Q3 2022 Stellus Capital Investment Corp Earnings Call

Mark at an investment category of three or below in total we have four loans on nonaccrual, which comprised two 5% of fair value of the total loan portfolio.

It is effectively unchanged from four loans on non accrual at June 30, which comprised two 8% of fair value.

With respect to dividends. In addition to our regular dividend of <unk> 28 per share in the aggregate for the fourth quarter. Our board declared an additional dividend for the fourth quarter of 2022 or <unk> <unk> per share in the aggregate <unk> paid per month.

As we discussed last quarter. This additional dividend is based on the significant realized gains were generating $23 $7 million in 2021, or $1 22 per share $4 $7 million year to date in 2022 and expected additional realized gains in the fourth quarter.

Yeah.

This combined 34 cent dividend each quarter represents based on Yesterdays stock price of close of $13 36 per share an annualized yield of 10, 2% and with that I'll turn it back over to Rob to cover the outlook.

Okay. Thank you Todd.

Looking ahead, our outlook is very positive as we see an increasing net investment income and return on equity profile.

It appears that higher interest rates are here for the foreseeable future.

Our largely floating rate investment portfolio, coupled with our largely fixed rate liability structure.

It should mean in NII per share in excess of our regular dividend and the additional dividend program, which we have had in place for now a year.

As a result, we expect that in January we will combine the regular and additional dividends into a regular dividend of <unk> 34 per share for the quarter.

Which was a 21% increase in the regular dividend.

Further assuming that our benchmark pricing rates LIBOR and sofa.

Stay at their current levels, if not rising.

We would likely look at raising the new regular dividend in January to a level above the 34 per share more to come in January on that.

Relative to equity gains notwithstanding a slowing economy, we continue to see the benefit of equity gain realizations.

Noted earlier, we've had $4 7 million net realized gains this year through September 30.

More in the fourth quarter.

Excuse me with.

And with respect to new investments and repayments, we've had a very productive year for new investments with less than normal repayments as you've heard on previous calls.

However, repayments are now picking up.

As a result, we would expect repayments for the balance of the quarter to approximate new fundings.

And Ali we will now open up for questions and answers.

Okay.

Thank you the floor is now open for questions. If you have any questions or comments. Please press star one on your phone at this time, we ask that while posing your question you. Please pickup your handset, finishing on speaker phone to provide optimum sound quality. Please hold while we poll for questions.

Thank you. Our first question is coming from Paul Johnson with <unk>, Sir Please ask your question.

Yes. Good morning, Thanks for taking my question.

Mike just.

First question, just kind of wondering about your portfolio.

How youre thinking about I guess EBIT performance year to date is.

As well as other fundamentals just kind of like interest coverage that sort of thing.

As youre getting updates on your portfolio companies here more recently, how does that compare I guess to the prior year.

Yeah, and just any any commentary on your on your portfolio of companies that would be helpful.

Yeah sure Paul Thank you for joining this morning.

Relative to EBITDA performance across the portfolio, we actually have us slightly improving profile as we go through the year. So no concerns there certainly.

Certainly with higher interest rates interest coverage will drop some but we think that the amount of increase is not material relative to people's ability to pay.

So so far we've seen as Todd reported a stable portfolio stable performance always company specific issues.

So portfolio is in pretty good shape.

Got it thanks for that.

And then I'd just ask you.

As far as maybe what youre seeing in the middle market in terms of just spreads.

<unk>.

Terms and the deals that youre seeing if theres been any market improvement there.

That you expect to potentially take advantage of it just given the level of repayments coming in over the next quarter or so.

Sure sure we're very active it's been a little bit of a slowdown, but we're finding private equity firms who have significant dry powder are continuing to be acquisitive.

Pardon me in terms of the terms of deals are pretty much the same as they've always been typically seeing equity checks of approximately 50% of the capital structure.

Important covenants.

I'd say that spreads and pricing have maintained fine our normal fee structures.

So, let's say not a material change and probably seeing a slight improvement.

We certainly noticed in the upper middle market higher pricing and thats, starting to translate into the or we operate more in the lower middle market.

But no big change.

Same business, we've been running and.

And expect to be busy again in 2023.

Okay.

I appreciate that my last question I think you've been pretty clear over the last few years is you've shifted the portfolio to more senior secured assets.

Obviously.

Probably not a high demand for junior capital at the moment, but there may come a time obviously is.

This cycle, where that begins to potentially look attractive again I'm just wondering if that's.

The.

Potential opportunity that youre looking at of increasing exposure once again.

Junior capital type of loans.

In the future or if youre looking at it more just kind of stay the course with what you've been doing with mainly with senior secured portfolio.

Sure Paul So so you're good to note that strategic shifts so that will continue.

We're not interested in junior capital occasionally there might be something of interest where the sponsor we know really well, but I'd say that think of us going forward as was evidenced in this quarter, where we're all in a first lien unitranche mode.

Got it appreciate it thanks, Thanks, Rob that's all for me.

Yes, Thank you Paul.

Yes.

Thank you. Our next question is coming from Christopher Nolan with Ladenburg Thalmann. Please go ahead.

Hey, good morning, Chris.

Rob is there any industry sectors, which.

You guys are sort of.

Emphasizing more now given the changing interest rate environment and less in others.

You know Chris the approach, we take to investing is which we've had really from inception is really looking for.

Significant free cash flow generating businesses that.

Pardon me that also have a growth profile.

And so and as a result, which means low.

Maintenance capital expenditures and so that's what we'll continue to focus on and yes, they do well and in a rising interest rate environment and that they can manage or they can certainly handle an increase in the base interest rate. So I'd say no change from the past the continued focus on.

Significant free cash flow generating businesses.

Great and then as a follow on to your comments in terms of increasing the base dividend starting in January .

Your comments about the NII covering the dividend.

Would that extend into 2023, given what you currently see in terms of the outlook.

Yes, so lets say a couple of things one as I indicated in the remarks.

Debt.

It is clear now given our asset liability mix.

<unk>.

We have the NII to more than cover the combined dividend. So we're going to go back to a regular dividend of our original 34 per share per quarter $1 36, a year and of course paid monthly. So this is kind of a starting point.

And then given that rates have even increased since 930 and at the home.

<unk> it would indicate earnings potential greater than that always subject to any additional non accruals, but we don't expect those to be material.

So is that holds out.

We're going to have the capacity to.

To essentially pay a higher regular dividend, but we will start with a new regular dividend of <unk> 34, a share.

In January payable monthly and this would of course subject to board approval.

Final question.

Should we expect more volatility on a per share given.

Given the higher discount rate used in our free cash flow evaluations.

Also the differences now.

Different companies handle the higher interest rate load.

Yes, not expecting a material change there obviously, if you get a real widening in.

And the spreads that's the most impactful impact.

You will have a higher discount rate and a higher interest rate environment, but remember offsetting that is the higher forward coupons that are coming in as the cash flows. So I wouldn't expect a higher interest rate environment on our model to be impactful it would be the spreads if they widen more.

And it would be more company specific performance great.

Great. That's it for me thank you.

Yes, Thank you very much Chris.

Thank you. Our next question is coming from Sean Paul Adams with Raymond James. Please go ahead.

Yes.

Ah.

It looks like part of my question has already touched on but.

It looks like you guys have the highest net interest margin exposure to base rates from any BDC under coverage, especially among the peers. So I just wanted to get a little bit of your outlook on base rates for 2023.

Yes.

Sorry, John just to clarify the base rate of our investment portfolio.

Yes.

Yes, so the LIBOR rate. So we still have a majority of the loans on LIBOR as the base rate.

The some some new loans, we certainly under sofa, but those rates are basically over 4% today they were under 4% at 930 am.

And so if you if we just follow the forward curve youre going to have.

Higher.

Right then that in 2023, which is the market's best estimate, but what I'm describing is really just take the current rate.

<unk> in the mid fours sofer's in the low fours and.

That would be our assumption for 2023.

Thank you.

And one thing that you've noted Sean as well.

We're also benefiting from if you think of our liability structure.

Roughly $200 million kind of average bank borrowings which were floating.

But the rest of the liability structure is roughly $300 million of SAIC debentures that have an all in cost in the low threes.

And our notes which were issued in.

March.

Of last year.

And they have a coupon of $4 seven eights. So so this is where we're really.

Youre going to see a meaningful increase in the margin as a result of this asset liability mix and roughly 97% of our loan portfolio is floating.

Got it thank you guys.

Yes. Thank you.

As there are no further questions in queue at this time I would like to turn the call back over to Mr. <unk> for any closing comments.

Okay. No. Thank you very much everyone for joining thank you for your continued support and we look forward to speaking with you in the new year.

Take care.

Thank you ladies and gentlemen, this does conclude today's conference call. You may disconnect. Your lines at this time and have a wonderful day and we thank you for your participation.

Yeah.