Q3 2023 Barings BDC Inc Earnings Call
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Yes.
Greetings at this time I would like to welcome everyone to the Barings BDC, Inc Conference call for the quarter ended September 32023.
All participants are in a listen only mode. A question and answer session will follow the companys formal remarks.
And what you require operator assistance during the call. Please press star zero on your telephone keypad.
Today's call is being recorded and a replay will be available approximately two hours. After the conclusion of the call on the company's website at Www Dot Barings BDC Dot com under the Investor Relations section.
Please note that this call may contain forward looking statements that include statements regarding the company's goals beliefs strategies future operating results and cash flows.
Although the company believes these statements are reasonable actual results could differ materially from those projected in forward looking statements. These statements are based on various underlying assumptions and are subject to numerous uncertainties and risks, including those disclosed under the sections titled risk factors and forward looking statements in the company's quarterly report on Form 10-Q.
<unk> for the quarter ended September 32023.
As filed with the Securities and Exchange Commission Barings BDC undertakes no obligation to update or revise any forward looking statements unless required by law.
Now turn the call over to Eric Lloyd Chief Executive Officer of Barings BDC.
Thank you operator, and good morning, everyone with it being Veteran's day Tomorrow I want to start off by thanking all the veterans that are on the phone and any of their family members or loved ones, who supported veterans over the years, we're very grateful for your service and everything you've done for our country.
Where everybody. We appreciate you joining us for today's call. Please note that throughout today's call, we'll be referring to our third quarter 2023 earnings presentation. That's posted on the Investor Relations section of our website.
On the call today I'm joined by Barings co head of global private finance and President of Barings BDC Ian Fowler.
The Bdc's Chief Financial Officer, Elizabeth Murray, and the Bdcs co portfolio managers, Brian Hi, Matt Brian.
I'd like to start by acknowledging that we have refresh some of the presentation of our financial information and portfolio statistics.
Over the course of the past several months the team has been intentional about presenting information in a manner consistent with how we review and manage the portfolio.
<unk> has not changed Barings BDC was and remains an investor in the credit of companies engaged in the middle market. Our portfolio is predominantly sponsor back in his <unk>.
Complimented by a selection of non sponsored and platform investments.
Our portfolio strategy as outlined in greater detail on slide five.
We will not spend time this morning discussing our approach we hope our investors and partners understand the strategy serves as a guiding light and as we continue to successfully invest throughout the market and deliver compelling returns to our shareholders.
And with the acknowledgment of the of the new stylistic deal out of the way, we will shift our attention to the important matters at hand and discussing performance during the quarter.
<unk> exhibited stability and strong operating results against the backdrop of significant economic uncertainty and macroeconomic volatility during the quarter ended September 30.
Our focus on the top of the capital structure investments and sponsor backed issuers is serving investors well in these uncertain times.
Net asset value per share was $11 25 compared to the prior quarter of 11, 34, and 11 O. Five at December 2022, reflecting a year to date increase of one 8%.
Net investment income for the quarter was 31 cents unchanged from the prior quarter consistent NII was fuelled by normalization of yields from rising base rates. Secondly continued strong credit performance within our portfolio and third lower incentive fees due to the incentive cap and our shareholder friendly structure.
Our performance is a result of a focus of the top of the capital structure and within more defensive industries.
We believe <unk> remains well positioned for any further volatility and uncertainty in the market going forward.
Investment activity during the quarter reflected a modest degree of net deployments as we did certain opportunities in the market as some of the most compelling review during the year.
As our shareholders know we are actively working to maximize the value in our legacy holdings acquired from MPC capital in Sierra income and rotate and rotate them into compelling bearings originated positions.
Our investment portfolio continued to perform well in the third quarter, including the acquired Sierra and MCC assets. Our total non accruals are two 5% of the portfolio on a cost basis, and one 6% on a fair value basis with one new non accrual booked during the quarter with the exception of two investments all of our non accrual assets.
We're from acquired portfolios and therefore are covered by our credit support agreements.
[noise] BDC shareholders continue to benefit from the credit support agreements provided by the manager for the current quarter. The CSA valuation was approximately $54 million on a combined basis for the Sierra and MCC credit support agreements, they're designed to insulate shareholders from realized losses in the portfolio.
The reduction of the CSA evaluation quarter over quarter is primarily due to unrealized depreciation related to positions and the underlying ex Europe where oil.
As investors know when they issued collateral improves and value the value of the insurance declines and vice versa.
Less than $35 million of net losses have been realized as the acquired portfolios. The remaining unrealized depreciation within the portfolio are spread across a wide number of issuers and to believe to reflect market discounts to par rather than anticipated impairments.
Recall that a bulk of this year our portfolio was comprised of semi liquid broadly syndicated loans that trading for infrequently.
Following the end of the quarter Touchier positions on non accrual were fully realized.
Turning to the earnings power of the portfolio.
Increasing base rates continue to lift the yields on our predominantly floating rate portfolio with weighted average yields on our floating rate investments increasing to 11, 2% require prior quarter of 11.0%.
We remain conservative on our base dividend policy and our board declared a fourth quarter dividend <unk> 26 per share consistent with the prior quarter on an annualized basis, the dividend level equates to nine 2% yield on our net asset value of $11 25.
Looking at liquidity net leverage which is leveraged net of cash and unsettled transactions was 1.18 times. This is within our target leverage range of <unk> nine to 1.25 times, we continue to prioritize risk management, while balancing deployment of capital and what has become a very attractive environment for private credit.
Before turning the call.
Before turning over the call as many of you know Barings BDC hosted our 2023 Investor day in early October we were grateful that many of our investors and partners. We are able to attend the presentation shared at that event and replays of the content are available under the Investor Relations section of our website for those of you who are unable to attend we encourage you to read.
View that if you were able I'll now turn the call over to Ian.
Thanks, Eric recall that the BDC is managed by Barings LLC, a credit focused asset manager with more than $300 billion of assets under management. The bulk of our portfolio is sourced from the global private finance team and organization with more than 100 investment professionals.
Located around the globe, providing financing solutions to the preeminent middle market companies sponsored by private equity firms.
The bdc's portfolio increased by $34 million on a net basis in the quarter with gross fundings of $138 million offset by $104 million of repayments in sales, which included approximately $50 million of sales towards opacity joint venture.
Activity during the year has been tempered as private equity buyers take a pause in this rising rate environment will likely determine any impact on valuations.
That's in bankers, who serve as the tip of the sphere and the sell side buyout have indicated they are sitting on record backlogs of new transaction opportunities.
Messaging has been consistent for the past 12 months as more and more opportunities are being added to the backlog. However sponsors appear reticent to bridge the valuation gap between 2020, one purchase price multiples and todays range based on financings costs. The day lose of opportunities is being held up.
By the dam that is buttressed by a resetting of the cost of capital and general economic on knees.
We have seen an increase in the number of early stage opportunities within the platform.
But unfortunately convert conversion rates to close deals are trending towards historic lows.
Sponsors continue to execute on add ons for companies already within their portfolios, which makes sense as add on multiples are below the original platform purchase price <unk>.
And in fact, enabling sponsors to reduce their cost basis and hedge against any compression and exit multiples.
Investors and Barings BDC benefit by having a seasoned portfolio that provides opportunities to deploy capital into issuers, we already know well.
We are not in a position to call. The bottom there is a logical reason to believe transaction volumes improve in the months to come namely a record backlog of sell side mandates among the investment banking community.
And a need for private equity managers to show distributions to their Lps.
Counter to those facts is a high level of uncertainty created by two armed conflicts.
Persistently high inflation, a rapid increase in interest rates and the forthcoming political cycle.
When opportunities ultimately do converting to a increase in closed transactions.
We will continue to use our disciplined underwriting strategy to invest capital in the most compelling opportunities.
Turning to our current portfolio, 74% consistent secured investments with approximately 67% of investments constituting first lien securities.
Interest coverage within the portfolio stood at two three times, a modest decline from two five times a quarter earlier.
We are forecasting that steady state weighted average interest coverage for the portfolio will ultimately fall between two times and two in a core times as the full impact of higher rates as reflected in issuers financials and performance.
Our avoidance of various industries prone to economic volatility oil and gas restaurants retail metals among them as proven to be a sound strategy against the backdrop of less economic predictability one of the benefits to a predominantly sponsor backed strategy has proven out over the past several quarters combined.
And with what we believe were reasonable going in leverage multiples. The median gross margin in the North American Global private finance portfolio similar to the BDC portfolio stood at 49% up from 44% one year earlier.
And gives us confidence our issuance are successfully pushing through price increases to combat inflationary pressures in their businesses.
Adjusted EBITDA margins for the same sample were set worst were 21% flat from a year earlier lead.
Believed to be a reflection of the fact that wage gains have consumed some degree of gross margin expansion previously noted.
Not a perfectly comparable metric period to period as the volume of transaction activity in the past five quarters will skew these metrics somewhat.
We believe we have reason to feel comfortable with the performance of the portfolio.
The portfolio composition remains highly diversified.
Top 10 issuers accounting for 21, 8% of fair market value.
Call that the two top positions within the portfolio.
Rips business capital and Brocade holdings, our platform investments originating middle market loss. These positions have a number of underlying issuers assets included in the other classification include structured positions in certain acquired positions that will not be originated on a new issue base.
Going forward, we anticipate rolling out of these positions as market conditions allow and of course the cup.
In addition to the new format and we are publishing our risk rating schedule for our shareholders risk ratings exhibit minimal movement during the quarter as our issuers exhibiting the most stress classified as risk rating four and five.
Were unchanged at 6% on a combined basis quarter over quarter.
Currently we are we also experienced some positive movement as certain issuers performing consistent with expectations at underwriting have outperformed during third quarter.
We remain confident in the credit quality of our underlying portfolio, we do not but we do see increased volatility heading into 2024 for the reasons previously mentioned.
The uncorrelated nature and associated value of investments and clips and are located should bolster the portfolio in the event the economy enters into a long expected expected recession.
The BDC is committed to delivering attractive risk adjusted return to shareholders over a long time horizon. We are investors are credit and middle market companies, our global reach and significant scale across asset classes gives <unk> a unique ability to select risk.
And return compared to other managers, but our core mill.
Middle market credit is what we do.
I'll now turn the call over to Elizabeth.
Thanks, Dan on Slide 15, you can see the full bridge NAV per share.
Third quarter.
Net investment income.
Six cents per share dividend by 19%.
Net unrealized appreciation.
DSA and FX lifted NAV per share.
Which is offset by net realized losses.
All he is 16 cents per share.
<unk> per share realized loss, that's predominantly gauge the exit of our investment in.
Often travel and your restructuring.
Casing pressure, partially reclassified from unrealized depreciation.
I'm very pleased with our portfolio performance amid a backdrop of economic uncertainty and this highlights our conservative approach to underwriting and portfolio construction.
The valuation of that credit support agreement steep crazy.
$6 million, which was driven by increased performance and the underlying theory as Eric mentioned.
Our net investment income per share.
For the quarter, Jim by higher base rate.
Net.
Realized and unrealized losses in the quarter.
Yeah.
This is partially offset by lower dividends from our platform and joint venture investments.
Our balance sheet perspective, great pedal debt to equity.
<unk> seven times at September 30, our net leverage ratio.
Reflecting the trade leverage position of the vehicles, that's one point.
At quarter end.
Modestly from 15115 times in the quarter ended June 30th currently.
Within our long term targets at <unk> nine to one.
Yes.
We will continue to manage the capital structure in a manner that is consistent with our investment grade rating.
Barings, BDC and thankful to hear some thoughtful stewardship of our liability structure leaves us and India both positioning.
Any issuance at historically high rates.
Our funding mix remains highly defensible, that's insurance and seniority and asset class.
Okay.
$720 million unsecured debt in our capital structure as at the end of the third quarter roughly half of our funding was comprised of fixed rate unsecured debt with a weighted average coupon of three point.
Seven 9%.
We have approximately two years before the next bond maturity in August 2025.
Barings BDC currently has $338 million unfunded commitment shop portfolio company as well as 65 million of outstanding commitments trying joint venture.
We have available cushion against our leverage limit to meet the entirety of these commitments.
As Eric mentioned earlier.
Fourth quarter dividend of 26% and.
At nine 2% distribution.
We consistently evaluate our dividend policy in the manner, we manage our product driven by.
Given the higher level of earnings and the fact that as rates have remained higher for longer shareholders will benefit and increasingly announced with arcane results remains appropriate.
Our portfolio will continue to earn it that's a high hurdle and a normalized rate environment, and we expect that our platform investments eclipsed Enrique.
As well as our coffee joint venture will continue to generate significant income.
These investments help highlight the importance of less correlated assets and the benefits of a diverse.
Oh yeah.
I'll wrap up our prepared remarks with a net.
Thus far in Q4, we have made $105 million and need commitments of which 97 nine.
We've also funded 12 million previously committed equity facility with.
That operator.
A line for questions.
Thank you we will now be conducting a question and answer session. If you'd like to ask a question. Please press star one on your telephone keypad.
A confirmation tone will indicate your line is in the question queue. You May Press Star two if you would like to remove your question from the queue for participants using speaker equipment. It may be necessary to pick up your handset before pressing the star keys, one moment. Please while we poll for your questions.
Our first questions come from the line of Kyle Joseph with Jefferies. Please proceed with your questions.
Hey, good morning, everyone and thanks for taking my questions and I. Appreciate the color you gave there on the deal outlook into our into 'twenty four it sounds like a little bit cautiously optimistic with a lot of dry powder out there, but in an election cycle on some macro uncertainty just kind of want to pick your brain on what you.
See spreads doing obviously you know we can look at the forward curve.
Let's see what bait what base rates are expected to do but given a lot of moving parts in the market just kind of what I see you know where spreads are in the context, historically and where you can see those trending next year.
Give us catastrophe portfolio yields as you look into 'twenty four is it end market dynamics and the forward curve.
Yeah sure. Good morning, Kyle are happy to do that and you know I'll start off obviously I don't have a crystal ball and I have been doing this for 25 plus years and this is definitely a little bit of a different market than I've seen over the 25 years, but I think you nailed it I mean right now.
We're in this anemic environment in terms of deal activity because of this gap between buyer and seller on valuation and you can understand why.
Private equity firms are hesitant to go all in right now because theres still obviously, an inflationary pressures out there I think there's it seems like the fed's kind of backed off on.
Telegraphing in another 25 50 basis points, but you know the higher and longer.
<unk> elevated rates is definitely going to have an impact and we really don't know where valuations are trading that because it's not a normal functioning market with a lot of deal flow. So that like you said, that's the environment that we're in I think to the extent we start to see.
You know some some direction in terms of base rates may be getting closer to the election.
Point pulling back a bit.
And then getting through the uncertainty of the election I think that's when you might see market say floodgates open, but there is a ton of deals out there waiting to come to the market.
So when you look at today's market in the deal activity that's out there, especially on the new platform side.
There are a lot of managers that don't have portfolios that they can rely on 70% of our deal flow is coming from our portfolio, which is great because of all of the eye.
All of the economic uncertainty, it's nice being able to invest in companies you know.
And understand well, so that's very attractive, but for new activity and with managers that don't have portfolios, they're being pretty aggressive on on spreads.
So if it's an attractive property, that's coming to Mark market, we're seeing.
Spreads compress you know anywhere from 50 to 75 basis points, maybe even as high as 100 basis points, depending on the on the deal and the opportunity, but again I think if you kind of look at you know this is my perspective over 25 years. If you kind of look at the all in yields over 25 years Theres.
He has been a little bit of a reversion to a mean edge as base rates go up spreads come down and we've just seen that historically in this asset class. So I'm not surprised by it but at the end of the day, we're still generating extremely attractive all in yields for first lien.
Senior secured risk.
So it's a great vintage for this asset class.
Yeah, that's very helpful.
No I was just sorry for the long winded answer.
Oh, no I know I was going to say I have a follow up but keep your your crystal ball out, but so in the in the context of potentially declining rates next year.
You know how do you how do you guys think about repayments obviously the rate environment has median repayments over the last 18.
18 months, but you know as we go into the potentially declining base rate environment. Obviously these are floating rate assets, which probably provides some insulation, but obviously if M&A were to pick up that would offset that but yeah kind of give us a sense you know repayments have been muted for a while now that you're out looking at into 'twenty four.
Yeah, So great question.
I can use 21 in the back half of 'twenty one.
As a benchmark because obviously same sit but different reasons, but same situation yeah. The M&A market was stalled and then once we came out of Covid.
Gates opened in the back half of 'twenty, one was an incredible year in terms of volume and quality of deals that came to market.
And if the Crystal ball is true and it plays out that that the fed starts cutting rates close to the.
The election, and we go into 25, I would expect the same sort of situation.
Situation to occur with the M&A market and I think to your point right now the benefit that we have especially with our portfolio, which is performing really well.
We have very little runoff and and so whatever new deal activity. We have is actually allowing us to increase our AUM. This is across our platform.
That will obviously change we saw that in 'twenty, one where run off increased pretty dramatically as properties were traded so definitely would expect that to increase dramatically when the M&A market opens up.
But on the flip side, you know as long as you have a strong origination.
Our team in <unk> and.
Our leadership position in the market I think you'll be able to you know a.
Replace.
That run off with new deal activity. So yeah, it'll be extremely busy just like it was back of back half of 'twenty one.
Got it very helpful. Thanks for answering my questions.
Yeah. Thanks, Scott.
Okay.
Thank you. Our next question is come from the line of Robert Dodd with Raymond James. Please proceed with your question.
Oh, hi, guys congrats on a quota.
I Love the question for me and probably out in your prepared remarks, you said.
Conversion rates are.
A vaccine deals actually come in clothing are heading towards a historic lows can you give us any I mean is that because the sponsors are pulling deals because of the valuation is at.
The level of comp.
Competition.
High quality deals is still a lot of people that want them I mean can you give us any color on what.
What's driving that or two to historic low level.
Oh, Yeah sure.
Sure Robert and good morning.
I can probably at some point get you an exact breakdown, but I mean for sure. It's all of the above I would say that.
It's not so much like the quality of deals right because those deals just aren't even making it through the screen at least with the sponsors that we focus on.
And so there they're looking at properties that are high quality properties. I think you have a couple of factors I think definitely in the valuation.
It is an issue and also there's a there's a catch up right. Because if you think about the elevated interest rate environment Youre not really seen the full impact of that in.
Interest rate effect until you kind of get the next quarters financials and now we're kind of at this point, where we're starting to see like the full year impact. So if we kind of go back over the last three six months you know there was a little bit of a catch up because they're showing.
A quarter earlier and maybe the performance was much more decent but now all of a sudden the outperformance is eroding a bit because of the inflationary and higher base rates and so then you get into this whole negotiation around valuation and deals kind of fall apart. So.
I've seen that for sure and a lot of situations on the competitive side you know, what's really unique I think right now in this in this deal environment, it's because theres not so there's not a lot of new properties coming to market that are extremely attractive. So the compression of the of the deal cycle.
<unk> has really been reduced and a lot of times lenders are really not coming in or allowed to come in by the investment bankers tell kind of a second stage because they're really trying to control. These deals and certainly sponsors that are working these deals are trying to avoid losing to the competition. So it's.
Fiercely competitive out there that yeah, we've got to be really responsive as a team to be working very quickly with these these sponsors going through all the third party diligence and doing our underwriting so we're not slowing them down but that that definitely is our overall theme in the market.
I appreciate that thank you can count on another one on <unk>.
One on the buyback obviously you.
You didn't buy back into the second quarter third quarter. They did in the second can you give us any I mean was it blackout dates, but what would you know obviously it wasn't related to anything but you did happened and left the bank can you give us any help on what.
Why no buybacks in Q3 versus quite a lot in Q2.
Yeah, Robert Great question, and yes, we as you know.
Mentioned, our Investor day since 2019, we spent 73 million bancshares.
So like 8 million shares in Q T. We bought one 4 million shares at an average price of 775.
As of yesterday, I think we were.
Around 939, that's what we closed that and this quarter, we had to balance leverage with some portfolio opportunities.
And as.
As we've always said, we're very shareholder friendly we're very committed to our share buyback, but this just wasn't a corridor that it worked out and you will see us in the market in coming quarters.
Since 2019, we've been in the market 11 out of 12 times.
When we weren't blacked out so you can know that we're committed to it. This is we just had to choose different levers this quarter.
Got it thank you.
Yep.
Thank you our next questions come from the line of Casey Alexander with Compass point. Please proceed with your questions.
Hi.
Good morning, Thank you for taking my questions I need to Sierra positions that were realized after the end of the quarter.
Can you tell us how.
How what how they were realized just relative to what their mark so or I don't even know the names just if there's any additional.
Additional gain or loss on those subsequent to the end of the quarter versus the three quarter Mark.
Yeah, Casey said like you said, we exited Q1, we exited I want to say about $20000 above the mark and the other one was I mean, the other one was marked at only $9000 in either exited badly right around or slightly understands dairy.
And then.
Oh, Okay, that's fine.
That's fine. Thank you Elizabeth the then and looking at Slide 13, we see what.
The portfolios are are at what is the mark to market loss on the.
The this year a portfolio in the N V. C portfolio, just so that we can compare them to where the credit support agreements are valued.
So I'm going to give you a couple of data points, Casey and which I think will answer your question if not let me know.
N D C. The current portfolio is valued at 62.5 versus prior quarter and a 72.4.
Where the CSA was valued at 16.8 versus 15.6.
So that's just that's yeah yeah.
Yeah.
D without that but that's not what I'm, what I'm asking what I'm asking is this is the CSA is for M. A C is valued at 16.8.
The top side of the CSA is 23, what is the actual current mark to market loss on the M. D C portfolio.
Gotcha, So that's about $30 million Casey.
Okay, that's about $30 million, okay, and what's the actual mark mark to market loss on the Sierra portfolio.
It was it's about 28 million.
Okay, It's about 28 million so alright.
That's great. Thank you and then.
And can you just give us some view into security, which I understand is an N b C position, but it was marked down 10 million quarter over quarter. So that's a that's a that's a pretty big change in that valuation.
And then past that.
I know you've got different guys, who work on core core was marked up 6, million% to 75% of par I would be interested in hearing about the package of securities that you think you're going to receive on core that fed into your your ability to market at 75% of par.
Yeah, Hey, I'll, let Matt Yeah, I mean look yes.
Ian and I had the same thought.
Good morning, Casey I appreciate the question. So as you may recall the position in security Holdings is equity oriented during the course of the past quarter. There were some projects, but unfortunately shifted to the right and I think that the impact of the impact of the financials is that the EBITDA trended a little bit against us as you apply on.
Enterprise value multiple to that figure it just magnifies the impact of the timing dynamic associated with performance and so this is the unfortunate reality of equity positions whenever they constitute a portfolio is that they they can be a little bit more volatile than we were exposed on the volatility side. This particular quarter, but don't have any reason to.
Concerned with respect to that position longer term and are optimistic that over an intermediate period of time, we'll see the recovery in the performance.
I'm actually going to turn.
I'll turn the call over to Brian to speak to core more specifically.
Yeah, Thanks, Matt Hey, Casey in terms of in terms of core so from a process perspective.
They you know they they have reached an agreement with all parties. They still have to get to school just disclosure statements approved and solicitation needs to go out for everyone to make elections in terms of how they want to vote.
As it relates to the plan and I know you know when we've talked about previously there's a couple of different options in terms of what the equipment loan holders can receive one of which is reinstated debt of roughly 80 cents on the dollar and the other is your equity in the business on a go forward reorganized equity.
So that that solicitation process has not happened yet we still have the ability to make an election, there and we're evaluating those options.
Okay, great. Thank you for taking my questions I appreciate it.
Thank you Casey.
Thank you we have reached the end of our question and answer session I would now like to turn the floor back over to Eric Lloyd for any closing remarks.
Just thanks, everybody for dialing in and everybody have a wonderful weekend.
Thank you. This does conclude today's teleconference. We appreciate your participation you may disconnect your lines at this time.
Enjoy the rest of your day.
Okay.
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Okay.
Hum.
Mhm.
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