Runway Growth Finance Q1 2023 Earnings Call Transcript

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Provided by Quartr
May 9, 2023

There are 8 speakers on the call.

Operator

And gentlemen, thank you for standing by, and welcome to the Runway Growth Finance First Quarter 2022 Earnings Conference Call. Please be advised today's conference call is being recorded. I would now like to hand the conference over to Mary Friel, Assistant Vice President, Business Development and Investor Relations. Please go ahead.

Speaker 1

Thank you, operator. Good evening, everyone, and welcome to Runway Growth Finance Conference Call for the Q1 ended March 31, 2023. Joining us on the call today from Runway Growth Finance are David Spring, Chairman, Chief Executive Officer, Chief Investment Officer and Founder and Tom Ratterman, Chief Financial Officer and Chief Operating Officer. Runway Growth Finance's Q1 2023 financial results were released just after today's market close and can be accessed from Runway Growth Finance's Investor Relations website at investors. Runwaygrowth.com.

Speaker 1

We've arranged for a replay of the call at Runway Growth Finance's webpage. During this call, I want to remind you that we may make forward looking statements based on current expectations. The statements on this call that are not purely historical are forward looking statements. These forward looking statements are not a guarantee of future performance and are subject to uncertainties and other factors that could cause actual results to differ materially from those expressed in the forward looking statements, including and without limitation, market conditions caused by uncertainties surrounding rising interest rates, The impact of the COVID-nineteen pandemic, changing economic conditions and other factors we identify in our filings with the SEC. Although we believe that the assumptions on which these forward looking statements are based are reasonable, any of those assumptions can prove to be inaccurate And as a result, the forward looking statements based on those assumptions can be incorrect.

Speaker 1

You should not place undue reliance on these forward looking statements. The forward looking statements contained on this call are made as of the date hereof, and Runway Growth Finance assumes no obligation to update the forward looking statements or To obtain copies of SEC related filings, please visit our website. With that, I will turn the call over to David.

Speaker 2

Thank you, Mary, and thank you all for joining us this evening to discuss our Q1 results. I would like to start by providing Q1 2023 highlights, And I'll discuss broader market dynamics and our outlook. In the Q1, Runway demonstrated its ability to be a steady hand amid banking disruptions that caused shock waves throughout the market. We attribute that to our weatherproof portfolio focused on recession resistant industries and our roster of seasoned team members who have experienced traversing every economic cycle. We want to take a moment to address the volatility we've seen in the banking sector since our last call, which began with the closure of Silicon Valley Bank.

Speaker 2

So these agents didn't buy or that included SVB as a lender. SVB's lending portfolio was particularly concentrated in early stage companies. Given our focus on the latest stage companies in the venture ecosystems, the recent banking disruptions Did not financially impair Runway's portfolio. We anticipate continued headwinds in the banking sector And we'll remain proactive in communicating with our portfolio companies and managing our capital structure. Industry wide, we've seen public and private investors adjust their approach to risk management for the expectations of a potential Hard Landing Recession.

Speaker 2

We believe this dynamic positions Runway as a preferred lender in the venture debt space. Our priority has always been to deliver stable earnings while mitigating risk in any market environment. Runway continued to execute its disciplined strategy and we delivered stable earnings as well as attractive risk adjusted returns. Since inception, we believe our team has built the most stable portfolio in the venture debt space. We did this by underwriting 1st lien investments in the highest With looming macro concerns, we remain confident in the durability of our strategy, the experience of our team and the strength of our portfolio, which we believe positions the company for continued success throughout 2023.

Speaker 2

Turning to the Q1 operating results. Runway completed 7 investments in existing portfolio companies, representing $12,900,000 in funded loans. Our originations and deployment activity reflects Q1 seasonality and the conviction with which we evaluate investments, which we mentioned in our last call. That said, we continue to see healthy demand from quality companies with clear paths to profitability, Seeking to use debt as non dilutive growth capital, Runway's credit bar has never been higher and the team remains We remain in our core leverage range of 0.8 to 1 point Runway has the lowest leverage ratio among the public venture debt peers and ample dry powder to deploy. However, our approach to building a weatherproof platform has always been quality over quantity.

Speaker 2

We believe that selectivity in deploying capital will generate better terms and return on equity. Runway delivered total investment income of $39,300,000 and net investment income of $18,200,000 in the quarter. This represents an increase of approximately 104% 46%, respectively, from the prior year period. Net assets were $569,800,000 at the end of the first quarter, down 5% from $597,500,000 in the prior year period and down 1% from $576,100,000 at the end of Q4 2022. Tom will provide a deeper look at our strong credit quality, but our weighted average portfolio risk rating remained constant at 2.1 in Q1 2023.

Speaker 2

Turning now to structuring and underwriting. As demonstrated by our weighted average active loan to value at origination Of 17.4 percent across the portfolio, underwriting is a key component of our credit first approach. With a proven track record across multiple economic cycles, Runway has built its underwriting process as well as the structural protections and covenants that enable effective monitoring and communication. Capital preservation and providing a margin of safety for both our and our portfolio company's balance sheets cannot be overstated. We continue to see the value in pursuing a growth mindset while establishing guardrails, such as thoughtful covenants and limitations on loan to value.

Speaker 2

These measures limit downside risk for both us and our borrowers. We believe our checks and balances are effective and allow us to work with borrowers to mitigate risk for us and them. Management prides itself on being a good partner and helping borrowers work through problems when they arise, while simultaneously preserving credit quality and safeguarding our shareholders. In step with previous quarters, we calculated the loan to value for loans that were in our portfolio At the end of Q4 2022 and Q1 2023 and found that our dollar weighted loan to value ratio increased modestly to 24% in Q1 from 23% in Q4. We continue to employ a conservative approach to valuation.

Speaker 2

As you can see, a primary focus heading into this year was to mitigate risk and support our existing portfolio companies. Runway's focus on senior secured and almost exclusively first lien loans is important for two reasons. The first is because this focus Ours us to be a good partner to our borrowers and the second is that it gives us control in being a fiduciary for our investors' capital. Ultimately, that means minimizing losses. The focus on 1st lien loans protects our investors from situations in which A second lien lender might find itself subordinated to any external party and precluded from taking action to preserve the value of a loan.

Speaker 2

We follow-up our rigorous underwriting with proactive monitoring of our portfolio companies. Our communication cadence with portfolio Portfolio monitoring is built on a core set of requirements for all portfolio companies and is customized to ensure we are positioned to protect our investors' capital and avoid any potential losses in the portfolio. Additionally, each position in our portfolio undergoes a comprehensive valuation Turning to the market outlook. According to recent pitch book data, U. S.

Speaker 2

Late stage venture equity deal value slowed to $11,600,000,000 in Q1. While this data provides a snapshot for VC equity market trends, Runway is not dependent on venture equity dynamics. We believe that our focus on late stage companies, including non sponsored borrowers With defined paths to profitability insulates us further from downstream financing risk. Across the ecosystem, the largest concern for companies is surrounding access to capital as they navigate through a slower growth environment. That's where venture debt can provide a very strong value proposition, because relative to equity, Which continues to be expensive and can come with onerous terms, debt remains an ideal option to fuel growth and minimize dilution.

Speaker 2

Venture debt is not, however, rescue financing. Doran doesn't replace equity when the capital structure and business operations require an equity solution. We are mindful that existing portfolio companies may need additional support to navigate dynamic economic conditions. However, as a lender, we are confident in our ability to provide that helping hand. We can support our current portfolio companies and continue to for Creative Financing Solutions, while they assess future banking relationships and face fundraising challenges.

Speaker 2

We will continue to be extremely thoughtful as we evaluate opportunities in the current market environment. I will now turn it over to Tom.

Speaker 3

Thanks, David, and good evening, everyone. Runway completed 7 investments in the Q1, representing $12,900,000 in funded loans. Runway's weighted average portfolio risk rating held constant at 2.1 in the Q1 compared to the Q4 of 2022. As a reminder, our rating system is based on a scale of 1 to 5, where 1 represents the most favorable credit rating. At quarter end, we continued to have only 1 portfolio company rated 5 and on non accrual status.

Speaker 3

During the quarter, we restructured our terms with Gynasonics and split our investment between a senior secured 1st lien loan and preferred equity, which has priority over all other equity. We also received fee contributions from the restructuring. The amended agreement attracted additional junior equity investment to support the company's growth and development. We're pleased with this result and that our entire investment remains first out in the current capital stack. Our total investment portfolio including U.

Speaker 3

S. Treasury bills at a fair value of approximately $1,100,000,000 holding constant from the Q4 of 2022 an increasing 49% from $754,300,000 for the comparable prior year period. As of March 31, 2023, Runway had net assets of $569,800,000 decreasing from $576,100,000 at the end of the Q4 of 2022. NAV per share was $14.07 at the end of the Q1 compared to $14.22 at the end of the Q4 of We're pleased with our stable NAV, which we feel reflects industry leading levels of scrutiny. With respect to interest rates, our loan portfolio is comprised of 100% floating rate assets, which will continue to benefit from higher rates.

Speaker 3

All loans are currently earning interest at or above agreed upon interest rate floors, which generally reflect the base rate plus the credit spread set at the time of closing or signing of the term sheet. In the Q1, we received $10,200,000 in principal repayments, a decrease from $16,000,000 in the Q4 of 2022. Runway generated total investment income of $39,300,000 and net investment income of $18,200,000 in the Q1 of 2023 compared to $19,200,000 $12,500,000 in the Q1 of 2022, largely driven by the increase in the size of our portfolio. Our debt portfolio generated a dollar weighted average annualized yield of 15.2% for the Q1 of 2023 as compared to 12.2 percent for the Q1 of 2022. Moving to our expenses.

Speaker 3

For the Q1, total operating expenses were $21,100,000 increasing from $6,800,000 for the Q1 of 2022. The majority of this increase was driven by higher interest expense and debt fees, with the balance made up of an increase in performance based incentive fees and management fees. Runway had a net realized loss of $1,200,000 in the first quarter compared to a net realized loss of $400,000 for the Q1 of 2022. We recorded net unrealized depreciation of $5,100,000 in the Q1 compared to net unrealized depreciation of $9,200,000 in the Q1 of 2022. Weighted average interest expense was 7.3% at the end of the first quarter, increasing from 6.5% during the Q4 of 2020 End of period leverage was 104% and asset coverage was 196% as compared to 97% and 203%, respectively, at the end of the Q4 of 2022.

Speaker 3

All investments in the Q1 were funded with leverage as part of our strategy to generate non dilutive portfolio growth. Turning to our liquidity. At March 31, 2023, our total available liquidity was $131,300,000 including unrestricted cash and cash equivalents and borrowing capacity of $128,000,000 as compared to $93,800,000 $88,000,000 respectively, on December 31, 2022. We had unfunded loan commitments to portfolio companies of 302,000,000 The majority of which were subject to specific performance milestones, dollars 63,000,000 of those commitments are currently eligible to be funded. During the quarter, we further enhanced liquidity by increasing our credit facility pursuant to the accordion feature by $75,000,000 to a total of $500,000,000 subject to the terms and conditions as reflected in the credit facility agreement.

Speaker 3

Subsequent to quarter end, we completed a $25,000,000 private placement of 3 year unsecured notes. We also received full prepayment of our $30,000,000 loan to Mustang Bio. With ample dry powder that fortifies our balance sheet, Runway remains well positioned to selectively deploy capital at increasingly favorable terms for the remainder of the year. Finally, on May 2, 2023, Our Board declared a regular distribution for the Q2 of $0.40 per share as well as a supplemental dividend of $0.05 per share payable with the regular dividend. As communicated last quarter, Runway intends to pay a similar supplemental dividend for each remaining quarter of 2023, subject to future approval from the Board of Directors.

Speaker 3

This concludes our prepared remarks. We'll now open the line for questions. Operator?

Operator

Thank you. Our first question comes from the line of Eric Zwick of Hovde Group. Your line is open.

Speaker 4

Good afternoon or good evening guys. You guys able to hear me okay?

Speaker 2

Yes. Yes. I can hear you fine.

Speaker 4

Okay, great. I wanted to start maybe first just On leverage, you mentioned that the investments in the Q1 were funded with leverage and you moved a little bit closer to your kind of Preferred target range of 0.8 to 1.1, although I know you've mentioned you'd in the right environment consider going higher. So just curious how you frame Your current leverage profile today, face to face with how you see the environment for additional Fundings and as well as kind of how the pipeline shapes up today?

Speaker 3

Sure. I can take the leverage comment. And as David said, the pipeline is certainly as strong and as high quality As it's ever been, we don't feel an extraordinary amount of pressure to Grow the portfolio anyway other than prudently and selectively as we have really throughout our history. So as you look at our unfunded commitments that are available to be drawn, which is about 63,000,000 And our liquidity today, which is over $200,000,000 given the note offering and prepayments, We feel that we're in pretty good shape. We will likely drift up over or 2 or slightly over that 1.1.

Speaker 3

I don't think we feel any pressure to step outside of that range, outside of some Very, very attractive opportunities. So I think we're comfortable with being at the upper end of The stated range going forward and expect that we'll be there bouncing around that 1.1 for the remainder of the year.

Speaker 4

That's helpful. And then just wanted to move on. I was looking at Slide 21 and the So actually, I want to move on to Slide 22, just looking at the potential impact that higher rates would have on the portfolio and it seems that the Fed is maybe moving To a potential kind of pause and hold period, looking at the SOFR curve, it would actually suggest that by July, rates the SOFR curve starts to come down at that point, which I guess is in a big disagreement with what the Fed is saying at this point. So curious from your perspective, what that potentially means for The yield and the opportunity to grow net investment income just due to the higher rates of How you kind of face that prospect today?

Speaker 3

Well, I think looking at our capital structure, you'll see that we're still primarily floating rate debt, Probably 60%, 65%. And at least in the short term, any financing that we would add would be under the revolving Credit facility. So we'd really have a perfect match there with assets because 100% of our loans are floating rate. I think that in that circumstance, as you see rates coming down, that would likely be a signal We have a view toward where the economy is going to go. Now it may mean that the economy This is headed toward a hard landing, but then we'll be better able to judge the portfolio growth, how much we want to add and if we want to Step into that expanded range, which would then impact return on equity positively.

Speaker 2

Right. I guess I would add, Eric, the other side of Interest rates is, if they do increase dramatically, which is not what you're seeing on that curve, but if they do, there is a point At which it becomes prohibited for pre profit companies to service their debt or at least makes it It's more of a hurdle. We have not seen that yet and it's probably less of a factor with the latest stage companies Where we play, where our companies are much, much closer to profitability, they have a clear plan and path to profitability And whether their interest rate is 11%, 12% or 13%, it isn't really going to move the needle. So we're not seeing a lot of pushback yet, but if rates were to for some reason go up Dramatically, there probably will be a point that we might have to look at slightly different structures. But again, we're not seeing that as of yet.

Speaker 4

That's helpful. I appreciate the commentary. And you're right, kind of it does seem if the Fed does Go to a hold at a higher for longer level that that would be kind of beneficial and maybe a sweet spot here for you now as you mentioned, but companies being able to Withstand this higher interest burden, but going too much higher could certainly change that. I guess the last question for me and then I'll step aside. Just in terms of The purchase of the treasury bills in the quarter, curious kind of what the maturities were on those and if that was just a strategy to park some Cash short term after either some prepayments or whether as part of a longer term strategy to have those investments?

Speaker 3

That's it's not a long term strategy to have treasuries on the balance sheet. We wanted to Frankly beef up our liquidity given the noise and the disruption in the banking system at that point. So we wanted to Have excess liquidity, if you will, live in very short term treasuries. So those were 7 day treasuries Dave Holden, we've subsequently liquidated those treasuries and paid down our revolver.

Speaker 4

Thanks for taking my questions today.

Speaker 2

Thank you, Eric.

Operator

Thank you. One moment, please. Our next question comes from the line of Bryce Roe of B. Riley. Your line is open.

Speaker 5

Thanks. Good evening or good afternoon on the West Coast. Wanted to maybe ask about kind of the dividend policy and any thoughts around maintaining The supplemental, kind of given what happened late in Q1, any thought to not paying a supplemental and retaining that capital as NAV?

Speaker 3

Great question, Bryce, and thanks for joining today. It's something we certainly evaluate at every quarter and as we move along. I think the view of the Board right Now is that we made a commitment to pay that supplemental dividend out. And so Unless there's a dramatic change, I think it's our view to maintain that supplemental dividend, but the Board will make that decision every quarter.

Speaker 5

Okay. Thanks, Tom. That's helpful. And then just I saw on the subsequent event, there might have been an amendment that came in with 1 of your portfolio companies. Curious what you're hearing, what you're seeing with your portfolio companies in terms of trying To get or even need support, given what's happened from a macro perspective.

Speaker 2

Tom, do you want to address the specific company and I can speak to the general environment?

Speaker 3

Sure. So I think there were a couple of things. 1, And you might be referring to Mustang Bio, which was an early termination of public company. It had Good liquidity and I think as we met with them and their Board evaluated it, They decided to prepay that loan. That also happened before quarter end with TRACON.

Speaker 3

So is that the activity you were referring to, Bryce?

Speaker 5

Well, that it was that

Speaker 3

Yes. So Marley Spoon, great. Yes, Marley Spoon, well, first off, congratulations to the Marley Spoon Team for successfully negotiating the SPAC transaction, and we all look forward as do they in To joining the Frankfurt Exchange as a public company and moving off the Australian Exchange, That's a really good outcome as we sat down and We had a seat at the table. Our loan agreements give us a seat at the table. There's US34 $1,000,000 coming in junior to us Right away, and then there's the prospect of additional capital coming in and potentially reducing that loan amount.

Speaker 3

But we thought it was appropriate to give them some relief in the form of a temporary PIK adjustment in order to give them Time to close that deal and make sure that the SPAC investors were all lined up. So we're pleased with it. We did have a seat at the table and we think it Provides a lot of strength to that credit and we look forward to the completion of that later in the year.

Speaker 2

I'd add from a general point of view, we have not seen any kind of an uptick in requests for amendments or Relief, the Q1 was very consistent with previous quarters and our Sector, the really, really late stage is very much different from the world that Where SVB operated in terms of their venture debt book and as we said in our opening remarks, none of our companies had Lending relationships with SVB, we had a number of companies that had depository relationships, but have since diversified those. So Basically no impact on our portfolio from SVB.

Speaker 5

That's great. I appreciate it. I'll step back in queue.

Operator

Our next question comes from the line of Melissa O'Dea with JPMorgan. Your line is open.

Speaker 6

Thanks for taking my questions today. I was hoping that you could walk Through the restructuring that took place in 1Q around Gynosonics, I know that you touched on that earlier, but could we walk through kind of What triggered that? And then anything else in the portfolio beyond what's been disclosed, you feel like there might be some restructuring Activity?

Speaker 3

Sure. So, Gynasonics has been a portfolio company for a reasonable period of time. Guidasonics was through mid to late 4th quarter had initiated a regular way Capital raise and they were making progress on that. As we got deeper into Q1 and there was more capital markets uncertainty, More kind of lock up in the venture markets, concern about the economy, Their regular way capital raise turned into an opportunity for existing A couple of the existing sponsors to really clean out the deadwood and take a bit of a heavy hand On that cap table and at the same time bring in new equity to support the company's growth and development. In order to close that transaction, help facilitate it and give the company room to grow and execute their business plan, We still remain at the top of the capital stack.

Speaker 3

The entire investment still remains senior to any other capital, including the new equity that came in Junior to us, we broke that into 2 pieces, the senior secured term loan and then a senior preferred equity piece, which It was in effect to reduce the cash interest burden there and it gave us substantial upside in the business and there was also some other Upside that we received. So we think that's a good outcome for the company and the sponsors, and We expect to see them to continue to execute on our business plan. As to other names in the portfolio, As David indicated, we are not seeing any more or less activity than and from an amendment standpoint than We would normally see and we're confident in all of our processes and decision making that led to that Restructuring of Gisonix.

Speaker 2

So with that said that we don't see anything specific, I think we believe or anticipate that there will be more situations where There is a fracturing of the equity syndicate. Our average company is 14 years old, so you can imagine that people that started 14 years ago are out of money and the People that did the most recent round have high expectations for a return. And so that can Lead to a fracturing of the syndicate and can also have a wipeout round situation, Which is essentially what you saw at Dynasonics where the folks with dry powder say we'll go forward, but Folks without capital, without an ability to participate are going to get wiped out. And I would be shocked if we don't see more of that. It's very typical at the end of a venture cycle and is to be expected and isn't necessarily a bad thing For us, the strengthening of the syndicate, which will result from the strong investors going forward and the weak investors being weeded out is actually a good thing.

Speaker 2

And Being weeded out is actually a good thing. We've got to deal with it in terms of valuations And request for us to provide some accommodation, but it's part of the business. We don't see any specific situations now, But would not be surprised if we do see some pop up over the course of the year.

Speaker 6

That's really helpful. I appreciate that. Just looking at the portfolio now, obviously, there was a tick up. I think because of that Particular transaction in exposure or portfolio allocation to preferreds. As we go through this cycle and you Potentially see more of these situations come to pass.

Speaker 6

How do you think about portfolio allocation To preferreds and common equity, is there some sort of cap That you think about as being reasonable for the portfolio?

Speaker 2

Well, so it's a great question. They could be Extremely interesting investments, but that's not what you folks are paying us to do. This is a credit first Current return focused investment fund and that's where our commitment lies. So we don't have any stated cap, but The preference would be 0. This is not a structured equity fund or anything like that.

Speaker 2

It's focused on Current return senior secured 1st lien loans and we prefer to keep it that way. So simple answer is we'll try to avoid any of it, But when it's required, we'll try to make the most of it. And I'd say we're quite adept and skilled at understanding What's the best way to structure something like that so that we maximize the return? So simple answer Melissa is we're hoping not to have any more, But I don't think that's realistic.

Speaker 6

Okay. Fair enough. One last follow-up then on that, If I could, are there other vehicles at Runway that could participate that are perhaps more inclined to hold a preferred or an equity position? Or is that sort of a standard approach across all of the product offerings Runway, thank you.

Speaker 2

Yes, great question. We have one other fund, which is a private LPGP fund, which has a strategy that's Very similar to the BDC. So we don't have any kind of a structured equity or structured debt or Preferred focused fund that would be a potential place for one of those. So the answer is unfortunately no. I think the time for those is pretty interesting and you've seen a lot of them raised and we see a lot of those folks out in the market.

Speaker 2

But they're not really competitive with us because they tend to focus on more troubled situations. And we're really, especially for new loans, trying to make sure that we're lending to the very best companies we can and make it clear That our type of capital is not rescue finance.

Speaker 6

Really helpful. Thanks so much. Yes.

Speaker 2

Thank you, Melissa.

Operator

Thank you. Our next question comes from the line of Mickey Schleien of Ladenburg. Your line is open.

Speaker 7

Yes. Good afternoon, everyone. Just a quick question on the investment yield you show on Page 16 of the presentation. The weighted average declined 30 basis points and obviously reference rates have been climbing substantially. I was hoping you could expand on what caused that.

Speaker 7

I realize there were movements in the portfolio, but Was there anything else we should be aware of that caused that move directionally and which could affect the outlook for the balance of the year?

Speaker 3

Yes. A lot of it just has to do with the composition of the origination in the prior quarter, Mickey. And so our average SOFR spread probably came down a little bit in Q4, which then flowed through Into Q1, that's part of just our purposeful and intentional strategy of being very late stage and upmarket. So some of those transactions are going to end up Having a little tighter yield vis a vis where we might have been 24 months ago.

Speaker 7

Understand. That's it for me this afternoon. Thanks for your time.

Speaker 4

Thanks, Mickey.

Operator

Thank you. I'm showing no questions at this time. I'd like to turn the call back over to Mr. David Spring for any closing remarks.

Speaker 2

Great. Thank you, operator. Runway's 1st quarter operating performance is indicative of the high quality durable portfolio we have constructed to navigate the current environment. Our team remains confident in our disciplined approach of deploying leverage to drive prudent portfolio growth, while partnering with the latest stage companies in the venture market. We believe that Runway is well positioned to thoughtfully grow earnings and shareholder value in any Thank you all for joining us today.

Speaker 2

We look forward to updating you on Q2 2023 results in August. Goodbye.

Operator

Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.

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Runway Growth Finance Q1 2023
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