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Solar Senior Capital Ltd (SUNS)
Q3Â 2019 Earnings Call
Nov 5, 2019, 11:00 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Ladies and gentlemen, thank you for standing by. And welcome to the Q3 2019 Solar Senior Capital Earnings Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions].
I would now like to hand the conference over to your speaker, Mr. Michael Gross, Chairman and Co-CEO. Mr. Gross, please go ahead.
Michael Gross -- Chairman, President & Co-Chief Executive Officer
Thank you very much and good morning. Welcome to Solar Senior Capital's earnings call for the fiscal quarter ended September 30, 2019. I'm joined here today by, Bruce Spohler my Co-CEO; and Rich Peteka, our Chief Financial Officer. Rich, would you please start off by covering the webcast and forward-looking statements?
Richard Peteka -- Chief Financial Officer & Treasurer
Of course, thanks Michael. I'd like to remind everyone that today's call and webcast are being recorded. Please note that they are the property of Solar Senior Capital Limited and that any unauthorized broadcasts in any form are strictly prohibited. This conference call is being webcast on our website at www.solarseniorcap.com. Audio replays of this call will be made available later today as disclosed in our press release.
I would also like to call your attention to the customary disclosures in our press release regarding forward-looking information. Statements made in today's conference call and webcast may constitute forward-looking statements, which relate to future events or our future performance or financial condition. These statements are not guarantees of our future performance, financial condition or results and involve a number of risks and uncertainties.
Additionally, past performance is not indicative of future results. Actual results may differ materially as a result of a number of factors, including those described from time-to-time in our filings with the SEC. Solar Senior Capital Ltd. undertakes no duty to update any forward-looking statements unless required to do so by law. To obtain copies of our latest SEC filings, please visit our website or call us at (212) 993-1670.
At this time, I'd like to turn the call back to our Co-CEO, Michael Gross.
Michael Gross -- Chairman, President & Co-Chief Executive Officer
Thank you, Rich. We are pleased to report that Solar Senior Capital continued its solid operating performance in the third quarter of 2019. Net asset value was $16.31 per share and GAAP net investment income of $0.35 per share fully covered our distributions for the quarter. Overall, the fundamentals of our portfolio companies remained strong and SUNS portfolio is 100% performing at September 30.
At quarter-end, our comprehensive portfolio was approximately $650 million, a slight decrease from the prior quarter, due primarily to approximately $6 million of net portfolio repayments across the platform. Importantly, over 98% of our comprehensive portfolio are in first lien senior secured loans, of which almost half are in first lien specialty finance loans.
We are pleased with the progress we've made in our efforts to evolve SUNS into a diversified specialty finance company. The market and economic environment have changed significantly over the last year with the Fed moving from rate increases to rate decreases amid a backdrop of elevated recession concerns and a host of challenges headlined by trade wars, Brexit and an uncertain political environment.
Capital lending remains competitive, given the persistent supply demand imbalance fueled by inflows of capital to private credit funds and reduced year-over-year middle market transaction volume. We believe it is paramount to maintain our discipline in cash flow lending in the face of continued aggressive structures, tight pricing and elevated overall risk.
While facing frothy market conditions in cash flow lending, our specialty finance businesses, namely Gemino Healthcare Finance, North Mill Capital and Life Science Lending, which Bruce will talk about later, provide investments with collateral coverage, strong structure protections and low-double-digit asset level yields. These niche businesses have higher barriers to entry, require specific asset class knowledge and underwriting experience, are back-office intensive and are more difficult to scale than cash flow lending. Having specialized and experienced teams across these specialty finance asset vehicles provides a competitive advantage for SUNS, creates a wider organizational -- origination funnel and enhances this flexibility to allocate capital to most attractive risk-reward opportunities.
The asset coverage modification approval last year provides SUNS with additional flexibility and capacity to make controlled equity investments in specialty finance businesses. We continue to actively evaluate additional portfolios of asset-based loans and specialty lending platforms to acquire. Solar Capital Partners, the investment advisor to SUNS, currently has over $6 billion of investable capital, including anticipated leverage across the listed BDCs, private credit funds and separate managed accounts. The increased scale across the platform strategically positions SCP to be a solutions provider with an ability to speak up to $200 million in a given transaction, while maintaining diversified portfolios. The greater hold level across the platform has already resulted in more attractive investment opportunities for SUNS.
At quarter-end, Solar Senior is in a strong liquidity position, with net leverage of 0.8 times debt-to-equity. We intend to move closer to our target leverage range of 1.25 to 1.5 times debt-to-equity by growing our portfolio over time, but only with investments that meet our strict underwriting criteria. When considering the combined credit facilities of SUNS's balance sheet and at a North Mill and Gemino, there's over $150 million of available debt capacity across the SUNS platform subject to borrowing base limitations. We continue to be highly disciplined in deploying our available capital.
At this time, I'll turn the call over to our Chief Financial Officer. Rich Peteka.
Richard Peteka -- Chief Financial Officer & Treasurer
Thank you Michael. Solar Senior Capital Ltd.'s net asset value at September 30 was $261.6 million or $16.31 per share. This compares to a net asset value of $262.1 million or $16.34 per share at June 30, 2019. Solar Senior's balance sheet investment portfolio at September 30, 2019 had a fair market value of $469.2 million in 50 portfolio companies operating in 19 industries compared to a fair market value of $474.2 million in 50 portfolio companies operating in 22 industries at June 30, 2019.
At September 30, SUNS's net leverage was 0.8 times, similar to the prior quarter. As a reminder, Solar Senior's target leverage is 1.25 times to 1.5 times debt-to-equity under the reduced asset coverage requirement. From a P&L perspective, gross investment income for the three months ended September 30, 2019 totaled $10.4 million versus $10.0 million for the three months ended June 30. Net expenses for the three months ended September 30 were $4.7 million compared to $4.4 million for the three months ended June 30. Accordingly, net investment income for the quarter ended September 30, 2019 was $5.7 million or $0.35 per average share, as compared to $5.7 million or $0.35 per average share for the three months ended June 30. Noted, for the quarter ended September 30, the investment advisor voluntarily waived fees of $602,000 compared to $984,000 for the quarter ended June 30.
Below the line, Solar Senior had a net realized and unrealized loss for the third fiscal quarter totaling $0.5 million compared to a net realized and unrealized loss of $1.1 million for the three months ended June 30, 2019. Accordingly, Solar Senior had a net increase in net assets resulting from operations of $5.2 million with $0.32 per average share for the three months ended September 30. This compares to a net increase in net assets resulting from operations of $4.6 million or $0.29 per average share for the three months ended June 30.
Lastly, our Board of Directors declared a monthly distribution for November 2019 of $0.1175 per share payable on December 3, 2019 to stockholders of record on November 21, 2019.
At this time, I'd like to turn the call over to our Co-CEO, Bruce Spohler.
Bruce Spohler -- Co-Chief Executive Officer, Chief Operating Officer & Director
Thank you, Rich. Before I review the portfolio activity, I'd like to highlight a change in the way in which we're reporting the SUNS's portfolio information. We are now breaking out our life science senior secured loan investments as a separate business unit. The increased scale of the SCP platform that Michael referenced, which allows larger hold sizes combined with the expanded 30% non-qualified basket at SUNS, has enabled SUNS to invest selectively in senior secured loans of the larger enterprise value life science companies. We believe the life science senior secured lending asset class provides a differentiated growth opportunity in a niche asset class, which offers attractive risk-reward characteristics and further diversifies SUNS portfolio as well as enhancing the opportunity to increase its investment income.
As a reminder, SCP entered into life science lending business in 2014. After exploring various ways to gain exposure to this attractive asset class, we hired a financial services veteran with over 25 years of experience and a stellar track record investing in life sciences. Prior to joining us, he launched and ran the life science lending business at GE Capital for over 13 years and successfully invested $2.2 billion in the asset class with no losses in the venture loan product. From launch of a life science strategy, SCP has invested over $900 million in 65 transactions into late-stage development or early stage commercialization pharma and medical device companies.
Since inception, the SCP life science investment track record has produced mid to high-teen IRRs with no losses. The ability to invest in these larger enterprise value life science companies provides incremental origination opportunities for SUNS. The market opportunity for lending to public late-stage life science companies has grown and now represents over half of the opportunity set. Typically, the loan tranches are larger and spreads are a bit tighter for these larger enterprise value life science companies. Loan-to-values are attractive with LTV against cash equity generally falling in the range of 10% to 30%. The scale of SCP's platform with a hold size of up to $150 million per investment allows us to be more competitive and also creates attractive investment opportunities for SUNS to participate in.
Our intention is to expand SUNS's portfolio through four core strategies: first lien senior secured cash flow loans to upper mid-market sponsor-owned companies; highly structured first lien senior secured life science loans; first lien asset-based loans secured by accounts receivable operating exclusively in the healthcare industry through our Gemino subsidiary; and lastly, through North Mill first lien asset-based loans secured by accounts receivables to midsized US companies operating primarily in the manufacturing services and distribution industries.
In addition, we're actively evaluating opportunities to further expand our specialty finance business lines, both through control equity stakes in new finance businesses as well as through organic growth. In the aggregate, at quarter-end, our investment across these four businesses totaled just under $650 million, encompassing 230 distinct borrowers. The portfolio is highly diversified with an average investment per issuer of just under $3 million or 0.4% of the total portfolio. Measured at fair value, 99.7% of the portfolio consists of senior secured loans, of which 52% are first lien cash flow loans; 47% are first lien asset-based loans and just about 1% is in a single second lien secured cash flow investment. Our equity exposure was de minimis at less than 1%.
SUNS's weighted average asset level yield on a fair value basis was 10%, consistent with the prior quarter. Including investments and repayments across our four business lines, third quarter originations totaled $36 million and repayments were $42 million resulting in de minimis contraction of $6 million of our total $650 million portfolio.
Now, let me provide an update on the credit quality and earnings power of the portfolio. At quarter-end, 100% of SUNS's portfolio was performing. Our internal risk assessment on a weighted average of the loan portfolio remained at approximately 2 based on our 1-to-4 risk rating scale with 1 representing the least amount of risk. At quarter-end, our watch list represented under 4% of the portfolio, trending down from last quarter.
Now let me discuss our investment verticals. Cash flow. At quarter-end, our cash flow portfolio totaled $342 million, representing 53% of the total portfolio. The cash flow portfolio is comprised of loans to 39 borrowers with an average investment size of just under $9 million. The fair value weighted average asset level yield on the cash flow portfolio was 7.5%, which is down approximately 40 basis points from the prior quarter, largely reflecting the drop in LIBOR during this period. In addition, roughly 80% of the cash flow and life science loans have LIBOR floors, with weighted average LIBOR floor is 1.1%.
Our second lien exposure is down to one borrower, representing just over 1% or $8 million of the total $650 million portfolio. At 09/30, [Phonetic] the median EBITDA of our first lien cash flow investments was approximately $80 million. On a fair value weighted average basis, first lien leverage to our investment was 4.8 times and interest coverage was 2.4 times. The weighted average latest 12-month revenue growth across the cash flow portfolio was just over 3% with EBITDA growth approaching 10% at quarter-end.
During the third quarter, we originated cash flow investments of just under $17 million and had repayments of just under $28 million. Thematically, two-thirds of our new investments are continued upsizing of our investments to existing credits that are performing well. Of note, during the third quarter, SUNS realized on its investment in ESP when the company was sold to a strategic buyer during the third quarter. The value received by SUNS resulted in a complete recovery of our initial investment and MOIC above 1 time for this investment that was originally made back in 2011.
In addition, during the third quarter, SUNS received full repayment on its loans to Miller Heiman, otherwise known as TwentyEighty Co. This company was sold during the quarter and post quarter-end, announced that it completed the previously announced sale of some smaller operating segments, which resulted in the majority of our proceeds being repaid to SUNS at the beginning of this quarter. The remainder of the proceeds will be distributed next year, and SUNS expects to earn a positive IRR and MOIC in excess of 1.1 times on this challenged investment. These two outcomes reflect the advantages of our patient capital investing in first lien senior secured loans that are $1.00 [Phonetic] risk as well as SUNS's ability to work effectively with owners and management teams through challenging situations.
Now, let me touch on our life science portfolio. At quarter-end, the portfolio was $25 million or 4% of the total portfolio. During the third quarter, we funded just over $5 million in three life science investments and had no repayments. At quarter-end, the portfolio included eight different borrowers with an average investment size of $3 million and a weighted average yield of 10% excluding any exit fees or warrants. The life science business contributed just under 6% of SUNS's investment income for the third quarter, reflecting the higher yield of these investments.
Now turning to North Mill. Our North Mill portfolio at quarter-end was just over $160 million, representing 25% of SUNS's total portfolio. During the third quarter, North Mill funded $12 million of new asset-based investments and had repayments of just over $9 million. The portfolio consists of 151 different borrowers with an average investment size of just over $1 million. The weighted average yield at North Mill's portfolio was 14.2% compared to 13.5% in the prior quarter. This increase was driven in part by the acquisition of Summit at the end of the second quarter with its higher-yielding portfolio.
When we were to include certain one-time fees that we realized during the third quarter, the portfolio yield was actually closer to 15%. While it's early in the integration of Summit, we are encouraged by the broader geographic coverage and expanded pipeline of attractive investment that it brings. The acquisition of this portfolio as well as the addition of the Summit team increases North Mill's scale and origination capabilities. The team at Summit has a strong credit culture, consistent with North Mill's, and we anticipate that their addition will result in continued portfolio growth for North Mill. For the third quarter, North Mill paid SUNS a cash dividend of $1.4 million.
Now, let me touch on Gemino. At quarter-end, Gemino's portfolio was $116 million, representing just under 18% of SUNS's total portfolio. It was comprised of loans to 32 borrowers with an average investment size just over $3.5 million. The weighted average asset level yield for Gemino was 10.7%. In the third quarter, we funded $2 million of new exist -- new and existing asset-based investments and had repayments of approximately $5 million. During the quarter ended September 30, Gemino also refinanced its credit facility through a new four-year credit facility at LIBOR plus 2.25% compared to the prior rate of LIBOR plus 2.60%. During the third quarter, Gemino paid SUNS a cash dividend of $900,000, consistent with the prior quarter.
As Michael mentioned, the middle market cash flow lending environment remained frothy. We benefit from our diversified origination sources across both cash flow and asset-based lending verticals, which allows us to allocate capital to investments that meet our strict underwriting criteria. In addition, we believe the growth of the investment advisors' platform has and will continue to result in more investment opportunities across both cash flow and specialty finance asset classes for SUNS. We will continue to be prudent and disciplined in deploying our available capital.
Now, let me turn the call back to Michael.
Michael Gross -- Chairman, President & Co-Chief Executive Officer
Thank you, Bruce. In closing, we've always maintained an investment philosophy of assuming that we are late in the credit cycle and believe it pays to cautious in a period of sustained frothy credit markets. We have purposely taken a defensive approach to investing, focusing on protecting capital to investments in senior secured floating rate cash flow and asset-based loans. The result is a solid portfolio foundation from which to grow. We are confident our disciplined approach, differentiated origination platform and diversified portfolio position us well to navigate in any environment.
At approximately 0.8 times debt-to-equity, we are under-levered relative to our target range of 1.25 to 1.5 times net debt-to-equity. We have substantial dry powder to deploy via our differentiated investment verticals, and we continue to actively evaluate additional portfolios of asset-based loans and special lending platforms to acquire.
When the credit cycle does shift, we believe our history of conservatism will enable us to outperform on a relative and absolute basis, and we will be well positioned to take advantage of market dislocations. At last night's close of $17.65 per share, SUNS carries a yield of 8%, which represents a significantly higher return than the 6.2% implied yield of the S&P/LSTA Leveraged Loan 100 Index. Given the overall credit quality of SUNS's diversified portfolio, our differentiated origination engines and our disciplined investment philosophy, we believe SUNS represents an attractive investment on both a relative and absolute value basis.
We thank you for the time this morning and look forward to speaking to you next quarter. Operator, at this time, would you please open the line for questions?
Operator
[Operator Instructions] Speakers, I'm showing no questions from the queue at this time. I would like to turn the call back over to Mr. Michael Gross, Chairman and Co-CEO.
Michael Gross -- Chairman, President & Co-Chief Executive Officer
We thank all of you for your time this morning. And if you have follow-up questions, please feel free to contact us directly and have a great day.
Operator
[Operator Closing Remarks]
Questions and Answers:
Duration: 25 minutes
Call participants:
Michael Gross -- Chairman, President & Co-Chief Executive Officer
Richard Peteka -- Chief Financial Officer & Treasurer
Bruce Spohler -- Co-Chief Executive Officer, Chief Operating Officer & Director
