Great Elm Capital Corp.

Thank you for standing by and welcome to the Great Elm Capital 4th Quarter 2021 Financial Results Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you'll need to press star 1 on your telephone. As a reminder, today's program may be recorded. I would now like to introduce your host for today's program, Adam Yates, Managing Director. Please go ahead.

Thank you and good morning everyone. Thank you for joining us for Great Elm Capital Corp's fourth quarter earnings conference call. If you would like to be added to our distribution list, you can email investorrelations at greatelmcap.com or you can sign up for alerts directly on our website, www.greatelmcc.com. I'd like to note the slide presentation posted on our website accompanying today's call. We will not be directly referring to slides in the presentation. but our comments will generally follow its form and structure. The slide presentation can be found on our website under Financial Information, Quarterly Results. On our website, you can also find our earnings release and SEC filings. I would like to call your attention to the Customary Safe Harbor Statement regarding forward-looking information. Also, please note that nothing in today's call constitutes an offer to sell or a solicitation of offers to purchase our securities. Today's conference call includes forward-looking statements and projections, and we ask that you refer to Great Elm Capital Corp's filings with the SEC for important factors that could cause actual results to differ materially from these projections. Great Elm Capital Corp does not undertake to update its forward-looking statements unless required by law. To obtain copies of SEC filings, please visit Great Elm Capital Corp's website under Financial Information, SEC Filings, or visit the SEC's website. As a reminder, this webcast is being recorded on Friday, March 4, 2022. Hosting the call this morning is Matt Kaplan, Great Elm Capital Corp's new Chief Executive Officer. I will now turn the call over to Matt.

Thank you, Adam. Good morning, and thank you for joining us today. I would like to start by thanking Peter Reed, Mike Speller, and Rebel Horsey for the years of dedicated service at GECC. I am excited to be speaking as GCC's newly appointed CEO and look forward to the opportunities ahead. On today's call, we have our Chief Compliance Officer, Adam Kleinman, CFO, Carrie Davis, and Mike Keller, the President of Great Elm Specialty Finance. There is quite a bit to unpack, so I will begin by highlighting some of the key factors that define GCC's fourth quarter as well as our path forward today. First, I would like to address the impact Avanti and other legacy non-cash generating assets had on our portfolio, which were the main contributors to an approximately 25% decline in net asset value in the fourth quarter, leading us to report a NAV of $16.63 per share this morning. This is certainly unfortunate and has led to sweeping changes within the organization, along with the opportunity to reboot GECC. To that end, in addition to announcing the CEO transition, this morning we also announced new board leadership and a proposed $50 million rights offering in which Great Elm Group and other large shareholders have indicated their intent to fully exercise their subscription rights and oversubscribe. New leadership and fresh capital are instrumental in our plan to reset GECC. In connection with this GECC reboot, Great Elm Capital Management, GECC's manager, has indicated it currently intends to waive all accrued incentive fees as of March 31, 2022, provided that GECC's shareholders approve a reset of the incentive fee total return hurdle under GECC's investment management agreement at the next annual shareholder meeting. As of December 31, 2021, there is approximately $4.9 million of accrued incentive fees held on GECC's balance sheet. If the waiver were obtained and new incentive hurdles were approved by GECC stockholders, the waiver would reverse these $4.9 million of previously recorded expenses, which we expect will be reflected in the quarter ending March 31, 2022, resulting in a corresponding amount of additional income and increase in the net asset value of $1.08 per share in the first quarter of 2022, subject to any offsetting additional expenses or losses. Taking a step back, as portfolio manager of GECC since October 2020, I've been focused on reducing position concentrations, upgrading portfolio quality, and increasing the allocation to cash income generating investments. In 2020, we also began to focus on growing our specialty finance platform and related investments. Our goal is to increase the allocation to these types of investments so that they comprise approximately half of our portfolio over time. We believe investments in specialty finance companies and related participation opportunities can generate attractive returns with less risk than leveraged credit markets. As a permanent capital vehicle, GECC is able to prudently allocate a portion of its assets into these types of investments. In addition to the isolated benefits of individual specialty finance investments, which are proprietary to GECC, We believe there are significant origination and operational synergies to be gained from owning majority interest in multiple specialty finance companies. I am excited to have industry veteran Mike Keller as a partner leading our effort here. In the last six months, we have acquired majority equity interest in a specialty finance participant capital provider and an ABL platform, as well as entered into an agreement for a joint venture to co-invest with an established equipment finance business. I will let Mike speak more on our strategy and why we believe specialty finance is an attractive investment class. But suffice it to say, additional capital will be required to accomplish our objectives in this space. I believe these changes and access to capital will allow GECC to reboot on strong footing with a clear strategy and a strong support from our board and large shareholders. Before turning it over to Mike to provide an overview of our specialty finance strategy, I would like to summarize our key strategic objectives as, one, increase GECC's allocation to specialty finance to constitute half of the portfolio through direct investments in specialty finance companies as well as in participations. Two, maintain a high-quality, diversified portfolio focused on performing and cash-yielding investments. And three, increase our scale by raising equity and debt capital with a target asset coverage ratio of approximately 165%. With that, I'd like to hand the call over to Mike to review our specialty finance strategy and also provide his background in the industry.

Thanks, Matt, and hello, everyone. I'm thrilled to be here and would like to start by introducing myself and provide some insight as to how we do specialty finance. We believe that what we are building is a unique specialty finance platform within GECC. I think my background is a perfect fit for Great Elm. I have 30-plus years of experience in financial services. I have significant experience in secured lending, asset-based lending, and mezzanine and equity investments. Specifically, I have built origination, underwriting, portfolio management, and restructuring and workout platforms. With this, I have also repositioned platforms that have underperformed or needed to refocus on different markets. Over the years, I've held senior leadership positions at both multibillion-dollar financial institutions and direct lending credit funds. We're deploying capital in specialty finance companies that are helping us create a continuum of lending. These investments will provide GECC's shareholders exposure to a unique investment product that we think can outperform liquid credit markets through various economic cycles. Given our focus on asset coverage, discipline management, and systems, we believe that our specialty finance businesses can generate attractive risk-adjusted returns and perform well in any type of market. How do we define specialty finance? Well, specialty finance can be defined in many ways. We define specialty finance is lending to small and medium-sized businesses secured by collateral on their balance sheets, including accounts receivable, inventory, equipment, and real estate, for example. Specialty finance companies are any type of lending platform that focuses on lending secured by one or more of these types of collateral. We believe building or owning numerous specialty finance companies across the continuum of lending will expand our ability to offer one-stop shop solutions for our customers. Specialty finance companies face two major challenges, turnover of clients and access to capital. We believe under the great specialty finance umbrella, these issues can be mitigated and improve the company's competitive advantage. Small to medium-sized businesses, by their nature, are either growing or shrinking. Therefore, specialty finance companies must continually find new clients if existing clients outgrow the platform, get acquired, or shrink. This is where the continuum of lending comes in. By offering multiple credit solutions across the lending continuum, we expect to be able to hold onto customers for a longer period of time. This ability is butchers by our capacity to offer one-stop shop solutions. We believe that multiple specialty finance companies operating under the Great Elm Specialty Finance umbrella will generate natural referral sources which, combined with access to GECC's balance sheet, can help to create a competitive advantage for our family and businesses. As you know, we recently closed on a transaction with Sterling Commercial Credit, a middle market ABL lender. We view this as a pivotal acquisition for GECC as it gives us an ABL monitoring, underwriting, and origination platform. It also allows us to take advantage of opportunities created by market dislocation and economic cycles. Furthermore, an ABL platform expands our continuum of lending footprint as we are in position to capitalize on companies graduating from a factoring program and moving towards an ABL platform. We recently further expanded our specialty finance footprint by entering into an agreement for a joint venture with Utica Lease Co., which provides customized equipment loan and lease options for businesses of all sizes throughout the continental United States. Along with Sterling Commercial, Prestige Capital, our existing factoring subsidiary, and Lenders Funding, which provides participant funding to other specialty finance lenders, we will be able to offer one-stop shop solutions for the clients of our specialty finance subsidiaries. I'll now turn the call over to Carrie to review our financial results.

Thanks, Mike. I'll go over our financial highlights, but invite all of you to review our press release, accompanying presentation, and SEC filings for greater detail. During the quarter, GECC generated net investment income of $7.1 million versus $1.6 million in the prior quarter and $1.6 million in the fourth quarter of 2020. Our investments in Avanti Communication Group's one and a half lien term loan and second lien notes have been placed on non-accrual, and current quarter NII includes $5.2 million in net reversal of previously accrued incentive fees, primarily associated with our investments in the secured debt of Avanti. Without this incentive fee reversal, the current quarter NII would have been $1.9 million. Net assets as of December 31st were $74.6 million, down from $99.4 million at September 30th and $79.6 million as of year-end 2020. The current quarter decrease was largely the result of the reduction in fair value of our Avanti investments. Specifically, as of December 31st, 2021, The fair value of our investments in Avanti was approximately $8.1 million, or 3.8% of portfolio fair value, as compared to $32.1 million, or 13% on September 30th, 2021. Detail for the quarter-over-quarter change in NAV can be found on slide 8 of the investor presentation. As of December 31st, 2021, GECC's asset coverage ratio was approximately 151.1%, compared to 163.8% as of September 30th. Our asset coverage ratio was impacted by the decline in net assets for the quarter, partially offset by the repayment of $10 million outstanding on the revolver as of September 30th, 2021. On January 27th, 2022, we announced that our board of directors approved a six-for-one reverse stock split of our outstanding common stock. On February 28th, the reverse stock split went effective. As a result, every six shares of our issued and outstanding common stock were converted into one share of issued and outstanding common stock. Pro forma, our fully diluted share count is $4.5 million, and our NAV per share is $16.63, down from $22.17 per share as of prior quarter end and $20.74 per share as of year end 2020. Given the split has gone effective, I'm going to walk through the rest of the detail on a split-adjusted basis. Total weighted average shares outstanding during the most recent quarter increased to $4.5 million from $4 million in the prior quarter and $3.7 million in the quarter ended December 31, 2020. The increase in share count from prior periods is driven primarily by our specialty finance acquisition of lenders funding, which was funded in part by the issuance of GECC common shares at NAV. Shares issued in our specialty finance acquisitions helped to increase GECC's capital base, preserve GECC cash, and better align specialty finance management teams with GECC. GECC reported net loss of $4.95 per share in the fourth quarter compared to net loss of 79 cents per share in the prior quarter. NII per share was $1.58 compared to 39 cents in the prior quarter. As noted earlier, the reversal of incentive fee expenses was the primary reason for the significant sequential increase. We have three publicly traded issues of unsecured notes. The 6.5% notes due in 2024 trading under the ticker GECCM. The 6.75% notes due in 2025 trading under the ticker GECCM. and the 5.875% notes due in 2026 trading under the ticker GECCO. Our total debt outstanding was approximately $145.9 million as compared to $155.9 million on September 30th. During the quarter, we paid down previously outstanding $10 million drawn on our revolving credit facility due in 2024, and the $25 million line is fully undrawn. As of December 31st, 2021, our cash balance was approximately $9.1 million, exclusive of holdings in United States Treasury bills. I'll turn the call back over to Matt to review the portfolio.

Thanks, Carrie. I'd like to start out by highlighting that we are presenting our portfolio a bit differently today, but have included the same tables and charts that have been reported previously to help avoid any confusion. If you turn to slide 10, we show what we call our income-generating portfolio. This includes only investments which carry cash coupons or pay cash dividends and excludes all non-accrual and non-cash-paying equity or debt investments. Over the past two years, we have transitioned our portfolio to become a diversified book of performing, transparent, cash interest-paying investments with stable yield profiles. As of December 31st, approximately 88% of our portfolio for $188 million of investments for income generating across 41 positions. As you can see on this page alone, over the course of 2020 and 2021, we have increased GECC's dollars invested in income generating investments while reducing this portion of the portfolio's concentration with minimal decline in current yield despite a lower rate environment. Slide 11. further shows our increased diversification efforts as GECC's income-generating portfolio is invested across 20 separate industries. Specialty finance is our largest industry waiting today at 26% of our income-generating portfolio and 22% of total investments. Our plan is to continue to grow our specialty finance portfolio, ultimately creating a relatively balanced portfolio of specialty finance and credit investments. In the fourth quarter, approximately $34 million of capital was deployed and $34 million of investments were monetized. We deployed capital at a current yield of approximately 8.2%, while we monetized investments at a weighted average current yield of 7.4%. The current yield on our deployed capital understates our expected returns as approximately one-third of the deployment was into Altus Midstream Preferred, now Kinetic Holdings, at a 6.2% current yield. However, this does not include a significant make-hold on the non-call preferred, which, if repaid based on management's guidance last month, would result in a low double-digit IRR. Also, please note we monetized a majority of our SPAC holdings and a legacy non-accrual position, Davidson Radio, was resolved in the quarter through a bankruptcy process in which we received over $3 million of cash. Going forward, you should expect the trend of us reducing exposure to non-income generating equity and credit positions to continue with deployment of capital into cash-yielding assets. I want to highlight how our team has been successful in transitioning the portfolio away from non-performing, legacy, concentrated investments and into proprietary, higher-yielding, more diversified investments, most notably in specialty finance. The acquisitions of Prestige Capital Finance in 2019, Lenders Funding in 2021, and Sterling Commercial Credit and formation of the Utica Joint Venture in 2022 have created a continuum of lending solutions that GECC can offer its small business clients. We've partnered with specialty finance companies via a number of different investment types, including majority equity interest, secure debt, subordinate debt, and participation co-investments in existing transactions. We continue to grow our specialty finance portfolio as a means to bring investment opportunities to our shareholders. As of December 31st, 2021, our specialty finance investments have grown to comprise almost 22% of the GECC portfolio. As discussed earlier, we believe these unique investments can offer greater potential returns on invested capital than traditional leverage credit markets and are largely uncorrelated to the broader syndicated leverage credit markets. Building on our success with Prestige and the subsequent overflow and participation opportunities that relationship has created for us, last quarter we announced the acquisition of a majority interest in Lenders Funding. Lenders Funding provides participant financing and risk sharing specifically for factors and asset-based lenders. The acquisition of lenders' funding has increased our visibility into the broader specialty finance market and has provided additional proprietary overflow opportunities for GECC. It has been a terrific complement to Prestige and another important building block in our specialty finance portfolio. Building on that foundation, in February, we purchased a majority interest in Sterling Commercial Credit for $7.5 million. including $2.6 million in GECC shares issued at NAV. Sterling provides short-term asset-based loans and working capital solutions to small businesses with annual sales typically between $3 million and $10 million. CEO Edwin Small, Vice President Karen Small, and their team will continue to manage the business as they have done successfully for many years. In connection with the acquisition, we provided Sterling with subordinated debt to fund growth initiatives. In February, we also entered into a joint venture agreement with Utica Lease Co. to co-invest in proprietary equipment financing transactions sourced by Utica. Founded in 2005, Utica provides customized equipment loan and lease options for businesses of all sizes throughout the continental United States. With unique knowledge of equipment values and creative structuring, Utica specializes in helping credit-challenged companies unlock the equity in their equipment Utica's management team has over 100 years of combined experience in lending, financial services, and equipment finance. We continue to seek out new specialty finance partners to add to our ecosystem of direct lending. In summary, we continue to strengthen and diversify our portfolio by deploying capital into high-yielding, cash-paying investments. We're excited about the foundation we are building for our specialty finance platform and optimistic about the future of our portfolio as we make significant improvements to both. Before wrapping up my prepared remarks, I'd like to review our distribution. Our board of directors has authorized two upcoming quarterly distributions. On November 5th, we announced a 10 cent per share quarterly distribution for the quarter ending March 31st, 2022 of 60 cents pro forma for the reverse split. This distribution will be paid on March 30, 2022 to stockholders of record as of March 15, 2022. Today, we announced that our Board of Directors has approved a $0.45 per share distribution for the quarter ending June 30, 2022, a 10.8% dividend yield on our pro forma NAV of $16.63 per share. The record and payment dates for the second quarter distribution are expected to be set in the second quarter. As I previously noted, GECC's manager intends to waive all accrued incentives subject to shareholder approval of a reset of the incentive fee total return hurdle at the next annual shareholders meeting. As of December 31st, 2021, there was approximately $4.9 million, or $1.08 per share, of accrued incentives held on GECC's balance sheet. Such a waiver, if granted and the shareholder vote is obtained, would result in a corresponding increase in income and increase in net asset value in the first quarter of 2022, subject to any offsetting additional expenses or losses. With that, we will turn the call over to the operator to open for questions. Operator?

Certainly, ladies and gentlemen, if you have a question at this time, please press star then 1 on your touchtone telephone. If your question has been answered and you'd like to remove yourself from the queue, please press the pound key. One moment while we compile our queue. As a reminder, if you have a question at this time, please press star then 1. Our first question comes from the line of Brian from Greenwich Investment. Your question, please.

Good morning. Hi, Matt. Welcome to the CEO chair. I have two questions for you. First, do you expect that the current proposed rights offering will look similar to the prior rights offering that occurred at the end of 2020?

Thank you very much, Brian. So, What I can say right now is we filed the registration today, working through the SEC process, limited on our ability to make additional comments except for what is contained in there. Right now, the pricing and the mechanism is still to be determined. However, it is contemplated to be a percentage of net asset value as most recently filed prior to the effective time of the rights offering.

Okay. No, I think that answers it. Then the second question I have, with the new reduced dividends and even adding back the contemplated B reversal of that dollar rate, it looks like you'll still need about a 10-plus percent, almost 11-plus ROE with what top quartile BDCs are achieving. Do you think you'll be able to do this without taking excessive risk? I mean, especially since by your own admission on the call, that you have to be constantly sourcing new borrowers in the specialty finance segment?

Sure, that's a great question. So I think looking at the specialty finance part of the portfolio, we, and based on the market today and what we're seeing, we're targeting mid-teens returns on our subordinated debt and participation there and for our direct equity investments in these specialty finance companies, targeting returns on the equity in excess of that. And the key part to the second item of customers moving around is this continuum of lending that we are building allows us to keep those customers within our family of specialty finance companies, which is part of the origination and operational synergies that we expect to realize over time.

Got it. I got one more if I may. What sort of ability do you guys have to retain capital given that there is substantial at least capital losses? And then also in the vein of having over-distributed dividends prior, is there any room to obtain anything to kind of build up NAV?

Income and capital are treated differently in our ability to obtain. We are required to distribute 90% of our income to maintain our status as a RIC. However, from capital appreciation, We have, as you alluded to, capital losses, which there's disclosure in the 10-K that discusses this, where we have the ability to retain capital in a tax-efficient manner that will allow us to rebuild NAB over time.

Is it fair to say that that's going to be the plan go forward? I mean, especially as it makes some equity investments in smaller companies, right? The idea would be that those That is, you know, capital appreciation.

Yes, that is definitely the goal over time.

Great. That's all for me. Thanks very much and best of luck to you. Thank you very much.

Thank you. Our next question comes from the line of Travis O'Neill, private investor. Your question, please.

Hi, this is Thomas O'Neill, actually, not Travis, but I have a question as as a long-term holder as I'm sure many people are. Can we get some insight into what transpired in the fourth quarter to cause this significant degradation in the value of Avanti from what we had been told before was going on with Avanti?

We are limited to what we can say under the terms of our nondisclosure agreement with the company. However, what I can say is that due to uncertainty surrounding Avanti's financial condition and ongoing liquidity challenges, as of December 31st, we did place the one-and-a-half lien loan and the second lien notes on non-accrual, and that is what we are able to say at this point in time.

That's not very sufficient.

Our hands are tied to the terms of the non-disclosure agreement. We are happy to answer questions when we're able to provide more information as appropriate.

Well, in the past, I guess it hasn't been. You haven't been able to do that because this came as a complete surprise to many of us who have been following this for years. And I don't know what kind of non-disclosure you signed that was at such an advantage to cause you to have to write down the investment so much that you can't talk about what's going on in the industry and what's happened to your most significant investment.

Again, we are limited in what we can say about that. And when we are able to provide more information, we are happy to answer questions as appropriately.

Thank you. And this does conclude the question and answer session of today's program. I'd like to hand the program back to Matt Kaplan for any further remarks.

Thank you again for joining us this morning. I'm excited for the opportunity to reboot GECC, and we look forward to continued dialogue. Please let us know if we can be helpful with anything in follow-up.

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.