Blackstone Secured Lending Fund Q3 2023 Earnings Call Transcript

Quartr
Provided by Quartr
November 8, 2023

There are 13 speakers on the call.

Operator

Good day, and welcome to the Blackstone Secured Lending Third Quarter 2023 Investor Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Stacy Wang, Head of Stakeholder Relations. Please go ahead.

Speaker 1

Thank you, Katie. Good morning, and welcome to Blackstone Secure Lending's 3rd quarter call. Earlier today, we issued a press release The presentation of our results are filed are 10 Q, both of which are available on the Shareholders section of our website, www.bxsl.com. We will be referring to that presentation throughout today's call. I'd like to remind you that this call may include forward looking statements, which are uncertain and outside of the firm's control and may differ materially from actual results.

Speaker 1

We do not undertake any duty in updating these statements. For some of the risks that could affect results, please See the Risk Factors section of our most recent Annual Report on Form 10 ks. This audio cast is copyright material of Blackstone and may not be duplicated without consent. With that, I'd like to turn the call over to BXSL's Co Chief Executive Officer, Brad Marshall.

Speaker 2

Thank you, Stacey, and good morning, everyone. Thank you for joining our call this morning. With me today is Co CEO, John Bach our President, Carlos Whitaker And our CFO, Teddy Deloge. Turning to this morning's agenda. I will start with some high level thoughts Before John, Carlos and Teddy go into more detail on our portfolio and 3rd quarter results.

Speaker 2

Looking at the presentation and turning to Slide 4, I want to highlight that Q4 marks the 2 year anniversary since our IPO in 2021. I'm very pleased with the results that we have delivered to our shareholders and I'm very confident in the strength of the portfolio we have built and highly optimistic about BXSL's investment opportunity set. Focusing on the 3rd quarter, BXSL reported another strong quarter of results, including growth in net asset value and net income per share, along with Higher regular dividend distributions, all built on BXSL's strong credit fundamentals with a predominantly first lien portfolio invested in large Resilient Businesses in Historically Low Default Sectors.

Speaker 3

Looking at

Speaker 2

the details, Our 98.8 percent floating rate portfolio continues to benefit from sustained higher interest rates. Net income per share increased 12% to $1.01 per share in the quarter compared to the 2nd quarter and is up over 74% compared to last year at this time. Net investment income or NII of $0.95 per share represents a 14.4% annualized return on equity. The quality of our earnings remains high with limited payment in kind, Limited non reoccurring and fee driven income. Further, interest income excluding PIK, fees And dividends represented 96% of our total investment income in the 3rd quarter.

Speaker 2

I'll repeat that. Interest income excluding PIK, fees and dividends represent 96% of our total investment income in the quarter. We distributed our previously declared increased dividend of $0.70 per share as well. And 1st lien senior secured assets, while covering our 3rd quarter dividend by 123%. In a higher interest rate environment, investors may benefit from an elevated interest income yield.

Speaker 2

However, Higher interest rates place pressure on floating rate borrowers. As a result, we continue to focus on building our portfolio with the intention of protecting Investors Capital. During the Q3, more than 99% of funds invested were 1st lien senior secured With an average loan to value of 35.9 percent. As of September 30, the XSL portfolio is over 98 1st lien senior secured with 46.9 percent average loan to value. We have a minimal Non accrual rate below 0.1% at both amortized cost and fair market value And approximately 1% of debt investments marked at fair value below 90.

Speaker 2

We believe our net asset value, which increased to 26 $0.54 per share in the 3rd quarter from $26.30 the previous quarter Further highlights portfolio stability. Turning to Page Slide 5 of the presentation. We saw a meaningful increase in new investments ending the quarter with $656,000,000 at par in new investment commitments And $390,000,000 in investment funding during the quarter compared to $144,000,000 new commitments to $761,000,000 in Q3 compared to $551,000,000 in Q2. Proceeds from Q3 sales and repayments were $205,000,000 During the quarter, we also issued $210,700,000 of additional common shares Before underwriting and offering costs through both an underwritten public follow on offering and Our existing ATM program at accretive levels to BXSL. We have seen an uptick in our investment pipeline since the Q1.

Speaker 2

The number of deals in the pipeline doubled as of the end of Q3 versus the end of Q1. These pipeline deals are Predominantly 1st lien senior secured exposure in companies with historically recession resilient sectors, we know very well. Important to highlight, we're also seeing a resurgence in transactions valued in excess of $1,000,000,000 With the number of these larger deals also increasing by 2 times in our pipeline during the same period. Looking forward, We are optimistic about the outlook of new investment opportunities driven by what we believe is a more active M and A environment And additional financing needs from our existing portfolio of over 3,150 corporate issuers across Blackstone Credit. I also wanted to highlight the firm's recently announced integration of our corporate credit, asset based finance And Insurance Groups into a single new unit Blackstone Credit and Insurance or BXCI.

Speaker 2

We are Very excited about the integration as we believe it will further expand the capabilities and scale of our platform and create more seamless As the demand for private credit continues to expand, The BXCI integration should allow us to better capture this opportunity. For BXSL specifically, The integration should allow us to lean into our core key areas of differentiation, scale, expertise and value creation. Taking those in turn, as it relates to scale, it's not just about scale of capital, But it's about the scale of the platform. A scaled platform like Blackstone often allows us to have deeper connectivity with M and A Advisors, With banks, with corporates, with sponsors, all of which we extend globally. As it relates to expertise, I don't think there is any credit platform that has as extensive a reach in certain sectors as Blackstone.

Speaker 2

We have 950 technologists that support our different platforms. We have over 100 advisors. We have 28 PhDs, MDs, doctors. All of this really helps us be smarter in certain areas of As it relates to value creation, this remains a core focus We aim to add value after we make our investment in the company. And as we have highlighted in the past, over 90% of Companies we finance through Blackstone Credit that are offered these programs use it.

Speaker 2

So when I put all of that together, We are the sole or lead lender in approximately 84% of the transactions in DXSL, which shows that companies seek Blackstone Credit to lead their financing transactions, which allows us to better negotiate the terms that govern these loans instead of being a passive investor In the capital structure, we believe passionately in these advantages and in developing a highly defensive portfolio This is predominantly senior and investing primarily in scale businesses in historically lower default sectors.

Speaker 3

Relative to our peer set,

Speaker 2

we believe BXSL leads the market On quality of income, as I mentioned earlier, quality of the portfolio, which we just discussed, quality of our liabilities, which you'll hear about a little bit later and the quality of our structure and alignment. So with that, I will turn it over to Jon Bok.

Speaker 3

Thank you, Brad. And Brad mentioned the focus on building a healthy and defensive portfolio that we believe allows us to continue to take advantage of our expanded pipeline from a position of strength. So jump to Slide 6. We ended the quarter with $9,500,000,000 of investments. We also continue to delever modestly.

Speaker 3

The funds leverage at quarter end was 1.08 times and quarterly average was 1.11 times and those are well within Our target range of 1 to 1.25 times. We also remain well positioned with $1,500,000,000 of liquidity comprised of cash and borrowing amounts available across All our revolving credit facilities to lean in to that expanded pipeline Brad mentioned. Our weighted average yield on debt investments at Fair value continues to increase steadily to 11.9% at this quarter end from 11.8% last quarter, primarily driven by higher base rates. New investments continue to be accretive to our investment income. The yield on new debt investment fundings during the quarter averaged 12.2%, While yield on assets repaid or sold down averaged 11.6%, improving our weighted out yield in the portfolio.

Speaker 3

Importantly, the base rates of the 3rd quarter expanded approximately 300 basis points on our 98.8 percent Floating rate debt portfolio compared to the same quarter in the prior year. In this environment of higher rates, we continue to focus on constructing a portfolio For resiliency and downside protection, jump to Slide 7. Since PXSL's inception, We've been disciplined in building our portfolio to focus on 1st lien senior secured debt as we believe that is the most defensive place for investors, especially And a higher interest rate and slower growth economy. Now over 98% of BXSL Investments are in 1st lien senior secured loans and over 95% of loans are the companies owned by private equity firms or other financial sponsors who generally Have access to additional equity capital and historically have shown a willingness to support their portfolio companies. These sponsors have significant equity value in these capital structures with an average loan to value of 46.9 percent in BXSL.

Speaker 3

We don't only stress the importance of seniority in the portfolio. We've also emphasized what we view as better investment neighborhoods Or historically lower default rate sectors, companies and sectors that we believe are facing more favorable tailwinds, consistent growth trends and Specifically businesses that we believe have stable growing margins, revenue visibility, strong management, lower CapEx. And in addition, we focus on larger scale businesses with significant market share, greater ability to pass through price increases and that should be able to withstand a slowdown. Now looking at scale specifically, BXSL portfolio companies have a weighted average EBITDA of 185,000,000 as of Q3 compared to $162,000,000 as of Q3 last year. This focus on higher quality, Lower default rate sectors and larger scale businesses is a key driver in our credit performance as supported by the fact that DXSL has less than 0.1% of loans on non accrual at a cost compared to 2.8% at cost for traded BDC peers.

Speaker 3

Our non accrual rate declined from the previous quarter driven by restructuring in the 3rd quarter. Now Slide 8 Focuses on our industry exposure, where we believe investing in better companies and better neighborhoods drive strong returns over time. This means focusing on key sectors with among other themes, lower default rates, lower CapEx requirements and approximately 90% of BXSL's total portfolio is invested in historically lower default rate sectors, including software, Healthcare, Commercial Services, which are some of the highest exposures in the portfolio. Now Slide 9 further outlines our portfolio quality. In addition to our focus on investing in higher quality lower default rate sectors, DXSL's portfolio is focused on investing in larger companies Based on our belief that larger scale businesses are more resilient in the face of economic headwinds relative to smaller counterparts and that historically has had lower default rates.

Speaker 3

Our origination effort has been based on supporting companies of scale because we believe That's where the most compelling risk adjusted return is found. The slide indicates that the relative risk adjusted return of spread Per turn of leverage for smaller deals versus larger deals has a slight disparity, but we noticed more substantial differences in underlying Credit Health. Based on data from Lincoln International Private Markets Database, larger companies of $100,000,000 The company is measured at $50,000,000 in EBITDA or less, what we would refer to as the true middle market direct lending.

Speaker 4

This is

Speaker 3

why we remain steadfast in our belief that larger scale businesses handle the adversity of economic cycles better. Now turn to Slide 10. We can see that BXSL's portfolio company fundamentals compared to the private credit market as measured by Lincoln. Compared to the private credit market, BXSL's average LTM EBITDA on the portfolio is nearly 2 times larger and has over 2 times higher growth and generates over 20% greater profitability. And that leads me to the importance of interest coverage.

Speaker 3

We dove deep into this discussion on the last call and it's our goal to continue to provide this level of portfolio transparency. So let's dive into it. According to Lincoln, today nearly 20% of the private credit market has an interest coverage ratio below 1 At 5.5 percent forward base rates. Of that 20%, over 70% are companies with $50,000,000 in EBITDA Or less. As the pressure of higher rates builds, we believe we will see dispersion in the market as not all private credit is created equal.

Speaker 3

For BXSL, the LTM average interest coverage ratio was 1.8 times versus the private credit market average of 1.5 times. And when we run interest rates forward at 5.5 percent that brings BXSL's average ICR to 1.6 times versus the private credit market at 1.4 and we attribute this stability to our focus on larger, more profitable, higher growth businesses. And when we assess the tails for BXSL's portfolio on a LTM basis, 3% of the portfolio has an ICR below one times. And on a forward basis at 5.5 percent rates, we can see that we would have 10% of our portfolio with an ICR below 1% compared to the broader market of 20% mentioned earlier, about double DXSL's exposure. And of that 10% with a one time ICR at 5.5% base rate, about half of that is associated with transactions originally structured as higher growth investments With lower ICRs, namely ARR facilities that exhibit still year over year growth.

Speaker 3

Averages will not tell the story of performance. In our view, The tails will and we seek to limit our tail risk through our focus on choosing what we believe to be better, larger businesses and historically lower default sectors, Disciplined underwriting and proactive portfolio management, we continue to see favorable results in the portfolio. We're also focused on protections in the agreements governing our loans, with over 85% of BXSL's loans measured by fair value Documented to provide at least one financial covenant. In addition to leverage and liquidity covenants, we also focus on key protections Not commonly seen in syndicated loans. Blackstone Credit maintains an in house team focused on legal documentation who review And aim to ensure the quality of our private loan documentation.

Speaker 3

And as a result, 100% of the deals held in BXSL or Blackstone Credit was a lead lender Have protections against asset stripping and collateral lease. And turning to amendments, we had 44 amendments in the 3rd quarter. Approximately 95% of the amendments, they were technical, audit extensions, add ons and another 5% were related to refinancings or repricings and there were no amendments during the quarter related to covenant relief or immediately take relief due to inability to pay interest or principal. And so jump to Slide 11. BXSL is now delivering an increased distribution of $0.77 per share, a 10% increase quarter over quarter and a 45% increase since our IPO 2 years ago.

Speaker 3

Our increased dividend is covered at a ratio of 123% by earnings. And as you can see, we've continued to focus on delivering High quality yield to our shareholders, building a level of confidence through continuing to raise our base dividends, while also steadily Building NAV per share. And we believe that speaks to the Fund's ability to deliver for our shareholders despite macroeconomic headwinds. And with that, I'll turn it over to Carlos.

Speaker 5

Thanks, John. Our people are our most important resource. With over 500 professionals, we have the scale and bandwidth to form investment opinions on over 3,150 corporate issuers. We take those valuable insights and plow them back into BXSL's investment process through portfolio monitoring and origination to drive BXSL's investment performance. The Performing Credit Investment Committee has worked together for an average of 16 years and that continuity helps us refine our investment process.

Speaker 5

Since BXSL's inception, Our global Private Credit Investment team has grown meaningfully. While we've only seen a few departures among senior investment team Significantly involved in the North American direct lending strategy. Blackstone Credit has a team of senior investment professionals We engage with hundreds of the top financial sponsors we transact with. In addition, we have a dedicated team that covers strategic relationships with M and A and sell side advisors globally, sharing pipeline And joint investment opportunities that often drive deal flow. We also leverage our sector expertise and insights across the credit platform.

Speaker 5

With over 100 senior advisors, 950 technologists And over 50 data scientists across Blackstone providing us with valuable perspectives on how we invest while also helping us monitor our portfolio. Blackstone's deep platform can benefit BXSL and other ways, Blackstone Growth, our Private Equity Platform, Real Estate, Life Sciences, Strategic Partners, GP Stakes Business and Tactical Opportunities all offer deep insights And support deal flow for BXSL, widening our funnel. That's made possible From a platform with the size and scale of Blackstone. In an increasingly competitive private credit market, we differentiate ourselves By providing more than just capital to our portfolio companies, BXSL borrowers are offered full access To Blackstone Credit's value creation program through cross sell opportunities, cost savings, procurement And capabilities, including cybersecurity and data science, all at no additional cost because we understand the end benefit to the investment portfolio. I echo Brad's point earlier on the strength of our deal pipeline Ode to our origination franchise that benefits from the scale and platform of Blackstone.

Speaker 5

Let me walk through a recent transaction We led in which the combination of our platform advantages came into play. Blackstone Credit was the sole lender of the recently announced $3,000,000,000 merger of Health Comp and Virgin Pulse By New Mountain Capital, a top tier sponsor with deep expertise in the healthcare IT sector. We believe a number of factors differentiated us from other private credit lenders. Our scale and our ability to deliver a one stop solution for the entire capital structure. Blackstone Credit committed to 100 percent of the financing, a large commitment across various levels of the capital structure.

Speaker 5

This is where scale really matters, especially when confidentiality is critical or In a situation where a sponsor can only call 1 or 2 partners, we have an excellent relationship with the sponsor, New Mountain Capital, and lend to a number of existing portfolio companies. In addition, Blackstone has a broader relationship with New Mountain across the firm. While that doesn't mean we lead every deal for them, our relationship is strong and presents us with opportunities to work closely with them. We talk about incumbency, leveraging our existing portfolio, and this is a great example across our private and liquid credit platform. Prior to this deal, we were the existing lead private lender to HealthComp, and we were also an existing lender to Virgin Pulse On our liquid credit side and their broadly syndicated loan, we knew both companies well and liked their credit merits individually, which added to our conviction in the merger.

Speaker 5

Finally, the Blackstone Credit Value Creation Program has multiple levers to pull To assist the combined company, particularly on potential cross sell opportunities across the broader Blackstone portfolio. This has been demonstrated during the last 3 years when Blackstone Credit was a private lender to HealthCom. We believe our value added capabilities truly differentiate us as we are no longer just a lender to health comp, but also a value added partner who aims to help grow equity value. As another example in BXSL's portfolio, our Blackstone Credit value creation team worked with a healthcare services company to prepare for a $15,000,000 firm wide procurement project. And we already know the first stage of this project Yielded approximately 20% in savings for the company.

Speaker 5

We believe our engagement on this project has not only improved the financial results, But also help professionalize the procurement function of the borrower and view this as another instance of being a value added partner. Parallel to our borrower experience, we are highly focused On shareholder experience, TXSL has among the lowest fee structures, expense ratios and cost of debt of our peer set as of the end of the second quarter, which allows us to pass on more returns to our investors. Additionally, 100 percent of deal fees owed to BXSL are paid to BXSL. We believe these are important points of distinction, ones that complement our strong results and strengthen our ability to continue to drive attractive risk adjusted returns for our investors. And with that, I'll turn it over to Teddy.

Speaker 6

Thanks, Carlos. I'll start with our operating results on Slide 12. In the Q3, BXSL's net investment income was $161,000,000 or $0.95 per share. Our total investment income was up $57,000,000 or 25% year over year, driven by increased interest income, primarily due to higher rates. Payment in kind or PIK income remained flat year over year and represents less than 4% of total investment income.

Speaker 6

GAAP net income in the quarter was $171,000,000 or $1.01 per share, up from $0.58 per share a year ago, driven in part by $21,000,000 of net unrealized depreciation this quarter. Our net investment income yield of 0.95 dollars per share represents a 14.4 percent annualized return on equity. Importantly, as Brad mentioned, the quality of our earnings remains high With limited payment in times, non recurring and fee driven income. Interest income excluding PIK fees and dividends represents 96% of our total investment income in the 3rd quarter. Turning to our balance sheet on Slide 13, we ended the quarter with $9,500,000,000 of total portfolio investments, of which 98.8% are floating rate loans with a weighted average yield at fair value of 11.9%.

Speaker 6

This compares to less than $5,000,000,000 of outstanding debt With a weighted average cost of just over 4.9%. That spread between our floating rate assets and lower cost mostly fixed rate liabilities provides the company with potential for additional earnings growth if rates continue to rise. As a result of strong earnings in excess of our dividend in the 3rd quarter, NAV per share increased to $26.54 up from $26.30 last quarter. Next, Slide 14 outlines our attractive and diverse liability profile, which includes 56% of drawn debt in unsecured bonds. These unsecured bonds have a weighted average fixed coupon of less than 3%, which we view as a key advantage in this rising rate environment.

Speaker 6

We maintained our 3 investment grade corporate credit ratings and BXSL was the 1st listed BDC to receive an improved outlook from stable positive by Moody's. We ended the quarter with approximately $1,500,000,000 of liquidity in cash and undrawn debt available to borrow. We believe this provides us with significant flexibility and cushion. Average fund leverage was 1.11 times over the quarter And ending leverage was 1.8 times. Based on our pipeline activity, we would expect to remain within our target of 1 to 1.25 times through the balance of the year.

Speaker 6

Additionally, we have low level of debt maturities over the next few years. The next maturity date for any of our outstanding debt facilities is 2025 With only 6% of debt maturing within the next 2 years and an overall weighted average maturity of 3.5 years. We continue to believe BXSL is well positioned to maintain earnings in excess of our dividends as rates on 98.8% Floating rate debt investments have continued to reset higher. As Brad and John mentioned, while floating rate debt brings higher yield for investors, It also may result in more pressure for our borrowers. And to that end, we established a Chief Investment Office Several years ago aimed at leveraging data, insights and resources unique to Blackstone to enhance investment and portfolio management processes To ultimately drive positive outcomes across our portfolios, we believe early intervention and proactive management will be a key driver of differentiation Across managers through this cycle.

Speaker 6

Today, this team is nearly 60 individuals, which includes resources dedicated to financial reunderwriting, Legal and restructuring expertise, data science and operational asset management. We deploy quantitative screens on a regular basis and have an independent review process For assets that we deem to be on our watch list, ultimately rolling up to Senior Blackstone Management. We've applied lessons learned from over 17 years' history managing direct lending portfolios through cycles and have established a culture and process that supports and encourages early intervention, Benefits from unique insights across Blackstone and deploys specialized resources to our portfolio companies. In conclusion, we remain positive about the company's outlook given our healthy and defensive portfolio positioning With portfolio company earnings growth outpacing the broader direct lending market, ample dry powder to deploy into a large opportunity set And continued elevated earnings power along with low cost financing sources, all of which is backed by Blackstone's platform advantage Providing premier sourcing, resources and an infrastructure built to protect investors' capital. With that, I'll ask the operator to open it up for questions.

Speaker 6

Thank you.

Speaker 4

Thank you.

Operator

We'll go first to Finian O'Shea with Wells Fargo.

Speaker 7

Hi, everyone. Thanks. Good morning. Just a housekeeping question. Did the Fee waiver lapsed pursuant to the 2 year anniversary last week or so.

Speaker 6

Yes. Hey, Fin, this is Teddy. Yes, the fee waiver ended October 28, 2023.

Speaker 7

Okay, great. Thank you. And a question on leverage. Brad, you mentioned it's still within your target range, but it's obviously come down some this year and that has an impact on returns. So we're seeing how you Feel about the pipeline as you see it today and if we could expect to see this come off the low end

Speaker 2

Thanks, Fin. Just to follow my comments, the pipeline picked up quite a bit, And you saw that in the Q3 with our commitments being $650,000,000 or so. And the Q4 just from the overall Blackstone Credit Pipeline standpoint is probably the busiest. We've seen it all year. And I think that's just indicative of a little bit more of an active M and A market, but also existing portfolio companies Looking to do more things, whether it's add on financings, whether it's recapitalization.

Speaker 2

So I would expect You can never perfectly time deals, which is always the tricky thing, which is why we give a range. As we get towards the end of the year, you could see us You get a little bit higher than where we are today.

Speaker 7

Awesome. Thank you. And if I could sneak in a third, I appreciated John's color on the amendments that which None came from covenant or pick relief. I was curious if anyone asked for covenant or pick relief.

Speaker 3

No, they didn't.

Speaker 7

Awesome. Thanks so much.

Operator

We'll go next to Robert Dodd with Raymond James.

Speaker 8

Hi, and congrats on the quarter. On The pipeline and to your point, I mean, the commitments in Q3 versus if we look back over the last So multiple quarters, the gap between commitments and fundings was much more substantial than normal. Can you give us any color on that to GeoPoint? Was that DDTLs that people are looking to start making acquisitions Setting up the financing first or can you give us any color on what was the reason for the large spread there and Should we expect that to be recurring going forward?

Speaker 2

Just timing. So actually A handful of those have already funded in the Q4. So we just made the commitments towards the end of the Q3. It usually takes 30 to 60 days for some of these deals to close. So that's all that's the gap in the number, Robert.

Speaker 8

Got it. Got it. Thank you. And then as we look to next year, I mean, your focus obviously, I mean, as you've maintained all time, firstly, Do you expect to see some structural changes in kind of the deals getting Done, with MATES being elevated in terms of maybe seeing lower leverage on a 1st lien, maybe you're not doing the whole stack with somebody coming in Behind, who's willing to take a bit more risk than you're willing to do? Because obviously, I mean, on some of the large First, the unit franches, if it's at 6 times with rates where they are or 8 times or whatever it is versus do you expect kind of The market to shift in terms of how some of the leverage is structured as we go through next year, if it's more active with rates being so elevated?

Speaker 2

Yes. You're seeing that now, because you're right to point out with higher interest expense, Your companies are being set up with less leverage in order to service their debt appropriately. So You saw that a little bit in the quarter. Our average loan to value is 35.9% versus our historical LTV, which is in the kind of mid-40s. So you're seeing companies put on less leverage.

Speaker 2

And yes, in some cases, you're seeing a preferred equity piece get put in behind the senior debt in order to kind of help the equity sponsor fund some of these transactions. But this is I'm glad you pointed out because it's what we get excited about in this environment is, you're seeing more yield, so more return, primarily because of base rates. But you're also seeing better companies come to market with less leverage And lower loan to value. So more return and less risk is kind of how we think about it. And It will drive our portfolio construction going forward because you don't actually need to take a lot of risk in this market to get a very attractive return Relative to most other asset classes.

Speaker 8

Got it. Thank you.

Operator

We'll go next to Ken Lee with RBC.

Speaker 4

Hi, good morning and thanks for taking my question. Just one on the potential implications of the integration of the Blackstone Credit and Insurance platform. How do you think about potential changes in the portfolio mix or originations over time based on the integration? Thanks.

Speaker 2

So appreciate the question, Ken. So I don't think it has any implications for portfolio construction. What it does for us, it gives us a bigger team With more exposure to sponsors, with more exposure to corporates, because at the end of the day, what we're offering these Clients is Moore Solutions. BXSL will continue to be focused on senior secured, Corporate credit, top of the capital structure, a very kind of simple strategy, but when we're out facing clients We're that much more relevant to them because we can do an asset base facility. We can do something more junior in the capital structure.

Speaker 2

We have more points of connectivity, more people, more scale, more resources and that's the power of the BXCI Integration, as you look at the private credit asset class expanding, those managers that can provide multiple solutions will

Speaker 8

And

Speaker 4

Just one follow-up, if I may. In terms of some of the recent deal activity, in terms of some of the newer investments,

Speaker 9

Could you just

Speaker 4

talk a little bit more about trends that you're seeing in terms of deal terms, docs, Just wondering if there's been any changes there? Thanks.

Speaker 2

Well, I would say a couple of things. Spreads have come in a little bit over the course of the year, but I attribute that More to what I was saying earlier, which the risk has gone down, as rates are look like they're going to stay higher for longer, Capital structures are being set up with less leverage and therefore spreads have come in a little bit, which is a trade that we will take all day. So that's maybe one trend. The public markets were briefly open. Now they feel a little bit shaky again.

Speaker 3

So that gives us

Speaker 2

a lot more leverage as it relates to negotiating docs, especially for the larger deals, one of which Carlos highlighted in his prepared remarks. So I would say by and large, It's very, very attractive both from a return for level of risk And from a documentation standpoint.

Speaker 4

Got you. Very helpful there. Thanks again.

Operator

We'll go next to Paul Johnson with KBW.

Speaker 10

Hey, good morning guys. Thanks for taking my questions. Just kind of adding on a little bit to Ken's last question. I mean, how long do you think the Terms that you guys are seeing today, can I guess be sustained in the market? I mean, I guess, in addition to that, I mean, what is the value you think that would probably, threaten that a little bit?

Speaker 10

I mean, is it all Predicated on the CLO market kind of returning or what how long do I guess do you guys think the private market can keep up what's going on today?

Speaker 2

Listen, if you look at the U. S. Leveraged finance market, it's a little over 4,000,000,000,000 Private market has grown from, what, dollars 70,000,000 when we started to a little over $1,000,000,000,000 We expect that there's a lot more runway under the premise that the private solution For some issuers, regardless of whether the public market is open or closed, is a much more attractive solution for them and the best evidence of that was the largest growth period for private credit was 2021 when the public markets were wide open And sponsors were looking for privacy. They were looking for certainty. They were looking for flexibility.

Speaker 2

So, we're very bullish On the long term trends of private credit. Now getting to my earlier comments on spreads, Spreads will move around a little bit, but it's not spreads that's driving returns right now in private credit. Most of it's coming through increase in base rates. And so The returns in private credit will be predicated on your view and our view on how long we think base rates or interest rates will stay Higher. Our view is that they'll stay higher for longer.

Speaker 2

They may move around a little bit, but long term trend is actually quite good. So

Speaker 10

Appreciate that. And one last one is just kind of a more general question, but I'm just curious Because your portfolio has a decent amount of software related companies and this is Okay. So pretty much across the sector as well. But I'm curious of your thoughts in terms of just the evolution of AI and it would seem It could be a big game changer for some of your companies, both in a positive and in a negative way. As that proliferates, I mean, Seems there could be an opportunity to maybe cannibalize, I guess, parts of the software sector.

Speaker 10

So I'm just curious, I mean, do you guys have any kind of Broader thoughts on how that technology changes, I guess, the underwriting story of the software sector?

Speaker 2

So that is a 5 hour conversation. What I will say is Blackstone has been leading the charge in terms of understanding AI, Using AI, integrating that part of our investment process, so this while it may be new to kind of everyone on this call over the past Kind of 3 to 6 months because of chat GPT. It is not new to Blackstone. So every underwriting that we've done in this space, AI has been at the forefront of our decision making, and AI has its applications and where it's going to be impactful and where it's not going to be impactful. So the shorter answer to the 5 hour answer is we think about it a lot.

Speaker 2

We don't See it having issues on the portfolio that we selected in this space, but you're right, it will have implications

Operator

We'll go next to Melissa Wedel with JPMorgan.

Speaker 11

Thanks for taking my questions. I wanted to follow-up on one of the comments from the prepared remarks. I think it was Brad you were talking about expecting some dispersion in the market. I think that was related to sort of the higher for longer environment and the pressure that could put on credit. Just hoping you could elaborate on that.

Speaker 11

And if it doesn't incorporate a view on how you expect the credit cycle to evolve, could you add that in? Thank you.

Speaker 2

So higher rates are meant to slow down the economy. So it has Two areas of impact on portfolios. 1, higher rates obviously consume more cash, So

Speaker 4

it puts a little bit of

Speaker 2

pressure on people's cash flows. And secondly, if you're more correlated to The overall health of the economy, then you're going to have some potential earnings, top line pressure. So that kind of that is the driver behind our remarks that higher rates are meant to cause a little bit of a slowness. So as I think about kind of where we'll feel that next year, because really this most of

Speaker 3

this year were just because

Speaker 2

of the lag on rates Because of interest rate hedges, you haven't seen the full impact of higher rates this year. So as you think about next year, It's going to be felt in sectors that typically don't generate a lot of cash. So that probably means because they're more capital intensive and industrial manufacturing business. It could be a smaller business that just has less diversity of revenue, It may have higher customer concentration. It has less maybe Talent and its senior management, so we think the stress in the system will be Driven by which sectors you're in and the size of your business.

Speaker 2

And then of course layer in the further up the capital structure you are, the kind of the better You will be older vintage. John talked with the tail. Tails will become more of a focus In portfolios, so if the company was already struggling a little bit, next year won't make it any easier. So That kind of was the driver of my comments. And when we talk about it internally, Melissa, we talk about the 3 Ss, which will really Drive your performance and dispersion and that's seniority, that's sectors and that's scale.

Speaker 2

Those For us have been the driving factors when we're building the BXSL portfolio.

Speaker 11

Thanks, Brad. Could you do you have any broader thoughts about what you expect to see Across the space in terms of defaults and non accruals, it seems like what's come up so far has been pretty manageable And we've seen some restructurings. Just wonder if you expect that to continue to be sort of a one off in nature or if you're expecting some sort of broader weakening, Perhaps along the line of the things that you just talked about more capital intensive businesses, smaller certain sectors? Thanks.

Speaker 2

Well, don't have a crystal ball. What I would say is and we look at How everyone else is doing too. I think everyone is

Speaker 3

probably a

Speaker 2

little bit surprised this year how well Other portfolios have done. You haven't seen a big uptick in non accruals. I think Teddy gave some stats on the year over year growth And earnings of our portfolio companies, which is actually quite strong, and obviously non accrual is 0 point 0 something in our portfolio is almost non existent. I would say next year You could see in the market default rates tick up in some subsectors of healthcare And industrial manufacturing, retail, anything touching kind of housing market and consumer. So I would say you have to look at people's portfolio Composition and that will, I think maybe better answer your question.

Speaker 2

I'm sure there are stats that JPMorgan and others have out there for Market default rates, which is 4% or so. So that may be another kind of number You could use, but it really, really comes down to and I've heard others say this, next year will be more dispersion Driven by these areas that I've mentioned.

Speaker 11

Thank you.

Operator

We'll go next to Mark Hughes with Truist.

Speaker 12

Yes, thanks. Good morning. Just following up on that, you mentioned that the higher interest rates are meant to slow down the economy. Do you think that'll

Speaker 2

Work? Yes, I do think it will work. It's You've started to see kind of a change in the labor market. So you're starting to see the effects of higher rates. You see it in portfolio companies and the impact on how much excess capital they have to spend on growth.

Speaker 2

So all of that is slowly starting to have an impact. Whether it has the full desired impact That the Fed is hoping that will a little bit depend on how long they keep rates elevated. But yes, it will certainly You have the desired effect. I think what's debatable is how long and how deep.

Speaker 12

And you mentioned spreads have come in a little bit, but you, I think, attributed that to largely the deal structure. Do you think there's been more competitive pressure? There's a lot of dry powder among private equities, but a lot of Dry powder presumably among direct lenders, is there have you felt that or you think you're still insulated from that?

Speaker 2

No. In some deals, they actually have been quite competitive and other deals Less so. But in terms of how deals are ultimately getting priced, I think there's a fair amount of discipline In the market, again, if a company is taking a turn, turn and a half less leverage, it's not surprising that Yes. Spreads for those deals are a little bit lower than what they might have been for a more levered structure. I would say kind of the large end of the market, which we tend to like, The public markets just haven't been open for those deals.

Speaker 2

So the deal that Carlos mentioned is $1,600,000,000 we were the sole lender. That's a really good dynamic for us because we can customize a solution for the sponsor and set it up with the right The capital structure to allow them to grow, you contrast that with a $200,000,000 Lower middle market deal, that may be more competitive because there's been a lot of new capital raised by new entrants. They can all write smaller tickets. So it will really depend on where the deal was created, how it comes to market and the size of that deal.

Speaker 12

Appreciate it. Thank you.

Speaker 4

We'll take our final question from Arren Cyganovich with Citi.

Speaker 10

Thanks. Maybe you could talk

Speaker 9

a little bit about Conversations with equity sponsors and whether or not you see them kind of starting to accept The different environment we're in where equity valuations where they maybe previously expected are now down to lower levels and What will necessarily be needed to get folks to that point? Is it just a matter of time And a little less volatility in the market.

Speaker 2

Yes, valuations will come Have to come down. You're seeing that new deals get done. I think they're probably in by 2 turns in the second half of the year. So I think it's coming through. Your buyers and sellers will always have a different view.

Speaker 2

But as you point out, the structures of their private equity funds Force them a little bit to transact, and that will kind of accelerate the bid ask And get it closer together. I think we're maybe another 3, 6 months away from That acceleration picking up, a lot of our deal flow right now, Aaron, is just coming from our existing portfolio. So Coming from our incumbency and not necessarily just from M and A, so whether it's on A public deal that we're taking private or whether it's our private companies that are looking for, to do acquisitions Versus new platform investments, that's what's driving activity right now. But I do think next year, you'll see this You'll see the bid ask come closer together, deal flow start to accelerate.

Speaker 3

Thank you.

Speaker 4

Thank you. That will conclude our question and answer session. I'd like to turn the call back over to Ms. Huang for any additional or closing remarks.

Speaker 1

That would wrap up our call for today. Thank you everyone for joining us and

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Earnings Conference Call
Blackstone Secured Lending Fund Q3 2023
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