Goldman Sachs BDC Inc (GSBD) 2018 Q1 法說會逐字稿

Good morning. This is Ian, and I will be your conference facilitator today. I would like to welcome everyone to the Goldman Sachs BDC Inc. First Quarter 2018 Earnings Conference Call. (Operator Instructions) I will now turn the call over to Ms. Katherine Schneider, Head of Investor Relations at Goldman Sachs BDC. Katherine, you may begin your conference.

Thanks, Ian. Good morning, everyone. Before we begin today's call, I would like to remind our listeners that today's remarks may include forward-looking statements. These statements represent the company's belief regarding future events that, by their nature, are uncertain and outside of the company's control. The company's actual results and financial condition may differ, possibly materially, from what is indicated in those forward-looking statements as a result of a number of factors, including those described from time to time in the company's SEC filings. This audio cast is copyright material of Goldman Sachs BDC Inc. and may not be duplicated, reproduced or rebroadcast without our consent.

Yesterday, after the market closed, the company filed a preliminary proxy statement with the SEC. The company will also file with the SEC a definitive version of the proxy statement that will be sent or provided to stockholders when available.

The information contained in the preliminary proxy statement is not complete and may be changed. The company stockholders and other interested persons are advised to read the preliminary proxy statement and when available, the definitive proxy statement in connection with the board solicitation of proxies for the meeting because they will contain important information about the proposal.

Stockholders are able to obtain copies of the preliminary proxy statement and once available, will also be able to obtain copies of the definitive proxy statement without charge at the SEC's website at www.sec.gov or by contacting the company's media contacts noted in the company's press release.

In addition, yesterday, after the market closed, the company issued an earnings press release and posted a supplemental earnings presentation, both of which can be found on the homepage of our website at www.goldmansachsbdc.com, under the Investor Resources section.

These documents should be reviewed in conjunction with the company's Form 10-Q filed yesterday with the SEC. This conference call is being recorded today, May 4, 2018, for replay purposes.

With that, I'll turn the call over to Brendan McGovern, CEO of Goldman Sachs BDC.

Thank you, Katherine. Good morning, everyone, and thank you for joining us for our First Quarter Earnings Conference Call. Before getting into our first quarter financial results, I'd like to start by discussing the Small Business Credit Availability Act, which as you're probably aware was passed into law in late March and which permits GS BDC to decrease its asset coverage requirement from 200% to 150% subject to either board or shareholder approval.

This reduction in the asset coverage requirement is what's commonly referred to as increase in the maximum permitted debt-to-equity ratio from 1:1 to 2:1.

We issued a press release and preliminary proxy statement last night, which describes that we will be seeking stockholder approval at our; upcoming annual meeting on June 15 to permit the company to avail itself of the increase in leverage permitted by the law.

Importantly, if this proposal is approved by our shareholders, GSAM, the company's investment advisor, will reduce its base management fee from 150% of -- 1.5% of gross assets to 1% of gross assets beginning immediately following shareholder approval. The company's Board of Directors unanimously recommends that shareholders approve this proposal.

We believe that granting the company increased balance sheet flexibility by allowing for a wider range of leverage levels together with a significant reduction in the base management fee is in the best interest of our shareholders.

Our decision to pursue these changes is based on a careful analysis and incorporates feedback from a number of key stakeholders.

Most importantly, we believe that the added balance sheet flexibility will allow us to pursue increased returns on shareholders' equity, while also allowing us to invest in the lower-risk, lower-yielding loans.

Based on our existing maximum permitted debt-to-equity ratio of just 1:1, these lower-risk, lower-yielding loans are currently dilutive to our targeted shareholder returns.

We believe greater flexibility in asset selection is strategically important for a permanent capital vehicles such as GS BDC, which will invariably be investing capital through different credit cycles.

Our approach to implementing additional leverage will continue to be rooted in thoughtful risk analysis that considers the magnifying effect that leverage has on asset returns.

I'd like to pause at this point and emphasize that we do not intend to simply add additional leverage across the board to our existing asset mix. Instead, we expect to consider increasing leverage on certain lower-risk assets, while leverage levels on other assets may be left unchanged or even reduced.

An example of how we have done this in the past is the selection of assets and leverage levels in our Senior Credit Fund.

As a reminder, our Senior Credit Fund is comprised almost exclusively of lower-risk first lien loans. Given this asset profile, we have historically leveraged the Senior Credit Funds portfolio at a debt-to-equity ratio of between 1.5:1 and 2:1.

This strategy has performed exceptionally well since inception. The company has earned approximately a 13% IRR on its investment with no net realized capital losses and no nonaccruals.

As we have described to our shareholders before, our approach to investing is to seek the best risk-adjusted returns in a borrowers capital structure based on a fundamental bottoms-up review of the borrower, its business model and its prospects.

While this approach will remain unchanged, we expect that over time, our asset mix will shift toward a higher percentage of first lien loans that may have lower yields, which we -- but which we believe also carry a lower risk.

Assuming we are successful in regenerating these assets, we would expect our leverage level to increase in tandem. Then we would also expect to maintain an appropriate cushion relative to the 2:1 statutory limit consistent with our long-standing risk management policies.

I would also note that as we look over the horizon and think about other market environments that could come to pass in the future, we do not intend to be dogmatic and only pursue lower-yielding, lower-risk first lien loans.

There, undoubtedly, will be times in issuer specific deals when junior loans with higher yields will offer better risk-adjusted returns.

In those environments and situations, we'd expect our leverage profile to come down commensurately and reflect the higher asset risk that we might be assuming.

Reduction in the asset coverage requirement provides benefits in addition to expansion of the company's investment strategy that I've described in detail.

In particular, the company will have a greater ability to raise capital from sources other than public equity capital markets. This is important in order to capitalize on investment opportunities that present themselves at times when equity capital market conditions might not be favorable. Additionally, the larger capital base resulting from the increased leverage level is likely to drive even greater deal flow to the company as it becomes a more meaningful participant in private debt markets.

Finally, a lower asset coverage requirement gives the company an enhanced ability to make distributions to shareholders that are required under tax regulations in order to maintain pass-through tax treatment.

We believe these are important reasons shareholders should consider when voting on the proposal to reduce the asset coverage requirement.

Though, all listed BDCs in the industry now have the potential to increase leverage levels in the manner we are proposing. We believe that GS BDC is uniquely positioned to benefit from this change.

First, the increase in the debt-to-equity ratio places more importance on careful risk management. GS BDC benefits from the best-in-class risk infrastructure provided by the Goldman Sachs platform.

Second, the availability and terms of financing become a critical driver of shareholder returns as debt-to-equity ratios increase.

Hereto, GS BDC benefits from the relationships and capital markets expertise on the Goldman Sachs platform as we seek to optimized financing.

Third, as I mentioned previously, we have a track record of implementing an investor strategy, utilizing higher levels of leverage on lower-risk, lower-yielding assets.

This strategy has produced strong shareholder returns as evidenced by the success of our Senior Credit Fund.

Taken together, we believe these factors provide significant positive differentiation from the other competitors in the BDC industry. I now want to spend a moment discussing the 50 basis point reduction in the base management fee that will be implemented if shareholders approve the proposed decrease in the asset coverage requirement.

The board and GSAM are in strong agreement. The shareholders should benefit from the economies of scale that an increase in GS BDC's leverage ratio will provide.

In addition, the board and GSAM consider that borrowing cost may increase as additional leverage is incurred, while asset yields may decline as the company pursues lower-risk first lien assets.

In an effort to support the increased returns on equity, that'll be objective of the proposed increasing leverage, both the board and GSAM believe reduction in the base management fee is appropriate.

Reduction in the base management fee to 1% of gross assets will go into effect immediately following shareholder approval of the decrease in the asset coverage requirement.

The board and GSAM strongly believe that GSAM is both well aligned and well incentivized to continue pursuing strong returns on shareholders' equity, and accordingly, GSAM's incentive fee structure will not be altered.

With that, let me dive into first quarter results. We are pleased to report another solid quarter for our shareholders. Net investment income per share was $0.47 in Q1, which equates to a 10.4% NII return on common equity.

Our net investment income covered our dividend by 104% during the quarter, representing the 11th consecutive quarter that net investment income exceeded the dividend.

We believe that this performance is a result of attractive yields on our assets combined with a low operating expense structure.

As we announced after the market close yesterday, our board declared a $0.45 per share dividend payable to shareholders of record on June 29. This equates to a dividend yield of 9.9% based on net asset value per share at the end of Q1.

Moving on to investment performance and credit quality. Overall, credit quality was stable in the quarter.

On a weighted average basis, our portfolio companies experienced solid revenue and earnings growth over the past 12 months.

At the end of the quarter, we had one investment on nonaccrual status, representing just 0.1% of the investment portfolio at cost and 0% at fair value.

With that, let me turn it over to Jon Yoder.

All right, great. Thank you, Brendan. So the first quarter of the year is typically slow for deal flow as it often follows the flurry of fourth quarter activity and some time is required to restock deal flow pipelines.

Given this context, we were pleased with the first quarter activity levels, which were a bit higher across our platform as compared with Q1 of 2017. Much of the activity during the quarter resulted from transactions at existing portfolio companies, driven primarily by acquisitions and investments. This appears to be part of a larger trend within the private equity community where more and more sponsors are seeking to deploy capital into add-on investments within their existing portfolio companies, often by acquiring smaller competitors in order to benefit from scale and synergies.

We think that this trend is positive for lenders as deploying capital in the companies we are already invested in reduces certain risks.

Another broad trend that's affecting private lending is the increase in LIBOR that continued throughout the quarter. 3 months LIBOR was up approximately 60 basis points and ended the quarter at 2.3%.

1 month LIBOR rose approximately 30 basis points and ended the quarter at 1.9%. Since we have more floating-rate assets than floating-rate liabilities, an increase in LIBOR is generally positive for us.

However, as LIBOR increases, there's typically a lag effect before we see its full impact in the interest payments that we receive from our borrowers.

This is because borrowing rates generally reset either monthly or quarterly to reflect the then current LIBOR. Accordingly, intramonth or intraquarter changes, respectively, in LIBOR generally do not result in a change in the interest rate of our borrowers. While we expect that current rate resets and any further increases in LIBOR to be beneficial, we are cognizant of the potential for declines in spreads on new originations to offset some of these gains.

Turning to results for the first quarter. New investment commitments and fundings were $67.2 million and $72.7 million, respectively. New investment commitments were across 2 new portfolio companies and 9 existing portfolio companies.

Sales and repayment activity totaled $78.7 million, driven primarily by the full repayment from 4 portfolio companies, partial sales of one portfolio company and a syndication of an investment in one other portfolio company. One repayment to highlight this quarter was our first lien, last-out loan and equity co-investment into a company called myON, which is the digital reading platform serving K through 12 students. We made the investment alongside a top-tier private equity firm approximately 1 year ago. Our thesis was that myON provides a cost-efficient medium for schools to offer a broad array of supplemental reading materials and that this was evidenced by very high contract renewal rates.

Moreover, we expected meaningful growth in the business as we believed the market is significantly under-penetrated.

During the quarter, myON was sold at a valuation that allowed us to earn an attractive return on our loan and a 3.6x multiple pretax on our equity co-investments. While equity co-investments are not a regular part of our investment strategy, we will invest modest amounts in equity alongside our loans, and we have strong conviction in the potential returns on an equity investment.

During the quarter, the yields on our investment portfolio rose modestly. The weighted average yield on our investment portfolio at cost moved from 10.6% to 11.1%. This modest increase was driven primarily by an increase in LIBOR.

Regarding portfolio composition, as of the end of the quarter, total investments in our portfolio were $1,256,700 at fair value, comprised 89.3% senior secured loans, which included 33.4% in first lien, 18.9% in first lien, last-out unitranche and 37% in second lien debt as well as 0.4% in unsecured debt, 2.9% in preferred and common stock and 7.4% in the Senior Credit Fund.

We also had $24.7 million of unfunded commitments as of the end of the quarter, bringing total investments and commitments to $1,281,400.

Single name diversification of our portfolio is unchanged quarter-over-quarter as we continue to have investments in 56 portfolio companies, operating across 30 different industries.

Turning to credit quality. The weighted average net debt to EBITDA of the companies in our investment portfolio at quarter end was 5.1x, which is a modest decrease from the 5.3x at the end of the prior quarter. The weighted average interest coverage of our companies at the end of the quarter was unchanged at 2.3x. As Brendan mentioned, we continue to believe that the growth of the U.S. economy, combined with low levels of unemployment, is a strong backdrop for our portfolio of investments in U.S. middle-market companies.

In general, we continue to see solid operating performance across these companies. The Senior Credit Fund continues to be the company's largest investment at 7.4% of the total investment portfolio, and we are very pleased with the returns on this investment.

Over the trailing 12 months, the Senior Credit Fund produced a 12% return on our invested capital.

As Brendan mentioned, we believe that the Senior Credit Fund provides a good case study for how we might take advantage of our lower asset coverage requirement if shareholders approve our proposal.

Since its inception, the Senior Credit Fund has invested approximately $920 million into primarily first lien, middle-market loans and has produced a return to the company of approximately 13%.

Moreover, on a realized basis, the portfolio has produced modest net capital gains with no nonaccruals to date.

Over the course of its life, the weighted average yield at cost of the investments in the Senior Credit Funds portfolio has varied between 6.6% and 7.6%, while leverage in the Senior Credit Fund has averaged 1.8x.

While the performance of the Senior Credit Fund provides a good example of our ability to successfully manage portfolios that are more leveraged but have lower-risk, lower-yielding assets.

Our investment strategy, if we are granted a lower asset coverage ratio, is likely to expand upon the approach we have taken in the Senior Credit Fund. In particular, our investment strategy would focus on middle-market loans that we directly originate. Our experience is that directly originated loans generally have more attractive pricing and terms.

With that, let's turn to the activity in the Senior Credit Fund during the quarter. The Senior Credit Fund had new originations of $44.8 million in 2 new companies and 2 existing portfolio companies. Sales and repayments were $64.2 million.

As a result of this investment activity, the total size of the investment portfolio and commitments was $466.8 million at quarter end. The weighted average yield at cost on the investments at quarter end within the Senior Credit Fund was 7.6%, which is relatively unchanged from the prior quarter.

First lien loans comprise 96.7% of the total investment portfolio within the Fund, and nearly all of our investments are floating-rate with LIBOR floors.

And again, no investments in the Senior Credit Fund are on nonaccrual status. The Senior Credit Fund portfolio remains well diversified with investments in 32 companies, operating across 19 different -- I'm sorry, 17 different industries.

I will now turn the call over to Jonathan to walk through our financial results.

Thanks, Jon. We ended the first quarter of 2018 with total portfolio investments at fair value of $1,257,000,000, outstanding debt of $530 million and net assets of $727 million.

Our net investment income per share was $0.47 as compared to $0.47 in the prior quarter. Earnings per share were $0.46 as compared to $0.31 in the prior quarter.

During the quarter, our average debt-to-equity ratio was 0.72x, which was slightly higher than the previous quarter at 0.7x.

We ended the first quarter with the debt-to-equity ratio of 0.73x versus 0.75x at the end of Q4.

Turning to the income statement. Our total investment income for the quarter was $35.5 million, which was up from $34.2 million last quarter. The increase quarter-over-quarter was primarily driven by higher prepayment-related income, higher interest income from the increase in LIBOR. Total expenses before taxes were $16.5 million for the first quarter as compared to $14.7 million in the prior quarter.

Expenses were up quarter-over-quarter, primarily driven by an increase in incentive fees and an increase in the interest expense.

Net realized and unrealized gains for the quarter were $0.1 million. We had approximately $450,000 or $0.01 per share of tax provision related to our realized gain on myON.

Ended the quarter with net asset value per share at $18.10 versus $18.09 from the prior quarter. Our supplemental earnings presentation provides a NAV bridge to walk you through the changes.

The company had $32.7 million in accumulated, undistributed net investment income at quarter end, resulting from net investment income that has exceeded our dividend in past quarters. This equates to $0.81 per share on current shares outstanding.

During the quarter, we were successful in our ability to attract new capital through our revolving credit facility at attractive terms, which we believe is a reflection of the strength of the GSAM platform.

Specifically, we increased total commitments under our revolving credit facility to $695 million and extended the maturity date to February 2023. The extended maturity is an important benefit as we look to capitalize on market opportunities in the years ahead.

Also as Brendan noted earlier in the call, if stockholders approve the proposal to reduce the company's asset coverage requirement to 150%, GSAM's base management fee will be reduced to 1% of gross assets beginning immediately upon receipt of stockholder approval.

The Annual Stockholder Meeting is scheduled to be held on June 15, 2018. With that, I will turn it back to Brendan.

Thanks, Jonathan. Overall, we are pleased to have produced another solid quarter for our shareholders. We are particularly excited about the recent legislation that gives the company the opportunity to reduce its asset coverage requirement, and both the management team and the Board of Directors believe that approving this proposal is in the best interest of shareholders.

The ability to expand the company's investment strategy, increased flexibility and capitalizing the company away from the equity markets and potentially expand return on equity are powerful reasons to approve the proposal.

We also believe approval of proposal will enable the Goldman Sachs platform to provide even more value to shareholders and serve as a greater source of positive differentiation as the importance of financing and risk management increases.

However, we are always cognizant that the capital we manage belongs to our shareholders. While both the management team and the board believe that approving the reduced asset coverage requirement is in the best interest of shareholders. We look forward to response from shareholders at the proposal contained in our proxy statement, and they'll vote at the Annual Shareholder Meeting next month.

As always, we thank you for the privilege of managing your capital. We look forward to continue to work hard on behalf of shareholders for the remainder of 2018.

With that Ian, we'll open it up for questions.

(Operator Instructions) Our first question is from the line of Jonathan Bock from Wells Fargo Securities.

So one, I just want to make a declarative statement, this isn't a question. Shareholders, as well as myself, greatly appreciate the dialogue that you're developing. Clearly, that's quite a very -- a well-received and appreciated discussion point. And beyond that, folks absolutely value flexible leverage as well as increased regulatory flexibility for folks that have greatly managed capital and choose to listen to shareholder's concerns. That's a credit to you, Brendan, that's credit to your board. And folks, I definitely look forward to participating, and we see folks being widely supportive.

So that now allows us to maybe move into some individual questions on kind of the opportunities. And so let's start with a view of the off-balance sheet entity, and so Lamm and Brendan, now in a 2:1 dynamic, how would you view the current off-balance sheet JV because it kind of provided more leverage on liquid capital? And now it would seem that you might have the opportunity to perhaps deemphasize or -- and bring those types of loans on the balance sheet to make them certainly with the lower fee, more than economic for shareholders. So how does that push/pull go between with your off-balance sheet fund?

Jon, it's Jon Yoder here. Great question, and thank you for your declarative statement. We appreciate the recognition there.

So the Senior Credit Fund as we talked about and you've seen over time has certainly been a really strong investment for us. And so we want to always keep that in mind and be cognizant with that. The other thing is as you pointed out, the Senior Credit Fund has historically focused on slightly different types of deals than what we've done on the balance sheet, not just in the sense that they are more traditional, lower-yielding and lower-risk first liens, but also and importantly, it's been -- its focus has really been on more narrowly syndicated types of names. Whereas, of course, what we do on the balance sheet is really focused on directly originated deals. And so as we think about the place of the Senior Credit Fund in our balance sheet going forward, assuming that shareholders agree with our recommendation to reduce the asset coverage ratio, I think that there is, at least, a viewpoint that the 2 strategies don't necessarily overlap, and that they're not necessarily incompatible with each other.

That being said, I think we are very much engaged in a thorough top-to-bottom review of really both the financing and the asset side and so -- and obviously, considering what the best result or the best sort of path forward for the Senior Credit Fund is a key component to that. And so I don't have specifics to offer you right now, but I wouldn't necessarily, as I say, assume that they're incompatible, given that they do pursue slightly different investment strategies.

Different. Okay. So then that (inaudible)...

I'd add there, Jon. As you know, we don't want to get too hard -- far ahead of ourselves here. As you know we're obviously out there with the proposal to shareholders. As you described, we do anticipate and look forward to a really good, robust dialogue with our shareholders. Obviously, we also have our lenders to work with. Our current credit facility as most folks probably are probably aware does contain a covenant that does not today permit us to incur additional debt beyond 1:1. So we are in dialogue with our lenders. We look forward to continuing to partner with them in a way that continues to give us attractive access to capital but ongoing discussions and work to do there. So I think, when you think through the order of operations here, the -- getting to where you're going, certainly appropriate questions. But a lot of work for the team to do to even be in a position to start to think we're pursuing those more strategic elements.

Certainly, team has a lot of thoughts and -- but there are a lot of considerations there as well. So you'll forgive us for relative lack specificity. It's not for having to spend a lot of time thinking through a lot of different options here. And as Jon described, we think there's a variety different scenarios, but a lot of work to do between then and a point where we were making definite decisions in that time.

Got it. Got it. And what won't -- we won't put the cart ahead of the horse. I mean, likely this is a very attractive both in your additional flexibility as well as the process by which you're going through, asking these questions and getting them answered with all your constituencies.

Maybe what I'll ask is if you -- Mr. Lamm, if you look at your borrowing base today, right, on your revolver or more we're looking somewhere at the advance rates, do you have a view on whether banks, one could argue we're over-reliant on the 1:1, say they always knew that whatever they would put it in, advance rate might actually -- it's not going to get fully -- I wouldn't say they didn't put much thought into it but certainly not as much as they would now in light of the increased leverage component.

Do you see advance rates broadly for this space changing too dramatically just -- because I know you finance a lot of different things. And then the next question is where does that put a view of -- the proprietary origination channel that you bring for Goldman Sachs, private wealth management division is extremely lucrative, important. Does that, in any way -- the types of deals that come through that channel, would you say they are perhaps more amenable to a little bit higher leverage than in the past, if you were not constrained by the regulatory cap? So borrowing base question and advance rates questions first. And then how that ties into the Private Wealth Management origination vertical that so many folks realize is a very unique secret sauce that's offered?

I mean, with respect to the borrowing base question, definitely, I think that there is a view that the advance rates that we're given were relatively higher and to some degree, based on the fact that there was the 1:1, but when we look at the actual asset coverage, we think that there is dialogue that we can certainly have with our financing providers to find a place that works for all of us considering the types of assets that we'd be looking to leverage and looking at the types of assets that we have in the Senior Credit Fund as the perfect example for that. So we think that there is definitely room, but your point is definitely well-taken that there definitely is or has been a reliance on that 1:1, I think by the lending (inaudible) but we're -- the lenders. But we are looking to and have already started to have dialogue with them from a partnership perspective.

I'll turn it over to Jon to address the wealth component.

Yes, Jon, so definitely a good question, good observation. I mean, I think I wouldn't necessarily view what the additional expansion in the size of the investment universe within private wealth is probably not that different than what it is within the sponsor community in the sense that just like in the sponsor community, there are situations where, in the past, our capital didn't make sense because it was too expensive, given the financing alternatives that the borrower had. The same thing we've seen, historically, in the private wealth channel where there are times when the -- our cost of capital wasn't going to make sense, given the other financing options that those folks have.

And so similarly, we do think that the increased -- or while the decreased asset coverage ratio in these -- the corresponding increase in the investment universe that opens to us, will help facilitate, for sure, additional assets from the private wealth channel. But I wouldn't say it's literally different than the expansion that we also expect to receive in the sponsor channel.

Got it. Got it. And then the last question, just the fun one as it relates to the investment opportunity environment this quarter. So I think one of the largest investments that you made clearly was an investment in ASC. And so folks would kind of want to understand: a, clearly how the sourcing occurred; but then b, in an environment, I think we're splitting into -- so second lien transactions can be attractive provided that it's on the right company, and so we've seen a migration, right. The question is, how do you understand that the second lien component kind of carries an element of added risk? What were some of the thesis points or points that you looked at in making the investment that makes it attractive in this environment when folks are, obviously, being conditioned to focus on more of a first lien-style strategy at this moment in time?

Yes, I'll take a crack at it. I think overall, Jon, when you look at the quarter, is a pretty muted quarter of activity in general. We did get $67 million of gross originations, no change in the asset mix in any material way, whatsoever. Specifically, when you look at what we did in second liens, every single second lien we did this quarter was a follow-on to an existing portfolio company where we had the benefit of seeing performance and strong performance, frankly, in all those names. As you mentioned, ASC being the biggest one to follow on investment. I think it's $24 million. ASC stands for animal supply company, a very stable business, focusing on distributing pet food and pet products, very strong secular trends in that business, and we've got a particular point of view on the merits and the quality of that company. I think that as we look forward, we think that's likely to be a relatively short-lived asset in light of the quality of that business. So completely agree, understand in light of where the credit cycle has been. Our focus on where we're putting marginal dollars, I think when you step back and look in totality, really not a lot to be gleaned from this particular quarter. We entered the quarter at a relatively high leverage ratio compared to our target leverage ratios and exit the same, and effectively, the capital that was invested over the course of the quarter was the function of capital that was generated organically within the business. And we take that in totality again, really relatively insignificant changes in the total portfolio mix. And of course, the bigger topic, I think, for the industry and for us in particular with respect to how we're moving forward on 2:1, tremendous flexibility going forward to change the asset mix in a way that doesn't decrease shareholder returns. And moreover, when you look at, obviously, what we've done with the management fee here, a lot of flexibility that we have to pursue a wide range of assets even when you start to consider different outcomes in the financing environment.

So we feel really good about where we're positioned today, and we're looking forward to getting a strong responsible shareholder base that's going to just broaden our investment horizons going forward.

Got it. And then look I just thought that the last declarative statement was -- just yesterday had a chance to post a large [LP] offsite, one of the large state pension fund's CIOs has main concern in this environment, particularly, in private credit or even public credit, which is public BDC space. Clearly, credit risks, et cetera, but it was alignment -- and so that being the concern, I just want to commend you for: one, you addressing not only the alignment issue through your fee structure as you have since day one, but also how you've approached this leverage decision. So you should be commended for it. And my congrats to yourselves, the board and Goldman Sachs.

And our next question is from the line of Leslie Vandegrift from Raymond James.

Just you answered most of the questions on the leverage issue that I had this morning. But just on a comparison, the Senior Credit Fund revolver, right now, is about 30 to 55 basis points wide as -- on the price of your on-balance sheet revolver depending on, I guess, the level of asset you have out.

Now would you expect something similar to that -- you discussed the advance rate, but in the overall cost if you were to refi your on-balance sheet revolver to the 2:1 limit?

Yes. I'll take a crack first, then Jon, you can jump in. We don't, Leslie, want to start to get pinned down to a lot of specifics. As I described in some of the remarks, we have a fair bit of work to do. One, to get this proposal through our shareholders and ongoing discussions in partnership with our lenders, I infer to look at the Senior Credit Fund financing that's in place, a few things to recognize, that was put in place a handful of years ago and also came with provisions that made it expensive to repay it early. And so I don't think when you look at the cost there that is indicative of where similar financings might be available to us today. As we described, that's something that we've been looking at over the past few months. And so as you think through your modeling views going forward, you should recognize that the pricing we have today on our Senior Credit Fund is probably wide of where market is.

Okay. And then on the syndication in the quarter, the one that occurred, just a little bit color on that?

Which thing in particular, Leslie, are you looking at?

The syndication that you had that you mentioned in the prepared remarks. The one that you had in the quarter that you sold...

(inaudible) the myON.

Yes.

Yes, sorry, sorry. Yes. No, I -- thank you very much for the question. So yes, the name that -- it was a small syndication, which is why it's kind of was initially escaping our minds here, but the syndication was related to a sponsor dynamic where the sponsor had a party they wanted us to bring in, and so we originated it and sold them to -- and sold that piece to another fund that the sponsor asked us to do.

Okay. All right. And then my last question on the originations in the quarter, I know you mentioned it was a lower activity quarter and that some of it had to do with the higher leverage level at the beginning and end of the quarter. But -- and now you have the private funds that you co-invest with. How much of that -- how much were you able to continue doing in the private funds versus that you wished you could've co-invest in? So how much of the lack of leverage capability right now stopped in the quarter?

Good question. From a platform perspective, we did remain active in the quarter. When you look at GS BDC, there were 2 new names that we were able to co-invest alongside with our other 2 private vehicles, and there were also a handful names where by virtue of capital dynamic within GS BDC, GS BDC did not participate. So as you know, Leslie, we do have in place our exemption relief order. It has very prescribed methodologies on allocation. All those allocations are reviewed and approved by our independent boards of directors of each of those vehicles.

But as we step back and look at that dynamic through the lens of GS BDC, for sure, what we're trying to do is maintain an optimal capital structure that can deliver the attractive net investment income that we produced this quarter. So as you think through our participation in new deals going forward, opportunities would be -- if the market is right, of course, we could raise new equity capital, which would facilitate new investments, but I think more likely, we will continue to receive repayments. Those are almost, by definition, impossible to predict with any certainty. But as we look over our expectations for the course of 2018, we do anticipate and expect to see ongoing repayments, perhaps even at more elevated rates than this quarter, which would give rise to that organic capital creation and participation in all those platform originations.

Okay. And then on the co-investment agreement itself, if you do increase leverage, is there any sort of issues that has to be updated there with that relief? Or is that just something that can move with leverage?

No, there's nothing that we're aware of regarding implications to the order. I think as we have describe, the practical implementation of the strategy, now that we've gone out to shareholders, is of course on successfully getting the approval from our shareholders to pursue to reduce the asset coverage requirement, and then second, working collaboratively with our lenders to get a relief under the covenant that's currently in place. Beyond that, from a practical perspective, of course, arranging to financing to facilitate that would be the next step.

And our next question is from the line of Doug Mewhirter from SunTrust.

First to reiterate Jon Bock's comment on the fee reduction. I think, that's a very positive and shareholder-friendly action, given the requirements of the -- as a higher -- with the prospective of higher leverage. Related to the leverage, and I apologize if you had addressed this in the remarks, I came into the call about halfway through your opening remarks. Have you had any discussions with the rating agencies about this possible move?

I know the sort of medium-term fixed rated term debt is actually pretty attractive to BDCs right now for a -- to mitigate interest rate risk and duration risk. And I also know rating agencies have been very sensitive to increased BDC leverage. I know there was already one downgrade, so I just didn't know how you were thinking about that possibility.

Doug, so appreciate the question. And so to answer your question is yes. We've had -- we've definitely been in dialogue with the rating agency that rates us and broadly have been following kind of the reaction of rating agencies to the potential for the reduction in the asset coverage ratio.

Look, I think, given the public statements that have been made out there that I'm sure most of on the phone are well aware of, there's probably a pretty high likelihood of a downgrade. And so that was part of what we had a factor into our decision here.

That said, long term, we think that this creates a better platform. And we're hopeful that, that will be recognized by rating agencies going forward. In particular, some of the things that -- some of the reasons why think it creates a better credit profile for lenders to our company are, with increased leverage, it allows for increased diversity of assets, it allows for increased diversity of funding sources, and I think it allows us to, in many environments, and certainly, in the environment that we're in, to reduce asset-level risk by going into, as we described, slightly less risky assets but which probably also carry lower yields.

Though, the combination of those things we think over time will be recognized by the rating agencies as things that merit an important consideration. And hopeful -- and we're hopeful that, that over time will result in positive treatment from the credit -- from the rating agencies, but we understand, short term, there is some turbulence here and understand that there's probably a reasonable likelihood of a downgrade.

Yes, I think the main point there is what -- we're eyes wide open as to the potential implications. I think, as Jon described, when we look at this holistically, fair to say we've got a different point of view than the rating agencies when you factor in the flexibility, when you factor in the business plan that we would pursue. We spent a fair bit of time with S&P in particular who does rate base today. What we emphasized with them is when you look at the Goldman Sachs BDC, Goldman Sachs, obviously, has a tremendous risk infrastructure in place, so that, I sincerely think, does differentiate us from the industry. Don't forget, Goldman Sachs is a bank holding company.

This is an infrastructure that is steeped in risk management and has a lot of controls within that framework. And so I would also say, I would trust that when you look at how we have managed this vehicle, we've been quite prudent, we've been quite thoughtful about how we finance the business.

Any business plan that we would take on with new leverage would be in -- with full recognition of the volatility of incremental assets, the appropriate capital structure for those assets.

So I think, what was disappointing about the S&P response was a relative lack of willingness to take differentiated views with respect to platforms and their business plans. But that being said, even if there's a negative outcome, that's not going to sway us from what we think is the right course of action that we can take. We and our board sincerely think that getting the flexibility for the company that this new legislation provides us is a big, big benefit to the company. So we're going to stay to course.

Furthermore, as you've said there are concerns around any changes in financial markets or increased cost of financing, by virtue of how the agencies come out, again, I think we've taken really assertive steps there with respect to our expense structure when you think about a 50 basis point reduction fees on the entire asset stack. That will be a good mitigate to any negative implications that might arise from how the rating agencies come about. But we as a board, we as a company, are much more focused on the longer term. This is a permanent capital vehicle. This will be investing through many, many cycles.

And so we're not just focused on the very short-term elements of what kind of ROEs that we can produce. We think there's good opportunities there, but the bigger picture here is really what caused us to really want to pursue the flexibility that this legislation provides.

That's was actually a very comprehensive answer and helpful. My last question regards -- just help me understand maybe relative market size. I'm not as familiar with the dynamics of the, I will say, the upper tier of the first lien, middle-market-type loans, would that potentially -- is that a fairly big market you would potentially tap into. And I guess the context of the question is, look, it's pretty slow activity-wise in terms of the ins and out to your balance sheet, and it actually may be tough to, I guess, to rapidly fill up that bigger bucket if approved by shareholders. But I was wondering if it's just a larger market so you'd actually have more looks.

Yes, I'll take a quick stab. I'm sure Jon, you'll -- will have some thoughts as well, but when you look at our business model today, we're trying to achieve attractive returns. Our dividend is almost a [10] on our common equity. We're capped at 1:1 leverage. So that dynamic, trying to achieve attractive returns with limitations on leverage causes us to only really be able to target certain part of the market that can provide relatively high asset yields. So by definition, the ability to maintain this -- maintain a higher leverage ratio is going to expand on market opportunity, whether it's into the upper part of the middle market or not. There are just many, many, many more bats that we as a platform can take to pursue different assets to push -- to generate a similar return on shareholders' equity.

So again, I think that's a -- it's a really important observation and a big component of our pursuit here. A bigger market opportunity, a broad and more diverse array of asset that we can seek and produce the same returns, we think is a much better outcome for our platform.

Yes, the only thing I would add to that -- and that's well said. The only thing I would add to that is, Doug, you said is there -- are we going to be able to get in touch with that sort of first lien market. And I guess, I would say, we're already in touch with that market. We live and breathe the private credit markets and the middle market all day, every day. And our approach historically has been, we, as you know, do bottoms-up analysis. We try to figure out where the best risk-adjusted return is in any particular borrower's capital stack. And today, if we determine that the best risk-adjusted return is in a first lien and that first lien ends up pricing tighter than our cost of capital, then we simply can't participate. Whereas going forward, will we do -- benefit from a reduction in the minimum asset coverage ratio, that would be something be open to us. So as Brendan said, the bats are there, and it's just a matter of will our investment universe expand.

And our next question is from the line of Christopher Testa from National Securities.

First, just looking at, obviously, your commentary on comparing the potential on-balance sheet loans to the SCF. The SCF growth has kind of been lackluster despite of producing a very good return to you guys. Just curious what's the opportunity set actually look like today, If you were granted the ability to increase leverage? What's the addressable opportunity set that you could actually be putting on the books?

Yes, so Chris, thanks for your question. And just going back to some of -- a comment I made earlier, I would -- I think you're aware of this, but just to remind you the Senior Credit Fund has really been focused on to serve the upper part of the middle market where things start to get narrowly syndicated, and less so on sort of the directly originated transactions. And we've kept the directly originated transactions on our balance sheet.

So I do think, we do think that the Senior Credit Fund we've -- as we talked about on the call last quarter, we've been pretty prudent with how we've been deploying capital there in that sort of narrowly syndicated, quasi-syndicated part of the upper-middle market, we've seen spreads come in a bit over the last 12 months. Not necessarily a big change quarter-over-quarter, but if you go back 12 months, it's come in. If you look at structures, they're getting looser. And so we've been a little bit more cautious on that sort of, as I say, quasi-syndicated part of the market and you're right, have moderated, tempered sort of the pace of growth. They really kind of flat-lined the size there.

What we -- When we talk about the benefit from an asset-selection perspective of a decrease in the asset coverage ratio, I think what we would be focused on are directly originated deals that are probably a little bit below that upper part of the middle market.

And our sandbox has historically been for our balance sheet deals, what we refer to as the heart of the middle market. Companies that are not upper-middle-market, not lower-middle-market but kind of right down the middle of fairway. And in that part of the market, we continue to see opportunities, interesting opportunities. And we don't think that the pace of growth or lack of growth in the Senior Credit Fund really portends very much for the opportunity set that we would intend to pursue in sort of the heart of the middle market were we to be granted that minimum asset coverage ratio reduction.

Got it. So is it safe to say in that case that would you be looking to put on balance sheet in terms of the lower-yielding loans would, obviously, have lower EBITDA than the Senior Credit Fund. So more comparable EBITDA (inaudible) versus what's on balance sheet but just safer for credit with lower yields?

That's a fair generalization.

Okay. And kind of sticking with you guys talking about kind of the core middle market and where you operate. Now obviously, it's different from the lightly syndicated and certainly broadly syndicated market, but how much -- over the past year or so, how much have you seen an increase in kind of cov-lite and [docs] and structures and what not, kind of, seeping into your directly originated market?

So we haven't seen a lot in terms of covenant lite. Well, I shouldn't say we have seen a lot. We've seen a lot in terms of what we've done, our book continues to be -- the overwhelming majority continues to be covenanted transactions that we're actually doing. So we think there's still some discipline in terms of the covenants.

In terms of structures, there's -- I'd say the biggest cause of consternation within our investment committee is sort of adjustments to EBITDA and so sponsors, in particular, wanting to get credit for add-backs to EBITDA, for things that haven't happened yet, but which they expect will happen, for example, cost takeouts, synergies, resulting from acquisitions, things like that. And so we have to be very, very careful and thoughtful around looking through what we think are legitimate things that should be added back and truly are kind of onetime things that won't reoccur and things that are speculative. And so that's probably the biggest -- in my estimation, probably, the biggest source of aggressiveness within the market right now is what people are willing to give credit for in terms of those add-backs.

But again, one thing that has held in reasonably well within the space that we play, at least, quarter-over-quarter, are spreads. We're not seeing a massive decrease in spreads quarter-over-quarter or really over the last, call it 6 months or so. That seems to be reasonably steady.

Got it, okay. And to the extent to obviously that you do get the ability to lower the asset coverage and increase your leverage, obviously, your -- likely, your average debt-to-equity is going to be much higher than it is today and produce probably better ROEs.

Just wondering how you think about that in the context of your dividend where it seems that the current run rate of recurring earnings would be augmented in this scenario. When -- whether you'd be looking to do specials or potentially if we could see a small bump-up in the regular distribution?

Yes. It's far too early, I would say, to talk about changes in distributions. We -- the answer to this question historically is we think there's -- we're trying to create value for shareholders at the end of the day. And a few observations, when we look at how the market has valued our stock retaining that excess capital into the company that in turn is generating a multiple to NAV is a better proposition.

I would say, furthermore, we want to make sure we've got true stability in that dividend for a long period of time.

As we think about moving to 2:1, there will certainly be a transition that takes place over a relatively significant portion of time or a reasonable period of time based on a few different scenarios.

So far too soon to start thinking through modeling different ROE expectations. First thing's first, we want to get the approval from our shareholders, get through our process with our lenders. And I think as we continue to evolve over the course of 2018, I think those conversations become a bit more reasonable.

Got it, okay. And last one for me just -- how much of a current portfolio was sourced from your Private Wealth Management channel? And I guess, over the past year or so, how was this -- sort of contribution matched up against your expectations?

Chris, so look, we -- one of the things that is important to us about the private wealth channel and sort of the non-sponsor channel more broadly is that it gives us kind of, I guess you can think of it as 2 pistons in the engine, right. We've got our sourcing channel through private equity sponsors, and we've got a sourcing channel through non-sponsored, which is mostly private wealth. And so when one is attractive and the other one's not, we can focus on the one that's more attractive and vice versa.

I'd say that over the last 12 months or maybe 18 months, what we've seen is that there is increased competition for companies in earlier stages of their life cycle. So where our capital, under our current cost of capital, where it generally tends to make the most sense for borrowers, for non-sponsored private wealth owned types of companies, are when they're trying to do leveraged acquisitions, when they're trying to engage in rapid growth strategies or things like that. And so those types of businesses, historically, were -- given their size and the stage they were in their development, probably, would not have drawn a significant amount of -- a significant premium valuation from a private equity buyer, meaning it would trade perhaps at, I don't know, 8x instead of -- at once it was larger and more established and so on, it could trade at a much higher leverage ratio -- I'm sorry a much higher EBITDA multiple.

And so in -- over the last, to say, year or so, we've seen frankly more private equity firms pursuing more companies in earlier stages of their life cycle. And so what we're seeing is that with some of those companies, in fact, a good chunk of those companies, the owners of those companies are choosing to say, yes, well, I could borrow money from Goldman, and I could put that in to grow, and if you grow EBITDA by [whatever] 5%, 10%, 15% or -- and it might take me a few years to do that or I could sell to a private equity sponsor at what is a very attractive multiple of my current EBITDA. And the risk is if they choose to borrow from us, and in 2 or 3 years, once they've added that EBITDA, if the multiple has contracted that the sponsors are willing to pay for the business, then they kind of have been running to stand in place.

Their absolute -- the total valuation of the company is unchanged, notwithstanding the increase in EBITDA. So given those dynamics, it's frankly become more competitive for us to originate the loans in kind of the traditional ways that we had historically. We're still quite active, don't get me wrong. We -- actually we were -- we go through all of our opportunities there on a weekly basis, and I think in our most recent meeting, we had about 127 different companies that we're in contact with and thinking through.

So we're so quite active in the space, but I would say relative to what we -- relative if you think about the 2 pistons, which one has been producing more, it's definitely the sponsor side.

(Operator Instructions) And at this time, there are no further questions. Please, continue to any closing remarks.

Pretty well. Thank you, everybody, for spending time with us on this Friday morning. As always, we appreciate your time and attention. If there are additional questions, feel free to reach out to Katherine Schneider, who heads up our IR. And we look forward to catching up soon. Have a great day.

Ladies and gentlemen, this does conclude the Goldman Sachs BDC Inc. First Quarter 2018 Earnings Conference Call. Thank you for your participation, you may now disconnect.