Good day, and welcome to the Fidus second quarter 2022 earnings call. Today's call is being recorded. I would now like to turn the conference over to Jody Burfening. Please go ahead.
Thank you, Lisa, and good morning, everyone, and thank you for joining us for Fidus Investment Corporation's second quarter 2022 earnings conference call. With me this morning are Ed Ross, Fidus Investment Corporation's Chairman and Chief Executive Officer, and Shelby Sherard, Chief Financial Officer. Fidus Investment Corporation issued a press release yesterday afternoon with the details of the company's quarterly financial results. A copy of the press release is available on the investor relations page of the company's website at fidusinvestment.com. I'd also like to call your attention to the customary safe harbor disclosure regarding forward-looking information included on today's call. Conference call today will contain forward-looking statements, including statements regarding the goals, strategies, beliefs, future potential operating results, and cash flows of Fidus Investment Corporation.
Although management believes these statements are reasonable based on estimates, assumptions, and projections as of today, August 5th, 2022 , these statements are not guarantees of future performance. Time-sensitive information may no longer be accurate at the time of any telephonic or webcast replay. Actual results may differ materially as a result of risks, uncertainties and other factors, including, but not limited to, the factors set forth in the Company's filings with the Securities and Exchange Commission. Fidus undertakes no obligation to update or revise any of these forward-looking statements. With that, I would now like to turn the call over to Ed Ross. Good morning, Ed Ross.
Good morning, Jody, and good morning, everyone. Welcome to our second quarter 2022 earnings conference call. On today's call, I'll start with a review of our second quarter performance in our portfolio at quarter end, and then offer you an update of our views on market conditions in the lower middle market. Shelby will cover the second quarter financial results and our liquidity position. After we have completed our prepared remarks, we'll be happy to take your questions. Our second quarter results demonstrates the merits of our strategy of investing in debt securities to generate recurring interest income and in equity securities for incremental profit and a margin of safety. We generated higher interest income from our debt portfolio this quarter, and a net realized gain of $18.2 million or $0.74 per share from monetizing a small portion of our equity portfolio.
By redeploying equity proceeds, we continued to build carefully and deliberately our debt portfolio, investing in high-quality companies that operate in industries that we know well, generate cash flow to service debt and support growth, and possess resilient business models and positive long-term outlooks. As a result of this proven investment strategy and philosophy of managing for the long term, our portfolio overall remains healthy, notwithstanding ongoing economic uncertainties and stresses. Adjusted Net Investment Income, which we define as net investment income, excluding any capital gain incentive fee attributable to realized and unrealized gains and losses, was $10.4 million, or $0.43 per share, essentially unchanged versus $10.4 million or $0.42 per share last year. NAV was $484 million or $19.80 per share.
For the second quarter, Fidus paid a base dividend of $0.36 per share and a supplemental dividend of $0.07 per share, equal to 100% of the surplus in adjusted NII over the base dividend from the first quarter. For the third quarter, the board of directors declared a base dividend of $0.36 per share and a supplemental dividend of $0.07 per share. The dividends will be payable on September 23, 2022 to stockholders of record as of September 9, 2022. In addition, the board of directors declared a base dividend of $0.36 per share and a supplemental dividend of at least $0.07 per share for the fourth quarter. The dividends will be payable on December 16, 2022 to stockholders of record as of December 2, 2022.
As a RIC, we are required to distribute at least 90% of our investment company taxable income, or ICTI. The declaration of a minimum Q4 dividend now is intended to satisfy the distribution requirement of our 2021 ICTI. We expect to have further information regarding incremental Q4 supplemental and/or special dividends at our next earnings call in early November. Originations for the quarter were solid, albeit not as strong as the first quarter, as we continued to redeploy equity proceeds into income-producing assets. Investments in new portfolio companies, however, were a bit weaker than expected as getting deals across the finish line is proving a bit harder in this environment. In total, we invested $45.7 million in debt and equity securities, including $19.5 million in two new portfolio companies that we announced as subsequent events on the first quarter call.
As a reminder, we invested $8.5 million in first lien debt and made a commitment up to $1 million of additional first lien debt in Choice Technology Solutions, LLC, doing business as Choice Merchant Solutions, LLC, a leading omni-channel global payments platform. We invested $11 million in second lien debt of Vertex Enterprises, Inc., a leading vertically integrated electronic manufacturing services provider. The remaining $26.2 million was primarily related to the new $15 million subordinated debt investment in Penergy, fundings under existing commitments and other add-on investments in portfolio companies. Almost all of the $45.7 million was invested in debt securities spread fairly evenly among first lien, second lien, and subordinated debt securities.
While we have been and remain focused on first lien debt investments, we will continue to opportunistically make second lien and subordinated debt investments as well. In terms of repayments and realizations, in the second quarter, we received proceeds totaling $44.8 million. As I mentioned on the first quarter call, some of our portfolio companies had initiated strategic alternative discussions. For this reason, monetization of equity investments accounted for about half of the total repayments and realizations this quarter, bringing the total equity proceeds for the first half of the year to $35 million and year-to-date net realized gains to $25.1 million. In terms of sales and exits, we received payment in full of $8.8 million, including a prepayment penalty on our first lien debt in Comply365, LLC.
We received payment in full of $11.6 million, including a prepayment penalty on our second lien debt in Argo Turboserve Corporation. We received a distribution of $2.4 million and realized a gain of $1.9 million related to the sale of TransGo, LLC. We received a distribution of $1.2 million and realized a gain of $0.8 million related to the sale of AVC Investors, LLC. We received proceeds of $0.8 million and realized a gain of $0.4 million related to the exit of our investment in CRS Solutions Holdings, LLC. We received proceeds of $18.3 million and realized a gain of $15.3 million related to the exit of our equity investment in Penergy Limited.
Subsequent to the end of the quarter, we invested and/or made commitments totaling $45.7 million, including in three new portfolio companies. We invested $7.8 million in first lien debt, $2 million in subordinated debt, and $1 million in common equity of AmeriWater LLC, a leading provider of water purification systems and aftermarket parts and consumables for healthcare and industrial applications. We made a commitment of $4.9 million in second lien debt of Magenta Buyer LLC, doing business as Trellix, a leading global cybersecurity company. We made a commitment of $20 million in first lien debt of BP Thrift Buyer LLC, doing business as myUnique and EcoThrift, an owner and operator of retail thrift stores. We also received $50.3 million in repayments and realizations, consisting of the following.
We received a distribution on our common equity investment and realized a gain of approximately $1.9 million related to the sale of Palisade Company LLC. We received a distribution on our common equity investment and realized a gain of approximately $3.2 million related to the sale of Bandon Fitness Texas Inc. We received payment in full of $4.5 million on our first lien debt in Bedford Precision Parts LLC. We received a distribution on our common equity investment in SES Investors LLC, doing business as SES Foam, and realized a gain of approximately $9 million. We received payment in full of $5.3 million, including a prepayment penalty on our first lien debt investment in Healthfuse LLC. We sold a portion of our equity investment in Fansteel Inc.
Realized a gain of approximately $24.3 million. In conjunction with the transaction, we invested $10 million in subordinated debt. Subsequent to quarter end, in total, we have received incremental proceeds from our equity investments of $40.4 million and realized net gains of approximately $38.4 million. The fair value of the portfolio at quarter end was $810.5 million, equal to 109.6% of cost. We ended the second quarter with 73 active portfolio companies and 12 companies that have sold their underlying operations. Overall, our portfolio remains healthy and well-structured to produce recurring income and through our equity investments to provide us with not only incremental profits, but also a reasonable margin of safety.
From a risk perspective, our focus on investing in companies that have resilient business models and defensive characteristics, including pricing power, is serving us well in the face of ongoing macroeconomic and geopolitical uncertainties and inflationary cost pressures. That doesn't mean all of our portfolio companies are immune from these dynamics. We experienced slight depreciation in our debt portfolios. Two of our portfolio companies are facing strong headwinds in the current environment. Spreads are also widening, and we placed Eblens or EBL LLC, a sneaker and apparel retailer focused on urban areas, on non-accrual. Non-accruals as of June 30th accounted for about 1% of our total portfolio on a fair value basis. As a result of the high level of equity monetizations during the quarter, the total portfolio mix on a fair value basis continued to shift in favor of debt investments.
As of June 30th, debt investments comprised 83% of the total portfolio, compared to about 80% as of March 31st, 2022, and about 77% as of December 31st, 2021. First lien debt as a percentage of debt investments was in line with the first quarter at around 66%. The yield on debt was also unchanged from the first quarter. Equity investments as a percentage of the total portfolio on a cost basis remains under 10% in line with our target allocation. Looking ahead to the second half of the year, from our perspective, the lower middle market should remain relatively active, much like the first half of the year, offering us opportunities to further redeploy equity proceeds into income producing assets and opportunities to invest in companies that are positioned to perform well in the current environment.
Although we do expect deals to take longer to close than last year in this uncertain environment. At the same time, our proven underwriting standards, disciplined investment selection, and focus on first lien debt and structuring investments with a high percentage of equity cushion keep us on track to generate attractive risk-adjusted returns over the long term and deliver value for our shareholders. Now I'll turn the call over to Shelby to provide some details on our financials and operating results. Shelby.
Thank you, Ed, and good morning, everyone. I'll review our second quarter results in more detail and close with comments on our liquidity position. Please note, I will be providing comparative commentary versus the prior quarter, Q1 2022. Total investment income was $21.2 million for the three months ended June 30th, a $0.6 million increase from Q1, primarily due to a $2.1 million increase in interest income, including PIK, offset by a $0.6 million decrease in fee income and a $0.9 million decrease in dividend income. The interest income increase was driven by an increase in average debt investment balances outstanding. Please recall that the majority of Q1 investments closed in March and therefore were more back-end weighted in the quarter.
Total expenses, including income tax provision, were $10.1 million for the first quarter, in line with Q1. The capital gains incentive fee accrual decreased by $0.9 million. Note the capital gain incentive fee is accrued for GAAP purposes, however, is only payable annually in arrears to the extent cumulative realized gains exceed realized losses and unrealized depreciation. Excluding the accrued capital gains incentive fee, total expenses in Q2 were approximately $0.8 million higher than Q1 due to a $0.2 million increase in interest expense, a $0.4 million increase in management and incentive fees, a $0.2 million increase in other G&A expenses primarily related to proxy solicitation for the annual shareholders meeting, and a $0.1 million increase in taxes, offset by a $0.2 million decrease in professional fees.
We ended the quarter with $395.8 million of debt outstanding, comprised of $128.5 million of SBA debentures, $250 million of unsecured notes, and $17.3 million of secured borrowings. Our debt to equity ratio as of June 30th was 0.8x or 0.6x statutory leverage, excluding exempt SBA debentures. The weighted average interest rate on our outstanding debt was 3.8% as of June 30th, 2022. Net investment income or NII for the three months ended June 30th was $0.45 per share versus $0.42 per share in Q1. Adjusted NII, which excludes any capital gains incentive fee accruals or reversals attributable to realized and unrealized gains and losses on investments, was $0.43 per share in Q2, consistent with Q1.
For the three months ended June 30th, we recognized approximately $18.2 million of net realized gains, primarily from sales related to our equity investments in Penergy, TransGo, Auveco and CRS Solutions Holdings, LLC . Turning now to portfolio statistics. As of June 30th, our total investment portfolio had fair value of $810.5 million. Our average portfolio company investment on a cost basis was $10.1 million, which excludes investments in 12 portfolio companies that sold their operations or are in the process of winding down. We have equity investments in approximately 80% of our portfolio companies, with an average fully diluted equity ownership of 3.7%. Weighted average effective yield on debt investments was 11.9% as of June 30th.
The weighted average yield is computed using the effective interest rates for debt investments at cost, including the accretion of original issue discount and loan origination fees, but excluding investments on non-accrual, if any. Now I'd like to briefly discuss our available liquidity. As of June 30th, our liquidity and capital resources included cash of $72.5 million, $41.5 million of available SBA debentures and $100 million of availability on our line of credit, resulting in total liquidity of approximately $194 million. Taking into account our subsequent events, we have approximately $207.6 million of liquidity. Now I'll turn the call back to Ed for concluding comments.
Thanks, Shelby. As always, I'd like to thank our team and the board of directors at Fidus for their dedication and hard work and our shareholders for their continued support. I will now turn the call over to Lisa for Q&A. Lisa.
Thank you. If you would like to ask a question on the phone lines today, you can press star one on your telephone keypad. Once again, everyone that is star one to ask a question. We'll take our first question from Robert Dodd with Raymond James. Please go ahead.
Good morning, Ed and Shelby, and congratulations on not just the quarter, but the you know post quarter as well. So a couple of questions. I'm gonna ask you about the dividend, but you probably knew that was coming. The first one. On your comment, Ed, you kind of went back to this a couple of times, getting deals across the finish line is more difficult now. Sounds like you're quite optimistic about pipeline, but what is. Is there a gap between you know your ask on pricing and the borrowers ask? Is that a problem on the sponsors agreeing on price? Is there more divergence on pricing structure or anything like that? Or is it some other kind of factor that's making people move a little slower right now? I'm just curious.
Sure. I mean, great question, Robert. As you can imagine, I think, most, you know, folks making investments today really want to make sure that, you know, the company's performing as expected. What we've seen and experienced, quite frankly, we've had three deals that we were awarded fall apart in the last 90 days or so, and two were due to, you know, purchase price issues. Those, you know, came from, I would say, performance issues, maybe missing budget a little bit, which obviously gives rise to a purchase price discussion. The other was a structure question for us where, you know, we had signed up a term sheet and based on a certain structure, and then the company and the buyer did not want to have that structure at the end of the day, and so we backed away.
We're obviously in this environment, but always being very disciplined on how we do things. You know, it's a tougher environment to get things done. I think everyone is, you know, in discovery mode a little bit, and I think that's a good thing, quite frankly. You know, 'cause we wanna make sure we feel great about what we're investing in as we, you know, close transactions. It's a good problem to have from our perspective.
Yeah, thank you. Thank you for that. On the opportunities you're seeing, obviously, I mean, if we look back over certainly the last, you know, several years and even longer term, I mean, the IRRs or however we want to put it, I mean, you know, TransDigm might be an outlier, but even the core assets, your IRRs have been very attractive. Do you think the opportunities that you're seeing today and the structures you're seeing today are set up to meet kind of the core IRR, not just your internal targets, your hurdle rates maybe, but the core IRR that you've delivered historically? Could you still match that, or is there anything that's shifted on that front?
Great question. From my perspective, a little bit of it has to do with, you know, portfolio structure. Today we have about, you know, 80% of our portfolio companies are coupled with equity investments. In those cases, obviously there's an opportunity for higher returns all in. We do feel, you know, good about the investments we're making today and do think they're, you know, very similar to what we've done in the past. I don't see a change there. You know, the mix of debt only investments for us is maybe a little higher than usual. We may have been closer to 90% at one point in time.
That may alter returns just a little, but I don't think it's enough of a move to be significant. We continue to see a very attractive environment from a risk-adjusted return or on a risk-adjusted return basis. Continue to like the equity opportunities that we are uncovering, but you know, they're obviously you know it takes hard work and discipline and being patient, you know, and that's. We're gonna continue the same strategy that we've always you know deployed.
Got it. I appreciate that. Thank you for that color. Gotta ask you on the dividend. Yes, I realize you said that you'll have more information on the next call, but that's three months from now. In the past, you know, when you've had large realized gains, you've utilized the full spectrum. You've done everything, a deemed distribution to a special dividend to supplementals. Can you give us any color. Obviously it's a board decision, but you are a member of the board. Can you give any color kind of, you know, which a deemed distribution allows you to retain some capital, but you've got a lot of capital, equity proceeds coming in versus, you know, just paying out large specials, you don't necessarily get full credit from the market.
Can you give us any thought about which way potentially you lean right now without not gonna set your feet in concrete on this, but
Well, let me give some thoughts on just actually why we, you know, postponed things a little bit as well as just maybe highlight the different options that are on the table. As you might imagine, Robert, I'm gonna be pretty careful with what I say.
Yep. Fair enough.
Also, as you might imagine, we spend a lot of time, you know, at the board level thinking about distributions and dividend policy questions. Also, as you know, our spillover position at 6/30 is very high at $2.37, you know, per share. As you also know, the gains early here in Q3 will only further increase that spillover position. You know, what we've done is, you know, given the fact that, you know, we're only seven months into the year, we believe it only makes sense to be patient, at least, until the Q3 earnings call, you know, to discuss, you know, further 2022 dividend decisions.
The Q3 and Q4 dividend declarations that we announce are expected to satisfy the RIC distribution requirements, related to the 2021 investment company, you know, taxable income or ICTI. We expect to be discussing obviously things a lot over the next 90 days, until we have our next call. You know, lastly, what I'll say is, look, our, you know, our top priority is to perform well for shareholders over time. For us, that means delivering stable to growing dividends to shareholders while also growing NAV over the long term as well. As it relates to our spillover position, you know, we're evaluating a number of options. It includes making, you know, special select cash distributions, includes increasing the base dividend and/or supplemental dividend policy.
You know, it may make sense to retain a healthy level of spillover still, for a rainy day. You know, a deemed distribution is definitely on the table as well, which would enable us to retain capital at the BDC level in order to continue to grow NAV as well as earnings over the long term. That's three or four things, I guess four, that are on the table from our perspective. It's probably some combination of a few of those at the end of the day. I hope that's helpful, but I gotta be obviously careful with what I say.
That is very helpful. Thank you, and I apologize for the background noise.
No problem. Thanks, Robert. Nice talking to you.
We'll take our next question from Ryan Lynch with KBW.
Hey, good morning.
Good morning, Ryan.
The first question I had was, you know, kind of following up on Robert's question, because it kind of struck me as well when you talked about deals having a harder time getting across the finish line in this environment. I think that's maybe the first time I've really heard that on the conference calls for the BDC sector this quarter. Because most others have out there talked about the really improving deal environment and what I would call maybe some more lender-friendly terms that they're being able to achieve now versus six months ago or so. Obviously, the economic environment is still very uncertain going forward, so that does present some challenges.
I'd love if you could just unpack, is there something that's particularly unique in kind of the lower middle market where maybe terms aren't shifting as quickly as maybe the core middle or upper middle market that would cause you to make those statements?
Sure. Great question, Ryan. Not an easy one to answer, quite frankly. I think terms, you know, are shifting to a certain degree. I think spreads are stable to widening. We are experiencing the same trend. Maybe it's not as much as in the liquid markets, but covenants have always been a positive for the lower middle market, and they continue to be and help us. Leverage levels are clearly not out of bounds and probably are coming down just a little bit as well. Again, those are for very, you know, high-quality situations. You know, from a deal flow perspective, I thought, you know, Q2 was a little slower than Q1, for sure.
I think there was a lot of price discovery going on and a lot of just credit discovery going on. But what I would also say is today in the last three, four weeks, deal flow has been very strong, and so we are starting to see a fair number of high-quality situations. We're excited about the rest of the year, quite frankly. With regard to harder to get stuff across the finish line, your comment surprises me a little bit. Maybe just people didn't say it. But you know, I think a little bit of that is just a product of our experience where we did have, in the last 90 days, three deals fall apart for the reasons I just talked about.
I think that's healthy. You know, if things aren't as expected, then I'd rather wait and see. As opposed to go ahead and close the transaction. The long and short of it is we're continuing to see, you know, a fair number of opportunities, high quality opportunities, and we do think it's a lender-friendly environment than previously. There's less competition. There's some lenders that have pulled back, quite frankly. That's a good thing as well for us and for the lower middle market. I hope that helps.
Yeah, that's helpful, and I completely agree that, you know, being thoughtful and disciplined and having deals fall, you know, you backing off on deals if they're not right, it makes complete sense. You could also be right that maybe other companies aren't explicitly stating that, and there are deals that are, you know, sort of not getting done. Maybe just the deals that are getting done are in better terms, but there could be maybe a lot of other deals that are not getting across the finish line as well. That, that's fair. The other question I had was, congrats on your, you know, partial monetization of Fansteel in the third quarter. Can you talk about what was the nature of that partial monetization, and why was it only a partial monetization versus a, you know, a full monetization? What was the nature behind that?
Sure. Well, Fansteel is a company that we've been invested in now for call it 10 years or so, around a little bit. Very high quality company. The monetization from our perspective was a negotiation with the primary owner of the business. You know, from our perspective, getting partial liquidity made sense, so we ended up selling less than half of our position. The reason for that is we feel good about the long-term prospects of our investment as well as, you know, as for the company. It's a very high quality company. You know, so we're pleased to be able to retain that equity ownership, and, you know, see how it goes in the future. We're also very pleased with the partial realization as we thought it made sense to do that. Hopefully that makes sense.
Yeah. No.
We like the act. We just think getting a, you know, a partial liquidity event was a smart thing to do for our shareholders.
Yes. It makes sense just taking a few chips off the table on a really successful investment. Just the last one I had, which is, you know, very hard to predict, but maybe for Shelby. You know, dividend income, you know, dropped significantly this quarter. I know it's really hard to predict on a quarter basis, but 'cause that can be kinda lumpy, but do you have any preliminary thoughts on what we should be expecting, you know, in the third quarter for that?
Yeah. What I would just say is Q1 was probably larger than what I would expect on a run rate basis. Just we have a few select portfolio companies that maybe make an annual dividend, and so that's kinda what caused Q1 to be more outsized. Kinda going forward, I would expect things to be more in line with Q2.
Okay. That's helpful. I appreciate the time today and appreciate you taking my questions.
Thank you, Ryan. Appreciate it. Good talking to you.
You too.
As a reminder, everyone, that is star one to ask a question. We'll take our next question from Mickey Schleien with Ladenburg Thalmann.
Yes. Good morning, everyone. Ed, I wanted to ask you a risk management question. You know, there's this theory out there that the only way the Fed's gonna get inflation under control is just to, you know, kill the consumer, given how much the consumer represents as part of the economy, you know, the domestic economy. But, you know, I've also heard arguments that, you know, the middle class and the upper middle class are fine. It's the lower middle class that, you know, the folks that are living paycheck to paycheck that might be struggling under the current economic conditions. So, you know, perhaps there's not as much risk there as is perceived.
Given, you know, the Fed's struggle with inflation, how much risk is there in your portfolio with respect to the consumer? In particular, I think I heard you say you invested in a thrift shop. Is that in line with this, with my comments?
Sure. It's a great question. You know, with regard to the thrift shop, we just committed to that. That deal should close later in the quarter. It's a great business, pretty well diversified and performing very well also in this environment. We feel like you know, we obviously looked at previous cycles, and this company has performed pretty well through all those cycles. It's a stable business from our perspective and one we feel very good about in this environment as well. It's differentiated from that perspective. I agree to a certain extent with your comments about maybe the you know more lower income bracket, if you will.
You know, I do think they are being impacted more by things like higher gas prices, higher food prices, more staples, day-to-day living type of spending and taking market shares from more discretionary items, if you will. We experienced that in Eblens, quite frankly. Eblens is probably focused on a consumer that's more, you know, that is more focused on urban areas, if you will. I agree with your comments. The last question I think you asked, or one of the questions you asked, was how exposed is our portfolio? I would say we have some consumer exposure, but it's very limited, quite frankly. We feel like we're well-positioned as we move forward.
It's really maybe a handful of names that have exposure, and I think we're, you know, feeling some pressure, you know, a little bit right now on two of the companies, one of them being Eblens. Overall, we feel great about our portfolio construction and feel very good about the outlook of our portfolio, notwithstanding that it's a, you know, it's a difficult operating environment.
I agree. That's it for me this morning. I appreciate your time. I hope you have a good weekend. Thank you.
Thanks. You too, Mickey.
That does conclude the question and answer session. I would like to turn the call back over to Ed Ross for any additional or closing remarks.
Thank you, Lisa. Thank you everyone for joining us this morning. We look forward to speaking with you on our third quarter call in early November 2022. Have a great day and a great weekend.
That concludes today's presentation. Thank you for your participation, and you may now disconnect.