CSWC - NASDAQ

Thank you for joining today's Capital Southwest Second Quarter Fiscal Year 2023 Earnings Call. Participating on the call today are Bowen Diehl CEO; Michael Sarner, CFO; and Chris Rehberger, VP, Finance. I will now turn the call over to Chris Rehberger.

Thank you. I'd like to remind everyone that in the course of this call, we will be making certain forward-looking statements. These statements are based on current conditions, currently available information and management's expectations, assumptions and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties and assumptions that could cause actual results to differ materially from such statements. For information concerning these risks and uncertainties, see Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events, changing circumstances or any other reason after the date of this press release, except as required by law. I will now hand the call off to our President and Chief Executive Officer, Bowen Diehl.

Thanks, Chris, and thank you to everyone for joining us for our second quarter fiscal year 2023 earnings call. We are pleased to be with you this morning and look forward to giving you an update on the performance of our company and our portfolio as we continue to diligently execute our investment strategy and stewards of your capital. Throughout our prepared remarks, we will refer to various slides in our earnings presentation, which can be found on our website at www.capitalsouthwest.com. You will also find our quarterly earnings press release issued last evening on our website. We'll begin on Slide 6 of the earnings presentation, where we have summarized some of the key performance highlights for the quarter. During the quarter, we generated pretax net investment income of $0.54 per share, which represented 20% growth over the $0.45 per share generated a year ago in the September quarter. The $0.54 per share more than earned our regular dividend paid during the quarter of $0.50 per share. As previously announced, our Board has declared a $0.02 per share increase in our regular dividend of $0.52 per share for the quarter ending December 31, 2022. This increase represents 4% growth over the $0.50 per share paid in the September quarter and 11% growth over the $0.47 per share paid a year ago in the December quarter. These increases on our regular dividend are a result of the increased fundamental earnings power of our portfolio given its growth and performance as well as improvements in our operating leverage. In addition, given the Federal Reserve's aggressive interest rate increases and the resulting excess earnings being generated by our floating debt portfolio, our Board of Directors has also declared a supplemental dividend of $0.05 per share for the December quarter, bringing total dividends declared for the December quarter to $0.57 per share. While future dividend declarations are at the discretion of our Board of Directors, it is our intent and expectation that Capital Southwest will distribute supplemental dividends for the foreseeable future, while base rates remain materially above long-term historical averages. Finally, I should note that as we have done in the past, we intend to also distribute supplemental dividends as we harvest realized gains from our equity co-investment portfolio. During the quarter, acquisition and financing activity in the lower middle market continued to be strong. Portfolio growth during the quarter was driven by $86 million in new commitments, consisting of commitments to 5 new portfolio companies totaling $67 million and add-on commitments to 5 existing portfolio companies totaled at $19 million. This was offset by $14 million in proceeds from 2 debt prepayments and more debt sale during the quarter. On the capitalization front, we raised $26.9 million of equity through our ATM program at an average price of $19.48 per share, representing an average of 118% of a prevailing net asset value per share. Our liquidity remains robust with approximately $170 million in cash and undrawn capital commitments as of the end of the quarter. We have remained diligent in funding a meaningful portion of our investment asset growth with accretive equity issuances on our ATM -- equity ATM program. As we think it is critical, we maintain a conservative mindset to BDC leverage given the uncertainty in the economy. Overall, we are pleased with the strength of our balance sheet with regulatory leverage of 1.1:1, a significant liquidity position, as well as the fact that almost half of our balance sheet liabilities are in fixed rate unsecured bonds and our earliest debt maturity until 2026. On Slide 7 and 8, we illustrated our continued track record of producing strong dividend growth, consistent dividend coverage and solid value creation since the launch of our credit strategy back in January of 2015. Since that time, we have increased our regular dividend paid to shareholders 24x and have never cut the regular dividend, including during the tumultuous environment we all experienced during the COVID pandemic. Additionally, over the same time period, we have paid or declared 18 special or supplemental dividends totaling $3.61 per share generated from excess earnings and realized gains from our investment portfolio. We believe our track record of consistently growing our dividend, the solid performance of our portfolio as well as our company's sustained access to capital markets has demonstrated the strength of our investment and capitalization management strategies as well as the absolute alignment of our -- all our decisions with the interest of our shareholders. Continuing to generate the strong track record is critically important to us as long-term shareholder value creation through the maintenance and growth of both dividends and NAV per share are a top priority for our company. Turning to Slide 9. Our investment strategy has laid out for our shareholders at its launch back in January of 2015 has changed. The vast majority of our activity has been in our core lower middle market, where we are the first lien senior secured lender, most often backing a private equity firm's acquisition of a growing lower middle market company. We also often participate on a minority basis in the equity of the company through an equity co-investment made alongside the private equity firm. In fact, 90% of our credit portfolio is backed by private equity firms, which provide important guidance and leadership of the portfolio companies as well as the potential new capital support if needed. Our lower middle market strategy is complemented by club participation in slightly larger companies led by like-minded lenders with which we have worked well across multiple deals. Virtually, all of these club deals are also backed by private equity firms. As of the end of the quarter, our equity co-investment portfolio consisted of 46 investments with a total fair value of $102.6 million, which included $38.6 million in embedded unrealized or approximately $1.34 per share. Our equity portfolio, which represented approximately 10% of our total portfolio at fair value as of the end of the quarter, continues to provide our shareholders participation in the attractive upside potential of these growing lower middle market businesses, which will come in the form of NAV per share growth and supplemental dividends paid over time. As illustrated on Slide 10, our on-balance sheet credit portfolio as of the end of the quarter, excluding our I-45 senior loan fund, grew 4% to $930 million as compared to $865 million as of the end of the prior quarter. Over the past year, our credit portfolio has grown by $214 million or 31% from $689 million as of the end of the September 2021 quarter. For the current quarter, 95% of new portfolio company debt originations were first lien senior secured debt and as of the end of the quarter, 94% of our total credit portfolio was first lien senior secured. On Slide 11, we detailed the $86 million of capital invested in and committed to portfolio companies during the quarter. Capital committed this quarter included $64 million in first lien senior secured debt and $3 million in second lien senior secured debt to 5 new portfolio companies. Additionally, we committed $18 million in first lien senior secured debt of 5 existing portfolio companies and $816,000 in equity co-investments to 2 existing portfolio companies. Turning to Slide 12. We continued our track record of successful exits with 2 debt prepayments and 1 debt sale during the quarter. In total, these exits generated approximately $14 million in total proceeds, generating a weighted average IRR of 10.1%. Since the launch of our credit strategy, we have realized 16 portfolio -- 66 portfolio exits, representing $716 million in proceeds -- $763 million of proceeds that have generated a cumulative weighted average IRR of 14.7%. The market for acquisition capital continues to be active. Not surprisingly, we have also seen a slowdown in refinancing activity. As a result, we would expect continued solid net portfolio growth in the near term. The activity in our investment pipeline is strong in terms of both volume and breadth of deal sources. We are pleased with the strong market position our team has established in the lower middle market as a premier debt and equity capital partner as evidenced by the broad array of relationships across the country, from which our team is sourcing quality opportunities. In terms of deal origination, we find that underwriting certain industries is more challenging given today's economic uncertainty. However, for 8 years now, an important component of our underwriting has always been to run a stress case downside model for every new deal, simulating an extreme recession occurring soon after closing. So in many respects, our underwriting in the current environment hasn't changed, although our models today include much higher base rates than we have experienced historically. We continue to tie the leverage level we are willing to put on a company to the potential performance volatility of a particular business and the industry throughout the economic cycle. Performance across different industries can be very different through the economic cycle. So getting this right is an important component of the underwriting process. Specifically, we require a fundamental underwriting standard that we see our loan remain well within the portfolio company's enterprise value and our interest being paid through the cycle in a stress case financial model. On Slide 13, we detail some key stats for our on-balance sheet portfolio as of the end of the quarter, again, excluding our I-45 Senior Loan Fund. As of the end of the quarter, the total portfolio at fair value was weighted approximately 85% first lien senior secured debt, 5% of second lien senior secured debt and 10% to equity co-investments. The credit portfolio had a weighted average yield of 10.6% and weighted average leverage through our securities of 4.1x. Turning to Slide 14. We have laid out the rating migration within our portfolio for the quarter. During the quarter, we upgraded 6 loans with a total fair value of $37.9 million and downgraded 3 loans with a total fair value of $18.3 million. As a reminder, all loans are initially signed an investment rating of 2 on a 4-point scale, with 1 being the highest rating and 4 being the lowest rating. We feel very good about the performance of our portfolio with 97% of the portfolio at fair value rated in 1 of the top 2 categories, 1 or 2. As illustrated on Slide 15, our total investment portfolio, including our I-45 Senior Loan Fund, continues to be well diversified across industries with an asset mix, which provides strong security for our shareholders' capital. The portfolio remains heavily weighted towards first lien senior secured debt, with only 5% of the portfolio in second lien senior secured debt. I will now hand the call over to Michael to review more specifics of our financial performance for the quarter.

Thanks, Bowen. Specific to our performance for the September quarter, as summarized on Slide 17, we earned pretax net investment income of $15 million or $0.54 per share. We paid out $0.50 per share in regular dividends. As mentioned earlier, our Board has approved an increase to the regular dividend for the December quarter to $0.52 per share and declared a $0.05 per share supplemental dividend per share for the December quarter. . Maintaining a consistent track record of meaningfully covering our dividend with pretax net investment income is important to our investment strategy. We continue our strong track record of regular dividend coverage with 106% for the last 12 months ended September 30, 2022 and 107% cumulative since the launch of our credit strategy in January 2015. Given the floating rate nature of our credit portfolio, rising interest rates continue to be a significant tailwind to our net investment income. The base rate index used to calculate interest on a majority of our loans reset in early October to 3.75%, up from this early July, which reset at 2.29%. This significant increase quarter-over-quarter will provide another immediate step-up in portfolio income in the December quarter. With that as context, we will continue to execute our policy of having regular dividends follow the trajectory of recurring pretax NII per share. As such, we will thoughtfully grow our regular dividend to a level, which can be sustained should interest rates decrease to a neutral level. In addition, while interest rates remain elevated, our intent is to distribute excess pretax NII to our shareholders each quarter through supplemental dividends. As in the past, it is also our intent to distribute future additional supplemental dividends as we've realized gains in our equity portfolio. Based upon the interest rate environment and the continued strong performance of our equity portfolio, we expect to continue to distribute quarterly supplemental dividends for the foreseeable future. For the quarter, our investment portfolio generated total investment income of $26.8 million, producing a weighted average yield on all investments of 10.3%. Total investment income was $4.3 million higher this quarter due to our higher average balance of credit investments outstanding, in addition to the tailwind provided from a significant increase in LIBOR and SOFR base rates. As of the end of the quarter, we had approximately $9 million of our investments on nonaccrual, representing 0.9% of our investment portfolio at fair value. Finally, as of the end of the quarter, the weighted average yield on our loan portfolio was 10.6% for the quarter. As seen on Slide 18, we further improved LTM operating leverage to 2% as of the end of the quarter. Achieving 2% or lower operating leverage was one of our initial long-term goals when we relaunched the CSWC as a middle market lender back in 2015. Though we are pleased to have reached this milestone, looking ahead, we expect to experience continued operating leverage efficiencies due to our internally managed structure. Turning to Slide 19. The company's NAV per share at the end of the September quarter decreased by $0.01 per share to $16.53. The primary driver of the NAV per share decrease for the quarter was $8.4 million of unrealized on the on-balance sheet debt portfolio, partially offset by $4.2 million of net appreciation on the equity portfolio. Additionally, there was approximately $800,000 of depreciation at I-45, most of which was mark-to-market quote activity in the syndicated market. We also generated $0.13 per share of accretion from the issuance of common stock at a premium to NAV per share under our equity ATM program. Despite the sustained volatility in the equity markets, we are pleased to have had the ability to continually raise equity above NAV per share through the equity ATM program. Turning to Slide 20. As Bowen mentioned earlier, we are pleased to report that our balance sheet liquidity continues to be strong, with approximately $170 million in cash and undrawn leverage commitments as of the end of the quarter. Based on our borrowing basis at the end of the quarter, we have full access to the incremental revolver capacity, and we'll look to opportunistically increase commitment to the facility in the near term. Our bank syndicate continues to support our growth, and we are pleased with the flexibility the revolving credit facility provides to our capital structure. In addition, we have submitted a new leverage commitment application to the FDA to obtain an additional $50 million in debentures, which we expect to receive in the coming weeks. We continue to see strong origination volume in SBIC eligible investments and will opportunistically invest given the lower cost nature of the SBIC debentures. As of September 30, 2022, approximately 47% of our capital structure liabilities were unsecured, and our earliest debt maturity is in January 2026. Our regulatory leverage, as seen on Slide 21, ended the quarter at a debt-to-equity ratio of 1.11:1, down from 1.23:1 as of the December 2021 quarter. Over the past year, we have made a concerted effort to strengthen our balance sheet to ensure we are prepared for any macroeconomic headwinds that we may encounter. These efforts have included our opportunistic unsecured bond issuances at record low rates in late calendar year 2021, our continued support from banking relationships, which have allowed for steady growth in our revolver facility commitments and our continued diligence in moderating leverage through accretive share issuances on our equity ATM program. We will continue to work towards strengthening the balance sheet, ensuring adequate liquidity and maintaining conservative leverage and covenant cushions throughout the economic cycle. I will now hand the call back to Bowen for some final comments.

Thanks, Michael. And thank you, everyone, for joining us today. We appreciate the opportunity to provide you an update on our business and progress executing our strategy as stewards of our stakeholders' capital. Our company and portfolio continued to perform well. I continue to be impressed by the job our team has done in building a robust asset base deal origination capability as well as flexible capital structure. As to the uncertainty in the economy, again, we have been underwriting with a full economic cycle mentality since day 1, which we believe has positioned us well for the potential economic volatility in the coming months and years. In summary, we have a credit portfolio heavily weighted to first lien senior secured debt allocated across a broader array of companies and industries, 90% of which is backed by private equity firms. We believe our first lien senior secured debt strategy is working, and we feel very good about the health and positioning our company and portfolio. Finally, we continue to believe that our performance demonstrates the investment acumen and capital structure management capability of our team at Capital Southwest, and we are excited to continue to execute our investment strategy as stewards of our stakeholders' capital. This concludes our prepared remarks. Operator, we are ready to open the line for Q&A.

[Operator Instructions]. Our first question will come from the line of Kevin Fultz from JMP Securities.

My first question is on portfolio company interest coverage. Clearly, the Fed has hiked rates more aggressively than we anticipated 6 months ago. And I'm just curious if you could share your thoughts on the potential impact that the forward LIBOR or SOFR curve could have a potential -- sorry, on portfolio company interest coverage?

Yes. Thanks for the question. As we did -- I think I mentioned in the last couple of quarterly calls, we look at a fixed charge coverage analysis of our portfolio. We basically take the company's performance and compare it to the current base rate, interest coverage and then we take that model and we sensitize it by increasing the base rates to simulate the increases and see when we start getting a number of companies kind of in the red zone on just a pure static fixed charge coverage ratio calculation, which -- and I would tell you that when that base rate gets to 5.5%, there's a handful of companies that are definitely in the red zone. Now when I look at that, half of those companies are -- most of them are private equity firm owned, virtually all of them are private equity firm owned. But if I look about half of those companies have a lot of equity value below our debt and a private equity firm that's well funded that owns the company. So there's no chance in my view that, that private equity firm is going to let that company go based on missing an interest payment. And so I would expect -- we haven't gotten these calls yet, but if I was a private equity firm, I might call us and say, why don't we take 2% of your cash interest and we'll pay you a 3% . That's a great trade for us in a scenario. It gives the company some relief and it accumulates a higher return for us for an interim period of time. And again, if there's a lot of equity value below you and a private equity firm owning the business, that would be a business trade, I think that anyone on this phone would want us to make. So I feel pretty good. I mean I clearly at 5.5% and up. And if you probably hear that one of the BDCs, it starts to get tight. But again, where I get comfort is the leverage levels of our portfolio companies and the fact that 90% of them are owned by private equity firms that are thinking about that exact same thing. So -- and they're pretty smart bunch. And so I feel pretty good as the lender sitting back that our shareholders will be in great shape through that.

Okay. That's really helpful, Bowen. And then just one more, if I may. The total PIK income increased to 5.9% of total interest income this quarter, which is up from 3.6% in the June quarter. Can you just discuss what drove that increase, whether that was amendment-driven or if you originated new investments that were structured with the PIK component?

Yes. So that's -- most of that -- really, that increase is essentially 2 companies. One is a company that we restructured this quarter. It was a nonaccrual last quarter. Sponsor put a significant amount of money in the business and we agreed to -- the lender group agreed to PIK the interest for a couple of quarters out of that restructuring. And then the other one was also a sponsor-owned business that made an acquisition that's been kind of challenging. So they asked us to PIK a portion of interest, while they get that acquisition figured out. So a little bit idiosyncratic and that's kind of part of our business, but that was the increase quarter-over-quarter.

[Operator Instructions]. Our next question comes from Mike Schleien from Landenburg.

Bowen, I appreciate your comments on how you approach underwriting. I suppose what I'd like to ask is that what changed recently in the third quarter is that EBITDA, generally speaking, in the middle market turned negative in terms of year-over-year changes. And that includes health care, which is a major focus for you and a lot of BDCs. So with that in mind, notwithstanding the fact that you're underwriting to the downside, in the health care sector, does that affect the sorts of companies you're willing to fund given where we are in the cycle today?

Yes, a couple of comments. First of all, thanks for the question. Health care space has got its own kind of risk that aren't necessarily economic risk, of course, and a lot of those come around regulatory changes and reimbursement rate changes. And so those are kind of the 2 significant you got to kind of tiptoe around in underwriting in the health care space. I would say -- essentially, when we look at our portfolio and we look at the 97% of the performing portfolio. So it's the 1s and the 2s. And then normalize out a couple of companies that have done extreme -- a large number of acquisitions for the quarter, so it skews up their numbers of growth. And when we look at our weighted average revenue across the portfolio weighted average EBITDA growth across the portfolio. And on a weighted average basis, our portfolio revenue growth was about 4%, and our portfolio EBITDA growth is about 0.5%, 50 basis points. And so -- and both of those numbers are down slightly from last quarter. So maybe that's indicator of a slowing economy, maybe it's not. But from a lender perspective, we feel like those are pretty strong stats. We have our handful of kind of challenged credits, which lenders like us always have a handful and it's how you manage those. But if you look at 97% of our portfolios, I mean, granted that -- those are financials that are a month old, right, a month or 2 old, because that's the way the valuations in the quarters end, but we feel like it's hanging in there pretty well.

I appreciate that explanation, Bowen. And switching to the syndicated loan market and the senior loan fund. We've obviously seen a lot of volatility there. There was sort of a head fake during the quarter and then prices weakened as the quarter finished. And importantly, there's a lot of dispersion in pricing and distress ratios have really climbed. So as managers of that portfolio, do you -- are you in a position to take advantage of that volatility in terms of credits that look mispriced to you? Perhaps you can take advantage of the pull-to-par effect? Or are you concerned about -- so concerned about the economic outlook that you prefer to sort of stand on the sidelines and see how things play out?

It's an interesting question. I mean the vast majority of what we do is lead deals in the lower middle market, and our returns are very attractive there. On the syndicated side, you see we really haven't done any new activity in the syndicated book. As far as having the ability, if there are some large discrepancies and pricing value, yes, between us and Main Street, we certainly have the ability to take advantage of that. That said, we haven't really seen it enough yet. The challenge with the syndicated credit is you just have really imperfect information. You're a small piece of a large loan, kind of just along with the crowd. And if you're wrong, it's lender committees and consultants, and it's really hard to make -- you don't get to make decisions on restructuring or managing like we do in the lower middle market. So it's just a different world. And so we haven't spent a lot of time, Mickey, to be honest, on let's go find a list of syndicated names and let's load up on them. I'm sure if it got really extreme. We certainly have the touch points. We certainly have the capital Main Street -- certainly have the capital to take advantage of it, but we just haven't -- we haven't spent a lot of time on it, and it's not a top priority to us because of the opportunities that we're seeing and the performance and steady performance of the lower middle market. So it's not something -- never say never. It may be something if it gets extreme, and we might pick off a couple of names here and there, but it's not really going to be a primary focus for us.

And we've also seen either on-balance sheet or with I-45, just the mark-to-market volatility, as you noted earlier, Mickey, which from an earnings perspective and sort of managing the ship, that's probably a little less stable, certainly less stable than having lower middle-market companies that have more stable valuations.

If it got extreme and you're buying loans very, very cheap, it would be tempting. But it's not a priority for us.

I understand. Bowen, my last question, we're all talking about rising interest rates, but the forward actually has rates starting to go down later next year. So I'd like to understand what kind of floor rates you're negotiating today? And what I'm really thinking about is the long-term sort of recurring earnings power of the portfolio as rates start to go down perhaps a year from now?

Yes. So thanks for the question. A couple of things. Michael commented in his prepared remarks. We're increasing our regular dividend along the trajectory of our NII, but we're keeping it muted to a level that would be sustained or covered with earnings NII if rates went back down to more normal levels. And so that's how we think about it because you're right. On the back end of the recession, rates will come back down, we believe back down to more neutral levels. On the floor side, we have started to -- on all our deals. We started to ask for a 2% floor. We used to be 1%. Now it's 2%. And so far, we're not getting a lot of pushback. So I feel pretty good about that. We'll see as time goes on. But we are asking for our base case term sheet is going to be -- it has 2% floors on it.

[Operator Instructions]. Our next question will come from the line of Kyle Joseph from Jefferies.

Congrats on an excellent quarter. Just start -- in terms of nonaccruals, just help us kind of reconcile what -- obviously, they went down in the quarter. I think you highlighted, you restructured one of the investments. But just give us a sense for the inflows and outflows there and how we can reconcile that with the realized loss and the unrealized in the quarter?

Sure. Yes. We had 2 nonaccruals roll off, and we had 2 nonaccruals roll on. And both -- in both cases, there were more regulatory and customer related as opposed to any kind of economic thing.

All right. And then transition to the origination side. It sounds like you guys still have a decent pipeline despite macroeconomic activity. Can you just give a sense for, a, behavior of other originators, have you seen some players have to pull back because of either leverage or economic concerns and then give us a sense for what kind of spreads you're seeing on the lower middle market deals you guys are leading?

Yes, sure. Good question. I'd say all those questions and the inherent answers are all . But I would tell you that I think spreads across the market have increased 25 to 50 basis points. I -- we think there are some lenders that have been pulling back either from a funding perspective or otherwise. But the market is still pretty robust. I mean the lenders are there. We've lost a couple of deals in the last month on pricing and leverage, 2 or 3 deals on pricing and leverage. In other words, our pricing is a little high and our leverage is a little bit low versus what someone else is willing to give. And so that's kind of normal, and we haven't seen -- I'd love to see spreads widen 100 basis points and not see lenders out there being extremely aggressive. And then we -- maybe we could -- that would be helpful to us, but there's definitely competition out there for sure.

[Operator Instructions]. Our next question will come from the line of Robert Dodd from Raymond James.

Back to the interest coverage, if I can. I mean, Bowen, you seem to say that you haven't got a lot of incoming amendment requests for [indiscernible] or anything like that. I mean, obviously, my question, Michael, the index has gone from 229 to 375 if we go forward and look at those. So that's 150 basis points in 3 months for these buyers. The forward curve says maybe the next reset would be up another 100. At what point do you think those amendment request calls actually start to come in? I mean, obviously, the curve doesn't quite hit the 550 kind of flip point that you were talking about, but it is rising, and you're not the only one so far that said you just so far not getting the amendment call. So when do those start do you think, if at all?

Yes. No, it's an interesting question. I mean, now I'm going to speculate, right? I mean if you look at our analysis that I mentioned earlier, we have -- at 5.5%, you start having a handful of companies that it's pretty tough, right? And so -- but right now, our weighted average interest coverage in our portfolio is 2.25% to 2.5% kind of in that range. So as a portfolio, a company can handle a lot more base rate increase than any of us expect to see. However, at the margin, some of the companies get pretty tight, like 5.5%. And so my guess is around 5% to 5.5% base rates, we'll start getting those phone calls. I mean these are private equity firms. They're going to be thoughtful about that request. They're going to -- they're not going to make that phone call until they have to. And so that's -- rather just debt on top of debt, it's -- they make the interest payment and effectively kind of reduces the interest burden versus what it would be if they continue to PIK . So I think they'll be thoughtful in making those calls. But I would imagine if we see something 5% to 5.5% base rates, I think we'll start -- I think we and the industry will start getting some of those phone calls.

Understood. I don't think we necessarily go [indiscernible] maybe it doesn't happen at all. On the robustness in the competitive market right now. I mean, you highlight -- I mean you lost a couple of deals. Was there anything -- could you -- any particular areas in the market where that robustness is concentrated? Is it still business services and recurring revenue, most likely? Or is the market diverging a little bit, where some types of deals maybe are being left out of that robust competition? Any color there?

Yes, I would say like this. It's a little bit of a barbell. So you've got high-quality credits that are going to be high margin, service-based businesses and some critical service that you get comfortable is not going to get hit hugely in a recession the loan to value. So the portfolio -- the debt that's being requested for the deal is a 30% to 40% loan-to-value, strong margins, not significant CapEx or working capital burden, those type deals. There's a lot of competition for those. We obviously like those 2. And so there may be less -- people say there are less lenders in the market, maybe. I mean, we don't really get a feed in the lower middle market of how many lenders are out there, how many aren't. We just get very indirect kind of sense. But there is competition for that higher quality credit deal and then the [indiscernible] credits, there's much less competition. So if you're going to take some risk a bit on some story up with an operationally focused private equity firm that's going to do a significant amount of surgery on that company's operations, et cetera. It's a little riskier. In this market, you're going to get paid for that risk. So -- I would say and the amount you pay for that risk incrementally is higher in this market than it would have been 6 or 12 months ago.

Got it. Understood. And then one more, if I can. On -- you mentioned 2 new nonaccruals. On the sponsors, and obviously, I know this is all confidential. But on the sponsor side for those 2, I mean, you mentioned -- I mean, sponsors aren't going to walk away from a good business just as interest rates go up. They might eventually if a business is broken. I'm not saying that's the pace in your situation, right? But there's a difference between sponsor appetite to to a rate cycle, I would imagine, versus complete business and rebuild cycle in some cases. But for these 2 nonaccruals, I mean, has the sponsor stepped up? Have they put in more capital? Are they working through that? Or can you give us any careful color on that front?

Yes, sure. Both sponsor deals, sponsors are supporting both of them. There are situations where the business models have changed slightly. So we'll probably be negotiating a portion of our debt and an equity interest in the business going forward, which is good for us because that will give us the upside as the business recovers. So that's kind of part of kind of how our market works. And the sponsors will support the business. And we may, if the company needs to provide additional support as well, but they're both sponsored by funded sponsors with capital.

And I would now like to turn the conference back over to Bowen for any closing remarks.

Thanks, everyone. We appreciate the opportunity, as always, to give you an update on the business. Interesting times out there, and these are really good questions. We appreciate them. So thanks for your all time, and we look forward to giving you future updates in the future.