New Mountain Finance Corp (NMFC) 2021 Q2 法說會逐字稿

Good morning, and welcome to the New Mountain Finance Corporation Second Quarter 2021 Earnings Call. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Rob Hamwee, Chief Executive Officer. Please go ahead.

Thank you, and good morning, everyone, and welcome to New Mountain Finance Corporation's Second Quarter Earnings Call for 2021. On the line with me here today are Steve Klinsky, Chairman of NMFC and CEO of New Mountain Capital; John Kline, President and COO of NMFC; and Shiraz Kajee, CFO of NMFC. We hope that everyone is staying safe and that you and your families remain in good health. Steve is going to make some introductory remarks, but before he does, I'd like to ask Shiraz to make some important statements regarding today's call.

Thanks, Rob. Good morning, everyone. Before we get into the presentation, I would like to advise everyone that today's call and webcast are being recorded. Please note that they are the property of New Mountain Finance Corporation and that any unauthorized broadcast in any form is strictly prohibited. Information about the audio replay of this call is available in our August 4 earnings press release. I would also like to call your attention to the customary safe harbor disclosure in our press release and on Page 2 of the slide presentation regarding forward-looking statements.

Today's conference call and webcast may include forward-looking statements and projections, and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from those statements and projections. We do not undertake to update our forward-looking statements or projections unless required to by law. To obtain copies of our latest SEC filings and to access the slide presentation that we will be referencing throughout this call, please visit our website at www.newmountainfinance.com.

At this time, I'd like to turn the call over to Steve Klinsky, NMFC's Chairman, who will give some highlights beginning on Page 4 of the slide presentation. Steve?

Thanks, Shiraz. It's great to be able to address all of you today as both the Chairman of NMFC and as a major fellow shareholder. As we discussed on previous earnings calls, risk control has always been part of New Mountain's founding mission. Our firm as a whole now manages over $33 billion in total assets with a team of approximately 190 people and with over 58,000 employees at our private equity portfolio companies in the field. We have never had a bankruptcy or missed an interest payment in the history of our private equity work while generating over $52 billion of estimated total enterprise value for all stakeholders. We have applied that same team strength and focus on defensive growth industries to NMFC and our credit efforts, resulting in an average net default loss of only 9 basis points a year since we began our credit operation in 2008.

As shown on Page 4, on May 19, 2021, we celebrated our tenth anniversary as a public company. Since our IPO and with the support of our shareholders, employees, sponsor clients, coverage analysts and lenders, we have paid out $874 million or $13.56 of regular cash dividends per share, supported by $879 million of adjusted NII covering our regular dividend 101% with net investment income. We have accomplished this with just $79 million of realized default losses across over $8.4 billion of debt investments, which we have mostly offset with various portfolio gains.

After quarter end, we monetized a portion of our position in Edmentum at an attractive gain, and we remain optimistic about potential gains at other existing portfolio companies. Overall, NMFC has delivered a 10.5% compounded annual return per share since the date of our IPO. Furthermore, book value adjusted for special dividends is now $13.94, which is higher than our IPO price of $13.75 per share. We are excited to celebrate 10 years as a public company and are proud of the accomplishments to date, and we look forward to many more years and accomplishments ahead.

Now let me turn to the specifics of this earnings report on Page 5. Net investment income for the quarter ended June 30 was $0.30 per share fully covering our dividend of $0.30 per share that was paid in cash on June 30 and in line with our prior guidance. No new borrowers were placed on nonaccrual this quarter. Our June 30 net asset value was $13.33 per share, an increase of $0.48 per share or 3.7% from the March 31 NAV of $12.85 per share. The write-up of Edmentum as well as a few of our net lease assets primarily drove the meaningful increase in NAV, which brings us ahead of our pre-COVID NAV level. The regular dividend for Q3 2021 was again set at $0.30 per share and will be payable on September 30 to holders of record as of September 16.

As a reminder, last quarter, we implemented a dividend support program for at least until December 31, 2022, by pledging to charge no more than 1.25% management fee on all assets. For that period, we also pledged to reduce our incentive fee if needed, to support the $0.30 per share dividend. We do not currently anticipate needing to use this pledge but want shareholders to have greater confidence in the dividend. Together, New Mountain professionals have invested over $480 million personally into NMFC and New Mountain's credit activities. I and management remain as NMFC's largest shareholders. We have continued to add to our personal positions in the last 12 months, and Rob, John and I have never sold a share.

With that, let me turn the call back to Rob.

Thank you, Steve. As we have throughout the COVID crisis, we continue to have extensive conversations with both company management and sponsors and update each portfolio company's scores on our heat map, using the same criteria discussed in the past and as outlined on Page 8. The updated heat maps show the positive risk migration this quarter as summarized on Pages 9 and 10 with $211 million of positive intra-green migration, $27 million of positive migration from yellow to green, and $101 million of positive migration from orange to yellow, offset by $32 million of negative migration primarily concentrated in 1 specialty chemicals business that migrated to orange. This business has faced some market and execution challenges, but we believe there are a few specific initiatives that could result in near-term improvement.

Benevis, the dental practice management business that we discussed last quarter has migrated from orange to yellow as we continue to see signs of improvement in the underlying operating metrics as a result of the new management team and our private equity team's engagement. Overall, we remain pleased with the asset quality and credit trends across the portfolio.

The updated heat map is shown on Page 11. As you can further see from the heat map, given our portfolio's strong bias towards defensive sectors like software, business and federal services and tech-enabled health care, we believe the vast majority of our assets are very well positioned to continue to perform no matter how the public health and economic landscape develops. We continue to spend significant time and energy on our remaining red and orange names and believe as the impact of the pandemic hopefully continues to recede in the months ahead, the majority of these credits will benefit materially.

Page 12 outlines the quarter's net asset value increase. In Q2, net asset value increased by $0.48 to $13.33, which is higher than our pre-COVID NAV of $13.26. The material driver of this quarter's strong NAV growth were: one, the value increase in Edmentum, which I will address on the following slide; and two, continued increase in the fair value of 2 net lease assets, modestly offset by the specialty chemicals name that migrated from green to orange.

Looking forward, we would anticipate further positive price movement in our green, yellow and orange rated loans, which if our risk assessment is correct, should continue to recover in the coming quarters as the world normalizes. And if they recover to par, would increase book value an additional $0.32 per share to a book value of $13.65. We believe the opportunity for value creation across our restructured and equity portfolio as evidenced by the recent monetization of Edmentum provides additional upside from here. We have included an illustrative sensitivity analysis showing the impact of a 10% change in fair value of our red risk rating, restructured and equity assets. Each 10% change in fair value would result in change to NAV of $0.35 per share and we continue to believe there is more upside than downside in this portfolio.

On Page 13, we are excited to present a case study on the recent increase in value and successful partial monetization we had on Edmentum post quarter end. As a reminder, Edmentum is a leading provider of education technology primarily for K-12 students. NMFC has been a minority owner of Edmentum since the restructuring in 2015, and we have since helped guide a significant turnaround in performance.

In December 2020, the Vistria Group, a Chicago-based private investment firm acquired a 50% stake in Edmentum, which resulted in a full recovery of our cumulative investment plus significant gains as previously discussed. NMFC chose to reinvest $89 million of the proceeds, $74 million of which in equity and remain a meaningful shareholder due to our strong conviction in the continued growth of the company and the likelihood of material further value creation. On July 26, Edmentum closed the acquisition of Apex Learning, a leader in digital curriculum and virtual learning, which is a highly strategic and complementary combination. In connection with this transaction, the company raised additional equity at a significant write-up on the TEV from the 2020 transaction, which was reflected in the Q2 net asset value on an unrealized basis.

Additionally, post quarter end, we sold approximately 34% of our equity position to Vistria and their co-investors at that same value, which will show as realized in Q3. Specifically, as compared to our $74 million of equity reinvested in December 2020, we received $48 million from this recent sale and marked our remaining position at $91 million.

In summary, we have invested $51 million cumulatively into Edmentum since our original investment in 2012, excluding all opportunistic first lien and seasonal revolver investments made and have received $57 million of proceeds to date, representing a realized multiple on invested capital of 1.1x. We mark our remaining equity ownership in Edmentum at $91 million, which brings the total multiple of invested capital, including our unrealized position to 2.9x or a 17.9% IRR.

Page 14 shows that we continue to manage our statutory leverage ratio at a very comfortable level. Gross debt for the first quarter increased by $68 million, but the increase in net asset value of $48 million resulted in a relatively flat statutory leverage ratio of 1.19x. We continue to have a number of portfolio companies currently in active sale processes, the anticipated culmination of which will give us additional financial flexibility to either reinvest or further delever. Our intention remains to manage the business at a statutory leverage ratio net of cash of 1.0 to 1.25x.

With that, I will turn it over to John to discuss market conditions and other elements of the business.

Thanks, Rob. We are pleased to report that overall conditions in the direct lending market continue to be very healthy. Companies within most industries have very good access to capital and new sponsor-backed purchases are generally occurring at very high multiples across a range of industries. Companies with many of our -- within many of our core defensive growth sectors, such as software, health care technology, field services and technology-enabled business services have compelling momentum in their businesses and are attracting a particularly high level of sponsor attention.

Interest spreads and loan structures across the direct lending market are consistent with what we have observed last quarter, reflecting the ongoing competitive lending environment. Despite this strong competition for new loans, we still believe the returns remain attractive, both on an absolute basis and relative to other credit markets that we see. While deal flow has been solid over the last couple of months, we expect an acceleration in the second half of the year based on the deal velocity that we see in New Mountain's private equity business and the building backlog of credit opportunities in our forward pipeline.

Turning to Page 16. We now show how potential changes in the base rate could impact NMFC's future earnings. As you can see, the vast majority of our assets are floating rate loans, while our liabilities are 55% fixed rate and 45% floating rate. NMFC's current balance sheet mix offers our shareholders consistent and stable earnings in all scenarios where LIBOR remains under 1%. If base rates rise above 1% as the economy normalizes or accelerates, there is meaningful upside to NMFC's net investment income. For example, assuming our current investment portfolio and existing liability structure, if LIBOR reaches 2%, our annual NII would increase by 8.4% or $0.10 per share. At 3% LIBOR, earnings would increase by 19% or $0.23 per share. We believe this positive interest rate optionality offers meaningful value to our shareholders compared to that offered by fixed rate debt investments.

Page 17 addresses historical credit performance, which shows NMFC's long-term track record. On the left side of the page, we show the current state of the portfolio where we have $3.1 billion of investments at fair value, with $24 million or less than 1% of our portfolio currently on nonaccrual. This quarter, as mentioned earlier, we did not place any new borrowers on nonaccrual. On the right side of the page, we present NMFC's cumulative credit performance since our inception in 2008, which shows that across $8.4 billion of total investments, we have $647 million that have been placed on our watch list with $236 million of that amount migrating to nonaccrual. Of the nonaccruals, only $79 million have become realized losses over the course of our 12-plus-year history.

Page 18 is a view of our credit performance based on underlying portfolio company leverage relative to LTM EBITDA. As you can see, the majority of our positions have shown results that are very consistent with our underwriting projections, exhibiting either very minor leverage increases or, in many cases, leverage decreases. We believe the strong and consistent performance across our portfolio is particularly notable in a period of time affected by a global health crisis. On the lower right side of the page, we show a group of 7 companies that have more than 2.5 turns of negative leverage drift. These companies represent a small portion of our portfolio that have underperformed partially due to adverse conditions caused by the well-documented volatility in certain parts of the economy. From a liquidity perspective, we believe that all 7 companies have adequate resources to pursue their post-COVID business plans, which all contemplate higher profits compared to those of the past 12 months.

Two of the companies are still rated green due to strong equity support and meaningful momentum in 2021 after a more difficult year in 2020. UniTek is rated yellow based on some performance volatility through COVID but has shown solid momentum in 2021. Our orange and red names with material leverage drift are all still facing challenges relating to the upheaval in certain segments of the economy. However, of the 4, 3 have positive business momentum, which gives us optimism regarding a longer-term recovery.

The chart on Page 19 tracks the company's overall economic performance since its IPO. At the top of the page, we show that our net investment income has always cumulatively covered our regular quarterly dividend. On the lower half of the page, we focus on below-the-line items where we show that since inception, highlighted in the blue box, NMFC has experienced approximately $20 million of net realized losses. And in gray, we showed that NMFC has total net unrealized portfolio markdowns of $18 million.

Combined, these 2 numbers represent $38 million of cumulative net realized and unrealized losses. This bottom line number represents a $47 million improvement compared to last quarter, driven by the positive change in our portfolio marks that we discussed in detail earlier in the presentation. At $38 million, our net realized and unrealized losses are lower than before COVID and at the lowest level that we have experienced since the end of 2017. As we look forward, we remain confident in our core credit portfolio, continue to see strengths in our well-performing REIT subsidiary and have very good momentum in our equity positions.

Page 20 shows a stock chart detailing NMFC's equity returns since IPO. While the performance of our stock was impacted by fears around the pandemic, over the course of the last year, we have seen material improvement in our share price as investors have become more comfortable with the trajectory of the U.S. economy and gain confidence in the stability, attractive yield and upside of our portfolio. Since our IPO over 10 years ago, NMFC has a compounded annual return of 10.5%, which represents a very high return for a fixed income strategy. To that end, NMFC's performance has materially exceeded that of the high-yield index as well as an index of BDC peers that have been public at least as long as we have.

Page 21 provides a final look at NMFC's cumulative returns compared to the individual returns of peers. As you can see, NMFC has been the second best performer amongst the peer group that we have tracked since the IPO. We continue to build on this total return performance with our $0.30 per share dividend, which based on the current stock price represents an annualized dividend yield of approximately 9%.

Turning to our investment activity tracker on Page 22. This quarter, our total originations were $102 million, offset by $95 million of loan repayments, yielding $7 million of net originations. This balanced activity is reflective of our business continuing to operate well within the range of our new leverage guidance.

Page 23 shows the strength of our new deal activity since the end of the quarter, reflecting the active market that I mentioned in my opening comments. So far in the quarter, we have committed to new investments of $229 million, consisting mostly of high-quality private financings offset by $151 million of repayments, yielding net originations of $78 million. Given the active deal environment, we do have a long list of companies on our repayment watch list, which we believe could be exiting our portfolio throughout the next quarter. These loan repayments represent a material source of cash to fund both our commitments and forward pipeline of new deals.

Turning to Page 24. As shown on the left side of the page, our origination mix by asset type in Q1 was heavily oriented towards senior assets, including first lien loans and new investments supporting the expansion of our SLP loan programs. Overall, these senior-oriented assets represented 76% of our total new deal flow in the quarter. Repayments consisted of 46% second lien assets and 30% first lien assets. Additionally, we show repayments in our net lease portfolio which occurred as a result of applying modest asset level leverage to certain real estate properties that were purchased with 100% equity earlier in the year. The resulting portfolio mix shown on the right side of the page, remains heavily weighted towards senior and secured assets.

On Page 25, we show the average yield of NMFC's portfolio was stable from Q1 to Q2 at approximately 8.8%. For the quarter, we were able to originate a group of assets with a weighted average yield of 9.5%, while actually improving our asset mix towards more senior-oriented assets. While this environment is competitive, the available spreads in the marketplace remains supportive of our NII targets.

On Page 26, we have detailed breakouts of NMFC's industry exposure. The center pie chart shows overall industry exposure, while the surrounding pie charts gives more insight into the very significant diversity within our health care, software and services portfolio. As you can see, we have successfully avoided nearly all of the most troubled sectors while maintaining high exposure to the most defensive, COVID-resistant sectors within the U.S. economy.

Finally, as illustrated on Page 27, we have a diversified portfolio with our largest single name investment at 5% of fair value and the top 15 investments accounting for 39% of fair value. It is worth noting that while Edmentum was our largest position at 5% of the portfolio at quarter end, after the partial exit of our equity position, Edmentum now represents approximately 3.4% of our portfolio.

With that, I will now turn it over to our CFO, Shiraz Kajee, to discuss the financial statements and key financial metrics. Shiraz?

Thank you, John. For more details on our financial results and today's commentary, please refer to the Form 10-Q that was filed last evening with the SEC. Now I'd like to turn your attention to Slide 28. The portfolio had $3.1 billion in investments at fair value at June 30 2021 and total assets of $3.2 billion, with total liabilities of $1.9 billion, of which total statutory debt outstanding was $1.5 billion, excluding $300 million of drawn SBA guaranteed debentures.

Net asset value of $1.3 billion or $13.33 per share, was up $0.48 from the prior quarter. At June 30, our statutory debt-to-equity ratio was 1.19:1. And as noted, net of available cash on the balance sheet, the pro forma leverage ratio would be 1.17:1.

On Slide 29, we show our historical leverage ratios and our historical NAV adjusted for the cumulative impact of special dividends.

On Slide 30, we show our quarterly income statement results. We believe that our NII is the most appropriate measure of our quarterly performance. This slide highlights that while realized and unrealized gains and losses can be volatile below the line, we continue to generate stable net investment income above the line.

Focusing on the quarter ended June 30, 2021, we earned total investment income of $66.2 million, a $1.2 million decrease from the prior quarter due to lower fee income this quarter. Total net expenses were approximately $37.4 million, a slight decrease quarter-over-quarter. As discussed, the investment adviser has committed to cap the management fee for the 2021 and 2022 calendar years, such that the effective annualized management fee this quarter was 1.25%. It's important to note that the investment adviser cannot recoup fees previously weighted. This results in the second quarter NII of $28.8 million or $0.30 per weighted average share, which covered our Q2 regular dividend of $0.30 per share. As a result of the net unrealized appreciation in the quarter, for the quarter ended June 30, 2021, we had an increase in net assets resulting from operations of $76 million.

As Slide 31 demonstrates our total investment income is recurring in nature and predominantly paid cash. As you can see, 95% of total investment income is recurring, and cash income remained strong at 80% this quarter. We believe this consistency shows the stability and predictability of our investment income.

Turning to Slide 32. As briefly discussed earlier, our NII for the second quarter covered our Q2 dividend. Based on preliminary estimates, we expect our Q3 2021 NII will be at least $0.30 per share prior to any fee waivers under our new dividend support program. Given that, our Board of Directors has declared a Q3 2021 dividend of $0.30 per share, which will be paid on September 30, 2021, to holders of record on September 16, 2021.

Slide 33, we highlight our various financing sources. Taking into account SBA guaranteed debentures, we had almost $2.3 billion of total borrowing capacity at quarter end with over $400 million available on our revolving lines subject to borrowing base limitations. On June 4, we amended and extended our NMFC credit facility, pushing out our maturity to 2026, while decreasing our applicable spread materially by 40 basis points. As a reminder, both our Wells Fargo and Deutsche Bank credit facilities covenants are generally tied to the operating performance of the underlying businesses that we lend to, rather than the marks of our investments at any given time.

Finally, on Slide 34, we show a leverage maturity schedule. As we've diversified our debt issuance, we have been successful at laddering our maturities to better manage liquidity. We have no near-term maturities and over 75% of our debt matures after 2025. Also, given our recent investment-grade rating from Moody's, we'll continue to explore the unsecured debt market to further ladder our maturities in the most cost-efficient manner.

With that, I would like to turn the call back over to Rob.

Thanks, Shiraz. In closing, we are optimistic about the prospects for NMFC in the months and years ahead. Our long-standing focus on lending to defensive growth businesses supported by strong sponsors should continue to serve us well. We once again thank you for your continuing support and interest, wish you all good health and look forward to maintaining an open and transparent dialogue with all of our stakeholders in the days ahead.

I will now turn things back to the operator to begin Q&A. Operator?

(Operator Instructions) The first question comes from Finian O'Shea with Wells Fargo.

First, a small question on Edmentum. It looks like this puts you in a undistributed earnings situation in some way. I don't know if it's -- how the split is between ordinary and capital income. But if you can give any color on that, and most importantly, will you be able to retain the spillover? Or is that something that you're -- will this push you into a higher undistributed income situation?

It's a great question, Fin, and we're still running the accounting on that as the third quarter evolves, and we'll have much more to say on that after the end of the third quarter.

Okay. Fair enough. And Rob or, I think, John talked about this, the second half backlog being very strong for -- both in the private equity and credit side. Would you describe this as still being pent-up demand from COVID or more of a, say, secular shift in the demand for private credit from private equity, perhaps being from the volatility we saw in COVID. But how comfortable do you feel about this sustaining versus it all kind of going back to the syndicated market, say, 1 to 2 years from now?

Yes. I'll take a crack at that, and John may have some thoughts as well. But I think we're just seeing a permanent and ongoing shift. I don't want to say shift, just the scale of capital formation continues to increase pretty meaningfully. If you look at private equity fund size really across the board and the velocity of transactions has really picked up. I do think COVID was an accelerant there because people realized they could get a lot done without always having to travel to South Dakota or New Mexico or wherever.

And so we're seeing that very much in our own private equity business. we're seeing it very much in our sponsor clients private equity businesses. And I think it's secular, not temporary. And I think the role of private credit in that larger accelerated market is here to stay. I think there's plenty for the syndicated guys to do, but there's more than ever for the private credit folks to do, whether it's both more deals as well as larger deals. And there are a variety of factors that will dictate whether a sponsor wants to go the private credit route or wants to go the syndicated route. But I think private credit market share of an expanded market is -- has more growth ahead of it as opposed to some cyclical downturn.

Yes. I don't have a lot to add. I think that was a great answer to the question. The only other thing I'd say that we see going on out there is over the last 5 years, it's pretty amazing to watch the evolution of our clients. A lot of our clients have gone from fund sizes of $1.5 billion to $3 billion, maybe $4 billion. And now a lot of these same clients are pushing $10 billion in size in some cases. And a lot of these clients are used to using the private credit lenders that exist in the private credit universe. And they're comfortable with the relationships that we all offer and they're comfortable with the terms, and they know how we're going to act. And so I do think that there's just a natural shift upwards with the growth of our sponsor clients. And I think that's a healthy thing for the industry. And I think that is 1 trend that really does soak up a lot of capital in the private credit market.

The thing that I always say is, while the private credit market is certainly competitive and there's a lot of capital in the market, I still feel like we all collectively struggle to grow as fast as the middle market private equity firms that we serve. And so I think that does keep a certain amount of equilibrium in the market.

Very well. That's helpful. And wanted to congratulate the team on the Edmentum outcome as well. It's great to see. That's all for me.

(Operator Instructions) The next question comes from Ryan Lynch with KBW.

Rob, first off, congratulations on celebrating 10 years as a public company this quarter. That's a nice milestone.

Thank you.

My first question has to do with Edmentum. I've been covering you guys for a long time and I've seen the long line you rode, that you guys have had with that investment, some ups and some downs with that, but you guys have stuck with it and have actually had a really good outcome. So congratulations on that, and that's got to feel like a proud moment to crystallize some of those gains. But my question is regarding the exit that you guys made about a 30-year position post quarter. Did you guys have the option to retain your full position as part of that transaction or to conversely sell your whole position as part of that? And depending on what your answers were to that, how did you guys come about to exit off 1/3 of your position if those 2 other options were on the table, which I'm not sure if they were or not.

Yes. It's a fair question. We really never entertain the possibility of exiting the full position just given the growth path we see ahead of us. So we didn't really even solicit interest in that to see if that was doable or not doable. We could have rolled our entire position, but we did think it was important to take some chips off the table. You can see it in our in our Q2 numbers that reflect before we sold in -- later in July, a 5% position even for the right reasons, right, like the value has grown so meaningfully. It just gets uncomfortable. So -- and there was definitely demand in the newer investor group, even at this higher valuation.

And so we sort of -- we kind of tried to find the happy medium to preserve what we -- we still think we're selling, frankly, cheap, but it's important just from a diversity standpoint because you never know what's going to happen, right? So we solomonically came to -- and we did this in conjunction with BlackRock, our partner. Solomonically came to the kind of 1/3, 2/3. And there's no magic to that. It could have been 50-50, it could have been 20-80, but that was our best judgment as to the twin goals of, one, derisking and monetizing and bringing some cash and that can earn NII as opposed to equity on the 1 hand versus not selling too early in what I think is an incredibly strong cyclical winner with great execution capabilities.

Yes. That's helpful color. Yes, never backing to lock in some of those gains off still led some of the ride.

Exactly.

You mentioned New Mountain Net Lease Corporation had some nice gains from a valuation perspective. Can you just talk about what is happening in the underlying market there that's driving those gains? And how do you guys -- how is the fair value for that asset determined based on the fundamentals that are going on in kind of the underlying end markets that, that operates in?

Yes. So I think there's 2 things going on there. One is pretty obvious, which is just cap rates as a function of base rates declining, right? We've obviously all seen base rates come in. But more recently, it's really been more about the risk premia and just the value -- the quality of the real estate. I'll give you 1 example. The biggest driver of the gains this quarter was a collection of properties we have in the infill LA market and it's just such a scarce asset. And what you see is our rents are really under the market. So we have incoming, I don't want to say, weekly or daily, but we have multiple times a month incoming unsolicited bids on those properties from people at extremely low cap rates.

And those cap rates are a function of the view of long-term -- very long-term real estate investors that this real estate is -- can be -- when our lease expires, which is 10, 12, 14 years down the road can be relet at much higher values, and that they're not -- obviously not making any more infill LA and for all kinds of reasons around Amazon and delivery and other trends, that type of real estate is incredibly valuable. So it's things like that, that are driving it. Obviously, there's some rate risk, right? If treasuries exploded upward, we'd see that part compressed. But I think the secular component and the quality of the real estate being recognized, that's here to stay irrespective of rates. So it's really those 2 pieces that drive that. And we are constantly evaluating whether it makes sense to hold these -- certain of these assets or at some point, we're just not earning enough that we may elect to sell 1 or more assets.

Okay.

At which point we'd obviously crystallize the gain from unrealized to realized.

Yes. Got you. That's very helpful commentary on what's going on in the underlying business there. And then the last one I had was, in the prepared comments you mentioned kind of a long list of companies potentially on the repayment watch list, which would make sense, I think, just given your guys' portfolio composition of software, technology-enabled health care, business services, I mean those are very desirable sectors right now for direct lenders, given the fundamental performance through COVID.

Do you guys feel that your guys' pipeline is strong enough, if those repayments kind of come to fruition. Do you guys feel like your pipeline is strong enough to be able to at least offset those with new originations? And if you guys are -- do see an accelerated level of repayment or prepayment activity, should we expect potentially an increase in accelerated OID or fees associated with these prepayments that can increase the portfolio yield at least in the near term while this is going on? Or are these kind of more longer-dated assets where some of those accelerated fees have kind of already run off?

Sure. Ryan, this is John. I think as I said in my comments, we feel like there will be a lot of velocity in the portfolio. There will be a lot of repayments on existing assets, and that's life as a lender and especially life as a lender that tries to target really quality assets. We just know we're going to constantly receive paydowns. And we really feel that we're very well prepared for that when we look at our pipeline and just the amount of opportunities just generally that are out there, we do feel very confident that we can very successfully fill any gaps that are left from repayments or prepayments, et cetera. And I think on the point around accelerated OID and just extra income that comes from prepayments, that is definitely true. And it's a mixed bag. Some are going to be longer-lived assets and some are going to be shorter-lived assets. And so I think, as you know, Velocity is our friend when it comes to releasing a certain amount of modest income. So that is a -- I would call it a modest tailwind.

(Operator Instructions) The next question comes from Bryce Rowe of Hovde Group.

I've got a kind of a higher level question. I think people have appreciated the introduction of the heat map during COVID. And clearly, you've continued to show that as we've moved away or are moving away from the peak of it. Is that something that you guys plan to kind of keep as a best practice? And does it kind of get to a point where there just aren't enough investments in the red or the orange buckets to continue to use that and show that to us on a quarterly basis. Just trying to understand how you how you kind of feel about the use of that and how it kind of came together during COVID, and I'm sure it was a helpful exercise. So just any commentary around that would be helpful.

Yes, sure. It's a very good question and one we're debating. Frankly, there was some talk about maybe retiring the COVID element of it this quarter and then delta kind of made us say probably not yet. Listen, hopefully, there will be a day sooner rather than later where we're just not all talking about COVID as the -- 1 of the 2 or 3 main drivers of asset values and risk factors. Sadly, that day is not here in August of 2021. But when that day arrives, I think it's our view that at some point, the horizontal axis of COVID impact is no longer a relevant metric. But we do kind of like the spread of green, yellow, orange, red. And I'd love to say that 1 day, all our assets will be green, and that may be the case. But we all know in the real world, there are always assets that struggle for 1 reason or another. So I think we'll always have some version of the heat map and investors seem to like it a fair bit, and it's a good management tool for us. So I think the heat map will always be with us, but the metrics may change a little bit over time. And again, hopeful, sooner rather than later vis-a-vis the COVID metric.

(Operator Instructions) This concludes our question-and-answer session. I would like to turn the conference back over to Rob Hamwee for any closing remarks.

Great. Thank you. And thank you, everybody. We always -- as always appreciate the time and attention and interest again. People know always where to find us if need be and look forward to speaking to you all in the months ahead. Thanks. Have a great, great rest of the day. Bye-bye.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.