Fifth Street Finance Corp. (NASDAQ: FSC) is an externally managed company. That much most shareholders should know. What many don't know is that its external manager is thinking about a public offering of its own. The value comes from the lucrative fee stream the external manager earns from Fifth Street Finance and other funds.
The external manager was set to go public last week, but when the pricing didn't work out in the current owners' favor, it yanked its offering.
Push it on the individual investor
I've been closely following this IPO because its success will likely inspire other external managers to go public. So far, Ares Management and Medley Management, which run their own eponymous funds, have listed to little success. Shares trade below their respective IPO prices.
Fifth Street Asset Management was set to price in a range of $24-$26 per share. When demand didn't fit the pricing, the company insisted its underwriter, Morgan Stanley, push more shares to its retail clients -- individual investors. Morgan Stanley rightfully chose not to "unload a deal" on its clients. It's not worth creating certain losses for your clients in exchange for a few million dollars in underwriting fees.
The pricing really isn't about generating enough cash from the IPO to run the business. This is a cash-out IPO in which its current owners will take virtually all of the proceeds. Businessweek reported that CEO Leonard Tannenbaum would become a billionaire if his company priced at the top of the range. Interestingly, this is only a few years after Tannenbaum was reportedly delinquent on debts to his own father-in-law, or at least, his ex-father-in-law.
Don't take the above as some sort of a potshot at his personal life. Family matters are tricky, and they often go deeper than money. The point is, running a BDC is so lucrative that a manager can go from reportedly broke to one of the world's youngest billionaires in under a decade.
The real problem
Fifth Street's true colors are starting to show. Just as Fifth Street Asset Management began its IPO process, it embarked on a plan that would destroy its fund investors' wealth to make the management company richer. It more than tripled the share count of its Fifth Street Floating Rate (NASDAQ: FSFR) BDC at prices below book value, destroying millions of dollars in shareholder wealth in the process.
Of course, issuing more shares also ensured the viability of the floating-rate product, and the fee stream that would flow to Fifth Street Asset Management. Leonard Tannenbaum made himself richer by choosing to make shareholders poorer.
And when the IPO of his asset management firm failed, he insisted his underwriter again dump stock on unsuspecting, individual investors. It's just another piece of a familiar, and incredibly concerning, side of Fifth Street and its related companies. When all else fails, its go-to option is fleecing individual investors just one more time.