Q4 2020 Sixth Street Specialty Lending Inc Earnings Call
Good morning, and welcome to the sixth Street specialty lending, Inc. 's fourth quarter and fiscal year ended December 31st 2020 earnings Conference call before we begin today's call.
I'd like to remind our listeners that remarks made during the call may contain forward looking statements.
Statements other than statements of historical facts made during this call may constitute forward looking statements and are not guarantees of future performance or results and involve a number of risks and uncertainties.
Actual results may differ materially from those in the forward looking statements as a result of a number of factors, including those described from time to time in the sixth Street specialty lending Inc's filings with the Securities and Exchange Commission.
The company assumes no obligation to update any such forward looking statements yesterday after the market close the company issued its earnings press release for the fourth quarter and fiscal year ended December 31st 2020, and posted a presentation to the Investor resources section of its website www six.
St.
The specialty lending dotcom the presentation should be reviewed in conjunction with the company's form 10-K filed yesterday with the SEC.
Sixth Street specialty lending Inc. 's earnings release is also available on the company's website under the Investor Resources section unless noted otherwise all performance figures mentioned in today's prepared remarks are as of and for the fourth quarter and fiscal year December 31st 2020, as a reminder of this.
Call is being recorded for replay purposes, I will now turn the call over to Joshua easterly Chief Executive Officer of sixth Street specialty lending Inc.
Thank you good morning, everyone and thank you for joining us.
With me today is my partner and of our President Bo Stanley The CFO incentives.
Good day, everyone and their loved ones are doing well.
On our Q4 earnings call year ago, none of us kind of predicted that we were on the precipice of a global pandemic of claim over 2 million lives shattered entire sectors of the global economy and.
Interestingly all three of the cadence of our everyday lives.
In the context of the year that was fraught with complexity and uncertainty for Q4 and for your results are Testament to both the groundwork we've laid over the years to address the constraints of our sectors of business model as well as the commitment of our people at all levels of our organization.
After the close yesterday, we reported fourth quarter and fiscal year financial results, which were consistent with the preliminary figures.
On January 25th.
Q4, net investment income and net income per share for 48 cents and 79 cents respectively.
This resulted in a full year net investment income per share of <unk> 19 of returning at a return on equity of 13% and of full year net income per share of $2 65.
Our return on equity of 15 eight per cent.
Our highest annual return since inception.
Both of our 'twenty both of our 2020 or are we.
Our net income in our OE of net or our net investment income for above their respective average at average annual results since our IPO.
Despite ongoing.
Headwinds from LIBOR for most of our sector for us.
Q4, net investment income or supported by the LIBOR floors owner of assets in connection with the lower cost of funding given our 100 per cent floating rate liabilities structure.
It was also supported by another quarter of robust fee income and portfolio activity for the difference between this quarter's net investment income and the.
Net income were primarily driven by overall net gains, including net realized and I really like unrealized gains from portfolio of company specific events and net unrealized gains for the impact of tightening credit spreads on the valuation of our debt investments.
As shared in our pre release. Our Q4 figures include approximately two cents per share of capital gains incentive fee fees that were accrued, but not paid or payable related to the cumulative unrealized capital gains in excess of in excess of chemo cumulative net realized capital gains less any cumulative.
Unrealized losses and capital gains incentive fees paid inception, the inception to date.
Excluding the impact of the accrued capital gains incentive fee expense as our net investment income per share and net income per share for the quarter ended December 31, 2020 for 50 cents and 81 cents respectively.
The capital gains incentive fee accrual of the GAAP related non cash item, we believe the adjusted NII and NII, which excludes the impact of the accrual more accurately portrays the current core earnings power of our business.
Our Q for capital gains incentive fee accrual of expenses just another byproduct of our long term focus on minimizing losses and salary building net asset value.
And the economics and economic value for shareholders.
The other way to see this as to the total of economic returns we've generated for shareholders as.
Calculated by the change in net asset value per share what the starting point of adjusted for the impact of of supplemental and of our special dividends plus cumulative dividends per share.
In 2020, we generated a total economic returns of 16% exceeding our average annual return rates since the IPO of 12, 2% through 2019.
As seen on slide 10 of our use of presentation.
Primarily the primary drivers of our net asset value per share growth in 2022 of new high of 17 16 at year end, where the old.
The ordering of our base dividend through net investment income net unrealized mark to market gains from interest rate swaps on our fixed rate liabilities and realized and unrealized gains on investments.
Yesterday, our board approved the base quarterly dividend of 41 cents per share to shareholders of <unk>.
As of March 15 payable on April 15th.
Our board also declared of supplemental dividend of five cents per share related to our Q4 earnings to shareholders of record as of February 26 payable on March 31st the supplemental dividend the supplemental dividend this quarter, it's calculated using our adjusted net investment income.
If you exclude the impact of accrued capital gains incentive fee extensive since there's no certainty to win a piece of accrued expenses will be paid the bill.
We believe the adjusted NII is the more relative figure to determine the overall.
That should be distributed to our shareholders.
And the ongoing assessment of our unit economics mitigating the earnings drag and caused by excess tax related to our spillover income has been top of line since declaring our tax driven the special dividend last February we've continued to accumulate spillover income as a result of over earning the capital.
Game over earning and capital gains from our portfolio realizations.
In order to do we do for excess tax.
Satisfy ric distribution requirement and enhance our capital efficiency.
And consult patient with our board has declared a special cash dividend of $1 25 per share to shareholders of record as of March 25th payable on April eight two of the special dividend for the all the people we should expect to reduce our full year of excise tax for 10 cents to four cents per share.
This combined with the slight increase in our financial leverage is expected to drive of approximately 100 basis points of uplift in our ROE.
Our year end net asset value per share adjusted for the impact of the special supplemental dividend.
Declared yesterday, it's 15 86, and we estimate that our spillover income per share after the special dividend was approximately 54.
Again, we'd like to reiterate the special dividend is motivated by tax of indirect distribution consideration and the.
The Gulf steadily building net asset value per share overtime remains very much of part of our operating philosophy.
To sum up we believe our performance in 2020 was largely supported by how we position how we were positioned pre pandemic.
The defensive nature of our portfolio combined with the strong liquidity funding and capital positions.
Our floating rate liabilities structure, where the bedrock of our outperformance this year.
The foundation as we entered the on for some period of March allowed us the better.
Dedicate our energy and efforts to support our portfolio of companies and management teams impacted the fleet deployed capital and dislocated areas.
Now I'll, let Bo any each of Scott, how we're thinking about.
Positioning on the right hand in the left hand side of our balance sheet for the year ahead as well should we view the Q4.
And full year activity of more detail well over to you.
Thanks, Josh I'd like to quickly share our thoughts on the market environment.
Power has informed our originations activities over the course of this year.
After the Covid induced market shock in March fiscal and monetary stimulus measures taken by the fed in the U S government lots of significant turnaround for risk assets.
The strong investor demand for yield in the low rate environment, along with unprecedented fiscal stimulus to support COVID-19 impacted businesses and households drove down risk premiums.
Both of the equity and credit markets. Despite the prevailing uncertainty surrounding many parts of the U S economy.
And the leverage loan market LCD first lien spreads ended the year of only 30 basis points wider than where it started and second lien spreads actually tightened 144 basis points year over year.
On an absolute basis, taking into account movements in LIBOR the benefit of floors and then the amortization of upfront fees. All in returns for new issue of single B loans for the end of 'twenty 'twenty were approximately 100 basis points tighter than where they were a year prior.
While the new issuance volumes gathered pace in the second half of the year of fuel by opportunistic financings and the Ripper return of sponsor and M&A activity.
The strong investor demand still outpaced supply by year end, we saw the return of looser underwriting standards.
To what we saw we witnessed pre COVID-19.
Despite the theme of recovery and headlines for most of US assets. We believe the story of average has masked the diverging performance and credit quality for Covid impacted borrowers this year.
For example, total return for the leveraged loan index in 2020 was $3 one per cent, but sectors like energy and retail underperformed with the negative 7.3 and.
The negative 2.0.
Per cent returns in sectors like health care.
<unk> generated over 5% returns. This dispersion was also evident in credit statistics.
Despite the seemingly moderate.
Reported median leverage of five five times for public filers in the leveraged loan index at year end the percentage of filers with leverage greater than seven times of doubled from a year ago, primarily led by EBIT of declines for borrowers most impacted by Covid.
As we saw return in competitive behavior of our own markets in the later half of the year, we were mindful of the unevenness in for agility of this recovery.
We believe that much of the optimistic market sentiment, we saw starting in the second half of 'twenty 'twenty hinged on continue continued accommodative fed policy and timely global global vaccine distribution, which to date has been fragmented not without its challenges.
In the near to medium term, we believe this could create windows of volatility and risk off behavior in the broader markets, which would once again allow us to opportunistically deploy capital like we did in the spring and summer.
In the meantime, however, we felt that it was prudent to focus our origination efforts on sectors and themes that have been the hallmark of our above market returns and continue to reinforce the defensive nature of our portfolio.
In Q4, we generated a record level of quarterly commitments and fundings of $526 million and $450 million respectively.
This quarters fundings were across 10, new antenna existing portfolio companies.
The sponsor of M&A activity picked up.
We were active in both bolt on acquisitions for our existing borrowers as well as new financings along the lines of our expertise, where we felt we could add incremental value to sponsors and management teams.
Our activities this quarter tilted in favor of mission critical software businesses with diverse attractive revenue characteristics and high variable cost structures.
We also blended our expertise on our hybrid recurring revenue software and asset base of financing for fall at a provider of K through 12 education materials and technology solutions.
<unk> the delved into an underwrite the company's software subset of gun.
As well as its working capital and the other fixed asset collateral allowed us to differentiate our capital and partner with an excellent family owned business the management team.
On the repayment side, we continue to have elevated activity in Q4 with 10 full and one partial portfolio of repayment totaling $266 million.
As a result, net fundings of activities for the quarter was $184 million.
The bulk of this quarter's repayments were M&A related and the various cases resulted in activities related fees contributing to this quarter's income.
For the full year, our commitment and funding levels closely track last year's record high figures with.
With $1.2 billion of commitments of $939 million of fundings.
Total repayments for this year, we're at $941 million, which meant the size of our portfolio remained relatively steady year over year.
You may recall that in the first two quarters of of the year we.
We had a cumulative of $266 million of net repayment activity in our portfolio the.
This meant that our team worked incredibly hard to build a strong pipeline of opportunities to generate over $263 million of net portfolio growth in the second half of the year alone.
As always our priority is the source and structure of consistent portfolio yields while partnering with high quality companies and management teams.
This philosophy is reflected in the stability of our weighted average yield on debt and the income producing securities at amortized cost, which can be seen on slide 15 of our earnings presentation.
In Q4 of the weighted average yield on debt and income producing securities at amortized cost remained stable at 10, 2%.
There was a slight positive uplift from amendments during the quarter of primary related to M&A, which was offset by the impact of new vs exited debt investments.
In Q4, the yield at amortized cost on new investments was nine 9% compared to an elevated yield of 12, 9% on exited names as a result of them for upfront fees against the short contractual maturity on our investment in centric plants.
Excluding centric brands the yield at amortized cost on exited investments this quarter would have been 10, 3%.
Now I'll move on to the credit quality of our portfolio of by first providing some updates on our prior quarters non accrual names.
In December we removed our pre petition J C. Penney's first lien term loan and notes from non accrual status upon the company's emergence from chapter 11.
Adam merchants, our pre petition debt and debt positions were converted to non interest paying instruments.
But with the rights to immediate and future distributions of cash and other instruments.
Our immediate distributions were $2 $3 million of cash $6 9 million of exit of term loan and units in the prop co and the earn out trust.
The fair value marks of R. J C. Penney pre petition debt and debt positions at December 31st reflected the respective level to prices.
Overall J C. Penney's restructuring provided approximately five cents per share of uplift for our NAV this quarter and.
And at year end of the total realized and unrealized value of our pre petition and debt positions exceeded the original cost basis.
While this has been of complex process, we believe our involvement as pre petition and depth of one of theirs supported our ability to to be one of for financing providers and the J C. Penney, New 300 million dollar E. B L. Five of alone which in our view offers very attractive risk adjusted returns.
At yearend, our retailing consumer exposure was 11, 8% down 13, 9% in the prior quarter.
And 75 per cent of this.
Existing exposure were asset based loans.
In December we also removed our first lien loan and in the E&P Company MD America from non accrual status falling of the company's emergence from chapter 11.
During Q4 of.
$13 6 million dollar share value alone was restructured into of $9 million of first lien loan and a $3 $9 million of equity position.
We believe the company's new capital structure is more appropriately suited for today's commodity price environment.
At quarter end, our portfolio total energy exposure was one 7% of fair value.
During the quarter, we added one new investment.
Our $21.6 million of fair value loan in American achievement to non accrual status.
The company manufacturers and suppliers of the yearbooks class rings, and graduation products and as the result of Covid underperformed for the 2020 sales season.
We are currently working with the company on the on the potential restructuring to keep our term loan outstanding.
Received a majority of the equity in the business as a lender group.
We expect to reach resolution on this in the near term.
As a result of these activities our non accruals at Europe and remained stable from the prior quarter at 0.9 per cent of the portfolio at fair value.
Over corridor, our portfolio's weighted average performance rating improved slightly from one point to one to 1.18.
And our terrorist names decreased from 8% to two five per cent on a fair value basis.
As of Q for our portfolio continued to be at the top of the capital structure of approximately 96% first lien loans.
The percentage of business service portfolio of companies increased during the year to nearly 80 per cent and we continue to have limited the cyclical exposure excluding in our asset based loans in retail of $4 five per cent.
Note that of the slight increase in our equity exposure from 3% of 4% year over year was primarily due to the increase in the fair value Mark of our equity positions.
Across our core borrowers for whom these metrics of relevant we continue to have conservative.
Conservative weighted average attachment and detachment points of zero point for acts and for Forex, respectively, and their weighted average interest coverage remained relatively stable at 3.1 ex U.
Year over year of the weighted average revenue and EBITDA of our core portfolio companies increased from 114 million to of $117 million for.
The 35 million to $41 million respectively.
We believe this reflects the the resilient business model of our core portfolio companies, many of whom were able to execute on strategic acquisitions. This year to drive continued growth.
With that I'd like to turn it over to Ian.
Thanks Peter.
<unk> already mentioned this was a strong quarter from an earnings and originations perspective in Q4, we generated net investment income per share of 48.
Full year net investment income per share of $2 19.
Q4, net income per share was <unk> 79, which.
Could you put out full year net income per share of $2 65.
As discussed excluding the <unk> <unk> per share of capital gains incentive fee expenses were accrued this quarter of <unk>.
For net investment income and net income per share was <unk> 50, and 81, respectively.
At year end, we had total investments of $2 3 billion total debt outstanding of 1.1 of them.
And net assets of $1 2 billion or $17 16 per share, which is prior to the impact of the supplemental and special dividend that would get credit.
Yesterday.
Following this quarter's net funding activity of ending debt to equity ratio was <unk> 95 times up from eight one times in the prior quarter.
However, due to the quarter and timing on a number of fundings our average debt to equity ratio decreased from nine three times, the 0.87 times quarter over quarter.
For full year 2020.
Average debt to equity ratio was <unk> nine one times on the low end of our previously stated target range of <unk> nine to $1 two five times and up from an average of eight four times in 2019.
As Josh said earlier, our strong positioning at the beginning of 2020 on the right hand side of our balance sheet played an important important role in our ability to drive strong outcomes for the year.
At the beginning of 2021, we continue to follow our framework of systematically looking for ways to enhance our funding and liquidity profile.
In late January the capitalized on the attractive issuance environment in the investment grade capital markets and issued 300 million of two 5% five five year unsecured notes, which today represents the second lowest coupon in the BDC sector.
Consistent with the rest of the fixed rate debt, we entered into a fixed to floating interest rate swap on the new notes.
And the swap adjusted spread that is the only three and a half basis points why the and the current drawn spread on the unsecured revolver funding. There's funding mix shift is expected to have minimal drag on our ROE profile of.
Further enhancing our funding flexibility.
In addition in early February with the ongoing support of our lending partners. The increased the commitments under our revolving credit facility from $1 335 billion to $1 for eight 5 billion and extended the final maturity on 139 billion of these commitments, including the upsides as we received by over a year to February.
2026.
As a result, we believe our balance sheet has never been in better shape.
Through these two transactions, we have positioned even better than we were a year ago to take advantage of what the market may have to offer in the period ahead.
To provide some numbers for context pro forma for the new notes issuance and the revolver amendment extend our year end liquidity increased buyer, the 60% to $1 3 billion of Undrawn revolver capacity.
Presenting over 55% of our year end total assets and over 14 times coverage of our unfunded commitments eligible to be drawn.
Our year end the unsecured funding mix increase from 58 per cent to 84% on a pro forma basis and a weighted average remaining life of debt funding increased by over 20% for five years compared to the weighted average remaining lots of investments funded with debt of only two and a half years.
A quick note on our 2022 convertible notes.
Some of you may have noticed that our stock price has closed above the adjusted conversion price on that every day so far in 2021.
If the average share price of our stock for the period presented is greater than the adjusted conversion price.
Acquired to provide the calculation of diluted EPS.
Since this could be relevant for our Q1 financial reporting we wanted to provide some context and then thanks for that.
As you May know 2022 notes are converted we have the choice to pay or deliver as the case by day at our election cash shares of our common stock or a combination of cash and shares of our common stock.
While these notes are now eligible for conversion today, the settlement flexibility gives us the opportunity to analyze the financial impact of alternative approaches.
Addressing the conversion of these notes depending on the capital and liquidity needs of our business at that time.
Turning now to our presentation materials slide nine is the NAV of acreage for the quarter walking through the main drivers of this quarter's NAV.
Growth, we added 48 per share from net investment income against the base dividend of 41 per share.
There was a 23 per share reduction to earnings primarily from the reversal of net unrealized gains on the Swift and the tell us equity positions as we book the gains as realized upon the sale the.
Impact of Q for credit spread tightening on the valuation of our portfolio had a positive <unk> 16 per share impact and there was a positive 40 cents per share impact from other changes in net realized and unrealized gains.
Primarily driven by portfolio of company specific events.
Moving onto our operating results detailed on slide 11.
Total investment income for the fourth quarter was $62 2 million compared to $71 3 million in the prior quarter.
Breaking down the components of income interest and dividend income was $52 7 million down $1 2 million from Q3 due to the impact of having of repayments earlier in the quarter of new fundings later in the quarter.
Of the fees, which consist of prepayment fees and accelerated the amortization of upfront fees from unscheduled pay downs of $4 3 million compared to $9 3 million in the prior quarter. When we had elevated fees related to <unk> and the Neiman firewood.
Likewise other income, albeit robust at $5 2 million was lower compared to the prior quarter given our elevated other income in Q3.
Net expenses, excluding this quarters non cash accrual related to capital gains incentive fees were $26 3 million down $1 9 million from the prior quarter. This was primarily due to lower other operating expenses and lower cash incentive fee expenses.
The funding cost in Q4 continued to benefit from the one called the timing lag on the LIBOR reset date on our interest rate swaps and the downward movement in LIBOR in Q3.
Weighted average interest rate on average debt outstanding decreased by approximately 10 basis points quarter over quarter since.
Since LIBOR remained relatively flat during Q4, we would not expect to see any rate related impact in our cost of debt in our Q1 results.
Reviewing the unit economics of that business in 2020, and the year of heavy repayments, we generated robust fundings that allowed us to slightly increase our average financial leverage and we maintained our all in asset level yields despite the headwinds from LIBOR.
We also benefited from a lower cost of debt as a result of the floating rate liability structure.
These factors together drove an increase in out of the year over year ROE on net investment income from 12% to 13%.
The other net realized and unrealized gains on our investments and net unrealized gains on net interest rate swaps related to our 2022 and 2023 nodes contributed to our record high ROE on net income of 15, 8% for 2020 compared to 14, 5% in 2019.
As we look ahead to 2021 based on their expectations for net asset level yields LIBOR cost of funds and financial leverage we expect to target of a return on equity of 11, 5% to 12% using.
Using a year end book value per share of $15 86, which is adjusted to include the impact of the Q4 of supplemental dividend and 2021 special dividend. This corresponds to a range of $1 82 to $1 90, the full year 2021 net investment income per share.
With that I'd like to turn it back to Josh for concluding remarks.
Thank you and I like the close our prepared remarks today I think current team for their efforts this year and our business of comp and our businesses accomplishments in 2020.
I also thank all of our shareholders and stakeholders for their ongoing engagement and support maintaining your trust is very important to us.
And hopefully through a series of public letters and frequent dialogue this year we've.
We've made a current debt timely and clear communication, both externally and internally at the critical pillar of our business and our success.
Our focus for the year ahead is to continue the allocate capital in ways that generate top tier results for our stakeholders and create value for our management teams and portfolio of companies.
Do this through continued assessment of the appropriate investment teams based on the world around us.
The final opportunities within our existing the existing.
The existing ecosystem and finding new ways of leveraging the capabilities and relationships across the fifth Street platform.
With that thank you Andrew for your time today operator, please open up the line for questions.
Of course, ladies and gentlemen, as a reminder to ask a question you will need to press star one on your telephone we ask that you. Please limit yourself to one question and one follow up question. You May then return to the queue to withdraw your question first of the pounds. Please standby, while we compile the Q&A roster.
Our first question comes from Devin Ryan with JMP Securities. Please go ahead.
Great Good morning, everyone.
Good morning, gentlemen, how are you.
Doing terrific.
All of the detailed commentary and outlook.
If I look at the current leverage levels, you're still at the lower end of your target range and you have fairly significant liquidity.
Obviously with the strong deal, making environment. So I'd, just love to get a little more context around how you guys are thinking about.
The leverage and portfolio growth over the next few quarters and how that.
It kind of ties in with some of the outlook you just provided.
Sure look I think in the <unk>.
Short term we have a.
The strong pipeline.
And as you pointed out we have a ton of liquidity.
Given the capital of wages in the right hand side of the balance sheet.
Both of the revolver extension of.
<unk> size and the AR and the bond issuance of I would say in this environment given some of the soul kind of tail risks and uncertainty it's unlikely that from a risk perspective.
We will operate at the top end of our target leverage ratio. So I would I would not expect that but.
Just given the uncertainty in.
There could be some opportunities in the future to take of that take.
Take advantage of the volatility.
Okay, Great and then maybe just want to kind of following on that comment.
With the you really obviously.
We are seeing here, but but.
The strong deal flow what are your expectations for syndication activity to generate additional fee income sort of essentially position and remain active.
Save some dry powder to potentially take advantage of when volatility does pick up in the.
Perhaps of Jim.
The opportunities increase yeah.
Look I think the most definitely will be some some opportunities to generate some syndication fees in those arranged.
You know between two enforced since a year or something like that historically, yeah. Yeah. It was the timing of Penny last quarter.
But on the annualized basis, what like somewhere between two and for since that's right.
Okay. So that's the kind of the expectation then still going forward.
The most definitely.
I think there will be most definitely opportunities and look I think with the the broad based sixth Street platform.
We clearly have the ability to move.
Move up markets and do big deals and provide certainty to our counterparties the management team to allow them to take advantage of opportunities in their own business.
And for growth.
For M&A. So I think we always try to find the right balance of.
Easy to exempt of relief for the coat for.
Co invest and engineering generating litigation case.
Right.
Terrific I'll leave it there, but really appreciate all the detail you guys provided.
Thanks Devin.
Thank you. Our next question will come from Robert Dodd with Raymond James. Please go ahead.
Hi, guys and congratulations on a lot of good year, not just the quarter, but.
In a pretty tough environment.
A question more of like the the liability side I mean, Josh.
Now that you can borrow.
Unsecured debt at two and a half I mean swap it out, but two and a half.
Does that change your appetite for moving down market and buy down market I mean to low coupon.
In terms of the the types of deals like you mentioned one of them the sulfur idea of where youre doing.
So of asset backed on the working capital side.
A lot of your eye off frankly doesn't come from the two point anyway and it comes from the product differentiation of the fees. You can you can get so it's the coupon doesn't matter of as much and your borrowing costs of moving even lower.
Is there an appetite for shifting kind of.
Where the play is because you can still generate the although we use what we said.
Although he's even with low coupons, given that's not where a lot of your income comes from.
Yeah. So look I I I think I think out of two comments, we actually think about the world.
For better or worse.
On the Unlevered basis, you kind of you can you can get your.
Specialty finance companies, and and and lenders and banks and everybody kind of gets gets the themselves into trouble if they lose the force through the trees and they just focus on marginal unit economics because of anything is quite frankly.
Accretive on a marginal basis.
If you if you just look at your cost of financing and layer in the.
Where do you sit in the cost curve, which includes the fees and incentive fees.
That might not mean that you're getting paid enough to take that credit risk and so I think it's the.
Finding the balance between understanding you your unit economics in your marginal economics of your business and also finding making sure you're making good investments on the unlevered basis that that where you're getting paid enough spread or enough economics, the cover of default risks and and and and.
Probability of loss and that your you there's relative value and you're providing value to use of shareholders for for for the economics. They pay you and so I think the the answers.
Qualified yes, which is you kind of got to look at the entire ecosystem and find the right balance between making sure you're providing relative value space of where your some of the cost curve make sure the economics.
Work on the cost of equity, but also looking on the unlevered basis, the investments, you're making and we'll make sure they make sense.
Given the underlying risk you're taking.
I appreciate that thank you for that.
Kind of tight types of this one on the debt I think it was called out a couple of them, but the the software company, where you did the the the <unk>.
Differentiate the product some of you talked about the the loan plus the.
The the the asset backed component of it is there.
Increasing or decreasing demand for that kind of product set right now given I mean, the the market is the low lending.
The lending markets too.
To exaggerate is almost willing to give away money at this point.
So all of those nuanced products is the increasing demand all of us that actually dropping off as we head into 'twenty, one given given the easing of lending terms elsewhere in the market.
Yeah look I think this quarter I think 60 per cent of origination.
You're correct me wrong of BOE was non sponsored and and and 40% of sponsored so look there are still those opportunities outside of the sponsor lane define debt to provide.
Certainty and to provide solutions for companies that we the girl.
The good copies of good assets and debt you know and that we could also make.
And for our shareholders for finding that balance between providing value to our issuers of value to our shareholders and that was.
I think theres still of that opportunity and you know when we look at our pipeline. There is some of that in our pipeline for sure.
Got it thank you.
But most definitely the just did they hit on it.
The the the the.
There has been any large pushing the this is not just in any market. So you know.
All risk assets are tighter and so you know.
There is still I think you can say, it's relative value credit, but like if you look at range yields for for.
For the S&P, if you look at you know.
Our credit spreads.
All risk assets are tighter and I think that's been the by design Bye Bye bye policymakers.
I think the big watch out not not the not to get into politics, but the big watch out.
Is that the the easing the easing policy by the fed.
Does has contributed to and equities and I'm not sure. The I don't I'm not sure I have a good answer of how to solve it.
Because it also of sports the economy, but people who own assets do well when people do who don't own assets don't do well and so you kind of ended up with a situation, where we had post global financial crisis, which is part of <unk>.
Some from the right of the populace them for the left and you know.
It's it's you can kind of see history repeat itself pretty quickly.
Given the the policy moves post Covid, where you you know Unfortunately, I think we're gonna be in the period, where we're going to have both of those forces from the right and the left given the unintended consequences of the fed policy.
I appreciate that it's called the son.
Thanks, a lot.
Thank you and our next question will come from Finian O'shea with Wells Fargo Securities. Please go ahead.
Hi, This is actually out of Jordan walk and calling in today from fin O'shea.
Just keep it real short and simple here I know you don't have a lot of attitude to speak about individual portfolio of companies, but when we're looking at it looks like a smart it was refinanced in December.
All of our commit went away.
We're really just wondering.
What's your sense of May be first lien last out long now.
So.
We're really wondering if you could just give us some kind of.
Our framework I guess on how this loan how long I guess not necessarily this one for how long of like this become a first lien last out.
That you inherited another bank, but for the acquisition or something like that.
Yeah, I think boat, but remind me on day, one I think day.
We brought in a bank went on an acquisition correct. There there was M&A activity that increased the size of the scale of the business and at that point, we brought in the bank two to lay off some revolver exposure until into the small amount of the term.
Okay. So that's when we see something like that.
What we should assume just in the general sense.
I, Yeah, I won't tell you what my father said about assuming no free.
If you feel free to ask us.
[laughter].
No I appreciate it. Thank you guys. That's all for me.
Thanks, so much of weekends okay.
Thank you. Our next question will come from the line with Covid.
Go ahead.
Hey, good morning, guys and congrats on the.
Really great 2020.
Just a couple of questions. One just talking about your liability structure. Obviously, you guys price. So some really attractive notes two 5% fixed rate did you guys swapped out to L plus 191.
Just curious can you talk about why you guys that made the decision to expand.
Your revolver given that as you mentioned in the prepared comments you guys are issuing unsecured debt, which has a lot more flexibility of basically the same prices the revolver. So.
Why did you guys didn't extend out for the revolver number one and on that point.
Do you guys think about changing the composition of your liability structure now that you can price debt. It again, the same price unsecured debt at the same price of the revolver would you looked at to add more unsecured debt as of as a percentage of your liability structure.
Yeah. So first of all of I don't know if we can add any more unsecured debt quite frankly, I think it's in a year.
And it was.
I think most of our capital structure right Yeah yeah.
5% pro forma yeah, so effectively you, but we'll look at the business growth the there.
Most of that most definitely be an opportunity I think there's a couple of different strategies for one one is.
The the unsecured market for of Bdcs have been fickle the state of the lease over the years.
I think it's it's actually.
Taking a.
Taking a taken a.
Of direction for the better which is it feels more stable it feels like that the that market is more accessible and it feels like that market is kind of more accessible and more steady over time. So I think that that's a good thing for the industry.
And quite frankly.
I think there's still value to be had if you look on the ratings basis and.
The spreads basis for investors to keep supporting the industry the.
Second thing is you asked me the question look I think the the the revolver market has also been a little bit fickle for for Bdcs overtime and for the sector over time and the one lesson. You've learned is if you look at Covid is the that the cost of insurance of having looked.
Quiddity during moments of volatility more than enough pays for itself and so we are most definitely incurring the cost by having that cost is relatively small given commitment fees of unused line fees, but that is that isn't true that's effectively insurance and allows us.
To participate.
And at times, where cap of wasn't available and because there's a correlation between when there's great opportunities capital isn't available and so we're paying for that option to participate in when you look at the our history. In 2020, we drove I think he knew of the numbers 30.
The 40 cents of value on a per share basis to activity levels when in a risk off environment, because we have made that investment and bought that insurance in that option on liquidity.
Mhm.
Does that does that makes it does that makes sense of humor.
The that's that is Inc.
Quite frankly, I think I think as a as the only and the owner of of T. S O for myself, but as a as a.
As the you know the.
Of the manager of the steward of the capital our share of capital.
You got a burden you should burn in your unit economics.
Because you can't run the model so tight.
Or you don't pay for an insurance.
I E. The option on liquidity you don't you run it at you know Max leverage.
Is that the.
The the business model, given the regulatory constraints of the mark to market and the correlation between risk off environment.
And no cash capital available you just you have the bacon those cost to fully burden in your.
In your in your and your unit.
The economics to think about the business across the cycle.
Yeah that makes sense.
And then my follow up would be you know.
You gave some good color on the market.
A couple of questions on just what you guys are seeing in the market you mentioned.
This quarter about most of your of your originations, where we're focused in on like mission critical software business day is obviously, that's a very.
The states I mean, most most direct lenders one of them whether it be in that space. So how are you guys still finding good opportunities in that space and I think you mentioned, maybe 50 per cent of your originations were non sponsored so maybe you guys are now well see more of the non sponsored round and then at the at the.
Kind of a side question to that can you talk about obviously competition has returned to the sponsored back area as you know.
Kind of basically the pre COVID-19 level can you talk about what competition looks like and deal terms of instructions are looking like in some of the niche businesses of the niche strategies you guys focus on like E Mail.
Pharma health care of those sort of businesses, yeah. So look I think.
This quarter was most definitely it was a anomaly on the non sponsored side.
Between you know.
J C penney's, which were involved in it for all of which is of great family owned business, which is a half software business in the half a retail business are effectively operating book stores on college campuses.
The.
A decent amount of our activity levels, but will continue to be active in the in the.
And the and the business sort of the software and look we have a great I think of great reputation of providing.
Given that we're deep in those sectors, providing a certainty and.
The reliable counterparty and being a good counterparty of that space, but do you have anything to add on that front.
Look I think.
We have of 20 plus year history in the technology and software of space and allows us to be very thematic in our approach to the market.
That thematic approach.
You know, we're able to find deals both within and outside of the sponsor of network.
You know where were of specialized and we can differentiate our capital will continue to do that as Josh mentioned.
Look the.
Vernon historically tight spread environment and you know, we continue to point to overcapacity and the direct lending market.
And to us that means you focus on your lanes.
And continue to focus on your thematic approach and I think the ability to originate both in and out of the sponsor network is a competitive advantage.
Okay.
Uh huh.
Thanks for thanks for the times of day.
Really really nice of you guys.
Thanks Ryan.
Okay.
And ladies and gentlemen, as a reminder, if you would like to ask the question. Please press. The Star then the one thing.
Our next question will come from the lesser Madelle from J P. Morgan. Please go ahead.
Good morning, guys. Thanks for taking my question.
I'm wondering if you know the.
The rich Donna.
Pretty elevated competition in the market has impacted either of the level of or structure.
The fees and prepayment penalties.
The later.
But you didn't.
Yeah, I would say look again, I think been thematic and and being able the do small deals and large deals.
I don't think as you know.
Math changed no.
Or the.
The economics of our business that'd be the saddle.
We're not immune to we're not immune to competition.
And so, but I think just being having the relatively small capital base.
And for for for six years of specialty lending have been able to do small deals and big deals.
That provides us a lot of degrees of freedom.
And the thematic provides them for a lot of degrees of freedom the can.
To find good value for our shareholders and while delivering.
Excellent value, including the certainty to our Counterparties Bo or fish fishy anything that we're trying to get fishy involved here.
Yeah.
No.
Reiterate I would reiterate what Josh said as far as.
The size of our capital base allows us to not have to necessarily be a market flow oriented player. So we see a lot of opportunities and can find the most interesting risk return opportunities.
To do.
Okay got it.
Then on the repayment side.
What's your outlook for repayment activity going forward I mean do you think.
That is right I guess generally the general market commentary the specific.
Take care of portfolio do you feel like you've seen the repayment activity that you'll likely see or.
As long as this environment per se.
The rest of it.
I mean, it feels it feels you should come on the sort of less in Q1.
Uh huh.
But you should comment you you should comment on that.
Yeah, I mean, I think just as a byproduct of having a lot more origination activity in the second half of the year of portfolio is a little bit younger as we stopped the tedious. So you're anticipating a slight drop off in repayments is probably in a natural consequence of that cycle.
That's ignoring of course and the individual company specific needs.
The the economic hedge in the model, which is like given that we don't give it given that.
The you know on the there's not we take we defer our origination fees. So when there's high prepayments, we lose the benefit of financial leverage vis vis our economics, but we do have the the.
Accretion of OID.
Uh huh.
Of unamortized OID that runs of the model and then and in low prepayment.
Garments.
You get some benefit for vantage of leverage so there's this natural kind of hedge.
For the economics.
Yeah got it thank you guys.
Yeah.
Thank you and I'm showing no further questions in the queue at this time I'll turn the call back over the management for any further runway great. So I have two general comments.
General things that maybe touch on real quick.
Look people have probably seen the the people know sixth Street is the parent company of our adviser.
And so you've probably seen the litigation and giving us the pending litigation.
The limit of what we can say, but I wanted to be transparent about it. So fix we accepted a strategic investment from dialed back in 2017 and in December of Dow announced the merger with Owl rock. The go public with that threw US back. We recently filed litigation, Delaware enjoined dial from transferring their interests of the fifth street to the emerge.
Entity without our consent, which is a breach of for 2017 agreement.
The public version of this complaint is going to become available sometime today, if it isn't already.
Few things to be clear on first and foremost when the partnership business and we take a partnership of obligation seriously, we honor our deals and expect our partners will too.
And in this case styled in it in 20 years of business at Goldman Sachs in its history.
We know we know what it is we know what it means to be a business partner and it means sticking to your agreements.
If we didn't do that within it and it didn't have a reputation for doing so we wouldn't have been able to do this for so long we wouldn't have been able to build of 50 billion dollar investment for them number two when we entered into a partnership with Apple and they told us verbally and in writing and said so publicly that we're partners and not <unk>.
And we believe them.
That's the center agreement.
And now the breaching it.
The negotiated very limited exceptions.
The the which are complaint outlines of where intended only to provide liquidity to the underneath the underlying fundamental piece, which isn't happening here.
We really don't want of half to where we're going to have to file a lawsuit.
But no matter, how often people my how often no matter how others might choose act for a core principle is that we're always going to act in the best interest of our investors that the.
Deserted our partnership and their lack of engagement with us before or after announcing the proposed merger put us in a position where you had no choice.
We had no choice and finally, our dispute is directly with al and not with Owl rock, we have known the principles of owl rock for many years and we.
Have a great deal of respect for their firm as the appear in a competitor other.
Other than the fact that there are parties of the transaction with all six of it has no issues with owl rock hardness.
That that's it again on the complaint.
I think public today.
And given the litigation process, we of alumina sales.
The thing to say the the second thing of you know.
Like to say is that the this obviously this is black history month of next month as women's history month, and I know us as a firm that's been a lot of time thinking and talking to our people about our history.
And the good and the bad of our history.
And the the hopefully as we will on our firm people will take some time and think about not only of the our history, but actually the the collective.
Contributions of of both of these groups to two.
Of our society.
Because there's been a ton and so hopefully people use of time for that.
And then of the last thing I'll say, because we've always been this way.
Which is I hope people.
Enjoy the spring hopefully, it's an easier of spring than last spring.
Sort of coming up.
The Passover coming up and we'll talk to you soon thanks so much.
Thanks, everyone.
Thank you Ladies Inc.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation you may now disconnect.
Okay.
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