There are multiple metrics that have strong influences on valuations - (1) Dividend coverage ratios; (2) PWAYs (portfolio weighted average yields); (3) NAV trends and (4) NII/TII (net investment income to total investment income) ratios (the higher the ratio - the better). There are BDCs with good dividend coverage and bad NII/TII ratios. The same is true with the other metrics. As a result, when the data is parsed by one metric - there is always going to be noise caused by the other metrics. Despite that obstacle, when you have a strong influence, you will see it in the data.
The data that shows that expense ratios (or NII/TII ratios) matter:
The Correlation Between NII/TII Ratios and Price/NAV Ratios and weeding out FULL, KCAP, OHAI, SAR, MFIN and TICC
The following had LTM NII/TII Ratios over 60%: ACSF, BKCC, GSBD, MAIN and SUNS. Their mean price to NAV (when price equals NAV, the ratio equals 100%) is 110.03%. Their mean P/E is 10.80.
The following had LTM NII/TII Ratios between 53% and 60%: ABDC, CMFN, GARS, NMFC, PFLT, TCAP, TCPC, TCRD, TPVG and TSLX. Their mean price to NAV ratio is 97.28%. Their mean P/E is 9.23.
The following had LTM NII/TII Ratios between 50% and 53%: AINV, FSIC, GLAD, HTGC, MRCC, PNNT and SLRC. Their mean price to NAV ratio is 101.86%. Their mean P/E is 9.49.
The following had LTM NII/TII Ratios between 46% and 50%: ARCC, FDUS, FSFR, GBDC, HCAP, HRZN, OFS, PSEC and WHF. Their mean price to NAV ratio is 93.41%. Their mean P/E is 9.83.
The following had LTM NII/TII Ratios under 46%: CPTA, FSC, GAIN, MCC and SCM. Their mean price to NAV ratio is 80.98%. Their mean P/E is 8.52.
The work I have done on the "liability story" metrics shines some needed light on the importance of the "interest expense to TII ratio". Those BDCs with the better interest expense to TII ratios strongly tend to have better NII/TII ratios. The data above provide evidence that the NII/TII is important - therefore the interest expense to TII ratio is important. The data:
Interest Expense to TII compared to NII/TII Ratios
Company | Int Exp | TII | Int Exp/TII Ratio | NII/TII Ratio | |
Alcentra Capital Corporation | (ABDC) | 1.335 | 10.640 | 12.55% | 55.44% |
American Capital Senior Floating | (ACSF) | 0.640 | 4.272 | 14.98% | 69.48% |
Apollo Investment Corporation | (AINV) | 16.793 | 76.469 | 21.96% | 47.16% |
Ares Capital Corporation | (ARCC) | 45.334 | 245.262 | 18.48% | 42.92% |
BlackRock Capital Investment | (BKCC) | 4.154 | 33.429 | 12.43% | 64.64% |
CM Finance Inc | (CMFN) | 1.377 | 7.815 | 17.62% | 53.78% |
Capitala Finance Corp. | (CPTA) | 5.029 | 16.991 | 29.60% | 43.74% |
Fidus Investment Corporation | (FDUS) | 2.654 | 13.832 | 19.19% | 35.73% |
Fifth Street Finance Corp. | (FSC) | 13.149 | 64.026 | 20.54% | 45.45% |
Fifth Street Senior Floating Rate | (FSFR) | 2.437 | 13.114 | 18.58% | 47.01% |
Franklin Square Investment Corp | (FSIC) | 18.064 | 110.211 | 16.39% | 51.58% |
Full Circle Capital Corporation | (FULL) | 0.740 | 3.700 | 20.00% | 48.60% |
Gladstone Investment Corporation | (GAIN) | 0.971 | 14.393 | 6.75% | 45.80% |
Garrison Capital Inc. | (GARS) | 2.078 | 11.137 | 18.66% | 51.63% |
Golub Capital BDC, Inc. | (GBDC) | 2.186 | 32.106 | 6.81% | 49.49% |
Gladstone Capital Corporation | (GLAD) | 1.677 | 9.844 | 17.04% | 49.85% |
Goldman Sachs BDC | (GSBD) | 3.246 | 29.321 | 11.07% | 62.07% |
Harvest Capital Credit | (HCAP) | 0.963 | 4.729 | 20.36% | 43.75% |
Horizon Technology Finance Corp | (HRZN) | 1.521 | 9.092 | 16.73% | 49.62% |
Hercules Capital | (HTGC) | 8.850 | 43.538 | 20.33% | 53.64% |
KCAP Financial,Inc. | (KCAP) | 2.265 | 9.579 | 23.65% | 53.32% |
Main Street Capital Corporation | (MAIN) | 8.255 | 42.902 | 19.24% | 64.45% |
Medley Capital Corporation | (MCC) | 7.680 | 27.440 | 27.99% | 38.55% |
Monroe Capital Corporation | (MRCC) | 1.773 | 11.118 | 15.95% | 51.80% |
New Mountain Finance Corporation | (NMFC) | 6.771 | 41.490 | 16.32% | 52.62% |
OFS Capital Corporation | (OFS) | 1.308 | 7.683 | 17.02% | 45.00% |
Oak Hill Advisors | (OHAI) | 0.975 | 4.373 | 22.30% | 41.97% |
Prospect Capital Corporation | (PSEC) | 41.838 | 193.038 | 21.67% | 47.32% |
PennantPark Floating Rate Capital | (PFLT) | 1.276 | 10.803 | 11.81% | 63.23% |
PennantPark Investment Corp | (PNNT) | 7.005 | 35.540 | 19.71% | 50.07% |
Saratoga Investment Corp. | (SAR) | 2.368 | 7.908 | 29.94% | 32.11% |
Stellus Capital Investment | (SCM) | 2.015 | 9.375 | 21.49% | 40.99% |
Solar Capital Ltd. | (SLRC) | 5.543 | 41.369 | 13.40% | 47.21% |
Solar Senior Capital Ltd. | (SUNS) | 0.913 | 6.681 | 13.67% | 60.85% |
Medallion Financial Corp. | (MFIN) | 3.368 | 15.676 | 21.49% | 60.06% |
Triangle Capital Corp | (TCAP) | 6.764 | 28.422 | 23.80% | 57.48% |
TCP Capital Corp. | (TCPC) | 5.834 | 35.595 | 16.39% | 52.00% |
THL Credit, Inc. | (TCRD) | 3.873 | 20.480 | 18.91% | 56.95% |
TICC Capital Corp. | (TICC) | 1.903 | 17.047 | 11.16% | 39.88% |
TriplePoint Venture Growth | (TPVG) | 1.903 | 9.405 | 20.23% | 52.72% |
TPG Specialty Lending | (TSLX) | 5.630 | 46.034 | 12.23% | 55.40% |
WhiteHorse Finance | (WHF) | 1.951 | 13.050 | 14.95% | 49.24% |
Averages for full group | 17.94% | 50.59% | |||
Averages for interest expense under 18% | 13.76% | 53.45% | |||
Averages for interest expense over 18% | 21.73% | 47.98% |
I still have work to do one this. I suspect that PWAY has an influence on these metrics. Low PWAY stocks tend to borrow at lower rates and have lower leverage. Leverage should also have an influence on its own - and I do not have that metric in my javascript. The Annualized Interest expense to Debt ratio should have an influence - and I do not have that newly created data in my javascript.
And - there are weird outliers out there that mess with the data. For example. Solar Capital or SLRC has been a good BDC lately. Dividend coverage is great. The LTM NAV trend is much better than average. Price appreciation has been strong (probably too strong given the yield). Its leverage is going up and its 'percentage' interest expense (or annualized interest expense to debt ratio) is going down. All things being equal, I would have thought that rising leverage would add to both the interest expense and the interest expense percentage. But SLRC is adding lower cost debt - and good things are happening. SRLC started with a low debt ratio.
Stellus Capital Investment Corporation or SCM is adding leverage and bad things are happening. SCM almost has dividend coverage and it LTM NAV is slightly better than sector average. SCM is also doing better than sector average on price appreciation. But . . the SCM debt/NAV ratio is getting ugly (120%). The NII/TII ratio is getting uglier (41%) as the interest expense to TII ratio rises. SCM has added debt and the annualized interest expense to debt ratio appears to be slightly rising. SCM started with an average debt ratio.
NMFC and GSBD have added debt at the end of this quarter. NMFC started with an average debt ratio while GSBD started with a slightly below average debt ratio. GSBD added $100 million of 4.5% debt. NMFC added $35 million of 5% debt. There are differences - but are they differences that matter? I have some expectation that as I keep on tracking these metrics, I will one day have an answer.
GSBD started with an annualized interest expense to debt ratio of 2.77% while NMFC started with a ratio of 3.83%. GSBD should have the larger increase in expenses. THAT should be the thing that matters most. But, NMFC is shifting more towards second lien debt from first lien debt. If 18 months down the line the non-accruals are up for NMFC - that THAT will be the thing that matters most.
The more due diligence I do (to some degree) the more confused and complicated things get. That is the bad news. At the same time, the more due diligence I do, the more I realize investing is playing a game of falling dominoes. Given attributes lead to expected outcomes. You need to start with good attributes to arrive at good outcomes. The more due diligence I do, the clearer the picture becomes as to which attributes are "good".