Q4 2023 Fidus Investment Corporation Earnings Call
Operator: Transcription by Trans-Expert at Fiverr.com Good morning, and welcome to the FIDUS fourth quarter 2023 earnings conference call. All participants will be in listen-only mode.
Good morning, and welcome to the five just fourth quarter, but 23 earnings conference call. All participants will be in listen only mode should you need assistance. Please signal a conference specialist by pressing Star then zero on your telephone keypad.
Operator: Should you need assistance, please signal a conference specialist by pressing star, then zero on your telephone keypad. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then 1 on your telephone keypad.
After todays presentation, there will be an opportunity to ask questions to ask a question you May Press Star then one on your telephone keypad to withdraw your question. Please press Star then two please note. This event is being recorded I would now like to turn the conference over it over to Jody.
Operator: To withdraw your question, please press star, then 2. Please note this event is being recorded. I would now like to turn the conference over to Jody Burfening. Please do so.
Please go ahead.
Jody Burfening: Thank you Drew and good morning everyone, and thank you for joining us for Fidus Investment Corporation's fourth quarter 2023 earnings conference call. With me this morning are Ed Ross, Fidus Investment Corporation's Chairman and Chief Executive Officer, and Shelby Sherard, Chief Financial Officer. Fidus issued a press release yesterday afternoon with the details of the company's quarterly financial results.
Thank you drew and good morning, everyone and thank you for joining us for find its investment Corporation fourth quarter 2023 earnings Conference call with me. This morning are Ed Roth latest investment corporations, Chairman and Chief Executive Officer, and Shelby Sherard, Chief Financial Officer, <unk> Investment Corporation issued.
A press release yesterday afternoon, with the details of the company's quarterly financial results.
Jody Burfening: A copy of the press release is available on the investor relations page of the company's website at FDUS.com. I'd also like to call your attention to the customary Safe Harbor disclosure regarding forward-looking information included in today's call. The conference call today will contain forward-looking statements, including statements regarding the goals, strategies, beliefs, future potential, operating results, and cash flows of Fidus Investment Corporation. Although management believes these statements are reasonable based on estimates, assumptions, and projections as of today, March 1, 2024, these statements are not guarantees of future performance. Time-sensitive information may no longer be accurate at the time of any telephonic or webcast replay. Additionally, actual results may differ materially 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. Fidus undertakes no obligation to update or revise any of these forward-looking statements.
Copy of the press release is available on the Investor Relations page of the company's website at S. T U S Dot com.
Also like to call your attention to the customary safe Harbor disclosure regarding forward looking information included on today's call.
The conference call today will contain forward looking statements, including statements regarding the goals strategies beliefs future potential operating results and cash flows why this investment Corporation.
Although management believes these statements are reasonable based on estimates assumptions and projections as of today March 'twenty 'twenty four you state.
They are not guarantees of future performance.
Sensitive information may no longer be accurate at the time of any telephonic or webcast replay actual results may differ materially 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.
But its undertakes no obligation to update or revise any of these forward looking statements.
Edward H. Ross: With that, I would now like to turn the call over to Ed. Good morning, Ed. Good morning, Jody, and good morning, everyone.
With that I would now like to turn the call over to Ed Good morning, Ed.
Good morning, Jody and.
Good morning, everyone.
Edward H. Ross: Welcome to our fourth quarter 2023 earnings conference call. On today's call, I'll start with a review of our fourth quarter performance and our portfolio at quarter end, and then share with you our outlook for 2024. Shelby will cover the fourth quarter financial results and our liquidity position. After we have completed our prepared remarks, we'll be happy to take your questions.
Welcome to our fourth quarter 2023 earnings conference call.
On today's call I'll start with a review of our fourth quarter performance and our portfolio at quarter end and then share with you our outlook for 2024.
Shelby will cover the fourth quarter financial results and our liquidity position.
After we have completed our prepared remarks, we'll be happy to take your questions.
Edward H. Ross: Our strong fourth quarter performance reflects the benefits to Fidus of our strategy of both serving the lower middle market, which has remained reasonably active in a less robust environment, and selectively investing in companies that possess resilient and strong cash flow-generating business models and a positive long-term outlook. Our patience during the year has paid off, and with the typical year-end push and deal activity, originations totaled $132.7 million. And proceeds from repayments and realizations totaled $112.5 million for a net origination of $20.2 million, and we grew the total portfolio to $957.9 million on a fair value basis. The adjusted net investment income increased 49% to $18.8 million in Q4 compared to $12.6 million last year. As was the case for each quarter in 2023, interest income growth drove this year over year increase, reflecting both higher average debt balances and higher weighted average yields. Taking into account the higher average share count resulting from the equity raises we completed during the year, adjusted net investment income on a per-share basis increased 27.5%. It's 65 cents from 51.
Our strong fourth quarter performance reflects the benefits to fight this of our strategy are both serving the lower middle market, which has remained reasonably active in a less robust environment.
Selectively investing in companies that possess resilient and strong cash flow generating business models and positive long term outlooks.
Our patients during the year has paid off with the typical year end push and deal activity.
<unk> totaled $132 $7 million in proceeds from repayments and realizations totaled $112 $5 million for a net originations of $22 million and we grew the total portfolio to $957 $9 million.
On a fair value basis.
Adjusted net investment income increased 49% to $18 $8 million in Q4 compared to $12 $6 million last year.
As was the case for each quarter in 2023 interest income growth drove this year over year increase refract selecting both higher average debt balances and higher weighted average yields.
Taking into account the higher average share count, resulting from the equity raises we completed during the year.
Adjusted net investment income on a per share basis increased 22 27, 5%.
The 65 cents from 51 since we.
Edward H. Ross: We pay dividends totaling $0.80 per share, including a base dividend of $0.43 per share. For the year, we distributed a total of $2.88 per share to shareholders, consisting of regular dividends of $1.66 per share, supplemental dividends of $0.82 per share, and special dividends of $0.40 per share, an adjusted NII of $2.56 per share, comfortably covering the base dividend. As a reminder, we distributed a special cash dividend of 10 cents per share each quarter of 2023 to satisfy RIC requirements and to bring our spillover income in line with our target level, which is roughly the equivalent of the base dividend for three quarters. For the first quarter of 2024, the Board of Directors declared dividends totaling $0.65 per share, consisting of a base dividend of $0.43 per share. Supplemental Dividend of 22 cents per share, equal to 100% of the surplus in adjusted NII over the base dividend from the prior quarter, which will be payable on March 27, 2024, to stockholders of record as of March 20, 2024.
We paid dividends totaling 80 cents per share, including a base dividend of 43 cents per share.
Yeah.
For the year, we distributed a total of $2 88 per share to shareholders consisting of regular dividends of $1.66 per share.
Supplemental dividends of 82 cents per share in special dividends of 40 cents per share.
Adjusted NII of $2.56 per share comfortably covered based evidence.
As a reminder, we distributed a special cash dividend of 10 cents per share each quarter of 2023 to satisfy Ric requirements and to bring our spill over income in line with our target level, which is roughly the equivalent of the base dividend for three quarters.
Yeah.
For the first quarter of 2024, the board of directors declared dividends totaling 65 cents per share consisting of a base dividend of 43 cents per share and a supplemental dividend of 22 cents per share equal to 100% of the surplus in adjusted NII over the.
This dividend from the prior quarter, which will be payable on March 27, 2024 to stockholders of record as of March 20th 2024.
Edward H. Ross: The net asset value at quarter end was $589.5 million, or $19.37 per share, a meaningful increase as compared to $548.6 million, or $19.28 per share, as of September 30, 2023. During the quarter, we grew our portfolio, investing, as always, in high-quality companies that generate excess levels of cash flow to service debt and structuring our investments with a high level of equity cushion to give us an added margin of safety Originations totaled $132.7 million, consisting of $123.5 million in debt and $9.2 million in equity. Burfening Investments accounted for $110.5 million, or approximately 90% of the additions to the debt portfolio.
Net asset value of quarter end was $589 $5 million or $19 37 per share a meaningful increase as compared to $548 $6 million or $19.28 per share as of September 30th 2002.
Three.
During the quarter, we grew our portfolio investing as always in high quality companies that generate excess levels of cash flow to service debt and structuring our investments with a high level of equity cushion to give us an added margin of safety.
Originations totaled $132 $7 million, consisting of $123 $5 million in debt and $9 $2 million in equity.
First lien investments accounted for $110 $5 million or approximately 90% of the additions to the debt portfolio.
Edward H. Ross: We invested $94.6 million, or about three-quarters of total originations, in six new portfolio companies, which were added to the portfolio through financing of M&A transactions. The remaining $38.1 million was invested in add-ons in support of existing portfolio companies, almost all of which was M&A driven. Proceeds from repayments and realizations totaled $112.5 million for the fourth quarter, reflecting exits and some strategic pruning of the portfolio on our part.
We invested $94 $6 million or about three quarters of total originations in six new portfolio companies, which were added to the portfolio through financing of M&A transactions. The remaining $38 $1 million was invested in add ons in support of existing portfolio.
Companies.
Most all of which was M&A driven.
Proceeds from repayments and realizations totaled $112 $5 million for the fourth quarter.
The exits and some strategic pruning of the portfolio on our part.
Edward H. Ross: We received $87.2 million in debt repayments, primarily due to M&A activity, and received proceeds of $25.3 million from the sale of equity investments, resulting in net realized gains of $19.8 million. Our portfolio of debt investments, on a fair value basis, was $832.8 million, or 87% of the total portfolio at quarter end. First lien investments continue to account for the largest portion of the debt portfolio, now at 69%.
We received $87 $2 million in debt repayments, primarily due to M&A activity and received proceeds of $25 $3 million from the sale of equity investments.
Solving and net realized gains of $19 $8 million.
Our portfolio of debt investments on a fair value basis was $832 $8 million or 87% of the total portfolio at quarter end.
First lien investments continue to account for the largest portion of the debt portfolio now at 69%.
Edward H. Ross: Including the fair value of our equity portfolio of $125.1 million, the fair value of the total portfolio at quarter end stood at $957.9 million, equal to 102.3% of cost. We ended the fourth quarter with 81 active portfolio companies. Subsequent to quarter end, we invested $17 million in first lien debt and equity in two new portfolio companies, and we had a debt repayment and equity realization in one company generating net proceeds of approximately $24.3 million and a realized gain of $1.5 million. Overall, our portfolio from a credit quality perspective remains solid. As of December 31st, we had two operating companies on nonaccrual, unchanged from the third quarter. Nonaccruals represented approximately 1% of the total portfolio on a fair value basis.
Including the fair value of our equity portfolio of $125 $1 million.
Fair value of the total portfolio at quarter end stood at 957 $9 million equal to 102, 3% of cost we ended the fourth quarter with 81 active portfolio companies.
Subsequent to quarter end, we invested $17 million in first lien debt and equity in two new portfolio companies and we had a debt repayment and equity realization in one company generating net proceeds of approximately $24 $3 million and a re.
<unk> gain of $1.5 million.
Overall, our portfolio from a credit quality perspective remains solid as of December 31, we had two operating companies on non accrual unchanged from the third quarter non accruals represented approximately 1% of the total portfolio on a fair value basis.
Edward H. Ross: The vast majority of our portfolio companies continue to capture growth opportunities and sustain profitability supported by a resilient business model. We do, of course, have a few companies that are experiencing difficulties for a variety of reasons, but there is no one market condition that is weighing on their operations. Looking ahead, we are well positioned to build on our successes in 2023. During 2023, we expanded our portfolio of debt and equity investments on a fair value basis by nearly $100 million to $957.9 million, despite subdued levels of M&A activity in the lower middle market. COUGH COUGH, This performance speaks to our experience, our relationships with financial sponsors, and industry knowledge that together enable us to remain highly selective in investing in high-quality companies that meet our investment criteria. By building our portfolio of income-producing assets and with an assist from widened spreads, we enhanced the earnings power of our healthy and high-performing portfolio, generating a 46.4% increase year-over-year in adjusted NII to $67.5 million. Our strategy of co-investing and equity investments continues to work well for us, producing approximately $22.4 million in net realizable gains for the year.
That's the majority of our portfolio companies continue to capture growth opportunities and sustained profitability supported by resilient business models.
Do of course have a few companies are experiencing difficulties for a variety of reasons that there is no one market condition that is weighing on their operations.
Looking ahead, we are well positioned to build on our successes in 2023.
During 2023, we expanded our portfolio of debt and equity investments on a fair value basis by nearly $100 million to $957.9 million. Despite subdued levels of M&A activity in the lower middle market.
This performance speaks to our experience our relationships with financial sponsors and industry knowledge that to get together enable us to remain highly selective investing in high quality companies that meet our investment criteria.
By building a portfolio of income producing assets and with an assist from widening spreads we enhance the earnings power of our healthy and high performing portfolio generating a 46, 4% increase year over year and adjusted NII to $67.5 million.
Our strategy of co investing in equity investments continued to work well for us producing approximately $22 $4 million and net realized gains for the year.
Edward H. Ross: Finally, we continue to deliver value to our shareholders, distributing 100 percent of our earnings, and demonstrating our ability to generate gains in excess of losses while maintaining an overall healthy portfolio, thanks to our rigorous underwriting standards. While we are positioned to build on our successes of 2023, we remain committed to managing the business for the long term, focusing on our underwriting disciplines and selecting. Investments in our long-term goals of growing net asset value over time, preserving capital, and generating attractive risk-adjusted returns for our shareholders. Now, I'll turn the call over to Shelby to provide some details on our financial and operating results. Shelby?
Finally, we continue to deliver value for our shareholders distributing 100% of our earnings and demonstrating our ability to generate gains in excess of losses, while maintaining an overall healthy portfolio.
Thanks to our rigorous underwriting standards.
Well, we are positioned to build on our successes of 2023, we remain committed to managing the business for the long term.
So our underwriting disciplines in selecting.
Investments into our long term goals of growing net asset value over time, preserving capital and generating attractive risk adjusted returns for our shareholders.
Now I'll turn the call over to Shelby to provide some details on our financial and operating results Shelby.
Shelby E. Sherard: Thank you, Ed, and good morning, everyone. I'll review our fourth quarter results in more detail and close with comments on our liquidity position. Please note, I will be providing comparative commentary versus the prior quarter, Q3 2023. Total investment income was $36.3 million for the three months ended December 31st.
Thank you Ed and good morning, everyone.
I'll review, our fourth quarter results in more detail and close with comments on our liquidity position. Please note I will be providing comparative commentary versus the prior quarter Q3, 2023.
Total investment income was $36 3 million for the three months ended December 31st 2.1 million increase from Q3, primarily due to a point for a million increase in interest income, including pick a $1 3 million increase in fee income due to higher levels of investment activity and a point 5 million income.
Shelby E. Sherard: A $2.1 million increase from Q3 primarily due to a $0.4 million increase in interest income, including PIC, a $1.3 million increase in fee income due to higher levels of investment activity, and a $0.5 million increase in interest income on excess cash. The increase in interest income was driven by an increase in average debt investment balances outstanding, partially offset by a decrease in yield on new debt investments and the repayment of two higher yielding debt investments. Total expenses, including income tax provision, were $19.4 million for the fourth quarter, $1.8 million higher than Q3, driven primarily by a $1 million increase in income taxes related to the annual excise tax accrual, a $0.3 million increase in professional fees, and a $0.4 million increase in the capital gains fee accrual.
And interest income on excess cash.
Increase in interest income was driven by an increase in average debt investment balances outstanding partially offset by a decrease in yield on new debt investments and the repayment of two higher yielding debt investments.
Total expenses, including income tax provision were $19 4 million for the fourth quarter 1.8 million higher than Q3, driven primarily by a $1 million increase in income taxes related to the annual excise tax accrual I point 3 million increase in professional fees and a point 4 million increase in the capital gains fee accrual.
Shelby E. Sherard: We ended the quarter with $475.9 million of debt outstanding, comprised of $210 million of SBA debentures, $250 million of unsecured notes, and $15.9 million of secured borrowings. Our debt-to-equity ratio as of December 31 was 0.8 times or 0.5 times statutory leverage, excluding exempt SBA debentures. The weighted average interest rate on our outstanding debt was 4.3% as of December 31st, 2023. Net investment income, or NII, for the three months ended December 31st was $0.58 per share versus $0.63 per share in Q3. Adjusted NII, which excludes any capital gains, incentive fee accruals, or reversals attributable to realized and unrealized gains and losses on investments, was $0.65 per share in Q4, which includes a $0.03 per share excise tax accrual versus $0.68 in Q3.
We ended the quarter with $475 $9 million of debt outstanding comprised of $210 million of SBA debentures $250 million of unsecured notes and $15 9 million of secured borrowings our debt to equity ratio as of December 31st 1.8 times, our 0.5 times statutory leverage excluding <unk>.
SBA debentures.
The weighted average interest rate on our outstanding debt was four 3% as of December 31st 2023.
Net investment income or NII for the three months ended December 31st with 58 cents per share versus <unk> 63 per share in Q3, adjusted NII, which excludes any capital gains incentive fee accruals or reversals attributable to realized and unrealized gains and losses on investments was 65 cents per share in Q4.
Which includes the three cent per share excise tax accrual versus 68 cents in Q3.
Shelby E. Sherard: For the three months ended December 31st, we recognized approximately $19.8 million of net realized gains related to the sale of our equity investments and power grid components, Aeronics, Road Safety Services, and Comply 365, offset by realized losses on the exit of our debt investment in K2 and equity investment in Technics Industries. As Ed mentioned, in 2023, we paid total cash dividends of $2.88 per share versus $2 in cash dividends in 20 Turning now to portfolio statistics, as of December 31st, our total investment portfolio had a fair value of $957.9 million. Our average portfolio company investment on a cost basis was $11.6 million, which excludes investments in one portfolio company that sold its operations and is in the process of winding down.
For the three months ended December 31st we recognized approximately $19 8 million of net realized gains related to the sale of our equity investments in power grid components ironic Road safety services and comply 365 offset by realized losses on the exit of our debt investment in K to an equity investment and techniques industries.
As Ed mentioned in 'twenty to 'twenty, three we paid total cash dividends of $2.88 per share versus $2 in cash dividends in 'twenty to 'twenty two.
Turning now to portfolio statistics as of December 31st our total investment portfolio had a fair value of $957 9 million, our average portfolio company investment on a cost basis was $11 6 million, which excludes investments in one portfolio company that sold its operations and in this process of winding down.
We have equity investments in approximately 79, 3% of our portfolio companies with an average fully diluted equity ownership of 3% weighted average yield on debt investments was 14, 2% as of December versus 14, 6% at September 30th the weighted average yield is computed using effective.
Shelby E. Sherard: We have equity investments in approximately 79.3% of our portfolio companies, with an average fully diluted equity ownership of 3%. The weighted average yield on debt investments was 14.2% as of December versus 14.6% at September 30th. The weighted average yield is computed using effective interest rates for debt investments at cost, including the accretion of original issue discount and loan origination fees, but excluding investments on non-accrual, if any
Interest rates for debt investments at cost, including the accretion of original issue discount and loan origination fees, but excluding investments on nonaccrual if any.
Now I'd like to briefly discuss our available liquidity and Q4, we issued approximately 2 million shares under our ATM program at an average share price of $19.79 raising net proceeds of approximately $38 7 million as of December 31st our liquidity and capital resources included cash.
Cash of $119 1 million and $100 million of availability on our line of credit, resulting in total liquidity of approximately $219 1 million.
Shelby E. Sherard: Now I'd like to briefly discuss our available liquidity. In Q4, we issued approximately 2 million shares under our ATM program at an average share price of $19.79, raising net proceeds of approximately $38.7 million. As of December 31, our liquidity and capital resources included cash of $119.1 million and $100 million of availability on our line of credit, resulting in total liquidity of approximately $219.1 million. Subsequent to year-end, we repaid the remaining $35 million of outstanding SBA debentures in our second SBIC fund.
Subsequent to year end, we repaid the remaining 35 million of outstanding SBA debentures in our second Spic's Fund, we have submitted a new license application to the SBA for a fourth SP I see license, which subject to SBA approval will provide us with access to 175 million of additional SBA debentures.
Now I will turn the call back to Ed for concluding comments.
Thanks Shelby.
Always I would like to thank our team and the board of directors and fighters for their dedication and hard work and our shareholders for their continued support.
Oh now I will turn the call over to drew for Q&A drew.
We will now begin the question and answer session.
To ask a question you May press Star then one on your telephone keypad.
Edward H. Ross: We have submitted a new license application to the SBA for a fourth SBIC license, which, subject to SBA approval, will provide us with access to $175 million of additional SBA debentures. Now, I will turn the call back to Ed for concluding comments. Thanks, Shelby.
If you're using a speakerphone please pick up your handset before pressing the keys.
Any time your question has been addressed and you would like to withdraw your question. Please press Star then two.
At this time, we will pause momentarily to assemble our roster.
Edward H. Ross: As always, I'd like to thank our team and the board of directors at Fidus for their dedication and hard work, and our shareholders for their continued support. I will now turn the call over to Drew for Q&A.
The first question comes from Robert Dodd with Raymond James. Please go ahead.
Good morning, and congratulations on the whole on a quota.
Couple of questions one.
Operator: We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys.
You mentioned strategic pruning of the pool.
Paul.
Joe in your opening remarks could you give us any more color on that.
Decent chunk of that sounds like it was equity was it people requesting different recapped you were comfortable with that drove you to puneet.
Robert James Dodd: If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. Our first question comes from Robert Dodd with Raymond James. Please go ahead.
Can you give us any color on that.
The reason, it's hard to do that.
Sure. There was one equity investment there was you could argue with strategic pruning in nature, Robert and that was I mean, it was it was a.
Edward H. Ross: Good morning, and congratulations on another lovely quarter. A couple of questions. Ed, you mentioned strategic pruning of the portfolio during the opening of the arts. Could you give us any more color on that? I mean, a decent chunk of that sounds like it was equity. Was it people requesting dividend recaps you weren't comfortable with that drove you to prune it? Or can you give us any color on that?
Equity investment that we did very well on I think we made eight times, our money or something like that so we had an opportunity to stay in and we chose to go ahead and exit.
And so our risk you know greater than the opportunity quite frankly.
But really what that was gotta, meaning two to talk about was a couple of debt investments they weren't huge but they were ones that risk levels were higher than we were comfortable with and so we may you know got it.
Edward H. Ross: the reasons that we decided to do that. Sure. There was one equity investment that was, you could argue, was strategic pruning in nature, Robert. And that was, I mean, it was an equity investment that we did very well on. I think we made eight times our money or something like that. So we had an opportunity to stay in, and we chose to go ahead and exit, and we saw risk, you know, greater than the opportunity, quite frankly. But really, what that meant to talk about was a couple of debt investments. They weren't huge, but they were ones where the risk levels were higher than we were comfortable with.
Strategic decision to work to exit those investments and.
And in both cases, we were able to accomplish it.
And and Q4, so it was more debt oriented than equity, but there was one equity investment we did make that decision.
Got it got it all on the credit situation. It seems I mean, obviously there could be no broad based.
So you wouldnt be like you said the vast majority of portfolio companies.
No single reason the pool.
Uh huh.
Maybe handful.
Edward H. Ross: And so we made, you know, kind of a strategic decision to work to exit those investments. And in both cases, we were able to accomplish it in Q4. So it was more debt-oriented than equity. But there was one equity investment we did make that. Got it, got it.
Hum.
All of those.
Idiosyncratic issues for the company wasn't you know the labor market.
Just more color on how comfortable you all those problems are being managed.
On showing me too much.
So that should maybe something like that.
Edward H. Ross: Thank you. On the credit situation, it seems, I mean, obviously, there's clearly no broad-based problems, or you wouldn't be light enough anyway, and you said the vast majority of portfolio companies perform fine, no single reason for the maybe handful that aren't. Are those, Did you hear synchronic issues for the company, or is it, you know, the labor market or anything? Could you give us more color on how comfortable you are that those problems are being managed and... aren't showing any signs of deterioration, maybe, or something like that. Sure.
Sure and the one one.
<unk>, who is really you know kind of generally referencing are the non accruals would have been there for a few quarters and those are companies that are both supported by private equity groups. They are going through idiosyncratic type situations and in both cases improving.
But we got you know we've got a ways to go so that's really what we're referencing primarily in terms of other companies that are underperforming again kind of a one off type reasons for it.
And we feel very good about our portfolio, there's always a chance for another non accrual, but that's not our expectation and we clearly hope that we can keep managing the rest of the businesses and.
Edward H. Ross: And the ones I was really, you know, kind of generally referencing are the non-accruals, which have been there for a few quarters. And those are companies that are both supported by private equity groups. They are going through idiosyncratic-type situations, and in both cases, are improving.
And the way that we have in the past.
Okay I appreciate that I guess.
Congrats on the quarter. Thank you. Thanks, Rob appreciate it good talking to you.
The next question comes from Bryce Rowe with B Riley.
Please go ahead.
Thanks, Good morning, Ed and Shelby.
Good morning Bryce.
Edward H. Ross: But we've got, you know, we've got a ways to go. So that's really what we were referencing primarily. In terms of other companies that are underperforming, again, kind of one-off-type reasons for it. And we feel, you know, very good about our portfolio. There's always a chance for another non-accrual, but that's not our expectation.
I'm good thank you.
Yeah, maybe I'll start on <unk>.
On the capital structure.
Then Shelby I appreciate the commentary around <unk>.
S. P. A license number two and kind of trying to re up with a fourth license. How do you. How do you think about kind of timing of that fourth license and maybe access to that additional capital.
You know kind of relative to where the balance sheet well, how the balance sheet looks today, you're sitting on a lot of cash.
Edward H. Ross: And we clearly hope that we can keep managing the rest of the businesses in the way that we have in the past. Okay, I appreciate it, and again, congrats on the quarter. Thank you. Thanks, Rob. Appreciate it. Good talking to you. The next question comes from Bryce Rowe with B. Ryley. Please go ahead.
And so just trying to think about how you how you worked through that cash with.
With the with the pipeline that you see in front of me.
Sure Great question Bryce.
As we think about the S. B IC fund that we apply for as you know that takes some time.
Bryce Wells Rowe: Thanks. Good morning, Ed and Shelby. Good morning, Bryce.
About it in terms of you know kind of a six month window or so.
Bryce Wells Rowe: I'm good, thank you. Hey, maybe I'll start on the capital structure later. And Shelby, you appreciate the commentary around SBA license number two and kind of trying to re-up with a fourth license. How do you think about the timing of that fourth license and maybe access to that additional capital relative to how the balance sheet looks today? You're sitting on a lot of cash. And so, just trying to think about how you, you know, how you work through that cash with, you know, the pipeline that you see in front of you. Sure. A great question, Bryce.
So that's what our expectation is our hope.
Is that in 2024 will be able to start utilizing that.
License, but obviously, we're still in the application mode.
In regard to the cash obviously, we did prepay debentures and fun too, but the other pieces of puzzle is.
This quarter is actually shaping up from our perspective, assuming things go as we expect to be a very active investment quarter, but it is going to primarily be in in March and so we are where were currently you know in the <unk>.
Execution phase diligence and final execution phase of numerous investment opportunities and I would also say our our portfolio continues to exhibit act.
Edward H. Ross: You know, as we think about the SBIC fund that we applied for, as you know, that takes some time, and, you know, I think about it in terms of, you know, kind of a six-month window or so. So that's what our expectation is. Our hope is that, in 2024, we'll be able to start utilizing that license. But obviously, we're still in the application mode.
Acquisition type activity as well.
So it's it's it's shaping up to be a pretty I'm pretty active new investment quarter, and then from a repayment perspective.
We actually think it's probably going to shape up to be a lighter quarter.
Obviously, you had one sizable realization I mean, almost $25 million, but.
Edward H. Ross: You know, with regard to the cash, obviously, we did prepay the ventures and fund, too, but the other piece of the puzzle is, you know, we, this quarter is actually shaping up from our perspective as soon as things go as we expect to be a very active investment quarter, but it is going to primarily be in, in March. And so, you know, we are currently in the execution phase, diligence phase, and final execution phase of numerous investment opportunities. I would also say that our portfolio continues to exhibit acquisition-type activity as well. So it's shaping up to be a pretty active new investment quarter. And then from a repayment perspective, we actually think it's probably going to shape up to be a lighter quarter. You know, we've obviously had one sizable realization, meaning almost 25 million. But it doesn't appear that the calendar is very robust for the rest of the quarter.
It doesn't appear that the calendar is very robust the rest of the quarter. We do have a few companies that are evaluating strategic alternatives.
We view those investments.
Investments is probably more Q2 realizations.
And they also aren't the ones that we're aware of they aren't very large investments at the same time. So we think a we think a fair bit of the cash that we have on the balance sheet today will actually go to new investments here as we move forward here over the next.
Four to eight weeks.
Okay.
That's helpful and add beyond I guess, we've heard M&A activity picking up.
From from our many for many of your peers in the lower middle market does that did that M&A trend.
That youre seeing and experiencing does that does that continue beyond. This. This this march period are we going to continue to see it in the second and third quarter, just based on kind of what you're hearing at this point.
You know, it's a really good question right. So I think it's a little unclear.
In the lower middle market, one of the reasons, we like if theres more activity.
Edward H. Ross: We do have a few companies that are evaluating strategic alternatives. At the moment, we view those investments as probably more Q2 realizations, and they also aren't the ones that we're aware of.
Then the broader market in terms of number of deals, it's fragmented, which we like gives us a chance to kind of choose.
Choose what we really are interested in but you know activity levels are still well below 2021, and I'd say below a normal activity levels, but there you know there has been a little bit of an uptick here in Q4 and Q1 as well you know in January we are obviously pretty.
Edward H. Ross: They aren't very large investments. So, we think a fair bit of the cash that we have on the balance sheet today will actually go to new investments here as we move forward here over the next... That's helpful. And as you know, beyond, I guess we've heard M&A activity picking up from many of your peers in the lower middle market. Does that M&A trend that you're seeing and experiencing, will that continue beyond, you know, this March period? Are we going to continue to see it, you know, into the second or third quarter, just based on kind of what you're hearing at this point? You know, it's a really good question, Bryce.
Robust deal flow and some high quality situations.
You know I think it's unclear how long how sustainable that is but the expectation is that more of a market expectation is for continued.
No M&A activity at reasonable levels and above last year and so that's our hope.
And so that's what we're planning for but there's no guarantee of that obviously got it.
Last one for me it looks like the.
Edward H. Ross: I think it's a little unclear. I mean, look, in the lower-middle market, one of the reasons we like it, there's more activity than in the broader market in terms of the number of deals. It's fragmented, which we like, gives us a chance to kind of choose what we really are interested in. But, you know, activity levels are still well below 2021, and I'd say below normal activity
New activity.
In the fourth quarter from a.
I guess pricing perspective, it looks like most of those debt investments, where we're straight up first lien no no last out structure to them I might I might be wrong, there, but that's you know that's that's that's the way I read the schedule of investments.
Edward H. Ross: But, you know, there has been a little bit of an uptick here in Q4 and Q1 as well. In January, we obviously had some pretty robust deal flow and some high-quality situations. You know, I think it's unclear how long, how sustainable that is, but the expectations of more of a market expectation are for continued, you know, M&A activity at reasonable levels and above last year. And so that's our hope. And so that's what, you know, we're planning for, but there's no guarantee.
Any anything to kind of read into that or is that more just kind of flow of what what happened in the quarter relative to kind of what we've seen.
You know over the last couple of years in terms of structuring.
Structuring those debt investments.
No nothing.
Strategic gets more we start with the I think as you know just what's the quality of the underlying business and then try to figure out what the opportunity is and and in this case. It was more just a mix towards dollar one type investments.
The only thing I would say we are very focused on quality and so we're willing to sacrifice a little yield if we find the right you know quality investment if you will and so I'd say, there's a little bit of both of those they go into the decision, making but it starts with you know try.
Edward H. Ross: All right, last one for me, Ed. It looks like the new activity in the fourth quarter from a, I guess, pricing perspective. It looked like most of those debt investments were straight up first lien, no last out structure to them. I might be wrong there, but that's the way I read the schedule of investments. Anything to kind of read into that, or is that more just kind of flow of what happened in the quarter relative to kind of what we've seen over the last couple of years in terms of structuring those debt investments? Sure. No, nothing, you know, strategic.
To find very high quality businesses to invest in and then we figure out how we can do it.
And so hopefully that's helpful.
Hey, Thanks for the time, yes. Thank you I appreciate it good talking to you Bryce.
Thanks.
The next question comes from Mickey Schlein with Ladenburg. Please go ahead.
Oh, yes, good morning, everyone and it sounds like some of the repayment activity in the fourth quarter was due to refinancings, which certainly is in line with what we're seeing broadly so I'd like to get your take on how much more prepayment risks you see in the portfolio.
Edward H. Ross: It's more we start with, I think, as you know, just what the quality of the underlying business is, and then try to figure out what the opportunity is. And in this case, it was more just a mix towards dollar-one type investments. You know, the only thing I would say is that we are very focused on quality, right? And so we're willing to sacrifice a little yield if we find the right quality investment. So, I'd say there's a little bit of both of those that go into the decision-making, but it starts with, you know, trying to find very high-quality businesses to invest in, and then we figure out how we can do it. So, hopefully, that's all. That is it.
Yes.
Sure it's a great question.
Mickey I think in terms of repayments.
Hum.
We haven't seen a lot of repayments that are just trying to get a lower price.
In fact.
You know when I look at the three companies that were repayments for US two of them were strategic in nature by US and then one of them was a very large acquisition and we just chose to.
Bryce Wells Rowe: Thanks for the time. Yeah, thank you. I appreciate it. Good talking to you, Bryce. You too. The next question comes from Mickey Schleien with Lattinburg. Please go ahead.
Two exits that situation from a debt and equity perspective.
So you know we haven't seen a lot of just getting taken out if you will of our debt investments you know, having said that I think we're in a.
Mickey Max Schleien: And it sounds like some of the repayment activity in the fourth quarter was due to refinance things, which certainly is in line with what we're seeing broadly. So I'd like to get your take on how much more prepayment risk you see in the portfolio. Sure, it's a great question, Mickey. I think in terms of, you know, repayment. We haven't seen a lot of repayments that are just trying to get a lower price.
An environment, where competition has increased over the last 12 months yields have come down a little bit.
And are you know so I would expect that pieces of puzzle to show its face a little bit.
I'm here in 2024 more so than the last couple of years. So that's how I. That's how we currently think about it.
I understand thanks for that.
I just wanted to follow up on the sports SBA license.
Edward H. Ross: In fact... You know, I look at the three companies that were repayments for us, two of them were strategic in nature by us, and then one of them was a very large acquisition, and we just chose to exit that situation from a debt and equity perspective. Um... So, you know, I, we haven't seen a lot of just getting taken out, if you will, of our debt investments. You know, having said that, you know, I think we're in an environment where competition has increased over the last 12 months, yields have come down a little bit, and our, you know, so I would expect that piece of the puzzle to show its face a little bit here in 2024, more so than the last couple of years. That's how we currently think about it. I understand. Thanks for that.
I'm not I'm not clear on exactly what's going on because fund three already has regulatory capital of $175 million.
What debt commitments has b S. P. A made to fund three and why does that necessitate a fund for.
Sure Shelby do you want to take that one.
Sure. So let me just start let's talk about fun too and so I made the comment that we repaid 35 million of SBA debentures and that was really just to avoid a situation, where we would end up with trapped cash and so given some of the repayments that we had in 2023 and quite frankly, a subsequent event in 2020.
For our second FDIC license had a fair amount of excess cash and so the best way to utilize that cash was used to repay 35 million that completes the wind down of fun to any further repayments in that fund we can fully redeploy cash on a go forward basis, whether it be making investments out of.
Mickey Max Schleien: I just wanted to follow up on the fourth SBIC license. I'm not clear on exactly what's going on because Fund 3 already has regulatory capital of $175 million. So what debt commitments has the SBA made to Fund 3 and why does that necessitate a Fund 4? Sure. Shelby, do you want to take that one?
The BDC or using some equity capital to contribute to a new fourth SP I see license once it's approved by the SBA. So that really late with with that repayment that leaves us with one S. P. I C. Licensed one three that has been fully deployed meaning we fully borrowed and invested.
Shelby E. Sherard: Let's talk about fund two. I made the comment that we repaid $35 million of SBA debentures. That was really just to avoid a situation where we would end up with trapped cash. Given some of the repayments that we had in 2023 and, quite frankly, a subsequent event in 2024, our second SBIC license had a fair amount of excess cash. The best way to utilize that cash was just to repay $35 million.
175 million cap per SP I see license for fun three so that necessitated the need to go ahead and get another S. V. I C license. So we submitted that application at the end of December and as Ed mentioned, you know, we've kind of like to think that that hopefully that will definitely be in 'twenty 'twenty four my hope a day.
Shelby E. Sherard: That completes the winding down of fund two. Any further repayments in that fund, we can fully redeploy cash on a go-forward basis, whether it be making investments out of the BDC or using some equity capital to contribute to a new fourth SBIC license once it's approved by the SBA. With that repayment, that leaves us with one SBIC license, fund three, that has been fully deployed, meaning we fully borrowed and invested the $175 million cap per SBIC license for fund three. That necessitated the need to go ahead and get another SBIC license.
Now first half if not shortly thereafter of 'twenty 'twenty four so we can start deploying new capital into that fourth SP I see your license are because of the attractive rates on SBA debentures, given other alternatives in this market environment.
So that's really just more of them.
Yeah, No I agree that the rates are attractive. So fund three is limited to debt to equity of only one times rather than two times.
Shelby E. Sherard: We submitted that application at the end of December. As Ed mentioned, we'd like to think that hopefully that will definitely be in 2024. My hope would be the first half, if not shortly thereafter, of 2024, so we can start deploying new capital into that fourth SBIC license because of the attractive rates on SBA debentures given other alternatives in this market environment.
No. It's two times. So we have the two times fully deploy the $175 million is the two times.
Okay.
Thanks for that she'll be an end.
How is the increased allocation to first lien and unitranche overtime impact in your target debt to equity.
Number.
Great question Mickey.
Shelby E. Sherard: So it's really just more... And I agree that the rates are attractive. So fund three is limited to debt to equity of only one times rather than two times. No, it's two times, so we have the two times fully deployed.
No at the moment, where we're kind of sticking with our one to one target leverage.
From a GAAP perspective, we are okay. If you know from time to time, we would go above that but generally you know the target would be one to one.
And so it really hasn't changed our focus clearly we have the ability and as you know the spic's funds or <unk>.
Edward H. Ross: The $175 million is two times that. Okay. Thanks for that, Shelby. And how has the increased allocation to First Lean and Unitronch over time impacted your target debt-to-equity number? Great question, Mickey.
Dropdowns are levered more to to one we feel very comfortable with higher leverage but from a just a.
You know strategy perspective, and how we think about it I think being a kind of more conservative and just thinking about one to one makes more sense to us at this juncture.
Edward H. Ross: You know, at the moment, we're kind of sticking with our one-to-one target leverage from a gap perspective. We are okay if, you know, from time to time, we go above that, but generally, you know, the target would be one-to-one. And so it really hasn't changed, you know, our focus. Clearly, we have the ability, and as you know, the SBIC funds are, as drop-downs are levered more two-to-one, we feel very comfortable with higher leverage. But from just a strategy perspective and how we think about it, I think being kind of more conservative and just thinking about one-to-one makes more sense to us.
And does that reflect some concern you have about the economy and you know you still have a meaningful allocation to second lien or subordinated debt.
Or is it something else that's on your mind.
No.
We prefer to operate a you know in kind.
Kind of less than market leverage we don't think we need to to use leverage to perform well and so it's a we kind of like a.
A little bit less than market leverage our just overall, but it does it's not a reflection of concerns in the portfolio or recession or what have you. It's more just kind of how we've operated in the past and we don't see a need to change that at this point.
Okay I appreciate that that's those are all my questions. Thanks for your time.
Edward H. Ross: And Ed, does that reflect some concern you have about the economy and, you know, you still have a meaningful allocation to second lien and subordinated debt, or is it something else that's on your mind? No, I think we prefer to operate at a kind of less-than-market leverage. We don't think we need to use leverage to perform well.
Thank you, you're making to talking to you.
Again, if you have a question. Please press Star then one.
The next question comes from Erik Zwick with hub group. Please go ahead.
Good morning.
Wanted to start first with just a question on the L. Pic income looks like it was down quarter over quarter in Q4. So I'm wondering if could just maybe spend a positive development but.
Edward H. Ross: And so we kind of like a little bit less-than-market leverage just overall. But it's not a reflection of concerns in the portfolio or recession or what have you. It's more just kind of how we've operated in the past, and we don't see a need to change. Okay, I appreciate that. Those are all my questions.
A company or two that had been.
Pik income before and return to a cash payer or kind of maybe what what moved back quarter over quarter.
Sure Great question I think the primary driver there was exactly what you just said one of ours strategic pruning situations was a company that had moved to pick during the third quarter and we are we obviously work to try to exit that credit.
Mickey Max Schleien: Thanks for your time. Thank you, Mickey. It's good talking to you. Again, if you have a question, please press star then 1. The next question comes from Erik Zwick with Hub V Group. Please go ahead.
And we're successful in doing so so that's the biggest driver I don't I'm not sure there other big drivers in there I think that that's the main one.
Erik Edward Zwick: Good morning. I wanted to start first with just a question on the PIC income. It looks like it was down quarter over quarter in Q4. So I'm wondering if it's just maybe some positive development with a company or two that had been paying PIC income before and return to cash pay, or kind of maybe what moved that quarter of a quarter. Sure, great question. I think the primary driver there was exactly what you just said.
Got it that makes sense. Thanks Ed.
And then just turning to.
Kind of the pipeline and the opportunities you're seeing today you know we've heard from other bdcs that operate further up market the upper middle market and middle market that competition has become a little bit more intense.
Intense curious what you're seeing kind of in your lower middle market focus in terms of spread leverage covenants relative to maybe six or 12 months ago have you noticed a market change there.
Edward H. Ross: One of our, you know, strategic pruning situations was a company that had moved to PICC during the third quarter. And we obviously worked to try to exit that credit, and we're successful in doing so. So that's the biggest driver. I'm not sure there are other big drivers in there, but I think that's the main one. Got it.
I do think relative to 12 months ago I mean, it's a different environment. You know there was 12 months ago. There were a lot of folks that were you know think about banks quite frankly, there are a number of private lenders that were.
Not far from just being on the sidelines that situation has changed and I think most people other than certain banks that have ever attracted you know are in the market and so there is an increased level of competition from 12 months ago.
Edward H. Ross: That makes sense. Thanks, Ed. And then just turning to The Pipeline and the Opportunities you're seeing today, you know, we've heard from other BDCs that operate further up market, the upper middle market, and middle market that competition has become a little bit more intense. Curious what you're seeing kind of in your lower middle market focus in terms of spread, leverage, covenants relative to maybe 6 or 12 months ago, if you noticed a market change there. I do think, relative to 12 months ago, it's a different environment. You know, there were 12 months ago, there were a lot of folks that were, you know, think about banks, quite frankly, a fair number of private lenders that were. Not far from just being on the sidelines, you know, but that situation has changed.
And I think you are seeing that in spreads and spreads you know if I were to pick a numbers probably 50 basis points.
And you know it depends on what structure right for us whether it's a dollar one first lien investment or if it's a first out last out structure.
But.
Generally speaking there is an increase in the level of competition because.
Because I think people a year ago were very very worried about what's next and now just given the resiliency of the economy I think folks are more both from a you know acquisition and M&A perspective on the equity side as well as the lending side I think I think folks are more interested in transacting and and kind of.
See the resiliency of the economy are comfortable with that.
Got it and then last one just thinking about interest rate sensitivity I know you've got a portion of the debt.
Edward H. Ross: And I think most people, other than certain banks that have retracted, you know, are in the market. And so there is an increased level of competition from 12. And I think you are seeing that in spreads. In spreads, you know, if I were to pick a number, it's probably 50 basis points. And, you know, it depends on what structure, right, for us, whether it's a $1.01 first lien investment or if it's a first-out, last-out structure. But, you know, generally speaking, there is an increase in the level of competition.
Investments that are fixed so.
I think the market is still trying to figure out exactly when the shape of the curve or the futures kind of short rates interest rates go down, but it seems to be that that's more likely been going up. So I'm wondering if you could just kind of remind me.
You know the sensitivity to earnings for maybe like each 25 basis point potential cut how that would impact earnings.
Jeremy do you want to take this one or you want me to do it either.
Well I don't want to use.
Okay, all right got it I'm sure, but the other thing Eric I would point, we do have a for more details. We do have a sensitivity chart disclose in our 10-K, where you kind of see some calibrations based off of various increases or decreases.
Edward H. Ross: Because I think people a year ago were very, very worried about, you know, what's next. And now, just given the resiliency of the economy, I think folks are more optimistic, both from an acquisition and M&A perspective on the equity side, as well as the lending side. I think folks are more interested in transacting and kind of see the resilience of the economy and are comfortable with it. I think the market's still trying to figure out exactly when the shape of the kind of curve or the future kind of short-term interest rates will go down, but it seems to be that that's more likely than going up. So I'm wondering if you could just kind of remind me, you know, the sensitivity to earnings for maybe each 25 basis point potential cut, how that would impact earnings. Shelby, do you want to take this one or do you want me to do it?
Underlying interest rates.
So they're just taken a shot at it it's a 25 basis points would.
Probably create a reduction of call it a million in a quarter. These are estimates.
A reduction in our NII.
I mean, no movements and the incentive fees.
So if you double that to 50 basis points would be two and a half.
100 basis points would be $5 million.
<unk>.
So that's how I hopefully that's helpful and I do think there's a sensitivity table in the 10-K that will be helpful as well.
Yeah, that's great I definitely.
Table would add Eric is that it's not entirely linear just because we do have some floors on a variety of our debt investments.
No that's great color to all I'll check out on the table and I always like to ask two just because as we know there's a sensitivity analysis, you've got to make some assumptions in terms of it so.
Edward H. Ross: Why don't you take a crack at it? And then the other thing, Erik, I would point out that we do have a sensitivity chart disclosed in our 10-K where you can kind of see some calibrations based on various increases or decreases in underlying interest rates. So, Erik, just taking a shot at it, so 25 basis points would probably create a reduction of, call it a million and a quarter, these are estimates, in our NII. $5.5 million $5.5 million $5.5 million. So that's how I, hopefully that's helpful, and I do think there's a sensitivity table in the 10-K that, hopefully, will be helpful as well. The only thing I would add, Erik, is that it's not entirely linear, just because we do have some floors on a variety of our debt investments. No, that's a great color too.
Shock or more gradual than that if there's twists and occur or thinking about it yourself I. Appreciate the commentary. Thanks, that's all for me today.
Yeah, Thank you, Eric and talking to you.
This concludes our question and answer session I would like to turn the conference back over to Ed Ross for any closing comments.
Thank you drew and thank you everyone for joining us this morning.
Forward to speaking with you on our first quarter call in early May.
Have a great day and a great weekend.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.
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Erik Edward Zwick: I'll check out the table, and I always like to ask. As we know, in sensitivity analysis, you've got to make some assumptions in terms of shock or more gradual, and then if there's twists that occur, things of that nature, so I appreciate the commentary. Thanks, Edward Ross. That's all for me today. Thank you, Erik. It's good talking to you. This concludes our question and answer session. I would like to turn the conference back over to Edward Ross for any closing comments. Thank you, Drew, and thank you, everyone, for joining us this morning. We look forward to speaking with you on our first quarterly call in early May. Have a great day and a great weekend!
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Edward H. Ross: The conference has now concluded. Thank you for attending today's presentation. You may now disconnect, www.
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Operator: FidusInvestmentCorp.com BF-WATCH TV 2021 www. FidusInvestmentCorp.com BF-WATCH TV 2021, www. FidusInvestmentCorp.com www. FidusInvestment.com www. FidusInvestmentCorp.com
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