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Date
Aug. 7, 2025 at 5 p.m. ET
Call participants
President & CEO — Michael Sarner
Chief Investment Officer — Josh Weinstein
Chief Financial Officer — Chris Rehberger
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Takeaways
Pretax net investment income-- $32.7 million in pretax net investment income for the first quarter of fiscal 2026 (period ended June 30, 2025), or $0.61 per share, as directly reported by management.
Total investment income-- $55.9 million in total investment income for the first quarter of fiscal 2026, reflecting a sequential increase from $52.4 million in the prior quarter.
Total dividends declared-- $0.64 per share for the first quarter of fiscal 2026, comprised of $0.58 regular and $0.06 supplemental distributions, now paid monthly for regular dividends.
Realized gains on equity exits-- $27.2 million in realized gains from two exits in the first quarter of fiscal 2026, contributing to undistributed taxable income growth.
Undistributed taxable income (UTI) balance-- Rose to $1.00 per share from $0.79 per share at the prior quarter-end.
PIK rate-- 5.8% of investment revenue for the first quarter of fiscal 2026, a reduction from 7.6% in the prior quarter.
Non-accrual rate-- 0.8% of investment portfolio at fair value as of the first quarter of fiscal 2026, a decrease from 1.7% as of the end of the prior quarter.
Net asset value (NAV) per share-- $16.59 per share NAV for the first quarter of fiscal 2026, a decrease from $16.70 per share in the prior quarter, attributed to restricted stock compensation issuance.
Credit portfolio size-- $1.6 billion on-balance sheet credit portfolio as of the first quarter of fiscal 2026, marking 21% year-over-year growth from $1.3 billion as of June 2024.
Portfolio composition-- 99% first lien senior secured debt at period-end for the first quarter of fiscal 2026; weighted average yield of 11.8% on debt investments.
Weighted average debt to EBITDA-- 3.4 times for the investment portfolio for the first quarter of fiscal 2026, improved from 3.5 times in the prior quarter.
Regulatory leverage ratio-- 0.82 times debt-to-equity at quarter-end (first quarter of fiscal 2026), down from 0.89 times in the previous quarter (fourth quarter of fiscal 2025).
Total liquidity-- $444 million in cash and undrawn credit facility commitments at period-end for the first quarter of fiscal 2026.
Equity raised via ATM-- $42 million at a weighted average price of $20.50 per share for the first quarter of fiscal 2026, or 123% of prevailing NAV per share.
ING-led credit facility commitments-- Increased by $25 million during the first quarter of fiscal 2026, totaling $510 million in aggregate commitments.
SBA licensing capacity-- Final approval for a second SBIC license, facilitating up to $175 million in additional debentures.
Portfolio granularity-- 122 companies, with average exposure per company of 0.9% of credit portfolio fair value as of the first quarter of fiscal 2026.
New commitments-- $115 million in new commitments for the first quarter of fiscal 2026, with approximately 55% allocated to follow-on financings in performing portfolio companies.
Equity co-investment portfolio-- 80 investments at $166 million fair value as of the first quarter of fiscal 2026, representing 9% of total portfolio at fair value; marked at 125% of cost, with $33.2 million in embedded unrealized appreciation.
Dividend coverage ratio-- 106% coverage for the trailing twelve months ended the first quarter of fiscal 2026, 110% cumulative regular dividend coverage since credit strategy inception.
Operating leverage-- 1.7% operating leverage for the trailing twelve months ended the first quarter of fiscal 2026.
Risk ratings-- 92% of the portfolio at fair value rated in the top two categories on a five-point scale after the quarter's rating structure change.
Cash flow coverage-- Portfolio-wide debt service coverage of 3.5 times as of the first quarter of fiscal 2026.
Acquisition financing exposure-- Loan-to-value levels in current underwritings range between 35%-50%.
Repayments-- Over $80 million in portfolio repayments reported for the first quarter of fiscal 2026.
Private equity backing-- 93% of the credit portfolio is backed by private equity sponsors as of the first quarter of fiscal 2026; 80 unique sponsors across investments.
Regulatory and index rule developments-- House passage of the Access to Small Business Investor Capital Act (amending the AFFE rule), with potential to increase trading volumes upon implementation.
Summary
Capital Southwest(CSWC -0.53%) emphasized a strengthened risk-return profile for its portfolio in the first quarter of fiscal 2026 (period ended June 30, 2025), citing reduced portfolio leverage and non-accruals. Management announced the transition to monthly regular dividend payments and affirmed the maintenance of supplemental dividends, supported by increased undistributed taxable income and substantial realized equity gains. The company disclosed final approval for a second SBIC license, $42 million in ATM equity capital raised above NAV, and an expanded $510 million credit facility to support balance sheet growth and liquidity. Leaders described a conservative underwriting posture in response to sector uncertainty, confirmed a 21% year-over-year portfolio expansion, and highlighted strong private equity sponsor engagement driving current and anticipated deal flow. Regulatory developments, specifically congressional progress on modifying the AFFE rule, were presented as a catalyst that could expand institutional investor participation in BDCs.
President Sarner identified spread compression from aggressive competition by banks and non-bank lenders, clarifying that average new-issue spreads have tightened, but defensive portfolio structuring remains in place.
Recent realized equity gains of $27.2 million and a growing UTI reserve, which increased to $1 per share, were positioned as key supports for dividend sustainability, even under possible rate headwind scenarios.
Chief Financial Officer Chris Rehberger said, "Our operating leverage is significantly better than the BDC industry average of 2.7%, and we believe this metric speaks to the benefits of the internally managed BDC model," with management targeting further reductions amid ongoing organizational investment.
Cash flow coverage and portfolio risk ratings were both described as favorable, reinforcing management's assertion of conservative balance sheet management.
Industry glossary
PIK (Payment-in-Kind) income: Non-cash interest income where the borrower pays interest by issuing additional debt or equity rather than cash.
Non-accrual: Loans on which interest income is no longer recognized because full collection is uncertain.
SBIC: Small Business Investment Company; a program providing companies with access to low-cost, government-guaranteed debentures to finance investments.
UTI (Undistributed Taxable Income): Taxable income earned but not yet paid out as a dividend to shareholders, available to support future distributions.
AFFE rule: SEC regulation requiring disclosure of "Acquired Fund Fees and Expenses" in mutual fund and ETF filings, affecting BDC sector index eligibility.
ATM program: At-the-market equity offering program enabling companies to raise capital over time by issuing shares at prevailing market prices.
Full Conference Call Transcript
Michael Sarner: Thanks, Amy. Thank you, everyone, for joining us for our first quarter fiscal year 2026 earnings call. We are pleased to be with you today to discuss our first fiscal quarter. June was another productive quarter for the company as we continued to strengthen both sides of our balance sheet. During the quarter, we reduced the investment portfolio weighted average debt to EBITDA from 3.5 times to 3.4 times. The investment revenue PIK rate from 7.6% to 5.8% and our non-accrual rate from 1.7% to 0.8% of the investment portfolio at fair value.
These metrics, coupled with corporate leverage of 0.82 times, a weighted average yield on debt investments of 11.8%, provide shareholders with an attractive risk-return profile to support both our regular and supplemental dividend looking forward to the future. During the first fiscal quarter, we generated pretax net investment income of $0.61 per share. Additionally, as a result of harvesting $27.2 million in realized gains from two equity investment exits during the quarter, we were able to increase our undistributed taxable income balance to $1 per share from $0.79 per share as of the end of the prior quarter. Furthermore, as previously announced, we transitioned our regular dividend payment frequency from quarterly to monthly.
We believe that transitioning to a monthly regular dividend is a shareholder-friendly initiative that will benefit all stakeholders of Capital Southwest. Our Board of Directors has declared a total of $0.58 in regular dividends for the quarter, payable monthly in each of July, August, and September 2025, and has also declared a quarterly supplemental dividend of $0.06 per share, bringing total dividends declared for the September quarter to $0.64 per share. On the capitalization front, we received final approval from the SBA for our second SBIC license during the quarter, which allows us to access up to $175 million in additional SBA debentures over time.
Additionally, we increased our existing ING-led corporate credit facility by $25 million, bringing total commitments to $510 million. Finally, we raised $42 million in gross equity proceeds during the quarter through our equity ATM program at a weighted average share price of $20.50 per share, 123% of the prevailing NAV per share. We are pleased with the progress we have made on the capitalization front and will continue to take measures to further improve our balance sheet as we look ahead. From an originations perspective, we took a conservative approach to underwriting this quarter due to the noise and uncertainty related to tariffs and government policies impacting healthcare and government services.
Despite this noise, deal flow in the lower middle market remained solid this quarter, with $115 million in total new commitments to three new portfolio companies and 12 existing portfolio add-on financings continue to be an important source of originations for us, as approximately 55% of total capital commitments during the quarter were follow-on offerings in performing portfolio companies. Over the last twelve months, add-ons as a percentage of total new commitments have been 38%. So clearly, a strong source of origination volume deals we know well, have experience with the management team and sponsor. Looking ahead, we have seen a distinct pickup in the volume and quality of deals in the past six weeks.
As such, we are anticipating significant activity in terms of new platform company originations as well as add-on activity in the existing portfolio. Finally, from a BDC perspective, there's been some long-awaited progress on the AFFE rule or affiliated fund fees and expense. On June 23, 2025, there was a unanimous house passage of the Access to Small Business Investor Capital Act, which corrects the misleading SEC disclosure requirement that overstates the actual cost of investment in BDC. The bill will exempt funds that invest in BDCs from including the acquired fund fees and expenses calculation in the prospectus fee table, providing more accurate information for investors.
If BDCs are exempt from the AFFE rule, they could significantly increase trading volumes in the sector, especially through mutual funds and ETFs. If you recall, the onset of this rule in 2014 precipitated the Russell and S&P to remove BDCs from their indices. So we believe the impact of this corrective legislation could be meaningful. I will now hand the call over to Josh to review more specifics of our investment activity and the market environment.
Josh Weinstein: Thanks, Michael. This quarter, we deployed a total of $51 million of new committed capital, including $50 million in first lien senior secured debt and $1 million of equity across three new portfolio companies. In addition, we closed add-on financings for 12 existing portfolio companies consisting of $64 million in first lien senior secured debt and $1 million in equity. Our on-balance sheet credit portfolio ended the quarter at $1.6 billion, representing year-over-year growth of 21% from $1.3 billion as of June 2024. For the current quarter, 100% of our new portfolio company debt originations were first lien senior secured.
And as of the end of the quarter, 99% of the credit portfolio was first lien senior secured with a weighted average exposure per company of only 0.9%. We believe our portfolio granularity speaks to our continued investment discipline of maintaining a conservative posture to overall risk management as we grow our balance sheet. The vast majority of our portfolio and the activity is in first lien senior secured loans to companies backed by private equity. Currently, approximately 93% of our credit portfolio is backed by private equity, which provides important guidance and leadership to the portfolio companies as well as the potential for junior capital support if needed.
In the lower middle market, we often have the opportunity to invest on a minority basis in the equity of our portfolio companies, paired to suit with the private equity firm when we believe the equity thesis is compelling. As of the end of the quarter, our equity co-investment portfolio consisted of 80 investments, with a total fair value of $166 million, representing 9% of our total portfolio at fair value. Our equity portfolio was marked at 125% of our cost, representing $33.2 million in embedded unrealized appreciation or $0.60 per share.
Our equity portfolio continues to provide our shareholders participation in the attractive upside potential of these growing lower middle market businesses, often resulting from the institutionalization of the businesses by experienced private equity firms, as well as the significant value accretion potential from strategic add-on acquisitions. Equity co-investments across our portfolio provide our shareholders with the potential for asset value appreciation as well as equity distribution to Capital Southwest over time. This is playing out in real time, as this quarter, we harvested two sizable equity exits which generated $27.2 million in realized gains. Over the past two quarters, our equity portfolio has produced $41.3 million in total realized gains.
As noted earlier, these realized gains grow our UTI balance and thus support both regular and supplemental dividends going forward. Consistent with previous quarters, the lower middle market continues to be quite competitive, as this segment of the market is highly attractive to both banks and non-bank lenders. While this has resulted in tight loan pricing for high-quality opportunities that are not exposed to macroeconomic uncertainty, the depth and strength of the relationships our team has cultivated over the years has continued to result in our sourcing and winning opportunities with attractive risk-return profiles. As a point of reference, currently, there are 80 unique private equity firms represented across our investment portfolio.
Additionally, in the last twelve months, we closed 13 new platforms with financial sponsors with which we had not previously closed a deal, demonstrating our continued penetration in the market. Since the launch of our credit strategy, we have completed transactions with over 119 different private equity firms across the country, including over 20% with which we have completed multiple transactions. Our portfolio currently consists of 122 different companies weighted 89.6% to first lien senior secured debt, 1% to second lien senior secured debt, and 9.3% to equity co-invest. The credit portfolio had a weighted average yield of 11.8% and a weighted average leverage through our security of 3.4 times EBITDA.
We continue to be pleased with the operating performance across our loan portfolio. We have recently changed our loan grade structure from a four-point scale to a five-point scale. We have made this change in order to provide additional transparency for our shareholders. All of our loans upon origination are initially assigned an investment rating of two on a five-point scale, with one being the highest and five being the lowest rate. Overall, the portfolio remains healthy with 92% of the portfolio at fair value rated in one of the top two categories, a one or a two.
Cash flow coverage of debt service obligations across the portfolio remains robust at 3.5 times, with our loans across the portfolio averaging approximately 42% of portfolio company enterprise value. We believe these performance metrics are indicative of a well-performing and conservatively structured portfolio. Our portfolio continues to be broadly diversified across industries, and our average exposure per company is less than 1% of investment assets, which gives us great comfort in the overall risk profile of our portfolio. For the deals we are currently underwriting, we continue to have tight covenant packages, loan-to-value levels ranging from 35% to 50%, resulting in significant equity capital accretion below our debt, and reasonable leverage levels of 2.5x to 4x debt to EBITDA.
As Michael mentioned earlier, we believe our balance sheet is well-positioned with low leverage and significant liquidity, which should allow us to be opportunistic should the market become less competitive, resulting in more attractive risk-return profile deals. I will now hand the call over to Chris to review the specifics of our financial performance for the quarter.
Chris Rehberger: Thanks, Josh. Specific to our performance for the quarter, pretax net investment income was $32.7 million or $0.61 per share. For the quarter, total investment income increased to $55.9 million from $52.4 million in the prior quarter. The increase was driven by a $5.2 million increase in cash interest and dividend income, offset by a decrease of $900,000 in fees and a decrease of $700,000 in PIK income compared to the prior quarter. Importantly, PIK as a percentage of our total investment revenue decreased to 5.8% compared to 7.6% in the prior quarter.
Additionally, as of the end of the quarter, our loans on non-accrual represented 0.8% of our investment portfolio at fair value, a decrease from 1.7% as of the end of the prior quarter. During the quarter, we paid out a $0.58 per share regular dividend and a $0.06 per share supplemental dividend. As mentioned earlier, we have transitioned the frequency of our regular dividend payment to monthly, with our board declaring a total of $0.58 per share in regular dividends for the quarter, payable monthly in each of July, August, and September 2025, while also maintaining the quarterly supplemental dividend at $0.06 per share, bringing total dividends to $0.64 per share for the September 2025 quarter.
We continued our strong track record of regular dividend coverage, with 106% coverage for the twelve months ended June 30, 2025, and 110% cumulative coverage since the launch of our credit strategy. We are confident in our ability to continue to distribute quarterly supplemental dividends based upon the current UTI balance of $1 per share and the expectation that we will continue to harvest gains over time from our sizable unrealized appreciation balance on the equity portfolio. LTM operating leverage ended the quarter at 1.7%. Looking ahead, we anticipate our run rate operating leverage to be in the 1.4% to 1.5% range by the end of our current fiscal year.
Our operating leverage is significantly better than the BDC industry average of 2.7%, and we believe this metric speaks to the benefits of the internally managed BDC model and our absolute alignment with shareholders. The internally managed model will continue to produce real fixed cost leverage while also allowing for significant resources to be invested in people and infrastructure as we continue to grow and manage our best-in-class BDC. The company's NAV per share at the end of the quarter was $16.59 per share, a decrease from $16.70 per share in the prior quarter. The primary driver of the NAV per share decline was the annual issuance of restricted stock compensation to employees during the quarter.
We are pleased to report that our balance sheet liquidity is robust, with approximately $444 million in cash and undrawn leverage commitments on our two credit facilities, which represents two times the $223 million of unfunded commitments we had across our portfolio as of the end of the quarter. During June, we increased our corporate credit facility by $25 million, bringing total commitments on the facility to $510 million. Additionally, as of the end of June, 48% of our capital structure liabilities were in covenant-free bonds, with our earliest debt maturity in October 2026. As previously mentioned, during June, we received final approval from the SBA for our second SBIC license.
This license allows us to access up to $175 million in additional SBA debentures over time, which is a cost-effective way to finance our lower middle market investment strategy. Our regulatory leverage ended the quarter at a debt-to-equity ratio of 0.82 to one, down from 0.89 to one as of the prior quarter. While our optimal target leverage continues to be in the 0.8 to 0.95 range, we are weighing the impact of the current macroeconomic landscape and intend to maintain a regulatory leverage cushion, which will mitigate capital market volatility.
We will continue to methodically and opportunistically raise secured and unsecured debt capital as well as equity capital through our ATM program to ensure we maintain significant liquidity and conservative balance sheet construction with adequate covenant cushions. I will now hand the call back to Michael for some final comments.
Michael Sarner: Thank you, Chris, Josh, Amy, and all the employees who help us tell the story on a quarterly basis. And thank you, everyone, for joining us today. This concludes our prepared remarks. Operator, we are ready to open the lines up for Q&A.
Operator: Thank you. Star one on your telephone and wait for an email to be announced. To withdraw your question, please press 11 again. Please stand by while we compile the Q&A roster. One moment for our first question. Our first question will come from the line of Doug Harter from UBS. Your line is open.
Doug Harter: Thanks. Can you just talk a little bit more about the competitive landscape right now and, you know, kind of how you see that sort of playing out over coming quarters?
Michael Sarner: Yeah. I mean, look. There's a bit of a supply-demand dynamic here. And if you think about the supply, there's private equity sponsors that turn their attention away from consumer discretionary businesses a little bit as well as companies with international supply chains. So there's a little bit of a scarcity of quality assets out there. So there's a bit of a pullback in the supply a little bit. And then on the demand side, you have banks and non-bank lenders continue to be aggressive and incentivized to deploy capital. So we've seen spread compression over the last six months or so.
You know, while we have seen that spread compression, the structures, which is very important, we focus on heavily on loan-to-value leverage, quality credit agreements, those kinds of things, have stayed prudent on structuring. So, you know, we've been able to continue to deploy capital and leverage the relationships to continue to find opportunities. So, yes, it's continued to be competitive. It always has been competitive. But we've been able to compete candidly. And so we've got a lot of good traction in this upcoming quarter as well. Yeah. I mean, our overall weighted average spread has been two years ago, was 850. Currently, it's around 750. The deals that we saw in this previous quarter were around 7% over.
And the deals that we're looking at in a very robust September are, you know, around seven, a little north of seven as well. So to Josh's point, you know, even though things are compressed, we still are able to find our marks.
Doug Harter: Got it. I mean, I guess, how do you think about, you know, is, you know, whether there is actually a floor on that around, do you think that's gonna be able to hold seven if kind of that supply-demand imbalance kind of continues? You know, just how do you think about kind of any floor on spreads?
Michael Sarner: You know, it feels like it is settled to some degree. What we've seen is, you know, lower middle market credits that are extremely tight have been as low as, you know, five and a quarter, which is 125 to 150 basis points tighter than what we're used to. But there still are plenty of deals that are still somewhere between the $5.25 and $7.50 to $8. We have a pretty wide group of sponsors that we work with. We're also willing to be originating deals on the smaller side. So, you know, $3 to $6 million EBITDA companies that are probably garnering closer to $6.50 over. So again, still being able to find our marks.
And I do think that as SOFR comes down, history would tell us that the spreads will probably widen out. And so we might be at that kind of at the trough right now.
Doug Harter: Great. I appreciate that answer. Thank you.
Operator: Thank you. One moment for our next question. Our next question will come from the line of Mickey Schleien from Clear Street. Your line is open.
Mickey Schleien: Yes. Good afternoon, everyone. Michael, we received, you know, sort of mixed signals on the M&A market. Most folks are claiming it's still pretty muted relative to where it was a couple of years ago. But I'm assuming you're pretty optimistic. It sounds like on your third calendar quarter, and the fourth calendar quarter tends to be the busiest. So the second half looks pretty good. What's underpinning that optimism in a market that seems to be sort of trudging along?
Michael Sarner: So I would say some of the deals that in the June bled over into the September quarter. I mean, I can tell you right now, we've closed $110 million of originations through this morning, and we have another $40 million in deals that are signed up. And that would be pending close later this month. So, you know, we already know we're probably at $150 million, and then there's a number of deals that we're in the mix for. So I think where we live in the lower middle market, we've seen plenty of deal activity. And, you know, I looked at Josh chime in as well. It feels like quality deal.
Josh Weinstein: Yeah. I think, you know, when I talk to other low and middle market lenders, they are very surprised at how full our pipeline is. And I really do think that speaks to the efforts we put forth in the last three years, four years, five years in cultivating private equity relationships to put us in a position to see all their deal flow. And or the majority of their deal flow. And so, you know, I do think that's paying dividends now and will continue to in the future.
Mickey Schleien: And on the flip side, have any insight into, you know, prepayment or repayment activity in the third and fourth quarter?
Michael Sarner: So we just saw, you know, we had 80 plus million in repayments in this quarter, so it was obviously a heavy quarter. We do have a few companies that we know are going to market. There for some larger holds. So that's probably closer than the Q to December. Aside from that, I mean, I don't think we have a beat in on the September. We really don't have much of anything in the pipeline at this point.
Mickey Schleien: Well, that's good news. My last question relates to your operating leverage. I looked at the page in the presentation, and it looks like it sort of bottomed out at 1.7%. Is that, you know, where we can expect it to stay, or do you think there's some more leverage there that can be extracted as you continue to grow?
Michael Sarner: You know, this is definitely coming down. So the metrics for the quarter actuals for the LTM was 1.7. The run rate was 1.6 trending down to 1.5, and we would tell you know, we sometimes accrue additional bonus during the year before, you know, our final decision at the end of the year where the board makes the decision on bonus. So maybe we have an over accrual, but we would tell you the run rate when it all settles for this year should be 1.4 or 1.5. And we still think there'll be room to continue to reduce that over time. While we're and I would say this as well.
While still reducing increasing our staff and paying our people, we think that there's, you know, obviously, this internally managed structure has a lot of benefits from that perspective. And we expect that to continue to be a strong point for us, especially with rates coming back in. That's gonna be a big differentiator for our business model relative to certainly the externals. As rates come in.
Mickey Schleien: Yeah. I agree with that. And I just wanna make sure I understood what you said 1.4 to 1.5 run rate in the fourth calendar quarter. So that's the fourth quarter annualized rate.
Michael Sarner: So for the March, the LTM number, we believe, will be 1.4 or 1.5.
Mickey Schleien: So and, Mickey, just to give you a sense, for the current quarter, for the June, the quarter rise was 1.5%. So we're just, you know, if the LTM has some overhang from some of the one-time expenses incurred in the prior quarter. So we're already running sort of at 1.5, which we expect to continue to come down on an LTM basis as Michael described.
Mickey Schleien: Okay. And in terms of leverage, Michael, you've tapped into the ATM, but, you know, the balance sheet leverage is not particularly high. Can we expect you to continue to issue, you know, common equity at sort of the pace that you've been at, or do you prefer to lever up the balance sheet a little bit and maybe optimize your returns?
Michael Sarner: Yeah. Well, so leverage came down this quarter. Probably mainly because we had so much in repayments during the quarter. And that so that happened late stage. I think that, you know, I think Chris has said in the past, we were raising about $40 to $60 million on a given quarter. And I think that you should expect that each quarter will look like that. I think we'd like to be closer to point $8.05 leverage. And I could also say that it wouldn't bother me if our portfolio is in as good a shape as it is today. With our, you know, our debt to EBITDA and our fixed charge covenants.
You know, we could maybe move closer to point nine. So we're certainly at a low point for leverage at the moment.
Chris Rehberger: Yeah. And part of it, you know, we try to be consistent, Mickey. And as Michael said, we're raising the last kind of five or six quarters. It's about exactly an average of $40 million a quarter. So we try to be consistently in the market. Some of the deals, as Michael described, pushed into July, which optically made the June leverage a little bit low. I would expect we'll be in the point eight five to point nine range sort of in the September and December quarters. That seems about right.
Mickey Schleien: And philosophically, in most BDCs or many BDCs, sort of run at more like 1.1. Obviously, you're in the lower middle market and maybe that causes you to be a little bit more conservative. But conceptually, you know, why not run the balance sheet with a little bit more leverage than you've been doing recently?
Michael Sarner: Yeah. I think the fact of the matter is that we're able to find yield kind of the way Josh described earlier. And meet or exceed, you know, analyst expectations. Have operating leverage where it needs to be, we don't really feel like the need to reach for additional leverage unnecessarily. You know, all of these metrics can move around over time. But generally speaking, we're gonna take a more conservative bend, especially, you know, we're a smaller BDC. Right?
We I think we earned our credibility in the market, but we still believe having a conservative infrastructure, having conservative leverage communicates to the market sort of the way we do business here, and we think that's a probably help our price to book in the end.
Mickey Schleien: Got it. I understand. That's it for me this afternoon. Thanks for taking my questions.
Operator: Thank you. One moment for our next question. Our next question will come from the line of Robert Dodd from Raymond James. Your line is open.
Robert Dodd: Hi, guys. Oh, if I can go back to kind of the competitive environment for a moment. And to your point, with the leverage you're doing, you know, two and a half to four, I mean, banks can kind of play in that market and keep those loans on balance sheet. And you mentioned, I mean, obviously, that it can be attractive to them. Where would you know, that those banks tend to be boom and bust, though, whether they're actually targeting in the market. So where would you say the competitive pressure from banks is right now in terms of how it flows through a cycle?
I mean, are they being pretty pushy right now, and is that one of the factors driving down the spreads, or are they more, you know, moderate place? As to where you'd view their level of aggression, if I can put it that way.
Michael Sarner: Yeah. I would you're spot on there, boom or bust. And right now, they're boom. They're risk on and from what I'm seeing, and they're competing with us because you're right. The leverage profiles that we generally are seeing, you know, banks can be competitive there. We have other ways to compete with banks, but, you know, candidly, you know, it's tough for sponsors to down a 150 or 200 basis points lower pricing when they have the opportunity to do it. So right now, they are being competitive. It definitely is one of the factors driving the lower spreads. You're right. They will be risk off at some point.
It's pretty tough for me to predict when that'll be, but they will be in and, you know, that might be a factor for spreads to widen out a little bit.
Robert Dodd: Got it. Got it. Thank you. Yeah. On the and then one of the other advantages of being an internally managed BDC is we've from some of your internally managed peers is you can run an asset manager, and you've talked about that. And that and it feeds from the asset and manage to accrue to shareholders' benefit rather than sub external manager's benefit. You've talked about that before. Are there any updates on efforts in that on that front about adding an asset manager kind of vehicle within the BDC to benefit ROE lower, you know, your effective efficiency ratio, you know, etcetera? Any updates there?
Michael Sarner: Yeah. So yes, we're continuing to pursue those types of, you know, options. We're probably also looking at a strategic initiative to maybe look to enhance earnings and origination on some of the larger deals. Which, you know, I don't nothing I want to formally state now. But certainly, that would help capture additional yield while winning deals within our same bailiwick. So lower middle market deals that maybe between $8 and $15 million, which we typically having to those companies out with no economics, finding ways to structure those assets with other partners, to basically maintain the assets and maybe bring in the scrape and the management team.
Robert Dodd: So I think that's formally articulated, but that's formally enough for me. So thank you on that one. And then last one, because I'm not gonna touch outside AFFE because I don't wanna jinx it. On to your point on, like, deployments, it seems like you were saying, you like it could be could be $150 million plus. In September with moderate repayments. The indication from leverage maybe not going up that much point eight to point nine, would tend to imply that you might be running the ATM at, like, the high end of the range this quarter rather than the average, which is more the low end of the range?
I mean, am I doing my math right there?
Michael Sarner: Yeah. I think that's right. I think this quarter, you know, if we say $40 to $60 million and we've sort of been running at $40 million, you're probably looking at more like $50 million, but obviously, we'll make that judgment as the knock on wood as some of these deals look like they're gonna close. But, yeah, it's probably more in the $50 million range this quarter. That's right.
Robert Dodd: Got it. Thank you.
Operator: Thank you. One moment for our next question. Our next question will come from the line of Erik Zwick from Lucid Capital Markets. Your line is open.
Erik Zwick: Good afternoon, everyone. Just curious that you mentioned the strong pace of origination so far this quarter. I'm curious if you could maybe provide a little color in terms of the breakout between that, from new versus add-on opportunities.
Michael Sarner: You know, this quarter feels like it's fairly robust on the new. So the last quarter was, like, what, 65, 35? This quarter yeah. The nine thirty numbers look like what, 75% new versus 25% add-ons.
Erik Zwick: Got it. No. It's an interesting change because I think as I've looked across here, some of your competitors in the rest of the industry, it's been fairly heavy on the add-ons. So switch back to new would indicate, maybe kind of more market activity and a little more confidence there. So interesting to hear that. Thanks for sharing. And then, you know, going, I think it was, Chris speaking about your confidence in maintaining the dividends, both the regular and the supplemental, given the spillover of $1 plus the expectation for continued ability to harvest gains from the equity portfolio.
Within that expectation, does that also include, I guess, the futures curve just looking at slide 24 in your deck would indicate, you know, if the futures curve SilverScript is right, we do get about a 100 basis points of reduction. There would be, you know, maybe a six, you know, $0.06 or so per quarter headwind to the run rate of NII. So is that incorporated in kind of those dividend comments earlier?
Chris Rehberger: Yeah. Yeah. Yeah. I'll answer the question. So, I mean, when we're looking ahead, we're anticipating to your point, you know, a 100 basis point drop between, you know, in the next fifteen months. We've kind of talked about where we expect our spreads to be, you know, seven plus percent. And seeing receiving some operational efficiencies. We believe that we're gonna be able to maintain, you know, a $0.58 NII to cover our regular dividend. Looking ahead, the biggest risk I see is if, you know, the future turns over in the spring of next year and rates instead of, you know, troughing at $3.50, end up, you know, troughing at 1.5%.
Now that's a different, you know, that's a different story altogether, and we'd have to rethink our regular dividend policy. But short of that, we feel that we'll be able to maintain that balance plus, you know, we're at a dollar at UTI now. We would anticipate that to grow sizably in the next six to nine months as well, which would be a support for both the supplemental and the regular. You know, our viewpoint is if we're performing well and even if in the direct scenario we were at woke up at $0.56 or $0.57, but it wasn't because of non-accruals. It wasn't because of portfolio performance. But rather about macroeconomic issues.
That we thought we could grow out of. We may use our UTI bucket to support that $0.58 regular dividend and not grow it. The other thing I would say, Erik, is, you know, Michael sort of touched on the operational efficiencies, which is an advantage, you know, as you look at that slide, but compared to sort of the reality of the ROE with operating leverage coming down. The other thing is we still have the full $175 million of debentures to draw on, which obviously you know, I can't predict where the ten year is gonna be. But right now, that would be sort of 5% type fixed paper.
So as we're deploying assets with spreads that, you know, we are today at $7.07 50 range, with a 5% sort of fixed debentures being our main source of growth on the liability side. We think that's gonna also enhance those NII's that we show on the table.
Erik Zwick: Yeah. No. Those are all good points. You. That's all I have today.
Operator: Thank you. One moment for our next question. Our next question will come from the line of Sean-Paul Adams from B. Riley Securities. Your line is open.
Sean-Paul Adams: Hi, guys. Good afternoon. On non-accruals, it seemed that the non-accruals decreased quarter over quarter, though on the investment rating schedule, it seemed that it was pretty much flat with a risk rating of five at $3.8 million fair value. Generally, there was a general improvement in the risk rating, so there was a slight convergence towards the two to three mark. Was there a specific reason towards some of that change? And where are we at with the remaining non-accrual runoff?
Michael Sarner: Sure. So this quarter, we had zips Oh, sorry. Came back on accrual, which was a large position. I think that was around $25 million. And then we had a small second lien piece, I think was, like, $3 million that actually went on non-accrual. So the net, you know, we picked up $22 million, although the numbers stayed flat. What was your second question? I apologize, Sean.
Sean-Paul Adams: Correct. The migration towards the two from the top rating of one, was there any general, you know, degradation in the top credit quality portfolio? And it was there any idiosyncratic or just dramatic themes towards that?
Michael Sarner: I don't think so. I mean, I think there might have been a credit where it was typically, when a company ends up looking towards an exit, it may be upgraded to a one. And it might the sale might not have gone forward and it's moved to back to a two, but it was performing in either case. That might be what you're referring to.
Sean-Paul Adams: Got it. That's perfect. Thank you for the color.
Operator: Sure.
Sean-Paul Adams: Thank you.
Operator: I'm not showing any further questions in the queue. Would now like to turn it back over to Michael Sarner, president and CEO, for closing remarks.
Michael Sarner: Well, I appreciate everybody joining us. We look forward to speaking to you next quarter. Have a good day.
Operator: Thank you for participating in today's conference. This does conclude the program. You may now disconnect. Everyone, have a great day.