Good day, and thank you for standing by. Welcome to the Carlyle Secured Lending Second Quarter 2022 Earnings Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Daniel Hahn. You may begin.
Good morning, and welcome to Carlyle Secured Lending Second Quarter 2022 Earnings Call. Last night, we issued a press release and earnings presentation outlining our quarterly results, both of which are available on the investor relations section on our website.
Following our remarks today, we will hold a question-and-answer session for analysts and institutional investors. This call is being webcast, and a replay will be available on our website. Any forward-looking statements made today do not guarantee future performance, and any undue reliance should not be placed on them.
These statements are based on current management expectations and involve inherent risks and uncertainties, including those identified in the Risk Factors section of our annual report on Form 10-K, that could cause actual results to differ materially from those indicated. Carlyle Secured Lending assumes no obligation to update any forward-looking statements at any time. With that, I'll turn the call over to our Chief Executive Officer, Linda Pace.
Thank you, Dan. Good morning, everyone, and thank you all for joining us to discuss another strong quarter's performance. With me on the call today is our President and Chief Investment Officer, Taylor Boswell, and our Chief Financial Officer, Tom Hennigan. Before we begin, I'd like to highlight a few key themes that you will hear from us throughout today's call.
First, we remain committed to our goal of delivering sustainable income by constructing a diversified portfolio of senior secured floating rate loans to high-quality sponsors and borrowers. Second, we are pleased to announce the increase of our base dividend rate starting in the third quarter.
Third, we are well-positioned to continue increasing our base dividend over the coming quarters. Turning now to my usual quarterly remarks, I'll focus on three topics. I'll start with an overview of our second quarter financial results.
Next, I'll touch on our credit performance and investment activity. Finally, I'll conclude with a few thoughts on how we are approaching the current investment environment. We generated solid net investment income of $0.40 per share, despite our LIBOR floors limiting the earnings benefit from higher base rates during the quarter.
We declared total third quarter dividends of $0.40 per share, consisting of our newly increased $0.34 per share base dividend plus a $0.06 per share supplemental dividend. Our net asset value for the second quarter was $16.81 per share, approximately 1.8% lower than the prior quarter's NAV.
This decline was almost entirely driven by the impact of widening market yields. Importantly, our NAV remains 1.5% above our pre-COVID NAV in Q4 2019, reflecting strong through-cycle performance.
We repurchased an additional $7 million of our common stock during the quarter, resulting in $0.03 of accretion to our net asset value per share. Once again, we were active repurchasers of our stock during the quarter based on its valuation and the attractiveness of the returns for our shareholders. In total, we have repurchased over 10 million shares or 17% of our float since the commencement of our share repurchase program.
The board of directors approved a $50 million increase to the program and extended it through November 2023. This stock repurchase program represents just one aspect of our firm and continued commitment to creating value for our shareholders. Turning now to the portfolio. We continue to see positive credit performance in our portfolio, especially in our watchlist names.
As Tom will discuss further, we expect to see a lower level of non-accruals in the third quarter. We funded $199 million of new investments in the second quarter, essentially all of which were in a first lien position. Total repayments and sales in the second quarter were $161 million. We ended the quarter with just under $1.9 billion of investments, roughly in line with the prior quarter.
Looking ahead, we feel very good about our positioning of the portfolio, our funded asset level, and leverage being at the lower end of our target range. This will allow us to selectively deploy capital into attractive opportunities in this favorable investment environment. With that, I'd like to hand the call over to our President, Taylor Boswell.
Thanks, Linda. It's been an eventful several months since our last quarterly call, and today I'll provide an update on two topics, the current deployment environment and how we assess the progression of fundamental credit performance against an evolving economic backdrop.
As for the current deployment environment, to put it simply, it is a highly attractive time to be a provider of capital. While private credit pricing and terms lagged liquid market signals early in the sell-off, June produced a sharp reset in favor of lenders. The market reset performed as it always has in private credit, reliably a little slow but reliably there. Today, pricing, leverage, and terms are all very lender-friendly.
At the same time, and perhaps more surprisingly, our pipelines remain robust, with continued transaction activity in non-cyclical sectors paired with a pronounced rotation of opportunities from dislocated liquid markets into healthier private credit markets. As such, it is not only an attractive environment for deal terms, but also one for credit selectivity.
Our strong balance sheet with leverage towards the lower end of our target range allows us to continue to invest through this market without taking elevated cyclical risk. We're confident this vintage of investments will position the portfolio well for sustained performance in future periods.
Of course, the bulk of our attention today should focus on the existing portfolio and how we see credit performance progressing in the coming quarters. Allow me to reiterate our message from last quarter. We have transitioned from one way economic and liquidity conditions to a far more complex credit environment.
That complexity principally stems from several well-known dynamics. First, as described on our last call, is the broad-based rising operating costs and resulting price increases that our borrowers produced by this inflationary environment.
We have previously said the net impact of these factors will require several quarters to fully flow through their results, and that remains the case. Of course, this does not mean we are merely passive observers. Rather, we are fully engaged on the topic with various interim signposts on which to report.
That report for certain says, "Not every borrower is recovering every dollar of increased costs." As we assess this dynamic today, the aggregate data across our portfolio remains supportive of the continued performance for our senior secured credit investments.
Second, while aggregate demand has remained strong in recent quarters, we are seeing signs of sharp rotations in the nature of demand in certain sectors as we exit COVID impacted periods, generally from goods into services. But, thankfully, our portfolio's current exposures position us to be net beneficiaries of this rotation.
We remain disciplined through the COVID upcycle, cautiously underwriting COVID bumps with a through cycle perspective that accounted for demand and/or margin retrenchment. Meanwhile, we're seeing increases in demand for some of our borrowers, most notably Direct Travel, which should accrue to the benefit of our shareholders over time.
We currently feel well-positioned against this dynamic. Third, borrower liquidity. Of course, our floating rate loans mean rising rates are beneficial to returns, but they also mean our borrowers must come up with more cash to service their debt.
Given the mechanics of interest payment, the full impact will begin to flow through to borrowers in the coming quarters. To frame the risk, for the average borrower to fall to free cash flow neutral, we would require approximately a sustained 6% SOFR environment, nearly double current expectations.
In addition, our portfolio is currently in a strong liquidity position, with revolver draws standing under 20%, well below the peak usage of over 60% during the COVID crisis. With this setup, we feel our portfolio has significant cushion to absorb increasing interest rates or other unexpected liquidity draws which may arise. Add it all up, and companies are certainly facing more challenges than they have since the depths of the COVID crisis.
In response, as these high quality businesses pass through this moment of significant macroeconomic transition, we are seeing appropriate efforts and strong support from both management teams and owners across our portfolio. Our current assessment of these dynamics is that they are creating a choppier environment for fundamental corporate performance.
On the whole, they are not creating broad-based issues for senior credit performance. Finally, a quick note on general recessionary risks. Our strategy and our portfolio have always been and continue to be built with a through cycle perspective.
We understand that each loan could be outstanding for five, six, or seven years. Periods of time long enough to be surprised many times over by changes in any of the macroeconomic, market, industry, or company prospects. That's why we stay senior in the capital structure of high quality businesses.
That's why we build portfolios with far less cyclicality than traditional fixed income markets. That's why we lend to borrowers of scale that can withstand surprises. That's why we invest with top quality owners who support their businesses in the event of those surprises.
That's why we run highly diversified portfolios by industry and borrower. This discipline, deployed over the course of years, allows us to feel confidently positioned to perform through cycle on an absolute and relative basis, including in a recessionary environment should one emerge. With that, I'd like to turn the call over to Tom.
Thank you, Taylor. Today, I'll begin with a review of our second quarter earnings that'll provide further detail on our balance sheet positioning and conclude with a discussion of our portfolio performance. As Linda previewed, we had another strong quarter on the earnings front. Total investment income for the second quarter was $45 million, down from $48 million in the prior quarter.
Importantly, core investment income was actually up $1 million, driven by both higher outstanding investment balance and the benefit of rising benchmark rates. Total expenses increased modestly in the quarter from $23 million to $24 million, as higher interest expense was partially offset by lower incentive fees.
The result was net investment income for the second quarter of $21 million or $0.40 per common share. That's in line with our core earnings over the last few quarters and exceeds the guidance we provided on last quarter's call.
A reminder, the second quarter was expected to be a low point for our earnings as we lost the impact of LIBOR floors. On August 8, our board of directors declared the dividends for the third quarter of 2022 at a total level of $0.40 per share. That's comprised of our new $0.34 base dividend, up from the prior level of $0.32, plus a $0.06 supplemental, which is payable to shareholders of record as of the close of business on September 30.
In terms of the forward outlook for earnings based on the combination of lower non-accruals, attractive economics on new investments and higher benchmark rates, we see a near-term path to materially grow earnings in coming quarters. We expect third quarter results to benefit from an improvement in non-accruals, specifically Durham Growth.
This should contribute at least $0.01 of incremental earnings per share each quarter. As a note on prior calls, for every 33 basis points of additional increase in LIBOR or SOFR, we'll experience a $0.01 increase in NII each quarter. All told, we see NII for the second half of the year in the $0.43 to $0.44 per share range, with a number of potential factors that would generate further upside.
To remain highly confident in our ability to comfortably meet and exceed the new $0.34 base dividend and continue to pay out sizable supplemental dividends each quarter. Based on this anticipated increase in earnings in the coming quarters, we intend to evaluate and consider incremental increases to the base dividend level each quarter. On valuations, our total aggregate realized and unrealized net loss was $17 million for the quarter.
Yes, this breaks our streak of eight consecutive quarters of positive NAV and valuation migration. This decline was almost entirely driven by the increase in market yields, not credit. In fact, our two watch list investments experienced a net positive of $7 million for the quarter, and our June 30 NAV remains 1.5% above the December 2019 level.
Next, I'll touch on our financing facilities and leverage. We continue to be very well positioned on the side of our balance sheet. Statutory leverage was about 1.3x , while net financial leverage ended the quarter up slightly at 1.05. We remain at the bottom end of our target leverage range, which bodes well given the attractive yields and terms available for new investments in the current market.
During the quarter, we also had positive developments related to our financing lines at the BDC and JV level. In conjunction with closing the regular annual extension on our revolving facility, we're successfully reducing the interest spread from 2.25 to 1.875. We also closed extensions for the core credit facilities at each JV, positioning those vehicles for continued stable earnings generation.
I'll finish with a review of the portfolio and related activity. We continue to see overall stability and credit quality across the book and improvement in positions historically with credit issues. The total fair value of transactions risk rated three-five, indicating some level of downgrades since we made the investment, was roughly flat on the quarter. Total non-accruals increased modestly to 4% based on fair value, but this was due to higher valuations on both Durham Growth and Direct Travel.
Important to highlight, there were no new non-accruals during the quarter. We're also very pleased to report that Durham Growth will be placed back on partial accrual status effective July 1. That should reduce net non-accruals from 4% to under 3% and also contribute about $0.01 to quarterly NII.
This leaves Direct Travel as our largest non-accrual position. That borrower continues to move in the right direction, recovering from the pandemic-driven decline in air travel, leaving more potential positive news in the near term on the non-accrual front. With that, back to Linda for some closing remarks.
Thanks, Tom. Before opening it up for your questions, I'll say again, we feel very good about our prospects for Carlyle Secured Lending. With the combination of lower net non-accruals, a favorable investment environment, and earnings upside from rising base rates, we expect to meaningfully grow our earnings and dividends over the coming quarters.
Thank you all for joining us today, and we hope you and your families all enjoy the remaining weeks of summer. I'd like to now hand the call over to the operator to take your questions.
Thank you. At this time, I would like to remind everyone, in order to ask a question, press star one on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. Your first question comes from Finian O'Shea from Wells Fargo Securities. Please go ahead.
Hi, everyone. Good morning. A couple on Durham Growth, which looks like it had some positive developments there. Can you expand on how the partial accrual works? Does the limitation there have to do more with its overall valuation or the income it's producing? Then sort of how do you weigh this against, say, paying down the principal with those proceeds as its income presumably improves?
Hey, Finn, good morning. It's Tom. I'm a little bit guarded in what I can say about that situation because it's still developing, and I would say that this is phase I of multiple phases in resolving that credit. We had a favorable amendment, and based on that amendment, we're comfortable with part of that tranche, part of that loan being cash pay.
Therefore, that will be on accrual status. Then we anticipate as the company continues to perform, not there yet, but in the future, potentially, full recovery on that loan. Again, that's not today what we're seeing in the numbers, but in the future, and that's why we're comfortable with the current status.
There's a partial accrual and then in the future, in anticipation as the earnings continue to grow, the potential for full recovery of that loan and full accrual status.
Okay. That's helpful. Appreciate that and the limitations of discussion on an individual name. Can you talk a bit more about the base dividend you as you outlined in your presentation that this may see more upside, just sort of any context there. You still earn well above that amount, but does this mean maybe a higher payout or you're still under earning because of your leverage profile or however we should think about that?
Yes. You know what? It's as we've been saying for the last almost eight quarters that from the time when we set the $0.32 base, that we always felt very comfortable that we were gonna meet and exceed that level. Now we have. We were very comfortable earning that $0.38 to $0.40 over the last number of quarters.
Now, as we look at our forward earnings, really three drivers that we feel quite comfortable that we're gonna be able to exceed that $0.38 to $0.40. Number one, non-accruals, number two, more favorable spreads in the investment environment, and then number three, out of our control, we don't wanna put too much stock in, but rising benchmark rates.
Certainly can reverse, but right now, you know, the crystal ball says that those have obviously headed up and they're gonna be headed up higher. You put those three together, and as we noted, we feel comfortable with a $0.43 to $0.44 of set of third quarter and future earnings based on where we see those three dynamics right now.
With that, we're comfortable, very comfortable with $0.34 base, and we'll continue to evaluate each quarter incremental increases to that number.
Okay, great. All from me. Thanks so much.
Again, if you'd like to ask a question, press star one on your telephone keypad. Your next question comes from Melissa Wedel from JP Morgan. Please go ahead.
Good morning. Thanks for taking my questions today. I just wanted to clarify. It looks like with the upsizing of the repurchase authorization, that would leave about $60 million of capacity available in total through November 2023. Is that right?
Melissa, that's right.
Yes. Yep.
Okay. Appreciate that. Just thinking about your comments about the attractiveness of the investment environment, the operating at the lower end of your leverage target range. Sounds like it's fair to say we should expect a more rapid pace of capital deployment into the back half, even aside from the normal December quarter seasonality.
I guess one, is that fair to assume? Two, that's on the deployment side in terms of repayments, is there anything that you're anticipating or aware of that we should be thinking about?
Yeah. Hi, Melissa, it's Linda. Thanks for the question. I do think you're spot on. We're seeing you know good investment opportunities and ones where we can be really selective and employ the you know all the resources that Carlyle brings to bear to take advantage of some you know kind of unusual market opportunities that we're seeing given the you know given the limited capital being deployed in the in the liquid you know loan and bond markets.
Seeing things that we're pretty excited about and will be nicely accretive to our portfolio. You should expect you know for us to have a pretty nice you know robust investment number coming into the third quarter. Hard to look out too much past that, quite frankly.
Things seem to be moving pretty quickly. Repayments have slowed. We're cognizant of that as well. You know, we have capacity to add to our portfolio when we see, you know, really nice opportunities.
This is a great environment for us to put money to work, albeit selectively, given all of the, you know, macroeconomic challenges that are out there these days. Tom, do you wanna give her a little bit more specifics around that?
Yeah. I would echo what you said, Linda. Definitely repayments, tough to forecast but lower. Like I said, we're surprised to see it's still very robust deal environment, but we're being highly selective. It's those deals that were that same deal that was priced L + 550 six months ago or even three months ago perhaps is now L + 650 with instead of a 98 OID, it's a 97 OID.
Terms are tighter in terms of legal documentation. From that perspective, we're being selective but certainly seeing reasonably positive move in terms for new deals.
Yeah. The middle market private credit market took a while to catch up to where yields were going in the liquid markets. Over the recent 30, 60 days, we've really started to see that move in a lender friendly way.
As Tom said, yields are increasing and not just because of the increase in the base rates, but the actual spreads are increasing and we finally are getting some better terms. I think kind of going back to types of terms in the credit agreements that we really wanna see. From that's one of the main reasons we think it's an attractive environment to put money to work.
I appreciate that context. It's really helpful. I guess one last question for me, if I could. I think what you're saying is very much echoing the sentiment that we've heard from a lot of other management teams about the relative attractiveness of the environment.
How do you weigh the opportunity set against, sort of where the uncertainty of the environment? Does that impact your thinking about where you want to operate portfolio leverage within your target range? Thank you.
I'll start and then Tom, you know, can jump in. I think, yeah, that is the balance we really need to, you know, think about and strike. It's, you know, we like a lot of the deals that we're seeing, but we also don't like a lot of the deals that we're seeing.
When you think about our, you know, funnel of deal flow, our hit rate is still kind of, you know, we close 3% to 4% of all the deals that we see. I think that's the right approach because, you know, as we look at, you know, the new deals that are coming in the pipeline and we look at our own portfolio, we're still in, you know, discovery mode, right?
In how companies are gonna perform, how they're going to be able to pass along the increased costs. You know, the top line seems to be pretty good and, you know, that's echoed everywhere, right? That's echoed in the stock market, you know, the Fortune 500, the syndicated market. Second quarter looked pretty good, but third quarter is obviously gonna have more uncertainty.
We wanna, you know, be kinda. You know, we're optimistic about the environment, but we're also cautious. Cautiously optimistic, to use that phrase, I guess is appropriate. You know, we're, as it plays into where we think about leveraging in the portfolio, we'd be comfortable taking it up moderately, but you shouldn't expect us to go back to the top end of our leverage.
You know, there's just, I think, too much macroeconomic volatility and uncertainty out there. You know, we don't want to, you know, be caught in an over-leveraged situation if, you know, things start going the wrong way fundamentally.
I think we have room to move it up a bit, which obviously, you know, we'll do as we see opportunities to make good investments in the portfolio. You know, you won't see a drastic uptick in leverage from us. Tom, Fair?
Got it.
Yeah, I agree. Two points I'll add is that we're still trying to be balanced with our approach. It's an attractive market, but instead of a 2% position, we may make a 1% position. We're also focused on borrowers we know and like.
If I look at our current pipeline, there are four different transactions that we're working on that we're gonna be closing that are existing portfolio companies in our BDC or existing portfolio companies that Carlyle has invested in and knows well from long history with those businesses. It's investing in areas we know and in businesses we know and like.
Got it. Thanks.
There are no further questions at this time. I will turn the call back over to the presenters for closing remarks.
Great. Well, thank you all for joining today, and appreciate your questions. If there's anything further, you know how to reach us. Apologies that you didn't hear from Taylor on the Q&A. He had some technical difficulties. Obviously, you know, if there's any specific questions for him, we'll get him back on to you. Have a great rest of your summer and look forward to talking to you next quarter.
This concludes today's conference call. You may now disconnect.