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Gladstone Capital Corp (GLAD -0.09%)
Q1Â 2019 Earnings Conference Call
Feb. 07, 2019, 8:30 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
See all our earnings call transcripts.
Prepared Remarks:
Operator
Good day, ladies and gentlemen, and welcome to the Gladstone Capital Corporation's First Quarter Ended December 31, 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call is being recorded.
I would now like to introduce your host for today's conference, Mr. David Gladstone. Sir, you may begin.
David J. Gladstone -- Chairman and Chief Executive Officer
All right. Thank you, Lauren, nice introduction. Good morning everybody. This is David Gladstone, Chairman, and this is the quarterly earnings conference call for shareholders and analysts of Gladstone Capital for the quarter ending December 31, 2018. Thank you all for calling in. We are always happy to talk with our shareholders and analysts and welcome the opportunity to provide updates for the Company and our investments that we are in.
And now we'll hear from our General Counsel, Michael LiCalsi, he will make a statement regarding forward-looking statements. Michael?
Michael LiCalsi -- General Counsel and Secretary
Thanks, David and good morning. Today's report may include forward-looking statements under the Securities Act of 1933 and Securities Exchange Act of 1934, including those regarding our future performance. These forward-looking statements involve certain risks and uncertainties that are based on our current plans, which we believe to be reasonable. 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 listed on our Forms 10-Q, 10-K and other documents that we file with the SEC. Those can now be found on the Investor Relations page of our website, www.gladstonecapital.com, and on the SEC's website at www.sec.gov. 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.
We also ask that you take the opportunity to visit our website, once again, gladstonecapital.com, sign up for our email notification service. We can also be found on Twitter and that's @GladstoneComps and on Facebook, keyword there is, The Gladstone Companies.
Today's call is simply an overview of our results, so we ask that you review our press release and Form 10-Q, both issued yesterday for more detailed information. Again, those can be found on the Investor Relations page of our website.
With that, I'll turn the presentation back over to Gladstone Capital's President, Bob Marcotte. Bob?
Bob Marcotte -- President
Thank you, Michael. Good morning and thank you all for dialing in today. Let's get into the results for last quarter and our portfolio performance and capital position, and I'll conclude with some comments regarding the outlook for the balance of fiscal 2019.
The highlights for the quarter ended December 31st include, per our prior quarter guidance, our originations on the quarter were very strong, totaling $59.2 million and included three new proprietary senior secured investments. Exits and repayments totaled $8.9 million, so net originations for the quarter were $50.4 million, excluding any appreciation or depreciation on the quarter.
Interest income rose 7.7% to $11.7 million, lifted by the net originations, the majority of which closed in the latter half of the quarter. Total interest income was $11.9 million, which was up $700,000 or 5.8%, as prepayment and success fees fell with the level of exits on the quarter.
For the quarter, the overall portfolio yield on our interest-bearing portfolio increased to 12.3%. Borrowing costs rose by $500,000 on the quarter, with higher outstanding supporting the asset growth, the increase in LIBOR rates and the decision to fix a portion of our borrowings with the 6.125% senior secured notes issued during -- senior notes issued during the quarter.
Net investment income was up slightly to $6 million or $0.21 a share, as net management fees were largely unchanged compared to the prior quarter, as the advisor fee credit associated with new originations rose, since we credit any closing fees paid to the manager against the base management fee and the advisor incentive fee credits also declined.
The net assets from operations declined by $3.7 million or $0.13 a share, as a result of $9.7 million of net portfolio depreciation on the quarter. Net asset value dropped $0.34 a share or 4.1% to $7.98 per share at December 31st.
With respect to the portfolio, the asset mix at the end of the quarter shifted slightly with the magnitude of the senior secured originations, which rose to 54% of the investment portfolio at fair value at the end of the quarter, while the second lien investments dropped to 34.7%.
During the quarter, we completed the restructure of our second lien loan position in FDF Energy in connection with the Company's exiting bankruptcy. As a result, we realized a substantial loss on our exposure and also made a $5 million preferred equity investment in the business as it exited the significant equity interest in the business going forward. This dropped our oil and gas industry exposure to 11.4% of the portfolio at fair value at the end of the quarter and we expect this to drop further in the near-term.
The balance of the underlying portfolio performed well in the quarter, as reflected in the appreciation of $4.8 million across a number of equity co-investments and when you consider the unrealized depreciation reported, also includes approximately $5 million, which we attribute to the year-end sell-off in the broadly syndicated market, which has already begun to recover. Our non-accrual investments decreased this quarter with the restructure of FDF, and as of 12/31, we had no non-performing assets.
Since the end of the quarter, we've received a prepayment of our second lien investment in Merlin International, generating proceeds of $20.9 million, which include $900,000 of exit and prepayment fee income. As referenced previously, several of our investments are under contract to be sold or being marketed for sale, and we expect prepayments in the range of $20 million to $30 million over the balance of this quarter.
The current backlog of new proprietary investments slated to close in the near-term is modest, which is very typical of the first quarter of the year. We expect new originations to lag prepayments in the near-term, the impact of which will reduce our leverage and should generate additional prepayment income.
And now, I'd like to turn the call over to Nicole Schaltenbrand, the CFO for Gladstone Capital to provide some of the details on the Fund's financial performance for the quarter. Nicole?
Nicole Schaltenbrand -- Chief Financial Officer and Treasurer
Thanks, Bob. Good morning, everyone. During the December quarter, total interest income increased by $800,000 or 7.7% over the prior quarter, driven mainly by the $15.5 million increase in the weighted average balance of our interest-bearing portfolio as opposed to the 40 basis point increase in the average yield on the investment portfolio.
Other income declined in the absence of any significant repayments to $200,000 from $400,000 last quarter. Total investment income rose $700,000 or 5.8% to $11.9 million on the quarter.
Total expenses for the quarter increased by $600,000 driven mainly by the $500,000 increase in financing expenses associated with $11.7 million in higher average borrowings, the 22 basis point increase in average LIBOR and the higher fixed rate associated with the 6.125% (ph) senior notes issued during the quarter.
Net management and incentive fees declined by $100,000 for the period as base management fee credits increased with higher origination, which more than offset the higher management fees and reduced the incentive fee credit. Other expenses were up slightly with annual legal and filing costs at approximately 89 basis points on average assets on the quarter.
For the quarter, net investment income was $6 million or $0.21 per share and covered 100% of our shareholder distribution.
Moving over to the balance sheet. As of December 31st, total assets were $438 million, consisting of $431 million in investments at fair value and $7 million in cash and other asset. Liabilities rose by $49 million to $211 million and consisted of $102 million in borrowings on our credit facility, $57.5 million of our newly issued long-term notes and $52 million of Series 2024 Term Preferred Stock.
Net assets declined by $9.7 million since the prior quarter-end with the net realized and unrealized portfolio depreciation. NAV per share declined by $0.34 to $7.98 as of December 31st, compared to $8.32 as of September 30th.
Looking forward, we continue to be well positioned to benefit from any upward movement in interest rates, as 91% of the portfolio is tied to floating rate investments. The weighted average LIBOR floor on these assets is 1.3% and with floating-rate assets of $369 million at principal and only $102 million of floating rate debt, a 100 basis point rise in LIBOR should generate an approximate 7% increase in net interest income.
Inclusive of the net originations and change in our net asset value of the past quarter, our balance sheet leverage increased significantly. However, pro forma for the subsequent prepayment, our leverage has dropped to 84% and is expected to moderate further with the prepayments discussed earlier by Bob.
We ended the quarter with approximately $67 million of availability under our line of credit. And our current unused commitment is approximately $80 million.
And now I will turn the call back to David to conclude the presentation.
David J. Gladstone -- Chairman and Chief Executive Officer
All right, Nicole, and Bob, and Michael, you all did a good job of informing our stockholders and analysts that follow the Company. In summary, Gladstone Capital had a very good quarter and is continuing to build on the lower-middle market business focus that they have, is well positioned to grow over the fiscal year that ends in September 2019.
The fund closed at $59 million in originations, including the three new proprietary investments. The Company completed a $57.5 million of 6.125% (ph) Senior Notes, which should further diversify the funding sources and locked in the financial cost in case there is a potential for LIBOR to go up. And net investment income was $6 million, which fully covered our dividends on the quarter of $0.21.
As you all know, Gladstone Capital remains committed to paying its shareholders a cash dividend, and in January, our Board of Directors declared a monthly distribution to our common shareholders of $0.07 per common share for the months ending January, February and March, which is an annual rate of $0.84.
The Board will meet again in April to determine the monthly distribution of common stockholders for the quarter ending March 31st, and through the date of this call, we've made 192 sequential monthly and quarterly cash distributions to our common stockholders, that's almost $329 million and we've never missed a distribution and that's about $11.53 per share of the shares outstanding at December 31st, 2018.
The current distribution rate of our common stock, with the common stock priced at $8.86 yesterday at the close, distribution run rate now is 9.6% and continues to be very attractive relative to most yield-oriented alternatives. Our monthly distribution is 6% of our preferred stock, which translates into $1.50 annually and that's paid on a quarterly basis as well. The term preferred stock trades under the ticker symbol GLADN and closed yesterday at $25.13, which is a little bit under 6% because it trades above the $25 that we originally sold the stock at.
So in summary, the Company seems to be improving positions in private businesses that are mid-size, with a good management. Many of these are owned by mid-sized buyout funds that are looking for experienced partners that can lend money to the businesses they invested in. This gives us a chance to make attractive interest paying loans, which support our ongoing commitment to pay cash distributions to stockholders.
I have a really strong team in place and now we'll get the operator back on and have callers ask us some questions.
Questions and Answers:
Operator
Thank you. (Operator Instructions) Our first question comes from Christopher Testa with National Securities. Your line is open.
Christopher Testa -- National Securities -- Analyst
Hi, good morning, David and Bob, thanks for taking my question today. Just wanted to start off on the -- you know, the markdowns on the oil and gas portfolio were relatively modest given the drop in oil prices, and I do know that these are removed from E&P, they're not necessarily drilling into the ground, except for Francis, which was restructured. But isn't there still a tie-in there, if oil prices decline, the activity of these businesses might slow accordingly?
David J. Gladstone -- Chairman and Chief Executive Officer
Bob?
Bob Marcotte -- President
Chris, the adjustments in the valuations were all associated with FDF. The other couple of exposures are mostly chemical distribution businesses. They are actually benefiting from the increased production and the volume of oil coming out of the Permian. The volume of oil coming out of the Permian requires, both chemicals to maintain the production, and more recently, the completion pipelines to move that oil to the Gulf Coast and unlock the additional production, is increasing the demand for chemical. So the production is what drives the value of the other businesses that are the bulk of our exposure and that is continuing to increase on both scores I've outlined. So those companies are growing rapidly and deleveraging. So there is no expected depreciation, other than the year-end relative value marks that I referred to in my comment.
Christopher Testa -- National Securities -- Analyst
Got it. Okay, that's appreciated Bob. And, kudos on actually marking down your book, given the broadly syndicated market because, let's just say, there is some of your larger peers who declined to do that this quarter. So kudos on keeping it honest (ph) there. Just remind me, is your credit facility compatible with the reduced asset coverage that you guys have available?
Bob Marcotte -- President
It is not, but as I've stated in previous quarters, we've been given every indication, because it's structured as a asset base advance rate. The quality of our assets and the cushions associated with the facility have given our banks high level of comfort that moving to a higher overall leverage is not something that they are concerned about. We just haven't had the opportunity or a reason to want to open up the facility. We've let a number of the other banks go and make the modifications that are associated with it and we would expect to do that in the next quarter or two. It's not something that we have an issue -- expect an issue with. And as further affirmation, the agent bank on the facility is the same agent bank for GAIN and they have appropriately modified their facilities. So the proxy and the track record has already been established with our sister BDC.
Christopher Testa -- National Securities -- Analyst
Okay. Great. That's helpful. And is there -- obviously, you guys completed a good fixed rate issuance at a very good coupon, and that now spreads have come back in, does this at all change maybe you're planning for a new fixed rate debt issuance either at the end of fiscal ' 19 or maybe early 2020?
Bob Marcotte -- President
As we've stated previously, the determiner on our leverage, taking advantage of the asset coverage relief is taking out the existing preferred issue, which includes the covenants to the old leverage advance rate. In taking that out, we would expect that doing that with bank facilities is probably not the most prudent approach and that more likely we would consider either an upsize or some other form of issuance to replace that preferred stock when the call period -- the no call period expires in September of 2019.
Christopher Testa -- National Securities -- Analyst
Got it. That's helpful. Thank you. And the last one for me. You guys had mentioned, I think it was Merlin, this company repaid about $29 million and then you said something about $20 million to $30 million repayments. So is it the Merlin repayment that's $29 million, plus an additional $20 million to $30 million of repayments in total, so we are looking at ballpark of $50 million to $60 million of total repayments for the 3/31 quarter?
Bob Marcotte -- President
Merlin was $20.9 million --
Christopher Testa -- National Securities -- Analyst
Oh, $20.9 million.
Bob Marcotte -- President
$21 million, and $900,000 were fees and exit fees. The $20 million to $30 million is incremental to that. There are -- there is a two separate situations that we would expect to close. We've been anticipating a fairly bulky prepayment window. They seem to be coming or expect to come this quarter. Hence, as I noted in my comments, we ran a little high on our leverage at the end of December in anticipation of an influx of those prepayments. So, yes, overall, we are talking about $40 million to $50 million of prepayments on the quarter.
Christopher Testa -- National Securities -- Analyst
Got it. Okay. Those are all my questions. Thanks for taking my questions today.
Bob Marcotte -- President
Thank you, Chris.
David J. Gladstone -- Chairman and Chief Executive Officer
Next question?
Operator
Our next question comes from Mickey Schleien with Ladenburg. Your line is open.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Yes, good morning everyone. Bob, I just wanted to refresh my memory on the legacy investments. I know, Francis Drilling was one of those. What percentage of the portfolio on a fair value basis still is legacy, meaning something that predates your arrival at Gladstone?
Bob Marcotte -- President
Well, the two of the most -- come most immediately to mind would be Defiance, which is still on the balance sheet and I believe roughly $8 million, and True North, which was the old Sunshine, which was restructured in the 9/30 quarter, which is down to about, I think it's less than $2 million. So I think you're talking about roughly $10 million against a portfolio of $430 million. So I'm not sure that, that rounds to a meaningful number.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Okay, I understand. That's helpful. And going back to the increase in the weighted average yield, it climbed more than LIBOR at the same time that your first lien allocation also went up. Can you just give us a little granularity on how that occurred?
Bob Marcotte -- President
Good question. The increment is largely associated with one of the deals that we closed on the quarter, which had a fairly high overall yield. I think if you track through the scheduled investments, we've put on a senior investment that was in the mid-teens. That was enough on the quarter to move the numbers or decrease the increment. I'm sure there were some other shifting, but that was the bulk of it.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
So mid-teens, as a really strong coupon, can you give us some insight as to what features of that investment attracted you to it?
Bob Marcotte -- President
I think as I've mentioned in the past, we've been entertaining investments in some instances with independent sponsors and this happened to be an independent sponsored transaction, which obviously there is a little bit different negotiating in leverage dynamics in that kind of a situation. This investment happens to be in the defense related business that's here in the DC area. We were able to, given our experience in the sector, given the proximity, given the strength of the management team and given the rollover investment of that management team, we felt very comfortable with that underlying investment.
As you may know, the defense complex here in DC is a fairly hot market and the visibility on growth and revenue in that business was pretty strong, and so the combination of factors were pretty compelling to us. And so we were able to do a senior secured investment at a high yield. We did put some equity in that company given the attractiveness of it. And the good news is that company also won a nice piece of business very shortly after our close, so it's continuing to deleverage. So it was a confluence of factors that enabled us to execute on that and it is well below our average leverage level in the portfolio. So it's a combination of factors that I think made it a compelling investment.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Okay, thank you for that. That's really helpful. And speaking of DC here, was there any material impact on your borrowers from the shutdown recently?
Bob Marcotte -- President
You know, the only one that I've heard of, I mean, it was somewhat recent, one of the investments that we closed on the quarter was in the marketing and media business. They provide systems and support for digital marketing programs. As it turns out, they have a contract with one of the large government museums and art infrastructure here in DC, and while the shutdown was in place, that contract was suspended. It has now been restarted and has been catching up, but really that's the only one that I'm aware of that we've seen any impact associated with the shutdown.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Okay, that's helpful. Bob, can you give us an update on Edge Adhesives, I saw that you marked it down fairly meaningfully? Just curious about the outlook for that company.
Bob Marcotte -- President
Edge is in a very interesting and fairly active space. The adhesives and chemical infrastructures continues to be relatively strong. There were management changes that were affected earlier last year. They are currently working on a significant number of backlog of new product lines and launches. We just happen to be in a period of time where they're comping down, and the result is, as you expect, when EBITDA goes down and you own a decent block of the underlying equity, there is a magnified effect on the underlying company. We're fairly close to that one, since that is in fact controlled by GAIN. So I think we have pretty good visibility on what's going on there. I would expect between the pipeline and some other strategic activity that they -- that there are plans to move that asset in a more positive direction in the coming quarters. But that's all I can say at this time.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Okay. And excluding Edge, you had other investments depreciate about $5.6 million. Did I hear you correctly in your prepared remarks that you said $5 million was mark-to-market volatility? So in other words, the bulk of the other movements apart from Edge were mark-to-market?
Bob Marcotte -- President
Yes, that is correct, Mickey. The only one that was kind of in a grey area, the $5 million was the mark-to-market. There is $600,000 of depreciation that's associated with the prepayment on Merlin. So Merlin was at a fairly attractive rate and low leverage level, and given the fact that we received shortly after quarter-end, par on that investment, it was marked down to par. So, the $600,000 difference in that case is associated with that exit more than it is depreciation. So yes, the vast majority of the markdowns are associated with mark-to-market.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
And you said that, as of today, the bulk of that has been recuperated?
Bob Marcotte -- President
Well, there is a couple of ways to look at that. I'm obviously not a soothsayer, and I can't speak to the broad marketplace. But reading some of the trade, the LTSA (ph) index for high yield loans dropped 2.5% in the month of December. As of the end of January, it had recovered 2.2%. So it has returned -- recovered roughly 80% of the December decline. Now, whether that holds up to the March 31st, is question one. And two, we'll obviously have to have that discussion with our outside pricing service when we do get to that date. But all indications are that market has largely been reinflated. You may note that everything leveraged was largely dumped in the last two weeks of December and it has come back much like the BDC stocks have come back.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Yes, I do agree with that statement. That index that you referenced widened or the yield on that index widened about 150 basis points in the fourth quarter. Does that metric factor directly into your valuation? In other words, is there a correlation between your valuation of your debt investments in that index or do you use some other methodology?
Bob Marcotte -- President
There is a little bit of a black box in that and when you read our disclosures in our K, we use what used to be the old S&P pricing service. S&P uses the 3,000 or whatever 6,000 loans in their pricing service and the movement in those underlying loans are used to then index hours. They use the broader movement, they tie it to sectors and then they adjust for underlying credit changes. So while it's not tight that index, it is effectively driven by some of the same principles, given the breadth of the S&P pricing model. So we've never tried to reconcile it, but I think that's a reasonable assumption.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Okay, I understand. My last question sort of a housekeeping question, New Trident was marked at zero, but it's still on accrual, I just want to confirm that I'm correct in that assessment?
Bob Marcotte -- President
You are correct. That investment is certainly challenged. It is controlled by a large buyout complex with an investment that's on the same tier is where we currently are invested, so we have an alignment of interest. Whether that continues in the coming quarters is an open question.
Mickey Schleien -- Ladenburg Thalmann -- Analyst
All right, thank you for your time this morning. That's it from me.
Bob Marcotte -- President
Thank you, Mickey.
David J. Gladstone -- Chairman and Chief Executive Officer
Any other questions?
Operator
Thank you. (Operator Instructions) Our next question comes from Bill Brown, a Private Investor. Your line is open.
Bill Brown -- Private Investor -- Analyst
Thank you. First of all, Bob, thank you for your continued stock purchases as a long time investor. It certainly gives me great comfort to know you're right in there with us. I just want to know your thoughts, I know, the -- on the comment and the statement about enhanced returns, looking at all the additional hopefully fee income that you're expecting, what are your thoughts on likelihood of this being the year we finally get to increase the dividend?
And also just kind of philosophically, I'm just wondering when you -- if fee income is what generates the additional income that might be sufficient to increase the dividend and fee income is obviously a little more lumpy in terms of how it comes in, is your feeling on the dividend to only increase it when you can increase it on a run rate or is your feeling, it's been -- in a particular year, you would do a special dividend, if it was because of the fee income?
Bob Marcotte -- President
There's a lot in there. Let me give you my view, and I'll let David weigh in. I think in the near-term, the prepayments will drive fee income as you've correctly ascertained. I think, we will probably be more oriented toward considering the dividend, relative to core earnings and interest income. We've always kind of stated that driving the core interest income is an important factor. And we've been monitoring that fairly closely. I would think there are two things that come in the mind that are going to drive the dividend considerations. As we get these prepayments, as we reinvest those funds, the fees will cover that reinvestment period to get that money redeployed. And as we get toward the tail-end of the year, I think we're going to have two things working in our favor: one is, we do or do expect leverage relief, so we have the ability to move up our leverage and that is going to be accretive to the dividend; and the second thing that we've also taken into consideration is, I think we feel pressure to recognize the increase in overall yields in the marketplace, at some point needs to be passed through and reward the loyal shareholders for their continued investment in the Company.
So as rates rise, I think there is a desire on our part to begin to move that distribution consistent with rates and as we begin to lift leverage toward the tail-end of the year. Obviously, we've absorbed a fairly significant hit to our net interest income associated with FDF in the last two quarters. That was a fairly material hit. We've absorbed it and now we're in a better position in the coming quarters to begin to consider that dividend adjustment you've been waiting for.
David, do you have anything to add to that?
David J. Gladstone -- Chairman and Chief Executive Officer
Yes, Bill, we don't like special dividends. They don't seem to add up much in the marketplace. So our goal is to get ahead of the growth in income, so that we can look at the dividend coverage ratio and say to ourselves we're in good shape. We can raise it. In some of the companies that we manage here, we've taken on the idea that we can raise the dividend a little bit every quarter and that may be what we end up doing here. At this point, I'll leave it to Bob to make the final judgment on increasing the dividend, but that is the goal. Are there questions, Bill?
Bill Brown -- Private Investor -- Analyst
No, thank you very much.
David J. Gladstone -- Chairman and Chief Executive Officer
Okay. Next question from anybody?
Operator
I'm not showing any further questions at this time. I'd like to turn the call back over to Mr. Gladstone for any closing remarks.
David J. Gladstone -- Chairman and Chief Executive Officer
All right. Well, we appreciate the questions that we got. They were good and they helped us transmit to our shareholders what's going on here and that's the end of this, and we'll see you next quarter.
Operator
Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program and you may all disconnect. Everyone, have a wonderful day.
Duration: 38 minutes
Call participants:
David J. Gladstone -- Chairman and Chief Executive Officer
Michael LiCalsi -- General Counsel and Secretary
Bob Marcotte -- President
Nicole Schaltenbrand -- Chief Financial Officer and Treasurer
Christopher Testa -- National Securities -- Analyst
Mickey Schleien -- Ladenburg Thalmann -- Analyst
Bill Brown -- Private Investor -- Analyst
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