Q4 2022 Sixth Street Specialty Lending Inc Earnings Call
[music].
Okay.
Good morning, and welcome to the sixth Street specialty lending, Inc. Fourth quarter and fiscal year ended December 31, 2022 earnings conference call.
At this time all participants are in a listen only mode.
As a reminder, this conference is being recorded on Friday February 17, 2023, I will now turn the call over to MS. Kenny Van Horne head of Investor Relations.
Thank you before we begin today's call I would 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.
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 and fixed rate specialty lending Inc. Filings with the Securities and Exchange Commission. The company assumes no obligation to update any such forward looking statements yesterday. After the market closed we issued our earnings press release for the fourth quarter and.
Fiscal year ended December 31, 2022, and posted a presentation to the Investor resources section of our website Www Dot sixth Street specialty lending dot com. The presentation should be reviewed in conjunction with our Form 10-K filed yesterday with the SEC fixed or specialty lending Inc. Earnings release is also available on our website under the Investor resource.
His section unless noted otherwise all performance figures mentioned in today's prepared remarks are adds up and for the fourth quarter and fiscal year ended December 31, 2022. As a reminder, 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.
Jamie Good morning, everyone and thank you for joining us.
With us today is my partner and our President Bo Stanley and our CFO incentives for our call today I will review, our full year and fourth quarter highlights and pass it over to Bo to discuss our origination activity and portfolio metrics.
He will review our financial performance in more detail and I will conclude with final remarks before opening the call to Q&A.
After the market closed yesterday, we reported fourth quarter adjusted net investment income of 64.
Per share or an annualized return on equity of 15, 5%.
Adjusted net income of 56 cents per share or an annualized return on equity of 13, 6%.
As presented in our financial statements, our Q4 net investment income and net income per share.
Inclusive of the unwind of the noncash accrual accrued capital gains incentive fee expense were both one <unk> per share higher at 65 and.
<unk> 57, respectively.
For the full year 2022, we generated net investment income per share of two or $2 <unk> or return on.
QWERTY of 12% and our full year adjusted net income per share of $1 27, our return on equity of seven 6%.
The difference between net investment income and net income for the year was driven overwhelmingly by unrealized losses as we incorporated the impact of wider credit market spreads on the valuation of our portfolio.
The impact of increased risk premiums was presented throughout nearly every asset class in 2022.
During the calendar year, LCD first and second lien spreads widened by 135, and 686 basis points respectively.
And a lot of talk about the lack of volatility in private asset marks and.
In that regard we agree with cliff absences description of this as volatility laundry.
As we said in the past and for the reasons, we outlined in our previous public shareholder letter, we believe that using inputs from the market is not only critical but required in determining fair value of assets.
75 cents per share difference between our net investment income and net income results for 2022, the majority or 40 or 57% was related to unrealized losses from credit spread movements alone that we expect to recover over time as credit spreads tightened.
Our investments are paid off and 20% was driven predominantly from the decline in equity valuations.
The remaining difference between net investment income and net income is primarily related to one the unwind on our interest rate swaps. They are not subject to hedge accounting and two the reversal of unrealized gains that flow through net investment income upon realization. The overall health of our portfolio remains strong with no.
Changes in non accruals from the last quarter.
For the third consecutive quarter, our board has increased our quarterly based dividend raising a figure by <unk> <unk> per share to <unk> 46 per share to shareholders of record as of March 15th and payable on March 31 year.
Year over year, we've increased our base dividend by 12, 2%.
We are also pleased to share that our board declared a supplemental dividend of nine cents per share related to our Q4 earnings to shareholders of record as of February 28.
Payable on March 20th.
In the near term, we expect that net investment income will exceed our newly established base seven level due to our increased earnings power.
However, we determined 46 cents per share to be in appropriate level based on looking at the forward interest rate curve through 2025, which are subject to changes in the market.
2022 was a year characterized by spread income.
As a driver of earnings given repayment.
Activity slowed in the wake of increased market volatility portfolio turnover, which is calculated as total repayments over total assets at the beginning of the year was 26% and <unk>.
2022, compared to 43% and 41% in 2021, and 2020, respectively. The wider spread environment naturally caused a slowdown in repayment activity.
As a result featured fate fee generating income represented.
While a portion of our total investment income for the year relative to historical trends.
We generated a return on assets calculated as total investment income divided by average assets of 11, 6% for 2022 compared to 11, 3% in 2021.
Which was a year defined by record level of repayment activities.
Further highlights the positive impact on the rise of the reference rates and driving incremental returns for our shareholders.
Our year end net asset value per share adjusted for the impact of the sample of the supplemental dividend that was declared yesterday $60 39, and we estimate that our spillover income per share is approximately 77.
We would like to reiterate that our supplemental dividend policy is motivated by one Ric distribution requirement.
<unk> not burdening, our returns with excess friction costs incurred through excise tax and three the goal of steadily building net asset value per share over time.
Before passing it about I'll spend a moment on how we're thinking about the broader macroeconomic environment.
Big picture, we're cautious.
But when we think about our portfolio we are constructive on how we are positioned for the road ahead.
The U S economy faces a number of headwinds in 2000 2023.
That are largely the result of inflation and the resulting shift in monetary policy in 2022.
The restrictive monetary environment, we're sure we have an impact on growth.
The idea of a near term fed pivot remains challenging until job growth slows and our consumer weakens.
In summary, it feels like we're living in a transit transition period with restricted fed policy that will continue to dampen growth until we see an increase in unemployment and further demand disruption.
Broad based slowdown in the economy, coupled with the current rate environment will cause some stress for borrowers.
This highlights the importance of why we are focused on business models with high high variable cost structures and with those that have pricing power.
82% of our portfolio by fair value was comprised of software and business services companies at quarter end and are generally characterized by high levels of recurring revenue predictable cash flows variable cost structures and pricing power. Our portfolio has shown resilience resiliency to date and we believe the underlying business models of our bar.
Our robust and durable.
However, we believe economic cycles do exist as such we will continue to focus on staying on top of the capital structure and operate in the middle of our <unk>.
<unk> leverage range with that I'll pass it over to Bo discussed this quarter's investment activity.
Thanks, Josh I'd like to start by layering on some additional thoughts on the direct lending environment and the more specifically how it relates to the positioning of our portfolio.
The way, we're thinking about current opportunities in the market.
Okay.
2022 was the year that underscore the value proposition of private credit for borrowers.
New issue leverage loan volume reached a 12 year low and was down 63% from 2021 public credit markets were largely unavailable.
As a result private credit providers stepped in as the main source of financing solutions, given the ability to provide speed and certainty of execution. Despite instability in the broader markets.
One of the main themes over the last few quarters has been growing market share of direct lenders and the large syndicated sponsor financings.
Direct lenders with the ability to write sizeable checks are benefiting from the opportunity to participate in larger transactions, which otherwise would have been financed in the broadly syndicated loan market.
Notably these investment opportunities present attractive risk reward dynamics as deal terms have moved in a more lender friendly direction indicated by wider spreads.
Tighter documents and lower leverage.
We believe this shift in the underwriting terms reflects the appropriate compensation to lenders given the uncertain environment, we're investing in today.
We are well positioned to take advantage of this opportunity in the market given our ability to invest alongside affiliated sixth Street.
As capital is generally become more constraining the power of the sixth Street platform has allowed us to finance larger more established companies while remaining selective.
We believe this creates a competitive advantage in today's investing environment as the number of direct lenders willing and able to participate in larger transactions is limited.
In addition to the strong origination activity supporting this opportunity in the market in Q4, we have a robust pipeline for the first half of 2023, including several large financings that have already been publicly announced.
As we have the ability to co invest with sixth Street affiliated funds on these transactions, we have flexibility to determine the optimal final hold sizes for our balance sheet.
Turning now to our investment activity for the quarter Q4 was productive with total commitments of $241 million in total fundings of $212 million across seven new portfolio companies and upsize to five existing investments.
We experienced $282 million of repayments from seven four and three partial investment realizations.
The increase in repayment activity was largely driven by idiosyncratic payoffs of our two largest investments by fair value as of 930 that we discussed on our last earnings call violate frontline, which represented 58% of repayments for the quarter.
For the full year of 2022, we provided $1 1 billion of commitments and closed $864 million of fundings.
Total repayments were $654 million for the year, resulting in net portfolio growth of $210 million.
Year over year, our portfolio grew by 11%, which reflects our deliberate effort to grow responsibly.
We were able to remain selective in the investments that we make given the size of our capital base does not require us to be asset gatherers, but rather bottoms up fundamental investors and focus on driving return on capital for our investors.
82% of total commitments this year were sponsor transactions within our specialized sector subsidies.
We continue to execute on our software and business services things, where we believe we have a competitive advantage and where the underlying companies have attractive revenue characteristics high quality customer basis and robust business models.
At December 31, our top industry exposure by fair value was the business services at 14, 4%.
We'd like to take a moment to provide an update on one of our retail ABL investments that has recently been in the press bed Bath and beyond.
As mentioned during our Q3 2022 earnings call.
We had Asia than a FILO term loan commitment in September of 2022 to support the operational turnaround by the company and provide additional liquidity.
As a result of this transaction.
Hold a $55 million Paramount commitment as of 12 31 of the FILO term loan, which represents less than 2% of our total assets as of year round.
On February six the company announced it was raising up to $1.0 billion to $5 billion of new equity capital through a public offering.
This offering allows the company to avoid bankruptcy filing in the near term.
Which is a positive for all the company's stakeholders, including employees.
Along with the capital raise sixth Street made an additional investment in a more senior position in the capital structure.
Our position.
Which is already underwritten to liquidation value is improved as a result of the new capital raise and our more senior position in the capital structure.
Obviously this remains an ongoing situation, but at this moment, we feel good about the security.
Our retail ABL capabilities has been a distinguishing feature of our investment strategy. Since we began the company back in 2011.
We have executed over 25 transactions and invested over $1 billion of capital through Tfl acts.
On these investments we have taken nine through the bankruptcy process without any losses.
From a performance perspective gross unlevered return on fully realized retail ABL investments as <unk>.
One 8% as of 12 31.
We have a core competency in management of these types of investments and we will look to continue to execute on this strategy through the same playbook, we established years ago.
Moving onto the repayment side, one realization that we'd like to highlight.
As our investment in therapeutics, MD, which demonstrates the positive impact.
Active asset management for our shareholders.
Since our initial investment in 2019, the company faced multiple challenges, including impacts from COVID-19, resulting in underperformance relative to expectations.
As the situation evolves sixth Street worked with the company as advisors toward a path asset, including multiple amendments and a large partial paydown prior to our exit.
In December .
2022 sixth streets that was fully repaid when the company licensed full commercial rights of its products.
That's M D.
We will continue to be a public company, receiving milestone payments and 20 years of royalties on sales.
Through active portfolio management and extensive experience in health care space.
<unk> generated approximately $15, 5% IRR.
One Forex MLP AUM on the investment with a beneficial outcome for both parties.
From a portfolio yield perspective, our weighted average yield on debt and income producing securities at amortized cost increased to 13, 4% from 12, 2% quarter over quarter.
The increase primarily reflects the horizon the weighted average reference rate reset of 115 basis points over the quarter.
The weighted average yield at amortized cost on new investments, including upside. The for Q4 was 12, 6% compared to a yield of 11, 9% on exited investments.
Yes.
Looking at the year over year trends, our weighted average yield on debt and income producing securities at amortized cost was up about 320 basis points from a year ago.
The significant increase in our yields in 2022 illustrates the positive asset sensitivity for our business from increased base rates beyond our floors. In addition to our selective origination approach across teams and sectors.
Moving onto the portfolio composition and credit stats across our core borrowers for whom these metrics are relevant we continue to have conservative weighted average attach and detach points of 0.9 times and four five times, respectively and weighted average interest coverage decreased from two <unk> to <unk>.
Two two X.
The decrease in interest coverage is in line with our expectations for the impact of rising rates on the.
Cost of funds for our borrowers.
Our interest coverage metric.
And as we apply reference rates.
As at the end of the year to the run rate borrower EBITDA.
We believe this is a better representation of our position of our borrowers as opposed to a lookback metric such as LTE M.
One additional nuance, we'd like to highlight on.
Non interest coverage relates to the positioning of our portfolio towards software and business services.
These businesses generally see more limited fixed charge requirements such as capital expenditures.
Other more capital intensive industries experienced higher fixed charges. In addition to financing costs, meaning interest coverage metrics likely understate fixed obligations of those businesses.
As of Q4 2022, the weighted average revenue and EBITDA of our core portfolio companies was $152 million and $46 million, respectively, representing an increase in both metrics from Q3.
Finally, the performance rating of our portfolio continues to be strong with a weighted average rating of one <unk> on a scale of one to five with one being a strong gress.
Representing no change from last quarter's ratings.
We continue to have minimal non accruals with only one portfolio company on non accrual representing less than 0.01% of the portfolio at fair value.
And no new names added to non accrual during Q4.
With that I'd like to turn it over to Ian to cover our financial performance in more detail.
Thank you Pablo we finished the year with a strong quarter from an earnings and investment activity perspective in Q4, we generated net investment income per share of <unk> 65.
Resulting in full year net investment income per share of $2 13, our Q4 net income per share was 57 <unk>.
Resulting in full year net income per share of $1 38.
There was an <unk> 11 per share unwind of previously accrued capital gains incentive fees in 2022, which is a noncash for vessel <unk>.
Excluding the <unk> 11 per share online for this year, our adjusted net investment income and adjusted net income per share for the year with $2, one and $1 27, respectively at.
At year end, we had total investments of $2 8 billion total principal debt outstanding of $1 5 billion and net assets of $1 3 billion or $16 48 per share which is prior to the impact of the supplemental dividend that was declared yesterday.
Our ending debt to equity ratio was 113 times down from $1, one six times in the prior quarter and our average debt to equity ratio also decreased slightly from $1. One five times to 114 times quarter over quarter.
For full year 2022, our average debt to equity ratio was 1.0 to three times up from one times in 2021 and well within our previously stated target range of <unk> nine to 125 times.
Our liquidity position remains robust with 866 million of unfunded revolver capacity at year end against $178 million of unfunded portfolio company commitments eligible to be drawn.
Our year end funding mix with represented by 53% unsecured debt post.
Post quarter end, we satisfied the maturity of our $150 million.
January 2023 unsecured notes through utilization of Undrawn capacity on our revolving credit facility.
The settlement marginally decreased our weighted average cost of debt and had no impact on leverage.
Moving to our presentation materials Slide 10 contains this quarter's NAV bridge walking through the main drivers of growth. We added 64 cents per share from adjusted net investment income against the base dividend of 45 per share.
There was <unk> 11 per share reduction to NAV as we reversed net unrealized gains on the balance sheet related to investment realizations and recognize these gains into this quarters income.
The reversal of unrealized gains this quarter was primarily driven by the early payoff of bio Haven, which resulted in an unwind of <unk> 12 per share from unrealized gains to net investment income for the quarter. They were minor positive impacts from changes in credit spreads on the valuation of our portfolio and a positive <unk> <unk> per share impact from portfolio company spin.
<unk> events.
Pivoting to our operating results detailed on slide 12, we generated a record level of total investment income for the quarter of $100 1 million up 29% compared to $77 8 million in the prior quarter. The increase was driven by a rise in the contractual interest income earnings power of the business as well as us.
Other income related to the biohazard payoffs specifically.
Walking through the components of income interest and dividend income was $85 8 million up 15% from the prior quarter other fees, representing prepayment fees and accelerated amortization of upfront fees from unscheduled Paydowns were $11 million up from 429000 in the prior quarter due to high.
Our portfolio repayment activity.
Other income was $3 4 million up from $2 7 million in the prior quarter.
Net expenses, excluding the impact of the noncash reversal related to unwind of capital gains incentive fees were $47 5 million up from $40 3 million in the prior quarter. This was primarily due to the upward movement in reference rates, which increased our weighted average interest rate on average debt outstanding from four 3% to.
To five 6% and higher incentive fees as a result of this quarter's overrunning.
During 2022 base rates increased by approximately 425 basis points and the impact on earnings became evident in the back half of the year given the lag in reference rate resets for borrowers.
Given the low financial leverage embedded in BDC asset sensitivity has a larger impact than liability sensitivity and proved to be a tailwind for our business as we saw increased asset level yields drive return on equity for.
For a year characterized by spread income.
Rise in interest rates and wider spreads resulted in the business exceeding the upper end of our beginning year our own E. Adjusted net investment income target of 11, 5% or $1 92 per share for 2022.
Net unrealized losses, largely from the impact of spread widening experienced in Q2 on portfolio marks had a significant impact on our net income for the year, which we expect to unwind as credit spreads tightened or investments have paid off.
Based on our expectations for our net asset level yields the movement in reference rates cost of funds and financial leverage we expect to target a return on equity for 2023 of 13% to 13, 2%.
Using a year end book value per share of $16 39, which is adjusted to include the impact of our Q4 supplemental dividend.
This corresponds to a range of $2 13 to $2 17 for full year 2023, adjusted net investment income per share.
As we said we expect to over earn our $1 84 per share annualized base dividend in the near term and will continue to distribute over earnings to shareholders through our supplemental dividend framework.
With that I'd like to turn it back to Josh for concluding remarks.
Thank you and we believe we are transitioning from an era.
Era of easy money to new macro Super cycle that we believe will magnify volatility relative to relative to recent history.
With such volatility will come dispersion in returns and will elevate the importance of managements capabilities and skills.
The irony is however, even in low volatility and low rate environment return dispersion is already existed.
Now we can only expect it to increase.
Our rates for the foreseeable future will most definitely cause stress for certain borrowers followed by an uptick in defaults from the historical low levels. We have experienced more recently that being said, we anticipate credit issues to be heavily related to borrowers with weaker underlying business models and we're confident in the durability of our.
Portfolio companies.
We believe our track record of the past 12 years since inception supports our ability to continue to generate industry, leading returns for our shareholders. We have generated an annualized return on equity and net income since March since our March 2014, IPO of 13, 1%, we attribute a large portion of our success.
That our shareholders have enjoyed to our ability to over earn our cost of capital by avoiding credit losses and appropriately pricing spreads on investments had taken into account the cost embedded in our operating our business.
Main constructive on the opportunity set ahead of US we continue to experience elevated on yields on our assets. We expect credit costs remained low given our investment selection discipline and the health of our existing portfolio.
We began the year with significant liquidity and capacity to drive incremental.
Ro.
And are optimistic about opportunities to enhance our capital structure through the course of the year with that thank you for your time today operator, Please open the line for questions.
Thank you.
Do you have a question at this time. Please press star one on your telephone and wait for your name to be announced to withdraw. Your question. Please press star one again, one moment, while we compile our Q&A roster.
Our first question comes from the line of Mark Hughes with <unk>. Your line is open. Please go ahead.
Hey, Mark.
Yes.
Mark not sure it might be on mute.
Yes, my phone was on mute I'm, so sorry, good morning.
Good morning, Mark.
Yes. My question was how are you thinking about.
Fee revenue in 2023, you've given some good guidance on.
NII.
Curious what you basically see environment is going to be like.
Yes, it's a good question Mark it's really hard to tell because it's a function of.
Kind of repayment velocity, but just to give you some numbers.
In 2000, when we think about fee, if we think about it and basically.
I would say two categories.
Our three categories, which is.
Accelerated OID and prepayment fees.
Amendment fees other income.
That's historically been in 2022 those fees were.
Doesn't that about 37 per share in 2021, those fees were 47 within the math real quick about 50 456 cents per share.
In 2003, we actually in our guidance numbers.
They are significantly below those levels when we hit the pieces to be significantly below those levels.
That are embedded in our guidance so in our guidance numbers.
They are about <unk> <unk> per share so heavily weighted towards again another year of spread income if you see velocity.
The in the book.
Obviously.
Can be much much higher but.
It's significantly below.
22 levels in 'twenty one levels that's helpful.
Yes, no I appreciate the specifics there and then when you look at the curve you talked about keeping the base.
Dividend.
Ed.
46%.
Informed by you look out to 2025, how much Christian.
Just generally speaking do you still have over the dividend.
Over the next couple of years.
Yes.
Significant.
We just went through the math.
<unk> 2023, which 2023 has again, it's mostly spread income.
Our per share guidance is two.
230 to $2 17 based on our level is $84 84, so there's really a lot of cushion.
In 2024.
Similarly again.
We don't really model significant level, we think about upside in fee income as kind of be an upside to our guidance.
So in 2020 for those levels of fee income are basically the same.
And again our.
Base dividends of $1 84.
We see.
I think we're significantly above that as well so.
We knew we were going over the next couple of years, but we don't want to put ourselves in a position where we would have to cut the dividend. So we set the dividend where we know there are significant cuts in the next couple of years, we were just looking at the curve.
Sure.
Sure.
Yes, thank you very much.
Thank you and one moment for our next question.
Our next question comes from the line of Finian O'shea with Wells Fargo. Your line is open. Please go ahead.
Hi, everybody good morning.
A question on the large club deals.
Looks like we have one this quarter with.
Yes.
<unk>.
Not signaling and on that name.
But I don't think those are two typical for you.
So partake in.
You talk about the thresholds for what makes that kind of deal compelling as it is it company quality or or terms.
As to why you use or sell them.
They invest in those and then on the other downside, perhaps can you talk about.
The structural elements you do give up how much less control you might have and so forth.
Yes first of all good morning.
Hope you're doing well.
So look we've talked a lot about this.
Upper middle market.
And that large cap space has significantly changed given the environment we're in.
Pre.
12 months ago.
Obviously without looks competitive.
Offered little.
A little relative value compared.
Compared to the broadly syndicated market.
That's completely changed quite frankly.
Upmarket we find.
That the marginal capital fuels are able to drive better terms.
You need to finance larger companies that are at scale.
So as I think people know we've been involved in.
Most of those deals.
They have been announced including Emerson, which has yet to close which we are glad.
Max which has yet to close which we've led.
Tom.
In other words, so refinery with a lot of value.
Sure.
And that the marginal capital is able to drive.
And.
Any structural enhancements.
And so and then obviously given the macro you're financing those businesses in an environment, where you are you have a low rate environment.
And kind of unknown growth environment compared to historically, so we like the value that's being offered in that market.
Tradeoff is that they are.
You got to figure that you've got.
With Michael.
Like minded people in that document.
It works and we think so.
Bo anything to add there.
You had a specific question on what we'd give up I think.
Kevin.
The value of capital a lot of the term documents specific terms have gotten much tighter.
Upper middle market deal over the past six months and frankly are not all that different from what youre seeing in middle market document. So you have a large margin of safety low LTV a scale business.
Yes.
Well Mark yet.
Very attractive risk adjusted returns in this current environment.
Makes sense.
Yes.
Sure that's helpful. Thanks, so much.
Thank you and one moment for our next question.
And our next question comes from the line of Mickey <unk> with Ladenburg. Your line is open. Please go ahead.
Yes, good morning, everyone.
Josh in the fourth quarter, we continued to see middle market loan spreads widen which is obviously good for your financial performance, assuming the credit quality holds up but it is stressing borrowers as you mentioned in your remarks with interest coverage declining to $2 two so I'd like to understand.
When we think about those trends.
Is your outlook on how private lenders will behave this year in terms of spreads and the amount of leverage that are looking for on deals.
Yes.
I think when you look at the LCD first lien.
Second lien spreads actually tightened in Q4 slightly so.
But year over year that significantly widen which we've hit.
So I just wanted to I wanted to frame up.
We did not see so when you look at unrealized gains and unrealized losses.
They were they were negligible given that you actually had spread spreads tightened quarter over quarter slightly.
Look credit quality is top of mind.
At what point it was historically driven.
<unk> outperformance or underperformance, it's credit losses for the industry.
Then the biggest piece that drive.
You think about the unit economics of the sector return on assets.
As a point of differentiation, Steve and expenses are basically are near each other.
Financial leverage is near each other hopper leverages pin near each other so it's really return on assets and credit cost that ultimately drive returns in the sector and that's going to be a function of the portfolio.
That were built and that are in place now and we think our portfolio is differentiated and is robust.
Given the nature of those businesses, but.
It is in this economic environment, where you have slowing growth and higher rates you are most definitely going to have tails in credit.
We have yet to see those in our portfolio, but they are most definitely emerging.
And most definitely emerging.
In the broadly syndicated loan market.
It's all about credit through if I answered your question.
I appreciate that charge that's it for me this morning.
Thanks Ricky.
Thank you and one moment for our next question.
And our next question comes from the line of Kevin <unk> with JMP Securities. Your line is open. Please go ahead.
Hi, Good morning, and thank you for taking my question.
<unk> mentioned in his prepared remarks volatility in the public markets and the pullback from banks that has created an increased opportunity for direct letters to finance larger deal I'm just curious what your appetite is to actively syndications provider.
They generate additional fee income.
Yes.
Look when there is an opportunity surely we'll take advantage of that.
<unk>.
And.
So we will certainly take advantage of that that's historically been a relatively low level of attribution of our income I think over the years, it's been somewhere between at the high end.
If you look back five since 2013 in the low and zero this year.
So I mean, there is surely will be an opportunity I wouldn't lean in.
As a massive driver of outperformance of earnings.
Okay, that's fair.
And then last one utilize the revolver to repay the 2023 notes I'm just thinking about the right side of the balance sheet and your funding mix do you see additional opportunity to further optimize or diversify your funding profile in this environment and I guess, so what structure the most appealing.
Yeah, So Chris let me.
Take a step back.
Thank you.
I think we've done a really good job of this.
We've always built into the economics of our business. So it will be more liquidity than the rest of the space.
When you look at revolver size compared to assets.
As a metric or or.
Availability compared to unfunded commitments, we've always created flexibility. So we were never forced issuer.
And so when you look at our business model. This year, we have a lot of flexibility about when we issue if we issue.
In the unsecured market, which quite frankly, we think is the most attractive way.
To access markets.
Additional capital outside the revolver.
And but we have the flexibility to do so given how much liquidity.
We hold and that we burden the unit economics for our shareholders.
Pay for with really amazing when you take a step back is that we have generated outsized return on equity compared with space, we're holding more liquidity and pay for that liquidity option.
<unk>.
When everybody else in this space and I think that gives us a lot of flexibility. It gives us flexibility not to be a force issuer. It gives us the flexibility and COVID-19 to actually have liquidity to be able to invest in the market, which created outsized return on equity for the following two years.
And so we will most definitely be opportunistic, but how we built our balance sheet.
Created a whole bunch of flexibility that we think benefits.
Our shareholders.
There I think our flexibility and being willing to pay for that flexibility just really proved its worth I guess, it's now three years ago, and we like that model and we're comfortable with what that cost burdens as with <unk>.
Given the flexibility it affords us.
Yeah.
Okay that all makes sense I'll leave it there congratulations on a really nice quarter.
Thank you so much.
Thank you everyone.
Next question.
And our next question comes from the line of Anne Lee with RBC Capital markets. Your line is open. Please go ahead.
Hi, good morning, Thanks for taking my question.
I was wondering if you could talk a little bit more about the asset backed lending opportunities that you see over the near term.
Whether you could either be taking a more offensive or defensive stats around such opportunity just given the macro backdrop. Thanks.
Yes, we like that space a lot.
The base lithium space.
If you look at retail specifically.
We thought in Covid, there was going to be a significant opportunity that opportunity went away very very quickly. We did a couple of deals in COVID-19.
And then post COVID-19, given kind of what happened on a macro level, where the consumer is very strong consumers only can spend money by buying goods versus services or experiences.
In the retail space that meant that those companies have better earnings and better balance sheet than we ever had that is that is changing the consumer starting to weaken and retailer where because of the services.
Good we felt good and who have inventory.
Have less market share of the consumer's wallet and so we expect that sector to continue weakening which will provide an opportunity for us to provide capital into that space and so we like that.
Asset management intensive.
It's.
Which you.
You have to have a core competency is doing which we think we do but we think that opportunities that will grow and will continue to allocate capital to it where we find good risk adjusted returns.
Got you very helpful. There.
And then just one follow up if I may.
Within the portfolio non accrual rates are are still de Minimis wondering if you could talk a little bit more about what youre seeing in terms of.
Activity in the portfolio.
Compared to Covid, so no really significant or material.
Amendments.
Our key amendments related.
So for transition, which we think is most definitely positive.
From LIBOR all the new loans are LIBOR are software based.
But I would say from a credit perspective.
It's picked up a little bit but nothing material.
Got you very helpful. There. Thanks again.
Thank you and one moment for our next question.
Your next question comes from the line of.
Eric Zwick with Hovde Group. Your line is open. Please go ahead.
Thanks. Good morning, just a question on the pipeline it sounds like you've got pretty good visibility for at least the next six months curious if you could provide a little color into the industry mix in our pipeline today and if it's fairly consistent with the current portfolio or if theres any industries or sectors that you are.
Targeting are staying away from today.
Yes.
I'd say its too.
Distant with some outlier.
Emerson and industrial business, which is a little bit of an outlier for us. So we like that business a lot. We think Blackstone did a great job in buying that business.
I think it was really really interesting.
Which we lad.
And we think it's kind of mid cycle earnings.
In the capital structure built for this time.
<unk>.
So.
A.
Public.
Take private.
Again slightly different businesses.
As a satellite business, we like that business model, we like the visibility of revenues, we liked the sponsor a lot.
Well.
Mix and kind of our small energy stuff, but other than that we're mostly focused on business services and software.
But we have pretty good visibility in the pipeline.
Six months.
As you mentioned.
Thanks, I appreciate the detail there and one more quick one for me.
Where our floors are today Parker, new commitments were you able to put those in.
They are most definitely unfortunately I don't think.
We've been really pushing them up on their desk, most definitely in the 75 basis points to 100 basis points.
I think 80 basis points.
So the 75 to 100.
I wish we looked at we will be able to push them up but the market's not there yet.
Thanks for taking my questions today.
Thank you one moment for our next question.
And our next question comes from the line of Melissa Wedel with.
J J P. Morgan Your line is open. Please go ahead.
Thanks, Good morning.
Lot of my questions have been asked already but I thought it would be interesting to touch on just sort of the activity levels in four Q.
Certainly we were surprised by net exits during the quarter. So given that you are expecting a few larger exits already that you had talked about during the third quarter call I'm curious S.
Sure.
With some deal slippage into the first quarter or if that sort of commentary or how youre seeing the opportunities that right now.
Alright.
I totally get the question I think just so to put most of our activity in Q4, we knew in Q3 and we tried.
People on our Q3 call which was.
Front line.
Biohazard.
And I think there was a.
A couple more but those are the big drivers.
The Q on Q4 exits.
And Melissa.
Prepayment fees and amortization of upfront fees.
Yes.
Apologies if I my question wasn't clear Hey, guys.
What I was looking to explore a little bit more was the level of capital deployment during the quarter, especially since you knew about some of the larger asset.
The fact that.
It was a slower fourth quarter for you guys compared to previous years is that a function of deal slippage into the first quarter or is that really commentary on the opportunity set.
It's actually when.
When you look at our activity levels in Q4 I.
I would say they were very significantly up.
So the commitment we made in Q4 are way over our historical levels. They happen to be related to mostly take privates that have time periods on that will close in the first half of Q.
323, so the opportunities that was as strong as it's ever been.
Just happens to be that they were.
They were shaded large cap take privates, which have low regulatory process.
For that inventory to be turned into funded so that commitment to be turned into fundings.
Got it thanks, Josh.
Thank you.
And one moment for our next question.
Our next question comes from the line of Ryan Lynch with BBW. Your line is open. Please go ahead.
Hey, good morning.
I just had one question you talked about on one hand.
Kind of Big picture Youre cautious given.
The amex of inflation and the shift in monetary policy, and how that impacts growth, but on the other.
Can you talk about your portfolio being mostly in software business with high high variable cost structure and pricing power. So I'm just curious.
As you study your portfolio and monitor it closely at this kind of current change in.
Dynamic environment, what are some of the key metrics or trends that you guys are monitoring and is there anything that you guys are seeing thus far.
There's sort of a concerning trend.
No. So I think revenue growth was eight 7% for the quarter. We obviously look at revenue growth on an annualized basis. So <unk> growth is most definitely slowed although still positive we look at things such as gross margin churn.
Customer acquisition costs.
I'd say on the churn side flat quarter over quarter weaker on the customer acquisition costs by a little bit.
But the portfolio.
In pretty good shape and by the way.
People talk about things and averages it's kind of a.
The wrong way to think about it because youre kind of stuck with the tails.
And so when.
When you look at our portfolio and look at the tails, we feel pretty good that there is no significant tail, but Bo do you have anything to add on that.
That is.
We also look at bookings.
As an indicator for future revenue growth.
Soft real demand destruction in Q3, and we are closely monitoring Q4 across our portfolio, especially across the business services side early returns on the bookings.
Across the portfolio has been actually relatively strong in Q4 now there is a question that was just a lot of pull through demand that people are trying to get their budget spend.
This year, but that was the early indications are pretty positive on the booking side across the portfolio in Q4.
Okay.
Good to hear the other on just on that point I mean, we've seen.
I guess has your software companies have base started to I guess, if the fundamentals are fine. Maybe this is this is not a concern but have they started to reduce those.
Fixed charges.
Their business saw we've obviously seen a lot of.
<unk> happening in the public.
Software companies.
Which obviously shows the strength of the business has has your portfolio of companies started to make those shifts yet or has the business performed well enough that that's not really an impact.
I think in the tails, we have some that are starting to look at their cost.
We liked that encourage that look I think if you think about the environment. We're in post COVID-19 up until last year zero rate environment, everything kind of economically hurdle hurdled.
So.
You can make the math work for anything and so there was a lot of dollars spent and investment made that should have probably not been made across both public and private market.
Both on the investment side any inside companies.
I think on the margin you are seeing.
A little bit of people looking at their cost structure, obviously, not not the levels that you see big Tech but.
Most definitely.
And Jos episodic good management team.
So trying to get more efficient we would expect that the great thing about the business as they have very durable business model.
Yes.
Got you Okay. That's all for me. This morning I. Appreciate you Bryan just one topic, which I think you did hit on a little bit which is I think we talked about it a REIT script, but I think the space gets I think people get wrong, which is software businesses might have higher financial leverage, but less fixed charges given no capex.
And so you kind of have to look at leverage in a EBIT basis, or an EBITDA minus capex basis operating cash flow minus capex.
And when you look at that metric.
Yes.
This half.
Or on a leverage basis are in line or less than like the industrial space or specialty chemicals et cetera. So I think you have to burden.
<unk>.
<unk> cash flow by all fixed charges.
Just not fixed charges related to financial leverage.
Got you I understand the point.
Appreciate the time.
Thank you.
Thank you and one moment for our next question.
And our next question comes from the line of Robert Dodd with Raymond James Your line is open. Please go ahead.
Hi, everyone Ive got two questions. If I can the first one is all of that goes back to the guidance and kind of a follow up to Mark Hughes.
Answer to that I mean.
So the guidance Embeds 'twenty, two I mean, if I.
Look back the lowest full quarter period, you guys have ever had was 35, so that's still 50% higher.
Two.
And you've only had two quarters in the history of less than five right. So.
Youll being extremely conservative.
Or is your view that there is a high risk that 2020.
In 2023.
<unk> is even more disrupted than it was in 2010.
But we know activity levels would make sense so.
Is it a market view.
Thats informing that or is it just.
Being very conservative.
Yes, it's a.
Good question.
I think you've asked this question last year. So a similar question maybe last year.
Great.
We don't model activity, we don't really model activity level.
We've never historically.
We've updated guidance throughout the year based on activity level, but we've never model at the beginning of the year.
Just too hard it's based on credit spreads.
Factor based on credit spreads or some idiosyncratic things that happen in our portfolio.
If it goes or no we definitely model, but given that numbers are known and we don't model directional credit spreads that drive portfolio churn.
Never historically model it and so.
It's not model really this year as well.
When you look at activity levels, such as OID and prepayment fees I think the assumption is we use.
Two to three year portfolio turnover on an individual basis, which drive some level of those fees.
And hygiene markets.
The market has been environment.
Average portfolio like will be much lower activity level will be much higher and so we just don't model. So I don't think its a market view I think I said just now how we build our models that we have room, that's the upside.
And our.
In the model.
Because it's very difficult to model.
I appreciate that.
I really appreciate that commentary still really a market view, it's more about the second one.
If I can.
If you ask me to like.
Ill give you my best I would say that we're that there are the market will be bifurcated, which will be good companies will have access to capital in 'twenty, three 'twenty, four which will probably drive some activity level.
And people who have to deal with the tails, but credit spreads are starting to come in and <unk> seen it.
Q4, I think you've seen it year to date.
And so that is.
As a as a leading indicator of activity levels probably.
Portfolio turnover, increasing the entire book.
Understood and you don't have a lot of tails in your portfolio.
Thank you.
The other question.
After the repayment of the unsecured debt in January .
40% unsecured of your capital stack, which is which is acceptable like towards the lower end of what.
Once you've historically run in its towards the lower end of <unk>.
Agencies want et cetera, it's not going to go down again until November 2024, right, but.
Wet ones.
Do you feel on where you'd like that to be understand that right now, it's a pretty expensive environment current secured but.
Are you comfortable at 40.
Well I think we are I think look we built our balance sheet rebuilt or it's a function of how much revolver capacity. One has we have a ton of revolver capacity and liquidity and so we've paid for that and if burden in our economics.
It's been our economics in the sense that we pay commitment fees on the unused portion we've paid upfront fees on that and so we put in our.
And we like paying for that insurance that allow us to write our moment for the unsecured market is not as attractive although spreads have started to coming in significantly in the last two to three months.
So we'll be opportunistic will most definitely at the low end.
This portfolio growth a little bit lower because of our mix will be the marginal portfolio growth will be funded on the on the revolver on the secured side. So I wouldn't say it will be flat from here on out because that's too no portfolio growth.
Portfolio growth on a marginal basis will be funded with revolver, but we most definitely will be back in that market, we like that market.
I think we're one of two people in space, who have at least a triple b flat rating us in areas of the world.
We're one of the two higher rated people in the space.
And so we like that market, we have access to that market and we will most definitely be opportunistic, but we pay for and insurance.
So as we pay for it we're going to use it.
And we've priced that into our economic for our shareholders.
So hopefully I answered your question if you have anything to add.
I think it does answer the question just maybe more directly Robert we're pretty comfortable just given the options that we have available to us.
Got it.
That answered my question Vishal. Thank you.
Thank you and I'm showing no further questions and I'd like to turn the conference back over to Jos for any further remarks.
Great. So thank you so much for the interactive call.
We appreciate people getting on the new format of the call.
Visa visa wherever.
The changes or lack of dialogue, but we really appreciate it.
And we look forward to chatting people with people in the spring and I hope everybody has a.
Nice end of the winter in the beginning of this we will be back for our Q1 earnings call.
Thanks, so much thanks, everyone.
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 and lower Johan during Q&A, you can dial star one one.
[music].
Yes.
[music].
Okay.
Okay.
[music].
Yeah.
[music].
Okay.
Yes.
Sure.