Ares Capital Corporation

Good morning and welcome to Aries Capital Corporation's fourth quarter and year-ended December 31st, 2021 earnings conference call. At this time, all participants are in a listen-only mode. As a reminder, this conference is being recorded on Wednesday, February 9th, 2022. I will now turn the call over to Mr. John Stomar, Managing Director of Aries Investor Relations.

Thank you. But let me start with some important reminders. Comments made during the course of this conference call and webcasts and the accompanying documents contain forward-looking statements and are subject to risks and uncertainties. The company's actual results could differ materially from those expressed in such forward-looking statements for any reason, including those listed in its SEC file. Barry's Capital Corporation assumes no obligation to update any such forward-looking statement. Please also note that past performance or market information is not a guarantee of future results. During this conference call, the company may discuss certain non-GAAP measures as defined by the SEC Regulation G, such as core earnings per share or core EPS. The company believes that core EPS provides useful information to investors regarding financial performance because it's one method the company uses to measure its financial condition and results of operation. A reconciliation of core EPS to basic and diluted net income per share, the most directly comparable GAAP financial measure, can be found in the accompanying slide presentation for this call. In addition, reconciliation of these measures may also be found in our earnings release filed this morning with the SEC on Form 8K. Certain information discussed in this conference call and the accompanying slide presentation, including information relating to portfolio companies, was derived from third-party sources and has not been independently verified, and accordingly, the company makes no representation or warranty in respect to this information. The company's fourth quarter and year-end December 31, 2021 earnings presentation can be found on the company's website at www.AriesCapitalCorp.com by clicking on the fourth quarter 2021 earnings presentation link on the homepage of the investor resources section. Aries Capital Corporation's earnings release and .10k are also available on the company's website. I'll now turn the call over to Kip DeVere, Area's Capital Corporation's Chief Executive Officer. Kip?

Thanks, John. Hello, everyone, and thanks for joining our earnings call today. I'm here with our co-presidents, Michael Smith and Mitch Goldstein, and our Chief Financial Officer, Penny Roll, along with other members of the management team. I'll begin by providing some fourth quarter and full year highlights, and then discuss the current market and the company's positioning. This morning, we were delighted to report strong results for the fourth quarter and the full year. We generated record core earnings of 58 cents per share for the quarter and $2.02 per share for the year. Our financial results reflect the strongest quarterly and annual origination activity in our history. with $5.9 billion of commitments for the fourth quarter and $15.6 billion for the year, more than double that of either 2020 or 2019. On a GAAP basis, our fourth quarter earnings of 83 cents per share capped off a year with the second highest GAAP earnings in our company's history. GAAP earnings for the year were $3.51 per share, and included $258 million, or 58 cents per share, of net realized gains on investments. The strength of these earnings led to 12% growth in our net asset value per share during the year, which ended the year at an all-time high of $18.96. When you combine this NAV growth With our dividends paid during 2021, we generated a 22% economic return for our shareholders for the year. Before Penny takes you through our results in more detail, I'd like to take some time to highlight our positioning in the $1.5 trillion and growing U.S. direct lending market and to discuss some of the drivers behind our strong investment activity. We believe that our opportunity set continues to widen as borrowers are increasingly turning to private capital as a preferred source of financing for acquisitions and the growth needs of their businesses. There's been a noticeable change in the increasing size of the companies seeking our financing solutions. Over the past five years, the average EBITDA of the companies we review has increased by over 60%. and the number of companies that we reviewed with EBITDA over $100 million has more than tripled. We're also seeing a wider range of opportunities that span both the sponsored and non-sponsored market, as private credit seems more far-reaching and more valuable to companies than ever before. We also continue to invest with our model of flexible capital for virtually any situation. What that means... is that we're happy to customize solutions for companies with capabilities in senior, unit tranche, and subordinated debt, as well as preferred non-controlled common equity. This is valuable to our borrowers and another reason that we believe that we can drive higher originations and still maintain our rigorous standards for credit quality, documentation, and deal terms. We are, however, seeing more competition in this growing to fragmented market. In our opinion, many of our competitors do not always act rationally with respect to credit quality, pricing, leverage, documentation, and other important considerations. But despite the competition and fragmentation, we believe we maintain a strong competitive position, and we continue to take market share. In 2021, the estimated dollar volume of the transactions we reviewed grew to more than $550 billion. In comparing the growth of our reviewed transaction volume to market sources, we note that our volume increased 50% faster than the reported market since 2019. We believe these market share gains and the resulting scale afford us the luxury of being highly selective. Today's market is one where we do have to turn away some businesses that we like, simply because we don't like the structure of the deal, the pricing, or perhaps the proposed loan documentation. We compete for and pursue deals when we want to, but importantly we also have the platform, experience, and deal flow to walk away from situations if we have to. The key to being able to say no is that we have a robust set of opportunities to choose from, larger than we ever have in the past. As the market's grown, we've scaled our direct origination capabilities along with it, building what we believe is the largest direct lending platform in the United States with 145 investment professionals and a strong operational platform. The scale of this team has led to significant market coverage, allowing us to transact with over 420 different sponsors and more than 200 non-sponsored companies since our IPO. Our team remains highly tenured and cohesive, as our investment advisors, investment committee members average 27 years of experience, and importantly have an average tenure of 17 years with Aries Management. This ability has created an institutionalized credit process that's supported in our growth, and we have a consistent market approach with sponsors and companies. In addition to the scale of the U.S. Direct Lending Team here, we benefit from the additional 175 investment professionals in the ARIES Management Credit Group and another 440 investment professionals across the broader ARIES Management Platform who are engaging with companies and sponsors on a daily basis. We believe that our advisors and investment professionals' shared experiences, insights, and deep local relationships further enhance our market presence and our underwriting capabilities. And ultimately, we believe that these advantages are reflected in the health and performance of the portfolio. Our portfolio credit quality remains among the strongest in our company's history, and we ended the year with our non-accruals at a 14-year low. Additionally, we believe our long-standing focus on market-leading companies with high free cash flows and resilient industries has positioned our portfolio to avoid segments of the economy that are likely to be more negatively impacted by recent inflation and supply chain disruptions. As a result, our portfolio companies have demonstrated solid earnings growth throughout the year. The last 12-month weighted average EBITDA growth of our portfolio companies was 16% this quarter, the highest since we began tracking this information over a decade ago. Given the strength of our portfolio's performance and our positive view of the company's earnings power, we are raising our quarterly dividend for the second time in 12 months to $0.42 per share. We believe this step further builds on our consistent track record of generating meaningful shareholder value. Through the quarter ended September 30, 2021, which is the latest full reporting quarter for BDCs, Aries Capital has delivered the highest regular base dividend per share growth rate and the highest NAV per share growth rate over the past five and 10 year time periods among any externally managed BDC with a market cap of over $700 million. Furthermore, in recognition of the strengths of our 2021 earnings, including another year of net realized gains from the portfolio, and the continued growth in our excess undistributed earnings, we will pay additional dividends to shareholders totaling 12 cents per share for 2022. We intend to pay these special dividends of 3 cents per share each quarter this year. With that, let me turn the call over to Penny to provide more details on our financial results and some further thoughts on the balance sheet positioning.

Thanks, Kip, and good morning, everyone. 2021 was our most active year ever, and that helped drive our full year core earnings per share of $2.02. These activity levels, along with $826 million of net realized and unrealized gains for the year, helped drive our 2021 gap net income per share to $3.51. These results compared to $1.74 and $1.14 per share of core and GAAP EPS, respectively, for full year 2020. These strong overall earnings results helped our stockholders' equity reach a record $8.9 billion at year end 2021, or $18.96 per share. In comparison, our stockholders' equity was $7.2 billion at year end 2020, or $16.97 per share. Our total portfolio at fair value at the end of the year grew to just over $20 billion, up from $15.5 billion at the end of 2020. The weighted average yield on our debt and other income-producing securities at amortized cost was 8.7%, and the weighted average yield on total investments at amortized cost was 7.9%. as compared to 8.9% and 8.2% respectively at September 30, 2021, and 9.3% and 8.5% respectively at December 31, 2020. It is worth noting one change as it relates to our yield calculations. Beginning with our reporting for this period, we updated our weighted average yield calculations to include dividend income from our equity investment in Ivy Hill Asset Management. Previously, we had excluded the impact of these dividends from our yield calculations because our Ivy Hill equity investment did not have a contractual stated yield component. In light of the fact that Ivy Hill has consistently paid a common dividend to Aries Capital for 50 consecutive quarters, We determined that including these dividends in our calculations more accurately represents the yield on our portfolio. For comparative purposes, we have updated the yield calculations for all periods presented to conform to the new methodology. Shifting to our interest rate sensitivity, we are well positioned to capture an earnings benefit from a rising interest rate environment, particularly if rates move past the interest rate floors on our investments. At December 31st, 2021, 77% of our total portfolio at fair value was in floating rate investments. Additionally, excluding our investment in the SDLP certificates, 93% of the remaining floating rate investments had a weighted average floor of approximately 90 basis points, which is higher than today's current one and three month base rates. This portfolio composition in concert with our low level of leverage from predominantly fixed rate unsecured notes, should allow our earnings to benefit from rising rates. As of year end, and holding all else equal, we calculated that a 100 basis point increase in short-term rates could increase our quarterly earnings by one cent per share, while a 200 basis point increase in short-term rates could increase our total quarterly earnings by approximately six cents per share. after considering the impact of income based fees. Now turning to our capitalization and liquidity. Our balance sheet is composed of highly efficient sources of capital, including a significant amount of fixed rate unsecured debt. We were highly focused throughout 2021 on strengthening our financial position by accessing diverse, long dated, and cost efficient forms of debt financing. During the year, we closed on over $3.4 billion of new unsecured term borrowings. We have continued to extend the maturity ladder, having taken advantage of the low rate environment to issue in the 5-, 7-, and 10-year parts of the curve, which will serve us well over time as we face a higher rate environment. This active balance sheet management has allowed us to lower the weighted average stated interest rate on our total borrowings from 3.4% at the end of 2020 to 3.1% as of December 31st, 2021. As we look at our long-term approach to balance sheet management, we have a low level of debt maturities over the next two years, with only $388 million maturing in 2022, which was already repaid in early February. and one $750 million maturity in mid-2023. After that, there are no other term maturities until mid-2024 and our nearest committed bank facility maturity is not until 2025. The duration of our liabilities and limited near-term maturities continue to provide for significant financial flexibility. Commensurate with the activity levels in our portfolio, We also raised over $800 million of accretive equity during 2021 to support our growth, completing our first secondary equity issuances since 2014. Touching on our leverage levels, at December 31, 2021, our net debt-to-equity ratio was 1.21 times. For a format for our year-to-date 2022 capital activity, Net leverage levels declined to 1.15 times, and combined available cash and liquidity through undrawn revolvers was a healthy $4.8 billion. As Kit stated, we increased our first quarter 2022 dividend to $0.42 per share, which is payable on March 31, 2022, to stockholders of record on March 15, 2022. Given our strong earnings for the year, we once again out-earned the dividends we paid, resulting in an increase in our undistributed taxable income, sometimes referred to as our spillover. We currently estimate that our spillover income from 2021, after considering the shares issued in our January equity raise, reached $1.30 per share, an increase of $0.24 per share from 2020's level. The expansion of our spillover was an important consideration in our decision to pay additional quarterly dividends totaling 12 cents per share during 2022. The first additional dividend of 3 cents per share is also payable on March 31st, 2022 to stockholders of record on March 15th, 2022. We will continue to monitor our undistributed earnings and balance sheet levels against prudent capital management considerations. Overall, we believe having a strong and meaningful undistributed spillover supports our goal of maintaining a steady dividend through varying market conditions and sets us apart from many other BDCs without our level of spillover. With that, I will now turn the call over to Michael to walk through our investment activities.

Thanks, Penny. I will focus on providing more details on our investment activity and portfolio performance for the fourth quarter and the year, and then conclude with an update on post-quarter end activity, backlog, and pipeline. Over the course of 2021, we invested in over 200 companies across 22 distinct industries with a weighted average EBITDA of approximately $200 million. The weighted average EBITDA of our overall portfolio during 2021 grew to $162 million, more than double the weighted average EBITDA five years ago. This growth reflects the expanded market opportunity for larger direct lending transactions and ARCC's strong market position that Kit described earlier. It is important to note that while our portfolio company's weighted average EBITDA has grown over the past few years, The EBITDA of the companies we financed this year across sponsored and non-sponsored transactions ranged from approximately $15 million to more than $500 million. This wide range of investment opportunities underscores the breadth of our sourcing capabilities and the value that we find in high-quality, market-leading businesses of varying sizes. One of our differentiated sourcing advantages remains our deep relationships with portfolio companies and private equity sponsors that we have developed over many years. Over the past quarter and year, 55% and 52% of our new commitments respectively were to incumbent borrowers. Additionally, in 2021, we continue to build upon our deep sponsor relationships. as 75% of our sponsored transactions were with repeat firms. With such a large portfolio and many more companies that we have transacted with historically, we believe that our long-tenured market presence provides us access to unique deal flow and differentiates ARCC from other BDCs. The breadth of our sourcing capabilities is a key component and executing our conservative approach to constructing a highly diversified portfolio with significant downside protection. Our portfolio remains diversified across 387 different borrowers with an average hold size of only 0.3% at fair value. Excluding our investments in Ivy Hill and SDLP, which we believe are highly diversified on their own, No single investment accounts for more than 1.5% of the portfolio at fair value, and our top 10 largest investments totaled just 10.9% of the portfolio at fair value. Additionally, the loan-to-value on our debt portfolio, which was approximately 45% at the end of the fourth quarter, is below the mid-50s level seen prior to the pandemic. As a result of these attributes, the credit performance of our portfolio remains strong. As Kit commented on earlier, our non-accruals at cost during the fourth quarter of 2021 declined to 0.8%, their lowest level since 2007, and down from 1.7% the prior quarter and 3.3% at year-end 2020. In addition, The weighted average grade of our portfolio at fair value improved modestly in Q4 to 3.1 from 3.0 at the end of Q3 2021. Before concluding with our investment activities to date in 2022, I want to take a minute to highlight our increased investment in Ivy Hill Asset Management over the past year, and remind investors of the value that we believe Ivy Hill provides to ARCC. Ivy Hill is a wholly owned portfolio company of ARCC that was started in 2007 to invest in and manage middle market senior secured loans through structured investment vehicles and SMAs. Today, Ivy Hill is a leading middle market loan manager of over 20 middle market investment vehicles and SMAs and benefits from an experienced management team with strong middle market relationships. Similar to ARCC, Ivy Hill has a long track record of profitability and the investment vehicles and SMAs that it manages are well diversified with investments across more than 280 distinct borrowers. Many of these borrowers are portfolio companies of our private equity clients. In order to support its AUM growth and an expanding middle market opportunity, ARCC increased its equity investment in Ivy Hill by $296 million in the fourth quarter, bringing its investment to $765 million on a cost basis. We are optimistic that our capital investment in Ivy Hill will support future growth in its AUM. Finally, I will finish with a brief update on our post-quarter end investment activity and pipeline. From January 1st through February 2nd, 2022, we made new investment commitments totaling $607 million, of which $385 million were funded. we exited or were repaid on $956 million of investment commitments, including $529 million sold to vehicles managed by Ivy Hill, generating approximately $20 million of net realized gains on exits. As of February 2nd, our backlog and pipeline stood at roughly $1.2 billion and $125 million respectively. Our backlog contains investments that are subject to approvals and documentation and may not close, or we may sell a portion of these investments post-closing. I will now turn the call back over to Kip for some closing remarks.

Thanks a lot, Michael. In closing, we believe 2021 was an excellent year for the company. Harry's Capital showed strong growth in earnings, deployment, and other metrics that we've discussed today. The strong position of the company is reflected in our announced increase to the regular quarterly dividend and the declaration of an additional dividend of 12 cents per share. Again, to be paid to shareholders over the four quarters of 2022. As we start this year with increasing market volatility across many risk assets, we note that these periods of volatility have historically led to continued demand for private capital. and we look forward with optimism. With significant structural tailwinds and multiple levers for growth, we remain optimistic about the company's future. I'd like to close the call by simply thanking our entire team for their hard work and their dedication throughout 2021. And with that, operator, we can open the line for questions.

At this time, if you would like to ask a question, please press star then 1 on your touchtone phone. If you would like to withdraw your question, please press star then 2. Please note as a courtesy to those who may wish to ask a question, please limit yourself to one question and a single follow-on. If you have additional questions, you may re-enter the queue. The Investor Relations team will be available to address any further questions at the conclusion of today's call. At this time, we will pause momentarily to assemble the roster. The first question comes from Ryan Lynch of KVW. Please go ahead.

Hey, good morning. Thanks for taking my questions. Really great quarter, and maybe more importantly, really nice finish to a very strong 2021. The one question, the first one I want to start with was, it kind of comes off a comment we heard from a different BDC last week. obviously the fourth quarter portfolio activity was super strong. I don't know if we really expect that to continue at that same level in 2022, but correct me if you think differently. But one of the concerns that he had was given the rise in interest rates, that could potentially put some pressure on private market valuations for these private businesses. And the trickle down effect could be reducing the level of deal activity that we could see in some of these sponsor transactions going into 2022 if interest rates, you know, really continue to rise the way they have and are expected to rise. So I would just love to hear your thoughts on, you know, How much of a concern do you have of rising rates, you know, driving down multiples in some of these private markets and reducing, you know, deal values?

Brian, thanks for the question. I mean, I think it's a reasonable point. I'm not sure who made the point, obviously, but when rates go up, you know, the value of assets tends to go down, which can sometimes, I think, more temporarily than anything, perhaps, lull activity right as folks try to recalibrate what things are worth so actually some of the slow start that a lot of folks us included have seen to this year has been following on an unbelievably busy fourth quarter and 2021 which I would agree with you know we just we look back at 21 as perhaps being a bit of an anomaly in terms of activity levels and I think there's a bit of a resettling now for you know, what activity levels will be and what valuations will be. The good news is that actually, from our perspective, tends to lead to fewer repayments. And you see longer duration on the assets maybe is the benefit. But, you know, it's hard to disagree with that point that whomever it was pointed out, I agree. Okay.

Understood. And then just my follow-up question. You kind of Hinted on this in some of your prepared comments with the kind of the big investments in Ivy Hill. But one really drove, I mean, the fair value markup of that investment increased, you know, pretty meaningfully throughout the year. So the fair value over the cost is up pretty substantially in the year. What really drove the increase in that fair value mark throughout the years? Did you just increase profitability from Ivy Hill given the more scale? And then what are the underlying fundamentals that are really driving your guys' increased investment in Ivy Hill? Is it the same sort of trend that you guys are seeing broadly across the direct lending business?

So what I'd love to do, Ryan, is just actually – Why don't we take it offline to check your thoughts on the Delta? It's a little tricky because we obviously made a significant new investment, right, at COMS, which will, of course, increase the fair value of the investment in that portfolio company. And then there's the separate point I think you're making about, you know, how did the underlying valuation of the entity change, you know, forgetting or putting aside that capital contribution? And actually the... increase in value away from the capital contribution is pretty modest relative to the cost basis that we have there to date. I think, I'm just doing the math quickly, I think it's a couple percent in terms of the increase relative to our overall cost and fair value from last quarter. Why don't we check it offline? But there's nothing material that's creating a significant fair value increase. The thing that you're probably seeing is the capital contribution. So we're happy to take it offline and just make sure you have the data.

Okay. That sounds good. Thanks for your time today. Thanks for your opening comments. We appreciate it.

The next question comes from John Hecht of Jefferies. Please go ahead.

Morning. Good quarter. Thanks for taking my questions, and I appreciate the update on the market, Kip. I'm just thinking about puts and takes on originations this year or kind of deal activity. Understanding it's been pretty strong, but we've got a lot of moving parts, rates going up, and how does that impact the refi market? what's the M&A pipeline, how does all the incremental private equity dollars in the sidelines affect things? I guess the real question is how does those factors impact the way things might look this year relative to a couple years ago?

Sure. I mean, there's a lot there. I'll give you some thoughts and feel free to follow on. But to Ryan's point on some of the other comments, I think increasing rates, will slow refinancing activity, probably slow repayments a little bit and extend the duration of the existing portfolio, which is fine with us. It makes our life a little bit easier in terms of growth and consistency of earnings. And then the point on M&A activity, despite modest increases here in rates, I think once there's a little bit of a recalibration as to what purchase prices look like and maybe I do think some more evidence that folks are gathering today as to how quickly rates will rise and by how much. I think things will settle, and I think that it will be another busy year. You know, if you ask just my opinion and others on the team can chime in, do I think 22 will be as busy as 21? Probably not, right? I mean, there was a huge hangover effect coming out of kind of deep COVID in 2020 that I think put folks on the sidelines and then had them come off the sidelines in a pretty – vicious way, eager to get things done, and to your point, deploy capital that had been on the sidelines, most of which have finite investment periods. But I think we're through a lot of that, so I would expect 22 to be more of a regular year, a la maybe a 2019, right, which was busy, certainly had some uncertainty, not around rates and inflation, but about other concerns, and nonetheless, it was a reasonably busy year for everybody.

Okay. That's great, Collar. And then it looked like the yields, and I know there were some changes in calculations, but they've been coming down. But looking at Q1, it looks like they call it the run-on yields higher than the run-off. I'm wondering just maybe can you talk about spreads? Has there been any changes in kind of the pipeline of spreads given, I don't know, the volatility in the market and Is there any kind of outlook on the overall book yield over the course of the next few quarters, given rates and that element?

No, I mean, you're right. What we onboarded was better than what exited, right? I mean, we had a modest decrease, actually, in debt and income-producing securities. It was largely actually because of the equity investments that we made. Ivy Hill, you know, being a significant contributor to that. A slightly lower percentage of the portfolio in SDLT and then to your point, slightly tighter market spreads. But between the fourth quarter activity and now, we haven't really seen a compression in spreads. It's about the same.

Okay. Great. Thanks.

Thanks for your questions, John.

The next question comes from Kenneth Lee of RBC Capital Markets. Please go ahead.

Hi. Thanks for taking my question. I just want to follow up on the remarks you had in terms of the competitive environment that you're seeing right now. I wonder if you can talk a little bit more about that, and especially within the upper end of the market, such as larger corporate borrowers. Thanks.

Yeah, I mean, it seems to us that that portion of the market has gotten more competitive. I think if you look back, And our prepared remarks and probably some of the Q&A over the last three years that we've delivered at this company, we've talked about how we thought there was better risk-reward at the upper end of the market, frankly, than there was in the lower end of the middle market, which historically has not been the case, right? Having done this with the team here for 20-something years, you've always been offered this significant premium in the lower middle market. And over the last couple of years, that went away. we obviously played more and more into larger companies where we thought we were getting better credits and, frankly, the same or better pricing. And that was largely because of our scale advantage and the lack of competition there. To your point, I think you're referencing some folks in the market who have put together pretty significant pools of capital here over the last 12 to 18 months and are attacking that portion of the market. So I think our view is it is more competitive there. That being said... We believe the company has some pretty significant competitive advantages that continue to exist despite that. We're able to compete effectively where we want to. And in the prepared remarks I said, we're able to walk away when we want to, too, if we don't like pricing or terms or documentation or whatever it may be, because we have confidence in our ability to continue to originate enough deal flow that we don't get put in positions where we are forced to do things. And that's just really important in terms of being selective and putting portfolios together that obviously are illiquid and that we think we're going to be managing for, you know, years forward at a time, right? So we need to feel good about where we're coming in. And to your question, you know, I'd say yes, admittedly, the upper end of the market, which was wide open for us for years, is a little bit more competitive than it probably was 12 to 18 months ago.

Gotcha. Very helpful there. And one... One follow-up, if I may. Wondering if you could just share with us your thoughts around portfolio construction in the current environment, either relatively attractive sectors or any other positioning you have there in the near term. Thanks.

Yeah, I mean, I think in terms of industries, things are very similar in terms of our viewpoint. We're trying to take, you know, defensive industries with probably better than GDP growth, certainly businesses that have good free cash flow and allow us to set up lever deals that can do lever without a lot of uncertainty. Because of the origination and the flexible capital model, which I did call out again in the prepared remarks, we don't have a strong view generally that senior secured debt is better than junior debt or whatever it may be as a kind of platitude or as a generalization, right? We kind of look at things on a deal-by-deal basis. If you look over a fairly long period of time, what you'll see from us is a mix that's reasonably consistent, but it can be inconsistent from quarter to quarter. And it really depends on the company, less than it is a view on how do we want the portfolio to respond from an asset mix perspective. We have parameters, right, and that if something got out of whack, you know, percentage of equity was, you know, 15 or 20% of the portfolio, we'd probably say that's too high. You know, if we were putting 60 or 70% of the portfolio into pure senior debt, we probably wouldn't have enough income in the company to pay the dividend, right? So it's a balance in terms of putting the portfolio together, but we don't have any strong generalizations about one being better than the other. It's really company-specific, and that's how we think about things.

Great. Thank you very much. No problem. Thanks.

The next question comes from Finian O'Shea of Wells Fargo. Please go ahead.

Hi, everyone. Good afternoon. First question. Hi. Can you talk about the growth opportunity for Ivy Hill? You know, sort of what is that just in the traditional CLO business or anything else unique they're doing and what it means for ARCC, does that mean that you'll be supplying a lot more capital to that business?

I mean, look, this is Ivy Hills, you know, one of the larger portfolio companies and one of the longer tenured portfolio companies, obviously, at Aries Capital. You know, we think very highly of the management team there. We look at a 10-plus year track record of them delivering excellent returns to the company. But to your point, Finn, their business is reasonably simple, and it's a good time for them to grow, i.e., there's lots of middle market senior secured product. They're able to buy from us. They're able to buy from others. And they're seeing significant demand for growth generally. So because of their strong track record, we feel very comfortable increasing the size of our investment in that company by a couple hundred million today. That brings us to rough numbers of 5%-ish position. We think it can continue to grow from there. We haven't really thought about an upper limit as to how big would be too big, but the size today puts it on par with our investment in SDLP, which is the other significant contributor to the 30% basket, and we think similarly about that program. Again, it's just trying to ride the winners and continue to invest more money in things that have done well for us.

Sure, that's helpful. And then a follow-up for Penny. Sort of high level, on top of interest rates moving, it feels like the proliferation of these very large BDCs is stretching the demand from the unsecured market. I'm Wondering if that's something you're seeing, and do you think that there will be sort of a tilt back toward bank funding in the BDC industry?

Yeah, thanks, Benny. Yeah, I mean, we're certainly seeing more BDCs out there raising capital, and we did see that in Q4. It was a very active quarter for BDCs raising debt in the term markets. I think we feel really good about our position in those markets. You know, we've been very long-tenured issuing in them and expect to be able to continue to issue in them. But certainly it takes more consideration around just timing and, you know, when we want to go to the market given the greater activity. So we've continued to be successful issuing in the market. We were back in Q1 in early January, and we're able to continue to issue products term debt at much tighter spreads than most. So we feel good about our position and where we are with our capitalization today.

Thank you, everybody, and great quarter as well. Thanks so much.

The next question comes from Casey Alexander of Compass Point. Please go ahead.

Yeah, hi. Good morning. My first question is really a maintenance question, mostly for Penny. In the recent developments, the $48 million loss on the extinguishment of debt, was any of that baked into the financials at the end of the fourth quarter or is that all being fully recognized against earnings per share in the first quarter?

No, that'll all be baked in in Q1 because that's when the repayment happens.

Okay, so there was nothing reserved against it or anything like that?

No, it'll be treated as a loss on the extinguishment of debt in Q1.

Okay. Similarly, on the $20 million net realized gain on the exit and subsequent events, does that have a reversal of unrealized gains, or is that fully a new gain coming into the quarter?

Generally, when we exit our investments, there is some reversal of previously recorded unrealized appreciation against the realized event. I don't have the exact number, but it's not – Typically, there would already be a good bit of that in our NAV from the prior quarter when we exit.

Okay, great. Now, my follow-up is for you, Kip. There's almost an $80 million difference in the quarters in terms of the capital structuring fees over the course of 2021, which is So I'm going to ask you to put my hat on, and how would you model those capital structuring fees going forward if you were me as an analyst looking at that wide differential?

The easiest way, but it's not all that easy, so I'm sympathetic. Okay. is by taking, you know, a percentage of new originations, right, is the easiest way to think about it. What that obviously won't pick up is if we're earning a higher percentage than usual because we're doing, you know, a transaction or two where we underwrite and syndicate, don't end up with a final hold, et cetera. I mean, I think as you try to model 22, right, if I were you, I would model something less aggressive, again, which I – reference in terms of activity in terms of new originations right so um part of the reason for the special dividend this year was the activity levels were so high that we just said you know this is the right time for us to recognize that that it's time for something special right um so maybe just thinking forward try to try to look back over the last couple of years in terms of our origination activity average it out and you know look at the percentage in terms of what percentage of new gross commitments generate a fee, i.e. do we get a 2% fee, a 2.5% fee, and put it through. I think, Casey, for us, for you it's a modeling exercise. For us, we don't think about it that much because we feel like our dividend is so well covered even with lower activity levels, which is what we're focused on. So we can try to take it offline and help a little bit, but I know you understand how it works. You can create your model as you, as you want to.

Well, anytime I can get you to do my job for me, though, I'm getting some, you know, well-priced, well-informed talent. So, you know, I might as well try. I appreciate you taking my question.

No, it's all good. I think we have enough to do around here, but thanks for the offer.

Thank you. Yeah, take care.

The next question comes from Melissa Wendell of JP Morgan. Please go ahead.

Good morning, everyone. Appreciate you taking my questions. The first one is for Kip. Kip, you talked about the pace of rate increases. And I think when you mentioned that earlier, it was in the context of how that might impact activity levels in 22. But I'm also curious if you have any thoughts or concerns about you know, portfolio companies' ability to kind of service that debt or pass on higher costs as their costs of borrow increases. And whether that's specific to your portfolio or the industry generally, curious what you're thinking about that.

Sure. Thanks for the question. You know, I think we don't and I think most of the markets don't have those concerns yet because you're talking about the beginnings of modest rate increases flowing through to borrowers, which for the most part, as an industry, have LIBOR floors set at 75 to 100 basis points as a minimum so that the issuers today are servicing debt at much higher LIBOR numbers than the prevailing market would suggest. So the companies are already there. I think it's going to take two or three rate increases before some of the companies and then some of the managers obviously invested in those companies look around and start saying, will rising rates actually pressure credit metrics, right, underlying credit fundamentals? I think for the time being we're not concerned. I don't think a lot of other people are either as an industry metric.

Okay, got it. Follow-up question for Penny on the convert issue that will flow through with the realized loss flowing through in the first quarter. Just to clarify, is that something that would be excluded from your core EPS number?

Yes, because it will go through as a loss on extinguishment of debt, and if you look back historically when we've had that, it goes in the same section as realized gains and losses, so it's not part of core or net investment income.

Okay, great. Thank you so much.

Thank you.

The next question comes from Kevin Fultz of JMP Securities. Please go ahead.

Hi, good morning, and thank you for taking my questions. Looking at portfolio activity during the quarter, Looking at portfolio activity during the quarter, new trends to equity investments were elevated relative to prior quarters, and I realize that was partially due to Ivy Hill. And then quarter to date, that trend has continued. Can you talk about the opportunities that you're seeing on the equity side that have led you to lean in there?

Yeah, I think, thanks for the question, skewed a little bit for sure because of the Ivy Hill investment trend. No other big movers. We made a couple of both preferred and common investments that were a little bit larger this past quarter than we might have in the past. I wouldn't say it has anything to do with a prevailing view, again, about portfolio mix. It's much more anecdotal in terms of the opportunities that were presented to us in Q4. But look, Kevin, we have a good track record in terms of Investing equity has been a significant contributor to our ability to, you know, earn well in excess of our dividend over the years. We talked about the realized gains for 21 and how significant they were. So definitely an important part of the strategy, but nothing unusual to call out other than I think IVL, you know, which again was pretty substantial for Q4.

Okay, that's helpful. And then my follow-up, you've touched on a bit on this call. 2021 was clearly an incredibly strong year for deployment and, in turn, portfolio growth. Can you talk about your expectations for the PACE investment portfolio growth in 2022 and how we should think about that?

Yeah, I mean, I've covered it on a couple of the other questions that folks have asked and don't have much to add. I think that this year, again, will look more like a traditional – pre-COVID year, right, you have all of the tailwinds still in place, lots of uninvested private equity, strong and growing economy, despite some of the, you know, inflation concerns or thoughts about rising rates, you know, the backdrop for the economy actually seems quite good, and nothing that would contribute to slowdown. But I think we're in a slow... Q1 here is things evolve, right? Again, folks are taking a little bit of a wait-and-see approach as to what the Fed's going to do, how quickly they're going to move, and that's just tempering activity for the time being. But I would expect a healthy, busy year, maybe not like 21, but a healthy and busy year both from an M&A and a lending perspective.

Okay, that's helpful color tip. And then I'll leave it there. Congratulations on a really nice quarter. Thanks so much.

Once again, if you would like to ask a question, please press star, then one. And our next question will come from Robert Dodd of Raymond James. Please go ahead.

Hi, and congrats on the quarter and even more so on the credit quality, honestly. Two kind of follow-ups. I mean, on the irrational market, I mean, you answered Ken's question with mainly the uptrend. Have you seen any signs? that that level of competition at the higher end of the market is starting to squeeze people lower down, maybe to try and mimic some of the flexible capital solutions like more preferred or anything like that. Is there any concern that it's going to drive other players into areas of the market where you've been there for a long time and gotten some yield-enhanced investments like preferred equity, things like that? I mean, do you think it's going to shift that market?

You mean for folks to be more aggressive down a company's balance sheet? Yes. Take on more sub-debt? No, I don't think so. I mean, the only point I was making is we've definitely seen some transactions, you know, at the upper end of the market more so than we've had to walk away from for different reasons. perhaps the last quarter or two than we had over the prior three years. But I don't think it's changing our behavior at all. It's really not changing the competition's behavior. But there's been some real focus on that market by a few of our competitors and was just making the point that we haven't necessarily understood it all the time and probably walked away from a few more of those transactions that we would have liked to. But other than that, we really haven't changed our behavior or investing at all.

Got it. Thank you. And if I can, on Ivy Hill, I mean, obviously, pre-COVID, you know, it was a $500 billion investment. Now it's $1.1 billion today, I think, and growing. Over time, it's tended to produce a very nice, you know, about a 14% dividend yield on fair value of equity, higher on the cost basis of the equity. Is there anything, you know, which is comparable to the SDLP, which is a 13.5% return on capital. I mean, is there any reason we should expect that dividend yield on fair value, say, to decline at ideal? Or do you think that level of return is sustainable with this new amount of capital that has potentially greater capital as it goes forward?

Yeah, I mean, without trying to be too forward-looking, we're obviously investing $475 million of additional capital into that business, and the returns that we've been generating from IVL have been pretty darn consistent over the last 10-plus years. So I think our expectation is that those returns continue to be achievable, obviously without making any promises, but those are our expectations, Robert.

Got it. Thank you.

This concludes our question and answer session. I would like to turn the conference back over to Mr. Kip DeVere for any closing remarks.

We didn't have any other than to thank the folks on the call for their time, and we'll catch up with you all next quarter. Thank you.

Ladies and gentlemen, this concludes our conference call for today. If you missed any part of today's call, An archived replay of the call will be available approximately one hour after the end of the call through February 23, 2022, at 5 p.m. Eastern Time to domestic callers by dialing 877-344-7529 and to international callers by dialing 1-412-317-0088 For all replays, please reference conference number 10162158. An archived replay will also be available on a webcast link located on the homepage of the Investor Relations section of the Aries Capital's website.