Q2 2023 Capital Southwest Corp Earnings Call
The conference will begin shortly to raise your hand during Q&A you can dial star one one.
[music].
Thank you for joining today's capital southwest second quarter fiscal year 2023 earnings call participating on the call today are Bowen Diehl, CEO , Michael <unk>, CFO , and Chris Rehberger, VP Finance I will now turn.
The call over to Chris viewer re Burger.
Thank you I'd like to remind everyone that in the course of this call we will be making certain forward looking statements.
Statements are based on current conditions currently available information and management's expectations assumptions and beliefs they are not.
Guarantees of future results and are subject to numerous risks uncertainties and assumptions that could cause actual results to differ materially from such statements for.
For information concerning these risks and uncertainties see capital Southwest's publicly available filings with the SEC.
The company does not undertake any obligation to update or revise any forward looking statements whether as a result of new information future events changing circumstances or any other reason after the date of this press release, except as required by law I will now hand, the call off to our President and Chief Executive Officer Bowen Diehl.
Correct and thank you everyone for joining us for our second quarter fiscal year 2023 earnings call.
Leaves me with you this morning, and look forward to giving you an update on the performance of our company and our portfolio as we continue to diligently execute our investment strategy.
George in your capital.
Throughout our prepared remarks, we will refer to various slides in our earnings presentation, which can be found on our website at www Dot capital southwest Dot com.
You will also find our quarterly earnings press release issued last evening on our website.
Well begin on slide six of the earnings presentation, where we have summarized some of the key performance highlights for the quarter.
During the quarter, we generated pre tax net investment income of 54 per share, which represented 20% growth over the 45 cents per share generated a year ago in the September quarter.
With 54 cents per share more than our regular dividend paid during the quarter of 50 cents per share.
As previously announced our board has declared a two step per share increase in our regular dividend 52 cents per share for the quarter ending December 31 2022.
This increase represents 4% growth over the 50 cents per share paid in the September quarter, and 11% growth over the 47 cents per share paid a year ago in the December quarter.
These increases on a regular dividend a result of the increased fundamental earnings power of our portfolio given its growth and performance as well as improvements in our operating leverage.
In addition, given the February reserves aggressive interest rate increases and the resulting excess earnings being generated by our floating debt portfolio. Our board of directors has also declared a supplemental dividend of <unk> <unk> per share for the December quarter right.
Bringing total dividends declared for the December quarter to 57 per share.
While future dividend declarations are at the discretion of our board of directors. It is our expectation that capital southwest will distribute supplemental dividends for the foreseeable future while base rates remain materially above long term historical averages.
Finally, I should note that as we have done in the past we intend to also distribute supplemental dividends.
We harvest realized gains from our equity co investment portfolio.
During the quarter acquisition and financing activity in the lower middle market continues to be strong portfolio growth. During the quarter was driven by $86 million of new commitments consisting of commitments to five new portfolio companies totaling $67 million in add on commitments to five existing portfolio companies totaling $19 million.
This was offset by $14 million in proceeds from two debt prepayments and more that failed during the quarter.
On the capitalization front, we raised $26 9 million of equity or ATM program at an average price of $19 48 per share representing an average of 118% of the prevailing net asset value per share.
Our liquidity remains robust with approximately $170 million in cash and Undrawn capital commitments as of the end of the quarter.
We have remained diligent in funding in April portion of our investment asset growth with accretive equity issuances on our ATM equity ATM program.
As we think it is critical that we maintain a conservative mindset to BDC leverage given the uncertainty in the economy.
Overall, we are pleased with the strength of our balance sheet with regulatory leverage of one one to one a significant liquidity position as well as the fact that almost half of our balance sheet liabilities are in fixed rate unsecured bonds and our earliest debt maturity isn't until 2026.
On slide seven and eight we illustrate our continued track record of producing strong dividend growth.
<unk> dividend coverage and solid value creation since the launch of our credit strategy back in January of 2015.
Since that time, we have increased our regular dividend paid to shareholders 24 times and have never cut the regular dividend, including during a tumultuous environment. We all experience during the Covid pandemic.
Additionally over the same time period, we have paid or declared 18 special or supplemental dividends totaling $3 61 per share.
Generated from excess earnings and realized gains from our investment portfolio.
We believe our track record of consistently growing our dividend the solid performance of our portfolio as well as our company's sustained access to capital markets.
Demonstrating the strength of our investment and capitalization management strategies as well as the absolute alignment of our all our decisions with the interest of our shareholders.
Continuing to generate the strong track record is critically important to us as long term shareholder value creation through the maintenance and growth of both dividends per share our top priority for our company.
Turning to slide nine our investment strategy is laid out for our shareholders at its launch back in January of 2015 has changed.
The vast majority of our activity has been in our core lower middle market, where we are first lien senior secured lender.
Most after backing a private equity firms acquisition of a growing lower middle market company.
We also often participate on a minority basis and the equity of the company through an equity co investment made alongside a private equity firm.
In fact, 90% of our credit portfolio is backed by private equity firms, which provide important guidance and leadership of our portfolio companies as well as the potential new capital support if needed.
Our lower middle market strategy is complemented by club participation and slightly larger companies led by Likeminded lenders with which we have worked well across multiple deals.
Virtually all of these club deals are also backed by private equity firms.
As of the end of the quarter, our equity co invest portfolio consisted of 46 investments with a total fair value of $102 6 million, which included $38 6 million in embedded unrealized depreciation for approximately $1 34 per share.
Our equity portfolio, which represented approximately 10% of our total portfolio at fair value as of the end of the quarter continues to provide our shareholders participation in the attractive upside potential of this growing lower middle market businesses.
It will come in the form of <unk> 80 per share growth in supplemental dividends paid over time.
As illustrated on slide 10, our on balance sheet credit portfolios at the end of the quarter, excluding our I 45, senior loan fund grew 4% to $903 million as compared to $865 million as of the end of the prior quarter.
Over the past year, our credit portfolio has grown by $214 million or 31% from $689 million as of the end of the September 2021 quarter.
For the current quarter, 95% of new portfolio company that originations were first lien senior secured debt and as of the end of the quarter at 94% of our total credit portfolio is first lien senior secured.
On slide 11, we detail the $86 million of capital invested and committed to portfolio of companies during the quarter.
Capital committed this quarter includes $64 million in first lien senior secured debt and $3 million in second lien senior secured debt to five new portfolio companies.
Additionally, we committed $18 billion in first lien senior secured debt to five existing portfolio companies and 816000 equity co investments to two existing portfolio companies.
Turning to slide 12, we continued our track record of successful exits.
With two debt prepayments and one that failed during the quarter.
In total these exits generated approximately $14 million in total proceeds.
Generation, a weighted average IRR of 10, 1%.
Since the launch of our credit strategy, we have realized 16 portfolio 66, 66 portfolio exits representing $716 million in proceeds.
$763 million of proceeds generated a cumulative weighted average IRR of 14, 7%.
The market for acquisition capital continues to be active.
Not surprisingly we are also seeing a slowdown in refinancing activity.
As a result, we would expect continued solid net portfolio growth in the near term.
The activity in our investment pipeline is strong in terms of both volume and breadth of deal sources.
We are pleased with our strong market position. Our team has established in the lower middle market is a premier debt and equity capital partner.
Evidenced by the broad array of relationships across the country from which our team of sourcing quality opportunities.
In terms of deal origination, we find that underwriting certain industries more challenging given today's economic uncertainty.
However for eight years now an important component of our underwriting has always been to run a stress case downside model for every new deal.
Stimulating an extreme recession occurring soon after closing.
Many respects our underwriting in the current environment has changed.
Although our model today include much higher base rates than we have experienced historically extort.
Shortly.
We continue to target leverage level, we are willing to put on our company to the perpetual performance volatility of that particular business and industry throughout the economic cycle.
Performance across different industries can be very different through the economic cycles. So getting this right is an important component of the underwriting process.
Specifically, we require a fundamental underwriting standards that we see our loan remained well within the portfolio company's enterprise value and our interest being paid through the cycle in a stress case financial model.
On slide 13, we detail some key steps for our on balance sheet portfolio.
As of the end of the quarter again, excluding our I 45 senior loan fund.
As of end of the quarter. The total portfolio at fair value was weighted approximately 85% first lien senior secured debt.
5% of second lien senior secured debt and 10% to equity co investments.
The credit portfolio had a weighted average yield of 10, 6% and weighted average leverage through our security of four one times.
Turning to slide 14, we have laid out the rating migration within our portfolio for the quarter.
During the quarter, we upgraded six loans with a total fair value of $37 9 billion.
And downgraded three loans with a total fair value of $18 3 million.
As a reminder, all around the prior origination are initially assigned an investment rating of two on a four point scale with one being the highest rating and four being a lower trading.
We feel very good about performance of our portfolio with 97% of the portfolio at fair value weighted in one of the top two categories of one or two.
As illustrated on Slide 15, our total investment portfolio, including our I 45, senior loan fund continues to be well diversified across industries with an asset mix, which provide strong security for our shareholders' capital.
The portfolio remains heavily weighted towards first lien senior secured debt with only 5% of the portfolio in second lien senior secured debt.
I will now hand, the call over to Michael to review more specifics of our financial performance for the quarter.
Thanks, Paul and specific to our performance for the September quarter as summarized on Slide 17, we earned pretax net investment income was $15 million were <unk> 54 per share we.
We paid out <unk> 50 per share in regular dividends.
As mentioned earlier, our board has approved an increase to the regular dividend for the December quarter to <unk> 52 per share and declared a <unk> <unk> per share supplemental dividend per share for the December quarter.
Maintaining a consistent track record.
Meaningfully covering our dividend with pre tax net investment income is important to our investment strategy.
We continue our strong track record of regular dividend coverage with 106% for the last 12 months ended September 32022, and 107% cumulative since the launch of our credit strategy in January 2015.
Given the floating the floating rate nature of our credit portfolio rising interest rates continued to be a significant tailwind to our net investment income.
The base rate index used to calculate interest on a majority of our loans reset in early October to 375% up from its early July rate reset at 229%.
This significant increase quarter over quarter will provide another immediate step up in portfolio income in the December quarter.
With that as context, we will continue to execute our policy of having regular dividends followed the trajectory of recurring pretax NII per share.
As such we will thoughtfully grow our regular dividend to a level, which can be sustained should interest rates decreased to a neutral level.
In addition, while interest rates remain elevated our intent is to distribute excess pretax NII to our shareholders each quarter through supplemental dividend.
As in the past. It is also our intent to distribute future of additional supplemental dividends as we've realized gains in our equity portfolio.
Based upon the interest rate environment and the continued strong performance of our equity portfolio, we expect to continue to distribute quarterly supplemental dividends for the foreseeable future.
For the quarter, our investment portfolio generated total investment income of $26 $8 million producing a weighted average yield on all investments of 10, 3%.
Total investment income was $4 $3 million higher this quarter due to a higher average balance of credit investments outstanding. In addition to the tailwind provided from a significant increase in LIBOR and silver base rates.
As at the end of the quarter, we had approximately $9 million of our investments on nonaccrual, representing 9% of our investment portfolio at fair value.
Finally, as at the end of the quarter the weighted average yield on our loan portfolio was 10, 6% for the quarter.
As seen on slide 18, we further improved LTM operating leverage to 2% as at the end of the quarter, achieving 2% were lower operating leverage was one of our initial long term goals. When we re launched DSW C is a middle market lender back in 2015.
So we are pleased to have reached this milestone looking ahead, we expect to experience continued operating leverage efficiencies due to our internally managed structure.
Turning to slide 19, the company's NAV per share at the end of the September quarter decreased by one <unk> per share to $16 53.
The primary driver of the NAV per share decrease for the quarter with $8 4 million unrealized depreciation on the on balance sheet debt portfolio, partially offset by $4 2 million of net appreciation on the equity portfolio.
Additionally, there was approximately 800000 of depreciation at I 45.
First of which was mark to market quote activity in the syndicated market.
We also generated <unk> 13 per share of accretion from the issuance of common stock at a premium to NAV per share under our equity ATM program.
Despite the sustained volatility in the equity markets. We are pleased to have had the ability to continually raise equity above any of the per share through the equity ATM program.
Turning to slide 20, as Bowen mentioned earlier, we are pleased to report that our balance sheet liquidity continues to be strong with approximately $170 million in cash and undrawn leverage commitments at the end of the quarter.
Based on our borrowing base at the end of the quarter, we have full access to the incremental revolver capacity and we will look to opportunistically increase commitment to the facility in the near term.
Our bank Syndicate continues to support our growth and we're pleased with the flexibility to revolving credit facility provides to our capital structure.
In addition, we have submitted a new leverage commitment application to the SBA to obtain an additional $50 million in debentures, which we expect to receive in the coming weeks. We continue to see strong origination volumes FDIC eligible investments and will opportunistically invest given the lower cost nature of the FDIC debentures.
As of September 32022, approximately 47% of our capital structure liabilities were unsecured and our earliest debt maturity is in January 2026.
Regulatory leverage as seen on slide 21 ended the quarter at a debt to equity ratio of 111 to one down from 123 to one as of the December 2021 quarter over.
Over the past year, we have made a concerted effort to strengthen our balance sheet to ensure we are prepared for any macro economic headwinds that we may encounter.
These efforts have included our opportunistic unsecured bond issuances at record low rates in late calendar year 2021, and our continued support from banking relationships, which has allowed for steady growth in our revolver facility commitments and our continued diligence and moderating leverage through accretive share issuances on our <unk>.
Equity ATM program.
We will continue to work towards strengthening the balance sheet, ensuring adequate liquidity.
And maintaining conservative leverage and covenant cushions throughout the economic cycle.
I will now hand, the call back to Bowen for some final comments.
Thanks, Michael and thank you everyone for joining us today, we appreciate the opportunity to provide you an update on our business and progress executing our strategy as stewards of our stakeholders capital.
Our company and portfolio continued to perform well I continue to be impressed by the job. Our team has done in building a robust asset base deal origination capability as well as a flexible capital structure.
After the uncertainty of the economy again, we have been underwriting with a full economic cycle mentality since day, one, which we believe has positioned us well for the potential economic volatility in the coming months and years.
In summary, we have a credit portfolio heavily weighted to first lien senior secured debt our credit allocated across a broader array of companies and industries.
90% of which is backed by private equity firms.
We believe our first lien senior secured debt strategy is working and we feel very good about the health and positioning our company and portfolio.
Finally, we continue to believe that our performance demonstrates the investment acumen and capital structure management capability of our team at capital Southwest and we are excited to continue to execute our investment strategy as stewards of our stockholders' capital.
This concludes our prepared remarks, operator, we are ready to open the lines for Q&A.
That's a question you May press star one on your telephone please.
Please standby with compile the Q&A roster.
Our first question will come from the line of Kevin folks from JMP Securities. Your line is open.
Hi, Good morning, and thank you for taking my question. My first question is on portfolio company interest coverage, clearly decided hiked rates more aggressively than we anticipated six months ago and I'm. Just curious if you could share your thoughts on the potential impact that the forward LIBOR, so far curve could have a central or sorry.
On portfolio company interest coverage.
Yes, thanks for the question.
As we did as we I think I've mentioned in the last couple of quarterly calls we look at it.
Fixed charge coverage.
<unk> of our portfolio, we basically take the company's performance and compare it to the current base rate interest coverage and then we take that model and we sensitize it by increasing the base rates to stimulate the increases in.
And see.
When we start getting a number of companies kind of in the Red zone.
A pure static fixed charge coverage ratio calculation, which.
And I would tell you that when that when that base rate it gets to five 5%.
There is a handful of companies that are definitely in the Red zone now when I look at that.
Those companies are.
Most of them are private equity firm own virtually all of them are private equity firm, but if I look about half of those companies.
Have a lot of equity value below our debt in a private equity firm as well funded that owns the company. So there is no chance.
My view that that private equity firm is going to let that company go based on missing an interest payment and so.
Would expect.
These calls yet, but if I was a private equity firm on that call us and say.
While we take two 2% of your cash interest and will pay 3% Pik.
That's a great trade for us.
Scenario. It gives the company some relief and it accumulates a higher return for us for an interim period of time and again, there's a lot of equity value below you in a private equity firm owning the business that would be a business trade I think that anyone on the phone would want us to make so I feel pretty good that clearly at five 9% and up.
I think youll, probably hear that might've bdcs.
It starts to get tight.
But again our idea.
Comfort is the leverage levels of our portfolio companies and the fact that 90% of them are owned by private equity firms that are thinking about that exact same thing so and they are pretty smart much.
So I feel pretty good as a lender sitting back that our shareholders will be in great shape.
Okay. That's very helpful. Bowen and then just one more if I may net total pik income increased to five 9% of total interest income this quarter, which is up from three 6% in the June quarter can you just discuss what drove that increase whether that was amendment driven or if youre originating new investments that were structured with.
Component.
Yes.
Yes.
Most of that really that increases are essentially two companies. One is a company that we restructured this quarter. It was a non accrual last quarter.
Sponsor put a significant amount of money in the business and we agreed to the lender group agreed to pick the interest for a couple of quarters out of that restructuring and then the other one was.
Also sponsor owned business. It made an acquisition that's been kind of challenging until they asked us to pick a portion of our interest.
Get that acquisition figured out so a little bit a little bit idiosyncratic and thats kind of part of our business.
That was the increase quarter over quarter.
Okay I appreciate the color there I'll leave it there congratulations on a really nice quarter.
Thanks, a lot.
One moment for our next question.
Our next question.
<unk> from Ladenburg Your line is open.
Yes, good morning, everyone.
Bowen appreciate your comments on how you approach underwriting I suppose what I'd like to ask is that what changed recently in the third quarter or is that.
EBITDA generally speaking in the middle market turned negative in terms of year over year change.
Changes and that includes healthcare.
Which is a major focus for you and a lot of bdcs, so with that in mind, notwithstanding the fact that you're underwriting to the downside.
In the healthcare sector.
Does that affect the sorts of companies Youre willing to fund.
Given where we are in the cycle today.
Yes, a couple of comments first of all thanks for the question.
Health care space has got its own kind of risks that aren't necessarily economic risks of course.
And a lot of those come around regulatory.
Changes in reimbursement rate changes and so those are kind of two significant <unk> data kind of tiptoe around in underwriting and the health care space.
I would say its interesting when we look at our portfolio and we looked at the 97%.
The <unk>.
Performing portfolio, so it's the ones and the twos.
And then normalized out a couple of companies that had done a extreme a large number of acquisitions for the quarter, so excuse up their numbers on growth.
And if we look at our weighted average revenue across the portfolio weighted average EBITDA growth across the portfolio.
On a weighted average basis, our portfolio revenue growth was about 4%.
And our portfolio EBITDA growth is about half a percent 50 basis points and so in both of those numbers are down slightly from last quarter. So.
Maybe that's an indicator of a slowing economy, maybe it's not but from a lender perspective, we feel like it was a pretty strong strong stats, we have our handful of kind of challenge credits, which lenders like us always have a handful in it or how you manage those but if you look at 97% of our portfolio.
Granted.
Those are financials that are month over month or two off because thats the way the valuations in the quarters and.
But.
We feel we feel like it's hanging in there pretty well.
I appreciate that explanation bone and.
Switching to the syndicated loan market in the senior loan fund.
Obviously, <unk> seen a lot of volatility there.
There was sort of a head fake turned the quarter and then prices weakened as the quarter finished.
And importantly, there is a lot of dispersion in pricing in distress ratios have really climb so as managers of that portfolio. Do you are you are you in a position to take advantage of that volatility in terms of.
Credits that look mispriced to you perhaps you can.
Take advantage of the pull to par effect or are you concerned about so concerned about the economic outlook that you'd prefer to sort of stand on the sidelines and see how things play out.
Yes, it's an interesting question I mean, the vast majority of what we do is lead deals enrollment market and our returns are very attractive there.
Syndicated side you can see we haven't really really haven't done any new activity in the syndicated book.
As far as having the ability if there are some large discrepancies in price and value.
Yes between US and main street, we certainly have the ability to take advantage of that.
That said, we haven't really seen it enough yet.
The challenge with the syndicated credit is you just have really imperfect information.
You are a small piece of a large loans kind of just along with the crowd and if you are wrong.
<unk> committees and consult incentives.
It's really hard to make you don't get to make decisions on restructuring our managing like we do in the lower middle market. So it's just a different world.
And so we haven't spent a lot of time Mickey to be honest on let's go find a list of syndicated names month's load up on them.
I am sure if it got really extreme we certainly have the touch points, we certainly have the capital main street.
They have the capital to take advantage of it but we just havent. We havent spent a lot of time on it and it's not a it's not a top priority to us because of the opportunities that we're seeing and the performance and steady performance of the lower middle market. So its not something never say never and it may be something if it gets extreme that we might pick off a couple of them.
James here and there, but it's not really going to be a primary focus for us.
We've also seen either on balance sheet or with I 45, just a mark to market volatility as you've noted earlier, Mickey which from an earnings perspective.
Managing the shift.
That's that's probably a little less stable certainly less stable than having lower middle market companies that have more staple valuations, but if it got extreme and youre buying loans very very cheap it would be tempting, but it.
It's not a it's not a priority for us.
<unk>.
And my last question.
We're all talking about rising interest rates, but the forward curve actually has great starting to go down later next year, So I would like to understand how what kind of floor.
Floor rates, you're negotiating today.
And what I'm really thinking about is the long term sort of recurring earnings power of the portfolio as rates start to go down perhaps a year from now.
Yes. Thanks for the question a couple of banks.
Michael commented in his prepared remarks.
We are increasing.
Increasing our regular dividend along the trajectory of our NII, but we're keeping it muted to a level that would be sustained or covered with earnings NII. If rates went back down to more normal levels and so that's how we think about it because you are right on the back end of a recession rates will come back down we believe.
Down to more neutral levels.
On the floor side, we have we have started to.
Our all our deals we started to ask for a 2% floor, we used to be 1% <unk>, 2% and so far we're not getting a lot of pushback.
So I feel pretty good about that we'll see as time goes on but we are we are asking for.
Our base case term sheet is going to be 2% portion.
That's helpful. That's it for me. This morning, Thank you very much for your time.
Thanks Nicky.
One moment for our next question.
Our next question comes from the line of Kyle Jeffrey Joseph from Jefferies. Your line is open.
Hey, guys. Good morning, Congrats on a nice quarter and thanks for taking my questions.
Just start.
In terms of non accrual as it helped us kind of reconcile that obviously they went down in the quarter. I think you highlighted you restructured one of the investments, but just give us a sense for the inflows and outflows there and how we can reconcile that with the realized loss and the unrealized depreciation in the quarter.
Sure Yeah, we had we had two non accruals roll off and we had two non accruals roll on.
And both in both cases there were more.
Regulatory and customer related as opposed to any kind of economic thing.
Alright.
And then.
Transitioning to the origination side it sounded like you guys still have a decent pipeline. Despite macroeconomic activity can you just give a sense for <unk>.
Behavior of other originators have you seen some players have to have to pull back because of either leverage or economic concerns and then give us a sense for what kind of kind of spread you're seeing on the lower middle market deals you guys are leading.
Yes sure good question I would say.
All of those questions on the inherent answers are all in precise but I would tell you that I think spreads across the market have increased 25% to 50 basis points.
Hi.
We think there are some lenders that have been pulling back either from a funding perspective or otherwise.
But the market's still pretty robust lenders are there.
Just a couple of deals in the last month on pricing and leverage.
Two or three deals on pricing and leverage in other words, where our pricing is a little high and our leverage is a little bit low versus what someone else is willing to give and so that.
That kind of normal.
And we haven't seen.
I'd love to see spreads widen a 100 basis points.
And and not see lenders out there being extremely aggressive in than we maybe we could that would.
Would be helpful to us but.
But there is definitely competition out there for sure.
Got it very helpful. Thanks for answering my questions.
Thanks.
Thank you one moment our next question.
Our next question will come from the line of Robert Dodd from Raymond James Your line is open.
Yes, Matt.
The interest coverage and.
If I can I mean, you seem you.
Haven't got a lot of incoming.
Amendment requests for Pik, toggles or anything like that I mean.
Obviously, Microsoft ultimately.
Yes index has gone from $2 29 to 375, if we go forward and look at that and say that 150 basis points in three months for the slot at the forward curves as maybe the next week would be up another 100 list.
At what point do you think those amendment request calls actually actually start to come in I mean, obviously the tariff.
It doesn't quite hit the 550.
I'm kind of.
Flip point that you were talking about but it is rising.
Youre not the only one so far that said you just so far not getting the amendment. So when do they start to think.
At all.
Yes, it's interesting question I mean.
Im going to speculate right I mean, if you look at our analysis that I mentioned earlier, we are at five 5% you start having a handful of companies that it's pretty tight right.
And so but you're right now.
Our weighted average interest coverage in our portfolio is two and a quarter to two 5% kind of in that range.
So as a portfolio.
The company can handle a lot more base rate increase.
Then were than many of us expect to see however at the margin some of the companies get pretty tight at like five 5% and so.
My guess is around five to five 5% base rates will start getting the phone calls.
I mean these are they are a private equity firm theyre going to be thoughtful about that request, they're going to they're not going to make that phone call until they have to.
And so the debts.
Revenues picked out on top of that.
It's.
They make the interest payment and effectively kind of.
It reduces the interest burden versus what it would be if they continue to pick so I think there'll be thoughtful in making those calls, but I would imagine if we see something five to five 5% base rates I think we'll start I think we and the industry will start getting some of those phone calls.
Understood Alright.
So let me go now so maybe maybe it hasnt happened.
On the.
Good.
The robustness in the competitive market right now.
Can you highlight I mean lots of public deals was there anything.
Could you.
Any particular areas of the market where that robustness is concentrate business is still business is business services and recurring revenues.
Okay.
Is the market.
Diverging, a little bit where some.
Types of deals may be are being left out.
Robust competition any color.
Yes, I would say like this it's a little bit of a barbell so you've got.
High quality credits that are going to be high margin service based businesses and some critical service that you can.
Comfortable is not going to get huge hugely in a recession.
The loan to values of the portfolio.
No that that's being requested for the deal.
30% to 40% loan to value strong margins.
<unk>.
Not significant capex or working capital burden those type deals there is a lot of competition for those and we obviously like those two.
And so and so there may be less people to other lenders in the market maybe I mean, we don't really get a feed in the lower middle market of how many lenders are out there how will we just get very indirect kind of sense.
But there is competition for that higher quality credit deal.
And then the cusp of your credits.
There's much less competition, so if youre going to take some risks.
Bit on some story with an operationally focused private equity firm that's going to do.
A significant amount of surgery on that company's operations et cetera, It's a little riskier.
Market youre going to get paid for that risk.
So.
Exactly yes.
I would say the amount you get paid for that risk incrementally higher in this market than it would've been six or 12 months ago.
Got it got it understood and then one more if I can on you mentioned two new non accruals.
On the sponsor and obviously.
Silicon potential on the sponsor side. So those two I mean, you mentioned funds since I'm going to walk away.
Good business, just as interest rates go up.
They buy eventually if a business is broken I'm not saying that's the case in your situation right, but there's a difference between sponsor appetite.
Two a rate cycle I would imagine versus versus a.
Complete business from rebuilt cycle in some cases, but so these two new non accruals I mean has the sponsor stepped up halfway put in more capital I think working through that or can you give us any any.
Castle color on that front.
Yes, sure both sponsored deals sponsoring and supporting both of them.
There are situations where.
The business models have changed slightly.
Slightly.
So.
We will probably be negotiating a portion of our debt.
And an equity interest in the business going forward, which is good for us because that will give us the upside.
The business recover so thats kind of part of kind of how our market works.
And the sponsors to support the business.
We may have the company's EBIT provide additional support as well, but they are both sponsored by funded sponsors with capital.
Got it thank you.
Thanks, Greg.
And now I would now like to turn the conference back over to Bowen for any closing remarks.
Thanks, everyone. We appreciate the opportunity as always to give you an update on the business interesting times out there really.
Really good questions. We appreciate them.
So thanks for your all time, and we look forward to giving you future updates in the future.
This concludes today's conference call. Thank you for participating you may now disconnect everyone have a great day.
The conference will begin shortly to raise Johan during Q&A you can dial one one.
[music].
Yes.