PennantPark Floating Rate Capital Ltd (PFLT) 2025 Q2 法說會逐字稿

Good morning, and welcome to the PennantPark Floating Rate Capital second fiscal quarter 2025 earnings conference call. Today's conference is being recorded. (Operator Instructions)

It is now my pleasure to turn the call over to Mr. Art Penn, Chairman and Chief Executive Officer of PennantPark Floating Rate Capital. Mr. Penn, you may now begin your conference.

Thank you, and good morning, everyone. I'd like to welcome you to PennantPark Floating Rate Capital's second fiscal quarter 2025 earnings conference call. I'm joined today by Rick Allorto, our Chief Financial Officer. Rick, please start off by disclosing some general conference call information and include a discussion about forward-looking statements.

Thank you, Art. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of PennantPark Floating Rate Capital and that any unauthorized broadcast of this call in any form is strictly prohibited. An audio replay of the call will be available on our website. I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking information.

.Today's conference call may also include forward-looking statements and projections, and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these projections. We do not undertake to update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at pennantpark.com or call us at 212-905-1000.

At this time, I'd like to turn the call back to our Chairman and Chief Executive Officer, Art Penn.

Thanks, Rick. I'm going to spend a few minutes discussing the current market environment for private middle market lending and how the portfolio is positioned for the upcoming quarters. I'll then discuss how we fared in the quarter ended March 31, and finally, highlight how our financial strength has been significantly enhanced through strategic capital raising activities during the quarter and over the last 12 months. Rick will provide a detailed review of the financials, and then we'll open up the call for Q&A.

With regard to the current market environment, despite continued volatility in the broader markets, we had a solid quarter particularly given the seasonally slower start to the fiscal year. Our platform continues to prove its strength, enabling us to support our existing portfolio companies and private equity borrowers with strategic capital solutions to help grow their businesses.

Approximately 80% of our originations came from existing borrowers, while 20% were from new platform investments, each one underwritten with attractive credit statistics and yields. Our ability to remain active and disciplined during uncertain periods reinforces the value of our long-standing relationships and the breadth of our origination capabilities.

Looking ahead, we expect originations to remain concentrated among existing portfolio companies with select opportunities from high-quality new platforms. In this evolving environment, pricing will likely increase and leverage will moderate as buyers and lenders adjust to a new risk framework. We believe the strongest assets, those with demonstrated growth and tariff resilience will still command premium valuations and attract sponsor interest.

As always, we will remain rigorous in our underwriting and highly selective in pursuing new investments. Throughout the past year, we've taken significant steps to strengthen our balance sheet and enhance PFLT's liquidity to maximize our ability to take advantage of current market opportunities.

As is typically the case, market volatility creates opportunities, and this upcoming vintage of loans is shaping up to be particularly attractive.

We continue to see attractive investments in the core middle market. During the quarter for investments in new portfolio companies, the weighted average debt to EBITDA was 4.3 times. The weighted average interest coverage was 2.3 times, and the weighted average loan to value was 39% with a yield to maturity of 9.9%.

In the core middle market, the pricing on first lien term loans appears to have stabilized in the server plus $500 to $550 range for high-quality assets. As the credit statistics just highlighted indicate, we continue to believe that the current vintage of core middle market directly originated loans is excellent.

In the core middle market, leverage is lower and spreads are higher than in the upper middle market. We continue to get meaningful covenant protections while the upper middle market is primarily characterized as covenant light. With regard to how the current portfolio is positioned over the past several weeks, our team has been closely evaluating the potential impact of tariffs across the portfolio. We are pleased to report that exposure is limited.

As of March 31, the portfolio's weighted average leverage ratio through our debt security was 4.2 times, and the portfolio's weighted average interest coverage was 2.3 times. We believe that this is one of the most conservatively structured portfolios in the direct lending industry and can withstand volatility in the current environment.

We continue to believe that our focus on the core middle market provides us with attractive investment opportunities where we provide important strategic capital to our borrowers. We have a long-term track record of generating value by successfully financing growing middle market companies in five key sectors.

These are sectors where we have substantial domain expertise, know the right questions to ask and have an excellent track record. They are business services, consumer, government services and defense health care and software and technology. These sectors have been recession resilient, tend to generate strong free cash flow and have a limited direct impact to the recent tariff increases and uncertainty.

The core middle market companies with $10 million to $50 million of EBITDA is below the threshold and does not compete with a broadly syndicated loan or high-yield markets, unlike our peers in the upper middle market. In the core middle market, because we are an important strategic lending partner, the process and package of terms we receive is attractive. We have many weeks to do our diligence with care. We thoughtfully structured transactions with sensible credit statistics, meaningful covenants, substantial equity cushions to protect our capital, attractive spreads and equity co-investment.

Additionally, from a monitoring perspective, we received monthly financial statements to help us stay on top of the companies. With regard to covenants, unlike the erosion in the upper middle market, virtually all of our originated first lien loans had meaningful covenants, which help protect our capital. Credit quality of the portfolio has remained strong.

During the quarter, three new investments were added to the nonaccrual status and total nonaccruals represent only 2.2% of the portfolio at cost and 1.2% at market value. Subsequent to quarter end, two nonaccrual investments were put back on accrual and pro forma for these subsequent events, PFLT's nonaccruals represent only 1% of the portfolio at cost and 0.5% at market value as of today.

Pay in kind or PIK income is only 3% of interest income. This is among the lowest in the industry and is a testament to the quality of our underwriting and our portfolio versus our peers. Our credit quality since inception over 14 years ago has been excellent. PFLT has invested $7.6 billion in over 500 companies, and we have experienced only 23 nonaccruals.

Since inception, PFLT's loss ratio on invested capital is only 11 basis points annually. As a provider of strategic capital, we fuels the growth of our portfolio companies. In many cases, we participate in the upside of the company by making an equity co-investment.

Our returns on these equity co-investments have been excellent over time. Overall for our platform from inception through March 31, we've invested over $566 million in equity co-investments and have generated an IRR of 26% and a multiple on invested capital of 2 times.

Moving on to how we fared in the quarter ended March 31. Our core net investment income was $0.28 per share. It is adjusted for the additional shares issued during the quarter, core NII would have been $0.30 per share. We are looking forward to ramping the portfolio of both PFLT and the JV in this attractive vintage, which we believe will result in PFLT's net investment income comfortably covering the dividend. As of March 31, our portfolio grew to $2.3 billion or up 7% from the prior quarter.

During the quarter, we continue to originate attractive investment opportunities and invested $293 million in three new and 54 existing portfolio companies at a weighted average yield of 9.9%. Throughout the past year, we've taken significant steps to strengthen our balance sheet in order to enhance our liquidity and maximize the company's ability to take advantage of market opportunities.

On the liability side of our balance sheet, over the last 12 months, we've increased our total leverage capacity by $750 million. This was done through a combination of expanding and reducing the cost of our revolving credit facility and closing on a substantial new securitized financing.

Securitization financing continues to be a good match for our lower risk first lien assets. We believe that securitizations are attractive financing structures as they have a 12-year stated maturity and generally have four-to five-year reinvestment periods.

In March, FLT closed on a new $361 million securitization financing with a weighted average spread of 1.59%, a four-year reinvestment period and a 12-year final maturity. The ratio of external debt to PFLT's junior capital was 3.2 times 1.

In April, we amended the truest revolving credit facility and reduced the interest rate on the facility to SOFR plus 200 and from SOFR plus 225. The amendment also extended the revolving period of final maturity by one year to August 2028 and August 2030, respectively. Our PSSL joint venture has also taken significant strides and bolstering its financial strength as well.

As of March 31, the JV portfolio totaled $1.1 billion and during the quarter, invested $60 million in four new and five existing portfolio companies at a weighted average yield of 9.8%, including $53 million of assets purchased from PFLT.

In April, again, accessing attractive securitization financing, PSSL close on a new financing at an attractive weighted average price of SOFR plus 1.71%. PSSL has $350 million of additional committed capital, debt and equity capital and can grow its total portfolio to $1.5 billion.

We believe that the increase in scale of the JV's balance sheet will continue to drive attractive mid-teens return on invested capital and enhance PFLT's earnings momentum. Our financial strength was also substantially enhanced by attractive equity capital raised from our ATM program. Over the last 12 months, we have raised meaningful equity capital through this program. This includes $163 million raised during the quarter ended March 31 from the issuance of 14.4 million shares of our common stock at an average price of $11.33 per share.

As a result of our capital activities over the last 12 months, PFLT is over $500 million of available capital. That availability along with the JV having $350 million of committed capital brings the total overall capacity of the platform to approximately $850 million.

As a result, we believe that we are well positioned from both a defensive and offensive perspective in this current market environment. From an outlook perspective, our experienced and talented team and our wide origination funnel is well set up to produce active deal flow.

Our continued focus remains on capital preservation and being patient investors. Our mission and goal are steady, stable and protected dividend stream, coupled with the preservation of capital. Everything we do is aligned to that goal. We seek to find investment opportunities in growing middle market companies that have high free cash flow conversion.

We capture that free cash flow primarily in first lien senior secured instruments, and we pay out those contractual cash flows in the form of dividends to our shareholders.

Let me now turn the call over to Rick, our CFO, to take us through the financial results in detail.

Thank you, Art. For the quarter ended March 31, GAAP net investment income was $0.28 per share and core net investment income was $0.28 per share. If adjusted for the additional shares issued during the quarter, core NII would have been $0.30 per share. Operating expenses for the quarter were as follows, interest and expenses on debt were $23 million. Base management and performance based incentive fees were $11.9 million, general and administrative expenses were $1.85 million and provision for taxes was $0.2 million.

For the quarter ended March 31, net realized and unrealized change on investments, including provision for taxes was a loss of $23.8 million. As of March 31, NAV was $11.07 per share, which is down 2.4% from $11.34 per share last quarter.

As of March 31, our debt-to-equity ratio was 1.3 times, and our capital structure is diversified across multiple funding sources, including both secured and unsecured debt. As of March 31, our key portfolio statistics were as follows, the portfolio remains highly diversified with 159 companies across 49 different industries. The weighted average yield on our debt investments was 10.5% and approximately 100% of the debt portfolio is floating rate.

PIK income for the quarter equaled only 3% of total interest income. We had four nonaccruals, which represent 2.2% of the portfolio at cost and 1.2% at market value after quarter end, two of these nonaccruals came off nonaccrual and pro forma nonaccruals represent only 1% of the portfolio at cost and 0.5% at market value.

The portfolio was comprised of 90% first lien senior secured debt, less than 1% in subordinated debt; 3% in equity of PSSL and 7% in other equity. Our debt-to-EBITDA ratio on the portfolio is 4.2 times, and the interest coverage was 2.3 times.

Now let me turn the call back to Art.

Thanks, Rick. In closing, I'd like to thank our dedicated and talented team of professionals for their continued commitment to PFLT and its shareholders. Thank you all for your time today and for your investment and confidence in us. That concludes our remarks. At this time, I would like to open up the call to questions.

(Operator Instructions)

Robert Dodd, Raymond James.

Hi guys, I apologize for the background noise to start with. On the equity raising during the quarter on, were you seeing -- is this kind of like just a long-term capital build. Are we seeing an increase spend in pipeline activity? I mean at the beginning part of the year, right, we're more optimistic preliberation date which kind of how would you characterize kind of the motivation?

Yeah, so it's a great question. Look, we had a very robust 2024 originating about $4 billion across the entire PennantPark platform, including PFLT. And we were gearing up to have a very robust 2025 again. So the ATM raise, along with all these debt capital raises, the securitization, redialing the credit facility, we're setting the table for a robust 2025 and then Liberation day happened and kind of activity slowed down substantially.

And that's left us in a really good position, though. We raised all this capital kind of the ATM, we raised the capital in average stock price of $11.33 per share which is in excess of quarter-end NAV.

So that was accretive. The quarter end NAV ends up $11.07. So it turned out that we really raised this kind of really nice war chest and we're hoping that now that the tariff situation seems to be clearing up a bit, we will be able to deploy that capital and ramp into it over the coming 6 to 9 to 12 months activity, even in a normalized environment, there's always activity in the core middle market. So we're hopeful we can do that over the next time period.

Got it. I appreciate that. On that, Liberation Day China, it changed the landscape. I mean, what do you think is necessary to unlock more what kind of platform M&A? I mean, the prepared remarks you said, expect to be to be follow on in the near term to existing borrowers. I mean, is it just certainty in tariffs or is it tariffs returning ballpark to where they were. Pre-liberation day. I mean, what does it take to unlock new M&A activity in your office?

Yeah, so as I said, most of our -- the tariff exposure to the portfolio is very limited. We're more in things like health care and government services and defense and other areas that really are not impacted by tariffs. So it's really been the uncertainty that has slowed things down. And then certainly, tariff impacted deals are going to be -- it's going to take a while for those to read back up that.

I think will require certainty of tariffs. I think for the nontariff nontariff-related names is just going to be certainty of the environment, and so people can start making decisions again. We're starting to see some activity not a flood by any stretch, but we're starting to see some stabilization. We're starting to get more active. It's early days, though.

Got it. Thank you. One last one. On the nonaccrual restructurings first quarter end, I assume there was a petition in there. So of the income production that was put on total, how much of the income production comes back, I mean, obviously, are the assets going off not at all, but what kind of income rebound that we expect from those structures.

Yeah. So when you add them up, it's Zip, which has done its restructuring, it's four wall, which the restructuring will be done in the next couple of weeks. It's integrated Nutrition, which has been done and completed. On a run rate basis, you get back about 60% of your income that you lost and adds up to about $0.01 a share on a run rate basis.

So the way we look at it is adjusting for the ATM, we were $0.030 a share, up from 28%. You add the $0.01 of run rate on the nonaccruals that gets you to 31%, so you're covering your dividend and you're still underlevered. You're kind of 1.3 times leverage.

Our target leverage is 1.5 times. And that doesn't include the growth of the JV PSSL, which has substantial capital to grow $350 million. So kind of we've reloaded the balance sheet at very attractive terms, both in equity and are looking forward to we don't even need to ramp to cover the dividend. We just need to get through these nonaccruals and then ramping more, that's why we said we believe we can comfortably cover the dividend as we ramp into this vintage. Thank you.

Mark Hughes, Truist.

Yeah, thank you. Good morning. The activity with existing borrowers, like you said, that ought to be sustained. How much of that is, say, repricing versus growth capital? And is that at an elevated level relative to historical terms? Or is it just that the new platform activity is low. And so this is the existing borrowers are dominating those originations?

Yeah. And that's a great question, Mark. On the repricings, that ended, liberation Day put an end, I guess that's a good news for deliberation. They put an end to the repricing. So spreads have started to move back up, call it, 25 basis points to 50 basis points from pre-liberation day.

So the vast majority of the activity is existing platforms that are growing. As we've discussed, a prototypical deal for us in the core middle market is a company that starts out of $10 million to $20 million with a sponsor who wants to grow the company, in many cases, through add-on acquisitions. It's a fragmented industry. We give them the debt to do the initial acquisition. We coinvest in the equity because by and large, the growth is locked.

I mean these companies are going to grow, and we arrange for a delayed draw or incremental term loan to fuel that growth. So the vast majority of the add-ons are taking $10 million or $20 million EBITDA companies taking them to 30, 40, 50 and above. They get sold or the upper market guys take us out with covenant light deal. We wish them the best. We have a residual equity co-investment. And hopefully, that residual equity co-investment gets monetized at some point.

Very good. Then the question on kind of core middle market versus larger businesses. I think you've been pretty consistent on your view that the credit in the core middle market is very good for the reasons you've articulated. The same thoughts around tariffs. I think you mentioned that the when you're doing health care, it's not going to be much impacted by tariffs. But any just general observations about tariff sensitivity for your portfolio versus larger businesses?

Yeah. So I mean, with our industry groups, which are the five we've talked about, by and large, they're not the only one where it might touch is consumer and in particular, consumer goods or there's consumer goods that are manufactured overseas and particularly China.

Most of those companies from the first Trump administration that already moved to Vietnam and other jurisdictions. But again, it's a very limited part of the portfolio. And again, all of these companies, in whatever sector are always structured in a way where leverage is low, the loan-to-value is attractive and can withstand stress, whether it be recessionary stress or any kind of shock.

So we think it's a very limited piece of the portfolio. And again, most of these companies already made their moves from the First Trump administration.

Thank you very much. Thank you.

Mickey Schwein, Ladenburg.

Yeah, good morning, Art, I wanted to start by asking you at a high level how you feel about the equilibrium in the private credit market that you target for PFLT. I think you said in your prepared remarks that you're seeing stabilization of pricing but at the same time, there's just huge buildup of capital, particularly by private BDCs. So I just want to understand how sticky do you think these spreads are that we're currently seeing.

Yeah. So again, we're focused on the $10 million to $50 million of EBITDA. The mega players have moved far up market from that they're competing with a broadly syndicated low market, providing covenant light direct loans. And if you think about the business model, of course, it makes sense for them to write paychecks to big companies. that's the business model of those players.

And most of the capital raised private or public, is by many of those big players. So those big guys keep getting bigger. God bless, that should create more opportunity for those of us focused on the core.

If our range today is 10% to 50% of EBITDA, maybe that will be $10 million to $75 million of EBITDA a year or two from now. as those folks raise additional capital because their business model just doesn't move the needle for them to write a check to a $20 million or $30 million EBITDA company enough when they're managing that kind of AUM.

So we wish them all the best. We want them to raise a lot of capital and we'd like them to move -- continue to move upmarket, leave more room in the core middle market for us. And there's a handful of other people we see day in and day out who are our peers and our colleagues who we club deals with who we compete with. And those are the same old players generally, the competition is what we call rational, and we're pleased for the big to get bigger because it leaves more room for us.

Thanks for that, Art. That's quite helpful. And touching on the senior loan fund. I'm not mistaken, PFLT has about a $66 million unfunded equity commitment to the fund looks like you've finished your debt funding. How quickly do you expect to inject that additional equity into the near loan?

Yeah. So in general, as I've said, we have about $850 million of comprehensive capital in FL platform, 500 PFLT and 350 at the joint venture, and we think -- look, obviously, it depends on M&A, right? M&A was put on pause to a large extent on Liberation Day. But as you know, the core middle market keeps moving.

It's not like we're -- unlike the upper market, we're not subject to the big cap M&A, which can be lumpier. There's always core market M&A. So 6 to 12 months is always a good time frame for us to deploy our excess capital as is a general range.

Okay, that's it for me this morning. I appreciate your time as always. Thank you.

Thanks Mickey.

Doug Harter, UBS.

Thanks. Also another question on the senior loan fund. I know you have excess financing capacity there today. But I guess, how do you think about the longer-term opportunity to either continue to grow that relationship or possibly at other partners?

That's a great question. look, the JV and this BDC, PFLT and our JV and our sister BDC PNNT have been really helpful to shareholders from the standpoint of creating incremental return on investment, ROE, return on equity, they've generated very strong returns over time.

So we're going to continue to -- it can be an end both either grow this JV and potentially add another one over time. You have to find the right partner who's sympatico with you on kind of how you see credit and being able to make investment decisions that are similar and to move in the time frame that our borrower clients need to.

We found (inaudible) in each PDC. And it's quite conceivable over time, we're going to add another JV partner to this BDC PFLT.

Great, appreciate. Thank you.

And that concludes today's question-and-answer session. I'd now like to turn the conference back over to Art Penn for additional or closing remarks.

I just want to thank everybody for being on the call today and for your interest in PFLT. We look forward to speaking to you next in early August after the next earnings report. In the meantime, wishing everybody a terrific spring and early summer. Have a great day.

And this concludes today's call. Thank you for your participation. You may now disconnect.