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Solar Senior Capital Ltd (SUNS)
Q3Â 2020 Earnings Call
Nov 6, 2020, 11:30 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good morning, ladies and gentlemen and welcome to the Q3 2020 Solar Senior Capital Limited 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]
I would now like to turn the call over to your host, Mr. Michael Gross, Chairman, and Co-CEO. Sir.
Michael Gross -- Co-Chief Executive Officer, Chairman of the Board, President
Thank you very much and good morning. Welcome to Solar Senior Capital's earnings call for the fiscal quarter ended September 30, 2020. I'm joined here today by Bruce Spohler, our Co-Chief Executive Officer; and Richard Peteka, our Chief Financial Officer.
Rich, would you please start off by covering the webcast and forward-looking statements?
Richard L. Peteka -- Chief Financial Officer and 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 broadcast 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, including the impact of COVID-19 and related changes in base interest rates and significant market volatility on our business, our portfolio companies in the global economy. 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 Limited 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 is at 212-993-1670.
At this time, I'd like to turn the call back to our Co-CEO, Michael Gross.
Michael Gross -- Co-Chief Executive Officer, Chairman of the Board, President
Thank you very much, Rich. The Solar Senior team hopes to find you and your family, friends, and colleagues healthy and safe. Our thoughts remain with all of our stakeholders, including the dedicated employees across Solar Capital and the Company's investment advisor Solar Capital Partners. We would like to express our gratitude to all the healthcare and other frontline essential workers and we continue to send our sincere condolences to those families who have lost loved ones. I'm pleased to report that Solar Senior Capital or SUNS' portfolio is 100% performing for the third quarter which is supportive of our investment thesis that asset-based loans in niche markets and first lien cash flow loans to upper-middle market companies provide meaningful downside protection during challenging economic periods. Our portfolio companies are proving to have resilient business models and access to liquidity, that we believe will enable them to successfully weather the current economic recovery. We attribute our healthy portfolio foundation to our disciplined and conservative underwriting, the deep experience of our investment teams, and SUNS' diversified origination platform across cash flow, asset-based lending, and life science verticals. Credit market valuations continue to improve in the third quarter and our portfolio companies benefited from the gradual reopening of the economy and the proactive steps taken by management teams and sponsors to morph liquidity, reduce cost throughout the downturn. For SUNS' net asset value improved by $0.24 per share or approximately 2% compared to the prior quarter. At September 30th, our fair value marks represented an approximately 70% recovery of the unrealized depreciation recorded at March 31st. Importantly, we currently anticipate that our existing investments will result, in Solar Senior Capital ultimately receiving their expected returns in 100% of par in repayments.
At September 30th, over 98% of our comprehensive investment portfolio fair value was invested in first-lien loans and approximately 49% of the total fair value consists of loans in our specialty finance verticals. These loans have historically exhibited lower default and loss rates throughout business cycles, compared to traditional cash flow lending. Notably, the ABL and Life Science teams have each managed through multiple cycles over career spanning 20 to 30 years. In the third quarter, Solar Senior produced $0.30 per share of net investment income fully covering our distributions. At September 30th, SUNS remains significantly under-levered at 0.52 times net debt to equity, relative to our target range of 1.25 to 1.5 times. We expect portfolio growth in the coming quarters from the increased pipeline of both first lien cash flow as well as asset-based loan investment opportunities. As we invest our available liquidity, we expect SUNS' net investment income to cover its distributions without the support of fee waiver by the advisor. As we approach our target leverage of 1.5 times we expect net investment income to exceed the current distributions. Given the improving economic climate and stabilization of markets, our investment pipeline is ramping up. Our diversified investment platform is spending cash flow lending, multiple ABL strategies, and Life Science venture lending position SUNS as a solutions provider to borrowers. Importantly, we are in a unique position to allocate capital across our strategies to the most attractive risk-adjusted return investments. It also enables us to originate attractive risk that is unavailable to firms, which only underwrite cash flow loans. We expect portfolio growth to come in the form of higher yielding assets with more lender friendly terms, which will ultimately drive increased net investment income. We also have the available capital to support the expansion of our portfolio.
At September 30th, over 60% of our funded debt was comprised of unsecured term notes, which gives us significant unencumbered assets and provides meaningful over-collateralization of its combined $300 million senior secured credit facilities of which over 80% are currently undrawn. As our loans term investors know, we have managed the company in anticipation of an economic downturn. Now that it is arrived and the economic recovery is in process, we are fortunate to have a solid portfolio foundation and are poised to deploy capital to support our valued sponsors and management teams. Finally, our investment advisors' alignment of interest with the company stakeholders has always been one of our guiding principles. Through significant share purchases since inception, our senior management team now owns approximately 6% of our outstanding common stock. Additionally, all members of investment team have a significant percentage of their annual compensation invested in our stock. Senior management's investment alongside fellow stakeholders demonstrates our confidence in the company's defensive portfolio, stable funding, strong liquidity, and the favorable position to make new investments.
At this time, I'll turn the call over to our CFO, Rich Peteka to take you through the third quarter financial highlights.
Richard L. Peteka -- Chief Financial Officer and Treasurer
Thank you, Michael. Solar Senior Capital Limited's net asset value at September 30, 2020, was $253.4 million, or $15.79 per share. This compares to a net asset value of $249.5 million, or $15.55 per share at June 30, 2020. Solar Senior's balance sheet investment portfolio at September 30, 2020, had a fair market value of $389.5 million in 44 portfolio companies operating in 19 industries compared to a fair market value of $416.4 million in 46 portfolio companies operating in 21 industries at June 30. Turning to our funding profile and leverage, SUNS continues to have a very strong balance sheet, which we believe is serving us well in the current downturn. At September 30, 2020, SUNS had $139.3 million of debt outstanding and net leverage of 0.52 times, down from 0.68 times in the prior quarter. SUNS has no near-term debt maturities, having termed out both its primary $225 million credit facility and the secondary $75 million credit facility to 2023 and 2024 respectively. In addition, SUNS has $85 million of unsecured notes with the maturity of March 31, 2025. Solar Senior Capital has over $250 million available to fund portfolio growth subject to borrowing base limits. 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. As of September 30, 2020, the company is unfunded revolver commitments of approximately $4.1 million that can be fully drawn by the borrowers.
Some significant liquidity allows us to be opportunistic in our originations during this market dislocation. From a P&L perspective, gross investment income for the three months ended September 30, 2020, totaled $7.9 million consistent with the $7.9 million for the three months ended June 30. Net expenses for the three months ended September 30 was $3.1 million compared to $2.8 million for the three months ended June 30. Net investment income for the quarter ended September 30, 2020, was $4.8 million or $0.30 per average share as compared to $5.1 million or $0.32 per average share for the three months ended June 30. For the quarter ended September 30, 2020, the investment advisor voluntarily waived management fees of $722,000 compared to $959,000 of management and incentive fees waived for the quarter ended June 30. Below the line, Solar Senior had net realized and unrealized gain for the third fiscal quarter totaling $3.8 million compared to net realized and unrealized gains of $15.4 million for the three months ended June 30. Accordingly Solar Senior had a net increase in net assets resulting from operations of $8.6 million or $0.54 per average share for the three months ended September 30. This compares to a net increase in net assets resulting from operations of $20.5 million or $1.28 per average share for the three months ended June 30. Lastly, our Board of Directors declared a monthly distribution for November 2020 of $0.10 per share payable on December 2, 2020, to stockholders of record on November 19, 2020.
With that, I'd like to turn the call over to Bruce Spohler, our Co-CEO.
Bruce Spohler -- Co-Chief Executive Officer, Chief Operating Officer, Director
Thank you, Rich. Most importantly SUNS portfolio has remained 100% performing throughout the current economic slowdown in early stages of recovery. This performance is a tremendous complement to the financial sponsors and portfolio companies and management teams that we have invested in. In addition, SUNS defensive portfolio and performance supports our underwriting thesis of minimizing risk of loss by investing in first-lien loans at the top of the capital structure, in non-cyclical industries as well as allocating a significant portion of our exposure to collateralized loans to our specialty finance verticals. At quarter-end, the weighted average investment risk rating of our portfolio improved to 1.9 based on our one to four risk rating scale with one representing the least amount of risk. SUNS comprehensive portfolio totaled $522 million at quarter-end and was highly diversified encompassing over 200 borrowers across 120 industries. Roughly 50% of the portfolio was invested in first lien asset-based and life science loans with the remaining 50% in senior secured first lien cash flow loans. Our largest industry exposures were healthcare services, professional services, and insurance services. The average investment per issuer was $2.5 million or less than 0.5% of the total portfolio. At September 30, approximately 100% of our portfolio consisted in senior secured loans comprised of 98.4% in first lien and 1.5% in second lien secured loans. Approximately 87% of our portfolio has a LIBOR floor and at quarter-end, all of our borrowers made their interest rate payments. We believe that our efforts to position this portfolio to first lien loans, which carry less risk than second lien and subordinated loans will result in greater capital preservation during the ongoing economic recovery.
At quarter-end, our weighted average asset level yield was 9.4% at fair value. By focusing on our commercial finance verticals we've been able to maintain a portfolio yield approaching 10% despite the sharp drop in LIBOR. Including activity across our business lines originations for the third quarter totaled $40 million and repayments were approximately $55 million. Now let me provide an update on our investment verticals. Let's start with cash flow. We believe that our cash flow portfolio is well-positioned to perform either during a continued economic recovery or mild downturn given our lack of direct exposure to cyclical industries. Substantially all of our cash flow companies are outperforming their COVID revised budgets for the year as a rebound in revenues, as well as cost cuts, have had a positive impact on their overall financial performance as well as liquidity position. We view the majority of our portfolio companies is providing essential services in non-cyclical sectors that will continue to be required during periods of regional stay in place mandates that may lie ahead. During the third quarter, none of our borrowers experience payment defaults. In particular, our healthcare cash flow loans have been performing extremely well. We attribute this both to the recession-resilient an essential service nature of the healthcare industry, as well as our underwriting edge. This stems not only from our experienced healthcare cash flow team but also the proprietary reimbursement and industry insights through both our Life Science and Gemino Healthcare asset-based lending team. At quarter-end, our cash flow portfolio was just over $267 million or approximately 51% of the total portfolio. It encompassed 30 years -- 30 issuers with an average investment of approximately $9 million.
Over 97% of this portfolio is first lien assets with only one second lien in that portfolio. Post-quarter-end, our one second lien investment was repaid at par, which now results in a 100% first lien portfolio. Our cash flow portfolio companies had a weighted average EBITDA of over $110 million. The weighted average yield on our cash flow portfolio was 6.6%. During the quarter we originated $7 million of first lien loans and experienced repayments of approximately $39 million. We are encouraged that sponsor activity has picked up with higher M&A volumes during the fourth quarter. We expect the sponsor led momentum to carry forward into the end of this year and the beginning of next year, which we believe will provide opportunities to invest in attractive upper mid-market companies. Now let me turn to our asset-based lending businesses. As a reminder, SUNS owns two commercial finance companies that specialize in making asset-based loans secured by accounts receivable. These companies led to -- lend to small and mid-sized U.S. businesses that typically have limited access to more traditional bank financing. Gemino is focused on providing accounts receivable lines of credit to healthcare service providers, such as hospitals, skilled nursing, medical laboratories, and others. Collateral includes receivables from Medicare, Medicaid as well as private pay. North Mill finances companies opeated primarily in the distribution business services and manufacturing industries. North Mill is typically the sole lender to ts borrowers and its financing structures predominantly include accounts receivable financing and factoring agreements. Both Gemino and North Mill are led by teams of seasoned professionals who have built careers in asset-based lending for anywhere from 25 to 40 years.
The teams are therefore experienced, risk underwriters across multiple economic cycles. Their business models are highly resilient relationship-driven and serve as a lifeline of working capital to small businesses across the U.S. In prior economic downturns asset-based loans collateralized by accounts receivable have generally provided higher recovery rates than those supported only by cash flows. Let me now provide an update on both North Mill and Gemino. At quarter-end, North Mill's portfolio was approximately $155 million, representing just under 30% of SUNS' total portfolio. The portfolio rebounded during the third quarter from the second quarter lows led by increased utilization of the facilities as well as new originations. The portfolio consists of over 130 borrowers with an average investment of $1.2 million. Over 99% of its borrowers are deemed essential businesses and the PPP has been highly beneficial to North Mill's portfolio companies. North Mill has performed well and has not had a single payment default during the pandemic. We are very pleased with its credit quality. North Mill's portfolio yield during the third quarter was approximately 13%. During the third quarter, North Mill funded $32 million of new investments and had repayments of $12 million. North Mill's pipeline remains strong heading into the fourth quarter both from existing utilization of revolvers outstanding, as well as new transactions. For the third quarter, North Mill paid SUNS a cash dividend of $1.25 million consistent with the prior quarter. Now let me turn to Gemino. At quarter-end Gemino's portfolio was $70 million, representing just under 14% of the total SUNS portfolio. We believe that Gemino's portfolio is now in a position to regrow after experiencing significant repayment activity in the second quarter, which was resulting from the borrowers choosing to pay down their credit facilities with proceeds from government stimulus programs.
The total number of Gemino's clients has remained remarkably consistent and is comprised of loans to 34 issuers with an average loan of just over $2 million. The portfolio remains 100% performing. The impairment risk remains extremely low given Gemino's disciplined underwriting and focused on financing healthcare service providers. We have high-quality accounts receivable supporting the working capital facilities. Cash collections typically go right into Gemino's lockboxes, where they can deduct their fees and interest payments and amortization automatically. The weighted average asset level yield of Gemino's portfolio was approximately 12.5% for the third quarter. During the quarter, Gemino had new fundings of less than $1 million, however, repayments were only $5 million. Pipeline activity is by given the government stimulus program, but it is starting to rebuild, as we head toward year-end. For the quarter Gemino paid SUNS a cash dividend of just under $1 million consistent with the prior quarter. As we look forward we are confident, not only in the portfolio quality of Gemino but believe that the company is well-positioned to capture additional growth as the market settles and funding under revolving credit facilities return to more normal levels. And finally, let me give an update on our Life Science business. Overall, our Life Science portfolio is largely insulated from short-term market and economic dislocations are given the long-dated equity investment periods, as well as product cycles. The impact of COVID-19 has been de-minimis. 100% of our Life Science loans are performing and we continue to expect to incur no losses in this segment. As a reminder, we have never realized a loss in Life Science loans. Currently, 100% of our portfolio has more than 12 months of cash runway, so, substantial liquidity. At quarter-end, the portfolio totaled $28 million across eight borrowers with an average investment of $3.5 million.
There were negligible originations and no repayments. The weighted average yield on this portfolio was approximately 9.3% excluding any success fees or warrants. In summary, we believe SUNS portfolio is extremely well-positioned to weather and improving, but still challenging period given the uncertainties of the pandemic and the direction of the economy. We remain in close contact with our portfolio companies, their management teams, and sponsors, we support them as well as we work closely with our extensive network of relationships to support new investments. Solar Capital Partners' commercial finance platform and significant dry powder enable us to provide structured solutions including cash flow and asset-based loans for capital-constrained companies. Solar Senior will be able to participate in these financings while maintaining significant diversification across our portfolio.
Now let me turn the call back to Michael.
Michael Gross -- Co-Chief Executive Officer, Chairman of the Board, President
Thank you, Bruce. At this time let me offer a few concluding remarks. From inception, we have endeavored to make the right decisions to preserve and enhance long-term shareholder value. Our priority has always been to create and maintain a portfolio that can generate a steady income for our shareholders and protect capital. We remain disciplined in the face of significant spread compression, higher leverage, and loos structures, all of which have elevated the risk of principal loss in middle-market leveraged finance over an extended period of time. As a result, we have positioned SUNS defensively diversified portfolio across cash flow and specialty finance, first lien senior secured loans to manage downside risk. We've operated well under target fund leverage and we have preserved liquidity. We believe we have taken the appropriate steps to navigate successfully to what we anticipate to be a prolonged and difficult period. Throughout we have maintained alignment of interest with our shareholders by owning a significant amount of SUNS stock. With over $250 million available capital and a strong foundation given our defensive portfolio and low leverage, we believe the company's position to originate attract new investments, while also supporting our existing portfolio companies as needed. Our patience and willingness to remain under-invested provides us the foundation to be opportunistic. Given the magnitude of the economic disruption and expected uneven recovery, we believe that the improved investment opportunity set will persist for a number of quarters as companies require financing solutions for liquidity, working capital, and growth initiatives. Sponsor activity is definitely on the upswing and the PE industry is onto significant dry powder. We believe SUNS in a great position to capitalize on this opportunity. We hope that all of you are in good health, We would like to thank you for your time today and your support of our company.
Operator, please open the phone up for questions if there are any questions at this time.
Questions and Answers:
Operator
[Operator Instructions]
Michael Gross -- Co-Chief Executive Officer, Chairman of the Board, President
Well, thank you, operator. Since there are no questions at this time, we'll bid adieu, and thank you for your time and support and we look forward to talking to you again soon. Thank you.
Operator
[Operator Closing Remarks]
Duration: 30 minutes
Call participants:
Michael Gross -- Co-Chief Executive Officer, Chairman of the Board, President
Richard L. Peteka -- Chief Financial Officer and Treasurer
Bruce Spohler -- Co-Chief Executive Officer, Chief Operating Officer, Director
