Q2 2022 Main Street Capital Corp Earnings Call
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Greetings and welcome to the Main Street Capital Corporation's second quarter earnings conference call. At this time, we'll participate in the listening mode. A brief question to the answer session will follow the formal presentation.
If anyone should require operator assistance to the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Zach Vaude with the Nord Laskars Investor Relations. Please go ahead.
Thank you, over here, and good morning, everyone. Thank you for joining us for Main Street Capital Corporation's second quarter, 2022, earnings conference call. Joining me today with prepared comments for Duane Hijak, Chief Executive Officer, David Magdall, President and Chief Investment Officer, and Jesse Morris, Chief Financial Officer, and Chief Operating Officer.
Also participating for the Q&A portion of the call is Nick Muzer, Managing Director and Head of the Private Credit Investment Group.
Main Street issue, press release. Yes, stay afternoon. The details of the company's second quarter financial and operating results.
This document is available on the Investor Relations section on the company's website at mainstcapital.com
A replay of today's call will be available beginning an hour after the completion of the call and will remain available until August 12. The call will remain available until August 12.
Information on how to access the replay was included in yesterday's release. We also advise you that this conference call is being broadcast live to the internet and give you access to the complete on page.
Please note that information report on this call speaks only as of today, August 5, 2022, and therefore you will advise the time sensitive information may no longer be accurate at the time of any replay listening or transcript reading.
Today's call will contain four looking statements. Many of these four looking statements can be identified by the use of words such as anticipates, believes, expects, intends, will, should, may, or similar expressions. These statements are based on management estimates, assumptions, and projections as of the day to do this call, and there are no guarantees of future performance.
Actual results may differ materially from the results expressed or implied in these statements as a result of risks, uncertainties, and other factors, including but not limited to the factors set forth in the company's filings with the Securities and Exchange Commission, which can be found on the company's website or at sec.gov.
Main Street assumes no obligation to update any of these statements unless required by law.
During today's call, management will discuss non-GAB financial measures, including distributable net investment income.
Please refer to yesterday's press release for a reconciliation of these measures to the most directly comparable GAAP financial measures. Certain information discussed on this call, including information related to portfolio companies, was derived from third-party sources and has not been independently verified.
And now I'll turn the call over to Main Street CEO , um...
Thanks, Zach. Good morning, everyone, and thank you for joining us today. We appreciate everyone's participation on this morning's call. We hope that everyone's doing well.
On today's call, I will provide my usual updates regarding our performance in the quarter. We'll also providing updates on our asset management activities, our recent declarations of our supplemental dividend in September , and the increase which our monthly dividends for the fourth quarter. We'll provide our monthly dividends for the fourth quarter.
Our expectations for dividends going forward, our recent investment activities, and current investment pipeline, and several other no-worldly updates.
Following my comments, David and Jesse will provide additional comments regarding our investment strategy, investment portfolio, financial results, capital structure and leverage, the impact of rising interest rates on our future net investment income, and our expectations for the third quarter, after which we'll be happy to take your questions.
Before we begin with our normal quarterly commentary, I want to highlight a change we're making this quarter to our definition of Distributable Net Investment Income, our DNII, which Jesse will cover in more detail on his comments.
Our goal in using DNII as a key operating metric has always been to increase the quality of our reporting by providing this metric of the amount of cash flow from our investment activities that is available to fund our recurring monthly dividends paid to shareholders. And thereby, increase the visibility our shareholders have regarding the quality and recurring nature of our monthly dividends.
Given both the growth and increased variability of our deferred compensation expense for benefit on on cash item of the last few quarters, we've concluded that it is appropriate to modify our definition of the NII to adjust for this item.
All of our comments this morning are provided using this new definition of DNI-I.
We're pleased with Main Street's strong second quarter results, which included a new quarterly record for net investment income per share and matched our product quarterly record for D&II per share.
These positive results included contributions from each of our primary investment strategies, as a result of our strong performance, DNI I-PERSHARE exceeded our regular monthly dividends by 21%.
This strong performance resulted in our recommendations to our Board of Directors for our most recent Dividend Announcements, which I'll detail later.
While our NSA value per share declined in the quarter, the decline was primarily the result of the impact of market spread increases as opposed to company specific performance on our private loan and middle market debt investments.
We are very pleased with the continued strong performance of our lower middle market portfolio companies, which resulted in another quarter of significant fair value appreciation in this portfolio and partially offset the overall decline in the valuations of our debt investments.
We are also very pleased with our recent investment grade rating assigned to us by Fitch in July , and the support of our existing lender group that allowed us to complete the expansion and extension of our credit facility that we announced yesterday.
We view these developments as significant enhancements to our current and future capital structure.
We remain very confident that our highly unique low-emotional market strategy, combined with the strength of our product loan platform and our asset management business, will allow us to deliver superior results for our shareholders.
The increased market volatility and uncertainty over the last few months, we are very pleased that our low-emitter market and private loan strategies have continued to deliver attractive investment to our original nations.
Well our low-roman market investments are $32 million in the quarter. We're all set by several repayments resulting in a net decrease in our low-roman market investments on a cost basis of $5 million for the quarter. We are very pleased that since quarter end we've already executed over $85 million of the following investments in existing low-roman market portfolio companies.
We are also very pleased that we have maintained our significant momentum in our private loan strategy, resulting in a net increase in our private loan investments of $72 million for the quarter. The
We believe that our second quarter results illustrate the benefits of the significant growth of our investment portfolio over the last year and we expect these benefits to continue in the second half of the year. In the second half of the year.
Despite the negative impact of the increase in market spreads to the fair values of our debt investments at quarter end, the underlying operating performance across most of our portfolio companies has continued to be strong.
This strong performance provides optimism about the overall value creation we expect in these companies in the third quarter. And these companies in the third quarter. And these companies in the third quarter.
We continue to believe that the strength of our differentiated investment strategies, including our highly unique lower-middle market strategy, combined with our diversified group of portfolio companies and our asset management business, will allow us to consistently deliver superior results for our shareholders. We are very excited about our outlook for the remainder of the year.
We've also continued to make progress in our asset management business.
To miss the income fund, the non-traded BDC we advised through our external investment manager, continue to maintain a fully invested portfolio at the end of the second quarter.
We remain excited about our plans for the fund as we execute our investment strategies and other strategic initiatives. And we are optimistic about the future performance of the fund.
We continue to grow the investment portfolio at MS Private Loan Fund 1 through its co-investment activities with Main Street and MSC Income Fund and our private loan investment strategy. We are excited about the growing benefits we expect to receive from this relationship in the future.
We're very excited about our strategy for growing our asset management business within our internally managed structure and increasing the contributions from this unique benefit to our mainstream stakeholders.
Based upon our results for the second quarter and the positive performance of our existing portfolio companies, combined with our favorable outlook in each of our primary investment strategies and for our asset management business.
and the benefits of our efficient operating structure.
Earlier this week, our board declared a supplemental dividend of 10 cents per share, payable in September , and an increase in monthly dividends for the fourth of 2022 to 22 cents per share, payable in each of October , November , and December .
These monthly dividend representatives 4.8% increase from the fourth quarter of 2021, a 2.3% increase from the third quarter of 2022. A 2.3% increase from the third quarter of 2022.
The supplemental dividend per September is due to our strong performance in the second quarter, which resulted in DNI eye-per-share, it was over 13 cents, or 21% greater, than the monthly dividends paid during the quarter.
This represents our fourth consecutive quarter of paying a supplemental dividend and results in total supplemental dividends paid over the last year at $0.35 per share.
Representing an additional 13% paid above our monthly dividends in an increase in total dividends paid for the 12 month period of 18.5% over the prior year.
We're pleased to have been able to deliver the significant additional value to our shareholders.
As a reminder, we currently expect to recommend that our board declare future supplemental dividends to the extent DNII significantly exceeds monthly dividends in future quarters.
which is consistent with our practice for the last four quarters.
Based upon our expectations for continued favorable performance in the third quarter, we currently anticipate proposing an additional supplemental dividend for the fourth quarter.
Now, turning to our current investment pipeline, we're pleased to maintain a number of attractive opportunities in our rural market and private loan strategies. In our rural market and private loan strategies,
As of today, and after closing over $85 million in investments to date in the third quarter, I would characterize our low-liminal market investment pipeline as average.
We remain excited about the quality of the investment opportunities in our current pipeline and about the prospects for follow-on investments in existing portfolio companies as we and our companies actively look to execute on various growth opportunities.
We also continue to be very pleased with the performance of our private credit team and the significant growth they have provided for our private loan portfolio and our asset management business.
And as of today, I'll characterize our private loan investment pipeline as average.
With that, I will turn the call over to David.
Thanks, Duane, and good morning, everyone. As Duane highlighted in his remarks, we believe our strong second quarter financial results demonstrate the strength of main streets platform are differentiated investment approach and our unique operating model.
We're pleased to report that the overall operating performance for most score portfolio companies were strong during the quarter and contributed to our strong financial results at Main Street.
Another major contributor to our results was our robust lower middle market and private loan originations in the second half of 2021 and our private loan origination activities in the first half of 2022.
As we've discussed in the past, the primary driver of our long-term success has been and continues to be our focus on the underserved lower middle market and specifically our strategy of investing in both the debt and the equity of our lower middle market companies.
When we evaluate new lower-middle market investments, we target our combined first-learn debt and equity investments to achieve a blended internal rate of return in the mid to high-teens range. I'm our pleased that our total asset level returns in the second quarter were at the high end of this expected range. In the mid to high-teens range, we target our first-learn debt in the mid to high-teens range.
From an under-life writing standpoint, we achieved these targets by maintaining a disciplined mix of debt and equity investments with a typical investment comprised of approximately 75 to 80% debt and 20 to 25% equity. Pl?
We are confident that our long-term proven success of investing in the lower middle market combined with our prudent use of low-to-monest leverage at Main Street will continue to allow us to deliver very attractive financial results for our investors in the future.
It is also important to note that as our lower middle market investments mature in our portfolio, they generally deleverage, which increases their ability to pay dividends and results in unrealized appreciation and the opportunity for realized gains.
This quarter, due to the strong continued operating performance of our lower middle market portfolio companies, our lower middle market equity investments experienced significant pre-tax net unrealized appreciation of over $25 million to partially offset an overall net decline in our debt investment valuations primarily in our private loan and middle market portfolios, which were predominantly driven by increases in market spreads.
Additionally, in the quarter, certain of our lower middle market portfolio companies have received interest from third parties, which we believe could result in those companies achieving attractive realized gains prior to your end.
Despite the periodic and current market conditions that can negatively impact our overall debt investment valuations, the positive long-term impact of our lower-middle market equity investment has been a primary driver in the growth of our NAV per share from approximately $13 per share at our IPO date in October of 2007 to over $25 per share today. And we believe our lower-middle market equity investments will continue to be the primary driver of our NAV per share growth in the future.
Now turning to the overall composition of our investment portfolio as of June 30th, we continue to maintain a highly diversified portfolio with investments in 191 portfolio companies spanning across more than 50 different industries.
The largest portfolio company represented 2.8% of our total investment income for the quarter and 2.5% of our total investment portfolio fair value a quarter end.
The majority of our portfolio investments represent less than 1% of our income and our assets.
Our investment activity in the second quarter included total investments in our lower middle market portfolio of $32 million, which after aggregate repayments on debt investments and return of invested equity capital, resulted in a net decrease in our lower middle market portfolio of approximately $5 million on a cost basis.
During the quarter, we also continue to execute on our strategy to dedicate significant resources towards growing the private loan segment of our business while de-emphasizing our middle-market portfolio, which the reminder are typically investments in larger syndicated loans.
Our purposeful and intentional strategic shift to grow our private loan portfolio is primarily driven by our belief that an attractive and growing direct lending environment exists and that private loan investments provide an attractive risk-adjusted return profile.
Driven by the capabilities and relationships of our private credit team, we made approximately $182 million in total private loan portfolio investments during the quarter, which after aggregate repayments of debt resulted in that increase in our private loan portfolio of approximately $72 million. We have approximately $72 million.
Finally, during the quarter we had a net decrease in our middle market portfolio of approximately $26 million as we continue to strategically deemphasize this portfolio.
To put this into perspective, as of quarter end, our middle market portfolio represented approximately $363 million of fair value, where 10% of our total investment portfolio at fair value has compared to $624 million, or 30% of our investment portfolio for the corresponding period five years ago.
Our total investment portfolio grew 1% to $3.7 billion of the year. The total investment portfolio grew 1% to $3.7 billion of the year. The total investment portfolio grew 1% to $3.7 billion of the year. In this report, you can see that the total investment portfolio grew 1% to $3.7 billion of the year. 30th.
At quarter end, our lower middle market portfolio include investments in 75 companies representing $1.8 billion per year value, which is over 20% above our cost basis.
We had investments in 82 companies in our private loan portfolio representing $1.3 billion of fair value. And in our middle market portfolio we had investments in 34 companies representing $363 million of fair value.
The total investment portfolio of fair value of quarter end was approximately 109% of the related cost basis.
In summary, Manchutes Investment Portfolio continues to perform at a high level and deliver on our long-term goals. Additional details on our investment portfolio corridor and are included in the press release that we issued yesterday. With that, I will turn the call over to Jesse to cover our financial results, capital structure and liquidity positions.
Thank you, David. As Dwayne and David mentioned, we are very pleased with our operas results of the second quarter. Thank you. Thank you. Thank you. Thank you. Thank you.
Our total investment income in the second quarter increased by 17.9 million or 27% of the same pair in 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021. The second quarter of 2021.
to a total of $85.2 million.
The strong top line growth was largely to provide an increase in interest income of 18 million. The strong top line growth was largely to provide an increase in interest income of 18 million.
as a direct result of the continued growth in our portfolio debt investments, which David spoke to earlier.
Fe income also increased by 0.6 million.
These increases were partially offset by a 0.7 million decrease in dividend income from our portfolio equity investments.
of note and further supporting the overall strength of our results.
the combined impact of certain income items including dividends
accelerated OID, prepayment fees, or other activity that are considered less consistent or non-recurring in the quarter.
decreased by 1.5 million or about two and a half cents per share compared to the second quarter of 2021.
and was 1.4 million or two cents per share and low the average of the prior four quarters. and low the average of the prior four quarters.
Total expenses for the quarter increased by 5.6 million or 22% over the same period of the prior year largely driven by increases of 3.6 million in cash compensation expense.
2.9 million in interest expense.
0.8 million in G and X-pense.
with these increases partially offset by an increase of 0.9 million in expenses allocated to the external investment manager in a reduction of 0.9 million in non-cash compensation expenses. In a reduction of 0.9 million in non-cash compensation expenses.
The increase in interest expense was driven by higher bar levels to support our investment activity.
The increase in compensation expense was also driven by our increased investment activity in favorable operating results, which have resulted in increased headcount.
higher base compensation and increase in cent of accruals.
Our operating expenses to assets ratio was 1.4% for the quarter on an annualized basis, which continues to be among the lowest in our industry.
Our external investment manager contributed 5.2 million to our net investment income to earn the quarter of 1.3 million.
through the allocation of 3.5 million of operating expenses and 1.7 million dividend income. bre?ute
and ended the quarter with total assets under management of $1.4 billion.
As Dwayne noted in his comments, we wanted to highlight a change we were making to our definition of distributed net investment income, or DNII. Our definition of DNII has historically only included one adjustment to net investment income, which was to exclude our non-cash, share-based compensation expense.
Our goal in using DNII as a key operating income metric has been to provide the amount of cash flow from our investment activities that is available to fund our recurring monthly dividends paid to shareholders.
For a time, the amount and variability of another not-cash expense item expense for benefit, which is the result and changes in the fair value and the fair compensation plan assets.
has increased significantly and represented two cents per share of non-cash benefit or additional NII in the second quarter.
Given the increased size of this amount to a given core's results, in our desire to provide the best visibility possible to this key operator in the metric. Given the increased size of this amount to a given core's results, in our desire to provide the best visibility possible
We have modified our definition of DNII to also exclude the impact of this non-cash expense item.
Additional details describing this change and the related reconciliation is between our historical and new DNI I metrics and net investment income determined in accordance with US gap or including our earnings release.
As a result of the strong growth in investment income, NII increased by 12.3 million or 29% in the second quarter of 2022, over the same period last year. Over the same period last year. Over the same period last year.
DNI grew to 57.1 million, an increase of 11.5 million, or 25 percent.
During the quarter, we reported net unrealized depreciation on the investment portfolio of John Miller.
The depreciation of $23.4 million in our private loan portfolio and $15.1 million in our middle market portfolio were primarily the result of increases to market spreads.
The decrease in the valuation of our external investment manager of $14.6 million was due to a reduction in market multiples for our publicly traded peer site.
partially offset by the growth in the external investment manager's revenues.
As Dwayne and David both mentioned, our lower middle market equity portfolio offset a large part of the depreciation recorded in the quarter, recognizing unrealized appreciation of 25.2 million as a result of the continued strong performance of these portfolio companies.
We also recorded a net realized loss of 5.1 million, which was largely driven by the exit of a long-term, underperforming middle market investment that was previously on non-accrual.
As a result of the net unrealized depreciation and net unrealized loss recorded in the quarter
partially offset by the increased net investment income.
Net asset value or NAV decreased by 8.5 million or 52 cents per share during the quarter to end the second quarter with NAV, and $25.37 per share.
As I mentioned, we exited an investment which was on non-accurals.
and added a lower-middle market investment to non-accurral status, resulting in a total non-investment on non-accurral status in quarter-end.
representing 0.7% of the total investment portfolio fair value and 3.2% on a cost basis.
We continue to believe that our conservative leverage, strong liquidity, and continued access to capital are important components of our capital allocation strategy.
Our regulatory debt to equity leverage calculated total debt excluding our SPSC debentures divided by net asset value was 0.81 within our target range of 0.7 to 0.9 and our regulatory asset coverage ratio was 2.23 times also well within our target range of 2.4 to 2.1.
And so I mentioned...
We recently received an investment grade in corporate rating of triple B minus.
with a stable outlook from Fitch Ratings.
which is in addition to the rating of BBB- with a stable outlook that we maintain from S&P global ratings.
We are very pleased with the confidence that Fitch has expressed in our investment strategies.
management team, and long-term performance, and are confident that the second investment grade rating will be a significant positive for us in the future.
We continue to be active in raising capital through our At the Market, or ATAM, program, with second quarter equity issuances of $26 million, bringing the total for the first half of the year to over $89 million.
As Dwayne also mentioned, in order to enhance our liquidity this week, we amended our credit facility to expand the total commitments to $920 million.
expand the accordion feature to 1.4 billion and extend the maturity date to August 20, 2027.
And we are very much appreciative of the support and confidence from our lender group that this amendment represents. Thank you.
Given effect to the expanded commitments as of August 4, 2022, or cash-hand, on-hand and available borrowings under her credit facility was approximately 389 million. Introduction of the set of $4 million me mothers in manufacturing in Binganna Seattle to supply free, and raise investment funding at Kiv Denver University in installed in the Space Network in Congress. Onegie then first viassurated hus Stat? and spent almost $79 million as a street actor and pronounced as Llune last year. you
Coming back to our offering results, DNII per share increased to 78 cents per share, an increase of 11 cents per 16% from the same period last year, and exceeded the regular monthly dividends per share paid to our shareholders by 21%.
including the June supplemental dividend of seven and a half cents.
Dividends paid during the quarter were 72 cents per share, an increase of 17 percent.
or for dividends paid during the second quarter of 2021.
As Dwayne mentioned, these strong results and our positive outlook gave us the conviction to recommend to our board that it approve the supplemental dividend.
for the fourth consecutive quarter.
with this supplemental dividend at 10 cents per share, Payment September of 2022, and an increase to our regular monthly dividends to 22 cents per share.
or 66 cents per share in the fourth quarter of 2022.
One additional item that I wanted to touch on is the impact of rising interest rates.
During the quarter, libra rates increased by approximately 130 basis points, from those in effect as a March 31 to June 30.
At the end of the second quarter, 80% of our outstanding dead obligations maintain fixed interest rates.
On the other hand, approximately 75% of Maine's debt investments for interest rates at floating rates with weighted average contractual interest rate floor.
below current market interest index rates.
As a result, in a rising interest rate environment, our exposure to higher interest expenses largely mitigated, and over time, increases to our interest income will exceed the increases to our interest expense.
It is important to note that the majority of our variable interest rate investments are based on contracts which reset quarterly, whereas our credit is still in your resets monthly.
As a result, we generally will have a quarterly ag and the realization of benefits when rate increases in our interest income and net investment income.
During the second quarter, increased market index rates resulted in increases in interest income which offset the impact to increase interest expenses with limited impact to our net investment income. For more information, visit www.fema.gov
In the third quarter, we expect to have a positive impact to our results.
depending on the extent and timing of additional changes to market index rate changes.
and the timing contractual rate resets on our dead investments.
Finally, as we look forward.
Given the strength of our underlying portfolio and the investment environment thus far, in the first half of 2022, that Duane and David mentioned in their remarks, we expect another strong top line in Hernings quarter and the third quarter 2022. In Hernings quarter and the third quarter 2022.
with expected DNI eye-presarer of at least 78 cents per share.
With that, I will now turn the call back over to the operator so we can take any questions.
Thank you. We will now be conducting a question and answer session.
If you would like to ask a question, please press Star 1 on your telephone keypad. A confirmation total indicate your line is in the question queue.
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First question, coast from Kenisley with RBC Capital Markets.
Hi, good morning. Thanks for taking my question. Just one on the LMM portfolio.
in terms of the equity gains that you mentioned in the prepared remarks.
Wondering if you could just further flash out what's driving that strong performance? Are you seeing any kind of trends? Just want a little bit more details around that. Thanks.
Sure, good morning, and thanks for the question. When you look at the low and middle market, appreciation we had in the quarter, I'd say the things that were pleased with is that it wasn't you concentrated only one company. There was fairly broad-based contributions to that appreciation across a number of companies. And when you look at the drivers, I would say it's just the fundamental performance of those companies. It's increased trailing or historical, you'll ebid on cash flows. And then it's just a positive outlook they have.
for the at least a near term future that drove the vast majority of the change quarter over quarter. So outside of that, I wouldn't say there was anything that was really a big, big driver, a big part of that increase.
Got you, very helpful. And just one follow up if I may, you also mentioned the same potentially some increased third party interest within the LMM portfolio. I'm wondering if you could just talk a little bit more about what's any commonalities in terms of what's driving interest, whether it's just ongoing industry consolidation or anything else. Next.
Yeah, Ken, we're limited on what we can say, obviously, because the portfolio companies wouldn't want us to disclose too much. But with a large portfolio of lower middle market companies and with those companies you're performing at a high level and growing, it's not unusual for us to have inbound interest either from third parties or from management teams and other equity owners of those businesses that decided it makes sense to take a look at the marketplace and see what could be available to them if they were to look to sell the business. So we've had a couple of those.
companies that are involved in situations that fit that profile. And at least one of those I'd say is further down the process there. Would not be something that happens in the next month, but if it was to happen, we would expect it to happen between now and year end, and we think that would be a transaction that would be a really positive outcome for us. But I wouldn't say there's anything unusual there. It's just with a large portfolio of high performing companies, we do get that type of activity from time to time.
Great, very helpful. Thanks again. Thank you again.
Thank you. I would like to turn the floor over to management for closing comments.
Okay, thank you operator and thank you again to everyone for joining us this morning. We'll look forward to talking to you again early November with our third quarter results.
This concludes today's teleconference. You may disconnect your lines at this time and thank you for your participation.
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