Good afternoon, welcome to the PennantPark Investment Corporation's first fiscal quarter 2023 earnings conference call. Today's conference is being recorded. At this time all participants have been placed in a listen-only mode. The call will be open for question and answer session following the speaker's remarks. If you would like to ask a question at that time, simply press star 1 on your telephone keypad. If you'd like to withdraw your question, press star 2 on your telephone keypad. It is now my pleasure to turn the call over to Mr. Art Penn, Chairman and Chief Executive Officer of PennantPark Investment Corporation. Mr. Penn you may begin your conference.
Good afternoon, everyone. I'd like to welcome you to PennantPark Investment Corporation's first fiscal quarter 2023 earnings conference call. I'm joined today by Rick Allorto, our Chief Financial Officer. Rick, please start off by disclosing some general conference call information and include a discussion about forward-looking statements.
Thank you, Art. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of PennantPark Investment Corporation that any unauthorized broadcast of this call in any form is strictly prohibited. An audio replay of the call will be available on our website. I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking information. Today's conference call may also include forward-looking statements and projections, we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these projections. We do not undertake to update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at pennantpark.com or call us at 212-905-1000.
At this time, I'd like to turn the call back to our Chairman and Chief Executive Officer, Art Penn.
Thanks, Rick. We're going to spend a few minutes and comment on our target market environment, provide a summary of how we fared in the quarter ended December 31st how the portfolio is positioned for the upcoming quarters, our capital structure and liquidity, a detailed review of the financials open it up for Q&A. The results were mixed for the quarter ended December 31st. PNNT is now well-positioned to be a more stable higher earning, and higher dividend-paying BDC. We saw a significant reduction of NAV, primarily due to fair value adjustments to RAM Energy and the publicly traded stock of Cano. Additionally, our NII was reduced by $0.02 per share due to an increased accrual for excise taxes resulting from overearning our dividend in prior time periods.
We are closing the chapter on our legacy investment in RAM Energy and moving forward with the investment strategy that has served us well over the last seven years including during the COVID time period. Our debt portfolio is performing well and is positioned to withstand volatility in the current economic environment. Our income has been growing, and we are significantly raising our dividend in line with the new earnings power of the company. The debt portfolio continues to benefit from rising base rates. As of December 31st our weighted average yield to maturity was 11.9%, which is up from 10.8% last quarter and 8.8% last year. Our PSLF JV continues to generate an attractive double-digit ROE for PNNT. We are targeting a $1 billion vehicle over time which can drive additional growth in NII at PNNT.
As a result of a stable debt portfolio and the growing net investment income, the board of directors has approved another increase in the quarterly dividend to $0.185 per share. This is a 12.1% increase from the prior quarter. The dividend will be paid on April 3rd to shareholders of record as of March 16th. We are confident that with the continued strong credit performance, the increased dividend will be more than fully covered by net investment income. Now let me review the results for the quarter ended December 31st. GAAP NAV decreased 14.1% to $7.71 per share from $8.98 per share. This decrease was driven by unrealized losses of which over 85% was from our equity investments in RAM Energy and Cano Health.
In December, RAM Energy closed on the sale of its Fayette assets to a public E&P company. The sale was completed after running a broad auction process in the H2 of 2022. The Fayette assets sold comprised the majority of the value at RAM. After repaying indebtedness, expenses hedging contracts, and other liabilities, we expect to receive approximately $32 million of net proceeds from the sale. The December 31st fair value for RAM equals the estimated proceeds from the sale. As many are well aware, this has been a long and challenging investment. We are disappointed that we were not able to produce a better outcome. We are happy to finally close the book on this legacy investment.
The December 31st fair value for our equity investment in Cano Health decreased significantly from the prior quarter as a result of the significant decline in Cano's publicly traded equity. Net investment income for the quarter was $0.16 per share. Our NII was reduced by $0.02 per share due to an increased accrual for excise taxes. NII would have been $0.18 per share after adjusting for this additional expense accrual. We have substantially executed on our goal to reduce the equity portion of the portfolio, which at December 31st adjusting for the RAM Energy investment, was 14%. This compares to a peak in March 2021 of 30%. Let me turn to the current market environment.
From an overall perspective, in this market environment of inflation rising interest rates, geopolitical risk, and a potentially weakening economy, we are well-positioned as a lender focused on capital preservation in the United States, where the floating interest rates on our loans can protect against rising interest rates and inflation. We continue to believe that our focus on the core middle market provides the company with attractive investment opportunities where we are important strategic capital to our borrowers.
We believe that the current vintage of middle market directly originated loans should be excellent. Leverage is lower, spreads and upfront fees are higher covenants are tighter, and loan to value continue to be attractive. For the quarter ended December 31st, we invested $86 million in new and existing portfolio companies at a weighted average yield of 11.2% and had sales and repayments of $31 million.
For the investments in new portfolio companies the weighted average debt to EBITDA was 4.3x, the weighted average interest coverage was 2.1x, and the weighted average loan to value was only 24%. We have a long-term track record of generating value by successfully financing high-growth middle-market companies in five key sectors. These are sectors where we have substantial domain expertise, know the right questions to ask, and have an excellent track record. They are business services, consumer, government services and defense, healthcare, and software and technology. These sectors have also been recession resilient and tend to generate strong free cash flow. It's important to note that we do not have any crypto exposure in our software and technology investments.
In many cases, we are typically part of the first institutional capital into a company, and the loans that we provide are important strategic capital that fuel the growth and help that $10 million-$20 million EBITDA company grow to $30 million, $40 million, $50 million of EBITDA or more. We typically participate in the upside by making an equity co-investment. Our returns on these equity co-investments have been excellent over time. Overall, for our platform from inception through December 31st, we invested over $375 million in equity co-investments and have generated an IRR of 27% and a multiple on invested capital of 2.3 times. Because we are an important strategic lending partner, the process and package of terms we receive is attractive. We have many weeks to do our diligence with care.
We thoughtfully structure transactions with sensible credit statistics, meaningful covenants, substantial equity cushions to protect our capital, attractive upfront fees and spreads, and equity co-investment. Additionally, from a monitoring perspective, we receive monthly financial statements to help us stay on top of the companies. With regard to covenants, virtually all of our originated first lien loans have meaningful covenants to help protect our capital. This is one reason why our default rate and performance during COVID was so strong and why we believe we are well-positioned in this environment.
This sector of the market, companies with $10 million-$50 million of EBITDA, is the core middle market. The core middle market is below the threshold and does not compete with the broadly syndicated loan and high yield markets. Many of our peers who focus on the upper middle market state that those bigger companies are less risky.
That is a perception and may make some intuitive sense, but the reality is quite different. According to S&P, loans to companies with less than $50 million of EBITDA have a lower default rate and a higher recovery rate than loans to companies with higher EBITDA. We believe that the meaningful covenant protections of the core middle market, where we have more careful due diligence and tighter monitoring, have been an important part of this differentiated performance. The borrowers in our investment portfolio are performing well, and we believe we are well-positioned for future quarters. As of December 31st, the weighted average debt to EBITDA in the portfolio was 4.7 times, and the average interest coverage ratio, the amount by which cash income exceeds cash interest expense, was 3.2 times, calculated based upon the last 12 months interest expense.
The interest coverage ratio, when calculated using the annualized interest expense at current LIBOR and SOFR base rates, is 2.3 times. This compares favorably to a market average of 1.6 times, which is according to Lincoln International. Since inception, PNNT has invested $7.4 billion at an average yield of 11%. This compares to a loss ratio of approximately 21 basis points annually. The strong track record includes our energy investments, primarily subordinated debt investments made prior to the financial crisis, and recently, the pandemic. With regard to the outlook, new loans in our target market are attractive, and this vintage should be particularly attractive. Our experienced and talented team and our wide origination funnel is producing active deal flow. Our continued focus remains on capital preservation and being patient investors.
We want to reiterate our goal to generate attractive risk-adjusted returns through income coupled with long-term preservation of capital. Everything we do is aligned to that goal. We seek to find investment opportunities in growing middle market companies that have high free cash flow conversion. We capture that free cash flow primarily through debt instruments, and we pay out those contractual cash flows in the form of dividends to our shareholders. Let me now turn the call over to Rick, our CFO, to take us through the financial results.
Thank you, Art. For the quarter ended December 31st, net investment income totaled $0.16 per share, including $0.01 per share of other income. Operating expenses for the quarter were as follows: Interest and credit facility expenses were $9.7 million. Base management and incentive fees were $6.8 million. General and administrative expenses were $1.1 million, and provision for excise taxes was $2.0 million. The provision for excise tax of $2 million included an additional accrual of $1.55 million. We estimate that the quarterly run rate provision for excise taxes will be $450,000. NII would have been $0.18 per share if adjusted to exclude the additional accrual. As of December 31st, we had two non-accruals which represent 2.7% of the portfolio at cost and 1.1% at market value.
For the quarter ended December 31st, net realized and unrealized change on investments and debt, including provision for taxes, was a loss of $82.2 million or $1.26 per share. The change in the fair value of our credit facility increased our GAAP NAV by $0.11 per share. As of December 31st, our NAV per share was $7.71, which is down 14.1% from $8.98 per share from the prior quarter. Our GAAP debt to equity ratio was 1.3 times. As of December 31st, our key portfolio statistics were as follows: The portfolio remains highly diversified with 125 companies across 32 different industries.
The portfolio was invested in 55% first lien secured debt, 11% in second lien secured debt, 5% in subordinated debt excluding PSLF, 17% in preferred and common equity excluding PSLF, and 12% in PSLF. The weighted average yield on debt instruments was 11.9%. 96% of the debt portfolio is floating rate with an average LIBOR floor of 1%. Now let me turn the call back to Art.
Thanks, Rick. In closing, I'd like to thank our dedicated and talented team of professionals for their continued commitment to PNNT and its shareholders. Thank you all for your time today and for your continued investment and confidence in us. That concludes our remarks at this time. I would like to open up the call to questions.
Thank you. If you would like to ask a question, please signal by pressing star one on your telephone keypad. If you're using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press star one to ask a question, we will pause for just a moment to allow everyone an opportunity to signal for questions. We will go first to Robert Dodd with Raymond James.
Hi. First question, Ken, on the buyback program. Obviously, I mean, you didn't utilize the buyback program in the December quarter. I could understand why, but you had a lot of information and things going on. It expires, if I remember right, at the end of March. Can you give us any color on whether you expect to utilize that, complete it, extend it, any thoughts on that front?
Thanks, Robert. Yeah, we're always considering, stock buyback program. We've, I think this might be our second or third program we've done.
Mm-hmm.
We are now 1.4 times levered at PNNT, which is a bit above our target leverage. We're working with the rating agencies on our ratings stay tuned. Nothing, nothing really to announce at this point.
Got it. Got it. On, on, one of the other portfolio companies, the Walker Edison, obviously it did get it's been an issue you talked about last quarter. I mean, you're not the only BDC in it. Obviously, you're in with several other private cap credit platforms. Does the fact that you're in it with so much, or by your standards, a lot of other investors, obviously by the syndicated market, tiny number, does that make anything more complicated, slower, or more difficult in resolving that particular asset?
no Walker Edison's been troubled now for a couple quarters. It's in restructuring as we speak. There's three public BDCs, including us, who have the asset. There's a fourth lender in it, so there's not a public BDC. There's four lenders in total in that name. We're all getting along very well. It's all very consensual. I think we all see things the same way. It's, it's really just about executing the restructuring and then operating the company hopefully well. We still think the company is a viable company that has a real place to be, a real reason to be in the marketplace, that it has value. We'll be converting the majority of the debt that we have into equity.
We'll still have some debt. We're all putting in additional debt to fund liquidity needs, a small amount to fund liquidity needs for the company over the next few quarters we all are doing that in the belief that we think it's a viable long-term business which had some non-recurring issues going on primarily with supply chain. Over the long run should have a lot of value.
Got it. Got it. Thank you on that. Last one if I can on the dividend, obviously increased it again, earnings power trending up. That's even without rates, obviously. The proceeds from RAM will be available and principle to invest in yielding assets. One of your comments at the beginning was the board raised the dividend in light of with growth in earnings power. Is that something investors can look forward to potentially again? Because in all likelihood, earnings power is in most likely to ramp a little higher, at least over the next several quarters.
Look, we believe based on today's interest rates, our NII is well covering the $0.185 dividend. We think we're well covering it now. You're right, with the growth of the joint venture, potentially to $1 billion, really without any incremental capital from us, as well as the potential for RAM or rotation we think we have potential additional upside above and beyond that.
Got it. Thank you.
Thank you.
We will go next to Ryan Lynch with KBW.
Hey, good afternoon. My first question, obviously you talked about the exit of RAM Energy. That's been a a long-standing investment. You guys have worked through a lot. Obviously, you're, you're sort of turning the page on that. I would just love to just before we completely turn the page on it, just revisit kind of what occurred over the last six-nine months. That investment started being written up pretty meaningfully earlier in 2022, and then last quarter it had a pretty meaningful write down. The exit this quarter was significantly low the previous value. Can you just talk about, I guess, what occurred? Was it something fundamentally in that business that didn't play out as expected?
Was it just the purchase, the market when you guys were looking to sell didn't come to fruition as you would've liked? Or just any sort of comments on what sort of took place?
Yeah.
how the ultimate value was decided.
Yeah. It's certainly again, we are disappointed with the outcome ultimately it's a decision, do you turn the page or do you take a disappointing result? We decided to . Or do you keep it alive and do you keep going? What happened unfortunately over the last six months or so was those last well or two, the results were not, and there were some operational issues that came into fore with the last well that unfortunately hurt the ultimate valuation. It was a very robust process. The M&A bank went out to over 100 people, 100 parties, this was the end result. It's disappointing.
Again, this is why at PennantPark we will never do oil and gas again when the value of the company relies so much on one or two wells. Certainly it's been a disappointing investment from the get-go. It continued to be disappointing. We were hopeful and optimistic a while back because the results were really good. Oil and gas prices at 1 point were much higher than they are today. I feel that we ran a very robust process. Of course, we're not pleased with the outcome. We are pleased to hopefully be turning the chapter here and not mentioning this company again on future conference calls.
This is kind of the fact and, we ran a robust process and this is the outcome.
Yeah. Thanks for that background and color. Rick, maybe on that, you gave guidance for the additional excise taxes on a quarterly basis going forward. I'm just curious, I would presume the answer is no, but does the exit and the loss, the realized loss you guys will occur in RAM Energy, will that have any potential to lower those excise taxes at all?
No. RAM is held within the corporate blocker. The short answer is no.
Okay. Then maybe following up on Robert's question regarding the buyback and leverage. I would just love to. You kind of mentioned you're talking with credit rating agencies today. You guys are above your target leverage range. I think that's maybe even a little bit high for where rating agencies are typically comfortable. Is it the plan, do you think, to get that leverage range down closer to the 125 level or in the near term? Is this a level that you guys are comfortable operating at for the foreseeable future?
Yeah, look, we're still working on the answer to that question, to be frank with you. The argument would be and we believe it, which is the portfolio that remains is mostly senior debt, first lien debt, which might be justifiable to be at this kind of 1.4 times ratio. It's certainly a less equity heavy portfolio than we had. I think we're gonna be kind of somewhere between the 1.25 and 1.4-ish debt to equity. Certainly the discussions with the rating agencies are an important part of that analysis.
Mm-hmm. Of course. Okay, that's all for me. I appreciate the time today.
Thank you.
We will go next to Casey Alexander with Compass Point.
Yeah, good afternoon. I want to switch gears just a little bit to a different topic. The company's in position in Cano Health has been handcuffed in that it's under the control of the private equity sponsor. Have you considered restructuring your equity co-invest, or not making equity co-invest if they fall under the control of the private equity sponsor? The company has missed several attractive opportunities to monetize that investment. The lack of control has all of a sudden resulted in what at this point in time is another poor surprise or a poor outcome.
Is there something that you can do to mitigate that loss of control that gives you a better position to take advantage of attractive equity prices when they exist in future investments or not make them at all and get better terms on the debt?
Great question. There's a couple discussion points that you've brought up, which are really good discussion points. First of all, in Cano Health itself it's a mark to market. Deal's not done yet. Their largest competitor, Oak Street Health, announced yesterday that they were getting bought by CVS at a very high price. There is a bit of a turf grab going on in that primary care space, so we're not done yet I would remind you that Humana is a minority shareholder of Cano Health. Whether they or other parties see value in Cano Health's company, that the company itself yet to be determined. It has been a volatile stock.
It has been painful to watch the stocks trade lower over the course of the last three, six months. We're not done yet on Cano Health. Our belief is over time this company will ascertain real value above and beyond where it's being marked today. That's Cano Health. Look, part and parcel of the equity co-investment business, if you wanna call it that, is you're lending money to the company. You're saying to the sponsor, we wanna ride alongside of you because we're helping you drive the growth, and we wanna participate in the upside of the growth, and we're also good partners. In most of the cases, the exits are to strategic buyers or other larger private equity firms rarely is the exit to an IPO like Cano was.
In most cases, you could track it, and we put it out there the MOIC on our equity co-invest over 17 years is 2.3x. It's about a 27% IRR. There are times, Casey, when equity looks really good and there are times when it looks less good we're now in one of the times where it looks less good. A year and a half ago, it looked better we're long-term investors, and we try to think about things in long term. Understand every once in a while we're gonna have a quarter where we don't look that smart, and then there's gonna be other quarters where we look really smart. Cano is a public stock. We have 0 control over where it trades.
Most of our equity co-invests are private. When there's liquidity, it's usually to a strategic buyer or another private equity buyer. We look at it over the 17 years and say, being in the, in the equity co-investment business alongside the debt, where we're helping create the upside with the debt, for us, for 17 years has been good point to point, and you could pick any point over that 17 years. Of course, there's gonna be quarters where it doesn't look as smart as it does in other times it's when you're, when you're riding alongside the private equity firms, it just kind of is what it is they're the control shareholder. We're not. We become control unfortunately sometimes when we have to convert debt to equity. Sometimes that works.
That really worked well in Pivot. It did not work well in RAM. It did not work well in RAM. If it's in the healthcare space, we have a deep expertise in healthcare. We've got a good track record in healthcare. We know what we're doing in healthcare. Obviously in oil and gas, we know what happened there as well, and we're very disappointed.
My next question is relative to the JV. Given the fact that you're effectively not only fully levered but somewhat over-levered and likely are gonna have to use repayments to reduce your leverage ratio to a certain extent, how does the JV go to $1 billion if you don't currently have the capability to add additional equity to support that growth?
The JV is financed to some extent with securitization/CLO leverage. The middle market first lien loans that we do have proven to be really terrific collateral for the CLO securitization box. It's a strong box. We've lived through it during COVID. It's really good for middle market credit. There's lots of elements of middle market credit that make it even more appropriate than broadly syndicated loan credit. To get to $1 billion, we don't need to do the nth degree on the CLO, or we don't anticipate doing that. We do anticipate continuing to use securitization technology to finance the vehicle.
You're saying that you're gonna add leverage to the JV?
Over time, the leverage will be kind of a probably 2 to 1 type of leverage. Again, we own 60% of it.
And what-
Pantheon owns about 40%.
What's the leverage in the JV right now?
It's about 2/1.
All right, thank you.
Moving on, we will go to a question from Mickey Schleien of Ladenburg Thalmann.
Yes. Art, a lot of good questions this afternoon. I just have one follow-up to Casey on the JV. The dividend that you accrued on the JV was up sharply versus the previous quarter. It was also well above the GAAP net income for the quarter. I realize there's differences between GAAP and tax and cash and things like that, but is the current dividend run rate at the JV that's being upstreamed to the BDC sustainable, or are there sort of one-time non-recurring dividends received this quarter?
There's no non-recurring. It's a sustainable dividend. In fact same thing. We overearned the dividend in the JV.
You overearned it in terms of cash?
Yeah.
All right. Those are my only questions. Thank you.
We'll go to our next question from Mike Ramirez with Truist Securities.
Yeah, thank you. good afternoon. What is the timing on when you get clarity from the rating agencies or when you work through that process? Does that impact your ability to invest in the Q2 here?
Yeah, look, I think it's over the next couple months. again, the difference between 1.25 and 1.4 is really not that material, particularly with the type of portfolio we have, but it's something that we do need to focus on.
Fair enough. Of the five sectors that you target, anything in particular there that you're, you feel like there's more deal flow or you have more interest in at this point, given the macro backdrop?
Certainly, we're one of the largest lenders to the government services defense space. We think of that as a very steady, stable space. We have real domain expertise there. Given the geopolitical environment around the world, we think that's a space that will continue to grow and will experience tailwinds. Healthcare is a big space for us, typically healthcare services. There's usually tailwind through demographics. There, we just wanna make sure that we keep our leverage appropriate and reasonable we've had a very nice track record in that vertical as well.
Thank you.
We will go to Melissa Wedel of JPMorgan.
Good afternoon. Thanks for taking my questions today. Just to follow up on sort of the portfolio rotation component that you talked about today. I mean, this has been something that you've talked about for longer than just today. Given that, the exit from ram should bring the equity component of the portfolio down significantly, it would be helpful, I think, if you could update us on how you're thinking about equity as a component of the portfolio going forward do you still target sort of a long-term 10% allocation, or has your thinking evolved?
Yeah. It's a great question because there's some nuance in the answer, which is we have this joint venture in PSLF. Of course, that is equity, but we don't count that as kind of true true equity co-invest like we would elsewhere. We have to exclude that. I don't have it in my fingertips what our equity would, with RAM out of the portfolio, excluding PSLF, what our equity % would be. Sounds right. Do you have it?
14%.
14%. 14% excluding PSLF, excluding RAM. It's still kind of in the zone, probably a little high. I think we'd still probably target 10. 14% is not that wildly off kind of our long-term target.
Okay. That's helpful. Thanks. As a follow-up to the question about sort of recycling capital, given where leverage is right now, is there anything that we should be thinking about in terms of visibility that you have on additional repayments outside of the $32 million expected from RAM in the near term? Thank you.
Yeah. No. In this environment, both deal activity and repayments have slowed down a little bit, and they're usually related. They're usually corollary between new deals and repayments. They slowed down a little bit, but we are getting methodical episodic repayments. That's one of the nice things about a loan portfolio. If underwritten correctly, you will get repayments. Sometimes it's faster, sometimes it's slower. It's been on the slower end recently, but we are getting repayments nothing that material in and of itself, but kind of a drip, drip over time on the repayments.
Thank you, Art.
I would now like to turn the call back to Art Penn for any additional or closing remarks.
Yeah. Thank you, everybody, for participating today on our conference call. We will speak with you next in early May as we go through the 3/31 results. Thank you for participating today.
This concludes today's call. Thank you for your participation. You may now disconnect.