Stellus Capital Investment (SCM) - 2019 Q3 - Earnings Call Transcript

Financial Data and Key Metrics Changes - The company reported realized income of $0.63 per share, including gains of $0.33 per share, exceeding the dividend of $0.34 per share by $0.29 [8] - Total realized income to date, including $19.1 million of realized gains, is $1.92 per share, surpassing distributions of $1.02 per share for the same period, representing an annualized return on equity of 12.4% for the third quarter and 12.7% year to date [9] - Net asset value increased by $2.1 million over the quarter, or $0.11 per share, from $14.29 to $14.40 per share, primarily due to realized gains [10] Business Line Data and Key Metrics Changes - The portfolio ended the quarter with a fair value of $586.4 million across 61 portfolio companies, a $55 million increase over the second quarter [12] - The portfolio is weighted toward first lien and unitranche loans, now comprising 73% of the total portfolio, which is expected to result in stronger asset quality over time [13] - Non-accrual loans decreased to just three portfolio companies, comprising 2.3% of the fair value of the total portfolio, down from four loans and 4.8% in the prior quarter [15] Market Data and Key Metrics Changes - The yield on the debt portfolio decreased from 10.9% to 9.4% during 2019, driven by a lower LIBOR rate and a continued rotation towards first lien and unitranche loans [17] - The portfolio size increased to approximately $630 million, up $42 million since quarter end [18] Company Strategy and Development Direction - The company received its second SBIC license in August, allowing access to up to $175 million of SBA debentures, which are a long-term low-cost source of capital [16] - The company expects modest growth for the balance of the quarter, with earnings for the fourth quarter not expected to fully cover the dividend from GAAP NII due to lower yields and current leverage levels [18] Management's Comments on Operating Environment and Future Outlook - Management indicated that while they expect to cover the dividend gap from additional realized gains, they do not expect to fully cover it from GAAP NII in the fourth quarter [18] - The company anticipates that it will take a couple of years to fully deploy the SBIC debentures, with a goal of exceeding a $700 million portfolio size to cover dividends from a GAAP NII basis [49] Other Important Information - The company noted that the average investment per company is $9.6 million, with the largest investment at $21.2 million at fair value [13] - The company has been operating at a regulatory leverage of about 0.68 to 0.7 to 1, implying a need for a portfolio in excess of $700 million to achieve a 1 to 1 regulatory leverage [49] Q&A Session Summary Question: Performance of furniture factory outlet portfolio company - Management refrained from discussing specific private companies but acknowledged a slight markdown in the first lien piece while the smaller sub-debt pieces were marked at zero [25] Question: Average cost range of SBA debentures - The current environment suggests that the average cost of debentures drawn down is around 3% to 4% [27] Question: Tax expense recorded this quarter - The tax expense of approximately $350,000 is related to excise tax accrued during the year [29] Question: Percentage of deal flow that is SBIC compliant - Approximately 50% of the company's activity has historically qualified for SBIC compliance, with a realistic deployment timeline of about 18 months to a couple of years [36] Question: Update on Grupo Hima portfolio company - The reduction in the mark for Grupo Hima was to reflect new information, with management indicating that the first lien should ultimately be worth full value [45] Question: Portfolio size needed to cover dividends from GAAP NII - A portfolio in excess of $700 million is needed to achieve a 1 to 1 regulatory leverage, with a combination of lower cost SBIC debentures and bank facilities expected to improve the position [49] Question: Expectations for realized gains in 2020 - Management expects realized gains to be lower in 2020 compared to the current year, potentially around half as much, but still anticipates additional realized gains from newer equity positions [52]