This is a series of articles to find BDCs to include in my updated "Total Return Portfolios" for Q3 2014. Please read "Part 1" for complete description of the portfolio but basically it is for investors that want dependable regular dividends and the potential for special dividends as well as long-term capital appreciation from increased stock values. The other four portfolios that I will cover in following articles are 'High Yield', 'Risk Averse', 'Value' and the 'Underdog' portfolios that will be updated on my "Portfolio Updates" page. This article will combine the analyses from the previous articles linked below including special dividends, net asset value ("NAV") and regular dividend growth potential to come up with projected total returns for each BDC.
- Part 1: Introduction
- Part 2: Historical & Potential Dividend Coverage
- Part 3: Portfolio Growth Potential
- Part 4: NAV Growth Potential
- Part 5: Dividend Growth Potential
- Part 6: Special Dividend Potential
Combined Total Return Rankings
The following table takes into account the rankings from the previous articles in this series but only uses a simple average for the overall ranking. The first column is the current regular dividend yield which is usually a large portion of the amount of return for BDC investors. The second column uses the dividend growth potential from Part 5 that takes into account portfolio growth potential along with historical and future dividend coverage from net investments income. The third column is the special dividend potential rankings from Part 6 that includes historical special dividends and the ability to pay these in the future through equity participation or spillover income and gains. The final column is the NAV per share growth potential rankings that also takes into account equity ownership in portfolio companies along with historical portfolio value appreciation and the ability to growth NAV through equity offerings at a premium. It should be noted that many of the measurements used in each of these analyses are similar but still a sign that these BDCs are more likely to provide higher amounts of return to shareholders.
Most of the BDCs that are currently part of my total return portfolios are at the top of the combined rankings including Ares Capital (NASDAQ:ARCC), FS Investment Corp (NYSE:FSIC), TCP Capital (NASDAQ:TCPC), Main Street Capital (NYSE:MAIN), PennantPark Investment (NASDAQ:PNNT), New Mountain Finance (NYSE:NMFC) and Hercules Technology Growth Capital (NYSE:HTGC). Gladstone Capital (NASDAQ:GLAD) is the lowest ranking of the current components but has the potential for higher returns than most due to its much higher amounts of recent NAV per share growth. Fidus Investment (NASDAQ:FDUS), Medley Capital (NYSE:MCC), Triangle Capital (NYSE:TCAP) and Apollo Investment (NASDAQ:AINV) are still being considered for these portfolios and have ranked higher than most in the previous articles.
Why is NAV per share growth important?
The table below shows the cumulative NAV per share growth for each BDC grouped into higher vs. lower dividend yields. Higher yield BDCs have lower amounts of NAV per share growth for many reasons including paying higher distributions to shareholders such as MCC, Full Circle Capital (NASDAQ:FULL), Prospect Capital (NASDAQ:PSEC), KCAP Financial (NASDAQ:KCAP), Fifth Street Finance (NASDAQ:FSC) and TICC Capital (NASDAQ:TICC).
The following chart shows stock prices for some of the higher yielding BDCs compared to ones with higher NAV growth rates over the last two years. Obviously BDCs such as MAIN, TCAP and HTGC, with higher amounts of historical NAV per share growth perform much better with 40% to 50% stock price appreciation since early 2012 and is why investor should consider all types of return. During the same period, higher yield BDCs such as FSC, TICC and PSEC were either breakeven or had declining stock prices. I have included GLAD in this chart because it is a recent example of how NAV appreciation from an undervalued portfolio can benefit investors. The company has had much higher amounts of NAV growth over the last 12 months and its stock price appreciation has reflected these changes. KCAP and MCG Capital (NASDAQ:MCGC) also have undervalued portfolios that do not seem to improve and might imply that there is a problem with underwriting or origination standards.
Projected Total Returns
The following table combines the current regular dividend yield with the projected dividend growth (from Part 5) and special dividends (from Part 6) along with NAV per share growth (from Part 4). However for this analysis I have assumed that the BDCs with declining NAV per share find a way to stabilize and at least maintain 0% growth and BDCs with positive growth over the last 12 months I have discounted by 50% and assume that they continue to grow at least half the rate of the last 12 months (shown in the 'actual' column). When considering the potential for dividend cuts I assumed that FULL, MCGC and BlackRock Kelso Capital (NASDAQ:BKCC) which are the only three BDCs that have cut dividends this year are able to cover dividend in the future. I have also assumed that Solar Senior Capital (NASDAQ:SUNS) will be able to cover dividends without the need to cut.
Most BDCs should have returns between 8% to 14% to investors over the next 12 months, with lower risk BDCs such as SUNS, Golub Capital BDC (NASDAQ:GBDC) and PennantPark Floating Rate Capital (NASDAQ:PFLT) near the lower end of the range. These three BDCs have the lowest stated portfolio yields of the 26 that I cover due to having higher quality portfolio investments. Investors should expect higher returns for higher amounts of risk and I will cover this in more detail in the remaining articles in this series. BDCs with lower projected returns and average or higher amounts of risk such as MCGC, Horizon Technology Finance (NASDAQ:HRZN) and Solar Capital (NASDAQ:SLRC) will not be considered for these portfolios.
Also in the remaining articles I will come up with risk adjusted expected returns and apply it to relative valuations for each company to identify which BDCs should be included in my risk averse total return portfolio and a portfolio with higher amounts of risk but higher potential returns. Investors should only use this information as a starting point for due diligence and please see my frequently updated "Index to BDC Articles" for more information.
Disclosure: The author is long ARCC, FSC, FSIC, GBDC, HTGC, MAIN, NMFC, PFLT, PNNT, PSEC, TCPC. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.