle rate of 1.625%. For purposes of this fee, ‘‘adjusted capital’’ means cumulative gross proceeds generated from sales of the Company’s common shares (including proceeds from its distribution reinvestment plan) reduced for distributions from non-liquidating dispositions of the Company’s investments paid to shareholders and amounts paid for share repurchases pursuant to the Company’s share repurchase program. Once the Company’s pre-incentive fee net investment income in any quarter exceeds the hurdle rate, FS/EIG Advisor will be entitled to a “catch-up” fee equal to the amount of the Company’s pre-incentive fee net investment income in excess of the hurdle rate, until the
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 2. Summary of Significant Accounting Policies (continued)
Company’s pre-incentive fee net investment income for such quarter equals 2.031%, or 8.125% annually, of adjusted capital. This “catch-up” feature will allow FS/EIG Advisor to recoup the fees foregone as a result of the existence of the hurdle rate. Thereafter, FS/EIG Advisor will be entitled to receive 20.0% of the Company’s pre-incentive fee net investment income.
Derivative Instruments: The Company’s derivative instruments may include fixed price swaps and equity total return swaps. The Company recognizes all derivative instruments as assets or liabilities at fair value in its consolidated financial statements. Derivative contracts entered into by the Company are not designated as hedging instruments for accounting purposes, and as a result, the Company presents changes in fair value through net change in unrealized appreciation (depreciation) on swap contracts in the consolidated statements of operations. Realized gains and losses of the derivative instruments are included in net realized gain (loss) on swap contracts in the consolidated statements of operations.
Income Taxes: The Company has elected to be treated for U.S. federal income tax purposes, and intends to qualify annually, as a RIC under Subchapter M of the Code. To maintain qualification as a RIC and maintain RIC tax treatment, the Company must, among other things, meet certain source-of-income and asset diversification requirements, as well as distribute to its shareholders, in respect of each tax year, dividends of an amount generally at least equal to 90% of its "investment company taxable income," which is generally the Company's net ordinary income plus the excess, if any, of realized net short-term capital gains over realized net long-term capital losses, determined without regarding to any deduction for dividends paid. As a RIC, the Company will not have to pay corporate-level U.S. federal income taxes on any ordinary income or capital gains that it distributes as dividends to its shareholders. The Company intends to make distributions in an amount sufficient to qualify for and maintain its RIC tax treatment each tax year and to not pay any U.S. federal income taxes on income so distributed. The Company will also be subject to nondeductible U.S. federal excise taxes if it does not timely distribute dividends each calendar year of an amount at least equal to the sum of 98% of ordinary income (taking into account certain deferrals and elections) for the calendar year, 98.2% of any capital gain net income (adjusted for certain ordinary losses) for the one-year period ending on October 31 of such calendar year, and any recognized and undistributed ordinary income from prior years for which it paid no income taxes. Certain of the Company’s consolidated subsidiaries are subject to U.S. federal and state income taxes.
Uncertainty in Income Taxes: The Company evaluates its tax positions to determine if the tax positions taken meet the minimum recognition threshold in connection with accounting for uncertainties in income tax positions taken or expected to be taken for the purposes of measuring and recognizing tax benefits or liabilities in the consolidated financial statements. Recognition of a tax benefit or liability with respect to an uncertain tax position is required only when the position is "more likely than not" to be sustained assuming examination by taxing authorities. The Company recognizes interest and penalties, if any, related to unrecognized tax liabilities as income tax expense in the consolidated statements of operations. During the years ended December 31, 2024, 2023 and 2022, the Company did not incur any interest or penalties.
The Company has analyzed the tax positions taken on federal and state income tax returns for all open tax years, and has not recorded a provision for taxes related to its wholly-owned taxable subsidiaries for the years ended December 31, 2024 and 2023, respectively. The Company's federal and state income and federal excise tax returns for tax years for which the applicable statutes of limitations have not expired are subject to examination by the Internal Revenue Service and state departments of revenue.
Distributions: Distributions to the Company's shareholders are recorded as of the record date. Subject to the discretion of the Company's board of trustees and applicable legal restrictions, the Company expects to declare and pay enhanced cash distributions on a quarterly basis. Net realized capital gains, if any, are distributed or deemed distributed at least annually.
Reclassifications: Certain amounts in the consolidated financial statements for the years ended December 31, 2023 and 2022 may have been reclassified to conform to the classifications used to prepare the consolidated financial statements for the year ended December 31, 2024.
Collateralized Loan Obligation - Warehouses: A Collateralized Loan Obligation Warehouse, or CLO Warehouse, is an entity organized for the purpose of holding syndicated bank loans, also known as leveraged loans, prior to the issuance of securities from that same vehicle. During the warehouse period, a CLO Warehouse will secure investments and build a portfolio of primarily leveraged loans and other debt obligations. The warehouse period terminates when the collateralized loan obligation vehicle issues various tranches of securities to the market. At this time, financing through the issuance of debt securities and subordinated notes is used to repay the bank financing.
The fair value of the Company’s investment in the CLO Warehouse is determined by adding the excess spread (accrued interest plus interest received less financing cost) to the Company’s initial investment in the CLO Warehouse. Consistent with
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 2. Summary of Significant Accounting Policies (continued)
Accounting Standards Codification Topic 820, Fair Value Measurements and Disclosure, or ASC Topic 820, issued by the Financial Accounting Standards Board, or the FASB, the excess spread represents the price that would be received from the sale of the CLO Warehouse investment in an orderly transaction between market participants. CLO warehouses can be exposed to credit events, mark to market changes, rating agency downgrades and financing cost changes.
Recent Accounting Pronouncements: In November 2023, the FASB issued ASU 2023-07, “Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures,” or ASU 2023-07, which enhances the disclosures required for reportable segments on an annual and interim basis. ASU 2023-07 is effective on a retrospective basis for annual periods beginning after December 15, 2023, for interim periods within fiscal years beginning after December 15, 2024, and early adoption is permitted. The Company has adopted ASU 2023-07 effective December 31, 2024, and concluded that the application of this guidance did not have any material impact on its consolidated financial statements.
The Company operates through a single operating and reporting segment with an investment objective to generate current income and, to a lesser extent, long-term capital appreciation. The chief operating decision maker, or CODM, is the Company's chief executive officer. The CODM assesses the performance and makes operating decisions of the Company on a consolidated basis primarily based on the Company’s change in shareholders’ equity resulting from operations. In addition to numerous other factors and metrics, the CODM utilizes net investment income as a key metric in determining the amount of dividends to be distributed to the Company’s shareholders. As the Company’s operations comprise of a single reporting segment, the segment assets are reflected on the accompanying consolidated balance sheets as “total assets” and the significant segment expenses are listed on the accompanying consolidated statements of operations.
Note 3. Share Transactions
Below is a summary of transactions with respect to the Company’s common shares during the years ended December 31, 2023 and 2022. There were no transactions with respect to the Company's common shares during the year ended December 31, 2024.
Year Ended December 31,
2023 2022
Shares
Amount
Shares
Amount
Reinvestment of Distributions(1)
4,040,482 $ 15,549 5,376,174 $ 20,861
Proceeds from Share Transactions
4,040,482 $ 15,549 5,376,174 $ 20,861
______________
(1) On September 15, 2023, the Company's second amended and restated distribution reinvestment plan terminated.
On July 19, 2023, the Company’s board of trustees, including the independent trustees, approved the termination of the Company’s second amended and restated distribution reinvestment plan with respect to distributions declared by the Company’s board of trustees on the Company’s common shares, effective as of September 15, 2023. After this date, all shareholders will receive any subsequent distributions in cash.
On February 25, 2020, the Company received exemptive relief from the SEC permitting it to offer multiple classes of common shares. While the Company has no present intention to recommence a public offering of its common shares, the Company could do so in the future.
Share Repurchase Program
In March 2020, the Company’s board of trustees determined to suspend for an indefinite period of time the Company’s share repurchase program and will reassess the Company’s ability to recommence such program in future periods.
Prior to its suspension, the Company intended to conduct quarterly tender offers pursuant to its share repurchase program. The Company's board of trustees will consider the following factors, among others, in making its determination regarding whether to cause the Company to offer to repurchase common shares and under what terms:
• the effect of such repurchases on the Company’s qualification as a RIC (including the consequences of any necessary asset sales);
• the liquidity of the Company's assets (including fees and costs associated with disposing of assets);
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 3. Share Transactions (continued)
• the Company’s investment plans and working capital requirements;
• the relative economies of scale with respect to the Company’s size;
• the Company’s history in repurchasing common shares or portions thereof; and
• the condition of the securities markets.
On May 5, 2017, the board of trustees of the Company amended the share repurchase program. As amended, the Company limited the maximum number of common shares to be repurchased for any repurchase offer to the greater of (A) the number of common shares that the Company can repurchase with the proceeds it has received from the sale of common shares under its distribution reinvestment plan during the twelve-month period ending on the date the applicable repurchase offer expires (less the amount of proceeds used to repurchase common shares on each previous repurchase date for repurchase offers conducted during such twelve-month period) (this limitation is referred to as the twelve-month repurchase limitation) and (B) the number of common shares that the Company can repurchase with the proceeds the Company receives from the sale of common shares under its distribution reinvestment plan during the three-month period ending on the date the applicable repurchase offer expires (this limitation is referred to as the three-month repurchase limitation). In addition to this limitation, the maximum number of common shares to be repurchased for any repurchase offer has also been limited to 10% of the weighted average number of common shares outstanding in the prior calendar year, or 2.5% in each calendar quarter. As a result, the maximum number of common shares to be repurchased for any repurchase offer would not exceed the lesser of (i) 10% of the weighted average number of common shares outstanding in the prior calendar year, or 2.5% in each calendar quarter, and (ii) whichever is greater of the twelve-month repurchase limitation described in clause (A) above and the three-month repurchase limitation described in clause (B) above.
Historically, pursuant to the Company's share repurchase program, the Company offered to repurchase common shares at a price equal to the price at which common shares were issued pursuant to the Company’s distribution reinvestment plan on the distribution date coinciding with the applicable share repurchase date. The price at which common shares were issued under the Company’s distribution reinvestment plan was determined by the Company’s board of trustees or a committee thereof, in its sole discretion, and was (i) not less than the net asset value per common share as determined in good faith by the Company’s board of trustees or a committee thereof, in its sole discretion, immediately prior to the payment date of the distribution and (ii) not more than 2.5% greater than the net asset value per common share as of such date. The Company’s board of trustees may amend, suspend or terminate the share repurchase program at any time, upon 30 days’ notice. The Company did not repurchase any shares pursuant to its share repurchase program during the years ended December 31, 2024, 2023 and 2022. The Company's distribution reinvestment plan was terminated effective September 15, 2023.
In order to minimize the expense of supporting small accounts and provide additional liquidity to shareholders of the Company holding small accounts after completion of a regular quarterly share repurchase offer, the Company reserves the right to repurchase the shares of and liquidate any investor’s account if the balance of such account is less than the Company’s $5 minimum initial investment, unless the account balance has fallen below the minimum solely as a result of a decline in the Company’s net asset value per share. The Company will provide or will cause to be provided 30 days’ prior written notice to potentially affected investors, which notice may be included in regular quarterly repurchase offer materials, of any such repurchase. Historically, any such repurchases were made at the Company’s most recent price at which the Company’s shares were issued pursuant to its distribution reinvestment plan. There were no de minimis account liquidations during the years ended December 31, 2024, 2023 and 2022.
Note 4. Related Party Transactions
Compensation of the Investment Adviser
Pursuant to the FS/EIG investment advisory agreement, FS/EIG Advisor is entitled to an annual base management fee based on the average weekly value of the Company’s gross assets (gross assets equals total assets as set forth on the Company’s consolidated balance sheets) during the most recently completed calendar quarter and an incentive fee based on the Company’s performance. The base management fee is payable quarterly in arrears, and is calculated at an annual rate of 1.75% of the average weekly value of the Company’s gross assets. See Note 2 for a discussion of the capital gains and subordinated income incentive fees that FS/EIG Advisor may be entitled to under the FS/EIG investment advisory agreement. During the years ended December 31, 2024, 2023 and 2022, there were no capital gains or subordinated income incentive fees accrued or paid to FS/EIG Advisor.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 4. Related Party Transactions (continued)
FS/EIG Advisor may receive structuring or other upfront fees from portfolio companies in which FS/EIG Advisor has caused the Company to invest. FS/EIG Advisor has agreed to offset the amount of any structuring, upfront or certain other fees received by FS/EIG Advisor or its members against the management fees payable by the Company under the FS/EIG investment advisory agreement. FS/EIG Advisor may agree to discontinue offsetting such fees in the future. During the years ended December 31, 2024, 2023 and 2022, $8, $341 and $2,619, respectively, of structuring, upfront or certain other fees received by FS/EIG Advisor or its members were offset against management fees.
Pursuant to the FS/EIG investment advisory agreement, FS/EIG Advisor oversees the Company’s day-to-day operations, including the provision of general ledger accounting, fund accounting, legal services, investor relations, certain government and regulatory affairs activities and other administrative services. FS/EIG Advisor also performs, or oversees the performance of, the Company’s corporate operations and required administrative services, which includes being responsible for the financial records that the Company is required to maintain and preparing reports for the Company’s shareholders and reports filed with the SEC.
The Company reimburses FS/EIG Advisor for expenses necessary to perform services related to the Company’s administration and operations, including FS/EIG Advisor’s allocable portion of the compensation and/or related expenses of certain personnel of FS Investments and EIG providing administrative services to the Company on behalf of FS/EIG Advisor, and for transactional expenses for prospective investments, such as fees and expenses associated with performing due diligence reviews of investments that do not close, often referred to as "broken deal" costs. The Company reimburses FS/EIG Advisor no less than quarterly for expenses necessary to perform services related to the Company’s administration and operations. The amount of this reimbursement is set at the lesser of (1) FS/EIG Advisor’s actual costs incurred in providing such services and (2) the amount that the Company estimates it would be required to pay alternative service providers for comparable services in the same geographic location. FS/EIG Advisor allocates the cost of such services to the Company based on factors such as time allocations and other reasonable metrics. The Company’s board of trustees reviews the methodology employed in determining how the expenses are allocated to the Company and assesses the reasonableness of such reimbursements for expenses allocated to the Company based on the breadth, depth and quality of such services as compared to the estimated cost to the Company of obtaining similar services from third-party providers known to be available. In addition, the Company’s board of trustees considers whether any single third-party service provider would be capable of providing all such services at comparable cost and quality. Finally, the Company’s board of trustees, among other things, compares the total amount paid to FS/EIG Advisor for such services as a percentage of the Company’s net assets to the same ratio as reported by other comparable BDCs. The Company does not reimburse FS/EIG Advisor for any services for which it receives a separate fee, or for rent, depreciation, utilities, capital equipment or other administrative items allocated to a controlling person of FS/EIG Advisor.
The following table describes the fees and expenses accrued under the FS/EIG investment advisory agreement during the years ended December 31, 2024, 2023 and 2022:
Year Ended December 31,
Related Party
Source Agreement
Description
2024 2023 2022
FS/EIG Advisor FS/EIG investment advisory agreement Base Management Fee(1)
$ 35,507 $ 35,036 $ 41,940
FS/EIG Advisor FS/EIG investment advisory agreement Administrative Services Expenses(2)
$ 5,695 $ 6,087 $ 5,626
_________________________
(1) During the years ended December 31, 2024, 2023 and 2022, $35,251, $37,805 and $41,221, respectively, in base management fees were paid to FS/EIG Advisor. The base management fee amount shown in the table above for the years ended December 31, 2024, 2023 and 2022 is shown net of $8, $341 and $2,619, respectively, in structuring, upfront or certain other fees received by FS/EIG Advisor or its members and offset against base management fees. As of December 31, 2024, $8,672 in base management fees were payable to FS/EIG Advisor.
(2) During the years ended December 31, 2024, 2023 and 2022, $3,655, $4,431 and $3,930, respectively, of the accrued administrative services expenses related to the allocation of costs of administrative personnel for services rendered to the Company by FS/EIG Advisor and the remainder related to other reimbursable expenses. The Company paid $5,007, $6,469 and $5,134 in administrative services expenses to FS/EIG Advisor, or its affiliates, during the years ended December 31, 2024, 2023 and 2022, respectively.
Potential Conflicts of Interest
The members of the senior management and investment teams of FS/EIG Advisor serve or may serve as officers, directors or principals of entities that operate in the same or a related line of business as the Company does, or of investment vehicles managed by the same personnel. The officers, managers and other personnel of FS/EIG Advisor serve and may serve in the future in similar or other capacities for the investment advisers to the other funds managed or advised by FS Investments or EIG, and may serve in similar or other capacities for the investments advisers to future investment vehicles affiliated with FS Investments or EIG. In serving in these
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 4. Related Party Transactions (continued)
multiple and other capacities, they may have obligations to other clients or investors in those entities, the fulfillment of which may not be in the Company’s best interests or in the best interest of the Company’s shareholders. The Company’s investment objectives may overlap with the investment objectives of such investment funds, accounts or other investment vehicles. In addition, members of the senior management and investment teams and other employees of FS/EIG Advisor or its members or their respective affiliates may from time to time invest in portfolio companies in which the Company also invests. Subject to applicable law, the Company may periodically sell loans that it previously acquired after a short period of time to earn fees or other revenue, including from purchasers that do not participate in loan originations. FS/EIG Advisor or its affiliates may receive asset-based fees from purchasers that are advisory clients, resulting in a conflict of interest for FS/EIG Advisor. In some cases, FS/EIG Advisor (or an affiliate) will receive a fee from a third-party investor for making excess investment opportunities available, and such fee creates an incentive to recommend such opportunities to the Company and to allocate opportunities to such a third-party investor.
Exemptive Relief
As a BDC, the Company is subject to certain regulatory restrictions in making its investments. For example, BDCs generally are not permitted to co-invest with certain affiliated entities in transactions originated by the BDC or its affiliates in the absence of an exemptive order from the SEC. However, BDCs are permitted to, and may, simultaneously co-invest in transactions where price is the only negotiated term. In an order dated June 4, 2013, or the Original Order, the SEC granted exemptive relief permitting the Company, subject to the satisfaction of certain conditions, to co-invest in certain privately negotiated investment transactions with certain affiliates of its former investment adviser, including FS KKR Capital Corp., or collectively the Company’s co-investment affiliates. Effective April 9, 2018, or the JV Effective Date, and in connection with the transition of advisory services to a joint advisory relationship with EIG, the Company’s board of trustees authorized and directed that the Company (i) withdraw from the Original Order, except with respect to any transaction in which the Company participated in reliance on the Original Order prior to the JV Effective Date, and (ii) rely on an exemptive relief order dated April 10, 2018, granted to EIG and its affiliates which permits the Company to participate in co-investment transactions with certain other EIG advised funds, or the EIG Order. Effective November 13, 2024, and in connection with the change to the Company's investment strategy, the Company's board of trustees authorized and directed that the Company (x) withdraw from the EIG Order, except with respect to any transaction in which the Company participated in reliance on the EIG Order prior to such date, and (y) rely on an exemptive relief order dated November 13, 2024, granted to the Company and certain of its affiliates which permits the Company, subject to the satisfaction of certain conditions, to co-invest in certain privately negotiated investment transactions with certain of the Company's affiliates, or the FS Order.
Bridge Street CLO IV Ltd.
The collateral manager and administrator of Bridge Street CLO IV Ltd., or Bridge Street CLO IV, or CLO issuer, FS Structured Products Advisor, LLC, or FSSPA, is an affiliate of FS/EIG Advisor. In accordance with an agreement between FSSPA and the Company, as long as the Company owns more than 4.99% of the CLO issuer’s equity, FSSPA will reimburse the Company on a quarterly basis in an amount equal to a portion of the compensation received by FSSPA from the CLO issuer, equal to the Company's percentage ownership of the CLO issuer's subordinated notes, for FSSPA's collateral management and collateral administrator services less certain administrative costs borne by FSSPA during the relevant quarter as defined in the expense reimbursement agreement.
Bridge Street Warehouse CLO IV Ltd., or Bridge Street Warehouse CLO IV, was a CLO Warehouse that commenced operations on January 26, 2024. During the warehouse phase and through April 26, 2024, Bridge Street Warehouse CLO IV financed its loan purchases using its warehouse financing facility (including a subordinated loan facility provided by the Company). On April 26, 2024, the CLO Warehouse phase terminated when the collateralized loan obligation vehicle, Bridge Street CLO IV, issued to the market various tranches of notes in the amount of $354,700, including $23,700 principal amount for subordinated notes and rights to receive cash flows from collateral management fees. On such date, Bridge Street CLO IV, following a merger with Bridge Street Warehouse CLO IV, used the proceeds from its note issuance to repay the warehouse financing facility.
Bridge Street Warehouse CLO V Ltd.
Bridge Street Warehouse CLO V Ltd., or Bridge Street Warehouse CLO V, is a CLO Warehouse in which the Company contributes capital by subscribing for the preference shares issued by Bridge Street Warehouse CLO V, which is accounted for as a financial instrument at fair value as of December 31, 2024. Bridge Street Warehouse CLO V commenced operations on August 1, 2024 and was in the warehouse phase as of December 31, 2024. As of December 31, 2024, the Company contributed $25,000 to Bridge Street Warehouse CLO V. The Company had an investment of $25,492 in Bridge Street Warehouse CLO V, at fair value, as of December 31, 2024. Bridge Street Warehouse CLO V financed the majority of its loan purchases using its warehouse financing
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 4. Related Party Transactions (continued)
facility. The amount of interest income from the Bridge Street Warehouse CLO V recorded on the Company’s consolidated statement of operations for the year ended December 31, 2024 was approximately $492.
Note 5. Distributions
The following table reflects the cash distributions per share that the Company has declared on its common shares during the years ended December 31, 2024, 2023 and 2022:
Distribution
For the Year Ended December 31, Per Share Amount
2022 $ 0.1200 $ 53,938
2023 $ 0.1892 $ 86,059
2024 $ 0.3373 $ 153,643
Subject to applicable legal restrictions and the sole discretion of the Company's board of trustees, the Company expects to provide enhanced quarterly distributions to shareholders until the achievement of a long-term liquidity event. For the quarter ended December 31, 2024, the distribution amount per share was $0.0821, comprised of an initial distribution per share of $0.0753 declared in December 2024 and the remaining distribution per share of $0.0068 declared in January 2025, representing an annualized distribution rate to shareholders of approximately 10.0% based on the net asset value of $3.30 per share as of December 31, 2024. The enhanced distributions are expected to be paid quarterly and increase in subsequent years until the achievement of a long-term liquidity event, subject to a maximum cap of 15.0% of the Company's then-current estimated net asset value beyond 2026. The Company expects a portion of the distributions may represent a return of investor capital, helping to accelerate liquidity for shareholders in the near-term. There can be no assurance that the Company will be able to pay distributions in the future. The timing and amount of any future distributions to shareholders are subject to applicable legal restrictions and the sole discretion of the Company's board of trustees.
Historically, the Company had an “opt in” distribution reinvestment plan for its shareholders. As a result, if the Company made a cash distribution, its shareholders would receive distributions in cash unless they specifically “opted in” to the distribution reinvestment plan so as to have their cash distributions reinvested in additional common shares. However, certain state authorities or regulators may have imposed restrictions from time to time that may have prevented or limited a shareholder’s ability to participate in the distribution reinvestment plan. The Company's distribution reinvestment plan was terminated effective as of September 15, 2023.
Under the prior distribution reinvestment plan, cash distributions to participating shareholders would be reinvested in additional common shares at a purchase price determined by the Company's board of trustees, or a committee thereof, in its sole discretion, that was (i) not less than the net asset value per common share as determined in good faith by the Company's board of trustees or a committee thereof, in its sole discretion, immediately prior to the payment of the distribution and (ii) not more than 2.5% greater than the net asset value per common share as of such date. Any distributions reinvested under the plan would remain taxable to a U.S. shareholder.
The Company may fund its cash distributions to shareholders from any sources of funds legally available to it, including proceeds from the sale of the Company’s common shares, borrowings, net investment income from operations, capital gains proceeds from the sale of assets and non-capital gains proceeds from the sale of assets, dividends or other distributions paid to the Company on account of preferred and common equity investments in portfolio companies. The Company has not established limits on the amount of funds it may use from available sources to make distributions. The Company's distribution proceeds have exceeded and in the future may exceed its earnings. Therefore, portions of the distributions that the Company has made represented, and may make in the future may represent, a return of capital to shareholders, which lowers their tax basis in their common shares. A return of capital generally is a return of a shareholder’s investment rather than a return of earnings or gains derived from the Company’s investment activities. Each year a statement on Form 1099-DIV identifying the sources of the distributions (i.e., paid from ordinary income, paid from net capital gains on the sale of securities, and/or a return of capital, which is a nontaxable distribution) will be mailed to the Company’s shareholders. There can be no assurance that the Company will be able to pay distributions at a specific rate or at all.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 5. Distributions (continued)
The following table reflects the sources of the cash distributions on a tax basis that the Company declared on its common shares during the years ended December 31, 2024, 2023 and 2022:
Year Ended December 31,
2024 2023 2022
Source of Distribution Distribution Amount Percentage Distribution Amount Percentage Distribution Amount Percentage
Net investment income(1)
$ 153,643 100 % $ 86,059 100 % $ 53,938 100 %
Short-term capital gains proceeds from the sale of assets - - - - - -
Long-term capital gains proceeds from the sale of assets - - - - - -
Return of capital - - - - - -
Total $ 153,643 100 % $ 86,059 100 % $ 53,938 100 %
______________________________
(1) During the years ended December 31, 2024, 2023 and 2022, 89.4%, 87.1% and 85.5%, respectively, of the Company's gross investment income was attributable to cash income earned, 5.9%, 9.0% and 10.8%, respectively, was attributable to paid-in-kind, or PIK, interest and 4.7%, 3.9% and 3.7%, respectively, was attributable to non-cash accretion of discount.
The Company’s net investment income on a tax basis for the years ended December 31, 2024, 2023 and 2022 was $143,919, $101,804 and $69,711, respectively. As of December 31, 2024 and 2023, the Company had $27,973 and $36,369, respectively, of undistributed ordinary income on a tax basis.
The difference between the Company’s GAAP-basis net investment income and its tax-basis net investment income was primarily due to the reclassification of unamortized original issue discount, certain prepayment fees recognized upon prepayment of loans from income for GAAP purposes to realized gains for tax purposes, the impact of certain subsidiaries that are consolidated for purposes of computing GAAP-basis net investment income but are not consolidated for purposes of computing tax-basis net investment income, reclassification of swap reset payments and income recognized for GAAP purposes on certain transactions but not subject to tax or income recognized for tax purposes on certain transactions but not recognized for GAAP purposes. The Company’s undistributed net investment income on a tax basis may be adjusted following the filing of the Company’s tax returns.
The following table sets forth a reconciliation between GAAP-basis net investment income and tax-basis net investment income during the years ended December 31, 2024, 2023 and 2022:
Year Ended December 31,
2024 2023 2022
GAAP-basis net investment income $ 134,571 $ 81,363 $ 69,769
Reclassification of unamortized original issue discount and prepayment fees (5,821) (5,072) (12,480)
GAAP vs. tax-basis impact of consolidation of certain subsidiaries (170) 2,652 1,242
Income subject to tax not recorded for GAAP (income recorded for GAAP not subject to tax) 4,226 22,612 13,036
Reclassification of swap reset payments and income
10,183 1,018 -
Other miscellaneous differences 930 (769) (1,856)
Tax-basis net investment income $ 143,919 $ 101,804 $ 69,711
The Company may make certain adjustments to the classification of shareholders’ equity as a result of permanent book-to-tax differences. During the year ended December 31, 2024, the Company increased accumulated earnings (deficit) and reduced capital in excess of par value by $56,210. During the year ended December 31, 2023, the Company increased accumulated earnings (deficit) and reduced capital in excess of par value by $21,053.
The determination of the tax attributes of the Company’s distributions is made annually as of the end of the Company’s fiscal year based upon the Company’s taxable income for the full year and distributions paid for the full year. Therefore, a determination made on a quarterly basis may not be representative of the actual tax attributes of the Company's distributions for a full year. The actual tax characteristics of distributions to shareholders are reported to shareholders annually on Form 1099-DIV.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 5. Distributions (continued)
As of December 31, 2024 and 2023, the components of accumulated earnings on a tax basis were as follows:
December 31,
2024 2023
Distributable ordinary income $ 27,973 $ 36,369
Accumulated capital losses(1)
(1,582,470) (1,595,362)
Other temporary differences (37) (670)
Net unrealized appreciation (depreciation) on investments, swap contracts and foreign currency(2)
(72,040) (64,522)
Total $ (1,626,574) $ (1,624,185)
______________________________
(1)Net capital losses may be carried forward indefinitely, and their character is retained as short-term or long-term. As of December 31, 2024, the Company had short-term and long-term capital loss carryforwards available to offset future realized capital gains of $77,285 and $1,505,185, respectively.
(2)As of December 31, 2024 and 2023, for federal income tax purposes, the gross unrealized appreciation on the Company's investments was $67,490 and $148,817, respectively, and the gross unrealized depreciation on the Company's investments was $138,467 and $213,339, respectively.
The aggregate cost of the Company's investments for federal income tax purposes totaled $1,913,645 and $1,587,709 as of December 31, 2024 and 2023, respectively. The aggregate net unrealized appreciation (depreciation) of the Company's investments on a tax basis was $(71,008) and $(64,513) as of December 31, 2024 and 2023, respectively.
As of December 31, 2024 and 2023, the Company had deferred tax assets of $150,870 and $142,608, respectively, particularly resulting from interest expense disallowance, net operating losses and capital losses of the Company's wholly-owned taxable subsidiaries. As of December 31, 2024, the Company had no deferred tax liability. As of December 31, 2023, the Company had deferred tax liabilities of $2,595, resulting from unrealized appreciation on investments held by the Company's wholly-owned taxable subsidiaries. As of December 31, 2024 and 2023, certain wholly-owned taxable subsidiaries anticipated that they would be unable to fully utilize their deferred tax assets, therefore the deferred tax assets were offset by valuation allowances of $150,870 and of $140,013, respectively.
Note 6. Financial Instruments
The Company may trade in financial instruments with off-balance sheet risk in the normal course of its investing activities. During the year ended December 31, 2024, the Company entered into a total return swap of senior secured floating rate loans. During the year ended December 31, 2023, the Company entered into an equity total return swap to obtain exposure to a security without owning such security. During the years ended December 31, 2023 and 2022, the Company utilized commodity fixed price swaps to economically hedge certain risks against natural gas and crude oil price exposure related to certain investments in the Company's portfolio. While the use of these derivative instruments limits the downside risk of adverse price movements, their use also limits future revenues from upward price movements.
Fixed Price Swaps
The Company previously utilized commodity fixed price swaps to economically hedge certain risks against natural gas and crude oil price exposure related to certain investments in the Company's portfolio. A fixed price swap is a contract between two parties in which settlements are made at a specified time based on the difference between the fixed price specified in the contract and the referenced settlement price. When the referenced settlement price was less than the price specified in the contract, the Company received an amount from the counterparty based on the price difference multiplied by the volume. Similarly, when the referenced settlement price exceeded the price specified in the contract, the Company paid the counterparty an amount based on the price difference multiplied by the volume.
The Company's fixed price swaps were settled monthly and the settlement prices contained in these fixed price swaps were based on commodity exchanges; the NYMEX Henry Hub for natural gas and the ICE Brent for oil. Gas volumes are measured in one million British thermal units, or MMBtus, and oil volumes are measured in barrels, or Bbls. The changes in the value of the fixed price swaps were recorded as unrealized appreciation or depreciation on swap contracts in the consolidated balance sheets. The Company's fixed price swaps settled monthly and the changes in the value of the fixed price swaps were recorded as realized gains or losses in the consolidated statements of operations. The primary underlying risk exposure through the use of fixed price swaps is commodity price
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 6. Financial Instruments (continued)
risk of the underlying commodity, such as natural gas and crude oil. As of December 31, 2023, the Company's fixed price swaps were fully terminated.
Total Return Swaps
The Company utilizes total return swaps to obtain exposure to securities without owning such securities. A total return swap, or TRS, is a contract in which there is an exchange of cash flows whereby one party agrees to make periodic payments based on the total return (distributions or periodic interest payments plus capital gains/losses) of an underlying instrument in exchange for fixed or floating rate interest payments. If the total return of the instrument or index underlying the transaction exceeds or falls short of the offsetting fixed or floating interest rate obligation, the Company receives payment from or makes a payment to the counterparty. Total return swaps are entered into to obtain exposure to a security or market without owning such security or investing directly in such market or to exchange the risk/return of one market with another market.
Nomura Total Return Swap
On September 20, 2023, the Company entered into an equity total return swap with Nomura Global Financial Products Inc., or Nomura. Under the Nomura TRS, the Company obtains the economic benefit of owning shares of FS Credit Opportunities Corp., or FSCO, an investment company registered under the 1940 Act, without actually owning them, and Nomura receives an interest-type payment in return. The investment adviser to FSCO is wholly-owned by Franklin Square Holdings, L.P., which is also the majority owner of FS/EIG Advisor.
The Nomura TRS is marked-to-market daily and the change in market value is recorded as unrealized appreciation or depreciation on swap contracts in the consolidated balance sheets. Pursuant to its terms, the Nomura TRS settles monthly and a realized gain or loss is recorded in the consolidated statements of operations equal to the difference between the value of the shares underlying the Nomura TRS at the time the swap was entered into or the previous settlement date and the value as of the current settlement date, plus dividends received and less accrued interest. Any dividends received by Nomura as holder of the FSCO shares are paid to the Company. The Nomura TRS has a term of three years, but it could be terminated earlier in whole or in part following the occurrence of certain prescribed events agreed to between Nomura and the Company. The primary underlying risk exposure through the use of equity total return swaps is equity market risk.
BNP Paribas Total Return Swap
On February 15, 2024, FSSL Finance BNPP TRS LLC, or FSSL Finance BNPP TRS, a wholly-owned financing subsidiary of the Company, entered into a TRS for a portfolio of senior secured floating rate loans with BNP Paribas, or BNPP. The BNPP TRS enables the Company, through its ownership of FSSL Finance BNPP TRS, to obtain the economic benefit of owning the broadly syndicated loans subject to the TRS, without actually owning them, in return for an interest-type payment to BNPP. As such, the BNPP TRS is analogous to the Company borrowing funds to acquire loans and incurring interest expense to a lender.
The terms of the BNPP TRS include, among other things, (a) payment by BNPP to FSSL Finance BNPP TRS of all interest and fees (less applicable withholding taxes) on the underlying loans, (b) payment by FSSL Finance BNPP TRS to BNPP of (i) a financing fee on the outstanding notional amount of the TRS at a rate equal to USD-SOFR Compounded Index plus 1.65% per annum, and (ii) a utilization fee of 0.85% per annum on the difference between any lesser usage amount and a $100,000 minimum usage threshold, (c) upon the termination or repayment of any loan subject to the TRS, FSSL Finance BNPP TRS either will receive from BNPP the appreciation in the value of such loan or will pay to BNPP any depreciation in the value of such loan and (d) guarantee by the Company of all obligations of FSSL Finance BNPP TRS.
The monthly average notional amounts of the Nomura TRS and BNPP TRS were $35,675 and $44,521 for the year ended December 31, 2024, respectively, and $19,939 and $0 for the year ended December 31, 2023, respectively. During the year ended December 31, 2023, the average monthly notional volume of fixed price swap contracts-crude oil and fixed price swap contracts-natural gas outstanding were 88,849 Bbls and 169,313 MMBtus, respectively.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 6. Financial Instruments (continued)
The following table presents the fair value of open swap contracts (which are not considered to be hedging instruments for accounting purposes) as of December 31, 2024. There were no derivative assets or liabilities held by the Company as of December 31, 2023.
December 31, 2024
Instrument Derivative Assets(1)
Derivative Liabilities
BNP Paribas Total Return Swap
$ 70 $ -
Nomura Total Return Swap
- -
Total $ 70 $ -
______________
(1) Reflected on the Company's consolidated balance sheets as: Unrealized appreciation on swap contracts.
The effect of swap contracts (which are not considered to be hedging instruments for accounting purposes) on the Company's statements of operations for the years ended December 31, 2024, 2023 and 2022 were as follows:
Net Realized Gains (Losses)(1)
Net Change in Unrealized Appreciation (Depreciation)(2)
Year Ended December 31,
Year Ended December 31,
Instrument 2024 2023 2022 2024 2023 2022
Nomura Total Return Swap
$ 8,603 $ 1,017 $ - $ - $ - $ -
BNP Paribas Total Return Swap
990 - - 70 - -
Commodity Fixed Price Swaps-Crude Oil
- (363) (2,030) - 572 (572)
Commodity Fixed Price Swaps-Natural Gas
- 394 (755) - 126 (126)
Total $ 9,593 $ 1,048 $ (2,785) $ 70 $ 698 $ (698)
______________
(1) Reflected on the Company's consolidated statements of operations as: Net realized gain (loss) on swap contracts.
(2) Reflected on the Company's consolidated statements of operations as: Net change in unrealized appreciation (depreciation) on swap contracts.
Offsetting of Derivative Instruments
The Company has derivative instruments that are subject to master netting agreements. These agreements include provisions to offset positions with the same counterparty in the event of default by one of the parties. The Company’s unrealized appreciation and depreciation on derivative instruments are reported as gross assets and liabilities, respectively, in the consolidated balance sheets. There were no derivative assets or liabilities held by the Company as of December 31, 2023. The following table presents the Company’s derivative assets and liabilities by counterparty, net of amounts available for offset under a master netting agreement and net of any collateral received or pledged by the Company for such assets and liabilities as of December 31, 2024:
As of December 31, 2024
Counterparty Derivative Assets Derivative Liabilities Net Value of Derivatives Non-Cash Collateral
(Received) Pledged(1)
Cash Collateral
(Received) Pledged(1)
Net Amount of Derivative
Assets (Liabilities)(2)
BNP Paribas
$ 70 - $ 70 - - $ 70
______________
(1) In some instances, the actual amount of the collateral received and/or pledged may be more than the amount shown due to overcollateralization.
(2) Net amount of derivative assets and liabilities represents the net amount due from the counterparty to the Company and the net amount due from the Company to the counterparty, respectively, in the event of default.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 7. Investment Portfolio
The following table summarizes the composition of the Company’s investment portfolio at cost and fair value as of December 31, 2024 and 2023:
December 31, 2024 December 31, 2023
Amortized
Cost(1)
Fair Value
Percentage
of Portfolio
Amortized
Cost(1)
Fair Value
Percentage
of Portfolio
Senior Secured Loans-First Lien $ 1,456,889 $ 1,445,351 78 % $ 878,013 $ 825,158 54 %
Senior Secured Loans-Second Lien 51,604 49,191 3 % 55,064 54,424 4 %
Senior Secured Bonds 104,296 103,726 6 % 82,793 84,468 5 %
Unsecured Debt
38,785 38,962 2 % - - -
Asset Based Finance
49,437 46,171 2 % - - -
Equity/Other 202,778 159,236 9 % 463,911 498,719 33 %
Sustainable Infrastructure Investments, LLC - - - 43,150 39,427 3 %
Short-Term Investments
- - - 20,994 21,000 1 %
Total
$ 1,903,789 $ 1,842,637 100 % $ 1,543,925 $ 1,523,196 100 %
_________________________
(1) Amortized cost represents the original cost adjusted for the amortization of premiums and/or accretion of discounts, as applicable, on investments.
In general, under the 1940 Act, the Company would be presumed to “control” a portfolio company if it owned more than 25% of its voting securities or it had the power to exercise control over the management or policies of a portfolio company, and would be an “affiliated person” of a portfolio company if it owned 5% or more of its voting securities.
As of December 31, 2024, the Company held investments in six portfolio companies of which it is deemed to be an “affiliated person” but is not deemed to “control” and the Company did not hold any portfolio companies of which it is deemed to “control.” For additional information with respect to such portfolio companies, see footnotes (u) and (v) to the consolidated schedule of investments as of December 31, 2024.
As of December 31, 2023, the Company held investments in four portfolio companies of which it is deemed to be an “affiliated person” but is not deemed to “control” and held investments in three portfolio companies of which it is deemed to “control.” For additional information with respect to such portfolio companies, see footnotes (u) and (v) to the consolidated schedule of investments as of December 31, 2023.
The Company’s investment portfolio may contain loans or bonds that are in the form of lines of credit or revolving credit facilities, or other investments, pursuant to which the Company may be required to provide funding when requested by portfolio companies in accordance with the terms of the underlying agreements. As of December 31, 2024, the Company had twenty senior secured loan investments with aggregate unfunded commitments of $92,715. As of December 31, 2023, the Company had five senior secured loan investments with aggregate unfunded commitments of $11,232 and an unfunded commitment of $18,989 in U.S dollars and $858 in Canadian dollars to contribute to Sustainable Infrastructure Investments, LLC. The Company maintains sufficient cash on hand, available borrowings and/or liquid securities to fund such unfunded commitments should the need arise.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 7. Investment Portfolio (continued)
The table below describes investments by industry classification and enumerates the percentage, by fair value, of the total portfolio assets in such industries as of December 31, 2024 and 2023:
December 31, 2024 December 31, 2023
Industry Classification
Fair Value
Percentage
of Portfolio
Fair Value
Percentage
of Portfolio
Commercial & Professional Services(1)
$ 201,499 11 % $ 62,036 4 %
Consumer Services 187,756 10 % 156,089 10 %
Health Care Equipment & Services 184,439 10 % 73,105 5 %
Capital Goods 160,441 9 % 116,454 8 %
Energy-Upstream 165,845 9 % 309,456 20 %
Materials
123,577 7 % 49,653 3 %
Media & Entertainment(1)
94,236 5 % 19,829 1 %
Financial Services(1)
83,459 5 % 83,197 6 %
Consumer Durables & Apparel 83,025 4 % - -
Consumer Discretionary Distribution & Retail 79,781 4 % 37,428 3 %
Energy-Midstream 75,654 4 % 303,175 20 %
Software & Services(1)
57,658 3 % - -
Household & Personal Products 50,559 3 % 20,858 1 %
Automobiles & Components 47,215 3 % 39,521 3 %
Consumer Staples Distribution & Retail 45,789 2 % 18,830 1 %
Pharmaceuticals, Biotechnology & Life Sciences 40,822 2 % 19,300 1 %
Telecommunication Services 39,406 2 % - -
Insurance 34,569 2 % 20,251 1 %
Transportation 30,971 2 % 30,157 2 %
Energy-Renewables
21,662 1 % - -
Equity Real Estate Investment Trusts (REITs)
19,115 1 % - -
Real Estate Management & Development 12,453 1 % - -
Energy-Power 2,706 0 % 69,696 5 %
Energy-Service & Equipment(1)
- - 33,734 2 %
U.S. Treasury Bills
- - 21,000 1 %
Sustainable Infrastructure Investments, LLC(2)
- - 39,427 3 %
Total $ 1,842,637 100 % $ 1,523,196 100 %
____________
(1) FS/EIG Advisor monitors the industry classification of the Company’s investments and may from time to time reclassify such investments if it determines such reclassification is appropriate. During the year ended December 31, 2024, three investments had their industries re-classified from Financial Services to Media & Entertainment, Commercial & Professional Services and Software & Services. During the year ended December 31, 2023, two investments had their industry re-classified from Energy-Industrials to Commercial & Professional Services, and one investment had its industry re-classified from Energy-Service & Equipment to Commercial & Professional Services.
(2) Sustainable Infrastructure Investments, LLC was comprised of midstream and renewables assets in the Energy sector as of December 31, 2023.
Note 8. Fair Value of Financial Instruments
Under existing accounting guidance, fair value is defined as the price that the Company would receive upon selling an investment or pay to transfer a liability in an orderly transaction to a market participant in the principal or most advantageous market for the investment. This accounting guidance emphasizes valuation techniques that maximize the use of observable market inputs and minimize the use of unobservable inputs. Inputs refer broadly to the assumptions that market participants would use in pricing an asset or liability, including assumptions about risk. Inputs may be observable or unobservable. Observable inputs are inputs that reflect the assumptions market participants would use in pricing an asset or liability developed based on market data obtained from sources
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 8. Fair Value of Financial Instruments (continued)
independent of the Company. Unobservable inputs are inputs that reflect the assumptions market participants would use in pricing an asset or liability developed based on the best information available in the circumstances. The Company classifies the inputs used to measure these fair values into the following hierarchy as defined by current accounting guidance:
Level 1: Inputs that are quoted prices (unadjusted) in active markets for identical assets or liabilities.
Level 2: Inputs that are quoted prices for similar assets or liabilities in active markets.
Level 3: Inputs that are unobservable for an asset or liability.
A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.
As of December 31, 2024 and 2023, the Company’s investments were categorized as follows in the fair value hierarchy:
Valuation Inputs
December 31, 2024 December 31, 2023
Level 1-Price quotations in active markets $ - $ -
Level 2-Significant other observable inputs 879,043 683,716
Level 3-Significant unobservable inputs 963,594 839,480
Total
$ 1,842,637 $ 1,523,196
As of December 31, 2024, the Company’s swap contracts were categorized as follows in the fair value hierarchy. There were no derivative assets or liabilities held by the Company as of December 31, 2023.
December 31, 2024
Valuation Inputs
Derivative
Assets
Derivative Liabilities
Level 1-Price quotations in active markets $ - $ -
Level 2-Significant other observable inputs 70 -
Level 3-Significant unobservable inputs - -
Total
$ 70 $ -
The Company’s board of trustees is responsible for overseeing the valuation of the Company’s portfolio investments at fair value as determined in good faith pursuant to FS/EIG Advisor’s valuation policy. The Company’s board of trustees has designated FS/EIG Advisor with day-to-day responsibility for implementing the portfolio valuation process set forth in FS/EIG Advisor’s valuation policy.
The Company’s investments consist primarily of investments that were acquired directly from the issuer. Debt investments, for which broker quotes or pricing information from third-party pricing services are not generally available, are valued by FS/EIG Advisor with the assistance of independent valuation firms, which determine a valuation range of fair value for such investments by considering, among other factors, the borrower’s ability to adequately service its debt, prevailing interest rates for like investments, call features, anticipated prepayments and other relevant terms of the investments. Except as described below, all of the Company’s equity/other investments are valued by independent valuation firms, which determine the fair value of such investments by considering, among other factors, contractual rights ascribed to such investments, as well as various income scenarios and multiples of earnings before interest, taxes, depreciation and amortization, or EBITDA, cash flows, net income, revenues or, in limited instances, book value, PV-10 multiples or liquidation value. An investment that is newly issued and purchased near the date of the financial statements is valued at cost if FS/EIG Advisor determines that the cost of such investment is the best indication of its fair value. Such investments described above are typically classified as Level 3 within the fair value hierarchy. Investments that are traded on an active public market are valued at their closing price as of the date of the financial statements and are classified as Level 1 within the fair value hierarchy. Except as described above, FS/EIG Advisor typically values the Company’s other investments by using the midpoint of the prevailing bid and ask prices from dealers on the date of the relevant period end, which are provided by an independent third-party pricing service and screened for validity by such service and are typically classified as Level 2 within the fair value hierarchy. In determining the fair values of fixed price swaps, FS/EIG Advisor utilizes an industry-standard pricing model that considers various inputs including quoted forward prices for commodities, time value and current market and contractual prices for the underlying
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 8. Fair Value of Financial Instruments (continued)
instruments. The fair value of the equity total return swap is determined daily based on the market price of the underlying asset. The fair value of the loan total return swap is determined daily based on the bid price of the underlying asset provided by the counterparty. These assumptions are observable in the marketplace or can be corroborated by active markets or broker quotes and are typically classified as Level 2 within the fair value hierarchy.
FS/EIG Advisor periodically benchmarks the bid and ask prices it receives from the third-party pricing service and/or dealers and independent valuation firms, as applicable, against the actual prices at which the Company purchases and sells its investments. Based on the results of the benchmark analysis and the experience of the Company’s management in purchasing and selling these investments, FS/EIG Advisor believes that these prices are reliable indicators of fair value. FS/EIG Advisor reviewed the valuation determinations made with respect to these investments in a manner consistent with FS/EIG Advisor’s valuation policy.
The following is a reconciliation for the years ended December 31, 2024 and 2023 of investments for which significant unobservable inputs (Level 3) were used in determining fair value:
For the Year Ended December 31, 2024
Senior Secured
Loans-
First Lien
Senior Secured
Loans-
Second Lien
Senior
Secured
Bonds
Unsecured Debt
Asset Based Finance
Sustainable Infrastructure Investments, LLC(3)
Equity/
Other
Total
Fair value at beginning of period $ 237,307 $ 54,424 $ 9,874 $ - $ - $ 39,427 $ 498,448 $ 839,480
Accretion of discount (amortization of premium) 2,645 169 371 - - - 866 4,051
Net realized gain (loss) (48,684) 428 (3,517) - - (2,336) 40,608 (13,501)
Net change in unrealized appreciation (depreciation) 31,879 (1,773) (1,311) 177 (3,266) 3,723 (78,454) (49,025)
Purchases 570,841 26,540 34,271 35,562 71,674 5,793 1,914 746,595
Paid-in-kind interest 2,690 4,403 - 3,223 492 - 835 11,643
Sales and repayments (180,431) (35,000) (3,748) - (22,729) (46,607) (305,356) (593,871)
Transfers into Level 3(1)
18,222 - - - - - - 18,222
Transfers out of Level 3(1)
- - - - - - - -
Fair value at end of period $ 634,469 $ 49,191 $ 35,940 $ 38,962 $ 46,171 $ - $ 158,861 $ 963,594
The amount of total gains or losses for the period included in changes in net assets attributable to the change in unrealized gains or losses relating to investments still held at the reporting date
$ (14,627) $ (1,874) $ (1,311) $ 177 $ (3,266) $ - $ (106,363) $ (127,264)
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 8. Fair Value of Financial Instruments (continued)
For the Year Ended December 31, 2023
Senior Secured
Loans-
First Lien
Senior Secured
Loans-
Second Lien
Senior
Secured
Bonds
Unsecured Debt
Sustainable Infrastructure Investments, LLC Equity/
Other(2)
Total
Fair value at beginning of period $ 443,245 $ 143,270 $ 10,074 $ 54,374 $ 51,098 $ 892,144 $ 1,594,205
Accretion of discount (amortization of premium) 2,227 757 42 107 - 1,230 4,363
Net realized gain (loss) (8,935) (52) 6 232 - (39,305) (48,054)
Net change in unrealized appreciation (depreciation) (61,574) (756) (87) (95) (307) (101,173) (163,992)
Purchases 95,512 - - - - 1,746 97,258
Paid-in-kind interest 9,858 - - 4,341 - - 14,199
Sales and repayments (243,026) (88,795) (161) (58,959) (11,364) (256,194) (658,499)
Transfers into Level 3(1)
- - - - - - -
Transfers out of Level 3(1)
- - - - - - -
Fair value at end of period $ 237,307 $ 54,424 $ 9,874 $ - $ 39,427 $ 498,448 $ 839,480
The amount of total gains or losses for the period included in changes in net assets attributable to the change in unrealized gains or losses relating to investments still held at the reporting date
$ (62,195) $ (440) $ (87) $ - $ (307) $ (131,869) $ (194,898)
________________________
(1) Transfers into and out of Level 3 are deemed to have occurred as a result of, among other factors, changes in liquidity, the depth and consistency of prices from third-party pricing services and the existence of observable trades in the market. Transfers between levels of the fair value hierarchy are deemed to have occurred at the beginning of the reporting period. For the year ended December 31, 2024 and 2023, transfers into or out of Level 3 were due to decreased or increased price transparency.
(2) As of December 31, 2024, the Company determined to reclassify investments in the schedule of investments from preferred equity to equity/other. Preferred equity amounts for the year ended December 31, 2023 have been reclassified to equity/other to conform to the classifications used to prepare the reconciliation for the year ended December 31, 2024.
(3) On December 18, 2024, the Company purchased Imperial Sustainable Infrastructure Investments, LLC’s remaining 12.5% interest in SIIJV and SIIJV became a wholly-owned subsidiary of the Company.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 8. Fair Value of Financial Instruments (continued)
The valuation techniques and significant unobservable inputs used in recurring Level 3 fair value measurements as of December 31, 2024 and 2023 were as follows:
Type of Investment
Fair Value at December 31, 2024
Valuation Technique(1)
Unobservable Input
Range
Weighted
Average
Senior Secured Loans-First Lien $ 387,753 Market Comparables Market Yield (%) 7.9%-13.9%
10.1%
EBITDA Multiples (x) 2.4x-3.0x
2.7x
179,141 Cost
67,575 Other(2)
Senior Secured Loans-Second Lien 49,191 Market Comparables Market Yield (%) 12.4%-17.0%
15.0%
Senior Secured Bonds 35,940 Market Comparables Market Yield (%) 8.5%-12.1%
10.8%
Unsecured Debt
38,563 Market Comparables Market Yield (%) 11.2%-11.7%
11.4%
399 Cost
Asset Based Finance
20,679 Discounted Cash Flow Discount Rate (%) 17.3%-18.3%
17.8%
25,492 Income(3)
Excess Spread(3)
1.8%-1.8%
1.8%
Equity/Other 85,970 Market Comparables Market Yield (%) 13.3%-14.3%
13.8%
EBITDA Multiples (x) 2.6x-9.5x
5.6x
Production Multiples (MMcfe/d) $3,050.0-$3,450.0
$3,250.0
Proved Reserves Multiples (Bcfe) 0.7x-0.8x
0.8x
PV-10 Multiples (x) 1.7x-1.9x
1.8x
Net Aircraft Book Value Multiple (x) 1.0x-1.1x
1.0x
36,580 Discounted Cash Flow Discount Rate (%) 8.0%-12.0%
10.0%
36,311 Other(4)
Discount for Lack of Marketability (%) 8.5%-52.5%
31.0%
Total $ 963,594
Type of Investment
Fair Value at December 31, 2023
Valuation Technique(1)
Unobservable Input
Range
Weighted
Average
Senior Secured Loans-First Lien $ 212,250 Market Comparables Market Yield (%) 8.2%-20.5%
13.6%
EBITDA Multiples (x) 3.9x-4.6x
4.4x
4,807 Discounted Cash Flow Discount Rate (%) 9.0%-13.0%
10.8%
20,250 Other(2)
Senior Secured Loans-Second Lien 54,424 Market Comparables Market Yield (%) 12.5%-14.0%
13.1%
Senior Secured Bonds 9,874 Market Comparables Market Yield (%) 7.5%-8.5%
8.0%
Sustainable Infrastructure Investments, LLC 39,427 Discounted Cash Flow Discount Rate (%) 8.0%-10.0%
9.0%
Equity/Other 311,150 Market Comparables Market Yield (%)
10.0%-23.0%
17.5%
EBITDA Multiples (x) 2.7x-13.0x
6.0x
Production Multiples (MMcfe/d) $3,000.0-$3,600.0
$3,300.0
Proved Reserves Multiples (Bcfe) 0.7x-0.7x
0.7x
PV-10 Multiples (x) 0.3x-0.4x
0.3x
Net Aircraft Book Value Multiple (x)
1.0x-1.1x
1.0x
166,946 Discounted Cash Flow Discount Rate (%) 8.0%-17.1%
16.5%
7,121 Option Valuation Model Volatility (%) 55.0%-65.0%
60.0%
13,231 Other(2)
Total $ 839,480
________________________
(1) For investments utilizing a market comparables valuation technique, a significant increase (decrease) in the market yield, in isolation, would result in a significantly lower (higher) fair value measurement, and a significant increase (decrease) in any of the valuation multiples, in isolation, would result in a significantly higher (lower) fair value measurement. For investments utilizing a discounted cash flow valuation technique, a significant increase (decrease) in the discount rate, in isolation, would result in a significantly lower (higher) fair value measurement. For investments utilizing an option valuation model valuation technique, a significant increase (decrease) in the volatility, in isolation, would result in a significantly higher (lower) fair value measurement.
(2) Fair valued based on expected outcome of proposed corporate transactions, the expected value of the liquidation preference of the investment or other factors.
(3) Fair value of the CLO Warehouse is based on cost plus the excess spread (accrued interest plus interest received less financing cost).
(4) Fair valued based on expected outcome of proposed corporate transactions. This valuation technique also includes a discount for lack of marketability.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 9. Financing Arrangements
The following tables present a summary of information with respect to the Company’s outstanding financing arrangement as of December 31, 2024 and 2023:
As of December 31, 2024
Arrangement(1)
Type of
Arrangement
Rate(2)
Amount
Outstanding
Amount
Available
Maturity Date
Barclays Facility Repurchase Term SOFR+3.00%
$ 500,000 $ - September 6, 2026
As of December 31, 2023
Arrangement(1)
Type of
Arrangement
Rate(2)
Amount
Outstanding
Amount
Available
Maturity Date
Barclays Facility
Repurchase Term SOFR+3.00%
$ 400,000 $ 100,000 September 6, 2026
________________________
(1) The carrying amount outstanding under the facility approximates its fair value, unless otherwise noted.
(2) The financing fee under the Barclays Facility is based on three-month term SOFR (with a floor of 0.00%) plus a facility margin calculated monthly as the weighted average of the individual margin of the collateral obligations (subject to a floor, in the aggregate, of 3.00%).
For the years ended December 31, 2024, 2023 and 2022, the components of total interest expense for the Company’s financing arrangements were as follows:
Year Ended December 31,
2024 2023 2022
Arrangement(1)
Direct Interest Expense(2)
Amortization of Deferred Financing Costs
Total Interest Expense Direct Interest Expense(2)
Amortization of Deferred Financing Costs and Discount Total Interest Expense Direct Interest Expense(2)
Amortization of Deferred Financing Costs and Discount Total Interest Expense
Barclays Facility $ 33,814 $ 2,077 $ 35,891 $ 4,734 $ 636 $ 5,370 $ - $ - $ -
JPMorgan Facility(3)
- - - 2,790 238 3,028 14,670 1,798 16,468
Senior Secured Notes(4)
- - - 12,760 2,540 15,300 34,951 4,297 39,248
Total $ 33,814 $ 2,077 $ 35,891 $ 20,284 $ 3,414 $ 23,698 $ 49,621 $ 6,095 $ 55,716
_________________________
(1) Borrowings of each of the Company's wholly-owned special-purpose financing subsidiaries are considered borrowings of the Company for purposes of complying with the asset coverage requirements applicable to BDCs under the 1940 Act.
(2) Direct interest expense includes the effect of non-usage fees, administration fees and make-whole fees, if any.
(3) On February 14, 2023, the Company repaid and terminated the JPMorgan Facility.
(4) On May 15, 2023, the Company redeemed 100% of the issued and outstanding Senior Secured Notes at a price equal to 100% of the aggregate principal amount, plus the accrued but unpaid interest through to, but excluding, May 15, 2023.
The Company’s average borrowings and weighted average interest rate, including the effect of non-usage fees, for the year ended December 31, 2024, were $400,546 and 8.30%, respectively. As of December 31, 2024, the Company’s effective interest rate on borrowings, including the effect of non-usage fees, was 7.76%.
The Company’s average borrowings and weighted average interest rate for the period from January 1, 2023 to May 15, 2023, the date on which the Company redeemed 100% of the issued and outstanding Senior Secured Notes, were $557,446 and 7.49%, respectively. The Company had no outstanding borrowings during the period from May 15, 2023 to September 5, 2023. The Company’s average borrowings and weighted average interest rate, including the effect of non-usage fees, for the period from September 6, 2023 (the date on which the Company entered into the Barclays Facility) to December 31, 2023, were $151,111 and 9.64%, respectively. As of December 31, 2023, the Company’s effective interest rate on borrowings, including the effect of non-usage fees, was 8.78%.
Under its financing arrangements, the Company made certain representations and warranties and was required to comply with various covenants, reporting requirements and other customary requirements for similar financing arrangements. The Company was in compliance with all covenants required by its financing arrangements as of December 31, 2024 and 2023.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 9. Financing Arrangements (continued)
Barclays Facility
On September 6, 2023, the Company, through two wholly-owned, special purpose financing subsidiaries, FSSL Finance BB AssetCo LLC, or FSSL Finance BB AssetCo, and FSSL Finance BB Seller LLC, or FSSL Finance BB Seller, entered into a financing arrangement with Barclays Bank PLC, or Barclays, pursuant to which up to $500,000 will be made available to fund investments in loans and other corporate securities, or together, the Collateral Obligations, and for other general corporate purposes, or the Barclays Facility.
The financing fee under the Barclays Facility is based on three-month term SOFR (with a floor of 0.00%) plus a facility margin calculated monthly as the weighted average of the individual margin of the Collateral Obligations (such individual margins ranging from 1.90% to 4.20%, depending on the type of Collateral Obligations; subject to a floor, in the aggregate, of 3.00%).
Pursuant to the financing arrangement, the Company may contribute Collateral Obligations from time to time to FSSL Finance BB AssetCo, pursuant to a Sale and Contribution Agreement, dated as of September 6, 2023, between the Company and FSSL Finance BB AssetCo, or the Sale and Contribution Agreement. The assets held by FSSL Finance BB AssetCo secure the obligations of FSSL Finance BB AssetCo under the notes, or the Notes, issued by FSSL Finance BB AssetCo to FSSL Finance BB Seller, pursuant to an indenture, dated as of September 6, 2023, with Computershare Trust Company, N.A., or Computershare, as trustee, or the Indenture.
Principal on the Notes will be due and payable on the stated maturity date of July 1, 2033, and the Notes do not bear interest. Pursuant to the Indenture, FSSL Finance BB AssetCo has made certain representations and warranties and is required to comply with various covenants, reporting requirements and other customary requirements for similar transactions. The Indenture contains events of default customary for similar transactions, including, without limitation: (a) failure to make principal payments on the Notes at their stated maturity or any earlier redemption date or to make interest payments on the Notes; (b) failure to disburse amounts in accordance with the priority of payments; (c) occurrence of certain bankruptcy and insolvency events with respect to FSSL Finance BB AssetCo; and (d) occurrence of a Repurchase Date under the Repurchase Agreement (defined below) as a result of an event of default with respect to FSSL Finance BB Seller. FSSL Finance BB Seller acquired and subscribed for the Notes pursuant to a Subscription Agreement, dated as of September 6, 2023, between FSSL Finance BB AssetCo and FSSL Finance BB Seller as the investor.
On September 6, 2023, FSSL Finance BB Seller entered into a Master Confirmation in respect of Repurchase Transactions with Barclays, or the Confirmation, which supplements and is subject to the Master Repurchase Agreement, dated as of September 6, 2023, between FSSL Finance BB Seller and Barclays, or the Master Repurchase Agreement, and such Master Repurchase Agreement, as supplemented and evidenced by the Confirmation, or the Repurchase Agreement. Pursuant to the Repurchase Agreement, on one or more occasions beginning September 6, 2023, Barclays began purchasing the Notes held by FSSL Finance BB Seller for an aggregate purchase price of $500,000 outstanding as of December 31, 2024, which is the maximum aggregate purchase price. The scheduled Repurchase Date is September 6, 2026.
Pursuant to the Repurchase Agreement, FSSL Finance BB Seller has made certain representations and warranties and is required to comply with various covenants, reporting requirements and other customary requirements for similar transactions. The Repurchase Agreement contains events of default customary for similar financing transactions, including, without limitation: (a) failure to pay the repurchase price upon the applicable payment dates; (b) failure to pay the financing fees and make-whole amounts when due; (c) failure to post collateral as required; (d) occurrence of an event of default under the Indenture, (e) occurrence of insolvency events with respect to FSSL Finance BB Seller; (f) cross default by the Company with respect to its indebtedness above a certain threshold amount and (g) financial covenant breach by the Company.
As of December 31, 2024, Notes in an aggregate principal amount of $500,000 had been purchased by FSSL Finance BB Seller from FSSL Finance BB AssetCo and subsequently sold to Barclays under the Barclays Facility for aggregate proceeds of $496,514. The carrying amount outstanding under the Barclays Facility approximates its fair value. The Company funded the purchase of Notes by FSSL Finance BB Seller through a capital contribution to FSSL Finance BB Seller. The Notes issued by FSSL Finance BB AssetCo and purchased by FSSL Finance BB Seller eliminate in consolidation on the Company's financial statements.
The Company incurred costs of $6,199 in connection with obtaining the Barclays Facility, which the Company has recorded as deferred financing costs on its consolidated balance sheet and amortizes to interest expense over the life of the Barclays Facility. As of December 31, 2024, $3,486 of such deferred financing costs had yet to be amortized to interest expense.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 9. Financing Arrangements (continued)
The following table presents the carrying amount of the collateral pledged with the Company's open repurchase agreement as of December 31, 2024:
Counterparty
Repurchase Agreement
Non-Cash Collateral Pledged(1)
Cash Collateral Pledged
Net Exposure Due (to)/from Counterparty(2)
Barclays Facility
$ (496,514) $ 496,514 $ - $ -
_________________________
(1) In some instances, the actual amount of the collateral received and/or pledged may be more than the amount shown due to overcollateralization.
(2) Net exposure represents the net receivable (payable) that would be due from (to) the counterparty in the event of default.
The repurchase agreement is collateralized by all or a portion of the securities held within FSSL Finance BB AssetCo LLC. The following table presents the fair market value, principal value and principal value plus accrued interest of the securities pledged as collateral to the Barclays Facility as of December 31, 2024:
Repurchase Agreement
Fair Market Value
Principal Value Principal Value including Accrued Interest
Barclays Facility(1)
$ 979,385 $ 500,000 $ 501,364
_________________________
(1) See footnote (f) to the consolidated schedule of investments as of December 31, 2024 in this annual report on Form 10-K.
The following table reflects a breakdown of transactions accounted for as secured borrowings, the gross obligation by the type, and the remaining contractual maturity of those transactions as of December 31, 2024:
Remaining Contractual Maturity of the Agreements
Overnight and Continuous
Less Than 30 Days
30 - 90 Days
More Than 90 Days
Total
Repurchase Agreement
Barclays Facility(1)
$ - $ - $ - $ (501,364) $ (501,364)
_________________________
(1) The repurchase agreement is collateralized by Senior Secured Loans, Senior Secured Bonds, Unsecured Debt and Equity.
JPMorgan Facility
On August 16, 2018, the Company entered into that certain Senior Secured Credit Agreement, by and among the Company, the lenders party thereto, JPMorgan Chase Bank, N.A., or JPMorgan, as administrative agent and collateral agent, and the other parties signatory thereto, or as amended, the JPMorgan Facility. On February 14, 2023, the Company repaid and terminated the JPMorgan Facility. Prior to the termination of the JPMorgan Facility, $305,676 aggregate principal amount of loans were outstanding to the Company and such loans accrued interest at a rate equal to LIBOR (subject to a 0.00% floor) plus 3.00% per annum. The Company incurred certain customary costs and expenses in connection with the termination of the JPMorgan Facility.
7.500% Senior Secured Notes due 2023
On August 16, 2018, the Company, U.S. Bank National Association, or U.S Bank, as trustee, and certain subsidiaries of the Company, entered into an Indenture relating to the Company’s issuance of $500,000 aggregate principal amount of its 7.500% Senior Secured Notes due 2023, or the Senior Secured Notes. On May 15, 2023, the Company redeemed 100% of the issued and outstanding Senior Secured Notes at a price equal to 100% of the aggregate principal amount, plus the accrued but unpaid interest through to, but excluding, May 15, 2023. The Company incurred certain customary costs and expenses in connection with the redemption of the Senior Secured Notes.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
____________________________________________________________________________________________________________
Note 10. Commitments and Contingencies
The Company enters into contracts that contain a variety of indemnification provisions. The Company’s maximum exposure under these arrangements is unknown; however, the Company has not had prior claims or losses pursuant to these contracts. FS/EIG Advisor has reviewed the Company’s existing contracts and expects the risk of loss to the Company to be remote.
The Company is not currently subject to any material legal proceedings and, to the Company’s knowledge, no material legal proceedings are threatened against the Company. From time to time, the Company may be a party to certain legal proceedings in the ordinary course of business, including proceedings relating to the enforcement of the Company’s rights under contracts with its portfolio companies. While the outcome of any legal proceedings cannot be predicted with certainty, the Company does not expect that any such proceedings will have a material effect upon its financial condition or results of operations.
See Note 4 for a discussion of the Company’s commitments to FS/EIG Advisor and its affiliates (including FS Investments) and Note 7 for a discussion of the Company’s unfunded commitments.
Note 11. Senior Securities Asset Coverage
Information about the Company's senior securities is shown in the table below as of December 31, 2024, 2023, 2022, 2021 and 2020:
As of December 31,
Total Amount Outstanding Exclusive of Treasury Securities Asset Coverage Per Unit(1)
Involuntary Liquidation Preference per Unit(2)
Average Market Value per Unit (Exclude Bank Loans)(3)
2020 $ 905,667 $ 2,577 - N/A
2021 $ 775,667 $ 3,066 - N/A
2022 $ 762,751 $ 3,299 - N/A
2023 $ 400,000 $ 4,905 - N/A
2024 $ 500,000 $ 4,007 - N/A
_________________________
(1) Asset coverage per unit is the ratio of the carrying value of the Company’s total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to the aggregate amount of senior securities representing indebtedness. Asset coverage per unit is expressed in terms of dollar amounts per $1,000 of indebtedness. All prior period ratios have been updated to conform with this current presentation.
(2) The amount to which such class of senior security would be entitled upon the voluntary liquidation of the Company in preference to any security junior to it. The “-” in this column indicates that the SEC expressly does not require this information to be disclosed for certain types of senior securities.
(3) Not applicable because senior securities are not registered for public trading on an exchange.
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 12. Financial Highlights
The following is a schedule of financial highlights of the Company for the years ended December 31, 2024, 2023, 2022, 2021 and 2020:
Year Ended December 31,
2024 2023 2022 2021 2020
Per Share Data:(1)
Net asset value, beginning of year $ 3.43 $ 3.88 $ 3.59 $ 3.25 $ 5.43
Results of operations(2)
Net investment income 0.30 0.18 0.16 0.09 0.19
Net realized gain (loss) and unrealized appreciation (depreciation) (0.09) (0.44) 0.25 0.37 (2.20)
Net increase (decrease) in net assets resulting from operations 0.21 (0.26) 0.41 0.46 (2.01)
Shareholder distributions(3)
Distributions from net investment income (0.34) (0.19) (0.12) (0.12) (0.14)
Distributions representing return of capital - - - - (0.03)
Net decrease in net assets resulting from shareholder distributions (0.34) (0.19) (0.12) (0.12) (0.17)
Capital share transactions
Issuance of common shares(4)
- - - - -
Net increase (decrease) in net assets resulting from capital share transactions - - - - -
Net asset value, end of year $ 3.30 $ 3.43 $ 3.88 $ 3.59 $ 3.25
Shares outstanding, end of year 455,506,155 455,506,155 451,465,673 446,089,499 440,020,123
Total return(5)
6.20 % (6.89) % 11.39 % 14.22 % (37.68) %
Total return (without assuming reinvestment of distributions)(5)
6.04 % (6.70) % 11.29 % 14.15 % (37.02) %
Ratio/Supplemental Data:
Net assets, end of year $ 1,503,456 $ 1,562,055 $ 1,753,748 $ 1,602,323 $ 1,428,577
Ratio of net investment income to average net assets(6)(7)
8.65 % 4.77 % 4.02 % 2.77 % 4.82 %
Ratio of total operating expenses to average net assets(6)
5.69 % 4.50 % 6.78 % 6.96 % 8.20 %
Ratio of management fee offset to average net assets(6)
(0.00) % (0.02) % (0.15) % (0.09) % (0.04) %
Ratio of net operating expenses to average net assets(6)
5.69 % 4.48 % 6.63 % 6.87 % 8.16 %
Ratio of interest expense to average net assets(6)
2.31 % 1.39 % 3.21 % 3.46 % 4.39 %
Ratio of federal and state taxes to average net assets(6)
0.14 % 0.15 % 0.13 % - -
Portfolio turnover 68.24 % 45.84 % 16.15 % 44.25 % 26.54 %
Total amount of senior securities outstanding
$ 500,000 $ 400,000 $ 762,751 $ 775,667 $ 905,667
Asset coverage per unit(8)
$ 4,007 $ 4,905 $ 3,299 $ 3,066 $ 2,577
Asset coverage ratio(8)
4.01 4.91 3.30 3.07 2.58
_________________________
(1) Per share data may be rounded in order to recompute the ending net asset value per share.
(2) The per share data was derived by using the weighted average shares outstanding during the applicable year.
(3) The per share data for distributions reflects the actual amount of distributions paid per share during the applicable year.
(4) The issuance of common shares on a per share basis reflects the incremental net asset value changes as a result of the issuance of common shares pursuant to the Company’s distribution reinvestment plan. The issuance of common shares at a price that is greater than the net asset value per share results in an increase in net asset value per share.
(5) The total return for each year presented was calculated based on the change in net asset value during the applicable year, including the impact of distributions reinvested in accordance with the Company’s distribution reinvestment plan. Following the termination of the Company’s distribution reinvestment plan effective September 15, 2023, the total return for each year presented subsequent to the effective date was calculated based on the change in net asset value during the applicable year, assuming the reinvestment of all distributions at the Company’s net asset value per share as of the end of the applicable period. The total return (without assuming reinvestment of distributions) for each year presented was calculated by taking the net asset value per share as of the end of the applicable year, adding the cash distributions per share which were declared during the applicable year and dividing the total by the net asset value per share at the beginning of the applicable year. The total returns do not consider the effect of any sales commissions or charges that may be incurred in connection with the sale of the Company’s common shares. The total returns include the effect of the issuance of common shares at a net offering price that is greater than net asset value per share, which causes an increase in net asset value per share. The historical calculations of total returns in the table should not be considered representations of the Company’s future total returns, which may be greater or less than the returns shown in the table due to a number of factors, including the Company’s ability or inability to make investments in companies that meet its investment criteria, the interest rates payable on the debt securities the Company acquires, the level of the Company’s expenses, variations in and the timing of the recognition of realized and unrealized gains or losses, the degree to which the Company encounters
FS Specialty Lending Fund
Notes to Consolidated Financial Statements (continued)
(in thousands, except share and per share amounts)
Note 12. Financial Highlights (continued)
competition in its markets and general economic conditions. As a result of these factors, results for any previous year should not be relied upon as being indicative of performance in future years. The total return calculations set forth above represent the total returns on the Company’s investment portfolio during the applicable year and do not represent actual returns to shareholders.
(6) Weighted average net assets during the applicable years are used for this calculation.
(7) If FS/EIG Advisor had not agreed to offset the amount of any structuring, upfront or certain other fees it or its members received against the management fee payable by the Company, the ratio of net investment income to average net assets would have been 8.65%, 4.75%, 3.87%, 2.68% and 4.78% for the years ended December 31, 2024, 2023, 2022, 2021 and 2020, respectively. See Note 4 for a discussion of the management fee offset with FS/EIG Advisor.
(8) Asset coverage per unit is the ratio of the carrying value of the Company's total consolidated assets, less liabilities and indebtedness not represented by senior securities, to the aggregate amount of senior securities representing indebtedness. Asset coverage per unit is expressed in terms of dollar amounts per $1,000 of indebtedness. All prior period ratios have been updated to conform with this current presentation.
Note 13. Selected Quarterly Financial Data (Unaudited)
The following is the quarterly results of operations for the years ended December 31, 2024 and 2023. The following information reflects all normal recurring adjustments necessary for a fair presentation of the information for the periods presented. The operating results for any quarter are not necessarily indicative of results for any future period.
Quarter Ended
December 31, 2024
September 30, 2024
June 30, 2024
March 31, 2024
Investment income $ 50,817 $ 52,738 $ 50,286 $ 69,250
Operating expenses
Total expenses and federal and state taxes
21,846 21,807 22,045 22,830
Less: Management fee offset (2) (3) (3) -
Net expenses and federal and state taxes
21,844 21,804 22,042 22,830
Net investment income 28,973 30,934 28,244 46,420
Realized and unrealized gain (loss) (7,351) (17,097) 13,230 (28,309)
Net increase (decrease) in net assets resulting from operations $ 21,622 $ 13,837 $ 41,474 $ 18,111
Per share information-basic and diluted
Net investment income $ 0.07 $ 0.07 $ 0.06 $ 0.10
Net increase (decrease) in net assets resulting from operations $ 0.05 $ 0.03 $ 0.09 $ 0.04
Weighted average shares outstanding 455,506,155 455,506,155 455,506,155 455,506,155
Quarter Ended
December 31, 2023
September 30, 2023
June 30, 2023
March 31, 2023
Investment income $ 42,708 $ 30,443 $ 41,476 $ 43,095
Operating expenses
Total expenses and federal income and excise taxes
17,125 13,788 19,594 26,193
Less: Management fee offset (4) (63) (19) (255)
Net expenses and federal income and excise taxes
17,121 13,725 19,575 25,938
Net investment income 25,587 16,718 21,901 17,157
Realized and unrealized gain (loss) (62,142) (44,141) (46,552) (49,711)
Net increase (decrease) in net assets resulting from operations $ (36,555) $ (27,423) $ (24,651) $ (32,554)
Per share information-basic and diluted
Net investment income $ 0.05 $ 0.04 $ 0.05 $ 0.04
Net increase (decrease) in net assets resulting from operations $ (0.08) $ (0.06) $ (0.05) $ (0.07)
Weighted average shares outstanding 455,506,174 455,401,486 454,041,028 452,684,238
The sum of quarterly per share amounts does not necessarily equal per share amounts reported for the years ended December 31, 2024 and 2023. This is due to changes in the number of weighted average shares outstanding and the effects of rounding for each period.
For the year ended December 31, 2024, 88.4% of distributions qualified as excess interest income for purposes of Internal Revenue Code Section 163(j).

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.

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ITEM 9A. CONTROLS AND PROCEDURES
Item 9A. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and that such information is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
As required by Exchange Act Rule 13(a)-15(b), we carried out an evaluation under the supervision and with the participation of our management, including our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of December 31, 2024. Based on the foregoing, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were (a) designed to ensure that the information we are required to disclose in our reports under the Exchange Act is recorded, processed and reported in an accurate manner and on a timely basis and the information that we are required to disclose in our Exchange Act reports is accumulated and communicated to management to permit timely decisions with respect to required disclosure and (b) operating in an effective manner.
Management's Annual Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. As defined in Exchange Act Rules 13a-15(f) and 15d-15(f), internal control over financial reporting is a process designed by, or under the supervision of, the company's principal executive and principal financial officers, or persons performing similar functions, and effected by the company's board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.
Our internal control over financial reporting includes those policies and procedures that:
1.Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the Company's transactions and the dispositions of assets of the Company;
2.Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of our management and board of trustees; and
3.Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, a system of internal control over financial reporting can provide only reasonable assurance with respect to financial statement preparation and presentation and may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management's report on internal control over financial reporting is set forth above under the heading "Management's Report on Internal Control over Financial Reporting" in Item 8 of this annual report on Form 10-K.
Changes in Internal Control Over Financial Reporting
During the quarter ended December 31, 2024, there has been no change in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) or 15d-15(f)) that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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ITEM 9B. OTHER INFORMATION
Item 9B. Other Information.
During the fiscal quarter ended December 31, 2024, no director or officer (as defined in Rule 16a-1(f) of the Exchange Act) of the Company adopted or terminated any contract, instruction or written plan for the purchase or sale of our securities to satisfy the affirmative defense conditions of Rule 10b5-1(c) or any “non-Rule 10b5-1 trading arrangement.”
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Item 10. Trustees, Executive Officers and Corporate Governance.
The information required by Item 10 is hereby incorporated by reference from an amendment to this Annual Report on Form 10-K, to be filed with the SEC within 120 days following the end of our fiscal year.

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ITEM 11. EXECUTIVE COMPENSATION
Item 11. Executive Compensation.
The information required by Item 11 is hereby incorporated by reference from an amendment to this Annual Report on Form 10-K, to be filed with the SEC within 120 days following the end of our fiscal year.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters.
The information required by Item 12 is hereby incorporated by reference from an amendment to this Annual Report on Form 10-K, to be filed with the SEC within 120 days following the end of our fiscal year.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Item 13. Certain Relationships and Related Transactions, and Trustee Independence.
The information required by Item 13 is hereby incorporated by reference from an amendment to this Annual Report on Form 10-K, to be filed with the SEC within 120 days following the end of our fiscal year.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Item 14. Principal Accountant Fees and Services.
The information required by Item 14 is hereby incorporated by reference from an amendment to this Annual Report on Form 10-K, to be filed with the SEC within 120 days following the end of our fiscal year.
PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
Item 15. Exhibits, Financial Statement Schedules.
a. Documents Filed as Part of this Report
The following financial statements are set forth in Item 8:
Page
Management's Report on Internal Control over Financial Reporting
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets as of December 31, 2024 and 2023
Consolidated Statements of Operations for the years ended December 31, 2024, 2023 and 2022
Consolidated Statements of Changes in Net Assets for the years ended December 31, 2024, 2023 and 2022
Consolidated Statements of Cash Flows for the years ended December 31, 2024, 2023 and 2022
Consolidated Schedules of Investments as of December 31, 2024 and 2023
Notes to Consolidated Financial Statements
b. Exhibits
Please note that the agreements included as exhibits to this annual report on Form 10-K are included to provide information regarding their terms and are not intended to provide any other factual or disclosure information about FS Specialty Lending Fund or the other parties to the agreements. The agreements contain representations and warranties by each of the parties to the applicable agreement that have been made solely for the benefit of the other parties to the applicable agreement and may not describe the actual state of affairs as of the date they were made or at any other time.
The following exhibits are filed as part of this annual report or hereby incorporated by reference to exhibits previously filed with the SEC:
3.1 Third Amended and Restated Declaration of Trust of FS Energy and Power Fund. (Incorporated by reference to Exhibit 3.1 to FS Energy and Power Fund’s Quarterly Report on Form 10-Q filed on August 10, 2017.)
3.2 Amendment No. 1 to the Third Amended and Restated Declaration of Trust of FS Energy and Power Fund. (Incorporated by reference to Exhibit 3.2 to FS Energy and Power Fund’s Quarterly Report on Form 10-Q filed on August 10, 2017.)
3.3 Amendment No. 2 to the Third Amended and Restated Declaration of Trust of the Company. (Incorporated by reference to Exhibit 3.1 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on October 3, 2023.)
3.4 Third Amended and Restated Bylaws of the Company. (Incorporated by reference to Exhibit 3.2 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on October 3, 2023.)
4.1 Second Amended and Restated Distribution Reinvestment Plan of FS Energy and Power Fund. (Incorporated by reference to Exhibit 4.1 to FS Energy and Power Fund’s Current Report on Form 8-K filed on October 17, 2016.)
4.2 Indenture, dated as of September 6, 2023, by and between FSSL Finance BB AssetCo LLC, Barclays Bank PLC, and Computershare Trust Company, N.A. (Incorporated by reference to Exhibit 10.2 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
4.3* Description of Securities.
10.1 Investment Advisory and Administrative Services Agreement, dated as of April 9, 2018, by and between FS Energy and Power Fund and FS/EIG Advisor, LLC. (Incorporated by reference to Exhibit 10.1 to FS Energy and Power Fund’s Current Report on Form 8-K filed on April 9, 2018.)
10.2 Custodian Agreement, dated as of November 14, 2011, by and between State Street Bank and Trust Company and FS Energy and Power Fund. (Incorporated by reference to Exhibit 10.6 to FS Energy and Power Fund’s Quarterly Report on Form 10-Q filed on November 14, 2011.)
10.3 Guarantee and Security Agreement, dated August 16, 2018, made by FS Energy and Power Fund and certain of FS Energy and Power Fund's subsidiaries in favor of JPMorgan Chase Bank, N.A. as collateral agent. (Incorporated by reference to Exhibit 10.2 to FS Energy and Power Fund's Current Report on Form 8-K filed on August 22, 2018.)
10.4 FSSL Finance BB AssetCo LLC Notes Due 2033. (Incorporated by reference to Exhibit 10.3 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
10.5 Master Repurchase Agreement (September 1996 version), by and between Barclays Bank PLC and FSSL Finance BB Seller LLC, together with Annex 1 and the Master Confirmation thereto, each dated as of September 6, 2023. (Incorporated by reference to Exhibit 10.4 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
10.6 Guaranty, by FS Energy and Power Fund in favor of Barclays Bank PLC, dated as of September 6, 2023. (Incorporated by reference to Exhibit 10.5 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
10.7 Collateral Administration Agreement, by and between FSSL Finance BB AssetCo LLC, FS Energy and Power Fund and Computershare Trust Company, N.A., dated as of September 6, 2023. (Incorporated by reference to Exhibit 10.6 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
10.8 Investment Management Agreement, by and between FSSL Finance BB AssetCo LLC and FS Energy and Power Fund, dated as of September 6, 2023. (Incorporated by reference to Exhibit 10.7 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
10.9 Margining Agreement, by and between FSSL Finance BB AssetCo LLC, FS Energy and Power Fund, FSSL Finance BB Seller LLC and Barclays Bank PLC, dated as of September 6, 2023. (Incorporated by reference to Exhibit 10.8 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on September 12, 2023.)
10.10 ISDA 2002 Master Agreement, together with the Schedule thereto and Credit Support Annex to such Schedule, each dated as of February 15, 2024, by and between FSSL Finance BNPP TRS LLC and BNP Paribas (Incorporated by reference to Exhibit 10.1 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on February 23, 2024.)
10.11 Master Confirmation Letter Agreement, dated as of February 15, 2024, by and between FSSL Finance BNPP TRS LLC and BNP Paribas (Incorporated by reference to Exhibit 10.2 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on February 23, 2024.)
10.12 Parent Guaranty, dated as of February 15, 2024, by FS Specialty Lending Fund in favor of BNP Paribas (Incorporated by reference to Exhibit 10.3 to FS Specialty Lending Fund’s Current Report on Form 8-K filed on February 23, 2024.)
10.13 Guaranty, by FS Energy and Power Fund in favor of Barclays Bank PLC, dated as of September 6, 2023. (Incorporated by reference to Exhibit 10.5 to FS Specialty Lending Fund's Current Report on Form 8-K filed on September 12, 2023.)
19.1* Insider Trading Policy.
21.1* Subsidiaries of FS Specialty Lending Fund.
23.1* Consent of Ernst & Young LLP.
31.1* Certification of Chief Executive Officer pursuant to Rule 13a-14 under the Securities Exchange Act of 1934, as amended.
31.2* Certification of Chief Financial Officer pursuant to Rule 13a-14 under the Securities Exchange Act of 1934, as amended.
32.1* Certification of Chief Executive Officer pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2* Certification of Chief Financial Officer pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS* Inline XBRL Instance Document
101.SCH* Inline XBRL Taxonomy Extension Schema Document
101.CAL* Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF* Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB* Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE* Inline XBRL Taxonomy Extension Presentation Linkbase Document
104 Cover Page Interactive Data File (embedded within the Inline XBRL document)
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* Filed herewith.
c. Financial statement schedules
No financial statement schedules are filed herewith because (1) such schedules are not required or (2) the information has been presented in the aforementioned consolidated financial statements.