How Prospect Capital Corporation Can Cover Its Dividend

Here's how Prospect Capital can cover its dividend with a little financial engineering.

Apr 8, 2014 at 7:00AM

It seems earnings season never ends. With about one month to go before business development companies report earnings, I wanted to take a look at Prospect Capital Corporation (NASDAQ:PSEC) and its dividend.

As shareholders know, Prospect Capital has failed to cover dividends for several quarters. However, there's a quick fix to its inability to earn more than its dividend: use cheaper leverage.

Prospect's funding costs
Prospect Capital has one of the highest funding costs of the BDC industry as a result of its reliance on more expensive, long-term debt financing. Most of its funding comes from higher-cost, fixed-rate debt obligations.

Its high funding costs are partly to blame for its inability to cover the dividend.

Last quarter, Prospect Capital earned $0.32 in net investment income per share, failing to cover the more than $0.33 in dividends it pays shareholders each quarter.

I modeled a few different scenarios in which Prospect Capital uses more of its credit facility to make new investments at its average portfolio yield of 12.9%. Here are the results:

  • 20% of the facility: $0.035 in additional annual income per share
  • 30% of the facility: $0.053 in additional annual income per share
  • 51% of the facility: $0.096 in additional annual income per share

Two of these scenarios (30% and 51% utilization) would allow Prospect to more than cover its dividend.

Interestingly, the more Prospect Capital borrows under its credit facility, the cheaper its borrowings become. This is because Prospect pays fees equal to as much as 1% of all unused credit each year. If you were to graph Prospect Capital's credit facility costs as a percentage of the total amount borrowed, it'd look like this:

Credit Facility

The more it borrows, the less impact unused credit facility fees have on its income statement. 

Will it cover the dividend this quarter?
On the March 18 webcast, Prospect Capital COO Grier Eliasek noted that the company was not currently raising new capital by issuing new shares. The company's stock traded too close to its net asset value, and selling pressure from index funds would prohibit Prospect from using its at-the-market program to raise new capital.

If Prospect reveals a higher balance on its credit facilities, and the desire to keep a balance, it could easily cover its dividend. It's not a question of if, but when.

Is this a better dividend option than Prospect?
Recent tax increases have affected nearly every American taxpayer. But with the right planning, you can take steps to take control of your taxes and potentially even lower your tax bill. In our brand-new special report "The IRS Is Daring You to Make This Investment Now!," you'll learn about the simple strategy to take advantage of a little-known IRS rule. Don't miss out on advice that could help you cut taxes for decades to come. Click here to learn more.

Jordan Wathen has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.


Compare Brokers