Stellus Capital Investment Q1 2023 Earnings Call Transcript

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May 10, 2023

There are 6 speakers on the call.

Operator

Good morning, ladies and gentlemen, and thank you for standing by. At this time, I would like to welcome everyone to Stellus Capital Investment Corporation's conference Call to report financial results for its fiscal quarter ended March 31, 2023. This conference is being recorded today, May 10, 2023. It is now my pleasure to turn the call over to Mr. Robert Ladd, Chief Executive Officer of Stellus Capital Investment Corporation.

Operator

Mr. Ladd, you may begin your conference.

Speaker 1

Thank you, Kelly, and good morning, everyone, and thank you for joining the call. Welcome to our conference call covering the quarter ended March on 31, 2023. Joining me this morning is Todd Huskinson, our Chief Financial Officer, who will cover important information about forward looking statements as well as an overview of our financial information.

Speaker 2

Thank you, Rob. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of Stellus Capital Investment Corporation and that any unauthorized broadcast of this call in any form is strictly prohibited. Call. Audio replay of the call will be available by using the telephone number and pen provided in our press release announcing the call.

Speaker 2

I'd also like to call your attention to the customary Safe Harbor disclosure in our press release regarding forward looking information. Today's conference call may also include forward looking statements and projections, And we ask that you refer to our most recent filing with the SEC for important factors that could cause actual results to differ materially from these projections. We will not update our forward looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at www stelluscapital.com under the Public Investors link or call us at 713-292-5400. At this time, I'd like to turn the call back over to our Chief Executive Officer, Bob Ladd.

Speaker 1

Thank you, Todd. We'll begin by discussing our operating results, followed by a review of the portfolio, including asset quality and then the outlook. Todd will cover our operating results. Thank you, Rob.

Speaker 2

As interest rates have continued to rise in recent quarters, we continue to benefit from our favorable asset liability mix in which 97% of our loans are floating and only 32% of our liabilities are floating. As a result, we had another quarter of solid earnings. In the Q1, we more than covered the dividend $0.40 per share with GAAP net investment income of $0.46 per share. Core net investment income was $0.45 per share, which excludes estimated excise taxes and the reversal of approximately $600,000 of capital gains incentive fees. Net asset value increased call.

Speaker 2

$5,100,000 due to the issuance of equity under our ATM program and earnings in excess of the dividend of $1,200,000 call, offset by net unrealized losses on our investment portfolio of $4,200,000 On a per share basis, net asset value for the quarter dropped from $14.02 to $13.87 or $0.15 per share. With that, I'll turn it back over to Rob. Thank you, Todd.

Speaker 1

I'd like to cover the following areas: a life to date review, portfolio and asset quality, dividends and then outlook. Since our IPO in November of 2012, we've now invested approximately $2,300,000,000 in over 180 companies and received approximately $1,400,000,000 of repayments while maintaining stable asset quality. We have declared over $223,000,000 of dividends to our investors, which represents $14.15 per share to an investor from our IPO back in November of 2012. Portfolio and asset quality. We ended the quarter with an investment portfolio at fair value of $877,000,000 across 88 portfolio companies, call up from $845,000,000 across 85 companies at year end.

Speaker 1

During the Q1, we invested 41,000,000 for new and 2 existing portfolio companies yet received no full repayments. We did have $6,000,000 of other repayments which resulted in net portfolio growth of $35,000,000 At March 31, 99% of our loans were secured and 97% were price at floating rates as Todd indicated earlier. We continue to move toward 1st lien loans. In fact, those are principally the only loans we're making today is unitranche. They were 88% of our current portfolio at quarter end, up slightly from 87% at year end.

Speaker 1

We're always focused on diversification. The average loan per company is about $10,800,000 and our largest overall investment is 20,800,000 These numbers are both at fair value. 86 of the 88 portfolio companies are backed by a private equity firm. Overall, our asset quality is stable and at 2 on our investment rating system are on plan. 17% of our portfolio is rated at 1 or ahead of plan and 70% of the portfolio is market in Investment Category 3 or below, which would be below plan.

Speaker 1

In total, we have 4 loans on non accrual, which comprise 2%, a fair value of the total loan portfolio. Now turning to dividends. As you know, we raised our dividend meaningfully in the Q1. We continue to cover it as a result of greater earnings that we're generating in this higher interest rate environment. As I said earlier, we're well positioned to benefit from the higher interest rates as our portfolio is 97% floating rate And our liability structure is over 65% fixed rate.

Speaker 1

Since interest rates have increased again at March 31st For the Q2, that's when most of our loans reprice, we would expect 2nd quarter earnings to exceed those of the Q1. As a reminder, part of our strategy has been to invest in the equity of our portfolio companies in a modest way in order to generate realized gains sufficient to offset losses over time. As our business has matured over the last 10 years, we've begun to see somewhat regular realized gains in our portfolio. While we did not have any equity realizations during the Q1, we do expect some during 2023. Now turning to outlook.

Speaker 1

As a reminder, our platform at Stellus Capital Management includes a number of private institutional funds that co invest along SCIC, our public company. This additional capital allows us to invest in larger transactions, Remain active in the market when our public company may have limited capital and build all portfolios in a diversified manner. Today, total assets under management across the Stellus platform were $2,900,000,000 From a macro perspective, The higher interest rate environment coupled with stress in the regional banking sector, pardon me, we are approaching the overall economic environment cautiously. Since quarter end, we have funded $17,100,000 at par in 2 new and 6 existing portfolio companies and received no repayments. This brings our portfolio now to $892,000,000 and 90 portfolio companies.

Speaker 1

With the additional equity raise since twelvethirty one that Todd referred to earlier under our ATM program, We expect to grow our investment portfolio to over $900,000,000 this year. For the balance of the quarter, pardon me again, We are starting to see repayments pick up however. As a result, it is likely that new fundings for the rest of this quarter will be at least offset by repayments. And with that, I'll open it up for questions. Kelly, please begin the question and answer session, please.

Operator

Certainly. The floor is now open for questions. Your first question is coming from Eric Zwick with Hovsg Group. Please post your question. Your line is live.

Speaker 3

Thank you. Good morning. I wanted to first start, I guess, on the dividend. I'm curious if you can Update us on the level of spillover income you have today and just kind of update us on your thoughts in terms of potentially paying a special dividend at some point.

Speaker 2

Yes, Eric, it's Todd. Thanks for the question. So our current spillover income from last year It's a little over $28,000,000 So the current dividend level in 2023 will be enough to repay that spillover Now going into so we don't expect a special dividend with respect to that. Now our earnings going forward could we could wind up having Spillover income and a special dividend next year, but don't expect to have one this year.

Speaker 3

Got it. That makes sense just with the increased base dividend That takes care of the spillover from last year. So okay, great. And then just curious on the switching gears to credit, Maybe kind of 2 questions there. 1, curious if you've seen any uptick or acceleration in amendment requests?

Speaker 3

And secondly, I'm just curious about The sentiment of PE sponsors today, if we were to go into a more severe economic environment, just as you kind of continue to have ongoing discussions with them, How you would kind of measure or weigh or categorize their current willingness to step up with additional equity, if needed?

Speaker 1

Okay. Sure. I'll take that one, Eric. This is Rob. So with respect to additional amendment requests, I'd say not an unusual number.

Speaker 1

So we have a fluid portfolio, but I'd say no unusual increase in those requests. Relative to private equity firms, so as part of our underwriting, of course, we're looking at the quality and the history, if If you will and track record is a private equity firm who's the owner of the business we've lent money to. And so, we would expect they will operate as they have for Now we've been doing this over 19 years that they'll be responsible and when capital is needed to come during into a situation that they'll be there to provide it. There does come a time when you get to where it doesn't make both economic sense or reputational sense, But certainly to solve problems early, we found private equity sponsors to step up meaningfully.

Speaker 3

Great. Thanks. And just last one for me. I noticed the PIK income increased in 1Q relative to 4Q. And Is that kind of a good run rate to go forward or is there anything in the quarter that would not recur in 2Q?

Speaker 1

The number is very modest, but we wouldn't expect a material change in that number whatsoever.

Speaker 3

Great. Thanks for taking my questions today.

Speaker 1

Yes. Thank you.

Operator

Your next question is coming from Paul Johnson with KBW. Please proceed with your question. Your line is live.

Speaker 4

Yes, good morning guys. Thanks for taking my questions. Good morning. I'm just curious, so it sounds like there's a little bit of remaining outside of the portfolio, which is good to hear. I'm sorry, NII for next quarter potentially.

Speaker 4

But I'm just kind of Hoping to get kind of some color. I mean, in terms of NII and kind of ROE for the quarter, which was basically sort of flat quarter over quarter. You would have expected that to be a little bit higher just with the net growth obviously that you guys had this quarter as well as just the direction of interest rates. I'm curious, was there anything in there that was kind of delayed or just kind of reducing that at any in the numbers? Is there I think maybe it's potentially due to the weaker repayments, but any color there would be helpful.

Speaker 1

And Paul, is your question about NII

Speaker 4

NII and just kind of the ROE, just we're I'm looking at roughly like a 12.5 ROE from last quarter is basically flat to this quarter. Just would have expected that to be a little bit higher.

Speaker 1

Yes. So I'd say there were some repayments in the Q4 that provided fee acceleration income. That would probably be the principal difference. And again, as I said earlier, there were no pure repayments in the Q1.

Speaker 4

Got it. And then my last question is just Kind of around the your comment on equity realizations this year. I mean, is your kind of expectation for incremental Realization for some of your equity investments, just sort of normal course for what you would expect in any given year? Or is there any sort of Line of sight that you have, I guess, in ongoing discussions and activity taking place in your portfolio.

Speaker 1

Sure, sure. I would say that The comment that I made was just to remind everyone that we do have them. But I would say just as repayments have slowed, we would Expect equity realization to have slowed versus really the last couple of years where they were more robust in 2021 2022. So do we have the line of sight on 2 or 3, but at a reduced pace.

Speaker 4

Okay. Thanks for that. That's all for me.

Speaker 1

Okay. Thank you, Paul.

Operator

Your next question is coming from Christopher Nolan with Ladenburg Thalmann. Please proceed your question. Your line is live.

Speaker 5

Hey, guys. Rob, given your experience, long experience in going to money cycles, What advice are you providing to your portfolio companies in terms of how they can better position themselves financially for The continuation of this current economic cycle?

Speaker 1

Well, it probably starts Chris and a lot of the cannibalization caps, it comes with Is the company properly capitalized at the start and then or if there's a need over time for additional capital to come in and I'm talking about equity capital to come in, Are they in a good position from an equity capital base, I. E. On over levered? And then say the secondarily would be of course that they have adequate working capital So I think that's kind of fundamental and fortunately that's the way we approach our underwriting. From an operational standpoint, we are focused on businesses that have meaningful growth potential, But also cost structures that are variable.

Speaker 1

And so as economic climates change, they have the levers to pull that can allow them to adapt to as an example a lower revenue base. So I'd say that would be the overall advice. One thing that is helpful in this higher interest rate environment which we think is appears to have gotten to its higher level. We also think it should stay here for a while. At that level, if it got much higher, you may get over time request for, Could you take a little bit of the interest here, like if SOFR went to 7 or so.

Speaker 1

And so of course we have that flexibility to do within Our structure since it's principally ourselves or other people of like mind, but we've not gotten to that point. And again, our sense is that interest rates have gotten Closer to where they'll be on the high level. And so at this point, not anticipating many of those requests.

Speaker 5

Great. And then as a follow-up and this is more of a general, are you seeing a broader demand for In the manufacturing and the type of cash flow type of lending that you do as Offshoring in China starts to come back into the U. S. And so forth like that. Are you start seeing the effect in terms of your deal flow?

Speaker 1

Not in a big way. We certainly have seen some companies reposition away from China and this has been going down on for now 2 or 3 years in terms of other offshoring locations like Vietnam, but have not I've seen a big increase in terms of U. S. Manufacturing, but it's likely to happen to some extent.

Speaker 5

Great. Thank you very much.

Speaker 1

Yes. Thank you, Chris.

Operator

There appear to be no further questions in queue at this time. I would now like to turn the floor back over to Rob Ladd for any closing remarks.

Speaker 1

Okay. Thank you, Kelly. Again, thanks everyone for joining us this morning for our call. We look forward to speaking to you this summer when we report on the 2nd quarter results.

Operator

Thank you. This does conclude today's conference call. You may disconnect your phone lines at this time and have a wonderful day. Thank you for your participation.

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Earnings Conference Call
Stellus Capital Investment Q1 2023
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