Why Fifth Street Finance Stock Surged 15% on Thursday

What's happening?

Shares of Fifth Street Finance (NASDAQ: FSC) are surging by more than 15% as of 3 p.m. EDT after the Wall Street Journal wrote that Oaktree Capital Group (NYSE: OAK) is rumored to be nearing a buyout of the business-development-company's manager, Fifth Street Asset Management (NASDAQ: FSAM).

So what

Fifth Street Finance is the equivalent of a corporate loan shark that provides high-risk, high-yielding loans to private companies. Recently, however, losses from bad loans have outweighed the earnings from its performing loans, dragging down the company's share price.

Shares opened today at a 42% discount to its last-reported book value. In contrast, the median company in Fifth Street Finance's industry trades at a mere 5% discount to book. The differences in valuation reflect the market's dour view of the company's management team and its underwriting capabilities.

Fifth Street's prospects could soon change if its external manager, Fifth Street Asset Management, is sold to a new owner. By acquiring Fifth Street Finance's external manager, Oaktree, a highly respected asset manager best known for its track record as a distressed debt investor, would take over management duties of its $1.9 billion balance sheet from existing management.

Now what

Rumors are rumors, of course, and this isn't the first time we've heard that Fifth Street Asset Management may find a new owner. The Wall Street Journal previously reported in April that the company was exploring a sale with the help of Morgan Stanley. Shares of Fifth Street Finance popped to a smaller degree on that news.

But the latest report comes with a named buyer and a potential price. It also follows other signs that Fifth Street was prepping for a sale. The BDC paid down balances on debt obligations that carry change-of-control provisions, while pushing off the renewal of its credit facilities, one of which will no longer allow Fifth Street Finance to make new borrowings as soon as August 2017.

News that a highly regarded manager may take the helm at Fifth Street Finance is good enough for a 15% rally today.

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Jordan Wathen has no position in any stocks mentioned. The Motley Fool recommends Oaktree Capital. The Motley Fool has a disclosure policy.