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spk02: Good morning, ladies and gentlemen, and thank you for standing by. At this time, I would like to welcome everyone to the Stellis Capital Investment Corporation's conference call to report financial results for its fourth fiscal quarter ended December 31st, 2022. At this time, all participants have been placed on a listen-only mode, and the call will be open for a question and answer session following the speaker's remarks. This conference is being recorded today, March 1st, 2023. It is now my pleasure to turn the call over to Mr. Robert Ladd, Chief Executive Officer of Stellis Capital Investment Corporation. Mr. Ladd, you may begin the conference.
spk05: Thank you, Ali, and good morning, everyone, and thank you for joining the call. Welcome to our conference call covering the quarter and year-ended December 31st, 2022 conference. Joining me this morning is Todd Huskinson, our Chief Financial Officer, who will cover important information about forward-looking statements as well as an overview of our financial information.
spk03: Thank you, Rob. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of Stellis Capital Investment Corporation and that any unauthorized broadcast of this call in any form is strictly prohibited. Audio replay of the call will be available by using the telephone number and PIN provided in our press release announcing this call. I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking information. Today's conference call may also include forward-looking statements and projections, and we ask that you refer to our most recent filing with the SEC for important factors that could cause actual results to differ materially from these projections. We will not update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at www.steluscapital.com under the Public Investors link, or call us at 713-292-5400. This time I'd like to turn the call back over to our Chief Executive Officer, Rob Ladd.
spk05: Thank you, Todd. We'll begin by discussing our operating results, followed by a review of the portfolio, including asset quality, and then the outlook. Todd will cover our operating results now.
spk03: Thank you, Rob. As interest rates have continued to rise in recent quarters, we continue to benefit from our favorable asset liability mix in which 97% of our loans are floating and only 32% of our liabilities are floating. As a result, we had solid results in the fourth quarter and for fiscal year 2022. First, I'll cover our annual results. For fiscal year 2022, we more than covered the dividend of $1.30 per share with realized income of $1.65 per share, which included 3.7 million of net realized gains for 19 cents per share. Core net investment income was $1.38 per share, and gap net investment income was $1.46 per share. As a reminder, core net investment income excludes the reversal of 2.8 million of capital gains incentive fees accrued on realized and unrealized gains, which are not included in net investment income, and 1.2 million of estimated income taxes. Net asset value decreased by 9.3 million primarily due to, or 59 cents per share year over year, primarily due to portfolio company specific issues offset by realized earnings in excess of our dividends. Turning to the fourth quarter, our total distributions of 34 cents per share were covered through court net investment income of 44 cents per share and GAAP net investment income of 50 cents per share. And with that, I'll turn the call back over to Roth. Okay, thank you, Todd.
spk05: I'd like to now cover the following areas. Light to date review, portfolio and asset quality, dividends, and then outlook. So life-to-date review. Since our IPO in November of 2012, we've invested approximately $2.2 billion in over 175 companies and have received approximately $1.4 billion of repayments while maintaining stable asset quality. We have paid over $207 million of dividends to our investors, which represents $13.35 per share to an investor in our IPO in November of 2012. Now turning to the portfolio. We ended the year with an investment portfolio at fair value of $845 million across 85 portfolio companies. This is up from $773 million across 73 companies as of December 31st, 2021. During 2022, we invested $211 million in 22 new and 28 existing portfolio companies and received $90 million in repayments for net portfolio growth of $90.8 million for the year. With respect to the fourth quarter, we've invested $30 million in four new and two existing portfolio companies and have received repayments of $48 million. At December 31st, 99% of our loans were secured and 97% were priced at floating rates. We continue to move toward first lien loans, which were 87% of our loan portfolio at year end. This is up from 84% at the end of 2021. We're always focused on diversification. The average loan per company is $10.8 million, and the largest overall investment is $21.1 million, both expressed at fair value. And 83 of the 85 portfolio companies are backed by a private equity firm. Overall, our asset quality is stable at a 2 on our investment rating system or on plan. 17% of our portfolio is rated a 1 or ahead of plan. 17% of the portfolio is marked at investment category of three or below plan. In total we have three loans on non-accrual which comprise 2.3% of fair value of the total loan portfolio. Now turning to dividends. We've increased our regular dividend 43% from 28 cents per share per quarter in the first quarter of 2022 to now 40 cents per share per quarter beginning in the first quarter of 2023. This is payable, as you know, in monthly increments. This increase in our dividend reflects the greater earnings that we are generating in this higher interest rate environment in which our loan portfolio is over 97% floating and our liability structure is over 65%, pardon me, over 65% fixed rate. As a reminder, part of our strategy has been to invest in the equity of our portfolio companies in a modest way in order to generate realized gains sufficient to offset losses over time. As our business has matured over the last 10 plus years, we began to see somewhat regular realized gains from our portfolio. And during 2022, we generated 3.7 million of net realized gains. And now turning to Outlook. As a reminder, across our platform of Stellis Capital Management, our total assets under management is approximately $2.8 million. This additional capital allows us to invest in larger transactions, remain active in the market when SEIC has limited capital, and helps us build our portfolios in a diversified way. Since year end, we've funded $25.5 million at par in two new and one existing portfolio companies and have received no repayments. This brings our portfolio to approximately $870 million today, which is where we would expect it will finish the quarter at the end of March. Finally, repayments and equity realizations seem to be slowing, but we expect to be able to maintain our investment portfolio between $850 and $900 million throughout the year of 2023. And with that, we'll open it up for questions. Thank you. And Ali, would you please start the Q&A session?
spk02: Thank you. The floor is now open for questions. If you have any questions or comments, please press star 1 on your phone at this time. We ask that while posing your question, you please pick up your handset, if listening on speakerphone, to provide optimum sound quality. Please hold while we poll for questions. Thank you. Our first question is coming from Eric Zwick with Hovda Group. Please pose your question.
spk04: Hi, good morning. First, just wanted to kind of get your thoughts a little bit on the new dividend level at 40 cents a share. I'm just curious, you know, certainly the interest rate environment continues to go up and that'll be luckily additive to earnings, but at some point a couple of years out, you know, could normalize. So just wondering if you could kind of frame your confidence in having the dividend that's level relative to the outlook for longer term earnings at this point.
spk05: Yeah, sure. So in setting the dividend for this year, certainly the first quarter, we expect for the year to earn more than that level of $1.60 or 40 cents a quarter. So we're keeping in mind that rates could certainly moderate in the future. And if you look at the forward curve, we should be able to maintain this level of dividend based on earnings for at least a couple of years, if not longer.
spk04: Thanks. And switching gears to credit, as you pointed out, non-accrual is still very, very minimal at this point. There's obviously a lot of concern that the economy may be dipping into a more kind of stressful environment, which could impact some lenders and some businesses. So just curious, one, are you seeing any signs of any of the business activity weakening for any of your borrowers? And also, are you experiencing any increase in amendment requests at this point?
spk05: Yes, so in terms of any stress, not a material amount. I think what's been true for us historically is, given our underwriting, that if we have concerns, it's more company-specific than kind of a broad-based impact. So I'd say that the portfolio is held up relatively well. We'll always have company-specific issues. And I'm sorry, the second part of your question?
spk04: Just if you've seen any increase in amendment requests from any portfolio companies.
spk05: Yeah, we have not. Now, one thing I'll share is that, you know, as rates continue to increase, you certainly reach a level where you could have some more stress on portfolio companies, but we think we've got good ways to run before that will, higher rates will be impactful.
spk04: And then last one for me and I'll step aside. Just curious if you could update me on the value of spillover income at this point and how you think about that either as supporting the dividend or potential for maybe a special dividend at some point.
spk03: Yeah, so I'll turn that over to Todd. Yeah, sure, Eric. So our current spillover level from last year into this year is a little over $28 million. And our dividend at the current level and the current number of shares is about $31 million of dividends. So for this current year, our regular $1.60 a share will a little bit more than pay out the spillover. And then we'll pay out a little bit of the current year earnings as well. All other things being equal and kind of what we would expect from this year's earnings going into the following year if we continue with the $1.60 dividend. dividend, then there might need to be a special dividend at the end of that year just because we expect to out-earn the $1.60 dividend. But the way I think about it is we want to earn our dividend from realized income, which we always have, and then we also have a substantial amount of spillover that's available to support that dividend as well.
spk05: Maybe just to add to that, so as we look forward, there could be a need next year for a special dividend, but we're a good ways off from that.
spk04: Great. Appreciate the comment. Thanks for taking my questions today.
spk05: Yeah. Thank you, Eric.
spk02: Thank you. Our next question is coming from Robert Dodd with Raymond James. Please pose your question.
spk01: Hi, guys, and congrats on the quarter. And back to that point, I mean, to your point, Todd and Rob, you talked in the past about earning the dividend from realized income, and you can already earn it from pure NRI in the near term. You said, Rob, that I think equity gains are likely to slow this year. I mean, that's probably part of the cycle. Do you... hypothetically expect them to be slow for a year or have you capped, you know, is there an age vintage component in that in terms of like they're going to be slow for, you know, more than a year and then come back sometime down the road? Any color you can give on that and then also I'll wrap it all up for you.
spk05: Sure, yeah, no, no, it's a good clarifying question, Robert. So this is just to share as we try to each quarter kind of the cadence of activity, level of activity that we're experiencing and whereas in previous quarters we could tell and there were things on the horizon and just at this point there's nothing on the horizon. But we've learned over time that will change But it's not a vintage issue. I think it's just probably a state overall of the M&A market and just expected to be slower. And I would couple that with what may be more importantly is that repayments seem to have slowed for the moment. But, again, I wouldn't call this a long-term phenomenon, and you could very well pick up as we get into the middle of the year.
spk01: Got it. Thank you. And on kind of just conceptually long-terms, What would you, this is a qualitative question, probably, how much of your total realized earnings would you expect to come from NII versus realized gains on average, kind of in the long run?
spk05: I'm sorry, Robert, on average and over what period of time?
spk01: Going forward, just long-term, how much should we expect to come from NII versus NII? Sure. They both generate value, and they both contribute for dividend funding, but I'm just trying to get... Sure, sure.
spk05: So I'd say for the foreseeable future, again, based on the forward curve, which has now risen up some more, that we would expect to have robust NII... out into the future and not need realized gains to support the dividend, which I know is not exactly what you've asked, but just to clarify that. And then with respect to realized gains, as a percentage, it probably could be something like 10-ish percent or so of earnings. As a nominal percentage, it's typically 5% of the portfolio, but because of the magnitude of what it can generate, could be outsized. we would still expect it to be a modest percentage, but overall meaningful. And then in a conservative way that we look at it is that it would cover realized potential losses of credit losses. But in the event we would expect to be positive and put it in the 10% range, I think.
spk03: Robert, I just might add that's historically been the case. We've effectively covered our dividends through NII throughout our history. I mean, there have been times when the realized gains have come in handy, but for the most part, it's been coming from NII.
spk01: Understood, and to that point, I mean, over time, your realized gains have been greater than your realized losses, which goes to more funding on that front as well. What are you seeing in the environment right now? You expect the portfolio to be $850 to $900 this year, kind of stable in the first quarter. Is this a year of rotation, a few repayments, a few additions, or or do you do you expect larger scale rotation in the second half or can you give us any color about how that how you think the year might might play out in terms of activity level sure sure so so a few thoughts one uh because of our capital base um you know we're
spk05: kind of reach a top portfolio around 900 million or so. So we're operating within the range. We have liquidity right now to get us to that point. So that's about where we tap out. So I think in terms of activity that we're seeing, pardon me, and continue to see a number of opportunities throughout the country, that's why we'd be comfortable being in that range. And then what of course is helpful that as we get repayments, we'll get the benefit of fee acceleration. and so repayments are helpful to us as we stay in the range. In terms of activity, a little bit slower in the first quarter as a platform. Certainly expect that to pick up in the second, and then short of a significant recession in the country, likely to be picking up more in the third and fourth quarters. The real point I wanted to make, though, is that it doesn't take a lot of activity for our investment portfolio to be full here.
spk01: Got it, got it. Appreciate it. Thank you.
spk05: Yeah, thank you, Robert.
spk02: Thank you. Our next question is coming from Ryan Lynch with KBW. Please pose your question.
spk06: Hey, good morning. First one I had was just what percentage of your portfolio is sponsored back versus non-sponsored?
spk05: Yes, so in terms of number of companies, as I said earlier, it's 83 out of 85, so 95% plus. Okay.
spk06: Sorry, I missed that if you said that earlier.
spk05: No, no worries.
spk06: Yeah, the other question I had was, obviously there was a very big jump in NII quarter over quarter, which was expected given your guys' positioning for rising rates. I'm just curious, as we turn the page and look at Q1, I'm trying to get a sense of should we expect a similar jump in NII from Q4 to Q1 or a lesser jump or there's a couple of different ways to also think about it. Have you guys run what fourth quarter NII would have been if base rates at 1231 were in fact that whole quarter and or Could you provide the average base rate that your portfolio had for the duration of the fourth quarter? There's a couple different questions in there, but I'm just trying to get a sense of the potential growth in Q1. I think there's a couple different ways to think or look at it or disclose it.
spk05: Sure. Let me take a shot at it first and see if Todd wants to add. The fourth quarter was a little bit unusual in that we had some fee acceleration. And then also if you look at just NII, it was affected by, as Todd said earlier, the reversal of some capital gains incentive fee. So I'd say that we would expect in the first quarter to be less than the 50 cents of GAAP NII, but still a number that would exceed the dividend. And then in terms of core NII, likely we'll be up over the quarter reflecting the higher rate. So if it's helpful, yes, we expect kind of as all things being equal to have greater earnings in the first quarter, frankly, and in the second quarter more because rates have moved up again. And then in terms of rates to think about, we ended the fourth quarter where LIBOR was about 375. we ended the first quarter where LIBOR was closer to $475, and we're likely to enter the second quarter where LIBOR is over $5. So think of it as, and then we have repricing during the quarter. Some are on monthly pay and repriced monthly. But again, you kind of have to take out some quarter over quarter changes in other items. But I'll just start over again then. to say that we expect earnings to be higher, all things being equal in the first over the fourth and the second over the first.
spk06: What was the level of accelerated? So maybe what was the level of accelerated fees in the fourth quarter versus what you guys have kind of, and I know it's lumpy, but sort of an average run rate that you guys would expect to experience?
spk05: Todd will pull it up, but I want to say roughly half a million or more
spk06: in the fourth quarter than we're expecting in the first yeah that's right okay um and then just my last question and um you know i know you you talked about um kind of portfolio growth expectations for q1 as well as where you guys expect to operate um you know kind of throughout 2023 but but i was just curious as kind of a thought process um You guys are one of the more highly leveraged BDCs on a total leverage basis, not from a regulatory leverage, but a total leverage basis. Rising base rates have really significantly benefited your portfolio and allowed significant growth at NII as well as your operating ROEs. Has there been any consideration to lowering the total leverage level which obviously would reduce ROEs, but since ROEs are so high today, given rising base rates, you could still generate a very strong operating ROE. Has there been any consideration to, you know, using this higher base rate environment to reduce, you know, overall total leverage on the balance sheet?
spk05: So, Ryan, we really haven't focused on it. I think the reason is that if you think about the leverage – that allows us to go from the low ones to the low twos, it's the SBIC debentures. And so those, so this is of course where our shareholders are benefiting from our two licenses with the SBA and the lower cost of funding that we've effectively been locking in now for some time. So if it were non-SBA leverage that had different terms, and different maturities, shorter maturities, that would certainly be something to consider, but we think this is the right leverage, so think of it as, as you say, as one to one, excluding the debentures, a little over two to one, including the debentures, and we think this is the right way to operate and really reward our shareholders for being with us so many years and now benefiting from this interest rate environment.
spk06: Okay, yeah, I understand that. Because I kind of think there's maybe two ways to think about it. One is we want to generate X minimum level of ROE, and to the extent that we get significantly above that, we can toggle back risk by decreasing leverage on the balance sheet and still generate a healthy ROE. The other one is we're going to put a certain amount of leverage on these assets that we think are appropriate, and the ROE will toggle depending on various factors, including right now base rates have an influence, so it sounds like you're more in that latter camp.
spk05: I think that's right, and then if you go back two years when we had a different rate environment, we thought this was the right leverage to operate at, so this wouldn't change our opinion. Now, if we felt that macro factors were much riskier, and we had great concerns about other matters, then it would be prudent, Ryan, to look at reducing, and in that case, the leverage we would reduce would be our regular weight leverage, like under a bank facility, but we currently operate that facility. It's borrowings in the low 200 millions, and it has commitments up to 260. So we've got capacity there. So I think that's part of our calculus is that a fair amount of regular way leverage that's unused and is there for unfunded commitments, et cetera. So I think we're at the right spot, but it's a good point to raise and we'll certainly consider over time, but we think our overall view of the economy and our portfolio would indicate that this is still an appropriate leverage level.
spk06: Okay. Understood. I appreciate the time today.
spk05: Thank you, Ryan.
spk02: Thank you. Our next question is coming from Christopher Nolan with Ladenburg Thalman. Please post your question.
spk00: Hey, guys. Hey, Rob. Could you expand on Ryan's question a little bit? What is your broader economic view right now that guides your investment decisions?
spk05: So I'd say overall, We think the economy has certainly had wins, but has not materially changed the overall economy. Certainly inflation is of concern and has popped back up, at least on a monthly basis. So we would be cautious, but we don't see any significant downturn in the foreseeable future. The one thing that will impact the economy and all of our portfolios is if you have higher and higher interest rates. And so as an example, if you went from a SOFR level today, which is in the high fours to the high sixes or in sevens, that would be impactful. But at the current level, our portfolio can withstand higher rates, certainly within the 100 to 200 basis points level. So I'd say cautious, but But if it's helpful, again, our overall business is to support private equity firms acquiring new businesses, professionalizing them, creating great value for their investors and therefore for ours. So the MA activity is still very good in the country, and we think it's a very good place to be investing. So we're cautious but positive, and we expect to be quite active during this year.
spk00: Also, given the changing interest rate environment where you now have an inverted yield curve, would there be any scenario where you guys would actually start trying to become more liability sensitive? Would you actually, you know, you start seeing the top of the interest rate tightening cycle and you expect, you know, an easing cycle to start. Would you take appropriate measures whether through hedges or anything to try to protect your margins to a low declining interest rate environment?
spk05: You know, it's a good thought, Chris. We've taken the approach over time that just kind of float, if you will, with the market. And so one approach one could take would be, though, could you lock in some of our loans at fixed rates, at higher rates with borrowers? That would be one approach one could take. Whether that would be interesting to our borrowers is another matter. But I think that we like the approach of just... having the market rates that we get, and then we certainly would look at it, but I would think of us not as a firm that would be hedging interest rates.
spk00: My final question is, how many quarters of expanding investment spreads do you anticipate?
spk05: So it looks like, based on the curve, that the expansion of rates will end this year. So that would be our... We've learned to just go with the forward curve. So I recall, Todd, it expands into the third, kind of starts coming back or flattening in the third or fourth quarter of this year. So we don't expect more than that, although certainly there's some talk that it is going to go higher, but we would just go with the forward market curve.
spk00: Thanks for me. Thank you. Yeah, thank you, Chris.
spk02: Thank you. There are no further questions in queue. At this time, I would like to turn the call back to Mr. Ladd for any closing comments.
spk05: Okay, great. Thank you very much, Ali, and thank everyone for your support on being on the call. And then we'll report, of course, the first quarter in early May. I look forward to speaking with you then.
spk02: Thank you, ladies and gentlemen. This does conclude today's conference call. You may disconnect your lines at this time and have a wonderful day. and we thank you for your participation.
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