Q1 2024 Monroe Capital Corp Earnings Call

Participants

Theodore Koeing; President and Chief Executive Officer; Monroe Capital Corp

Mick Solimene; Chief Financial Officer, Chief Investment Officer, Corporate Secretary; Monroe Capital Corp

Alex Parmacek; Managing Director, Deputy Portfolio Manager - Wealth Management Solutions; Monroe Capital Corp

Chris Nolan; Analyst; Ladenburg Thalmann & Co. Inc.

Presentation

Operator

Welcome to Monroe Capital Corporation's first-quarter 2024 earnings conference call.
Before we begin, I would like to take a moment to remind our listeners that remarks made during this call today may contain certain forward-looking statements, including statements regarding our goals, strategies, beliefs, future potential, operating results, and cash flows. Although we believe these statements are reasonable based on management's estimates, assumptions, or projections as of the date May 9, 2024, these statements are not guarantees of future performance.
Further, time-sensitive information may no longer be accurate as of the time of any replay or listening. Actual results may differ materially as a result of risks, uncertainty, or other factors, including but not limited to, the risk factors described from time to time in the company's filings with the SEC. Monroe Capital takes no obligation to update or revise these forward-looking statements.
I will now turn the conference call over to Ted Koenig, Chief Executive Officer of Monroe Capital Corporation. Please go ahead.

Theodore Koeing

Good morning, and thank you to everyone who has joined us on our call today. Welcome to our first quarter 2024 earnings call. I am here with Mick Solimene, our CFO and Chief Investment Officer; and Alex Parmacek, our Deputy Portfolio Manager.
Last evening, we issued our first-quarter 2024 earnings press release and filed our 10-Q with the SEC. On today's call, I'll begin by addressing our first-quarter results and then some perspective on current market conditions.
I'm pleased to report that for the 16th consecutive quarter, our adjusted net investment income covered our $0.25 per share dividends. MRCC delivered a total annualized dividend yield on our trading price of nearly 14% using our May 7, 2024, closing share price. We are proud of our track record of delivering stable and consistent dividends to our shareholders.
In the first quarter of 2024, our adjusted net investment income was $5.5 million or $0.25 per share, a slight decrease from $5.6 million or $0.26 per share last quarter. We reported NAV of $201.5 million or $9.30 per share as of March 31, 2024, compared to $203.7 million or $9.40 per share as of December 31, 2023. The 1.1% decline in NAV was primarily due to net unrealized losses attributable to certain portfolio companies that have underlying credit performance concerns.
MRCC's debt-to-equity leverage increased from 1.49 times debt to equity at December 31, 2023, to 1.6 times at March 31, 2024. While MRCC's average leverage during the quarter was lower than during the prior quarter, we made various debt and equity investments into new portfolio companies later in the quarter, which resulted in increase in leverage as of March 31, 2024, compared to December 31, 2023.
We continue to focus on managing our investment portfolio and selectively redeploying capital resulting from repayments into attractive new investment opportunities. Our portfolio continues to demonstrate solid revenue and EBITDA growth and is positioned to weather an increasingly likely higher for longer interest rate environment, given the sound interest coverage portfolio management.
Remains our primary focus in the face of a volatile and uncertain macro-economic environment where borrowing costs are elevated for our portfolio companies. Our portfolio risk rating distribution has been relatively stable despite a higher interest cost borrowing environment. While we did see a slight increase in our nonaccrual, 1.1%, we believe that the recent challenges faced by the companies on non-accrual are primarily idiosyncratic. They're not indicative of broader or fundamental issues within the portfolio.
Over the course of two decades, Monroe has established a time-tested playbook and proven track record of navigating and turning around underperforming investments. We are confident that we can and will continue to maximize outcomes and deliver value for our shareholders.
Turning now on our view from a macro market environment, through the early part of 2024, M&A activity and loan volumes have been down compared to the fourth quarter of 2023. That represent a year-over-year increase of 41% for LSEG LPC's first-quarter 2024 middle-market analysis. While activity levels in the overall market have been relatively low, our positioning in the lower-middle market has allowed us to see a steady flow of investment opportunities to selectively execute on.
Our lower-middle market focus and ability to provide flexible capital solutions with low execution risk to our borrowers has proven to be a true differentiator. We expect that transaction activity will accelerate throughout the year as inflation and interest rates suddenly normalized. Further, private equity investors are actively seeking to deploy dry powder and LP capital, which is another factor supporting higher levels of activity.
These favorable market dynamics driving an increasingly active M&A environment will provide us with opportunities to rotate out of legacy assets and into attractive newer vintage assets. Concurrently, we have seen heightened competition in the credit markets. This has resulted in the tightening of spreads across the middle market spectrum. Although spreads have generally experienced compression, loan-to-value attachment points have held relatively stable.
Given the high base rate environment, gross yields in our segment of the middle market continue to be attractive. This dynamic continues to offer direct lenders, such as Monroe Capital, compelling risk-adjusted returns as MRCC's effective yield remains at an attractive rate of nearly 12% on a predominantly senior secured loan portfolio.
Syndicated and bank deal activity has also accelerated, although direct lending still executes on a dominant share of the deal volume. Per Refinitiv, direct lenders still account for nearly three times the middle market deal volume of banks and the syndicated markets. In this increasingly competitive landscape, we will lean on our best-in-class originations team to source new investment opportunities while continuing to leverage our lower-risk incumbency lending opportunities within the portfolio.
Our ability to consistently generate deal flow through our existing portfolio has allowed us to retain higher-quality assets while maintaining a highly selective approach with our originations, underwriting, and deal execution. MRCC enjoys a strong advantage of being affiliated with a best-in-class middle-market private credit manager with approximately $19 billion in assets under management, supported by a deep team consisting of approximately 250 employees, including 110 dedicated investment professionals as of April 1, 2024.
We continue to focus on generating adjusted net investment income that meets or exceeds our dividend and achieving positive long-term NAV performance.
I am now going to turn the call over to Mick, who's going to walk through with you our financial results in greater detail.

Mick Solimene

Thank you, Ted. As of March 31, 2024, our investment portfolio totaled $500.9 million, a $12.5 million decrease from $488.4 million as of December 31, 2023. Our investment portfolio consisted of debt and equity investments in 98 portfolio companies compared to 96 portfolio companies at the end of the prior quarter.
During the quarter, we funded $10.2 million to 3 new portfolio companies consisting of debt investments of $8.6 million at an effective interest rate of approximately 11.1% and $1.6 million of equity investments. Further, we had revolver and delayed draw fundings and add-ons to existing portfolio companies of $14 million. In the quarter, we received one full payoff for $7.9 million. This portfolio -- this payoff was related to a portfolio company that was previously rated a Grade 3 in our investment performance risk rating scale, and this deal was fully repaid at par.
Finally, we incurred $4.2 million of partial and normal-course paydowns during the quarter. At March 31, 2024, we had total borrowings of $321.7 million, including $191.7 million outstanding under our floating rate revolving credit facility and $130 million of our 4.75% fixed rate 2026 notes. Total borrowings outstanding increased by $17.6 million during the quarter as we utilize the revolving credit facility to fund new and existing portfolio company investments. At quarter end, the revolving credit facility had $66.3 million of availability, subject to borrowing base capacity.
Now turning to our financial results, adjusted net income, in non-GAAP measure was $5.5 million or $0.25 per share this quarter compared to $5.6 million or $0.26 per share in the prior quarter. The slight decrease in adjusted net investment income during the quarter was primarily driven by a decrease in total investment income, primarily resulting from a reduction in average investment and average invested assets over the period.
Our effective yield decreased slightly during the quarter from 12.1% at December 31, 2023, to 11.9% at March 31, 2024. This reduction in effective yield was primarily driven by the movement of two of our investments to nonaccrual during the quarter. When considering current leverage levels, the interest rate environment in the favorable percentage of our [funded leverage] at a fixed rate, we believe that on a run rate basis, our adjusted net investment income will continue to cover our current $0.25 per share quarterly dividend, all other things being equal.
As of March 31, 2024, our NAV was $201.5 million, which decreased from $203.7 million at NAV as of December 31, 2023. Our corresponding NAV per share decreased by $0.10 from $9.40 per share to $9.30 per share. The declining NAV this quarter was primarily a result of net unrealized losses attributable to (technical difficulty) few portfolio companies that as of March 31, 2024, had Grades of 3, 4, or 5 on our investment performance risk rating scale. These mark-to-market unrealized losses were partially offset by net gains on the remainder of the portfolio.
I will now turn it over to Alex, who will provide more details on our first-quarter operating performance.

Alex Parmacek

Thank you, Mick. Looking to our statement of operations, investment income totaled $15.2 million during the first quarter of 2024, slightly down from $15.5 million in the fourth quarter of 2023. Results of the fourth quarter 2023 included the reversal of previously accrued fee income associated with the company's former loan investment in IT Global. Excluding the impact of the fee income reversal, investment income decreased by $800,000, primarily due to the decrease in the size of the average investment portfolio during the quarter.
In the first quarter, we placed two new investments on nonaccrual at an aggregate fair market value of $4 million. As of March 31, 2024, we have seven investments on nonaccrual status, representing 2.1% of the portfolio at fair market value, a modest increase from the 1.5% of the portfolio of fair market value as of December 31, 2023.
Now shifting over to the expense side, total expenses were $9.7 million for the first quarter of 2024 compared to $10.2 million of total expenses for the fourth quarter of 2023. A decline in income taxes, including excise taxes, and a decline in interest and other debt financing expenses due to the reduction in MRCC's average debt outstanding throughout the quarter resulted in the reduced expense base. The decrease in the income taxes, which include excise taxes, was primarily the result of the decline in income tax expense associated with larger entities that hold certain of MRCC's equity investments.
Our net loss for the quarter was $2.3 million compared to a net loss of $3.7 million from the prior quarter. These net losses were primarily attributable to unrealized mark-to-market losses on the portfolio companies that as of March 31, 2024, had Grades of 3, 4, or 5 in our investment performance risk rating scale. These mark-to-market unrealized losses were partially offset by net gains on the remainder of the portfolio.
Turning now to SLF, as of March 31, 2024, SLF had investments in 41 different borrowers aggregating $116.4 million at fair value. The SLF's underlying investments are loans to middle market borrowers that are generally larger and more sensitive to market spread movements than the rest of MRCC's portfolio, which is focused on the lower middle market companies.
In the quarter, the average mark on the SLF portfolio decreased slightly by approximately 2% from 90.9% of amortized cost as of December 31, 2023, to 88.9% of amortized cost as of March 31, 2024. Consistent with the prior quarter, MRCC received an income distribution from SLF of $900,000.
As of March 31, 2024, SLF had borrowings under its nonrecourse credit facility of $58 million, with $52 million available capacity subject to borrowing base availability. At this point, I will turn the call back to Ted for some closing remarks before we open up the line for questions.

Theodore Koeing

Thank you, Alex. To conclude, we remain confident in the overall quality of the portfolio and its ability to navigate the higher for longer credit environments. Our focus continues to be on portfolio management, and we remain steadfast in executing on our plans to optimize recoveries for each of our more challenging investments.
Further, our predominantly first-lien portfolio carries an average effective yield of 11.9%, offering compelling risk return dynamics to our investors. MRCC continues to deliver stable and consistent dividends for our shareholders. This quarter marked the 16th consecutive quarter where our net investment income has met or exceeded our dividends. Our dividend yield is an attractive rate of nearly 14% as of May 7, 2024.
We believe that Monroe Capital Corporation, which is affiliated with an award-winning best-in-class external private credit manager, with around $19 billion in assets under management, provides a very attractive investment opportunity to our shareholders and to other investors.
Thank you all for your time today. And this concludes our prepared remarks, I'm going to ask the operator to open the call now for questions.

Question and Answer Session

Operator

(Operator Instructions) Chris Nolan, Ladenburg Thalmann.

Chris Nolan

I want to compliment you on sustaining the dividend. I don't think I know of another BDC, which has maintained the same base dividend for as long as you guys have, so kudos to you.
On that, going forward, given everything going on, if necessary, would you reinstitute the management fee waiver to support the dividend?

Theodore Koeing

That's a good question, [Bryce]. Historically, we've been very aligned with our shareholders. If you look at historical practice over the last 10 years, 12 years since we've been public, from a management company standpoint, we've taken actions to ensure that our alignment with shareholders continues. And I don't see any reason that that will change in the near future.

Chris Nolan

Perfect. And then can we get an idea in terms of direction of leverage ratios seem high?

Mick Solimene

Hi, Chris. This is Mick. Thanks for the question. So we're targeting maintaining leverage, kind of,1.5 to 1.6 times range. We've been at that range for the past handful of quarters. We're at the higher end of the range this quarter due to some -- just some of the ins and outs of the portfolio. And our current pipeline supports this guided leverage range that we've looked -- as we look at the ins and outs of it. And we do remain comfortable with this range, given the fact that that portfolio is in decent shape and is primarily tilted in the direction of our first lien.

Chris Nolan

Got you. Just two more quick questions. The SLF, which invests in larger companies, more mature companies, but the asset quality over recent quarters, that seems to be a little bit lower than I would have expected and the markdown in the fair value ratio from 90.9 to 80.8. It's also interesting. I'm just trying to get an idea what's going on with that.

Mick Solimene

Yeah, it's a really good question, Chris. As a refresher, SLF is comprised of loans primarily made to upper middle market companies. We've been cautious around the upper end of market during most of 2023, early 2023 and '24, because of the economic headwinds and looser structures and higher leverage and loan-to-value attachment points in that portfolio.
Our nonaccrual percentage is a tad higher in this portfolio. We're standing at around 9% non-accrual rate on a fair market value basis, up from call it 3.5% at the most [poor] end. So we're cautious about this portfolio. We're considering the reentry point in terms of reinvesting in these kinds of assets. We did have a bunch of paydowns in the last quarter and many of them are unexpected, in a good way. But we do have a little bit of a more cautious approach, just given the nature of that market and the low higher attachment points, looser structure in that business.

Operator

(Operator Instructions) As there are no further questions at this time. This concludes our Q&A session. I would like to turn the call over back to Ted Koenig for brief closing remarks.

Theodore Koeing

I want to thank everyone today for the call. As always, please feel free to reach out to Mick or to Alex on an interim basis, if you have any questions, and we look forward to speaking with you again soon next quarter. Thank you.

Mick Solimene

Thank you, everybody.

Operator

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.