Q2 2024 FS KKR Capital Corp Earnings Call

Speaker Change: Good morning, ladies and gentlemen. Welcome to the FS KKR Capital Corp's second quarter 2024 earnings conference call. Your lines will be in a listen-only mode during remarks by FS K's management.

Operator: 2024 earnings conference call. Your lines will be in a listen only mode during remarks by FSK's management.

Speaker Change: At the conclusion of the company's remarks, we will begin the question and answer session, at which time I will give you instructions on entering the queue.

Speaker Change: Please note that this conference is being recorded. At this time, Anna Kleinhen, Head of Investor Relations, will proceed with the introduction. Ms. Kleinhen, you may begin.

Anna Kleinhen: Thank you. Good morning and welcome to FS KKR Capital Corp's second quarter 2024 earnings conference call.

Operator: Please note that FS KKR Capital Corp may be referred to as FSK, the fund, or the company throughout the call. Today's conference call is being recorded, and an audio replay of the call will be available for 30 days. Replay information is included in a press release that FSK issued yesterday. In addition, FS KKR posted on its website a presentation containing supplemental financial information with respect to its portfolio and financial performance for the quarter ended June 30th, 2024.

Anna Kleinhen: Please note that FS KKR Capital Corp may be referred to as FSK, the fund, or the company throughout the call.

Speaker Change: Today's conference call is being recorded and an audio replay of the call will be available for 30 days. Replay information is included in a press release that FSK issued yesterday.

Speaker Change: In addition, FS KKR posted on its website a presentation containing supplemental financial information with respect to its portfolio and financial performance for the quarter ended June 30, 2024.

Operator: A link to today's webcast and the presentation is available in the investor relations section of the company's website under events and presentations. Please note that this call is the property of FSK. Any unauthorized rebroadcast of this call in any form is strictly prohibited.

Speaker Change: Please note that this call is the property of FSK. Any unauthorized rebroadcast of this call in any form is strictly prohibited.

Operator: Today's conference call includes forward-looking statements that are subject to risks and uncertainties that could affect FSK or the economy generally. We ask that you refer to FSK's most recent filings with the SEC for important factors and risks that could cause actual results or outcomes to differ materially from these statements. In addition, this call will include certain non-GAAP financial measures. Furthermore, these non-GAAP financial measures may not be the same as similarly named measures reported by other companies.

Speaker Change: Today's conference call includes forward-looking statements and are subject to risks and uncertainties that could affect FSK or the economy generally.

Speaker Change: We ask that you refer to FSK's most recent filings with the SEC for important factors and risks that could cause actual results or outcomes to differ materially from these statements.

Speaker Change: FSK does not undertake to update its forward-looking statements unless required to do so by law.

Speaker Change: In addition, this call will include certain non-GAAP financial measures. For such measures, reconciliations to the most directly comparable GAAP measures can be found in FSK's second quarter earnings release that was filed with the SEC on August 6, 2024.

Speaker Change: non-GAAP information should be considered supplemental in nature and should not be considered in isolation or as a substitute for the related financial information prepared in accordance with GAAP.

Speaker Change: In addition, these non-GAAP financial measures may not be the same as similarly named measures reported by other companies.

Operator: To obtain copies of the company's latest SEC filings, please visit FSK's website. Speaking on today's call will be Michael Forman, Chief Executive Officer and Chairman, Dan Pietrzak, Chief Investment Officer and Co-President, Brian Gerson, Co-President, and Steven Lilly, Chief Financial Officer. Also joining us on the call today are Co-Chief Operating Officers Drew O'Toole and Ryan Wilson.

Michael Forman: We did, however, see some stress on investments placed on our accrual in the prior quarter. Our workout investment teams have continued working toward resolutions for these portfolio companies, and the team will go into more detail on this later in the call. From a liquidity perspective, we ended the quarter with approximately $4.7 billion of available liquidity. Our board has declared a total third-quarter distribution of 70 cents per share, consisting of our base distribution of 64 cents per share and a supplemental distribution of six cents per share.

Speaker Change: Speaking on today's call will be Michael Forman, Chief Executive Officer and Chairman, Dan Pietrzak, Chief Investment Officer and Co-President, Brian Gerson, Co-President, and Steven Lilly, Chief Financial Officer.

Speaker Change: Also joining us on the call today are Co-Chief Operating Officers Drew Toole and Ryan Wilson.

Speaker Change: Thank you, Anna, and good morning, everyone. Thank you all for joining us today for FSK's second quarter 2024 earnings call.

Speaker Change: During the second quarter, FSK generated net investment income totaling 77 cents per share and adjusted net investment income totaling 75 cents per share as compared to our public guidance of approximately 74 cents and 71 cents per share respectively.

Speaker Change: As we look at our borrower's operating performance for the quarter, we continue to see strong results as most companies have adjusted to higher base rate environments.

Speaker Change: Our Workout Investment teams have continued working toward resolutions for these portfolio companies. And the team will go into more detail on this later in the call. From a liquidity perspective, we ended the quarter with approximately $4.7 billion of available liquidity.

Speaker Change: We continue to believe investors will be able to receive a minimum of $2.90 per share of total distributions in 2024, which equates to a 12.1% yield on our June 30

Speaker Change: 2024 net asset value of $23.95 per share and a yield of approximately 15% based upon our recent share price.

Michael Forman: As Dan will discuss in more detail during his comments, the market remains competitive, as all lenders have experienced some amount of spread compression. During the first half of 2024, the investment team originated $2.7 billion of investment, of which $1.3 billion were originated during the second quarter, from a forward-looking perspective. Despite the expectation that the Fed may begin reducing interest rates as early as September, we believe the elevated rate environment, coupled with our still significant level of spillover income, will continue to drive FSK's earnings and provide support for the attractive base and supplemental distributions we are paying our shareholders. And with that, I'll turn the call over to Dan and the team to provide additional color on the market and the quarter. Thanks, Mike.

Unknown Executive: The first half of this year has been characterized by a strong economic backdrop. However, recent economic data has surfaced some concerns over the health of the U.S. economy. Global markets have evolved and adapted to the current interest rate and inflationary environment. However, the domestic political environment and the international geopolitical situation remain extremely complex.

Unknown Executive: As a result, and with certain recent market moves, we expect market volatility to remain elevated. Regardless of the election outcome, we believe government spending will likely remain elevated regardless of which political party wins the White House. Importantly, productivity in the U.S. remains high, which should allow many companies to continue their level of sustained growth despite higher wages and inventory costs. However, as Michael mentioned, competition for new investments continues to remain elevated as M&A volumes remain below average.

Speaker Change: Regardless of the election outcome, we believe government spending will likely remain elevated regardless of which political party wins the White House.

Speaker Change: As Michael mentioned, competition for new investments continues to remain elevated as M&A volumes remain below average.

Unknown Executive: That being said, the investment opportunities we have been evaluating continue to be of higher quality as financial sponsors seek to return capital to LPs by monetizing many of their top performing assets. These market inputs have resulted in tighter pricing for new transactions.

Michael Forman: These market inputs have resulted in tighter pricing for new transactions, as well as an increased level of requests from existing portfolio companies to amend and reduce pricing related to loans originated over the last two to three years.

Speaker Change: Approximately 70% of our new investments were focused on add-on financings to existing portfolio companies and long-term KKR relationships.

Unknown Executive: Our new investments, combined with $1.34 billion of net sales and repayments, equated to a net portfolio decrease of $76 million. New Originations consisted of approximately 81% in first lien loans, 2% in other senior secured debt, 1% in subordinated debt, and 16% in asset-based finance investments. Asset-based finance investments were a smaller portion of our second quarter deployment primarily due to the fact that the ABF investments still tend to be more opportunistic in nature than traditional direct investments. We believe that size and scale matter and that our approach is differentiated.

Speaker Change: New Originations consisted of approximately 81% in first lien loans, 2% in other senior secured debt, 1% in subordinated debt, and 16% in asset-based finance investments.

Speaker Change: Asset-based finance investments were a smaller portion of our second quarter deployment activity, primarily due to the fact that the ABF investments still tend to be more opportunistic in nature than traditional direct lending.

Speaker Change: KKR has approximately $60 billion in ABF assets under management, with a team of more than 50 people dedicated to the strategy.

Speaker Change: Our target for ABF investments in FSK remains 10 to 15 percent of the company's total portfolio.

Unknown Executive: We continue to be pleased with the quality of new investments. During the second quarter, our new direct lending investments had a weighted average EBITDA of approximately $127 million. One example of a new deal originated by our non-sponsor-backed effort during the quarter was Rockefeller Capital Management, a financial services firm serving high net worth and ultra high net worth individuals.

Speaker Change: KKR credit was co-lead on the deal to refinance the existing capital structure and FSK as well as other KKR funds committed 100 million dollars of a 700 million dollar unit tranche loan

Unknown Executive: Another investment to highlight is our investment in Cadence Education, a leading provider of early childhood education services in the U.S., and FSK, as well as other KKR funds, committed $198 million of the $680 million total financing. When we look at aggregate trends across our portfolio companies, we observe 12% year-over-year EBITDA growth at portfolio companies in which we have invested since April of 2018. Additionally, the weighted average and median EBITDA of our portfolio companies was $225 million and $124 million, respectfully, as of June 30, 2024.

Speaker Change: Another investment to highlight is our investment in Cadence Education, a leading provider of early childhood education services in the U.S.

Speaker Change: When we look at aggregate trends across our portfolio companies, we observe 12% year-over-year EBITDA growth at portfolio companies in which we have invested in since April of 2018.

Unknown Executive: As of the end of the second quarter, non-accruals represented 4.3% of our portfolio on a cost basis and 1.8% of our portfolio on a fair value basis. This compares to 6.5% of our portfolio on a cost basis and 4.2% of our portfolio on a fair value basis as of March 31, 2024. Brian will provide further details on the driver of the reduction of our non-accrual rate later in the call. We also believe...

Speaker Change: As of the end of the second quarter, non-accruals represented 4.3% of our portfolio on a cost basis and 1.8% of our portfolio on a fair value basis.

Speaker Change: This compares to 6.5% of our portfolio on a cost basis and 4.2% of our portfolio on a fair value basis as of March 31, 2024.

Unknown Executive: It is helpful to provide the market with information based on FSK's assets originated by KKR Credit. 0.6% on a fair value basis as of June 30th, 2024. And with that, I'll turn the call over to Brian to discuss our portfolio in more detail. Thanks, Dan.

Speaker Change: We also believe it is helpful to provide the market with information based on FSK's assets originated by KKR Credit.

Speaker Change: Non-accruals relating to the 88% of our total portfolio which has been originated by KKR Credit and the FS KKR Advisor were 2.4% on a cost basis.

Brian Gerson: Thanks, Dan. At the end of the second quarter, our investment portfolio had a fair value of $14.1 billion. 208 Portfolio. This compares to a fair value of $14.2 billion and 205 portfolio companies as of March 31, 2024. Leverage remained relatively flat quarter over quarter, and the decline in our investment portfolio's fair value was primarily driven by unrealized depreciation relating to three investors, Miami Beach Medical Group, and Bowery Farming, which have been on non-accrual.

Dan Pietrzak: Thanks, Dan. At the end of the second quarter, our investment portfolio had a fair value of $14.1 billion, consisting of 208 portfolio companies.

Dan Pietrzak: Miami Beach Medical Group

Brian Gerson: Kellermeyer Bergensen Services, which was restructured in the first quarter, while smaller investments from a cost and fair value perspective. Miami Beach and Bowery continue to be under pressure, and we are working with both companies to maximize our recovery.

Brian Gerson: We are pleased with the progress that KBS is making under our collective ownership and are optimistic about its future prospects. At the end of the second quarter, our 10 largest portfolio companies represented approximately 20% of the fair value of our portfolio, which is in line with prior quarters. We continue to focus on senior secured investments, as our portfolio consisted of approximately 58% personally on loan, and 66% Senior Secure Debt as of June 30th.

Dan Pietrzak: We continue to focus on senior secured investments as our portfolio consisted of approximately 58 percent first lien loans and 66 percent senior secured debt as of June 30th

Brian Gerson: In addition, our joint venture represented 9.8% of the fair value of our portfolio. As a result, when investors consider our entire portfolio, looking through to the investments in our joint venture, then first lien loans total approximately 67% of our portfolio, and senior secured investments total approximately 74% of our portfolio as of June 30. The weighted average yield on occurring debt investments was 12% as of June 30th, a decrease of 10 basis points compared to 12.1% as of March 31, 2024. The decrease is primarily attributable to lower spreads on new investments and the repricing of certain investments during the quarter.

Dan Pietrzak: As a result, when investors consider our entire portfolio, looking through to the investments in our joint venture, then first lien loans total approximately 67% of our portfolio, and senior secured investments total approximately 74% of our portfolio as of June 30th.

Dan Pietrzak: The weighted average yield on occurring debt investments was 12% as of June 30th, a decrease of 10 basis points compared to 12.1% as of March 31, 2024.

Dan Pietrzak: The decrease is primarily true that a little lower spreads on new investments and the repricing of certain investments during the quarter

Steven Lilly: As a reminder, the calculation of the weighted average yield is adjusted to exclude the accretion associated with the merger with FSKR. During the second quarter, we amended our investment in GlobalJet Capital, which simplified and enhanced the company's capital structure. As we have discussed on prior earnings calls, we have been pleased with the accomplishments of GlobalJet's management team in recent years, as the company made a strategic shift to be more selective with originations and increase return targets, while also reducing SG&A to drive a higher ROE.

Dan Pietrzak: As a reminder, the calculation of weighted average yield is adjusted to exclude the accretion associated with the merger with FSKR.

Dan Pietrzak: During the second quarter, we amended our investment in GlobalJet Capital, which simplified and enhanced the company's capital structure.

Dan Pietrzak: As we have discussed on prior earnings calls, we have been pleased with the accomplishments of GlobalJet's management team during recent years, as the company made a strategic shift to be more selective with originations and increase return targets, while also reducing SG&A to drive a higher ROE.

Steven Lilly: Importantly, the company's approximately $2 billion jet lease and loan portfolio has no delinquencies and is experiencing attractive renewal or sale opportunities on assets that are coming off lease. The business is in a stable and competitive position and has generated an ROE approaching 10% in each of the last two years. Additionally, the company has returned $130 million of capital to FSK over roughly the last two years. The business continues to execute its ABS strategy, closing BJETS 2024-1 in April at attractive terms, helping drive meaningful capital return into the business.

Dan Pietrzak: Importantly, the company's approximately $2 billion jet lease and loan portfolio has no delinquencies and is experiencing attractive renewal or sale opportunities on assets that are coming off lease.

Dan Pietrzak: The business continues to execute its ABS strategy, closing BJETS 2024-1 in April at attractive terms, helping drive meaningful capital return into the business.

Steven Lilly: During the second quarter, FSK received $51 million in distributions, which were used to fully repay our structured mezzanine position and partially repay our pick preferred position. In conjunction with this distribution, our PIC preferred equity investment was restructured into a perpetual preferred. Production Resource Group, Global Jet Capital, J.W. Aluminum, and our Performing First Lean position in PSKW, all of which we've discussed on either this or prior earnings calls, represent approximately 9% of the 12% total legacy exposure, and we continue to be satisfied with their performance.

Dan Pietrzak: During the second quarter, FSK received $51 million of distributions, which were used to fully repay our structured mezzanine position and partially repay our PIC preferred position.

Dan Pietrzak: We continue to remain focused on rotating the remaining 12% of legacy investment exposure.

Dan Pietrzak: Production Resource Group.

Dan Pietrzak: J.W. Aluminum, and our performing first lane position, PSKW.

Dan Pietrzak: all of which we've discussed on either this or prior earnings calls.

Dan Pietrzak: In addition, since Q2 2018, we have achieved significant portfolio rotation out of cyclical industries.

Steven Lilly: We have rotated over $3 billion of legacy investments out of materials, energy, consumer durables, and consumer discretionary into new investments in more defensive industries like software and services, healthcare equipment and services, and commercial and professional services. And with that, I'll turn the call over to Steven to go through our financial results.

Dan Pietrzak: We have rotated over three billion dollars.

Dan Pietrzak: of Legacy Investments out of materials, energy, consumer durables, and consumer discretionary into new investments in more defensive industries like software and services, healthcare equipment and services, and commercial and professional services.

Dan Pietrzak: And with that, I'll turn the call over to Steven to go through our financial results.

Steven Lilly: Our total investment income increased by $5 million during the second quarter to $439 million. The primary components of our total investment income during the quarter were as follows. Total interest income was $353 million, an increase of $3 million quarter over quarter. Dividend and fee income totaled $86 million, an increase of $2 million quarter over quarter. Our total dividend and fee income during the quarter is summarized as follows. $52 million of recurring dividend income from our joint venture.

Steven Lilly: Total interest income was $353 million, an increase of $3 million quarter over quarter.

Steven Lilly: Dividend and fee income totaled $86 million, an increase of $2 million, quarter over quarter.

Speaker Change: Our total dividend and fee income during the quarter is summarized as follows. $52 million of recurring dividend income from our joint venture.

Speaker Change: Other dividends from various portfolio companies totaling approximately $16 million during the quarter and fee income totaling approximately $18 million during the quarter.

Steven Lilly: Other dividends from various portfolio companies totaling approximately $16 million during the quarter, and fee income totaling approximately $18 million during the quarter. Our interest expense totaled $115 million during the quarter, a decrease of $1 million quarter over quarter, and our weighted average cost of debt was 5.3% as of June 30th.

Speaker Change: Our interest expense totaled $115 million during the quarter, a decrease of $1 million quarter over quarter, and our weighted average cost of debt was 5.3% as of June 30th.

Steven Lilly: Management fees totaled $54 million, a decrease of $1 million, and incentive fees totaled $45 million, an increase of $2 million, quarter over quarter. The detailed bridge and our net asset value per share on a quarter over quarter basis is as follows. Our ending 1Q2024 net asset value per share of $24.32 was increased by GAAP net investment income of $0.77 per share and was decreased by 39 cents per share due to a decrease in the overall value of our investment portfolio.

Speaker Change: Other expenses totaled $10 million, an increase of $2 million quarter over quarter.

Speaker Change: The detailed bridge in our net asset value per share on a quarter-over-quarter basis is as follows.

Speaker Change: and was decreased by 39 cents per share due to a decrease in the overall value of our investment portfolio.

Speaker Change: Our net asset value per share was reduced by our $0.70 per share quarterly distribution.

Steven Lilly: These activities result in our June 30, 2024 net asset value per share of $23.95. From a forward-looking guidance perspective, we expect third quarter 2024 GAAP net investment income to approximate $0.72 per share, and we expect our adjusted net investment income to approximate $0.70 per share. Detailed third quarter guidance is as follows.

Speaker Change: and also the five cent per share special distribution.

Speaker Change: These activities result in our June 30, 2024 net asset value per share of $23.95.

Speaker Change: From a forward-looking guidance perspective, we expect third quarter 2024 GAAP net investment income to approximate $0.72 per share, and we expect our adjusted net investment income to approximate $0.70 per share.

Steven Lilly: A recurring interest income on a gap basis is expected to approximate $351 million. We expect recurring dividend income associated with our joint venture to approximate $47 million, a decrease of approximately $5 million quarter over quarter. The expected decrease is the result of recent portfolio company paydowns and the corresponding recycling of capital. We expect other fee and dividend income to approximate $26 million during the third quarter. These dividends tend to fluctuate on a quarterly basis for various reasons.

Speaker Change: We expect recurring dividend income associated with our joint venture to approximate $47 million, a decrease of approximately $5 million quarter over quarter.

Speaker Change: We expect other fee and dividend income to approximate $26 million during the third quarter.

Steven Lilly: From an expense standpoint, we expect our management fees to approximate $53 million. We expect incentives to approximate $42 million. We expect our interest expense to approximate $117 million, and we expect other G&A expenses to approximate $10 million, comprised of $2.80 per share of quarterly base and supplemental distributions and $0.10 per share of previously paid special distribution.

Speaker Change: From an expense standpoint, we expect our management fees to approximate $53 million. We expect incentive fees to approximate $42 million.

Speaker Change: 6.875% unsecured notes due 2029, which were subsequently swapped to floating rate pursuant to interest rate swap agreements that mature when the notes are due in 2029.

Speaker Change: Proceeds from the unsecured note issuance are used to repay outstanding debt on our revolver.

Speaker Change: With this issuance, we further strengthened our balance sheet and liquidity position and extended our maturity ladder.

Speaker Change: Our gross and net debt-to-equity levels were 119% and 109% respectively at June 30, 2024, compared to 117% and 109% at March 31, 2024.

Unknown Executive: Thanks, Steven. In closing, we've had a productive first half of 2024. First, origination activity increased from muted 2023 levels, resulting in the deployment of capital into compelling new transactions. Second, our underlying portfolio companies generally continue to perform well, and we've made significant progress restructuring certain non-accruing investments. Lastly, we continue to fully earn both our base and supplemental distributions on a per share basis and pay out a 15% dividend yield based on our currently expected full year distribution of $2.90 per share and our recent market share price.

Steven Lilly: Thanks, Steven. In closing, we've had a productive first half of 2024. First, origination activity increased from muted 2023 levels, resulting in the deployment of capital into compelling new transactions.

Speaker Change: Lastly, we continue to fully earn both our base and supplemental distributions on a per share basis and pay at a 15% dividend yield based on our currently expected full year distribution of $2.90 per share in our recent market share price.

Speaker Change: As we look toward the second half of the year and beyond, we believe the future opportunity for our platform is extremely attractive.

Operator: As a reminder, to ask a question, you will need to press star 11 on your telephone and wait for your name to be announced. To withdraw your question, please press star 11 again. Our first question comes from the line of Finney and O'Shea of Wells Fargo Security. Your line is now open.

Unknown Caller: Hey, everyone. Good morning.

Speaker Change: First question, how are you?

Speaker Change: Stretch Percentage of Income or NAV, and what plans you have with that, or what sort of options you're looking at.

Speaker Change: You know, I think we've always, you know, thought about having, you know, two to three-quarters of spillback sort of income there. I think we're kind of the middle to sort of the upper end of that range, which I think we're happy with. I think that provides a nice protection.

Unknown Executive: As we think about, you know, longer-term dividend coverage, but Steven, I think you want to add, "Yeah."

Speaker Change: As we think about, you know, longer term dividend coverage, but Steven, anything you want to add there?

Steven Lilly: We're kind of really close to three quarters of spillover down to something in the sort of 2.8 range now.

Steven Lilly: I don't even think it's idiosyncratic fit necessarily. Those deals, I think because they're a little bit...

Steven Lilly: as it relates to dividends on a quarter-by-quarter basis. I think there's great consistency over what's called the life of the deal. I think we've been very pleased with what we've seen in the market there. Some of the tailwinds

Steven Lilly: you know, surrounding, you know, regional banks have persisted. That's been a nice amount of deal flow and you know, I think we like the footprint we have as a platform there, but I don't think it's anything more than timing.

Speaker Change: Thank you. Thank you.

Operator: Our next question comes from the line of Mark Hughes of Truett. Your line is now open.

Speaker Change: Our next question comes from the line of Mark Hughes of Truist. Your line is now open.

Mark Hughes: Spread issue, you know, how much was the competition a driver of that and if you addressed this earlier I apologize. I jumped on the call a little bit late. No, no, no worries. No worries. Good morning, Mark I think you probably are broadening that to both refinancings as well as kind of repricings

Unknown Executive: No, no, no worries. No worries. Good morning, Mark. I think you probably are broadening that to both refinancings as well as kind of repricings. You know, I think from time to time if these things are coming up, and we're either a little bit more negative on the sector or the company.

Speaker Change: You know, I think from time to time if these things are coming up and we're either a little bit more negative on the sector or the company,

Speaker Change: We may very well use that as an opportunity to lighten our position or look to potentially get repaid. So I would just call it a credit call.

Speaker Change: You know, and that could be again, company leverage for the sector. And I think, you know, it's our job to be dynamic as we think about

Unknown Executive: And generally, you know, we see repricing for very well-performing credits where the company and sponsor come to us and ask us to mark the credit to market from a pricing perspective. And I think our view is that Mark, just one more point there. I think when we are

Speaker Change: And generally, you know, we see repricings for very well-performing credits where the company and sponsor come to us and ask us to mark the credit to market from a pricing perspective. And I think our view is that

Speaker Change: Given that those loans tend to be past their call protection.

Speaker Change: The idea of staying invested on market terms and a credit that we know and like.

Speaker Change: is viewed positively because our alternative would be to get repaid and then go out and find a new investment at the same spread level. So we think it makes all the sense in the world to play in the right ones and we'll continue to do so.

Unknown Executive: As a general rule of thumb, we are either looking for some sort of upfront fee as it relates to the repricing or, at a minimum, extending call protection to keep some optionality for the benefit of the lender.

Speaker Change: Mark, there's one more point there. I think when we are doing that, though, as a general rule of thumb, we are either looking for some sort of upfront fee as it relates to the repricing or the minimum extending call flow to keep some optionality for the benefit of the lender.

Unknown Executive: Okay. Thanks for that clarification. Um, the opportunities and asset-based finance. How do you see that as we sit here today?

Speaker Change: Thanks for that clarification. The opportunities in asset-based finance. How do you see that as we sit here today?

Unknown Executive: Yeah, I mean, I was alluding to this with Finn's question, I think, you know, broad stroke positive, right? Just if you think about the setup of the market, the large-sized market, you know, in our mind, close to $7 trillion or sort of on the path to there. That's bigger than the high yield bond market, the syndicated loan market, and the direct lending market combined. There has not been What's called scaled capital raised there, there are not a lot of scaled players like ourselves, I think we're fortunate with 60 odd billion of AUM and 50 plus people. So I think just the setup as well, or the setup is strong.

Speaker Change: Yeah, I mean I was alluding to this with Finn's question. I think, you know, broad stroke positive, right?

Speaker Change: Let's call it scaled capital raised there. There's not a lot of scale players

Speaker Change: who, like ourselves, I think we're fortunate with 60-odd million of AUM and 50-plus people. So I think just the setup as well, or the setup is strong. We have seen, we'll call it certain tailwinds there.

Unknown Executive: We have seen, we'll call it, certain tailwinds there. We've been very active in buying loan portfolios from banks. Some of those deals have been pretty sort of public, sort of out there. I think we're able to source attractive, you know, risk-adjusted returns there. So it's a space we remain quite constructive in.

Speaker Change: We've been very active in buying loan portfolios from banks.

Speaker Change: You know that.

Speaker Change: We've some of those deals have been pretty sort of public sort of out there. I think we're able to source attractive, you know, risk adjusted returns there. So it's space we remain quite constructible.

Unknown Executive: Yeah, and I'm not sure if you touched on this, but anything... Recently, with some of the turbulence in the economy, anything you've heard from portfolio companies that would indicate any kind of material change? Are you feeling steady as she goes? At least as you're seeing in your portfolio companies' experiences? Yeah.

Speaker Change: Yeah, and I'm not sure if you touched on this, but anything...

Speaker Change: Recently, with some of the turbulence in the economy, anything you've heard from portfolio companies that would indicate any kind of material change? Are you feeling like steady as she goes, at least as you're seeing it in your portfolio companies are experiencing it?

Unknown Executive: Yeah, I mean, that's probably a pretty broad question, right? I think the recent economic, you know, volatility and the equity markets have been a bit, you know, kind of yo yo, like for the last four or five trading days. I think that probably spiked a little bit more focus. You know, I think it's our job to be in the cautious camp generally, you know, I think I would probably be balanced with, I think that's kind of top of mind. I mean, you touched on the asset back sort of comment. You know, I think we have. Transcripts provided by Transcription Outsourcing, LLC.

Speaker Change: Yeah, I mean, it's it that's probably a pretty broad question, right? I mean, I think the the recent economic

Speaker Change: Volatility in the equity markets has been a bit kind of yo-yo-like for the last four or five trading days. I think that probably spiked a little bit more focus.

Speaker Change: I think it's our job to be in the cautious camp generally.

Speaker Change: You know, on one hand, we've been pleased with what we've seen. You can see that from the EBITDA growth numbers. On the other hand,

Speaker Change: I think we, you know, have to clearly acknowledge there's, you know, less free cash flow in the system considering where rates are. You know, that makes...

Speaker Change: or that provides certain challenges if there is sort of a bump in the road. The company just doesn't have the same, you know, flexibility or moves they might have had sort of prior. So, you know.

Speaker Change: I think that's kind of top of mind. I mean, you touched on the asset back sort of comment. You know, I think we have

Speaker Change: centered ourselves if we are investing in consumer related exposures there in the more prime part of the market. I think we've been quite happy with what we've seen there as it relates to the performance. They're probably a little bit more worried as you go down market credit quality on the consumer side.

Operator: I appreciate it. Thank you. One moment.

Operator: One moment for our next question. Our next question comes from the line of Kenneth Lee of RBC Capital Markets. Your line is now open.

Speaker Change: Appreciate it. Thank you. Thank you. One moment for our next question.

Speaker Change: Our next question comes from the line of Kenneth Lee of RBC Capital Markets. Your line is now open.

Kenneth Lee: Hey, good morning. Thanks for taking my question. Just one follow-up on the asset base financed contribution to third quarter income, the dividends there. And I just want to get a better understanding of, is there anything that drives the timing, any kind of macro inputs? Or is it really just really difficult to predict, and there might be a little episodic there.

Kenneth Lee: Hey, good morning. Thanks for taking my question. Just one follow-up on the asset-based finance.

Speaker Change: contribution to third quarter income, the dividends there. And I just want to get a better understanding, is there anything that drives the timing, any kind of macro inputs, or is it really just really difficult to predict?

Speaker Change: No, no, no problem.

Speaker Change: I wouldn't think about it at all in kind of the macro context. Obviously, if macro environment changes...

Speaker Change: you know meaningful one way or the other the Portfolio of financial or hard assets that were invested it might sort of change

Unknown Executive: You know, I would just really equate this more to a timing sort of point, right? And I'll give you maybe two simple examples, right? You know, if we own a portfolio of Aviation Leasing Assets, there's, and those are contracted sort of cash flows we're getting in, but if we're in the midst of selling certain of those assets, those asset sales, some might happen one quarter, some might happen a couple of quarters down the road.

Unknown Executive: So, you know, a bit non-linear in that sort of sense, there could be other deals where we've used the capital markets to finance ourselves sometimes using those capital markets, But those would be two probably simplistic examples. And I wouldn't characterize them as...

Speaker Change: And those are contracted sort of cash flows we're getting in, but if we're in the midst of selling certain of those assets, those asset sales, some might happen one quarter, some might happen a couple of quarters down the road. So, you know, a bit

Speaker Change: nonlinear in that sort of sense. You know, there could be other deals where we've used the capital markets to finance ourselves, sometimes those capital markets transactions.

Speaker Change: It's just not linear in certain cases.

Speaker Change: Gotcha, gotcha. Super helpful there, super helpful there. And just one follow-up, if I may, in terms of the leverage...

Speaker Change: I think in the past you've talked about being closer to, I think, the higher end of the target range. Just wanted to see if there's any kind of updated outlook, you know, where would you feel comfortable in terms of leverage trending over the near term? Thanks.

Unknown Executive: I think there's some room to add there. I think that's helpful and can provide a certain amount of benefits on the earnings side. There's also additional leverage capacity down at the joint venture level, which would be the same as the liability side of our balance sheet. We were happy to get that $600 million deal done this quarter. I think the number was roughly 72% of our debt outstanding this quarter is from the unsecured bond market. We've got a lot of undrawn capacity on the revolver. We've effectively funded our maturity.

Speaker Change: I think there's some room to add there. I think that's helpful and can provide a certain amount of benefits to the earning side. There's also additional leverage capacity down at the joint venture level, which would be the same.

Speaker Change: You know I think we are

Speaker Change: You know, so I think we are, I think we've got some room there would be the short answer.

Speaker Change: Great, great. Thank you very much, Dan.

Speaker Change: Our next question comes from the line of Melissa Wedel of J.P. Morgan. Your line is now open.

Melissa Wedel: Good morning. Thanks for taking my questions today. Quick follow-up. I think I caught the average EBITDA on new originations, but I might have confused that with average EBITDA on the portfolio.

Speaker Change: Give me one second, Melissa, just to sort of touch base on that.

Speaker Change: That said, I think it is important to note, I mean, we're pretty focused on having a broad origination footprint, right? We do talk about being focused on the upper end of the middle market, but we're usually defining that as $50 to $150 million of EBITDA.

Unknown Executive: Uh... the sponsor as well as the non-sponsored channels. You know, the entire goal is to make the origination funnel as big as possible so we can try to be as selective as possible when we're picking. And I'd also point out that, you know, the weighted average spread on those transactions was S plus five.

Speaker Change: The sponsor, as well as the non-sponsor channels, you know, the entire goal is to make the origination funnel as big as possible so we can try to be as selective as possible when we're picking.

Speaker Change: I'd also point out that the weighted average spread on those transactions was S plus 550. Dan mentioned leverage was right around 5.1 times and LTB was just a smidge north of 40%. So feel good about those credits.

Speaker Change: and or do you expect to go back up to the really upper tier of the middle market and then um

Dan Pietrzak: I think it's fair to expect that that's where it would sort of...

Speaker Change: You know continue to sort of play out right because if we are defining, you know, that sweet spot as the 50 to 150

Speaker Change: are a little bit less attractive sort of now than they were before. We would agree with that. You know, you had a period in twenty two and twenty three where the syndicated loan market was closed.

Speaker Change: You know the private debt market was the only game in town So you were getting paid in our opinion kind of exceptionally well for those you know now those just companies would have more options, so

Speaker Change: We have always had the view that these markets will co-exist, they have for some sort of period of time. We just have the view that volatility will persist and will provide opportunities for ourselves and other private debt providers.

Operator: Thank you. One moment for our next question. Our next question comes from the line of Sean Paul Adams of Raymond James Investments. Your line is now open.

Speaker Change: Thank you.

Speaker Change: Our next question comes from the line of Sean Paul Adams of Raymond James Investments. Your line is now open.

Speaker Change: Good morning. On Keller-Meyer, you guys said you are pretty happy with the progress, but the equity was written down approximately 50 percent.

Unknown Caller: Should we expect that even if progress continues to be positive, if there's any?

Unknown Executive: Yeah, I think it's a very fair question. I think we are happy with all the work that we and the other, you know, lenders there have been doing as we've moved that company outside of the sponsor ownership and inside or under the control of that.

Speaker Change: You know, these are kind of Herculean lifts.

Speaker Change: You know, we've got a lot of great resources.

Speaker Change: on our workout and restructuring team, as do, you know, I think the other lenders involved there. So, you know, the the equity sort of mark is a little bit of a point in time with how, you know, earnings may have either moved or market multiples might have moved.

Unknown Executive: We are happy with where this thing is trending. We are working with management. We have a new value creation plan in place. We're definitely focused operationally on this business, on how to reduce churn, improve operations, reduce SG&A, etc., etc. A lot of work is being done in the background there, and I think really the proof of that is going to be over the longer term, and we are bullish on the prospects.

Speaker Change: You know, we're, we are happy with where this thing is trending. We are working with management, we have a new value creation plan in place. We're definitely focused operationally on this business on how to reduce churn, improve operations.

Speaker Change: Reduce SG&A, etc, etc. A lot of work is being done in the background there. And I think really, you know, the proof in that is going to be over the longer term. And we are we are bullish on the prospects of this business.

Speaker Change: Thank you for that color. Turning to

Speaker Change: New Originations and Spread Compressions.

Speaker Change: You guys said that the quality of the investment opportunities is high and that the top performers are actually

Speaker Change: being moved by the sponsors.

Speaker Change: How much, if any, of the current spread compression is actually mix-related, due to the higher quality companies already having embedded lower spreads? And how much is like-for-like?

Speaker Change: Credit Quality Spread Compression versus just raw competitive pressure.

Speaker Change: Yeah, there's probably not a perfect answer to that. I would probably try to break it down a little bit. We have seen, let's say, these higher quality businesses being the ones that are being moved by certain sponsors.

Speaker Change: We do know very clearly there's a fair amount of pressure on GPs broadly from their LPs to monetize assets so those LPs can get some money back.

Speaker Change: And, you know, these better assets, I think, just have not had the moves.

Unknown Executive: on Valuation Multiples. So they're more the perfect sort of candidates to sell.

Speaker Change: on valuation multiples, so they're more perfect sort of candidates to sell.

Speaker Change: You know, I think the spread compression, or the spread compression probably more broadly, I would probably go through the journey of, if you think about January 22, you know, the regular way deal was, let's call it 575, that probably gapped out to 650.

Unknown Executive: That was all due to, you know, a clear belief or a clear concern about where the economy was going, you know, hard landing, soft landing, and that sort of debate. I think once inflation was deemed to be more under control, and this view, the market until probably recently has not even been talking about a soft landing but has been talking about sort of growth. So, you know, the average spread probably came down closer to 500, right? Now, I wouldn't say we were surprised by that.

Speaker Change: You know in the summer of 23

Speaker Change: That was all due to, you know, a clear belief or a clear concern about where, you know, the economy was going, you know, hard landing, soft landing, and that sort of debate.

Speaker Change: I think once inflation was deemed to be more under control and this view, I mean the market until probably recently has not even been talking about a soft landing, it's been talking about sort of growth.

Speaker Change: So, you know, the average spreads probably came down closer to 500, right? Now, I wouldn't say we were surprised by that. Obviously, we would like the loan portfolio to be as wide as possible. But, you know, in most fixed income instruments, when the benchmark moves as much as it has, credit spreads do tighten.

Unknown Executive: Obviously, we would like the loan portfolio to be as wide as possible. But, you know, in most fixed income instruments, when the benchmark moves as much as it has, credit spreads do tighten. And if you think about just the regular way loan and the examples I gave, you know, the January 2020 loan was probably seven and a half percent kind of all in. And even alone today is, you know, 10 and a half percent, sort of plus percent on all that. So we still think that risk adjustment is really interesting.

Speaker Change: And if you think about just the regular way loan and the examples I gave, you know, the January 2020 loan was probably seven and a half, eight percent kind of all in. And even a loan today is, you know, ten and a half, you know, sort of plus percents of all in. So we still think that's really interesting risk-adjusted returns.

Unknown Caller: Perfect. That's a wonderful color. I really appreciate it.

Speaker Change: Perfect. That's a wonderful color. I really appreciate it.

Operator: As a reminder, to ask a question, you will need to press star 11 on your telephone and wait for your name to be announced.

Speaker Change: No problem. Have a good day.

Speaker Change: As a reminder, to ask a question, you will need to press star 11 on your telephone and wait for your name to be announced.

Speaker Change: Our next question comes from the line of Bryce Rowe of B Reilly. Your line is now open.

Unknown Caller: Great, thanks a lot. I wanted to maybe start on the supplemental dividend. You know, obviously, you all announced a variable dividend approach some time ago, and this, the special programs run their course, as you've noted, and it sounds like you've got, you know, a decent amount of spillover, maybe almost three, three quarters of a, you know, of the current regular plus supplemental, in your pocket.

Bryce Rowe: Great. Thanks a lot.

Bryce Rowe: wanted to maybe start on the on the supplemental dividend you know obviously you all announced a

Speaker Change: Variable Dividend Approach, you know, some time ago, and the special programs run its course, as you've noted.

Speaker Change: And it sounds like you've got, you know, a decent amount of spillover, maybe almost three quarters of a

Unknown Caller: So my question is, if we do start to kind of get lower rates and lower earnings, lower NII associated with those lower rates, you know, at what point does the supplemental kind of go away? Are you looking to, you know, to get the spillover down to, let's call it, two quarters worth of base or base plus supplemental?

Speaker Change: you know, of the current.

Speaker Change: regular plus supplemental, you know, in your pocket. So

Speaker Change: My question is, if we do start to kind of get...

Speaker Change: Lower rates and lower earnings, lower NII associated with those lower rates.

Speaker Change: You know, at what point does the supplemental kind of go away? Are you looking to, you know, to get the spillover down to, let's call it, two quarters worth of base or base plus supplemental?

Unknown Executive: Yeah, and I'll let Brian and Steven sort of add to this, but You know, I think we have been pretty trying to listen to the market for a long time about sort of the dividend and sort of the dividend policy. You know, which is why I'm kind of where we are today, you know, that 64 is the base, and as rates were moving, it felt appropriate to have the supplemental, you know, next to that. We'll call it a very comfortable base. And then we did make a statement to the market that we intended to really pay out kind of what we're earning. Hence, that was the 5 cents of a special, right?

Speaker Change: Yeah, and I'll let Brian and Steven sort of add to this, but I think we have been pretty engaged.

Speaker Change: and I've been trying to listen to the market for a long time about sort of the dividend and the dividend policy.

Speaker Change: You know which is why I'm kind of where we are today. You know that 64 is the base

Speaker Change: as kind of rates were moving, it felt appropriate to have the supplemental next to that, we'll call a very comfortable base and then we did make a statement to the market that we intended to really pay out kind of what we were earning, hence that was the five cent sort of special.

Unknown Executive: I think we are fortunate with the spill-back dollars to ensure that, you know, we keep the total 70 consistent for an extended period of time. Obviously, the whole sector will have some earnings sort of pressure in a downward kind of rate environment. I think that's clearly acknowledged, you know, I think we are, you know, focused on, though, where are the leverages that we do have for earnings growth? That would go back to the leverage question that we asked before, as well as, you know, looking to reduce any non-core to sort of help drive that. Anything else Steven or Brian you want to add? I think you said it well.

Speaker Change: I think we are fortunate with the spill back dollars to ensure that we keep the total 70 consistent for an extended period of time. Obviously the whole sector will have some earnings sort of pressure in a downward kind of rate environment.

Speaker Change: And I, you know, so I think that's that's clearly acknowledged.

Speaker Change: I think we are focused on where are the levers that we do have for earnings growth, that would go back to the leverage question that we asked before, as well as looking to reduce any non-income costs.

Speaker Change: Producing Assets to sort of help drive that. But if if anything else, Steven or Brian , you want to add?

Unknown Executive: Yeah, look, I think, you know, we do have, you know, a couple of larger positions that are not income-producing that we are, you know, looking to monetize. We can't guarantee when or if that happens, but that also is a pretty meaningful lever for us.

Speaker Change: I think you said it well.

Speaker Change: Yeah, look, I think I think, you know, we do have, you know, a couple of larger positions that are not income producing that we are, you know, looking to monetize, we can't guarantee when or if that happens. But that also is a pretty meaningful lever for us.

Speaker Change: Yep.

Speaker Change: That's a that's a good segue, Brian , for my kind of a next question. Obviously good optics around

Brian Gerson: What happened at Global Jet coming off non-accrual and clearly trying to simplify that capital structure.

Brian Gerson: to maybe get a better end game or outcome in place.

Brian Gerson: Is there a, is there a kind of a similar playbook with JW Aluminum, you know, given that it is legacy?

Speaker Change: It's a similar kind of instrument in the capital structure. It's kind of marked at the same level that GlobalJet was, just kind of curious if there's an opportunity for.

Speaker Change: to simplify that capital structure and maybe put it in a better position for that monetization outcome.

Unknown Executive: You want to start? Yeah, I mean, look, I think each company sort of has a different ownership base in junior securities. I think in the case of GJC and GlobalJet, we had a lot of alignment in terms of simplifying the capital structure. I think in the case of JWA, the capital structure is maybe a little bit more complex with different holders. But I think the focus on monetization of both is still, you know, front and center for us.

Speaker Change: You want to start? Yeah, I mean, look, I think each company sort of has a different ownership base in junior securities.

Speaker Change: I think in the case of GJC GlobalJet, we had a lot of alignment in terms of simplifying the capital structure. I think in the case of JWA, the capital structure is maybe a little bit more complex.

Speaker Change: with different holders. But I think the focus on monetization of both is still, you know, front and center for us.

Unknown Executive: And I think that's why we try to provide the additional clarity and the prepared remarks about, you know, that 12% remains in that legacy sort of, you know, bucket, but, you know, four of those positions is roughly 70 or 75% of them. You know, I know I wouldn't call it easy to be able to monetize them. You know, three of them are kind of in equity positions where we're not in control, but I think. I've done a lot to improve those positions, and I think we've done a lot working together with the other partners in these. I'll just try to maximize the output.

Speaker Change: And I think that's why we try to provide the additional clarity and the prepared remarks about, you know, that 12% remains in that legacy sort of, you know, bucket, but, you know, four of those positions is roughly 70 or 75% of them.

Speaker Change: and you know I don't I wouldn't call it easy to be able to to monetize them you know three of them are are kind of in equity positions where we're not in control but I think we've

Speaker Change: We've done a lot to improve those positions, to stabilize those positions, and I think we've done a lot working together with the other partners in those deals.

Unknown Caller: I appreciate it. That's all for me.

Speaker Change: I'll try to maximize the outcome.

Operator: At this time, I am showing no further questions. I would like to turn it back to Dan Pietrzak for closing remarks.

Speaker Change: I appreciate it. That's all for me.

Speaker Change: At this time, I am showing no further questions. I would like to turn it back to Dan Pietrzak for closing remarks.

Daniel Pietrzak: Well, thank you all for your time today. We're always available for any follow-up points that you may have. Please do enjoy the rest of your summer, and we look forward to speaking to you again in the fall.

Operator: Thank you for your participation in today's conference. This concludes the program. You may now disconnect.

Dan Pietrzak: Well, thank you all for your time today. We're always available for any follow-up points that you may have. Please do enjoy the rest of your summer and we look forward to speaking to you again in the fall. Have a good day.

Speaker Change: Thank you for your participation in today's conference. This concludes the program. You may now disconnect.