Gladstone Investment (GAIN) Q3 2021 Earnings Call Transcript

Gladstone Investment (GAIN 0.07%)
Q3 2021 Earnings Call
Feb 09, 2022, 8:30 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Greetings, and welcome to Gladstone Investment Corporation's third quarter earnings conference call. [Operator instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, David Gladstone, chief executive officer.

David Gladstone -- Chairman and Chief Executive Officer

All right, thank you, Peter. Good morning, everybody. This is David Gladstone, chairman of Gladstone Investment. This is the third quarter of our fiscal year ending March 31st, 2022.

This is the earnings conference call for shareholders and analysts of Gladstone investment companies listed on Nasdaq under the trading symbol GAIN for the common stock. And we have two preferred GAINN and GAINZ for the registered notes. Thank you all for calling in. We're always happy to provide updates on our shareholder analyst and the view of the current business environment.

Our two goals here is to help you understand what has happened, and also give you our best guess of current views of the future. And now we hear from our general counsel, and secretary, Michael LiCalsi. Michael?

Michael LiCalsi -- General Counsel and Secretary

Thanks, David. Good morning, everybody. Today's call may include forward-looking statements under the Securities Act of 1933 and the Securities Exchange Act 1934. Including those regarding our future performance, these forward-looking statements involve certain risks, and uncertainties, and other factors, even though they're based on our current plans, which we believe to be reasonable.

And many factors may cause our actual results to be materially different from any future results expressed or implied by these forward-looking statements. Including all risk factors and listed our Forms 10-Q and 10-K, and other documents that we filed with the SEC. You can find all these on the investors' page of our website that's gladstoneinvestment.com, or the SEC's website, that's www.sec.gov. Now we undertake no obligation to publicly update or revise any of these forward-looking statements, whether as a result of new information, future events, or otherwise, except as required by law.

Now, please also note that past performance or market information is not a guarantee of future results. We ask everybody to take the opportunity to visit our website, again, gladstoneinvestment.com. Sign up for our email notification service. You can also find us on Twitter at GladstoneComps and on Facebook keyword The Gladstone Companies.

Today's call is simply an overview of our results through 12/31/2021, so we ask that you review our press release and Form 10-Q both issued yesterday for more detailed information. Now with that, we'll turn it over to David Dullum, president of Gladstone Investments. David.

David Dullum -- President

Mike, thanks very much, and good morning to all of our shareholders and analysts. And first, I wish to welcome our CFO, Rachel Easton, who joined our team in December. Very happy to have her with us and this is her first quarterly fall, and you will hear from her shortly. So as we know, there are many challenges facing our economy labor shortages, supply chain delays, increased material costs as well as inflationary trends.

And while most of our portfolio companies have experienced most of those, we did make good progress toward pre-COVID operating status. And as a result, I'm very happy to report on another very good quarter for Gladstone Investment. In that we ended the third quarter of fiscal 22 with adjusted NII of $0.26 per share, which continues to progress, and what we expect will be a strong finish for fiscal year 3/31/22, and our future earnings. The total assets of 12/31, though, decreased to $736 million $746 million at 9/30/21, and this really is primarily due to the successful exits of two portfolio companies during that period.

And as a result of that, obviously, these assets were taken off of the balance sheet if you will, but that's partially offset by a few add-ons to existing portfolio companies. And also, most importantly, the continued recovery of the values of our equity holdings, which today make up around 23% of our portfolio at cost. We also over able to maintain our monthly distribution of $7.5 per share, or $0.90 per share on an annual basis. And we were able to pay a supplemental distribution of $0.09 per share in December 2021.

And subsequent to quarter-end, we declared another supplemental distribution of $0.12 per share to be paid in February, which is this month in 2022. So during this quarter of fiscal year 22, the two portfolio companies that we exited resulted in a net realized gain of $22 million and success fee income of $3.4 million. We also, as mentioned, invested $37 million listing portfolio companies, which supported add-on acquisitions for those companies, which is a positive event. Our strategy as a buyout-focused entity, therefore, continues to successfully generate both the income for increasing monthly distributions shareholders and also capital gains on equity from our supplemental distributions based on our capital gains appreciation.

Our balance sheet continues to be strong with very low leverage and a very positive liquidity position. So this allows us to continue providing support to our portfolio companies for add-on acquisitions and interim financing if the need arises, while actively seeking new buyout opportunities and continuing to grow our assets and income. So in that, the outlook really for the new acquisition market, unfortunately, continues to exhibit very high purchase value expectations, and there is a very strong competition from new acquisitions given the amount of capital that's out there in the buyout marketplace. But as a result of this dynamic, though, we remain patient, and selective in our diligence and review process, while we aggressively continue seeking new buyout opportunities.

So in summing up the quarter and looking-forward, the state of our portfolio is very good. We have a strong and liquid balance sheet, and active level of buyout activity, and the prospect of good earnings and distributions during this fiscal year and beyond. So now I'll turn it over to Rachel Easton, and have her give some more detail on those specifics, Rachel.

Rachel Easton -- Chief Financial Officer

Thanks, Dave. As far as operating performance for the quarter, we continue to see improvement from the ongoing impact of the [inaudible] on our portfolio. From generated Adjusted NII  $8.8 million or $0.26 per share, an increase compared to Adjusted NII of $7.8 million or $0.23 per share in the prior quarter. We continue to believe that Adjusted Net Investment Income, which is Net Investment Income, exclusive of any capital gains-based incentive fees, is a useful and representative indicator of ongoing operation.

Total investment income decreased quarter over quarter, primarily due to a relative decrease in interest income, as we have collected past through interest in the prior quarter, which did not recur to the same extent in the current quarter. As well as lower dividend income from portfolio companies, the timing of which is variable. Consistent with our prior quarter at 12/31/21, three of our portfolio companies continue to be a non-accrual status. Expenses decreased by $8 million this quarter, which was primarily driven by a $4.8 million decrease in capital gains-based incentive fees due to the net impact of realized and unrealized gains as required under US GAAP, as well as an increase in fee credit.

We believe that maintaining liquidity and flexibility to support and grow our portfolio are key elements of our success. With a successful issuance over 2028 notes and related redemption of the Series E Term Preferred Stock in the prior quarter, and successful exits in December 2021, we have long-term capital in place and the full $180 million available under our credit facility. Our leverage is low with an asset coverage ratio, on 12/31 of 259.5%. Our NAV remained consistent at $13.27 per common share compared to the prior quarter.

Although no net change, the reversal of unrealized depreciation on exits was offset by realized gains and unrealized appreciation of investments. Consistent with higher quarter, distributable book earnings to shareholders remains solid, especially when considering the book earnings have been reduced by $28.7 million of capital gains-based incentive fees. Which equates to about $0.86 per common share, of which only $5.3 million is currently done. With that in mind, and as previously announced in January 2022, our Board of Directors declared another supplemental distribution to common shareholders of $0.12 to be paid out this month in February of 2022.

Assuming the current monthly distribution run rate of $0.90 per share per year, and $0.30 per share per year in supplemental distributions for the 2022 fiscal year-end total. Our annual distributions would total $1.20 per common share or a yield of about 7.5% using yesterday's closing price of $15.90. That covers my part of today's call. Back to you, David.

David Dullum -- President

All right. Thank you, Rachel. That was a nice presentation, Rachel. We're looking forward to you being on all of these calls going forward.

And Dave, you and Michael both gave good information to our shareholders, and that presentation, plus the 10-Q filed with the SEC yesterday, should bring everyone up to date. Team has reported solid results for this quarter ending December 31st, and the exits and add-on investments are nice to hear. We believe the team is in a great position to continue these successes through the remainder of the fiscal year ending March 31, 2022. And I think the team would concur with me that Gladstone Investment is an attractive investment for investors seeking continuous monthly distributions and supplemental distributions from potential capital gains and other income.

The team hopes to continue to show you a strong return on your investment in this fund. And now let's bring on Peter, and we'll have some questions from all of you out there listening in.

Questions & Answers:

Operator

[Operator instructions] The first question is from Mickey Schleien with Ladenburg. Please go ahead.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Yes, good morning, everyone. Dave, when we look at your portfolios breakdown by industry. The largest segment is diversified services, which is a pretty broad description. And then there's consumer durables.

In your prepared remarks, you mentioned inflation. I'd like to ask you how you feel about those companies in those sectors' ability to pass on inflation and protect their margins.

David Gladstone -- Chairman and Chief Executive Officer

So Mickey, good morning, and good to hear from you. Basically, where first part of that question might be where is inflation impacting us? And what we're seeing there somewhat is obviously in labor cost increases, and certainly in the consumer products area, because of raw material costs, etc., and transportation costs in particular, when products coming in from overseas and so on, that's where we're seeing the impact. What we have been experiencing specifically to your question is the ability now indeed to pass on some of those costs. So for argument's sake, in some of our customer base as an example of Walmart, which is one of the customers we'd have for some of our portfolio companies in the consumer space.

They actually are accepting price increases from us and indeed are passing those on through to the customer. So it's all a function of just being very aggressive, frankly, in that regard, and sticking to our guns, and pushing hard with the customer set that we have. So some of them have already started putting those through. We have been seeing a positive trend in that regard and certainly hope it will.

We can continue doing that.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Thanks, Dave. Is there any sense that you can give us about the portfolio's average interest coverage?

David Gladstone -- Chairman and Chief Executive Officer

Average interest coverage, help me with exactly what you mean by that.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

You know what, we'll do that one off line if that's OK with you. 

David Gladstone -- Chairman and Chief Executive Officer

OK.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Dave, as you mentioned in your prepared remarks, multiples in the market, M&A multiples are elevated and it doesn't look like that's likely to come down anytime soon when you think about how much capital is chasing deals. So how would you describe your interest to possibly pay higher multiples for interesting businesses than you've maybe paid historically for those types of businesses?

David Dullum -- President

Yeah. Well, whether I would like to do it or not, Mr. David Gladstone may not let us do that, but no, we are. We look at it hard.

Obviously, it's a function, clearly, and you mentioned in the service sector type of companies and so on. That's where we do see, tend to see higher multiples evaluations, and we are slowly modeling out where we if we do increase it from, where we would normally think we could as long as it works for our model, which is the most important thing. Which is, as coverage of interest, the fixed charge coverage on these companies, and so on. So the short answer is it probably slowly we'll see some increase on multiples that we will have to pay on some of these companies.

But we're still going to keep our constraints on the returns that we're looking for. And it's a competitive environment, so we have to find other ways. As an example, a couple of the companies that we invested in last year very good companies. In one case, it's essentially buying a smaller business and adding on and building out the platform, and we can get accretion as a result of the multiples that we pay for the add-on acquisitions in that regard.

So we'll do stuff like that. And then we just have to be very firm in what we're willing to pay going forward, but it's definitely some pressure to pay a little bit more than we'd like to.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

And Dave, this quarter, your new investments were focused on follow ons. Was that the type of deal you just described? In other words, was it tuck-in acquisitions, or what are your customers, your portfolio companies using that money for?

David Dullum -- President

Yeah, this quarter, that's exactly right. We had a couple of companies where we had really good opportunity to do some add ons, and so we were able to provide the capital to the companies to help them do that, which is a positive thing for us, obviously.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Right. Thank you. I have a couple of questions. I'll get back in the queue and follow up.

Thank you. 

David Dullum -- President

OK. Thanks. Next question.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Thank you.

Operator

[Operator instructions] The next question is from Adrian Day with Adrian Day Asset Management. Please go ahead.

Adrian Day -- Adrian Day Asset Management -- Analyst

Yes, good morning. Two questions, if I may. Just a sort of quick follow-up to the last discussion on competition valuation. It used to be many years ago that your sort of segment of the lending market.

I want to say you had to yourself, but there was a lot less competition and then larger companies. Is do you think the competition you're seeing is purely due to the increase in money, obviously, we all know about that. And so is that the main reason? Or are you just seeing new competitors who are going to hang around in your space? What? I'll call your space.

David Dullum -- President

Yeah, the middle market, or slash-lower middle market?

Adrian Day -- Adrian Day Asset Management -- Analyst

Yeah. Yeah.

David Dullum -- President

So, Adrian, I would say yes. It's probably as much a function of more folks coming into the business, but clearly as a result, also, as you said of more capital. So not only are they, let's call it who are our main competitors? Are private equity funds, right? That's who we compete with buying businesses. And not only do they have a lot of capital that they have to deploy, but also the ability to generate leverage or get leverage from third-party lenders, right? Banks, other BDCs that are lending BDCs, and so on.

And clearly, that leverage, as we know, has also been pretty, relatively speaking, inexpensive. So yeah, it's just a function of both of those. And of course, we assume that the expected returns that some of those firms are factoring in have got to be lower than historically because, otherwise, I don't know how they're paying those kind of prices. Now, whether or not increasing interest rates, which clearly are going to start occurring and have started occurring, although you're going from a relatively low base, right? So it's not like we're getting back to the high rates we used to see back many, many years ago.

That might have some impact a bit, frankly on leverage, and maybe that will help mitigate it a bit. But I think it's a function of us just as many more folks in the market. The supply side, by the way, the number of deals that came to market last year was pretty high also. So far this year, we're seeing a little bit of a slowdown in deal supply, but we think we're going to start seeing a pickup of that again, talking to the investment bankers.

So it's just getting out there and slugging every day is what we have to focus on.

Adrian Day -- Adrian Day Asset Management -- Analyst

OK. And then this is my second question, if I may, I was just a little bit confused. I don't know if you can help me. When you say that your total investment income was affected by the decline in collections of past-due interest from companies previously unknown accrual.

So I'm a little bit confused by that. You mean the companies on non-accrual were previously you were able to collect from?

Rachel Easton -- Chief Financial Officer

So that's exactly right. It's collections that occurred from past amount accrual. This took place, we had about $1.6 million of collections in the prior quarter, and we did not see that same influx take place last quarter.

Adrian Day -- Adrian Day Asset Management -- Analyst

And they would be from the same companies? [Inaudible]

David Dullum -- President

No, not necessarily. And what Rachel said is correct. The good, it's a good news thing, right? So to accept, we had some companies that run non-accrual last quarter, we were able to, because of performance and what have you, we're able to take them off and on accrual. We also are able to get some of that paid back.

So just the timing of how that occurred in that quarter from a comparative basis, we did not have those, neither those companies or other companies necessarily paying any additional interest that was accrued. So we just had our normal interest payments in this quarter relative to the comparative. The prior quarter where we had additional interest if you want to think about it that way, that came as a result of collecting from non-accrual.

Adrian Day -- Adrian Day Asset Management -- Analyst

I got it. I got it. OK. Thank you, sir.

Thank you.

David Dullum -- President

Thank you. Next question?

Operator

[Operator instructions] The next question is from Mickey Schleien with Ladenburg. Please go ahead.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Dave, to follow-up, what drove the large mark up of the Brunswick Bowling preferred shares? And does that represent a exit potential on that investment?

David Dullum -- President

No, well, no. The valuation methodology was consistent with what we've always done. Part of it is that the business, frankly, really coming back very strong. Rachel, you want to touch on that?

Rachel Easton -- Chief Financial Officer

Yeah, absolutely. So that was definitely due to an uptick in performance. We are continuing to see an improvement from the ongoing impact of the pandemic. So it was that increase EBIDTA which really led to the appreciation of the investment.

David Dullum -- President

Yeah, that's not related to any exit activity or anything like that. It's a really good company, we're excited that it's back to almost pre [inaudible] right in the 2019 timeframe, as a result of we'd also made an acquisition that ended that year of a competitive bowling ball company. So we really have a large share in our bowling balls, if you will, and the run-up at the end of 2019 is very positive. Of course, we saw a decline because of COVID through 2020, and now picking back up to were pretty close to where we were at the end of 2019.

And that's all that reflects that.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

That's good news, Dave. Rachel, welcome. First of all, and a couple of more modeling questions. What is the debt portfolio's average LIBOR floor?

David Dullum -- President

So our assets, we have our LIBOR floor. Most of them are it's LIBOR plus, but we also put off our own floor on it, so it's generally around 10%

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

OK. And Dave, or Rachel, can you give us a little bit of color on the large credit from the advisor to the base management fee? It was particularly big this quarter. What was the nature of that, and what is the outlook for that line item?

Rachel Easton -- Chief Financial Officer

Yes, absolutely. So that fee this quarter was primarily due to a few paid to the advisor associated with the exit of Pioneer Square brand. And then that's been credited against our fees due. That is not really comparable quarter over quarter, it's going to be helpful.

David Dullum -- President

Yeah, Mickey, as you know, the way we do this is when we both make an acquisition, and also when we exit a company. If we generate a fee for the transaction because of the interaction with the advisor, we have a relationship where the advisor would collect some of that fee and then they credit that back to us through our actual management fee from the advisor to gain. So again, as Rachel said, you know, it's inconsistent, right? It's going to occur both when we have acquisitions, and we have dispositions if we generate a fee. And so it's again, it's a positive overall.

It's just a function of the advisor collecting essentially getting the money in the transaction and crediting it back to us through our management fee paid to them.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Yeah, I understand the accounting David, it was just the number was pretty large. 

David Dullum -- President

Well, it's a good exit.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Yeah, I know. It was congratulations. It was a very good exit. And what is your estimated undistributed taxable income following these exits? Can you give us any insight on that and how you expect to distribute that?

Rachel Easton -- Chief Financial Officer

Well, so right now we have $17.4 million and this is the GAAP undistributed income on the balance sheet, so obviously we do have some book to tax differences there. But these amounts are available for distributions and do I don't know if you want to speak more to kind of our forwards outlook there. 

David Dullum -- President

Yeah. I think, well, Mickey, first of all, as you know, our general, I always call it policy approach plan is first we focus on the monthly distributions, which we've been able to get up to $7.50 per share, $0.90 on an annual basis. We never want to get ahead of ourselves, try not to anyway. But we will keep trying to increment data slowly as possible has been a good model for all of the Gladstone companies by and large.

And we would certainly want to do that. So we were able to increase out a little bit last year, and we focus on that mainly coming out of operating income. Now, having said that, the distributions that we make on the supplementals again come as a result of the capital gains that we've been generating. And then we start getting into this again, a good thing and I'm getting a little bit over my head in this regard.

But now we start having classification of income that might be sitting there bolted just from cap gains, or from ordinary income. And as we look forward, we might be able to consider taking and increasing our monthly distribution. But some of that might be coming from this crude, income and then from sort of have would have a designation as capital gains. So it's been a blend of those going forward.

But right now, we don't have any suggested change to that. Just keep doing a good job on our monthly distributions, sort of from operations, and are continuing increasing as much as we can our supplemental distributions as a result of cap gains.

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Yeah. That was what I we're referring to, David. Thanks for that explanation. Those are all my questions.

I appreciate your time and congratulations on a strong quarter.

David Dullum -- President

Thanks for your questions. We have any other questions?

Operator

There are no further questions. Ladies and gentlemen, we have reached the end of the question and answer session. And I would like to turn the call back to Mr. David Gladstone for closing remarks.

David Gladstone -- Chairman and Chief Executive Officer

Well, thank you all for tuning in. Had a great quarter. I think we'll have a good quarter this time and we'll see you next quarter. That's the end of the call.

Operator

[Operator signoff]

Duration: 28 minutes

Call participants:

David Gladstone -- Chairman and Chief Executive Officer

Michael LiCalsi -- General Counsel and Secretary

David Dullum -- President

Rachel Easton -- Chief Financial Officer

Mickey Schleien -- Ladenburg Thalmann and Company Inc. -- Analyst

Adrian Day -- Adrian Day Asset Management -- Analyst

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