Q2 2023 Main Street Capital Corporation Earnings Call
[music].
Greetings and welcome to the main Street Capital Corporation second quarter earnings Conference call.
Time, all participants are in a listen only mode.
A brief question answer session will follow the formal presentation.
What should require operator assistance I'll stop with that.
On your telephone keypad.
As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host backbone at Dennard Lascar Investor Relations. Thank you Sir you may begin.
Thank you operator, and good morning, everyone. Thank you for joining US for main Street capital Corporation's second quarter 2023 earnings Conference call. Joining me today with prepared comments are Duane Hughes, Chief Executive Officer, David Macdonald, President and Chief Investment Officer, and Jesse Morris, Chief Financial Officer, and Chief operating Officer.
Also participating for the Q&A portion of the call as Nick, Missouri, Managing director and head of main Street's private credit investment group.
Main Street issued a press release yesterday afternoon that details the company's second quarter financial and operating results. This document is available on the Investor Relations section of the company's website.
Maine S T capital Dot com.
A replay of today's call will be available beginning an hour after the completion of the call and will remain available until August 11th.
Information on how to access the replay was included in yesterday's release.
We also advise you that this conference call is being broadcast live through the Internet and can be accessed on the company's homepage.
Please note that information reported on this call speaks only as of today August 4th 2023, and therefore, you're advised the time sensitive information may no longer be accurate at the time of any replay listening or transcript reading.
Today's call will contain forward looking statements. Many of these forward looking statements can be identified by the use of words, such as anticipates believes expects intends will should may or similar expressions. These statements are based on management's estimates assumptions and projections as of the date of this call and there are no.
Ts of future performance.
Actual results may differ materially from the results expressed or implied in these statements as a result of risks uncertainties and other factors, including but not limited to the factors set forth in the company's filings with the Securities and Exchange Commission, which can be found on the company's website or S. E C Dot Gov.
Main Street assumes no obligation to update any of these statements unless required by law.
During today's call management will discuss non-GAAP financial measures, including distributable net investment income or D. NII.
D NII as net investment income or NII as determined in accordance with U S generally accepted accounting principles or GAAP excluding.
Excluding the impact of noncash compensation expenses.
Management believes that presenting D NII and the related per share amount.
Our useful and appropriate supplemental disclosures for analyzing main street's financial performance since noncash compensation expenses do not result in net cash impact to main street upon settlement.
Please refer to yesterday's press release for a reconciliation of these non-GAAP measures to the most directly comparable GAAP financial measures.
Two additional key performance indicators that management will be discussing on this call our net asset value or an Eva and return on equity.
Or Aro <unk>.
N. A V is defined as total assets minus total liabilities and is reported on a per share basis.
Main street defined ROE is the net increase in net assets, resulting from operations divided by the average quarterly total net assets.
Please note that certain information discussed on this call, including information were related to portfolio companies was derived from third party sources and has not been independently verified.
Now I'll turn the call over to main Street's CEO Dwayne.
Thanks Jack.
Morning, everyone and thank you for joining us today.
We appreciate your participation on this morning's call and we hope that everyone's doing well.
On today's call I'll provide my usual updates regarding our performance in the quarter, while also providing updates on our asset management activities, our recent dividend declarations.
Our expectations for dividends going forward.
Our current investment pipeline.
And several other noteworthy updates.
Following my comments, David and Jessica will provide additional comments regarding our investment strategy.
Desperate portfolio.
Financial results.
Capital structure and leverage and our expectations for the third quarter after which we'll be happy to take your questions.
We're very pleased with our performance in the second quarter, which was highlighted by a return on equity of 19, 2% and includes new quarterly records for NII per share D NII per share and NAV per share for the fourth consecutive quarter.
Our strong performance included continued positive results from our lower middle market and private loan investment strategies and significant contributions from our asset management business.
These results demonstrate the continued and sustainable strength of our overall platform the.
The benefits of our differentiated and diversified investment strategies.
The unique contributions of our asset management business and the underlying strength and quality of our portfolio companies.
We're also pleased that we continue to maintain an attractive investment pipeline in both our lower middle market and private loan investment strategies in this attractive investment pipeline together with our conservative liquidity position and capital structure provides us a continued favorable outlook for the third quarter.
Our D NII in the second quarter exceeded the monthly dividends paid to our shareholders by 66% and the total dividends paid to our shareholders by 24%.
This strong performance allowed us to deliver significant value to our shareholders, while still conservatively retaining a meaningful portion of our income and growing our NAV per share.
These positive results and our favorable outlook for the third quarter resulted in our recommendations to our board of directors for our most recent dividend announcements, which I'll discuss in more detail later.
Our NAV per share increase in the quarter due to several factors, including our attention of the excess NII per share above our total dividends paid in the quarter.
The impact of fair value increases in our investment portfolio.
And the accretive impact of our equity issuances in the quarter.
Our lower middle market portfolio companies continue to our overall favorable performance, which resulted in another quarter of net fair value appreciation and strong dividend income contributions from our equity investments in this portfolio.
As we look forward to the next few quarters, we remain excited about the benefits, we expect certain of our lower middle market portfolio companies to realize from the acquisitions. We have completed over the last 12 months largely funded by follow on debt investments. We made in those portfolio companies and we expect to see additional fair value appreciation in these portfolio companies in the future.
We've also seen an increase in potential exit activities in our lower middle market portfolio that could lead to favorable realizations over the next few quarters.
We're pleased with our investment activity in the second quarter, which included total lower middle market investments of $131 million and investments in three new portfolio companies.
These investments were offset by increased repayments, we received on several debt investments and a full exit of our investments in two lower middle market portfolio companies.
This investment activity resulted in a net decrease in the cost basis of our lower middle market investments of $7 million.
We were also pleased with our private loan investment activities in the quarter, which included total investments of $168 million.
We also received increased repayments and realized a loss on a private loan investment during the quarter, resulting in a net decrease in the cost basis of our private loan investments of $11 million.
We've also continued to produce attractive returns on our asset management business.
The funds, we manage through our external investment manager continued to experience favorable performance in the second quarter.
This positive performance resulted in significant incentive fee income for asset management business for the third consecutive quarter.
And as a result, we received a significantly higher contribution to our net investment income from our asset management business.
We remain excited about our plans for these external funds that we manage as we execute our investment strategies and other strategic initiatives and we are optimistic about the future performance of the funds and the attractive returns we are providing to the investors of each fund.
We also remain optimistic about our strategy for growing our asset management business within our internally managed structure and increase in contributions from this unique benefit to our main street shake stakeholders.
As part of this growth strategy, we're happy to update that we've made meaningful progress on our next private loan fund and we are planning to have our first closing for the fund before the end of the third quarter.
We look forward to sharing additional details and updates on the New fund on our next conference call.
Based upon our results for the second quarter combined with our favorable outlook in each of our primary investment strategies and for our asset management business.
Earlier this week, our board declared a supplemental dividend of $27.05 per share payable in September representing our largest and eighth consecutive quarterly supplemental dividend.
Our board also declared an increase in our regular monthly dividends for the fourth quarter of 2023 to 23 and a half cents per share payable in each of October November and December .
Representing a six 8% increase from the fourth quarter of 2022.
The increase supplemental dividend for September as a result of our strong performance in the second quarter.
This resulted in DNI per share, which exceeded our regular monthly dividends paid during the quarter by $44.05 or 66%.
Sep timber 2023 supplemental dividend will result in total supplemental dividends paid during the trailing 12 month period of 77, and a half cent per share representing.
Representing a 22% increase over the June 2023, supplemental dividend and an additional 29% paid to our shareholders in excess of our regular monthly dividends and significantly increasing the current yield we're paying to our shareholders.
Our D NII per share for the second quarter exceeded our total dividends paid by 'twenty two cents per share or 24%.
We are pleased to be able to deliver the significant additional value to our shareholders. While also maintaining a significant portion of our excess earnings to support our capital structure and investment portfolio against risks from the current economic uncertainties that may be realized in the future and to further enhance the growth of our NAV per share.
We currently expect to recommend that our board continues to declare future supplemental dividends to the extent D. NII significantly exceeded our regular monthly dividends paid in future quarters.
And we maintain a stable to positive.
Based upon our expectations for continued favorable performance in the third quarter.
We currently anticipate proposing an additional supplemental dividend payable in the fourth quarter of 2023.
Now turning to our current investment pipeline.
As of today, I would characterize our lower middle market investment pipeline as average.
Despite the current broad economic uncertainty, we continue to expect to be active in our lower middle market strategy.
Consistent with our experience in prior periods of broad economic uncertainty, we believe the unique and flexible financing solutions, we can provide to lower middle market companies and their owners and management teams and our differentiated long term to permanent holding periods should be an even more attractive solution in the current environment and should result in very attractive.
Investment opportunities for us.
We are excited about these new investment opportunities and we expect our current pipeline will be helpful. As we work to maintain our positive momentum from the last several quarters.
We also continue to be very pleased with the performance of our private credit team and a significant growth have provided for our private loan portfolio and our asset management business.
And as of today I would also characterize our private loan investment pipeline as average.
With that I'll turn the call over to David.
Thanks, Dwayne and good morning, everyone.
As Dwayne highlighted in his remarks, we believe our strong second quarter financial results continued to demonstrate the strength of main street's platform, our differentiated investment approach and our unique operating model.
We are pleased to report that the overall operating performance for most of our portfolio companies continued to be positive, which contributed to our attractive second quarter financial results.
As we've discussed in the past the largest portion of our investment portfolio and the primary driver of our long term success has been and continues to be our focus on the underserved lower middle market and specifically our strategy of investing in both the debt and equity and lower middle market companies.
Our view on the attractiveness of investing in lower middle market remains unchanged and we expect this to continue to be our primary area of focus in the future.
Each quarter, we try to highlight key aspects of our investment strategy and differentiated approach.
For today's call, we thought it would be useful to spend some time on our private loan investment strategy, which is the second largest part of our investment portfolio and is the primary driver of our asset management business.
This strategy has grown significantly over the last several years and principally represents investments in the senior secured debt of private equity sponsored businesses.
Our private loan investments are primarily originated directly by our internal investment professionals through strategic relationships with private equity firms and their capital market intermediaries.
Our private loan investments are typically first lien debt investments with attractive yield profiles and <unk> and favorable terms.
As of quarter end, 99% of our private loan secured debt investments are first lien loans and 98% bear interest at floating interest rates, which have an attractive weighted average yield of 12, 6%.
Over six years ago, we announced our strategic decision to dedicate significant resources towards growing our private loan portfolio, while deemphasizing, our middle market portfolio, which as a reminder, our typically syndicated loan investments in larger companies.
We set a goal of growing and growing our private loan portfolio to a greater percentage of our assets and our middle market portfolio, which seemed ambitious at the time since the middle market portfolio was almost double the size of our private loan portfolio.
During this period of repositioning we're also deliberate and setting a goal to maintain our emphasis on our lower middle market portfolio and growing our lower middle market portfolio to approximately 50% of our total assets at fair value.
From year end 2016 through the second quarter of this year, we have increased the total fair value of our private loan portfolio by 337% and from 17% of our total portfolio at fair value to 35%.
Over the same period of time, we reduced the total fair value of our middle market portfolio by 53% from 32% of our total portfolio at fair value to only 7%.
We also increased the total fair value of our cornerstone little lower middle market portfolio by 143% and today, the lower middle market portfolio represents 52% of our total assets at fair value, which is above our target. When we started this initiative.
Our purposeful and intentional strategic shift to grow our private loan portfolio was primarily driven by our belief that an attractive and growing direct lending environment would exist in the future and that private loan investments provided a more attractive risk adjusted return profile then in middle market investments.
Today, the weighted average yield in our private loan portfolio is meaningfully higher than in our middle market portfolio, but even more important in higher yields we are confident that our underwriting process and more favorable contractual terms and conditions of a private loan investments will provide significantly better returns net returns after credit losses than in the investments available to us in the middle.
Market investment strategy.
Based on the capabilities and relationships of our private credit team. The overall growth of our private loan portfolio platform and the strength of our deal flow Main Street has also benefited from our ability to utilize our private loan investment strategy to grow our asset management business.
Through our external investment manager, our private loan strategy effectively allows mainstreet to leverage our investment professionals time, and our platform to benefit from the attractive fee based income we received from third party clients. While at the same time, providing highly attractive investment opportunities and returns for those clients.
Now turning to the overall composition results from our investment portfolio as of June 30th we continued to maintain a highly diversified portfolio with investments in 195 companies spanning across more than 50 different industries, among our lower middle market private loan and middle market portfolios.
Our largest portfolio company represented three 1% of our total investment portfolio fair value at quarter end and 4% of our total investment income for the last 12 months.
<unk> already of our portfolio investments represented less than 1% of our income and our assets.
Despite the continued increases in benchmark interest rates, the vast majority of our lower middle market private loan and middle market portfolio companies have interest rate coverage and debt service coverage ratios calculated on a pro forma basis for current interest rates as of July 1st well above one times and we continue to be confident in their ability.
To service their debt obligations today and in the future.
In addition, and as a reminder, our lower middle market portfolio companies are predominantly fixed rate debt investments and therefore are not impacted by increasing market index rates.
Our investment activity in the second quarter included investments in our lower middle market portfolio of $131 million, which after aggregate repayments on debt investments return of invested equity capital unrealized losses resulted in net decrease in our lower middle market portfolio of $7 million.
Driven by the capabilities and relationships of our private credit team that I. Previously discussed we also completed a $168 million in total private loan investments, which after aggregate repayments of debt investments return of invested equity capital unrealized losses resulted net decrease in our private loan portfolio of $11 million.
Finally during the quarter, we had a net decrease in our middle market portfolio of $39 million as we continue to deemphasize this strategy.
At the end of the first quarter, our lower middle market portfolio included investments in 79 companies representing over $2 $2 billion of fair value, which is over 26% above our cost basis.
We had investments in 88 companies in our private loan portfolio, representing $1 5 billion at fair value.
In our middle market portfolio, we had investments in 28 companies representing $296 million of fair value.
The total investment portfolio at fair value of quarter end was 113% of the related cost basis.
Additional details on our investment portfolio at quarter end are included in the press release that we issued yesterday.
In summary main streets investment portfolio continues to perform at a high level and deliver on our long term results angles.
With that I will turn the call over to Jesse to cover our financial results capital structure and liquidity position.
Thank you David as Duane and David mentioned, we're very pleased with our operating results for the second quarter.
Our total investment income in the second quarter increased by $42 4 million or 50% over the same period in 2022, and $7 3 million or six 1% over the first quarter 2023 two.
To a total of $127 6 million and.
And included strong performance from each of our income components.
Interest income increased by $33 3 million or 52% from a year ago, and $3 9 million or four 2% over the first quarter.
We estimate that the increases in benchmark index rates drove approximately 40% of the increase from the prior quarter and about half of the increase from the prior year with the remainder driven primarily by the continued growth in our dead investments.
Dividend income increased by $7 7 million or 43% from a year ago, and $1 4 million or five 7% over the first quarter.
This represents the second consecutive quarterly record for dividend income and demonstrates the continued strong performance of our lower middle market portfolio companies and the external investment manager.
Fee income increased $1 4 million from a year ago and $2 million over the first quarter driven by closing fees on new and follow on investments and repayment activity.
The second quarter investment income included elevated dividends and accelerated prepayment or other activity that are considered less consistent.
In the aggregate these were $2 4 million above the average of the prior four quarters and $2 7 million lower than the first quarter.
Our operating expenses increased by $11 4 million over a year ago, largely driven by increases in interest expense and compensation related expenses, partially offset by an increase in expenses allocated to the external investment manager.
Interest expense increased by $9 5 million over the prior year, driven primarily by increases in benchmark index rates.
The addition of new debt obligations at higher interest rates.
Combined with an increase in average outstanding borrowings to fund our investment activity.
To support the growth of our investment portfolio.
Cash compensation expenses increased by $1 6 million over a year ago, driven primarily by increases in incentive compensation accruals as a result of our positive operating performance and increased head count to support higher levels of investment activity.
Assets under management.
Noncash compensation expenses increased by $2 2 million from a year ago, including increases in share based compensation and deferred compensation expenses.
The ratio of our total operating expenses, excluding interest expense as a percentage of our average total assets was one 4% for both the quarter and the trailing 12 month period.
<unk> to be amongst the lowest in our industry.
Our external investment manager contributed $8 5 million to our net investment income during the quarter, an increase of $3 4 million from a year ago.
Zero point $5 million for the first quarter.
The manager earned $3 7 million in incentive fees during the quarter, an increase of $3 6 million from a year ago.
Zero point formulary over the first quarter as a result of the positive performance of the assets under management.
And ended the quarter with total assets under management of $1 4 billion.
During the.
We recorded a net fair value appreciation, including net realized losses and net unrealized appreciation on the investment portfolio of $29 4 million.
We recorded net fair value appreciation of $22 7 million in our lower middle market portfolio, which as Dwayne mentioned whats driven by the continued positive performance of our portfolio companies.
We recorded net fair value appreciation in our private loan portfolio, <unk> 6 million and net fair value appreciation of $4 5 million in our middle market portfolio.
With a positive contribution from changes in market spreads and quoted market prices improved performance from certain historically underperforming companies offset by depreciation due to underperformance of certain portfolio companies.
We also recognized $1 3 million of appreciation in the fair value of our external investment manager driven by increased revenues, partially offset by a decline in peer multiples.
We recognized net realized losses of $75 $5 million in the quarter.
The realized losses recognized were primarily the result of the exit or restructuring at several longstanding underperforming investments, partially offset by realized gains on the exits of lower middle market investment in a private loan investment.
The vast majority were approximately 90% of the unrealized depreciation related to the investments for which we realize a loss in the second quarter was recognized prior to this year and approximately 45%.
The unrealized depreciation was recognized in 2021 or prior.
When looking specifically at the impacts of the second quarter. These realized losses were completed at a net realize fair value of $2 3 million greater than the fair value for such investments at the end of the first quarter of 2023.
We ended the first quarter with nine investments on non accrual status comprising approximately 0.3% of the total investment portfolio at fair value and approximately one 7% at cost.
Each represent a meaningful reduction from the 13 investments on non accrual status.
Pricing approximately 0.6% of the total investment portfolio at fair value and approximately three 2% at cost as of the end of the first quarter.
And NAV per share increased by 46, or one 7% or was the end of the first quarter and by $2.32 or nine 1% when compared to a year ago to a record $27 69 at June 32023.
We continue to believe that our conservative leverage strong liquidity and continued access to capital our significant strengths that have us well positioned for the future.
Our regulatory debt to equity leverage calculated as total debt, excluding our Sps debentures.
<unk> net asset value was <unk> 75, and our regulatory asset coverage ratio was 234 at quarter end and are intentionally slightly more conservative than our target range of 0.8 to 0.9 times and $2 one to 2.25 times respectively.
During the quarter, we continue to be active in our at the market program raising a net 43 million from equity issuances.
We ended the quarter with strong liquidity, including cash and availability under our credit facilities of $726 million.
We believe that this provides us with ample liquidity to continue to be opportunistic and pursue attractive investment opportunities throughout 2020.
23.
While continuing to maintain a conservative leverage profile.
In July we expanded the commitments on our corporate facility, but $15 million to 995 million under the same terms and conditions as the existing commitments.
The expanded commitment came from an existing lender the facility, which we greatly appreciate and believe it was a strong vote of confidence.
Sure.
Return on equity for the first quarter and six months ended June 30th were 19, 2% and 17, 1% on an annualized basis respectively.
For the trailing 12 month period ROA was 16, 7%.
All of these are above our long term targets, which we believe represent strong results compared to the industry.
DNI for per share for the quarter was a record $1 12 per share an increase of five or.
Four 7% over the first quarter and 34 cents for 30.
30% over the same period a year ago.
The combined impact of certain investment income considered less considered less consistent or nonrecurring in nature to DNI was <unk> <unk> per share above the average over the last four quarters and <unk> <unk> per share.
But at the same quarter a year ago.
The impact to NII, which include these items together with deferred compensation expense was <unk> <unk> per share above the average.
Over the last four quarters in the same quarter a year ago.
<unk> per share exceeded the total regular monthly dividends per share paid to our shareholders in the second quarter by 44, five cents or 66% and our total dividends per share by 'twenty two.
Our 24%.
As Dwayne mentioned, given the strength of our operating results and the outlook for 2023, our board approved an increase to our monthly dividends to $23.05 per share for the fourth quarter of 2023. The second increase this year and a supplemental dividend of $27.05 per share payable in September .
2023, our eighth consecutive and largest quarterly supplemental dividend.
The total monthly in supplemental dividends declared for the third quarter 2023, or 96, five cents per share representing a seven 2% increase over the total dividends paid in the second quarter 2023.
And a 30% increase over the total dividends paid in the third quarter of the prior year.
Looking forward given the strength of our underlying portfolio. We expect continued strong performance in the third quarter of.
2023 with expected <unk> per share of 98 to $1 per share.
With the opportunity to exceed this level driven by the level of dividend income and portfolio investment activities during the quarter.
With that I will now turn the call back over to the operator, so we can take any questions.
Thank you we will now conduct a question answer session if you'd like to ask a question. Please press star one on your telephone keypad.
Information indicate your line is in the question queue.
You May press Star two if you would like to remove your question from the queue.
Participants using speaker equipment, it may be necessary to pick up your handset before.
Archie.
Once again star one to ask a question at this time.
One moment, while we poll for our first question.
Our first question comes from Bryce Rowe with B Riley. Please proceed.
Yeah.
Thanks, a lot good good morning.
Let's see wanted wanted to maybe start on.
On the supplemental Duane I mean, you all highlighted.
The record level for the supplemental here.
In the next quarter.
Just curious how youre, how youre thinking about kind of formula lately coming coming to that level.
And thinking about kind of future quarters.
How to how to size it up relative to what you have paid out.
Over the last few quarters.
Sure Bryce good morning, and thanks, Thanks for the question.
What I would say is that when you when you look at it and I think we've given some of these guidance before.
We are funding the supplement are determining the supplemental based upon the excess D. NII above the monthly obviously as you know when you look at the numbers, we're still retaining a significant amount of the excess for our NAV and for just for conservatism purposes. So I think we feel really good about where.
When we set the supplemental in terms of it being <unk> being a conservative number relative to performance as well as something that going forward, we have good visibility and confidence and we will continue to pay a meaningful supplemental not guaranteeing is going to be $27 <unk> per share going forward to that as in the second quarter is a really really good corner, but we do have confidence in it will continue to be a.
A meaningful contribution to our shareholders from a from a dividend standpoint.
Okay, that's great.
And then maybe kind of changing gears here a little bit.
Your comment.
Around potential exit.
And an exit exit.
<unk>.
Can you can you help us kind of think about maybe dis.
The pace and maybe whats driving some of the some of the exit activity I don't know if we've seen her.
That that type of comment from other Bdcs, maybe it's the fact that you play in.
Smaller markets and some of them some of the exit activities not necessarily kind of market driven it is going to be company specific.
Sure Brian we wanted to highlight it because we agree with you that it's probably a little bit of an anomaly or an outlier versus what others may be saying, we do believe that we've got a very very high quality portfolio of companies, specifically equity investments in the lower middle market.
So part of it is we have these companies performing well in several of the companies have gotten some interest from third parties and those third party interest I'd gotten is calls us and the other equity owners and the management teams of those businesses to take a look at it. So we're obviously there is a very uncertain environment, both on the capital market side and just on the overall economy side of things.
So we can't really predict whether any of those transactions, we will move forward and close but we are seeing more and more activity than we had seen in the last couple of quarters, which is why we wanted to highlight in our prepared comments.
Great and then last one for me.
A bit of cleanup activity with with some of the longer standing underperformers.
Was that kind of a matter of just.
Timing thing's going to happen when they did or would you describe that as more kind of intentional and trying to again quickly.
Clean up some of the some of the some of the non performers.
I'd say it was more of the former price some of these some of these transactions. When you look at the legacy underperforming investments several of those were transactions, where we are not the lead or even the most significant investors. So in some to some extent, we're along for the ride in terms of determining how and when a restructure or exit happens either a couple.
Couple of transactions, where we did have more influence, but I would say that when you look at most of those items. They were things that were largely largely out of our control. When we had we had involvement but not not control over it and we just had to wait for some process. When there was a sale process of restructuring or some other transaction to work its way.
Through to a final transaction before we can recognize those realized losses, but I think Jesse highlighted in his comments most of the depreciation was taken not just in prior quarters and really in prior years. So these were some longstanding underperforming companies then we finally, you've got some resolution on in the quarter.
Yep Yep Okay.
Great I'll jump back in queue I appreciate the time this morning, Thanks Bryce.
The next question comes from Robert Dodd with Raymond James. Please proceed.
Hi, guys congrats on.
In the quarter.
The lower middle market pipeline, where you calculate.
Can you give us any color on what.
That type of kind of how much is it.
<unk> is looking like it's add on acquisitions, which you have capital.
<unk> companies may be looking to make acquisitions and that is that a greater than average share of the average pipeline or is it just kind of ticking along at a normal mix for add ons.
Yeah.
Sure Robert Thanks for the question and good morning.
I'd say that when you look at the pipeline we were excited about the pipeline one because we think the volume or the size of of.
Our pipeline both in terms of number of companies and dollar amounts of potential investment are both strong and our numbers are in line with what we would want them to be to your point on the follow on versus new investments. I think this has been a trend we've talked about for the last couple of years really going back to 2019, and 2020 and to some extent it's intentional on our side. We are seeing are consistent.
Consistent amount of that pipeline rep.
<unk> represented by follow on investment opportunities in our existing portfolio companies, which as you've heard us say in the past from a risk reward standpoint, we really value those those opportunities because there with our better performing companies management teams in.
You industries, we know well having been an investor in those companies for some period of time. So when we have an opportunity to deploy additional capital one we value it significantly because we think it's a really good investment and then when you look at our our equity investment in those same companies. It gives us an opportunity for significant fair value appreciation in the future, which has been one of the things we've seen from <unk>.
Couple of quarters for the companies that have made acquisitions over the last 12 or 18 months. So we think it's a good high quality pipeline in terms of the types of companies and to your point. It is a a good mix from <unk>.
Our perspective in terms of new investments as well as follow ons, obviously, if David wants to add anything to that to that commentary on the pipeline. Yeah. The only thing I'd add is that certainly we're pleased with some of the increased activity in our in our add ons over time.
But we also have a nice mix of platform opportunities here in the platforms today make the add ons in the future. So we do have a nice mix and consistent with our strategy the minority equity.
A portion of that has really taken some steam today's market conditions and those transactions fit us, particularly well and I'd say last thing is just on the one stop shop type of.
<unk> that we provide the intermediaries are really appreciative of knowing that we've got a non contingent financing in this environment. So we feel like it's a really good way to lead.
Got it I appreciate the color on that.
And then on the.
The leverage I think you said that it intentionally conservative.
As you talk.
Quite separate pipe right now.
Could you give us any color on why you'll be well tend to be conservative right now I mean, I would think it would be.
The pipeline was really strong.
Richard in your reserves and capital all you were worried about the economy, but neither of those things seem to be the case. So so why are you intentionally conservative like now.
Sure Robyn I'll give some initial comments and then Jeff you can add on if he if he has some additional points to you to make what I would say is we're always we've always valued our conservative capital structure and strong liquidity positions. We do expect even though we gave guidance that both the lower middle market and.
Private loan pipelines, our average we do expect to be active not just in the next quarter, but for the next couple of cornerstone, we're preparing for that opportunity from a from an investment standpoint, and we also do.
Knowledge that we have a maturity in may of 2024, so we're intentionally making sure that we have as much flexibility and as many options as possible to deal with that maturity in 2024. So those would be the key factors I'll, let Jesse has some other comments you want to add on that.
I think he covered Duane I mean, it's as these hedges having the flexibility in core as you know from our prior comments is having a very strong balance sheet.
Has been a core strategy for us.
Particularly in these times.
Got it thank you.
Thank you Robert.
The next question comes from Mark Hughes with <unk>. Please proceed.
Yes. Thank you good morning, good morning, Mark.
In the asset management business.
Hey, how you are going to be closing the private loan pretty shortly.
You kind of refresh me on the cadence you expect.
Grow.
The size of this fund.
How it compares to earlier.
Do you expect that cadence to accelerate.
Deal flow deal market opens up.
Sure sure market I'll give you a couple of them.
Reference points, just as reminders and it will help guide our expectations for the second fund. So the first private loan fund that we have we raised just over $100 million of limited limited partner equity capital when.
When you take that $100 million you put some leverage on it you get to just over $200 million from a from a maximum investment capacity.
That that fund is performing very very well as we as we gave in our earnings release and in our commentary.
When you look at <unk>. Our goal is to have it be at least the same size from an equity standpoint with the goal being that we increase the size to be larger than the $100 million of LP equity capital. Obviously todays environment is there's a lot of uncertainty and a lot of moving parts. So I think that our ability to increase above the 100 million.
The level of equity.
Somewhat impacted by the overall market, but we feel confident that we're going to be able to achieve that goal and then our other.
Big catalyst will be how much institutional investor interest in participation can we get in that new fund and that will really drive you drive the upside opportunity to it.
Be significantly larger than the $100 million level.
Let me know if that answers your question Mark if you'd like me to give some additional details there.
If you could tell me a little about the future that would be agreed to.
He is progressing is this an annual event.
How should we think about it.
Sure. So maybe to give some color to that first fund because I think if we achieve our goals. We would expect to have similar performance from a ramp standpoint as the first fund. So the first one we closed the fund raising in February March of 2022 and were effectively fully invested in that fund today.
If you look at that type of a timeframe. If we're successful and again there could be movement, obviously based upon market conditions and our ability to be successful in sourcing new investment opportunities and I think we have a high level of confidence in our private credit teams ability to do that we would expect to be having a cadence of a new fund.
18 to 36 months I know, that's a pretty wide range, but that will be.
Impacted by the marketplace as well as how large of a.
Capital raising we successful in raising with the second fund if it's larger you that time period could get a little bit extended.
It's more similar in size to the first fund we would be on the front end of that from a timeline standpoint.
And then maybe just a big picture question.
Lot of our BDC peers talking about there.
Corporate structure, the parent related companies that give them very good deal flow.
You talk about how you compete with your alright, good loan strategy in that context, how you were able to differentiate.
Be successful.
Sure I'll give a few comments and I'll, let let Nick meserve who's in the room with US who leads our private credit investment strategy and our private credit team can give some additional comments, but I would say when you compare us to the really large platforms.
We are in different parts of the marketplace from our perspective, so do we see some of those players from time to time, we might but they are not the regular competitors. When we're looking at our private loan strategy, our private loan investment activity. So we don't really view.
Our platform relative to some of the really big guys is a disadvantage in that marketplace frankly, we view it as a positive from our perspective, because the types of transactions that we're executing.
In our private loan strategy.
They fit is really really well from a size standpoint, and they wouldn't fit some of the other players as well. So when you look at it from a competitive landscape.
Standpoint, even if the big guys were interested they're going to be interested in a much larger investment and we are so they may pay some attention to the transactions, we're participating in but it's not going to be the priority from a competitive standpoint, but I'll, let nic give any additional color. He wants to he wants to add the thing I'd add to that would be also how we source our transactions.
Bringing them in from either wealth advisers or banking relationships, it's mainly direct from the sponsors or through intermediaries. They hired to find financing. So those two are our main channels of finding activities with directed sponsor being preferred and then the intermediaries or theres five or six that kind of run most of the smaller of the market.
And we're going to get them on a weekly basis to source new transactions.
That's an area that we have that it doesn't really matter, whether you've got a bigger platform.
Sourcing different transactions, because we're really really focused on a certain size and a certain type of transaction that fits us.
Thank you I appreciate it.
Thanks Mark.
The next question comes from Vilas Abraham with UBS. Please proceed.
Everybody. Thanks for the question just to dig in a little bit more on that 50% target on the lower middle market portfolio can you put any kind of timeframe around that and I think the private loan portfolio of about.
35% to 40% now is there is there a level that you want to see that grow to over a certain amount of time as well.
Sure. So I'll take a stab at answering the question you can tell me if we don't that we don't cover it completely but our long term goal is to have the lower middle market portion of our investment portfolio.
About 50% I think realistically moving into 55 or 60 over a long period of time is a good goal.
Over time, when you look at the private loan and middle market portfolios.
We have been and will continue to shrink the middle market as a percentage of the total portfolio as well as just the absolute dollar and that portion of our portfolio will move to growth of both lower middle market and private loans on a perfect world whatever time period, you want pick out five or 10 years into the future.
Middle market will be there.
It'd be something there, but it would be it would be less than what it is today and you will see increases in both the lower middle market and the private loan portions or percentages of the overall portfolio.
Let me note that if that gives you what you were looking for.
Okay. So the message that I'm like leaning into private loan right. Now is more is more tactical and then kind of long term.
These are still where you have been in terms of how youre thinking about that.
The private loan investment strategy for us is very important to our business as a whole both FERC for our balance sheet and for our asset management business. When you look at our asset management business today, it's not exclusively private loan, but if you look at the growth the growth of the asset management business is if not exclusively private law.
It's the vast majority of it so when you look at the Mainstreet platform as a whole private loan is and will continue to be a big big part of our our investment strategy and activities, but when you look at main streets investment portfolio and our balance sheet, specifically youre going to continue to see more lower middle market than you would private loan, but I would say the private loan.
A portion of our balance sheet going forward, we do not expect that to shrink the piece that we expect you to decline or decrease going forward as the middle market portion of our existing portfolio and both the lower middle market and private loan portions of the main street investment portfolio on our balance sheet will both continue to increase going forward.
Okay Thats helpful.
Can you talk a little bit about EBITDA growth trend.
Portfolio companies.
Where are you seeing things now versus.
A year ago and are there certain industries that maybe decelerating a little bit more than others any color there would be great.
Sure I'll give some comments and David can add on if he wants to add some additional comments, but I'd say we.
We continue to view that the performance of our companies broadly are kind of across the portfolio is very good.
Can see that in our appreciation and changes in fair value appreciation you can also see it in the dividend income.
When you look at individual industries or companies I would say our view, which is consistent with what I think you probably are harnessing in the past is it's more company specific than it is industry specific we have some companies in some management teams that are doing an exceptional job and you see that come through in there and their fair value appreciation in there and and their contributions to dividend income.
So I wouldn't say, we're seeing anything specific.
By industry or any other specific vertical I think we do have some industries.
Maybe showing a little bit of slowdown and I think is what you would see from the broader economy I think we're taking a little bit more of a risk off approach on certain consumer type industries, but by and large portfolio as a whole is performing very very well and in certain situations. The companies are performing well are performing about as well as they have ever performed.
And in any market environment.
It gives us a lot of comfort and gives us a positive view towards both future fair value appreciation and dividend income contributions from those from these high performing companies, but David on if there's anything you want to add to that I think you covered it.
Okay, and if I could squeeze one more in just on the D NII or for Q Q3, a little bit of a step down here should we think of that as the combination of.
Lower dividend income.
Slightly smaller portfolio just some of the drivers there any color you can give would be great. Thank you.
Sure sure.
Jesse come back with some numbers, but I think when you when you look at it we try to highlight as we do each quarter some portion of <unk>.
Of DNI or NII. This nonrecurring expense items that are elevated for some reason some of that is dividend income some of it could be <unk>.
Accelerated income from repayments and we had a combination of those two which we have that every quarter. So what I would say the biggest biggest change between Q2 actual and Q3 projections as you don't have those elevated items in there and just just to highlight one other thing is those elevated items not only impact Maine.
But the impact some of our asset management clients that would be in the same investments. So as you see us benefit at main street directly from those elevators are accelerated income items you see it also come through the asset management business has been the same asset management clients generate and receive the same benefit from an accelerated income stands.
But I'll, let Jesse maybe give a few numbers to add onto that.
Thank you.
What we call is elevated.
Adam.
As a reminder of those come from accelerated income prepayment fees, and then sort of dividend items.
That or that we consider elevator or less consistent so.
At the beginning of the quarter those are hard to predict and can drive the outperformance.
As I think I indicated in my comments.
And drove a lot of the outperformance in terms of the initial guidance in the second quarter two to where we ended for the for the second quarter.
We had eight.
Per share or about six 5 million of those items that are that drove the.
Results for the second quarter, and we have not included much or at all.
That into our guidance for the for the third quarter as we sit here today.
Great. That's it for me. Thank you very much. Thank you.
Our next.
That's helpful.
Please proceed.
Yeah.
Thanks. Good morning, most of my questions have been answered so just to kind of one final one here for me.
Heard from another BDC. This morning, who recently increased expanded their credit facility that the negotiations are kind of discussions we're a little bit more involved and intense than anytime in recent history. So I'm curious with your July expansion with it fairly straightforward given that it was a relatively small increase in the fact that it was kind of already allowed under the accordion feature.
Or were there any negotiations that accompany that.
Yes, I'd say it was pretty pretty straightforward. We didn't didn't have a lot of detailed negotiations are probably getting there which is we.
I think Jesse said in his comments, we really appreciate the support of all the banks in our credit facilities and the addition that we received in the most recent period is just eight are there.
Further reason why we really value those relationships I think our bank group as a whole based upon the feedback we get from them is very happy with the performance very happy with the relationship across the board and I think we saw that come through with the ease at which we were able to add the $15 million of expanded capacity. So again Jesse wants to add anything I'm happy to let you jump in there.
Thank you guys.
I appreciate the color. Thanks for taking my question. Thanks, Eric I appreciate it.
This concludes our question and answer session I would like to turn the floor back over to management for closing comments.
Thank you everyone for joining US again this morning, and we look forward to speaking to you again in early November .
Yeah.
Ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. You may disconnect. Your lines at this time and have a wonderful day.