SLR Investment Q4 2023 Earnings Call Transcript

Quartr
Provided by Quartr
February 28, 2024

There are 8 speakers on the call.

Operator

day, everyone, and welcome to today's Q4 2023 SLR Investment Corp Earnings Call. At this time, all participants are in a listen only mode. Later, you will have the opportunity to ask questions during the question and answer session. Please note this call is being recorded. It is now my pleasure to turn the conference over to Chairman and Co CEO, Michael Gross.

Operator

Please go ahead.

Speaker 1

Thank you very much and good morning. Welcome to SLR Investment Corp. Earnings call for the fiscal year ended December 31, 2023. I'm joined here today by Bruce Spohler, our Co Chief Executive Officer and our Chief Financial Officer, Shiraz KG. Shiraz, before we begin, would you please start by covering the webcast and forward looking statements?

Speaker 2

Thank you, Michael. Good morning, everyone. I would like to remind everyone that today's call and webcast are being recorded. Please note that they are the property of Bestolog Investment Corp and that any unauthorized broadcast in any form is strictly prohibited. This conference call is also being webcast for the Events Calendar in the Investors section on our website at www.slrinvestment.com.

Speaker 2

Audio replays of this call will be made available later today as disclosed in our February 27 earnings press release. I would also like to call your attention to the customary disclosures in our press release regarding forward looking statements. Today's conference call or webcast may include forward looking statements and projection. These statements are not guarantees of our future performance or financial results and involve a number of risks and uncertainties. Past performance is not indicative of future results.

Speaker 2

Actual results may differ materially as a result of a number of factors, including those described from time to time in our filings with the SEC. We do not undertake to update any forward looking statements unless required to do so by law. To obtain copies of our latest SEC filings, please visit our website or call us at 212-993-1670. At this time, I would like to turn the call over to our Chairman and Co CEO, Michael Gross.

Speaker 1

Thank you, Shiraz. We are pleased to report that for the Q4 of 2023, SLRC generated net investment income of $0.44 per share, representing growth of 7% year over year and a 26% increase over our net investment income immediately following our merger with SLRC Senior Corp. Q1 2022. Our 4th quarter NII per share equates a 7% surplus over our distributions paid during the quarter. The increase of NII over the past 2 years has been driven by meaningful comprehensive portfolio growth as well as increases in reference rates and asset yields.

Speaker 1

We believe this will be an attractive vintage to have grown our portfolio. Also contributing to our strong quarter, SLRC earned $1,100,000 from SLR Senior Lending Program or SSLP as we call it, represented 10.2 percent annualized yield compared to earnings of $300,000 in Q3. At year end, investment commitments totaled $200,000,000 and we expect commitments to reach approximately $240,000,000 to $250,000,000 by the end of Q1. Once fully ramped based on current rates, we anticipate that this vehicle will generate an annualized yield in the low double digits. At December 31, our net asset value per share was $18.09 up from $18.06 per share at September 30, reflecting stable credit performance and the over earning of our distribution.

Speaker 1

We continue to be pleased with the credit quality of our portfolio with no new non accruals during the quarter. Our December 31 non accrual rate based off was just 0 0.6% and 0.4% on fair value, which remains significantly below the BDC industry average. In finance, the average EBITDA and revenue growth continues to be positive for our portfolio companies. Overall, they have successfully managed the transition to an environment with higher cost of capital and inflation. The weighted average interest coverage on our sponsor finance loans is 1 point times.

Speaker 1

We believe these healthy metrics are the result of our focus in sponsor finance on recession resilient industries with high recurring free cash flow such as healthcare and business services. As a reminder, our comprehensive portfolio achieved significant diversification for our specialty finance investments allowing us to be highly selective in sponsor finance. Our specialty finance allocations provide the portfolio with countercyclical and less correlated investment opportunities to cash flow credit. Credit quality for specialty finance investments continues to be solid with attractive LTVs that have meaningful collateral support. At quarter end, approximately 98% of our comprehensive investment portfolio was comprised of 1st lien senior secured loans.

Speaker 1

Our long standing focus on 1st lien loans has resulted in a portfolio which we believe is better equipped to withstand persistent inflationary pressures and high interest and invested in specialty finance assets, we have borrowing basis and covenant structures, which we believe are defensively positioned. In 2023, SLRC had record originations of approximately $1,500,000,000 Their sponsor finance business in particular capitalizing on investment environment with better pricing and lower risk profiles than the historical average. Repayments for the year totaled over $1,300,000,000 representing approximately 45% of our beginning 20 20 3 portfolio. Although LBO volume was down in 2023, approximately 61% sponsored finance investments supported tuck in acquisitions for new and existing portfolio companies with remaining activity financing new LBO investment opportunities. Buyers and sellers continue to engage in price discovery with increased pressure on sponsors to transact as LPs seek a return of capital before making new commitments.

Speaker 1

As a result of the slow M and A environment, sponsors have held on to their performance for longer via maturity extensions and sales to continuation vehicles. While M and A activities remain muted thus far in 2024 and competition has increased for this limited direct lending deal flow, we remain excited about the opportunities set for direct lending in 2024 from an expected acceleration in M and A activity in the second half of the year. Our life science, ABN and equipment finance strategies continue to benefit from being uncorrelated to the broader cash flow market. The life science market continues to recover from lighter with debt opportunities continuing to improve. The ABL market remains robust with referrals from both money center banks and regional banks accelerating.

Speaker 1

In particular, the continued turbulence of regional banks is providing more opportunities for private credit managers such as ourselves. Firms with significant available capital such as the SLR platform are able to fill the void left as regional banks retreat. Borrowers value our speed and certainty of execution, flexibility and our ability to invest $150,000,000 to $200,000,000 in a given upper middle market financing, which gives us influence over pricing and documentation. With $13,000,000,000 of total investable capital across the platform inclusive of anticipated leverage, SLR has a scale to provide full financing solutions which benefits SLR's CitiCo investment. Importantly, we have ample dry powder to capitalize on the favorable investment environment.

Speaker 1

At December 31, including available credit facility capacity at the SSLP and especially finance portfolio companies, SLRC had over $500,000,000 of available capital to take advantage of the current attractive investment environment. I'll now turn over the call back to Shiraz to take you through the Q4 financial highlights.

Speaker 2

Thank you, Michael. SLR Investment Corp. Net asset value at December 31, 2023 was $987,000,000 or $18.09 per share compared to $985,000,000 or $18.06 per share at September 30. At quarter end, SLRC's on balance sheet investment portfolio had fair value of approximately $2,200,000,000 in 151 portfolio companies across 43 industries compared to a fair market value $2,200,000,000 in 154 Portfolio Companies across 43 Industries at September 30. Also at December 31, SSLP had a fair value portfolio of $187,000,000 of first lien senior secured loans.

Speaker 2

Of the initial $100,000,000 joint commitment, SLRC and our JV partner have contributed combined equity in the amount of $85,000,000 In Q4 2023, SLRC earned income of $1,100,000 from SSLP equating to a 10.2 percent annualized yield. In the 4th quarter, we also upsized the SSLP credit facility by $50,000,000 to $150,000,000 At December 31, SLRC had approximately $1,200,000,000 of debt outstanding with leverage of 1.19x net debt to equity up from the pandemic low of 0.57x. We expect our leverage ratio to remain in the middle of our target leverage range of 0.9 to 1.25 times. SLRC's funding profile is in a strong position to continue to weather the current interest rate environment. Just this month, we expanded the list of participants in our primary credit facility.

Speaker 2

Furthermore, our $470,000,000 of senior unsecured fixed rate notes have a weighted average annual interest rate of only 3.8% and we expect to opportunistically access the investment grade debt market. Moving to the P and L, for 3 months ended December 31, gross investment income totaled $59,800,000 versus $59,600,000 for the 3 ended September 30. Net expenses totaled $35,900,000 for the 3 months ended December 31. This compares to $36,300,000 for the prior quarter. As a reminder, at the time of the merger of SLR Senior Investment Corp or SUNS into the company last year, the investment advisor agreed to waive incentive fees resulting from increment due to the accretion of purchase discount allocated to investments acquired as part of the merger.

Speaker 2

During the Q4, the company waived approximately $90,000 of fees related to the merger, which now totals approximately $2,000,000 in cumulative waivers by the manager related to the merger. Accordingly, the company's net investment income for the 3 months ended December 31, 2023 totaled $23,900,000 or $0.44 per average share compared to $23,400,000 or $0.04 per average share for the 3 months ended September 30. Below the line, the company had a net realized and unrealized loss for the 4th quarter totaling $300,000 versus a net realized and unrealized gain of 3 point dollars for the Q3 of 2023. As a result, the company had a net increase in net assets resulting from operations of $23,600,000 for the 3 months ended December 31, 2023 compared to increase of $26,900,000 for the 3 months ended September 30. Mentioned on previous calls, the company has returned to making quarterly rather than monthly distributions.

Speaker 2

And on February 27, the Board of SLRC declared a Q1, 2024 quarterly distribution of $0.41 per share payable on March 28, 2024 to holders of record as of March 14, 2024. With that, I'll turn the call over to our Co CEO, Bruce Bullard.

Speaker 3

Thank you, Shiraz. Before I provide an overview of our portfolio, I'd like to touch on our approach to portfolio construction. Our commercial finance business model provides us with the flexibility and capabilities to capitalize on the most attractive lending opportunities across our 4 private credit investment strategies. We take a fundamental bottom up approach to portfolio construction based on the relative attractiveness or risk adjusted returns across our investment verticals. While we were more active on sort of finance throughout 2023, we did see a pickup in activity in our other verticals during the Q4, which we expect to continue in 2024.

Speaker 3

With our flexible mandate and broad capabilities, we are positioned to take advantage of either continued durable economic conditions or softening of the economy. We believe having the flexibility to play either offense or defense at the right moments across the cycle is critical to long term consistent performance. Now let me turn to the portfolio. At year end, on a fair value basis, comprehensive portfolio consisted of approximately $3,100,000,000 of senior secured loans to 7.90 borrowers across over 110 industries with a $3,900,000 or 0.1 percent bridge position exposure. Measured at fair value, 99.2 percent of our portfolio consisted of senior secured loans, with 97.7% invested in 1st lien loans, including investments through our SSLP attributable to the company, and only 0.3% was invested in 2nd lien cash flow loans, with the remaining 1.2% of the portfolio invested in 2nd lien asset based loans with full borrowing basis.

Speaker 3

Our specialty finance investments account for approximately 76% of the comprehensive portfolio with the remaining 24% invested in senior secured cash flow loans to upper mid market private equity owned companies. We believe that this defensive portfolio composition positions us well for potential economic weakness and provides a differentiated risk return profile for our shareholders compared to sponsor only portfolios. Quarter end, our weighted average asset level yield was 11.6 Our credit quality remains strong. At year end, the weighted average investment risk rating of our portfolio was under 2 based on our 1 to 4 risk rating scale with 1 representing the least amount of risk. Over 97% of the portfolio is rated a 2 or higher and 99.4% of the portfolio on a cost basis was performing with only 1 in a non accrual.

Speaker 3

Now let me turn to our 4 investment verticals. In our sponsor finance business, we originate 1st lien senior secured loans to upper mid market companies in non cyclical industries such as healthcare services, business services and financial services, which we believe has helped to mitigate the impact on our portfolio from cyclical economic factors. At year end, this portfolio was approximately $730,000,000 including the senior secured loans in the SSLP attributable to our company. We were invested across 50 distinct borrowers. With approximately 99% of the cash flow portfolio in 1st lien loans, we believe that these investments are well positioned to withstand liquidity pressures borrowers may be facing in light of higher interest rates.

Speaker 3

Additionally, we believe we have a defensively positioned portfolio. Our borrowers have a weighted average EBITDA of only $120,000,000 low LTVs of 40% and interest coverage ratios averaging 1.7x. Our portfolio is comprised of businesses that perform essential services with either recurring or reoccurring revenues and generally have low capital intensity. Overall, our portfolio has exhibited solid credit metrics that have remained steady in 2023. During the quarter, we originated $107,000,000 of cash flow loans and experienced repayments of $185,000,000 Our 4th quarter investments, all of which were first lien, have an average yield to expected maturity of 12 0.6% and average leverage through our investment of 4.8 times with interest coverage of 1.7 times.

Speaker 3

We believe these metrics support our thesis that 2023 should be a great vintage for sponsor finance investments. Importantly, this portfolio carries less leverage than the historical average for new issues. Michael mentioned, sponsor finance deal flow continues to be muted due to lower M and A volume. However, there are pockets, particularly in our defensive sectors, where we do see opportunities to make loans at attractive risk adjusted returns. At quarter end, the weighted average yield across the portfolio was 12%.

Speaker 3

Now let me turn to our ABL segment.

Speaker 4

In the

Speaker 3

wake of the U. S. Regional banking crisis last year, the opportunity set for all of our ABL businesses improved. As lending standards tightened at commercial banks, we saw an increase in deal flow. As a result, we were able to originate several new attractive investments.

Speaker 3

As new entrants with less experience have entered the space, we remain committed to our high underwriting standards in which we focus on the quality of the underlying collateral base when determining acceptable advance and loan to value ratios. We believe that not adhering to this discipline may result in losses in the ABL asset class. The increase in deal volume is enabling us to remain active while being extremely selective. At year end, the senior secured ABL portfolio totaled just under $1,000,000,000 representing 31.5 percent of our comprehensive portfolio 31.5% of our comprehensive portfolio and it was invested across 160 borrowers. Weighted average asset level yield was 14.5% and the average LTV was approximately 60%.

Speaker 3

For the Q4, we had $150,000,000 of new ABL investments and repayments of $166,000,000 Now let me touch on equipment finance. At year end, this portfolio totaled $1,000,000,000 representing 32% of our comprehensive portfolio and was highly diversified across 550 borrowers. Credit profile continues to be strong. The weighted average asset level yield was just over 8%. During the Q4, we originated approximately $154,000,000 of new equipment loans and had repayments of $106,000,000 Our investment pipeline has expanded in conjunction with the disruption caused by the regional bank failures.

Speaker 3

Finally, let me touch on Life Sciences. At year end, our portfolio was $350,000,000 at fair value. Approximately 80% of the portfolio at par is invested in loans to borrowers that have over 12 months of cash runway. Additionally, all of our portfolio companies are generating revenues with at least one product in the commercialization stage, which significantly de risks our investment exposure. Life Science loans represented 11.6% of our portfolio at year end and contributed just under 22 percent of our gross income for the quarter.

Speaker 3

During the Q4, the team committed to $16,000,000 of new investments and funded $38,000,000 of new investments, while having repayments of $6,000,000 We have just under $20,000,000 of unfunded life levels. At year end, the weighted average yield on this portfolio was 13%. This excludes any success fees or warrants. While we expect valuations in the Life Science segment to stabilize this year, we continue to see several new lending opportunities that we will meet that will meet our underwriting criteria. Given our ability to allocate our capital to the best risk reward opportunities, we have the luxury of being highly selective in our capable deployment in life sciences, while yet still generating company overall.

Speaker 3

Now let me turn the call back to Michael.

Speaker 1

Thank you, Bruce. In conclusion, our portfolio reflects stable fundamentals and benefits from the flexibility to allocate capital to investments across our different lending verticals that we believe offer the most attractive risk adjusted returns for our shareholders. Based on last night's closing price, SLRC trades at an 11% yield, which we believe presents an attractive investment opportunity. We have available capital and an opportunity for continued earnings growth. While the current market expectations are for rates to stay higher for longer, it's important to remember that specialty finance spreads and returns are not as volatile as cash flow on to finance investments.

Speaker 1

As a result, we would not expect yield contraction for specialty finance assets to the same extent as sponsored finance when interest rates begin to move lower. Looking forward, we expect origination opportunities to be driven by a combination of an increased activity, loan maturities and regulatory credit contraction forces impacting regional banks to the benefit of direct lenders such as ourselves. In addition, we continue to seek opportunities to expand our specialty finance capabilities through tuck in acquisitions for existing commercial finance portfolio companies, portfolio team acquisitions or acquisitions of specialty finance portfolios. PLRC's broad foundation of diversified commercial finance businesses has the resources and experience to acquire portfolios and to service the loans on an opportunistic basis. We continue to believe that a diversified portfolio approach across sponsor and commercial finance assets is the most effective strategy to generate income and manage risk across economic cycles.

Speaker 1

In closing, our investment advisers' alignment of interest with the company's shareholders continues to be one of our guiding principles. The SLR team owns over 8% of the company's stock including a significant percentage of their annual incentive compensation invested in SLRC stock. The team's investment alongside fellow shareholders demonstrates our confidence in the company's defensive portfolio, stable funding and favorable position. We appreciate your time today. Operator, will you please open up the line for questions?

Operator

Our first question comes from Mickey Schleien with Ladenburg.

Speaker 5

Yes. Good morning, Bruce and Michael. I want to start off by asking you about other income reported for the quarter. Could you give us a sense of what underlies that amount, which was relatively high in comparison to your previous quarters?

Speaker 2

I think the major driver there, we had a chunky exit fee in our life science business this quarter. Those fees sporadic throughout the year. And so that was the major driver in Q4 versus the prior quarter.

Speaker 3

And as you know Mickey, sometimes we will get the exit fee as a success fee or warrant that comes in a detachable form subsequent to repayment. So this was actually a life science loan that paid off earlier in the year, but then hit a milestone that triggered a success fee for us in the Q4.

Speaker 5

Very nice. Congratulations on that. Wanted to also ask about the sponsored finance cash flow segment, see that that portfolio shrank during the quarter. Can you give me a sense of to what extent the normalization of the broadly syndicated loan market and potential prepayment activity in Sponsored Finance drove that contraction?

Speaker 3

Yes. So, great question. More broadly, as you see across the year, there was growth. So I don't want to focus too much on 1 quarter, but I do think it brings up a bigger issue, which is we are beginning to see some pressure where a lot of capital, as you know, has been raised in the cash flow market. It starts at the upper, upper market, kind of above where we play, I'll call it the $400,000,000 $500,000,000 EBITDA business competing with a broadly syndicated loan business.

Speaker 3

You start to see a fair amount of capital come in and start to put pressure in terms of borrowers asking for repricing to take their cost of capital down. It's creeping a little bit into where we are playing in the call it $100,000,000 to $200,000,000 EBITDA businesses and we are opportunistically using that as a chance to exit because again we have seen very attractive opportunities to deploy. You see the originations are still strong, but we also have opportunities, as you know, in our other verticals where we will recycle capital at higher returns. So it's not so much a lot of sales across portfolio companies, but it's more pricings where certain lenders are opting to stay and we're opting to exit. And I think that trend will continue as we've seen in the early part of 2024.

Speaker 3

But I think importantly because less than a quarter of portfolio is in kind of that sector,

Speaker 1

the other 75% of our business in the specialty finance are not really driven by the technical factors of the financing markets. To your point, Mickey, as capital returns into the liquid market, I think in general, finance portfolios are at risk of being repriced or letting them go, whereas that's just not the case in specialty finance. You don't have the ebbs and flows of capital into the space that drives pricing and returns.

Speaker 5

I understand. That's helpful. My last question relates to your internal investment ratings. I see there was both migration up to ones, but there was also migration down to level 34. Any color you can provide on the downward migration?

Speaker 3

Yes, I don't think there was much movement on 4. There was a movement into 3, and that was one investment. And what I would say, Mickey, is we are fortunate that our watch list is made up of names that are fundamentally performing and strong operations in terms of revenue and EBITDA capital structure. But that was literally just one specific name. I think if we were to rate it today rather than at twelvethirty one.

Speaker 3

It probably would not be on watch list, which I hope will be the case going forward. But we're comforted that our fundamentals are strong and we're just addressing some balance sheet issues here and there.

Speaker 5

Okay. That's helpful. That's it for me this morning. Thank you.

Speaker 1

Thank you. Thank you, Maggie.

Operator

The next question comes from Eric Zwick with Hovde Group.

Speaker 6

Good morning, Eric. Good morning, everyone. Wanted to start first, we've got $125,000,000 of notes maturing later this year in December. I'm just curious about your thoughts for the source of funding to redeem those. And Shiraz, maybe you kind of alluded to that in some of your comments indicating that you might opportunistically kind of tap the investment grade market.

Speaker 6

But yes, just kind of curious your thoughts on funding the redemption of those loans?

Speaker 3

Yes. So as you know, that's our first redemption in quite some time. We're very fortunate to have some good luck that we haven't had to go to the market during this rising rate environment over the last couple of years. We have, as Shiraz mentioned, increased our lender universe. So we have capital such that we don't need to refinance this in the unsecured market in December when the maturity comes up, but we are going to be opportunistic throughout this year to look to term that out.

Speaker 1

And I think importantly, given the size of that maturity, it allows us to really pursue multiple options to be nimble and see the best opportunities. We've had a very strong following, in the insurance company private marketplace, and we've had a lot of success in doing kind of bespoke financings at the right time. So we feel very comfortable about the situation. Yes. We've had

Speaker 3

a lot of inbound inquiries. There's been a fair amount of activity in the IG market year to date. So for us, it's a matter of when, not if.

Speaker 6

That's helpful. Thank you. And then you previously mentioned that leverage would decline as the SLP ramps and that has been the case over the past few quarters. The leverage has come down and I think you've still got room to increase SLP even more so. Should we continue to expect leverage to come down closer to the middle of the range over the next few quarters?

Speaker 3

Yes. I think it will as Shiraz mentioned, it will move between $1,100,000 and the $1,200,000 What we are doing, as you know, is moving which we are substantially complete with moving lower yielding assets that we acquired with the merger with SUNS back in 2022 into the SSLP, which frees up balance sheet at the parent company to invest in some of these very attractive vintages across our four strategies. But we're comfortable given the vintage and the quality of the assets to operate between the 1 and the 1 and the 1 and 2 at this stage the cycle.

Speaker 6

And then last one for me. You spent a fair amount of time in the prepared remarks talking about the opportunities that have been created in multiple of your kind of lending platforms from the turbulence in the regional bank market. I know this is a little bit hard to kind of maybe answer or have a strong opinion about, but just curious what type of sight line you have and how long does that opportunity last at this point?

Speaker 3

I guess it's we don't put it this way. At the moment, we don't we think it's going to continue to operate existed throughout this year. I don't really based on our conversations, we're not hearing a lot of dialogue from banks looking to come back in. It's more about shedding portfolios and teams. And so it will really, we think, be a great opportunity for direct lenders, private credit providers such as SLR to step in there if you have these capabilities.

Speaker 3

And very often it's a portfolio, so you really need to have the team to be able to acquire that portfolio, underwrite the portfolio and manage that portfolio. So these are not always standalone businesses. They're assets for sale and we think those are very attractive opportunities. But I will say in the past, when we have lost individual investments across some of our specialty finance businesses, including Life Sciences, where the SVB was a dominant player, it was typically by several 100 basis points to a regional bank. And so we're just feeling that the lack of that competition is also helping us in our day to day business.

Speaker 6

Thanks for taking my questions today.

Operator

The next question comes from Bryce Roe with B. Riley.

Speaker 7

Thanks. Good morning.

Speaker 1

Good morning. Good morning.

Speaker 7

I wanted to maybe follow-up on some of Eric's questioning there around the environment that is providing some opportunities from within the banking space. Maybe Bruce, can you talk a little bit about how widespread the maybe the pullback is within that space? And then from a geographic perspective, how well suited the SLR platform is to take

Speaker 3

that is a great question. Because to your point, it is a very regional business. We think that provides the opportunity and to some extent a barrier for other entrants. It is a difficult some of these lines of business are very difficult to grow organically other than on the margin and having the opportunity to step into Nugent's because you do need feet on the street. As you know, we have 19 offices around the country.

Speaker 3

Most of them are dedicated to our specialty finance businesses, both sourcing teams as well as underwriting teams, as well as management teams. I think what many people don't appreciate is that these are asset management heavy of the loans. Once you make the loan, you're monitoring the collateral so that you're And so you need a big investment in people and to your point does need to be regional. And so we are not seeing the dislocation in any specific region, but thankfully for us, we are finding opportunities in regions we don't cover or industries we don't cover. There are industry dedicated platforms that may just do factoring for the trucking sector.

Speaker 3

There are Canada based companies, Midwest based companies. We have a nice presence in Minneapolis and Salt Lake City, on the East Coast and the Southeast, but there are definitely pockets where we would like to have more penetration. And so this location feels to be widespread. And I think that we're in the early days of participants making decisions about whether they want to exit, whether they want to JV. We've had approaches to JV with people who want to still have attachment and touch points with those customers, with those can partner with somebody like an SLR, where we take on the assets and they maintain the relationship, the cash management and many of the treasury and fee based businesses that are so lucrative for the bank.

Speaker 3

So the banks are taking a very strategic approach and it varies across individual institutions rather than regions, but we're open to regions in the states.

Speaker 7

That's great color. Appreciate it. And let's see, maybe just shifting gears a little bit. There's a lot of talk about which way rates are going to move and when. Wanted to get a sense for your portfolio or your balance sheet's asset sensitivity to lower rates.

Speaker 7

How should we be thinking about different rate scenarios over the next quarter or 2? Thanks.

Speaker 3

I'll kick it off for a second. To some extent, we benefit with rates staying elevated because we do have very defensive portfolio. And as Michael mentioned, only 24% of it exposed to cash flow lending rather than more asset oriented strategies where you do have more cushion during higher rate environments and more control over the investment because you have not only covenants but borrowing bases. So selfishly speaking, we do benefit by having elevated rates longer. I think it also keeps more competitors on the sidelines as they deal with some stress in portfolios that people are starting to see just in terms of covering this debt service on top of having inflationary pressures across their operating performance.

Speaker 3

So to some extent, we benefit. But as Michael touched on, we also benefit, we think, in a declining rate environment just because many of these asset classes are more absolute return products that are less sensitive to both increase and decrease in interest rates. So we feel like the stability of our earnings is better than it would be had we just been a 100% cash flow portfolio.

Speaker 1

We also have a chunk of our portfolio in the equipment leasing sector that is fixed rate. So we're putting on assets at higher yields today and those won't go down when rates go down.

Speaker 7

That's great.

Speaker 1

Thank you.

Operator

Our next question comes from Robert Dodd with Raymond James.

Speaker 4

Hi, guys. Congratulations on the quarter. A couple of questions. On the kind of cash flow lending book, I mean, as you said, repricing is starting to creep in. A lot of your cash flow book as it stands today was the 2023 vintage, which slightly higher spreads, lower leverage, really attractive vintage.

Speaker 4

But what's what risk do you consider that those assets, are they going to be sticky, right? Or are those at better leverage, better spreads? Are those the ones that are going to get refinanced relatively quickly if the market activity more broadly accelerates this year?

Speaker 3

So I would say that there is a component of our cash flow book, Robert, that is extremely acquisitive in financial services, in healthcare. And those sponsors are very focused in this environment on making additional tuck in acquisitions. I think if they were done with their acquisition program, they might turn to optimizing of the financing. But right now, they're more focused on availability of financing. They may have a $1,000,000,000 credit facility and need another $200,000,000 to make an add on acquisition.

Speaker 3

And so they're coming to people like us, who can take down that $200,000,000 add on and less focused on saving the 25 basis points. But I think as that portfolio matures and the sponsors are getting ready to exit the portfolio company, then you might see them turn more towards repricing. So I don't think it's going to be a major headwind for us just because the businesses are still in growth mode. But once you get into more of a harvesting mode, they will be back around looking to reprice. No doubt about it.

Speaker 3

The other factor is relevant also is that the biggest source of repricing today is investment banks being back into syndicate loan market

Speaker 1

and being able to distribute those loans. The average EBITDA of our portfolio is 122. Those aren't on average, the big ones are, but those are not candidates for refinancings in the BSL market. So I think the people who are truly at risk for immediate repricing are you have average EBITDA of $300,000,000 where $1,200,000,000 $2,500,000,000 $4 to 5 times financing is extremely doable in today's public market. The public markets never really did the $120,000,000 EBITDA company.

Speaker 1

And so I think the risk of the repricing of our portfolio is far less than those in the bigger credits. Yes. To Mike's point, the 1 or 2 names that have put in

Speaker 3

and asked in the last week or so are larger 300 $1,000,000 EBITDA type names.

Speaker 4

Got it. Got it. Thank you. Very clear. On the other question, I mean, on the comprehensive portfolio, ABL is about a third, equipment financing is about a third.

Speaker 4

To your point, right, there's opportunities for the EV acquisitions JVs on the asset based side, maybe acquisitions on the fragmented equipment financing side. I mean, where are you comfortable in the mix? I mean, would you be comfortable with having equipment financing at 50% of the comprehensive portfolio? I mean, do you like diversification by the specialty finance vertical? So where would you be comfortable?

Speaker 3

Yes. And look, the equipment finance portfolio is one of the most diverse portfolios

Speaker 1

across

Speaker 3

the platform. So to your point that is comforting. But I think that we've always said when we've been blessed that we haven't had to work with a finite capital pool base. We've always seemed to get repays at the time that we see a nice investment opportunity across different verticals. But we've always felt that at 15%, 16% Life Sciences, with 0 losses in the team's it's a pretty compelling asset class, but it's not unlimited in terms of its need for capital.

Speaker 3

So we try to take advantage of life science as much as possible. I think asset based lending, where you're lending against working capital assets receivables inventory is another segment that we is incredibly scalable, to your point, similar to equipment finance. And obviously, we have the investment across 3 different ABL teams here. So we think we're well positioned there. So I think the short answer is, as you know, with us, sponsor finance will ebb and flow between 15% 30% based on where we see the market opportunity.

Speaker 3

But I think asset based lending and life sciences, we'd like to scale up as well as equipment. But I think we see in the near term a little bit more growth in ABL and hopefully Life Sciences. Equipment Finance, to Michael's point, because it is a fixed rate asset, we need rates to come down a little bit more. But we are positioned for growth as we look out at 2024 having just sat down with the team and gone through the business plan there. There are some strategies where we're going to take that up, but I think it might be even more accelerated growth on the ABL side.

Speaker 4

Got it. Thank you.

Operator

It appears we have no further questions at this time. I will now turn the program back over to Michael Gross for any additional or closing remarks.

Speaker 1

Thank you all for your time this morning. No additional closing remarks, but as always, we are here and available if anybody has any follow-up questions. Thank you.

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Earnings Conference Call
SLR Investment Q4 2023
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