Case study
Case study: a quarter-end close
All organizations, loans and figures in this case are fictional and illustrative. They are chosen to keep the arithmetic simple, not to describe any real fund, borrower or market.
The situation
Kestrel Point Direct Lending Fund II is a private direct lending fund managed by Kestrel Point Credit, which also acts as administrative agent on several of its loans. Unlike Fund I, which uses a whole-fund waterfall, Fund II's documents provide for a quarterly income incentive fee of the kind many BDCs, and some private credit funds, pay.
It's the close for the quarter ended June 30. You're on the fund accounting team, reviewing four items before the NAV is finalized. The quarterly figures are unaudited.
1. An interest payment on Harlow Bay Packaging
Harlow Bay Packaging has a $120m term loan. Fund II holds $60m (50%), and another direct lender holds the rest. During the quarter, the agent sent this payment notice:
| Agent's payment notice, Harlow Bay Packaging | Value |
|---|---|
| Principal outstanding (whole loan) | $120,000,000 |
| Term SOFR fixing | 3.80% |
| SOFR floor | 1.00% |
| Spread | 5.75% |
| All-in rate | 9.55% |
| Days in the interest period | 90 |
| Day count | Actual/360 |
| Interest due (whole loan) | $2,865,000.00 |
On the payment date, Fund II's bank received $1,432,500.00. Fund II's loan system, where the loan was set up when it closed two quarters ago, expected $1,395,000.00. The system's rate, day count and days agree with the notice, but its spread is set at 5.50%. The credit agreement says Term SOFR + 575 bps.
2. A prepayment by Wrenfield Dental Partners
Wrenfield Dental Partners repaid its whole $50m term loan early, ten months after closing, from a refinancing. The loan has call protection of 102 in year 1 and 101 in year 2. Fund II's position:
| Wrenfield Dental Partners, Fund II's position | Value |
|---|---|
| Principal repaid to Fund II | $30,000,000 |
| Issue price | 98 |
| OID at funding | $600,000 |
| OID accreted to the repayment date | $80,000 |
Accrued interest to the repayment date was paid at the same time and is already included in income.
3. Marlowe Street Fitness goes on non-accrual
Fund II holds a $24m term loan to Marlowe Street Fitness at an all-in rate of 10%. To keep the numbers clean, each quarter's interest is treated as a quarter of the annual amount. Marlowe missed its March 31 interest payment and has paid nothing since. Fund II accrued interest for both the first and second quarters. At June 30 the March payment is about 90 days past due, and the fund places the loan on non-accrual. Under Fund II's policy, accrued but unpaid interest is reversed against interest income when a loan goes on non-accrual.
4. The NAV and the incentive fee
The fund administrator's summary below reflects all three items above, including the corrected Harlow Bay accrual and the Marlowe reversal (so the Marlowe interest is no longer in interest receivable).
| Kestrel Point Direct Lending Fund II, June 30 | $m |
|---|---|
| Loans at fair value | 452.00 |
| Cash | 18.40 |
| Interest receivable | 6.10 |
| Total assets | 476.50 |
| Credit facility | 200.00 |
| Accrued management fee | 1.30 |
| Accrued incentive fee | 0.96 |
| Other payables | 0.74 |
| Total liabilities | 203.00 |
Fund II's income incentive fee terms, one common structure among many:
| Term | Value |
|---|---|
| Quarterly hurdle | 1.75% of NAV at the start of the quarter |
| Incentive rate | 15% |
| Catch-up | Full (100% to the manager) |
| NAV at the start of the quarter (March 31) | $260.0m |
| Pre-incentive fee net investment income for the quarter | $6.4m |
Pre-incentive fee net investment income is after the management fee, expenses and interest on the credit facility, and before the incentive fee. It excludes gains and losses, and it includes the Wrenfield prepayment premium and unamortized OID and the Marlowe reversal.
Read the materials, then answer the questions.
Answer every question, then check your answers. The pass mark is 70%.