Great Elm Capital's Strategic Turnaround: Navigating Q3 Challenges and Unlocking Value via CLO and Capital Deployments

In the volatile landscape of 2025, business development companies (BDCs) face a dual challenge: navigating interest rate uncertainty and maintaining net asset value (NAV) resilience amid credit market turbulence. Great Elm Capital Corp. (GECC) has emerged as a case study in strategic recalibration, leveraging capital allocation and collateralized loan obligations (CLOs) to stabilize its portfolio and position for recovery. This analysis examines GECC's Q3 2025 performance, its tactical responses to market headwinds, and the broader industry context for BDCs deploying CLO strategies in distressed environments.

Q3 2025: A Test of Resilience

GECC's Q3 2025 earnings report revealed a 17.3% decline in NAV per share, falling from $12.10 to $10.01, driven by losses from the First Brands bankruptcy and uneven cash flows from its CLO joint venture (as reported). While the drop underscores the fragility of BDC portfolios in a high-interest-rate environment, the company's response highlights its commitment to long-term stability. GECC maintained its $0.37-per-share dividend-a critical signal of confidence-and launched a $10 million share repurchase program to bolster shareholder value. Simultaneously, the firm raised $27 million in equity and refinanced its highest-cost debt, issuing 7.75% GECCG Notes to replace 8.75% GECCZ Notes, effectively reducing borrowing costs. These moves not only strengthened GECC's balance sheet but also preserved liquidity for strategic deployments.

Capital Allocation: Balancing Defense and Offense

GECC's Q3 strategy reflects a nuanced approach to capital deployment. By prioritizing debt refinancing and equity raises, the company mitigated near-term risks while retaining flexibility to capitalize on opportunities. Its CLO portfolio, representing 16.1% of total assets with a weighted average yield of 11.5%, remains a cornerstone of its strategy. This aligns with broader industry trends: CLOs have demonstrated resilience in 2025, with higher-rated tranches (AAA/AA) outperforming benchmarks and secondary market spreads tightening by 5–2 basis points. For instance, the VanEck CLO ETF (CLOI) outperformed its benchmark by 8 basis points in Q3, while the VanEck AA-BB CLO ETF (CLOB) delivered 3 basis points of excess returns. These results underscore the appeal of CLOs as a diversification tool in a low-growth environment.

Industry Context: CLOs as a NAV Recovery Engine

GECC's CLO strategy is not an outlier. Eagle Point Income Company Inc. (EIC), another BDC, increased its NAV per share to $14.21 in Q3 2025 by deploying $61.5 million into CLO debt and equity, achieving a weighted average effective yield of 10.95%. The success of such strategies hinges on structural advantages: CLOs' floating-rate structures insulate investors from rising interest rates, while their layered tranche system allows for risk-adjusted returns. In Q3 2025, CLOs delivered a 1.61% return, with year-to-date gains of 4.54%. This performance is particularly relevant as the Federal Reserve's rate cuts in September 2025 have further bolstered CLO valuations by reducing borrowing costs for leveraged loan companies.

Path to NAV Recovery: Q4 Outlook and Strategic Leverage

Management's optimism for Q4 2025 is grounded in tangible catalysts. Increased distributions from the CLO joint venture and normalized interest expenses are expected to drive net investment income (NII) recovery. This aligns with industry dynamics: as of September 2025, leveraged loan default rates remained low at 1.47%, reinforcing CLOs' structural resilience. For GECC, the combination of a diversified portfolio (with 16.1% in CLOs) and a strengthened balance sheet positions it to capitalize on market dislocations. The company's focus on higher-quality CLO tranches-mirroring investor preferences in uncertain environments-further enhances its risk-adjusted return profile.

Conclusion: A Blueprint for BDC Resilience

Great Elm Capital's Q3 2025 experience encapsulates the challenges and opportunities facing BDCs in a distressed market. By deploying defensive capital management (refinancing, equity raises) alongside offensive CLO strategies, GECC has laid the groundwork for NAV recovery. While the path ahead remains uncertain, the company's alignment with industry trends-particularly the effectiveness of CLOs in volatile environments-positions it as a compelling case study for investors seeking value in the BDC sector.