Great Elm Capital Corp. (NASDAQ:GECC) Q3 2022 Earnings Conference Call November 3, 2022 11:00 AM ET
Company Participants
Garrett Edson – Investor Relations
Matt Kaplan – Chief Executive Officer
Keri Davis – Chief Financial Officer
Adam Kleinman – President, Great Elm Capital Management
Mike Keller – President, Great Elm Specialty Finance
Operator
Greetings. Welcome to the Great Elm Capital Corp. Third Quarter 2022 Financial Results. [Operator Instructions] Please note this conference is being recorded. I will now turn the conference over to your host, Garrett Edson, a representative of the company. You may begin.
Garrett Edson
Good morning and thank you everyone for joining us for Great Elm Capital Corp.’s third quarter 2022 earnings conference call. If you would like to be added to our distribution list, you can e-mail investorrelations@greatelmcap.com or you can sign up for alerts directly on our website, www.greatelmcc.com. I’d like to note the slide presentation posted on our website accompanying today’s call. The slide presentation can be found on our website under Financial Information, Quarterly Results. On our website, you can also find our earnings release and SEC filings.
I’d like to call your attention to the customary Safe Harbor statement regarding forward-looking information. Also, please note that nothing in today’s call constitutes an offer to sell or a solicitation of offers to purchase our securities. Today’s conference call includes forward-looking statements and we ask that you refer to Great Elm Capital Corp.’s filings with the SEC for important factors that could cause actual results to differ materially from these statements. Great Elm Capital Corp. does not undertake to update its forward-looking statements unless required by law. To obtain copies of SEC filings, please visit Great Elm Capital Corp.’s website under Financial Information, SEC filings or visit the SEC’s website.
Hosting the call this morning is Matt Kaplan, Great Elm Capital Corp.’s Chief Executive Officer, who will be joined by Keri Davis, GECC’s CFO; Adam Kleinman, President of Great Elm Capital Management; and Mike Keller, President of Great Elm Specialty Finance.
I will now turn the call over to GECC’s CEO, Matt Kaplan.
Matt Kaplan
Thank you, Garrett. Good morning and thank you for joining us today. Our third quarter results are a testament to the revamped portfolio strategy the team has been executing on throughout the year. On the asset side, fair value across the portfolio slightly increased in the quarter, which we believe drove better than many of our peers. Our strategy to diversify the portfolio and when rates were low with spreads type, to position ourselves in a higher coupon short duration fixed-rate securities benefited GECC as it enabled us to better withstand the rapid rise in interest rates.
In the third quarter, we advantageously deployed approximately $40 million into new investments at average yields in excess of 12%, with 60% of those deployments in floating rate investments. Approximately $30 million of assets were monetized in the quarter had average yields below 10%, with 90% of those assets comprised of fixed rate investments. As a result, nearly half of our debt investment portfolio at quarter end consisted of floating rate debt, up from one-third just one quarter ago. Average yield on our credit portfolio also increased to 11.6% from 10.3% at June 30. Going forward, you should expect us to focus more time and capital on investments to benefit from rising rates as opposed to fixed rate investments.
At the same time, NII of $1.1 million or $0.14 per share was below our expectations largely due to costs and expenses related to certain legacy investments and the formation of Great Elm Healthcare Finance, which collectively impacted NII by approximately $0.09. In addition, we estimate NII was impacted by approximately $0.03 from the continued cash drag, resulting from our measured deployment of capital noted on our prior call. Lastly, our specialty finance platforms did not perform as anticipated, given a low in originations over the summer and some temporary disruption from management changes. We expect the elevated expenses to abate in the fourth quarter and along with an increase in deployments should result in a corresponding increase in NII.
As I alluded to earlier, Great Elm is adding to its specialty finance business by launching a healthcare finance platform that provides capital solutions to healthcare businesses across the country. In the quarter, we identified a senior management team led by industry veteran, Mike Gervais, to lead the specialized secured lending vertical with support from our existing ABL platform, Sterling Commercial Credit. Mike has built two healthcare lending platforms over the past two decades and I am extremely excited to welcome him into the Great Elm family. We are in the process of identifying assets and potential finance partners as well as building out the operations for the health care initiative, supported by our experienced team at Sterling.
We remain measured with respect to deploying capital in the current market environment and are very focused on finding investments with limited risk of permanent capital impairment and durable returns. In the near term, our goal is to grow our portfolio and our investment income to cover our quarterly distribution on a regular basis and we believe you will begin to see progress toward that NII goal in the fourth quarter. As we continue to navigate through the current environment, we remain excited for our future prospects and the opportunity set the market volatility has started to provide in both the secondary credit and the private ABL markets. I remain very confident in this team, and we are making steady progress building on the foundation we put in place.
With that, I’d like to hand the call over to Keri to discuss our third quarter 2022 performance.
Keri Davis
Thanks, Matt. I will go over our financial highlights, but we invite all of you to review our press release, accompanying presentation and SEC filings for greater detail.
As Matt noted, we continue to reposition the portfolio during the quarter with a higher yield profile and a sizable increase in floating rate debt as a percentage of our holdings to take advantage of rising rates. During the third quarter, GECC generated NII of $1.1 million versus $1.6 million in the prior year quarter and $1.2 million in the second quarter of 2022. Our net assets as of September 30, 2022 were $95.5 million compared to $97.6 million at June 30, 2022, and $99.4 million as of September 30, 2021. Our NAV per share was $12.56 as of September 30, 2022, versus $12.84 as of June 30, 2022, and $22.17 as of September 30, 2021.
Details for the quarter-over-quarter change in NAV can be found on Slide 7 of the investor presentation. As of September 30, 2022, GECC’s asset coverage ratio was approximately 165.5% compared to 166.9% as of June 30. GECC reported net increase in operations of $0.18 per share in the third quarter compared to a net loss of $0.87 per share in the prior quarter. NII per share was $0.14 compared to $0.23 in the prior quarter. As of September 30, our total debt outstanding was approximately $145.9 million comparable with the June 30, 2022, quarter end. Our $25 million line of credit remains fully undrawn. As of September 30, our cash and money market securities totaled approximately $21.3 million.
Our Board of Directors has authorized the $0.45 per share cash distribution for the quarter ending December 31, 2022. The fourth quarter cash distribution will be payable on December 30, 2022 to stockholders of record as of December 15, 2022. Annualized, the distribution equates to a 14.3% annualized dividend yield on our September 30, 2022, NAV of $12.56 per share.
I will turn the call back over to Matt to review the portfolio.
Matt Kaplan
Thanks, Keri. Today, I am going to focus on providing some color on how our portfolio construction strategy has evolved. At the start of the year, we saw limited opportunities in floating rate secured debt and played defense in a certain higher yielding bonds and preferred security, some of which have been called and refinanced over the past few months in spite of capital market disruption. The three examples of this are: the Altus preferred, Cleaver-Brooks bonds and Natural Resource Partners bonds, all of which were fixed rate investments that were called or received redemption notices in 3Q. In addition, we took the opportunity during the credit rally in the third quarter to pair back a couple of fixed-rate bond positions we purchased late in the second quarter, MicroStrategy and Fortress Infrastructure with nice short-term gains. We redeployed these proceeds in the third quarter at 12% plus yields, largely in the floating rate instruments.
As we selectively took advantage of the credit market rally in the middle of the third quarter and making sales, we also remained prudent in our deployment of capital. During the rally, we pumped the brakes on secondary market deployments and closed two direct club deals at mid-teens yields in August and September. We’ve discussed on our recent calls, our goal to develop a continuum of lending that GECC can offer small business clients and an important part of that continuum is building out our specialty finance platform.
During the third quarter, we had a few disruptions, including a leadership change and summer seasonality impacting originations, which ultimately led to lower distributions from our specialty finance companies. We expect some of this disruption will continue into the fourth quarter, but key hires made in the third quarter are already hard at work, building the pipeline and setting the stage for our platforms to execute on growth initiatives, including our new specialty secured lending vertical focused on healthcare.
Before closing out, I would note that as we expected, the cash drag from the June quarter continued throughout the third quarter, and we did not cover the distribution with NII. Going forward, we intend to grow NII by deploying cash into new investments as we seek to position GECC to cover the quarterly distribution on a regular basis. We do expect to see the cash drag continue to some extent into fourth quarter, but it should be less impactful than in the third quarter as we find opportunities to selectively deploy capital to generate solid risk-adjusted returns. We continue to believe that we are headed in the right direction and are confident in our ability to execute on our strategy.
With that, I will turn the call over to the operator for questions. Operator?
Question-and-Answer Session
Operator
Matt Kaplan
Thank you again for joining us today. We continue to make solid progress in our efforts to transform GECC. We look forward to continued investor dialogue. Please let us know if we can help with any follow-up. Thank you.
Operator
And this concludes today’s conference and you may disconnect your lines at this time. Thank you for your participation.
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