Capital Southwest Corporation

Thank you for joining today's Capital Southwest 4th Fiscal Quarter 2019 earnings call. Participating on the call today are Bowen Diehl, CEO, Michael Sarner, CFO, and Chris Rehberger, VP Finance. I will now turn the call over to Chris Rehberger.

Thank you. I would like to remind everyone that in the course of this call, we will be making certain forward-looking statements. These statements are based on current conditions, currently available information, and management's expectations, assumptions, and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties, and assumptions that could cause actual results to differ materially from such statements. For information concerning these risks and uncertainties, see Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events, changing circumstances, or any other reason after the date of this press release, except as required by law. I will now hand the call off to our President and Chief Executive Officer, Bowen Deal.

Thanks, Chris, and thank you to everyone for joining us for our fourth quarter fiscal year 2019 earnings call. Throughout our prepared remarks, we will refer to various slides in our earnings presentation, which can be found on our website at www.capitalsouthwest.com. We are pleased to be with you this morning to announce our quarterly and annual results for our fiscal year ended March 31, 2019. During the year, we continued to advance the credit strategy we laid out for our shareholders over four years ago of prudently building a well-performing credit portfolio through conservative late-cycle underwriting principles. We are pleased to report that our assets, income, and shareholder dividends grew substantially throughout the year, producing a 37% total return to shareholders. driven by a 24% increase in stock price and $2.27 per share in dividends paid out to shareholders during the fiscal year. We continue to be committed and excited about our core investment strategy of building a predominantly lower middle market portfolio consisting largely of senior secured first lien debt with equity co-investments across the loan portfolio where we believe significant equity upside opportunity exists. Executing our investment strategy under our shareholder-friendly, internally managed structure closely aligns the interest of our board and management team with that of our fellow shareholders in generating sustainable long-term value through recurring dividends, capital preservation, NAV per share growth, and operating cost efficiency. Now to summarize some highlights of the fiscal year, as laid out on slides six and seven, We grew our portfolio over 33% to 524 million as of March 31, 2019, from 393 million as of March 31, 2018. This growth was driven primarily by our originating 218 million in total commitments in 18 portfolio companies, including 20 million invested in equity alongside nine of our loans. During the fiscal year, we also exited seven companies, and many more. drove a 48% increase in total investment revenue for the year to $51.9 million, up from $35.1 million in the prior fiscal year. While generally fixed nature of our internally managed BDC cost structure improved operating leverage to 2.8% by the end of the year. These factors both contributed to the substantial year-over-year growth in dividends paid to our shareholders. Specific to the portfolio exits, we realized gains on two of the three remaining legacy portfolio equity positions, Titan Liner and Deepwater Corrosion Services. Both were fantastic results for Capital Southwest as we were successful in managing the investments through a very tough period in the oilfield services industry in 2015 and 2016 and were able to sell the companies generating IRRs of 49% and 26% in Titan Liner and Deepwater respectively, measured since our spinoff and relaunch of Capital Southwest as a middle market lender back in 2015. This now leaves Media Recovery, which as a reminder does business under the banner SPOTC, as the last remaining legacy equity investment in our portfolio. As we have mentioned on prior calls, the company is currently undergoing a sale process. The process is going very well as there continues to be robust interest in the asset from a large number of potential buyers. The management team that we recruited back in 2015 continues to do a superb job managing and growing the business. Thank you for joining us. under the Small Business Credit Availability Act. During the year, we also issued $19.5 million in additional baby bonds through our debt ATM program. We raised $13.2 million through our first equity offering since our IPO in 1961. And we raised an additional $5.5 million in equity through the launch of our equity ATM program. Subsequent to year end, we further upsized our evolving line of credit by adding an additional commitment for $25 million from a new lender, resulting in the current total of $295 million in commitments from 10 lenders in our facility. Specific to the March 31, 2019 quarter, as laid out on slide eight, we generated 42 cents per share of pre-tax net investment income and paid a regular dividend of 38 cents per share. Additionally, we distributed 10 cents per share through our supplemental dividend program, funded by our sizable undistributed taxable income balance or UTI, which was generated by excess income and capital gains accumulated for our investment strategy to date. As of March 31, 2019, we had approximately 20 million or $1.14 per share in UTI, providing visibility to continuing the quarterly supplemental dividend program well into the future. For the quarter, the 48 cents per share paid out in total dividends generated a total annualized dividend yield of 9.1% based upon our March 31, 2019 share price. The portfolio as a whole continued to perform well this quarter generating 3.6 million in net appreciation which was the primary driver of our NAV per share growth to $18.62 per share from $18.43 per share in the prior quarter. Our senior loan fund, I-45, also continued its solid performance, producing a 15% annualized yield on our capital in the fund for the quarter. During the quarter, we grew our portfolio on a net basis to $524 million from $497 million as of December 31, 2018, originating $29 million in total commitments listed on slide 9, consisting of one new portfolio company, One refinancing and one add-on transaction. The new portfolio investment was in the lower middle market and included an equity co-investment side our debt. While the refinancing and add-on transactions were in the upper middle market. Our originations this quarter consisted of $28 million in senior secured first lien debt with a weighted average yield to maturity of 12.5% and $1 million in equity. Subsequent to the quarter end as shown on slide 10, We have completed three new transactions totaling $23 million in senior secured first lien debt and exited one portfolio company for the total proceeds of $20 million. Our pipeline remains strong and we can currently have several lower middle market deals signed up with expected closings in late June and July. Again this quarter, the majority of capital deployed by Capital Southwest was directly originated and led by our investment teams as they continue to demonstrate our traction in the markets. Turning to slide 11, we illustrate our continued track record of growing shareholder dividends as we continue to migrate the balance sheet towards target leverage levels through thoughtfully building a portfolio of well-performing income generating assets. The regular dividend of 39 cents a share for the current quarter ending June 30, announced in last night's press release, marks our 14th consecutive quarterly regular dividend increase. Slide 12 illustrates our history of value creation from September 2015 to the date of our spinoff of CSW Industrials making Capital Southwest purely a middle market lender. Total value, which we show here as net asset value plus cumulative dividends paid, has increased $5.03 per share to a value of $22.71 per share as of March 31, 2019, from $17.68 per share as of the spinoff. Our increasing regular dividend coupled with a supplemental dividend program and a well-performing investment portfolio should continue to create attractive long-term returns for our shareholders. Turning to slide 13, as a reminder, our investment strategy has remained consistent since its launch in January 2015. We continue to focus on a blend of both lower middle market and upper middle market assets, Providing us strategic flexibility as we have built the robust capability to seek attractive risk-adjusted returns in both markets. In our core lower middle market, we directly originate opportunities consisting of debt investments and equity co-investments. Building out a highly performing and granular portfolio of equity co-investments is important to driving growth in NAV per share and aids in mitigating future credit losses. At the same time, our capability and presence in the upper middle market provides us the ability to opportunistically invest in a more liquid market when attractive risk-adjusted returns exist. In the upper middle market, over the past year or so, we have been in an environment where it has been difficult to find value in syndicated loans. For the syndicated deals we have found acceptable from a risk return perspective, we have often chosen to take small positions of approximately $5 million. which fit well into the I-45 portfolio. To the extent that syndicated spreads widen, terms improve, and we identify especially attractive opportunities to invest in the upper middle market syndicated loans, we have the ability through our relationships with syndicate banks to capitalize on such opportunities either through additional exposure on our balance sheet or through I-45. We do occasionally have the opportunity to invest in larger club deals in the upper middle market with lenders that we respect and see as like-minded to Capital Southwest. Recent examples listed on our origination slides are RJ O'Brien and iEnergizer, led by Whitehorse Finance and Main Street Capital respectively. In the lower middle market, our robust origination platform continues to generate solid deal flow, allowing us to close on some highly attractive opportunities from a risk-return perspective. We believe that maximizing the top of our origination funnel is critical to generating strong credit investment performance over time as it ensures that we consider a wide array of deals, allowing us to employ our conservative underwriting standards in a competitive market and thoughtfully build a portfolio that will perform through the economic cycle. Our on-balance sheet credit portfolio, excluding I-45, as shown on slide 14, grew to $368 million as of March 31, 2019. from 351 million as of December 31, 2018. As the portfolio has grown, the percentage of the credit portfolio represented by the lower middle market has increased by design to now 78%. While we have increased the percentage of the portfolio represented by the lower middle market, we have also continued to heavily emphasize senior secured first lien debt in our investment strategy. As of the end of the quarter, we had 86% of our unbalanced sheet credit portfolio in first lien senior secured debt. On slide 15, we break out our unbalanced sheet portfolio, again excluding I-45, between the lower middle market and the upper middle market. As of the end of the quarter, the unbalanced sheet portfolio was weighted approximately 79% to the lower middle market and 21% to the upper middle market on a cost basis. We had 26% Lower middle market investments with an average hold size of $12.5 million, a weighted average EBITDA of $9.2 million, a weighted average yield of 12.2%, and a leverage ratio measured as debt to EBITDA through our security of 3.3 times. Within our lower middle market portfolio, as of the end of the quarter, we held equity ownership in 73% of our portfolio companies. Our upper middle market portfolio consisted of 10 companies with an average hold size of $8.5 million, a weighted average EBITDA of $66.5 million, a weighted average yield of 9.7%, and a leverage ratio through our security of 4.8 times, which was up from 3.8 times in the prior quarter, driven almost solely by the underperformance of American Addiction, which increased its debt-to-EBITDA leverage ratio significantly quarter over quarter. Excluding this company's underperformance, the leverage ratio through our security for the upper middle market portfolio would have been flat to last quarter at 3.8 times. Despite its underperformance, we continue to feel reasonably confident about our first lean position in the company due to the value of its national substance abuse treatment franchise, management's operational efficiency initiatives, the tremendous demand for drug addiction treatment in the U.S., and the company's large real estate portfolio associated with its treatment facilities. Within our internal investment rating process, the changes for the quarter included an upgrade from a 2 to a 1 for the first lien secured loan to environmental pest service due to the company's strong performance and a downgrade from a 2 to a 3 for the first lien senior secured loan to American Addiction due to its underperformance. As a reminder, all investments upon origination are initially assigned an investment rating of two on a four-point scale, with one being the highest rating and four being the lowest rating. Overall, we are pleased with the performance of the investment portfolio. As of the end of the quarter, of the 36 loans in the portfolio, we had four with the highest rating of a one, representing 17% of invested capital. We had 29 loans rated at two, representing 77% of the invested capital, and we had three loans rated at three, representing 6% of the invested capital. As of the end of the quarter, we had no loans rated at four in the portfolio. As illustrated on slide 16, we have established a portfolio that is well diversified across industries, which we believe is well positioned for late in the economic cycle. Further, our portfolio remains heavily weighted towards senior secured first lien investments, providing strong capital preservation security for our shareholders' capital. Shown on slide 17 as of the end of the quarter, the I-45 portfolio was 94% first lien with diversity among industries and an average hold size of 2.1% of the portfolio. The I-45 portfolio had a weighted average EBITDA of approximately 68 million and a weighted average leverage through the I-45 security of 3.9 times. Thank you very much. We and our partner in I-45, Main Street Capital, have invested approximately $500 million through the fund and have harvested 50 exits, generating $196 million in proceeds and a weighted average IRR on the exits of 11.4%. I will now hand the call over to Michael to review the specifics of our financial performance for the quarter.