Gladstone Capital Corporation

Greetings and welcome to the Gladstone Capital Corporation Fourth Quarter Earnings Conference Call. At this time, all participants are on a listen-only mode. A question and answer session will follow the formal presentation. If you would like to ask a question, please press star 1 on your telephone keypad. If anyone should require operator assistance during the conference, please press star 0 on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, David Gladstone, Chief Executive Officer, Thank you. Please go ahead.

Well, thank you, Donna. Very nice introduction. And hello, everyone. This is David Gladstone, chairman, and this is the earnings conference call for Gladstone Capital for the quarter ending. And also, this is the ending of our fiscal year at September 30th, 2021. Thank you all for calling in. We're happy to talk with all the shareholders. And now we'll hear from our general counsel. Michael Lacalce, who makes a statement regarding certain forward-looking statements. Michael?

Thanks, David, and good morning, everybody. Today's report may include forward-looking statements under the Securities Act of 1933 and the Securities Exchange Act of 1934, including those regarding our future performance. These forward-looking statements involve certain risks and uncertainties that are based on our current plans, which we believe to be reasonable. Many factors may cause our actual results to be materially different for many future results expressed or implied by these forward-looking statements, including all the risk factors in our Forms 10Q, 10K, and other documents that we file with the SEC, and you can find them on the Investors page of our website, www.gladstonecapital.com. You can also sign up for our email notification service there, or you can get the documents on the SEC's website, that's sec.gov. Now, we undertake no obligation to publicly update or revise any of these forward-looking statements, whether as a result of new information Future events or otherwise, except as required by law. Today's call is an overview of our results, so we take a look at our press release from yesterday and our Form 10-K and get some more detailed information in there. And, again, those can be found on the Investors page of our website. Now, with that, I'll turn it over to Gladstone Capital's President, Bob Marcotte. Bob?

Thank you, Michael. Good morning, and thank you all for dialing in this morning. I'll cover some of the highlights for the quarter, and the fiscal year ended September 30, and conclude with some market commentary before turning the call to Nicole Schultenbrand, Gladstone Capital CFO, to review our financial results and our capital and liquidity position. So beginning with our last quarter results, originations for the quarter came in at 27.6 million, all of which represented attractive add-on investments to several performing portfolio companies. We had no material repayments last quarter, so net originations totaled $24.8 million for the period. Interest income rose in line with asset growth and was up 3.9 percent over the prior quarter to $13.2 million. Other income, which is mostly dividend related, increased and contributed to the 5.1 percent increase in total investment income to $14.4 million for the quarter. Borrowing and administrative costs were unchanged for the quarter, while net management fees rose $600,000 with the increase in asset levels and lower new deal origination fee credits. However, net investment income rose to $6.8 million, or 20 cents a share, and fully covered the shareholder distributions without any incentive fee credits. Net assets from operations came in at $32.7 million, or 95 cents per share. which included a robust 26 million of unrealized portfolio appreciation on the quarter. While we had several strong quarters of appreciation this year with the loan market recovery from COVID, the increase this quarter was largely related to performance of a number of our equity investments. Notably, our investment in Lignetics, which was under contract at the end of quarter and is subsequently closed, represented about half of the total appreciation for the period. For the period, NAB rose 76 cents per share, or 8.9%, to $9.28 per share as of September 30. Despite our modest leverage, we are pleased to report our cumulative return on equity over the past two years, inclusive of the challenging COVID period, has now risen to approximately 16.5%. With respect to the portfolio, our portfolio continues to perform well, and for the quarter, we did not experience any payment defaults. In addition to the lignetics gain, improved operating performance, especially for several businesses with COVID-weakened 2020 results improved, and all of the valuation movements over $250,000, the gainers outnumbered the decliners 14 to 1 for the quarter. This quarter's portfolio performance and equity investment appreciation brings the net NAV appreciation to 31.1 million over the past two years, which represents a 12.5% increase in NAV since September 30, 2019, and we believe demonstrates the resilience and attraction of our lower middle market investment strategy. The asset mix, as of the end of the quarter, continued to shift in favor of firstly loans, which rose to 66.3% of assets at cost. And despite this shift in asset mix, we've been able to maintain an average yield on our earning assets of 10.3%. Since the end of the quarter, we've had a number of notable events, including the funding of a new proprietary senior debt and equity co-investment of $26.3 million in a precision manufacturing business and the exit of two second lien investments totaling $19 million. In addition, the lignetics exit, which included $29 million of second lien repayment, generated $1.6 million of exit fees and $16.6 million of proceeds on our equity investment, or approximately 5.2 times our cost. We are expecting several other repayments in the near term. However, the current deal flow is strong, and we are actively pursuing new opportunities, which we hope will more than offset these liquidity events. In light of the scope of the expected investment activity, we recently completed the placement of additional 50 million of senior notes due in 2027 to replace the call of our 2024 notes and preserve our line of credit capacity for new deals. Looking over the balance of fiscal 2020, there are a couple of comments I'd like to leave you with. The portfolios continue to perform and the fair market value gains on our equity investments have not only generated attractive NAV appreciation for our shareholders, but maintain a modest leverage position to support the further growth of our investment portfolio. While we've seen modest earning asset yield compression through 930, the $48 million of prepayments since the end of the quarter, which have generated an average yield of 11.1%, will be difficult to replace. However, when you consider we have an additional $16.6 million of equity gains to reinvest in earning assets as well, I would not expect NAI to be negatively impacted. As we've reiterated in the past couple of quarters, we continue to target a one-to-one debt to equity leverage. However, based on the magnitude of the portfolio appreciation last quarter, our leverage continues to be below our target range at 78 percent debt to equity. While competitive pressures are undeniable, we'll continue to be selective, which in combination with the NAV appreciation and excess debt capacity We're well positioned to continue to grow our NII. And now I'd like to turn the call over to Nicole Schultenbrand, the CFO for Gladstone Capital, to provide some details of the fund's financial performance for the quarter.

Thanks, Bob. Good morning, all. During the September quarter, total interest income increased $500,000, or 3.9%, to $13.2 million. The investment portfolio weighted average balance increased by $24 million, or 5.2%, to $487.6 million compared to the June 30, 2021 quarter. The weighted average yield on our interest-bearing portfolio declined by 20 basis points to 10.3% compared to the prior quarter, which was associated with the increased proportion of first lien loans. Other income rose by $196,000 to $1.1 million and contributed to the 5.1% increase in total investment income to $14.4 million for the quarter. Total expenses rose by $500,000 quarter over quarter, driven by an increase in net management fees associated with the increase in asset levels and lower New Deal origination fee credits. Net investment income for the quarter ended September 30th with $6.8 million, which was an increase of $200,000 compared to the prior quarter, or $0.20 per share, and covered 102% of shareholder distributions. The net increase in net assets resulting from operations was 32.7 million or 95 cents per share for the quarter ended September 30th compared to 18 million or 53 cents for the prior quarter. The current quarter increase was driven by the 26 million of net unrealized portfolio appreciation as covered by Bob earlier. A couple of notes on the performance for the full fiscal year. The fund was able to generate an increase in total assets of $107.3 million, despite the uptick in prepayments. And average earning assets rose 10.7% to $463 million over fiscal 2021. The weighted average yield on earning assets declined from 11% to 10.6% for fiscal 2021. However, other income doubled, which helped lift total investment income by 12.2% to $53.8 million for the year. Net investment income rose 3.8% to $26.1 million as net management fees increased with the higher assets and reduced incentive fee credits. Moving over to the balance sheet, as of September 30th, total assets rose to $567 million, consisting of $558 million in investments at fair value and $9 million in cash and other assets. Liabilities rose to $248 million as of September 30th, and consisted primarily of 100 million of five and an eighth senior notes due 2026, 38.8 million of five and three eighths senior notes due 2024, and as of the end of the quarter, the advances under our line of credit were 50 and a half million. Subsequent to the end of the quarter, the 2024 notes have been called. 50 million of new 3.75% senior notes due May 2027 were issued. were issued and the line of credit borrowings have been eliminated with the aforementioned investment prepayments and net new debt issue proceeds. It is worth noting that over the past year we have redone all of our existing liabilities including refunding all of our unsecured senior notes while lowering the average rate by approximately 120 basis points and extending the earliest maturity to 2026. And we increased the increase in interest costs associated with the increased reliance on our fixed rate senior notes. However, we eliminated any earnings hit associated with any increase in floating rates. As of the end of the year, net assets rose by $26.1 million from the prior quarter end, with $25.9 million of net unrealized and realized portfolio appreciation. NAV rose 8.9%. from $8.52 per share at June 30th to $9.28 per share as of the end of our fiscal year. Our leverage as of September 30th increased slightly with the increase in NAV from the prior quarter end and stands at 78% of net assets. And we currently have an excess of 150 million of borrowing availability under our line of credit with the revolving period of which ends in October of 2023. With respect to distributions, Gladstone Capital has remained committed to paying its stockholders a cash distribution, and in October, our Board of Directors declared monthly distributions to our common stockholders of 6.5 cents per common share per month for October, November, and December, which is an annual run rate of 78 cents per share. The Board will meet again in January to determine the monthly distribution to common stockholders for the following quarter. At the current distribution rate for our common stock, and with a common stock price at about $11.76 per share yesterday, the distribution run rate is now producing a yield of about 6.6%. Distributions, in addition to the NAV growth over the past year of $1.88 per share, have resulted in a total return of $2.66 per share, or 35.9% over the past fiscal year. And now I'll turn it back to David to conclude.

All right, very nice job, Nicole, Bob, Michael. You all did a great job of informing our shareholders and analysts out there that follow the company. In summary, this is just another solid quarter, which kept a stellar year for Gladstone Capital. The company executed $27 million in attractive add-on investments to support the growth and diversification of the existing portfolio companies. increased net investment income to $6.8 million, which was able to cover the current dividend without any incentive fee credits, and delivered just another strong quarter portfolio performance, which begins with a cumulative net asset value per share increasing over the past year to $1.06 per share, or a total return of $1.84 per share, or about $24.9 or Let's just round it out to about 25% per year for the past year. Bob, I'll say one thing. You've got to beat this year next year. In summary, the company continues to invest in growth-oriented, lower middle market businesses with good management. Many of these investments that we go into are to support mid-sized private equity funds that are looking for experienced partners to support the acquisitions and growth of the business they're investing in. This gives us an opportunity to make an attractive interest-paying loan to support the ongoing commitments to pay cash distributions to stockholders. So it was a great quarter and a fantastic year. And now, operator, if you'll come on and let's see if we have some good questions from our team that's out there and following us.

Thank you. The floor is now open for questions. If you would like to ask a question, please press star 1 on your telephone keypad at this time. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star key. Once again, that is star 1 to register a question at this time. We'll pause a moment for questions to be submitted. Once again, that is star 1 to register a question at this time. I'm showing no questions in queue at this time. I'd like to turn it over to Mr. Gladstone for closing comments.

Well, we don't understand that, but I guess when you have a terrific year like this, it's hard for anybody to ask a question. going to be meaningful because I think the question we already asked was, Bob, what are you going to do to top that one? All right. Thank you all for calling in, and that's the end of this conference.

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