Saratoga Investment Corp (SAR) 2018 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to Saratoga Investment Corporation's Fiscal Second Quarter 2018 Financial Results Conference Call. Please note that today's call is being recorded. (Operator Instructions) At this time, I would like to turn the call over to Saratoga Investment Corp.'s Chief Financial and Compliance Officer, Mr. Henry Steenkamp. Sir, please go ahead.

Thank you. I would like to welcome everyone to Saratoga Investment Corp.'s Fiscal Second Quarter 2018 Earnings Conference Call.

Today's conference call includes forward-looking statements and projections. We ask you to refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these forward-looking statements and projections. We do not undertake to update our forward-looking statements unless required to do so by law.

Today, we will be referencing a presentation during our call. You can find our fiscal second quarter 2018 shareholder presentation in the Events & Presentations section of our Investor Relations website. Our link to our IR page is in the earnings press release distributed last night. A replay of this conference call will also be available from 1:00 p.m. today through October 19. Please refer to our earnings press release for details.

I would now like to turn the call over to our Chairman and Chief Executive Officer, Christian Oberbeck, who will be making a few introductory remarks.

Well, thank you, Henry, and welcome, everyone. As we consider our achievements during this most recent fiscal quarter and since we last spoke in July, pleased to note the continued achievement of our core objectives of credit quality, growth and earnings. Our flexible capital structure and liquidity supports our robust pipeline of available deal sources, increased assets and greater scale.

While the competitive environment remains challenging, our originations and credit quality continue to be strong. Within this environment, Saratoga Investment has risen to and remains at the top of the industry in terms of key performance indicators and in many categories far outpacing our competitors. We continue to progress towards our long-term objective of increasing the quality and size of our asset base, effectively utilizing our diversified sources of cost-effective, long-term and flexible liquidity; and continuing to build a robust pipeline of available deal sources with the ultimate purpose of building Saratoga Investment Corp. into a best-in-class BDC generating meaningful and consistent returns for our shareholders.

To briefly recap the past quarter on Slide 2. First, we continued to strengthen our financial foundation this quarter by maintaining a high level of investment credit quality with 97.3% of our loan investments having our highest rating, up from 96.3% last quarter, generating a return on equity of 8.3% on a trailing 12-month basis. This latest 12 months' return on equity is net of a $7.7 million realized loss on our My Alarm Center investment, which we'll discuss later on the call.

Total realized losses on the whole portfolio for quarter 2 were $5.8 million and were net of $1.9 million of other realized gains in the quarter, primarily representing the $1.8 million gain on the sale of our Mercury Network equity investment and maintaining a gross unlevered IRR of 12.5% on our total unrealized portfolio with gross unlevered IRR increasing to 16.3% on total realizations of $234.6 million. Second, we expanded our assets under management to $333 million, a 1% increase from $330 million as of May 31, 2017, a 14% increase from $293 million as of February 28, 2017, and a 22% increase from $273 million as of August 31, 2016.

From a longer-term perspective, our current AUM reflects a 251% increase from $95 million at the end of fiscal year 2012. This quarter again demonstrates the continued success of our origination platform within an environment that remains challenging. In Q2, we originated investments totaling a healthy $37 million, offset by repayments of $38 million. The continued growth in our AUM in the face of persistent redemptions over the past few years is evidence of the strength of our pipeline and its ongoing ability to contribute to a long-term upward trajectory in asset growth as well as, importantly, the quality of our portfolio.

Third, the continued strengthening of our financial foundation has enabled us to increase our quarterly dividend for the 12th consecutive quarter. We paid a quarterly dividend of $0.48 per share for the second fiscal quarter of 2018 on September 26, 2017. This was an increase of $0.01 per share over the past quarter's dividend of $0.47 per share. All of our dividend payments have been exceeded by our adjusted net investment income for the same periods. As a result, we are still comfortably over-earning our dividend currently by 12%, which distinguishes us from other BDCs. We are 1 of only 3 BDCs having increased dividends over the past year and our increase is more than 3x larger than the other 2 firms.

Fourth, our base of liquidity remains strong and has potential to improve. We continue to preserve significant dry powder to meet future potential investment opportunities in a changing credit and pricing environment. Our existing available year-end liquidity allows us to grow our current assets under management by 21% without any new external financing.

And finally, on March 16, 2017, we entered into an equity distribution agreement with Ladenburg Thalmann & Company through which Saratoga may offer for sale from time to time up to $30 million of its common stock through an at-the-market or ATM offering. As of August 31, 2017, the company sold 117,354 shares above NAV for gross proceeds of $2.6 million at an average price of $22.49 for aggregate net proceeds of $2.6 million.

This quarter saw continued steady performance within our key performance indicators as compared to the quarters ended May 31, 2017 and August 31, 2016. Our adjusted NII is $3.7 million this quarter, up 21% versus $3 million last year and up 25% versus $2.9 million last quarter. Our adjusted NII per share is $0.62 this quarter, up from $0.53 last year and $0.50 last quarter. Our adjusted NII yield is 11.3% this quarter, up 180 basis points versus 9.5% last year and up 210 basis points versus 9.2% last quarter. And finally, our NAV per share is $22.37, up from $21.97 at year-end and $21.69 last quarter. Henri will provide more detail later on any significant variances. Overall, we remain extremely pleased with these accomplishments and our progress.

As we've mentioned often in the past, we remain committed to further advancing the overall size of our asset base while maintaining its high quality. As you can see on Slide 3, on a year-by-year comparative basis, our assets under management have steadily risen with healthy growth since year-end and the quality of our credits remain highly. We look forward to continuing this positive trend.

With that, I would like to now turn the call back over to Henri to review our financial results as well as the composition and performance of our portfolio.

Thank you, Chris. Slide 4 highlights our key performance metrics for the quarter ended August 31, 2017, in our usual format. Across all these metrics, you can see the positive impact of increased assets and greater scale to our results.

When adjusting for the incentive fee accrual related to net unrealized capital gains in the second incentive fee calculation, adjusted NII of $3.7 million was up 25% from last quarter and up 20.7% from last year's Q2. Adjusted NII per share was $0.62, up $0.09 from $0.53 per share last year and up $0.12 from $0.50 per share last quarter. The increase from last quarter and last year primarily reflects our higher level of investments and results in higher interest income, with AUM up 22% from last year and 1% from last quarter.

Q2 positively reflects the full impact of many new originations executed during the last month in Q1, but conversely also includes the full benefit of the Easy Ice investment that was recapitalized and reduced by $10.2 million at the end of August. These impacts resulted in adjusted NII yield of 11.3% when adjusted for the incentive fee accrual. This adjusted NII yield is up 180 basis points from 9.5% last year and up 210 basis points from 9.2% last quarter.

For the second quarter, we experienced a net gain on investments of $4.0 million or $0.67 per weighted average share, resulting in a total increase in net assets resulting from operations of $6.9 million or $1.15 per share. The $4 million net gain on investment was comprised of $5.8 million in net realized losses and $9.8 million in net unrealized appreciation. The net realized loss was primarily due to the recognition of a $7.7 million realized loss on our My Alarm Center investment as a result of the completion of the sales transaction, where Saratoga's position in the second lien term loan was transferred to preferred Class A and Class B shares and common equity.

The realized loss was partially offset by a $1.8 million realized gain on the sale of our Mercury Network equity investment. The net unrealized appreciation was due primarily to, one, unrealized appreciation being adjusted to 0 to reflect the recognition of the $5.9 million net realized loss on the 2 realizations mentioned earlier; two, a $2.1 million unrealized appreciation on our Easy Ice investment; three, a $0.7 million unrealized appreciation in our Saratoga CLO F-Note investment; and four, a $0.7 million unrealized appreciation in our legacy Elyria investment, reflecting improved performance.

Return on equity also remains an important performance indicator for us, which includes both realized and unrealized gains. Our return on equity was 8.3% for the last 12 months. These figures are lower than a year ago and place us uncharacteristically beneath the new BDC industry mean, a fact that it's largely due to the $7.7 million realized loss on our investments in My Alarm Center that we mentioned earlier. And that affected the general increase of the BDC's industry average ROE as investments previously written down by BDCs in the space stabilized. We expect our ROE figure to continue to improve as our increased asset base and interest for the full 12-month period and we further deploy cash and grow assets with the benefits of scale becoming more visible and our operating expenses stabilizing and diminishing as a percentage of assets.

A quick note on expenses. Total expenses, excluding interest and debt financing expenses, base management fees and incentive management fees, increased to $1.2 million in Q2 this quarter from $1.1 million in the same period last year. This reflects primarily higher professional fees due to increased Sarbanes-Oxley activities now that the company will be an accelerated filer from next year. Despite this, expenses continue to decrease as an overall percentage of average total assets from 1.4% last year to 1.3% this year. We have also added a new Slide 28 as part of the appendix at the end of the presentation that shows a couple of these income statement metrics for the past 8 quarters and the upward trends we have maintained.

Moving on to Slide 5. NAV this quarter was $133.5 million as of August 31, 2017, a $5.9 million increase from $127.6 million last quarter and a $6.2 million increase from $127.3 million as of year-end. NAV per share was $22.37 as of quarter end, up from $21.69 as of last quarter and $21.97 as of year-end. For the 6 months ended August 31, 2017, $1.5 million of net realized and unrealized gains and $6.4 million of net investment income were earned, offset by $5.5 million of dividends declared. In addition, $1.1 million of stock dividend distributions were made through the company's dividend reinvestment plan and $2.6 million of shares were sold through the company's ATM program. Our net asset value has steadily increased since 2011, and we continue to benefit from our history of consistent realized gains.

Slide 6 is our waterfall slide, where you will see a reconciliation of the major changes in NII and NAV per share on a sequential quarterly basis. This helps break down the numbers into a couple of more manageable variances. Starting at the top. NII per share increased from $0.50 per share at Q1 to $0.62 per share at Q2. The significant changes were a $0.19 increase in total interest income generated by our higher assets for the full quarter, offset by a $0.06 increase in interest and debt financing reflecting our increased borrowing. All changes are shown net of incentive fees and there was 0 dilution due to increased shares.

Moving on to the lower half of the slide, this reconciles NAV per share from $21.69 at Q1 to $22.37 for this quarter. The $0.49 generated by our NII for the quarter and $0.66 net appreciation on investments was offset by the $0.47 dividend declared for Q1 with a Q2 record date. The impact of the ATM and DRIP issuances were minimal for Q2.

Slide 7 outlines the dry powder available to us as of quarter end, which totals $68.7 million. This is spread between our available cash, undrawn SBA debentures and undrawn management facilities. We are pleased with our liquidity position, especially taking into account the overall conservative nature of our balance sheet and the fact that all our debt is long term in nature, actually, all 5 years plus. For the most part, we have also primarily fixed our interest cost in this rising rate environment. In addition, we have the ability to continue to grow our assets by 21% without the need for external financing. At the same time, over 84% of our investments have floating rates. And although they have LIBOR floors, we up through all but 2 of them already, which means we remain a big beneficiary of rising short-term rates.

As you can see on Slide 8, we have analyzed the potential impact of changes in interest rates on interest income from investments. Assuming that our investments as of August 31, 2017, were to remain constant for a full fiscal quarter and no actions were taken to alter the existing interest rate terms, a hypothetical increase of 100 basis points in interest rates would increase our interest income by approximately $600,000 per quarter. This is all incremental to our existing earnings without any other changes.

Now I would like to move on to Slide 9 through 11 and review the composition and yield of our investment portfolio. Slide 9 shows that our composition and weighted average current yield remain consistent with the past with $333 million invested in 31 portfolio companies and 1 CLO fund at almost 55% of our investment in first lien.

On Slide 10, you can see how the yield on our core BDC assets, excluding our CLO and syndicated loans, as well as our total asset yield, has remained relatively consistent in the 11% range for the past several years despite higher levels of repayment and the continued replacement of these assets. This quarter, our overall yield decreased slightly to 11.2%, but remained consistent with the long-term trend of around 11%. This reflects the decrease in core asset yields from 11.3% to 11.0%, offset by an increase to 18.8% in our CLO and 5.5% in our syndicated assets.

Turning to Slide 11. During the second fiscal quarter, we made investments of $57 million in 4 new or existing portfolio new companies and had $38 million in 3 exits or repayments, resulting in a net decrease in investments of $1.2 million for the year. Nevertheless, year-to-date originations of $82 million considerably exceed repayment of $44 million. Our investments remain highly diversified by type as well as in terms of geography and industry, spread over 9 distinct industries with a large focus on business, health care and educational services. We continue to have no direct exposure to the oil and gas industry, a fact that has served us well. On our total investment portfolio, 8.2% currently consists of equity interest. Equity investments remain an important part of our overall investment strategy.

As you can see on Slide 12, we experienced net realized losses for the second fiscal quarter of 2018 of $5.8 million. This was due primarily to the recognition of a $7.7 million realized loss on our My Alarm Center investment discussed earlier, which in Q2 was reclassified from unrealized loss to realized. This realized loss was partially offset by $1.9 million of other realized gains, including the $1.8 million realized gain on the sale of our Mercury Network equity investment. Despite this onetime loss for the past 5.5 fiscal years, we have accumulated a combined $11.9 million of net realized gains from the sale of equity interest or sale of earlier redemption of other investments. This consistent performance continues to be a good indicator of our portfolio credit quality and has helped growth our NAV.

That concludes my financial and portfolio review. I will now turn the call over to Michael Grisius, our President and Chief Investment Officer, for an overview of the investment market.

Thank you, Henri. I'll take a couple of minutes to describe the current market as we see it, then I'll comment on our portfolio performance and investment strategy.

The market's extremely competitive conditions have worsened since we last spoke in July. Slide 13 indicates continued downward trend in the number of transactions for deal sizes in the U.S. below $25 million. The number of transactions in the last 8 months ended August 31, 2017, is already down significantly as compared to the same period last year. And it is not just volume, total transaction value for the same period is significantly lower than it was last year as well and significantly trailing the annualized run rate.

Although certain published data suggests that spreads in the broader middle market have not tightened further, we are seeing a narrowing of spreads starting to impact of lower middle market, driven by a supply/demand imbalance and aggressive leverage and competition for high-quality credits. Thankfully, LIBOR has continued to increase and has provided some counterbalance to spread compression. An extended benign credit cycle, an overall expectation for continued economic growth and investor appetite for yield have continued to attract new stretch senior and junior capital entrants into the market. This dynamic has created excess liquidity that is giving new receptivity to story paper, higher leverage profiles and sectors exposed to secular changes. Nevertheless, we really like where we are in the lower middle market because the sheer number of companies at this end of the marketplace allows us to sift through and find transactions that we believe are most likely to deliver the best risk-adjusted returns to our shareholders.

On Slide 14, you can see that debt multiples in the industry have increased markedly as lenders become more aggressive in their pursuit of higher-quality credits. As of August 31, 2017, almost 100% of leverage multiples are now above 4x as opposed to 80% as of May 31, 2017. With this as a backdrop, our risk profile of 4.0x is low compared to the rest of the market, down from 4.3x at Q1. Irrespective of historical fluctuation of market leverage levels, we have been able to invest in deals with relatively low multiples. We are careful to exercise extraordinary investment discipline and invest only in credits with attractive risk return profiles and exceptionally strong business models, where we are confident that the last -- that the enterprise value of the businesses we invest in sustainably exceed the last dollar of our investment.

In addition, this slide illustrates our consistent ability to generate new investments despite difficult market dynamics. With 14 originations in the first 9 months of calendar year 2017, including 6 new portfolio companies and 8 follow-ons, we have established an origination level that is ahead of last year and also reflects our strongest 9 months' pace while applying consistent investment criteria.

Moving on to Slide 15. Our team's skill set, experience and relationships continue to mature and our significant focus on business develop has led to new strategic relationships that have become sources for new deals. This slide highlights that our number of deals sourced and evaluated has increased materially over the past couple of years despite competitive market conditions. 50% of these deals come from companies without institutional ownership; the rest come from private equity sponsors.

The chart also illustrates our originations discipline. While the size of the funnel at the top has grown, increasing from 480 deals sourced in 2014 to 676 deals sourced in the first 3 calendar quarters of 2017, term sheets issued have not increased by the same percentage. In fact, due to inconsistent quality, we are looking at many more deals now to fund a similar number of high-quality deals that we did in past years. No matter how many deals we see at the top, the overarching goal remains to maintain the same high level of credit quality. What is especially noteworthy is that the strength of our origination pipeline has enabled us to close deals with 7 new portfolio companies in the past 12 months, giving further validation of our strengthening business development platform.

Furthermore, in the last 12 months since calendar second quarter of 2016, our transaction volume reflected a healthy mix of deals from new and existing relationships while continuing to deploy capital in support of existing portfolio companies that are healthy and growing. Last quarter, we provided some color on our ability to support existing portfolio of companies and the value of add-ons as demonstrated through our Easy Ice investment.

Now as a reminder, in Q1, we increased our first lien investment in Easy Ice to $26.7 million to facilitate the change in control transaction and also invested $8 million in a significant preferred equity position. At the end of this quarter, Saratoga completed a subsequent recapitalization, resulting in the repayment of $10.2 million and conversion of the remaining $16.5 million of Saratoga's investment into a second lien position. Concurrently, Easy Ice established a new senior credit facility with Madison Capital, reducing its total cost of capital and providing additional growth capital, while completing the significant acquisition of a regional competitor in the Chicago market.

Our whole history with Easy Ice and the evolution of our relationship with the business demonstrates our ability to deliver outsized returns to our shareholders by recognizing fundamental value in businesses and supporting their growth over time. Although the initial size of the investment was larger than normal for us, we made the investment with tested confidence that we could downsize our position, which we did this quarter.

Our overall portfolio quality is strong and is even stronger when taking into account only the assets originated by us since taking over the BDC management in 2010. As you can see on Slide 16, the gross unleveraged IRR on realized investments made by the Saratoga Investment management team is 17.7% on approximately $162.7 million invested in our SBIC and 13.3% on approximately $71.9 million invested in the rest of our BDC. On a combined basis, the gross unlevered IRR is 16.3% on $234.6 million of realizations. On the chart on the right, you can also see the total gross unlevered IRR on our $338.3 million of combined weighted SBIC and unrealized investments is 12.5% since Saratoga took over management.

Now within the track record numbers discussed above are 2 investments previously discussed. First is a $9.9 million first lien investment called Taco Mac that currently carries $1.4 million of unrealized depreciation, reflecting declining business fundamentals. We've put this investment on nonaccrual in Q4. And while there have been developments the past couple of months, we continue to work closely with the company and the other first lien lenders to pursue various options. We will keep this investment on nonaccrual until this is resolved.

Second is the $10.3 million second lien investment called My Alarm Center that had carried $7.7 million of unrealized depreciation in Q1. A sales transaction was completed in Q2 and the unrealized loss was realized. As a reminder, this is a good example of how a solid, high-quality portfolio interacts as a whole. Despite the recognition of $5.3 million loss on My Alarm Center, year-to-date, our net realized and unrealized gains and losses equal a gain of $1.5 million with the loss on My Alarm Center being offset by other realizations such as our $1.8 million gain on the Mercury Network this quarter as well as appreciation in fair value of other investments.

As you can see on Slide 17, the mix of securities in our SBIC portfolio is conservative with 55.6% of our investments comprised of senior debt investments. And the leverage profile of these 21 investments remain relatively low at 4.3x, especially when compared to overall market leverage. Our favorable cost of capital from this program allows us to deliver highly accretive returns to our shareholders without stretching out on a risk spectrum. The reduction in senior debt investments in Q2 is primarily due to the conversion of our Easy Ice investment from a first lien to a second lien investment. We continue to have discussions with the SBA about the timing of a potential second license.

Moving on to Slide 18. You can see our SBIC assets decreased to $207.8 million as of August 31, 2017, down from $233 million as of May 31, 2017, reflecting various repayments we had during Q2. It is important to note as well that as of quarter ended August 31, 2017, we had $31.2 million total available SBIC investment capacity, including cash, of which $15 million is leverage capacity within our current SBIC license. This represents approximately 45% of our total available firm capacity as of quarter end.

Overall, this quarter's operating results demonstrate the growing strength of our sourcing and origination capabilities, leading to a growing base of high-quality assets. Producing these results has required us to remain extremely diligent in our overall underwriting and due diligence procedures, culminating in high-quality asset selection. Credit quality remains our top focus, and we remain committed to this approach.

This concludes my review of the market, and I'd like to turn the call back over to our CEO. Chris?

Thank you, Mike. As outlined on Slide 19, our quarterly cash dividend payment program has grown by 167% since the program launched. During fiscal year 2017, we declared and paid dividends of $1.93 per share, gradually raising the dividend through the year. In addition, we've continued to pay increasing quarterly dividends regularly throughout fiscal year 2018, including $0.46 per share for Q4 last year, $0.47 per share for Q1 and most recently, in September, $0.48 per share for Q2. Total dividends declared and paid during fiscal year 2018 thus far is $1.41 per share.

We are also still overearning our dividend by 11.5%, giving us one of the higher dividend coverages in the BDC industry. As you can see on Slide 20, we have had 9.3% year-over-year dividend growth, which easily places us first -- in first place among our BDC competition and 1 of only 3 BDCs who have grown dividends in the past year. We have now had 12 sequential quarters of dividend increases, while most BDCs have either had no increases or decreased the size of their dividend payments. We believe our continually increasing dividend has truly differentiated us within the marketplace. We are also pleased to see a relative standing in the industry consistently improve over time.

Moving to Slide 21 and reflecting our strong key performance indicators we have discussed earlier, our total return for the last 12 months, which includes both capital appreciation and dividends, has generated total returns of 30%, significantly beating the BDC index of 9%. And when viewed over a longer 7-year time horizon, as you can see on Slide 22, which is when we took over the management of the BDC, our 3- and 7-year return places us in the top 2 of all BDCs.

On Slide 23, you can see our outperformance place in the context of the broader industry. We continue to achieve high marks across a diversity of categories, including interest yield on the portfolio, latest 12 months' NII yield, latest 12 months' return on equity, expense ratio, dividend coverage, year-over-year dividend growth, NAV per share and investment capacity. Of note is that as our assets have grown and we are starting to reach scale, both latest 12 months' NII yield and expense ratio are now much more in line with the industry while we are beating the industry in most of the other metrics.

Moving on to Slide 24. All of our initiatives we have discussed on this call are designed to make Saratoga Investment a highly competitive BDC and is attractive to the capital markets community. We maintain that our differentiated characteristics outlined on this slide will help drive the size and quality of our investor base, including the addition of more institutions. These characteristics include maintaining one of the highest levels of management ownership in the industry of 26%; a strong and growing dividend; solid return on equity; ample low cost available and long-term liquidity with which to grow our current asset base; solid earnings per share and NII yield with substantial growth potential; steady, high-quality expansion of AUM; and an attractive risk profile with protection against potential interest rate risk.

The high credit quality of our portfolio is buttressed by our minimal exposure to cyclical industries, including the oil and gas industry. With this overall performance, Saratoga Investment remains solidly on the path to being a premier BDC in the marketplace.

Finally, looking at Slide 25. We have accomplished a lot this quarter and are proud of our financial results. We remain on course with our long-term goal to expand our asset base without sacrificing credit quality, while benefiting from scale. We also continue to increase our capacity to source, analyze, close and manage our investments by adding to our management team and capabilities. Our job is to continue to execute on our simple and consistent objectives, which should result in our continued industry leadership and shareholder return performance.

In closing, I would like to again thank of all our shareholders for their ongoing support. We are excited for the growth and profitability that lies ahead for Saratoga Investment Corp. and would now like to open the call for questions.

(Operator Instructions) And our first question comes from Casey Alexander from Compass Point Research.

I have a few questions, nothing I don't think, too difficult. First of all, looking at the schedule of investments, it looks like PIK income will have grown in the coming quarter to around 8% of investment income. Is that a level you're comfortable with? Or is that a level at which you'd like to work PIK income back down? I mean, I realize some of it comes from the reset of the Easy Ice investments, but what's your feeling there?

Let me take a stab at that, Casey. 2/3 of that PIK income roughly is from the Easy Ice transaction. And the way we think about Easy Ice is, of course, given our history and the investment that we've recently made in the business, we obviously like the business quite a bit. It's performing exceedingly well. We, along with management, control the business. The way we've restructured fact is that if we were to not pursue growth, we could pay basically all of that PIK interest in the form of cash and I suppose could bring that number down, which might make you feel good as it relates to our PIK ratio. Instead, given the equity ownership that we have there, we think the best thing for our shareholders is to take that excess cash flow that's being generated internally by the business and invest it in growth. And as you can see from the appreciation that was realized this last quarter, we think that reinvesting that excess cash flow growth of the business is highly accretive in a better way to deploy capital for our shareholders. So that's an election that we've made. If you take Easy Ice out, we think the PIK ratio is much more comfortable in, obviously. So it's certainly a fair observation, but I think it's mostly a function of what we're doing with Easy Ice, which we're very excited about.

Go ahead, Chris.

Just one further thing. I want to put to a perspective on it, is we actually have a very interesting financial structure at Easy Ice, where that PIK rate can change. And by having it be PIK, we were able to get a much more favorably priced senior loan on the facility. So we figure that, in addition to the growth objectives that Mike mentioned, the -- having -- instead of having a full cash pay subordinated piece of paper in there, having this partial PIK allowed us to get a much more investor-friendly senior loan that has much more flexibility built into it and is much less expensive than some of the alternatives.

Yes. And I recognize Easy Ice has been a terrific investment. You guys have worked it 6 ways from Sunday and put yourself into a really favorable position. But I would ask, does -- looking at the level of PIK income over the entire portfolio, of which Easy Ice is a part of, does that impact your flexibility in terms of new investments that you might want to make, that you might want to have some portion of the investment to be PIK income, but maybe less comfortable because of the amount of PIK income over the entire portfolio?

Two questions. Two points on that, Casey. I guess, first of all, if you look at our history, we really have had very little PIK investment and our general strategy has been a heavy weighting in first lien investments. And we have really not availed -- I mean, we have not sought some of that high PIK component mezzanine-type investing. We've tried to be more secured investing up the capital structure historically. But in theory, yes, I mean, we obviously don't want to have too much PIK investment income. We think, as we've all discussed and you have acknowledged, that we think Easy Ice is a special situation that maybe doesn't really speak to the rest of the portfolio because of the nature of our ownership and involvement. So we are open to other PIK investments. But additionally, that has not been what we've done in our general portfolio.

Okay. Well, that's a great answer. Secondly, I'm obliged to ask, 40% of the portfolio is listed geographically as Southeast. Any business interruptions from portfolio companies because of the hurricanes that we should know about?

Not anything material. There certainly are some businesses that are in the Southeast but -- and that are in the path of the hurricane, but not anything that's affected any of our portfolio companies in a meaningful way.

Okay. Well, we only get one chance every 3 months to ask that question. It's kind of a necessary maintenance question to ask. Any update on where you are moving in terms of the second SBIC license since you're a little -- even though the SBIC portfolio came down a little bit this quarter, you're a little deeper into it than you were when you had to extend the period for licensing for the second license. Any update there?

I would just say that we continue to engage with the SBA on an additional license. I think you can see from our performance, since we outlined our performance in the -- in our SBIC. As far as we know, we're among the very best SBIC performers down there. And so hopefully, we will get through the system. But it's not something that we can control or drive. And so we need to be responsive to the questions they have and continue to perform as well as we can in our portfolio, which we think we have. And so we really can't give you a hard target date on that.

Right, okay. Mike, according to one of your slides, 60% of the new deals -- so this is not Saratoga's deals, but 60% of the new deals done within your strata of deals that you look at in the quarter were done at attachment points of greater than 6x. Does it -- how much does this concern you cyclically? And where were Saratoga's originations for the quarter in comparison to that?

That's a great question, Casey. I think it's fair to say that it does concern us to see -- and that's why we referenced that the marketplace seems to be getting even increasingly competitive, not only from a spread standpoint, but just in terms of the leverage attachment points. So it does concern us. As you know, though, we've been exceedingly cautious and careful. We're going to grow at a pace that is consistent with the good opportunities that present themselves versus just growing at some predetermined pace. So asset preservation and making good investments is going to be what really drives our investment pace. And I think as it relates to, let's see, to the attachment points on this most recent quarter, I think I've got that here, but...

Yes. And you've, in the past, explained how sometimes a better deal has a higher attachment point if it's a better company. So I'm not going to let this color anything. I just want to get a feel for where it is compared to what you showed across the industry.

And I think -- I'm not sure if we have the attachment point per investment here, Casey, but you would have noticed that last quarter, our overall portfolio point was 4.3x and it has come down to 4, which I think was a combination of both the Easy Ice downsizing slightly and then also just the relatively moderate levels of attachment on the new investments during the quarter.

We're also first lien investments. It's the new ones that were made this quarter, pretty much.

Yes, that's right.

All right. I have 2 more very quick questions. So My Alarm Center, if I understand the realized loss and the remaining investment, as I -- it appears as though -- am I calculating this right? Did you put a little bit more capital into the investment as you did the restructuring? And if that's right, what drove that decision?

That was part of the transaction. So in order to end up in a position we were in, the current control owner required that the second lien -- to get the right mix of securities, they require that the second lien investors step up for an additional investment as well.

Okay. And lastly, just from a timing perspective. Was -- when was Easy Ice recapitalized? Was that right at the end of the quarter?

Yes. August -- actually, I think the last day of the quarter, yes.

And our next question comes from Christopher Testa from National Securities.

Just touching a little bit more on Easy Ice. Obviously, you concluded the recapitalization and sell-down. Are you comfortable with the level that you're at now in terms of the composition of Easy Ice in the portfolio? Or are you looking to potentially sell down some more of that in the future?

I think the short answer is that we're comfortable with the investment and our current position in the investment, and we're very bullish on the company. So we're not looking to sell down presently.

Okay. Now obviously, as you guys just alluded to, you're using the PIK investment there, using the PIK component rather, to get them a cheaper credit, one from Madison Capital. The company completed a very good acquisition of a competitor. Is this something where you're looking to basically continue to do things like this to continue to grow the investment and then potentially be able to sell it at a much larger gain down the road? Is that kind of the right way to look at how you're viewing that?

Well, I don't think we have an exit time frame in mind, but we are looking at and intentionally structured the transaction in a way that would enable us to have dry powder with our financing partner to not only reinvest internally generated cash flow in the business for growth in an accretive manner, but also be able to draw on that senior facility to help fuel growth. And we think that there's a really nice runway ahead of us for that business and are excited about what the opportunity may be in terms of the growth in the equity value and the enterprise value. Don't really have an exit in mind. We sort of take a little bit more of the Warren Buffett philosophy, that if you find a really good business and it's got great dynamics, why sell it? So those circumstances could change down the road, but at this point, we're just looking at a business that we liked an awful lot and an opportunity to grow the enterprise value.

And one more comment, Chris, is as we look at the underlying business of Easy Ice, it's a highly diversified revenue source business. It's got a really diverse group of customers and no customer is substantially sized or anything. So we think having maybe a relatively larger position in a business with these basic fundamentals is fine because of the fundamental diversification of the underlying Easy Ice business.

Kind of excited about the fact that we can control our destiny along with management, of course, they're an important part of the equation. One of the things that we always are challenged with is that we'll deploy debt capital and the deals that go really, really well often have a short life cycle and you get repaid. Here, we've had -- found a business that we, as we've said, like an awful lot and have formed a partnership with management. And we can elect when we exit this one, and we're not planning to do that anytime soon.

Got it. That's good color. And just with the remaining nonaccrual TM Restaurant. It was marked up roughly 4% quarter-over-quarter. Just wondering the reason for the markup and any positive trends that you're seeing there.

Well, for Taco Mac, I think as we said, we're engaged in discussions with ownership and management and are pursuing various options out there. The company continues facing challenges in the marketplace. I think it actually was -- we've wrote it down slightly this quarter.

Yes, marked down about $300,000, actually.

Yes. Okay. Got that, yes.

And that's just reflecting continued heavy competition in that market. But again, we are in a first lien position there and I think working actively to improve that situation.

Got it. And as you guys have mentioned, your CLO incentive fee was -- earned more in the quarter. And the weighted average yield on the structured credit securities was pretty significantly despite further spread tightening. Is this indicative of just -- have you guys refinanced a bunch of the CLOs? Just curious what's going on there in light of all the spread compression in the market.

No, there wasn't a refinance -- an additional refinance of the CLO. I think what you saw was just the weighted average effective interest rate, which was then used to calculate the interest income, is an output of all of the other variables and assumptions that go into the valuation. And you saw this perform really well this quarter, and that resulted in a weighted average effective interest rate being slightly higher than it has been in prior quarters and probably at the higher end of what you'd expect. If anything, I think you'd expect that rate to sort of come down a little in future quarters rather than keep growing.

Got it. And no, I understand that there's a whole plethora of assumptions that go into the level of yield accounting on that. I'm just curious what assumptions specifically were toggled to make the yield go up. Are you expecting lower credit losses? I'm assuming you're not expecting lower reinvestment prices in today's market. So I'm just curious what specifically drove that up?

I think, Chris, it was very much driven by the performance in the quarter. Because we saw -- if you look at what also impacted the valuation, the biggest driver was the increase in collection, which was a combination of higher -- a higher average interest rate earned as well as the portfolio benefiting from a slightly lower number of assets that were trading under 70 and that, in the model, it's assumed to be immediately defaulted. So the combination of those to drive increase in collections, increase in value and a higher weighted average interest rate.

Okay, got it. And just looking at the dividend, obviously, congrats on that. You guys were able to increase that again, which is great. I'm just curious, how are you looking at the dividend level going forward? Obviously, it's going to top out at some point. How are you looking at it philosophically, whether you're looking at it to be always earned by cash, backing out any potential PIK, backing out anything that you consider nonrecurring fees. I'm just curious if you could just kind of give us an idea of how you're looking at it in terms of that?

Well, a few things on that. I think we generally address our dividend on a quarterly basis. And we factor in our cash earnings, and obviously, as you well know, everyone knows we've got a tax obligation to pay out a certain amount of our dividends. We also have the benefit of having net operating loss carryforwards that shelter our capital gain. So when we have some of our income that covers our dividends, we can shelter. So we don't -- that doesn't enter the tax equation. That doesn't drive what we need to pay out. I think we consistently had sort of double-digit coverage of our dividend by our earnings and our cash earnings. I think, as you know from my discussion earlier, this whole subject of PIK has really -- is a new -- is sort of new for us because it's really coming up as a result of the Easy Ice investment. And beyond Easy Ice investment, we don't have an intention to do a lot more PIK. And so we don't really think so much about our PIK cash levels and the type of thing. So I think our view on our dividend is really to comply with our RIC requirements and basically pay out what's comfortable, but leaving a cushion. So in case of -- in case things are slightly adverse going forward. But we've kind of really addressed in the quarter-by-quarter basis of that based on our cash earnings is principally how we are looking at it.

Okay, great. And you guys have mentioned that the past year or so, about half of your investments are follow-ons, which obviously the other half would be new money. Just curious, what were the primary uses of capital for the new money demand for the loans? And just kind of segueing from that, the LBO showed deals is up and M&A for this calendar year is up pretty significantly from last quarter. Are you seeing more demand for stretch senior relative to just straight first lien loans as well?

A few things, Chris. Most of the capital that we deploy in new opportunities, new portfolio companies, is usually in conjunction with a change of control transaction. It's not always the case. I mean, I sort of looked at the last quarter, looking at that. One of them was -- also, the guy who was taking out as passive partners who wanted to buy them out because he had a lot of faith in the business and wanted a capital partner and help them to growth. So it really depends. But most of that capital is in conjunction with change of control transactions. I think as we pointed out in one of the slides, one of the challenges that we're facing in the current market, though, is that in the lower end of middle market, we're seeing a lot less transaction volume and there's more and more capital coming in. So to your point, we are seeing more of these stretch senior lenders arriving. We're seeing some of the larger junior capital providers. They're starting to look at some deals that are smaller than we would expect them to look. And so that's making it more difficult environment to deploy capital. And in that environment, we're going to be really cautious, really careful. Fortunately for us, there's couple things that are helping us. A little bit of bump in LIBOR has been helpful just in terms of how we can price deals to make them accretive. The other thing is that our business development reach and our name in the marketplace has grown quite considerably over the last few years. And so the sheer number of deals that we see is so great that we have confidence that even in this tough environment, that we can find our share of opportunities to deploy capital where the risk-adjusted returns are really nice ones for our shareholders.

At this time, I am showing no further questions. I would like to turn the call back over to Christian Oberbeck, CEO, for closing remarks.

Well, again, I would like to thank everyone for joining us today. We appreciate your support, and we look forward to speaking with you next quarter.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect.