OFS Capital Corporation

Good day and welcome to the OFS Capital Corporation Q2 2026 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference list by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad, and to withdraw your question, please press star then two. Please note today's event is being recorded. I would now like to turn the conference over to Steve Altebrando. Please go ahead.

Good morning, everyone, and thank you for joining us. Also on the call today are Bilal Rashid, our chairman and chief executive officer, and Kyle Spina, the company's chief financial officer and treasurer. Before we begin, please note that the statements made on this call and webcast may constitute forward-looking statements as defined under applicable securities laws. Substatements reflect various assumptions, expectations, and opinions by OFS capital management concerning anticipated results are not guarantees of future performance and are subject to known and unknown risks, uncertainties, and other factors that could cause actual results to differ materially from such statements. The uncertainties and other factors are in some way beyond management's control, including the risk factors described from time to time in our filings with the SEC. Although we believe these assumptions are reasonable, any of those assumptions could prove incorrect, and as a result, the forward-looking statements based on those assumptions also could be incorrect. You should not place undue reliance on these forward-looking statements. OFS Capital undertakes no duty to update any forward-looking statements made herein, and all forward-looking statements speak only as of the date of this call. With that, I'll turn the call over to Chairman and Chief Executive Officer Bilal Rashid.

Thank you, Steve. Yesterday afternoon, we reported our second quarter results. Net investment income totaled $0.08 per share compared to $0.18 per share in the prior quarter. As we discussed on our last call, the prior quarter's results benefited from a large non-recurring dividend from our equity position in Fan Steel. We also anticipated additional net interest margin compression following the final redemption of our 4.75% February 2026 unsecured notes last quarter. In addition, we experienced some pressure from our ongoing efforts to de-lever our balance sheet. Net investment income was also impacted by one new loan being placed on non-accrual during the quarter. Our net asset value at quarter end was $8.41 per share compared to $8.16 per share in the prior quarter. The increase was primarily driven by the performance of our equity investment in Fansteel. During the quarter, Fansteel delivered another period of strong operating results. As I mentioned, we placed one new loan on non-accrual during the quarter. The loan was marked at 79% of par at quarter end, representing 3.5% of our total portfolio at fair value. While the loan is currently on non-accrual, we are actively working with the borrower and other stakeholders to support a return to accrual status. We believe the underlying value of the business will support the recovery of our principal investment over time. We also believe that the company has the liquidity to make debt service payments but is preserving cash as it executes initiatives designed to strengthen the business and maximize long-term enterprise value. While our current net investment income remains below our long-term objective, we believe we are now better positioned to concentrate on improving NII going forward. Over the past several quarters, we have been focused on strengthening the balance sheet and improving operational flexibility through extending our debt maturities and deleveraging. As we have discussed on prior calls, we have extended all near-term debt maturities with our earliest remaining maturity in 2028. In addition, over the last 12 months, we have reduced our total debt balance by $57.6 million. With the reduction in our leverage levels, our focus is shifting toward prudently redeploying capital into new income generating investments. We also continue to pursue opportunities to monetize our position in Fansteel, the largest position in our portfolio. which had a fair value of $94.6 million at quarter end. This position has grown in value over the last 12 years due to its strong performance, now representing approximately 32% of our total portfolio at fair value. Although we are cognizant of the outsized concentration of this portfolio company, we remain disciplined in balancing a monetization transaction with optimizing overall returns. That said, we continue to be encouraged by the company's operational momentum, as evidenced by the notable increase in our valuation this quarter, and we believe its long-term outlook remains compelling. As a reminder, Since our initial $200,000 investment in 2014, our position in Fansteel has generated approximately $5.1 million in distributions to date, representing roughly a 23 times return on our costs. Looking ahead, There continues to be macroeconomic uncertainty surrounding interest rates, inflation, and geopolitical events, and we believe our known portfolio is generally well positioned to navigate these conditions. We continue to maintain a diversified portfolio with limited exposure to highly cyclical industries. We also continue to monitor potential disruptions related to AI and to date, We have not observed material impacts on our loan portfolio. Consistent with our disciplined underwriting approach, we have limited direct enterprise software exposure and no reliance on annual recurring revenue or ARR based lending. Instead, we are focused on originating loans based on cash flow and profitability of the borrowers. Through this environment, we also benefited from our loan portfolio being entirely composed of first and second lien senior secured loans, with 97% of our loan holdings in first lien positions based on fair value, underscoring our focus on maintaining a senior position in the capital structure. Turning to originations, while middle market M&A activity has remained low, We continue to work closely with our existing portfolio companies for add-on acquisition and growth financing opportunities. Having strengthened our balance sheet over the past several quarters and bolstering liquidity, we believe that we are now better positioned to deploy capital into both existing portfolio companies and new investments as attractive opportunities arise. As we navigate an uncertain environment, we remain confident in the experience and capabilities of our advisor. With approximately $4.1 billion in assets under management across the known and structured credit markets, deep expertise across industries, and a track record spanning more than 25 years and multiple credit cycles, We believe we are well positioned to navigate the current landscape and respond to evolving conditions. With that, I'll turn the call over to Kyle Spina, our Chief Financial Officer, to give you more details and color for the quarter.

Thanks, Bilal, and good morning, everyone. As Bilal mentioned, we posted net investment income of $1 million or 8 cents per share for the second quarter of 2026, a decline of 10 cents per share from the first quarter. Topline income decreased $2.1 million quarter over quarter, partially offset by a $610,000 decrease in total expenses, resulting in the decline in net investment income. We announced that we are maintaining our quarterly distribution at 17 cents per share for the third quarter of 2026. At June 30th, Our quarterly distribution rate represented a 19.2% annualized yield based on the market price of our common stock. We remain focused on improving our long-term returns and portfolio diversification while closely monitoring our leveraged position as we continue exploring avenues to monetize our equity investment and fans deal. Our net asset value per share increased by approximately 3% for 25 cents this quarter to $8.41. As Bilal described, the improvement in our NAV was largely related to unrealized appreciation on our equity investment in Fansteel, which totaled $14.1 million and partially offset by net realized and unrealized losses in our credit portfolio, most pronounced in our CLO equity holdings, totaling $6.5 million. CLO equity continues to experience valuation pressures attributable to spread tightening the underlying loan collateral and overall challenge market sentiment. As Bilal mentioned, during the quarter we placed one loan on non-accrual status representing 3.5% of the total portfolio at fair value. Despite the non-accrual designation, our team is actively engaged with the borrower and other stakeholders as we work to restore accrual status while aiming to maximize long-term recovery. Overall, our loan portfolio at fair value was relatively stable quarter over quarter based on our internal credit ratings. At quarter end, Our regulatory asset coverage ratio was 161%, an increase of 7 percentage points from the prior quarter, a notable improvement. We made $16.7 million of aggregate debt repayments during the quarter, making meaningful progress on our goal to improve our leveraged position. We believe that our actions over the last several quarters to extend our debt maturities and deleverage our balance sheet have improved our operational flexibility as we now turn our attention to new investment deployments and improving our NII. Turning to the income statement, total investment income decreased approximately 23% to $6.8 million this quarter. This was primarily driven by several factors that we projected last quarter with the roll off of the non-recurring $874,000 dividend received from our equity investment and fans deal, as well as the impacts from our ongoing deleveraging efforts, reducing the size of our interest bearing portfolio, and the impact of the new non-accrual investment. Total expenses decreased by approximately 9% during the period to $5.8 million. Decrease was primarily attributable to a $408,000 decrease in the incentive fee, as well as a decline in interest expense related to lower outstanding debt balances. As expected, our net interest margin compressed following the final redemption of our February 2026 unsecured notes completed during the prior quarter which had carried a low 4.75% coupon rate priced during the near zero rate environment in early 2021. Turning to our investments, most of our loan portfolio investments continue to perform to expectations. However, we continue to closely monitor certain borrowers experiencing idiosyncratic stresses. Overall, our non-accrual investments as a percentage of our total portfolio at fair value increased quarter over quarter by 3.7% primarily related to the new non-accrual. With respect to our loan portfolio, we remain committed to being senior in the capital structure with 97% of our loan holdings being in first-line positions based on fair value. From a deployment perspective, we continue to focus on add-on opportunities for growth with our existing issuers while selectively evaluating new opportunities and as of quarter end had $6.0 million in unfunded commitments to our portfolio companies. Based on amortized cost as a quarter end, our investment portfolio was comprised of approximately 66% senior secured loans, 22% structured finance securities, and 12% equity securities. At the end of the quarter, we had investments in 51 unique issuers totaling $297.8 million at fair value. On the interest bearing portion of the portfolio, The weighted average performing investment income yield decreased approximately 0.4% to 12.1% quarter-over-quarter. The decrease in yield was primarily due to the impact of the new non-accrual investment as well as lower yields on our CLO equity securities. This metric includes all interest, prepayment fee, and amortization of deferred loan fee income, but excludes syndication fee income if applicable. With that, I'll turn the call back over to Bilal for concluding remarks.

Thank you, Kyle. As we look ahead, we believe the work we have done over the past several quarters has positioned us well to execute on our priorities. Our focus during that time has been to strengthen our balance sheet by extending our maturities, which now span from 2028 to 2031, and reducing our overall debt by $57.6 million over the past year. With that foundation now in place, we are increasingly focused on prudently deploying capital into attractive interest-earning investments to drive higher net investment income while continuing to maintain our disciplined underwriting standards. We believe our known portfolio remains well diversified across multiple industries, and we continue to emphasize investing higher in the capital structure. We believe this positioning supports resilience across a range of market conditions. Our team's longstanding experience and investment discipline has driven consistent results. Since 2011, the BDC has invested more than $2.1 billion with an annualized net realized loss of just 0.3%, while continuing to deliver attractive risk-adjusted returns on our portfolio. Finally, we continue to benefit from the scale and capabilities of our advisor. With a $4.1 billion corporate credit platform and affiliation with a $32 billion asset management group, our advisor provides deep credit experience and long-standing banking and capital markets relationships. Our corporate credit platform has gone through multiple credit cycles over the last 25 plus years. Importantly, our advisor and affiliates remain strongly aligned with shareholders as they maintain an approximately 23% ownership in the BDC. With that, operator, please open up the call for questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. If you'd like to withdraw your question, please press star then 2. At this time, we'll pause for just a moment to assemble our roster. And that does conclude our question and answer session and today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines and have a wonderful day.