TSLX - NYSE

Good day, and thank you for standing by. Welcome to the Sixth Street Specialty Lending, Inc. Q1 2024 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker, Cami VanHorn, Head of Investor Relations. Please go ahead.

Thank you. Before we begin today's call, I would like to remind our listeners that remarks made during the call may contain forward-looking statements. Statements other than statements of historical facts made during this call may constitute forward-looking statements and are not guarantees of future performance or results and involve a number of risks and uncertainties. Actual results may differ materially from those in the forward-looking statements as a result of a number of factors, including those described from time to time in Sixth Street Specialty Lending, Inc. filings with the Securities and Exchange Commission. The company assumes no obligation to update any such forward-looking statements. Yesterday, after the market closed, we issued our earnings press release for the first quarter ended March 31, 2024, and posted a presentation to the Investor Resources section of our website, www.sixthstreetspecialtylending.com. The presentation should be reviewed in conjunction with our Form 10-Q filed yesterday with the SEC. Sixth Street Specialty Lending, Inc.'s earnings release is also available on our website under the Investor Resources section. Unless noted otherwise, all performance figures mentioned in today's prepared remarks are as of and for the first quarter ended March 31, 2024. As a reminder, this call is being recorded for replay purposes. I will now turn the call over to Joshua Easterly, Chief Executive Officer of Sixth Street Specialty Lending, Inc.

Good morning, everyone, and thank you for joining us. With us today are our President, Bo Stanley; and our CFO, Ian Simmonds. For our call today, I will review our first quarter highlights and pass it over to Bo to discuss activity in the portfolio. Ian will review our financial performance in more detail, and I will conclude with final remarks before opening the call to Q&A. After market closed yesterday, we reported first quarter adjusted net investment income of $0.58 per share or an annualized return on equity of 13.6% and adjusted net income of $0.52 per share or an annualized return on equity of 12.3%. As presented in our financial statements, our Q1 net investment income and net income per share, inclusive of the unwind of the noncash accrued capital gains incentive fee expense or $0.01 per share higher. The difference between this quarter's net investment income and net income was driven by $0.09 per share of net unrealized gains from the impact of tighter credit spreads on the valuation of our investments, $0.14 per share on net unrealized losses from portfolio company-specific events and $0.03 per share of unrealized losses from the reversal of prior period unrealized gains related to investment realizations and $0.03 per share of realized gains from investment sales. With these results in mind, I'd like to start by circling back to two remarks I made on previous earnings calls in February. First, the BDC sector is at peak earnings. And second, the tail within portfolios is getting longer. On the first comment, we reported another strong quarter from an earnings perspective as net investment income continued to benefit from higher interest rates. Q1 was the first time in 8 quarters or since the start of the rate hiking cycle that we experienced a modest decline in the weighted average reference rate resets on debt and income-producing securities of 5 basis points. That said, the strength of the reset economic data and the higher for longer shape of the forward interest rate curve continues to support net investment income. Since our last earnings call, the forward curve has shifted towards higher for longer with year-end base rates estimated to be 4.9%, which is up from 4.2% as of our last earnings call in February. We anticipate the current environment will likely drive a dispersion between operating and GAAP earnings as higher base interest rates may ultimately lead to credit deterioration and potential for losses, as we previously talked about. My second comment, we're adding a nuance of the view that this quarter, which is that the tail is growing on the margin. While we are seeing evidence of idiosyncratic credit issues arising from across the private credit sector. We remain optimistic about the ability for private credit portfolio to withstand the headwinds of today's macroeconomic environment for a couple of reasons. First and foremost, private credit managers underwrite investments with intent of holding net risk until maturity, given the largely illiquid nature of the asset class. For us, this means extremely thorough due diligence and bottoms-up analysis on every credit we undertake, coupled with active portfolio management to the life of the investment. And second, private credit managers have the ability to be selective in terms of sector exposure. We have demonstrated selectivity in our portfolio by avoiding cyclical businesses, staying away from certain industries and leaning into specific sector themes. This optionality differs from the public debt market, which are forced to hold a much broader range of sector exposures, including those that we have deliberately avoided. And it's important to note that both of these benefits to private credit are not given and ultimately rely upon active management. Having the ability to determine when to invest as well to what to invest is a feature of our business model and a core principle of operating our business with the capital allocation discipline. Turning to our portfolio specifically. The difference between this quarter's net investment income and net income highlights our point on the growing tail. Individual portfolio company specific events resulted in a $0.14 per share net unutilized losses in Q1. A significant portion of this were $0.11 per share was related to the markdown in our investment in Astra Acquisition Corp. At quarter end, we had this investment on nonaccrual status, driven by continued underperformance of the company. While this is evidence that the tail is growing on the margin, we remain focused on the bigger picture, which is our ability to grow net asset value over the long term. Despite idiosyncratic issues as existed in our portfolio, we have consistently grown net asset value over the 12.5 years since we started this business representing -- represented by a 3.5% annualized NAV growth before special and supplemental dividends since inception. We feel confident in our ability to continue this growth in the future, which we believe will result in outperformance relative to the sector. Turning now to the broader portfolio. Credit quality remains strong with nonaccrual limited to 1.1% of the portfolio by fair value. Revenue and EBITDA growth continued for another consecutive quarter. several of our portfolio companies have started to see cost saving initiatives flow through the P&L, resulting in margin expansion and positive EBITDA trends. All things considered, our underlying portfolio companies have shown resilience, which we believe will be reflective of our disciplined credit selection and effective portfolio management. Yesterday, our Board approved a base quarterly dividend of $0.46 per share to record -- to shareholders of record as of June 14, payable on June 28. Our Board also declared a supplemental dividend of $0.06 per share related to our Q1 earnings to shareholders of record as of May 31, payable on June 20. Our net asset value per share pro forma for the impact of the supplemental dividend that was declared yesterday at 17.11, and we estimate that our spillover income per share is approximately $1.06. Before passing it to Bo, I would like to note that on March 26, Fitch Ratings Agency published their annual review for the BDC sector, and we are pleased to note that Sixth Street Specialty Lending's rating of BBB flat was revised with -- from a stable to a positive outlook. Of the 22 firms in their rated universe, TSLX is one of 2 BDCs to holder rating with a positive outlook from Fitch. With that, I'll now pass it over to Bo to discuss this quarter's investment activity.

Thanks, Josh. I'd like to start by sharing some observations on the broader market backdrop. In particular, the purpose and importance of direct lending in today's investing landscape. Through the first quarter of 2024, public and private debt markets welcomed an increase in demand for financing solutions after a historically low level of transaction volume in 2023. Access to the broadly syndicated market has improved, providing some borrowers with an option between public and private financing solutions. With both markets open for business, competition has generally increased compared to this time last year. However, we remain highly selective and where we transact to make certain we over earn our cost of capital. Our omnichannel sourcing capabilities has contributed to a robust and building pipeline of opportunities that rely upon the structures and features available only in the private credit markets. We believe the current environment underscores the value proposition of private credit for borrowers looking for more than the cheapest cost of financing. Direct lending provides creative solutions, certainty in pricing, stability through market volatility and structural flexibility such as delayed draw features. All of these components differentiates the private credit markets from the BSL market and reinforce the importance of solutions we provide to the middle market companies. Our investments in Equinox during the quarter highlights our differentiated capabilities as we stepped in to provide an alternative solution to accompany with a complicated capital structure. As part of the transaction, Sixth Street led an agency had a $1.2 billion first lien term loan and to a lesser degree, participated in a $575 million second lien term loan. SLX committed $47.9 million and $2.1 million in these loans, respectively, in support of the company's refinancing of existing debt. This investment is also representative of the increase in opportunities we are seeing for companies with durable business models, looking to restructure their balance sheets. In most cases, the complexity of these transactions require a direct lender that is willing and able to structure and underwrite a creative solution. Given our extensive experience and dedicated resources across the Sixth Street platform, we are well positioned to lead these opportunities. Additionally, the level of competition is lower for these investments compared to more traditional loan structures, which has contributed to our busy start to the year from an investment perspective, which I'll pivot to now. In Q1, we provided total commitments of $264 million and total fundings of $163 million across the 9 new portfolio companies and upsizes to 5 existing investments. We experienced $109 million of repayments from threefold, 7 partial and 18 structured credit investment realizations, resulting in $54 million of net funding activity. It was another strong quarter for originations with 95% of total fundings in new investments with 5% supporting upsize to existing portfolio companies. This quarter's funding is contributed to our diversified exposure to select industries with nine new investments across eight different industries. Consistent with our long-term approach of investing at the top of the capital structure, 95% of fundings this quarter were in first lien loans, bringing our total first lien exposure to 92% across the entire portfolio. We continue to benefit from the size and scale of Sixth Street capital base as we participated in several cross-platform deals, including our largest new commitment during the quarter, which supported the take private transaction of Alteryx. In March, Sixth Street [indiscernible] closed on a senior secured credit facility as part of the $4.4 billion acquisition of Alteryx by Clearlake Capital and Insight Partners. Our close relationship with both sponsors, combined with our ability to commit to the deal and size were key to securing our leading role in the debt financing. Moving on to repayment activity. Our 2 largest exits during the quarter, [indiscernible] Bill Highway were older vintage assets that were driven by refinancings. These investments generated a weighted average asset level gross IRR of 12.2% for SLX shareholders. Beyond refinancing, another notable area of repayment activity during the quarter was in our structured credit portfolio. As a reminder, we purchased approximately $54 million of CLO liabilities at a significant discount to par during the market volatility that occurred in Q2 and Q3 of 2022. Rather than holding excess capital or deploying capital into investments that do not exceed our cost of capital, we leverage the experience across the Sixth Street platform to opportunistically invest in BBB and BB CLO liabilities that presented an efficient use of shareholder capital. Since then, we have watched our investment thesis play out as we rotated out of approximately 85% of our CLO liability exposure today. We purchased those securities at a weighted average price of 88.5% with a 3-year discount margin of approximately $880 and exited at a weighted average of 98.5%, with a 3-year discount margin of approximately $535. For Q1, these exits resulted in approximately $0.02 per share of realized gains for SLX shareholders. We expect to continue rotating out of the structured credit portfolio to crystallize the returns we've generated and will opportunistically come back to this theme in moments where it presents an efficient use of capital, based on the return profile. From a portfolio yield perspective, our weighted average yield on debt and income-producing securities [indiscernible] costs decreased slightly quarter-over-quarter from 14.2% to 14.0%. This decline reflects the combination of 10 basis points of spread compression from lower spreads on new investments and 5 basis points from the decline in reference rate resets. New investment spreads were lower in Q1, largely driven by roughly 2/3 of our fundings, including an upside is falling into what we call our lane 1 bucket. Lane 1 has extra[indiscernible] been about 65% of our total investment activity and generally includes regular way financing to sponsor-backed companies. In Q1, this includes investments into high-quality companies such as Alteryx and Clearance Technologies, which are scaled businesses with attractive financial profiles. The other 1/3 of our funding activity was in more complex lane 2 bucket, which typically includes higher yielding assets represented by our investment in Equinox during the quarter. As an illustration of the difference in yields, our new Q1 investments in Lane 1 had a weighted average yield at amortized cost of 11.3% compared to 14.0% for our investments and Lane 2 assets. On a consolidated basis, the weighted average yield at amortized cost of new investments, including upsizes for Q1 was 12.2% compared to a yield of 14% on fully exited investments. Moving on to the portfolio composition and credit stats. Across our core borrowers for whom these metrics are relevant, we continue to have conservative weighted average attach and detach points of 0.7x and 4.9x, respectively, and our weighted average interest coverage remains constant at 2.0x. As a reminder, interest coverage assumes we apply reference rates at the end of the quarter to steady-state borrower EBITDA. As of Q1 2024, the weighted average revenue and EBITDA of our core portfolio companies was $275.5 million and $92.5 million, respectively. Finally, the performance rating of our portfolio continues to be strong with a weighted average rating of 1.15 on a scale of 1 to 5, with 1 being the strongest, representing an improvement from last quarter's rating of 1.16, driven by growth in the portfolio from new investments. As Josh mentioned earlier, we added one new company [indiscernible] Acquisition Corp. to nonaccrual status at the end of the quarter resulting in two portfolio companies on nonaccrual across the entire portfolio. With that, I'd like to turn it over to my partner, Ian, to cover our financial performance in more detail.

Thank you, Bo. For Q1, we generated adjusted net investment income per share of $0.58 and adjusted net income per share of $0.52. Total investments were $3.4 billion, up 3% from the prior quarter as a result of net funding activity. Total principal debt outstanding at quarter end was $1.9 billion and net assets were $1.6 billion or $17.17 per share prior to the impact of the supplemental dividend that was declared yesterday. Since the start of the rate hiking cycle, 2 years ago, we have successfully grown net asset value per share by 5.6% from a trough of $16.27 in Q2 of 2022 to $17.17 as at quarter end. Additionally, net asset value per share is now back above the pre rate hike level of $16.88 as of March 31, 2022, and is $0.01 below our historical high of $17.18. It has been a very busy year -- start to the year as we completed several capital markets transactions, including a bond offering, an equity raise and a revolving credit facility extension. Starting off in early January, we improved our funding mix and liquidity profile through a $350 million long 5-year bond offering. In March, we executed a small equity raise to take advantage of attractive new investment opportunities while remaining below the top end of our target leverage range of 1.25x debt to equity. Consistent with the framework we've outlined in the past, we issued equity above net asset value and deployed the new capital raised into assets generating estimated returns that exceed our calculated cost of capital. We'll spend a moment to walk through this math, starting with the assumption that our cost of equity is 9%, which was sourced from Bloomberg. Based on this assumption, we can back into the required return on new assets by applying the cost structure of our business, including the marginal cost of leverage, fees, estimated credit losses and other expenses to our unit economics model. This calculation results in a 10.6% return on assets, inclusive of credit losses required to generate a 9% return on equity. In our case, we deployed the new equity capital into investments with an average asset level yield of 12% to 13.5%, depending on the assumed weighted average life, resulting in an estimated ROE range of approximately 11.5% to 14% for the capital deployed, well above our estimated equity cost of capital. Shareholder returns continue to be our priority, and we strongly believe that our ability to access additional equity capital allows us to generate attractive risk-adjusted returns for our investors. Post quarter end, we further enhanced our debt maturity profile by closing an amendment to our revolving credit facility. With the ongoing support of our bank group, we amended our $1.7 billion secured credit facility, including extending the final maturity on $1.5 billion of these commitments through April 2029. We are pleased with this outcome of this transaction as we successfully converted a legacy not extending lender to extending status and accepted an incremental commitment from an existing lender. There were no new non-extending lenders as part of this amendment, and we maintain the existing pricing and terms on the facility. The combination of the January bond issuance and the closing of the amendment to our credit facility extended the weighted average maturity on our liabilities to 4 years, which compares to an average remaining life of investments funded by debt of approximately 2.5 years. This element is important to our asset liability matching principle of maintaining a weighted average duration on our liabilities that meaningfully exceeds the weighted average life of our assets funded by debt. All 3 of our capital markets transactions bolstered our balance sheet by enhancing our liquidity profile. As of March 31, we had $1.1 billion of unfunded revolver capacity against $260 million of unfunded portfolio company commitments eligible to be drawn. In terms of capital positioning, our ending debt-to-equity ratio from the balance sheet decreased quarter-over-quarter from 1.19x to 1.14x. The decrease was driven by the equity raise in February combined with repayment activity, which was partially offset by portfolio growth from new investments. As for upcoming maturities, we have reserved for the $347.5 million of 2024 notes due in November under our revolving credit facility. After adjusting our unfunded revolver capacity as of quarter end for the repayment of the 2024 notes, we continue to have ample liquidity of $764 million, representing 2.9x the amount of our unfunded commitments eligible to be drawn. Additionally, the repayment of 2024 notes will have an economic impact in 2025 as the implied funding mix shift will lower our weighted average cost of debt. Pivoting to our presentation materials, Slide 8 contains this quarter's NAV bridge. In addition to the items, Josh walked through earlier, the equity raise resulted in $0.14 per share uplift to NAV in Q1. Moving on to our operating results detailed on Slide 9, we generated $117.8 million of total investment income for the quarter, down 1.5% compared to $119.5 million in the prior quarter. Interest and dividend income was $112.1 million, down slightly from the prior quarter, driven by the marginal decline in interest rates off of peak levels experienced in Q4. Other fees representing prepayment fees and accelerated amortization of upfront fees from unscheduled paydowns, were lower at $1.5 million compared to $3.5 million in Q4, driven by lower coal protection from payoffs of older vintage assets during the quarter. Other income was $4.3 million compared to $3.9 million in the prior quarter. Net expenses, excluding the impact of a noncash reversal related to unwind of capital gains incentive fees were $65.4 million, up slightly from $65 million in the prior quarter. Our weighted average interest rate on average debt outstanding decreased from 7.8% to 7.6%, driven by the marginal decline in reference rates. Before passing it back to Josh, I wanted to circle back to our ROE metrics. In Q1, we generated an annualized ROE based on adjusted net investment income of 13.6% and an annualized ROE based on adjusted net income of 12.3%. This compares to our target return on equity on net investment income of 13.4% to 14.2% for the full year, as articulated during our Q4 earnings call, and we maintain this outlook heading into the rest of 2024. With that, I will turn it back to Josh for concluding remarks.

Thank you, Ian. I'd like to close our prepared remarks here by encouraging our shareholders to participate and vote for upcoming annual and special meetings on May 23. Consistent with previous years, we are seeking shareholder approval to issue shares below net asset value, effective for the upcoming 12 months. To be clear, to date, we have never issued shares below net asset value under prior shareholder authorization granted to us for each of the past 7 years. We have no current plans to do so. We merely view this authorization as an important tool for value creation and financial flexibility and periods of market volatility. As evidenced by the last 10-plus years since our initial public offering, our bar for raising equity is high. We've only raised equity when trading above net asset value on a very disciplined basis. So we would only exercise this authorization to issue shares below net asset value as there are sufficiently high risk-adjusted return opportunities that would ultimately be accretive to our shareholders through overreading our cost of capital in any associated dilution. If anyone has questions on this topic, please don't hesitate to reach out to us. We have also provided a presentation which walks through this analysis in the Investor Resources section of our website. We hope you find the supplemental information helpful as a way of providing a clear rationale for providing the company and this access to this important tool. As a final comment for today's call, I wanted to share my thoughts on the recent press focus on the perceived systemic risk in private credit. I would suspect that this narrative largely comes from participants that have lost market share and the associated fee streams from the growth of private credit. Clearly, private credit has been a disruptive force to the incumbent business model in the noninvestment grade, corporate credit space, which is banks acting as an intermediary, which we have called the moving business, sitting between issuers and ultimate holders of risk in collecting an economic rent. Private credit is no doubt disruptive to this model. The criticism of private credit is that it's taking more risk on the asset side. However, the historical data doesn't support this argument. According to Cliffwater Direct Lending Index, Direct lending has had annualized losses in line with JPM Leveraged Loan Index and significantly less than the high yield over the past 1, 5, 10 and 20 years. In addition, any systemic risk must be in the context of a business model -- of the business model, and we believe private credit has a superior business model. Unlike banks, where the business model is winning long and funding short private credit is match funded. As students of all types of models and financial services, the tail risk typically comes from liquidity issues and in its core, a poor asset liability matching model. This was apparent in the regional banking crisis. Furthermore, unlike banks, we have some protection through the FDIC program, a taxpayer put doesn't exist for private credit vehicles. And finally, we can't ignore the differences in capitalization. Risk-bearing capital inside banks is somewhere between 9% to 12% versus private credit between 25% and 50%. That being said, we are sure there will be dispersion and results in private credit. Dispersion, however, shouldn't be conflated with the systemic risk. With that, thank you for the time today. Operator, please open up the line for questions.

[Operator Instructions] And our first question will come from Brian McKenna of Citizens JMP.

My first question is on the trajectory of adjusted NII. It stepped down $2.5 million sequentially in the quarter. So what was the biggest driver of that? I know you added one company to nonaccrual status during the period. So does that contribute to the step down at all? And then how much did tighter spreads impacted on a per share basis? And I'm just trying to get a sense of a good jumping off point for NII in 2Q and beyond.

Yes. Great. Thanks, It's a good question. So the non-pool was as at the end of the quarter, so it had very little to no impact on NII. And I think the drivers of NII [indiscernible] a small impact, I would call it 3 things. One is Base rates were down 5 basis points of small amount quarter-over-quarter. So the curve -- although the curve is up and it's higher for longer, the curve was downward sloping. So that's a piece of it. Spreads had a very small impact as well. So yield and advertise investments went from, I think, it was down 20 basis points quarter-over-quarter, in which 5 of that was base rate -- impact of base rate. So 15 basis points. And then the rest was just kind of episodic fees, which I think again laid out. So when we think about our business, I think we still feel very comfortable with our guidance on adjusted NII for the year, which was, Ian.

That was the 13.4% NII.

[indiscernible] NII was 2.27% million. So I think we still feel very comfortable with that.

Yes. Okay. Got it. And then maybe just a follow-up. So spreads have clearly tightened here over the past several months. And if I look at new floating rate commitments in the quarter, spreads declined about 100 bps on average from the fourth quarter. So I guess my question is bigger picture around originations and just with spreads where they are in more liquidity broadly in both public and private credit markets. How are you making sure you're getting the right economics for the risk you're taking today, specifically as we move further into the current cycle?

Yes. Again, I think these are really good questions. I think the easiest way to see the economic value of what we're providing to shareholders is actually -- you see the equity raise this quarter. So yields this quarter, I think we went through the math clearly, but yields this quarter were somewhere between yield average life 11.5% and 14% on an average life basis with the swap curve. And that will bring ROEs similar into that range compared to our cost of equity of 9%. So even in this spread type environment, you've seen -- you're seeing, I think, value to our shareholders vis-a-vis cost of equity. Look, we were clear, I think the good news for our top shareholders is we were one of the few public BDCs that had capital available to invest in the last vintage. And most definitely, because of that, we're going to have a portfolio that kind of over earns. But even in this most recent quarter vintage, we are -- we have the ability to significantly overearn cost of capital and provide value to our shareholders.

Yes. Okay. I'll leave it there.

Let me round up the point, I think it's helpful. Just because spreads have declined doesn't mean that we're not providing significant value to our shareholders. You could clearly see that even in this quarter's vintage given our cost of equity.

Our next question will be coming from Maxwell Fritscher of Truist.

I'm calling in for Mark Hughes. Kind of along the lines of Brian's question. With this higher competition, more capital being provided, are you seeing any companies becoming more comfortable with increasing their M&A activity? And if so, how do you see this shaking out throughout the year?

Yes. Look, I would say -- as the force -- I would expect activity levels generally to be up. So I don't think we saw a little bit of that in Q1, when you look at Alteryx, for example, which was a take private you saw [indiscernible] Co, which was an -- M&A, which was a portfolio company, which was a strategic investor owned by a sponsor buying an another strategic asset. So you saw a little bit of that this quarter. I think as volatility in the rates markets subside, and as rates come down a little bit, I think you'll see more activity. I think that more activity will have to impact our business. One is, it will hopefully increase portfolio churn on the margin, which will drive additional economics that we haven't seen. It's kind of dried up that's been historic driver of our return on equity. But I think you -- if you see activity levels, you'll see that portfolio churn, which will drive through economics for our business. And then there will obviously be more activity on the front end of things to do. So Bo, anything to add there?

No, I expect to see M&A activity continue to strengthen after a pretty anemic couple of years, both because of better financing costs but also because equity valuations are coming. There's more parity between buyers and sellers. Public equity markets have strengthened. And also a lot of businesses have grown into some of their valuations. So you're going to see better assets come to market over the next few quarters, and we're starting to see that in our pipeline today.

That's very helpful. And Josh, you mentioned last quarter, and correct me if I misunderstood, but you're hopeful for more opportunities in '24 to strategically invest in good companies with bad balance sheets. Any developments on this front thus far?

We even asked you to ask that question, let me ask to ask that question. That Equinox is a pretty good example of that. Equinox is a portfolio company of two strong sponsors related [indiscernible] partners. It was a company that was obviously COVID-impacted, but it's one of the premier companies in the fitness space. It really only has one competitor and is a great company with a great brand and great user economics, but obviously COVID happened and [indiscernible] business and balance sheet got complicated. And so we led a $1.2 billion senior secured first lien facility in connection with the new settling facilities by the sponsor and others to refinance that probably to the loan capital structure. We held roughly half of the investment. And so we were let we partnered with [indiscernible] and so that was a business, an opportunity that we're super excited about. And then it was complicated with our private equity due diligence. And will come right in the middle of good company, bad balance sheet that needed [indiscernible] complicated, but we really like both the sponsors in that business. we're big stewards of that business and supportive and the management team [indiscernible]. So we're excited. We think we're going to be -- given the rate environment and the higher prolonger narrative, there's going to be many of those same situations that, I think, go right in our wheelhouse, where we're going to have to provide capital -- where we have an opportunity to provide capital to generate stronger adjusted returns for our shareholders.

Our next question will be coming from Finian O'Shea of WFS.

Josh, on your sort of the segueing there, but on your opening comments on the firming of the rate curve and the expected dispersion we'll see -- is that happening in real time, say, in response to the rate curve? Are you seeing reorgs or LMEs and so forth and on the -- in private credit. And on the flip side, should that translate to a more abundant deployment opportunity?

Let me hear [indiscernible] I think hopefully you're on the West, but we're kind of just waiting on there, [Technical Difficulty] your question. So I think our theme has been that higher longer is kind of the two [Technical Difficulty], the first [indiscernible] is companies are going -- some companies are going to have problems in that environment, both due to demand, we should monitor [Technical Difficulty] demand for the products and services. The second is their balance sheet and their cost of increasing most definitely their interest costs. And so there is most definitely going to be issues. Hopefully, I think in general, those -- and that will cause dispersions between -- and net income and to economic return. And we've seen that a little bit on that margin. [indiscernible], we put it out there like nonequivalent well for us at fair value 1.1% anthology, which is we [Technical Difficulty], we put out on accrual, we took the work down. That is still paying cash, by the way. That will still pay cash, I think the maturity that will be the cash-on-cash returns are like in the 30s on compared to fair value. That should be a tailwind on net asset value as we're taking that into an amortized costs. But there are real tales that pop up to be [Technical Difficulty] manageable for the industry. And given how much capital the industry holds, it shouldn't create any existential risk for the industry. On the [Technical Difficulty] provide a great opportunity for those who can deploy capital into those companies that help facilitate those LMEs or those restructurings like Equinox. So I think its a doublet, I think in the [indiscernible] you were good on credit, which we think we are and that we -- you have capital deployed either because the market trusts you where you can raise more capital, which they historically have or you have excess balance sheet plus you have the requisite skill set to actually execute those transactions, which we most definitely have, which will create good deployment opportunities. And so that's the Goldilocks, we think we're in that. We think we have all those pieces of the [indiscernible] -- but we think it's going to be a really interesting environment for the next couple of years given higher for longer. it's going to -- and capital is allocated in some ways given low rates that this will be a good opportunity to participate in the opportunity set. But I think you need capital, which a lot of the industry doesn't have given more trades, you need the requisite skill set and then you need a clean portfolio.

Very good. And a follow-up, the -- looks like the last-out leverage has been somewhat declining the last handful of quarters at least. You're seeing if this is market-related or portfolio-related are you managing it down and if we should expect that to continue and what it means for returns?

Yes. Look, what I would say is -- we have -- we think on the margin, there are opportunities that today is in larger companies, larger capital structure. And those companies, given how big those credit facilities are, it's hard to club together somebody taking a first our revolver. And so by number, my guess is that's going down given what we think the opportunity set is. But that will kind of go up and down. That's a combination of, I think, two things. One is the large capital structure and the second thing is banks are still capital constrained. And we see that with a lot of our bank partners are [indiscernible]. So it doesn't have a huge [indiscernible] have a huge impact on economic returns. But it's really those two things, which is where we see the opportunity that is and how big they're positioned.

And our next question will be coming from Robert Dodd of Raymond James.

Hope you can hear me okay. On the comment Josh you made, the tails going to get fatter. I mean the longer rates stay up, obviously, it's going to get longer and I mean -- but look, your portfolio pick went up a little bit sequentially. It looks like that was mainly new investments, though, our unfunded commitments ticked up again, it looks like it's making new investments, but it's hard to tell. Can you give us any color on are you seeing incremental revolver draws more broadly? I mean, obviously, there's a couple of assets, right? Astra, for example, you just put on [indiscernible] having some you have some credit issues. But are there any emerging signs in the portfolio that this hire for longer is starting to create pressure in terms of liquidity and liquidity leads?

No. And just coverage would actually flatten out the increase. Earnings, I think on a same-store basis grew about 10% quarter-over-quarter. Revenues grew by about 5%. I think the -- the answer is no. I think the -- I think some of the unfunded commitment increased quarter-over-quarter was all tariff-setting where they're going to be -- with going through a process to -- with a [indiscernible] with the bond orders to call those bonds in. But no, broadly speaking, we don't haven't seen that pressure. And then obviously, from a [indiscernible] perspective, we reserve from funding commitments in that close to 3x post bond maturity of liquidity for unfunded commitment. So how does the in stress, like broad-based stress, interest coverage was kind of bottomed out as on the rise, given the earnings growth plus the combination of the forward curve, although higher for longer, it's still declining. So no.

Second one, if I can. On the other fee income, obviously, it was low again this quarter, not a huge surprise. But if we go higher for longer, if there's less activity there, are we in -- do you think there's a risk that in relatively prolonged period of lower other fee income from the portfolio given, obviously, the less activity, the older the assets get -- the older they get, the less fee income they generate if they do anything anyway. So is there a little bit of a low cycle here that could progress all the way through '24, maybe even 25% until the portfolio gets recycled? Or is it just transitory?

Yes. I think it's a great question. Hard to model. What I would say is I think there's us in the industry. First, historically, we've had more of the type of income I think -- so I think we can agree on that. So -- but the question is, is it -- how does that impact us? I think when you look at our portfolio, unlike the rest of the industry, we were actually able to deploy post rate hiking cycle. And so we have more business in '22 and '23. And so that was a higher spread environment. So I think you're going to -- either one of the two things will happen is, one is we'll hold those assets for longer, which would overearn at churn, we can all agree spreads coming in a little bit, which will create income. So we have 43% of the of the portfolio was invested in the second half of 2022. So I think we were -- given how we manage the business and how focused we've been on being good allocators of capital, the market has rewarded us with the ability to give us more capital, which allow us to view this vicious cycle. It allow us to invest in '22-'23 vintage in a higher spread environment, which my guess will at some point churn. I think you have to split out between the industry and us, and we just have more '22, '23 vintage, and we all agree [indiscernible].

Our next question will be coming from Erik

First question is maybe a 2-part question. Bo noted that competition you guys have talked about it in subsequent answer, so the competition has increased since last year. And I'm curious if that is manifesting primarily just in compressed spreads and on the pricing side? Or if you're seeing anything on the structure side as well. So that's the first question. And I guess the second would be one your slides, you note that the for your portfolio, the weighted average number of covenants per credit agreement is 1.8%. I'm curious if that has changed over time or if that's been pretty consistent as well.

It doesn't -- it most definitely will lead on the margin into the document. Documents are so better than relative well documents. But it doesn't just stop at the door of spreads. So but we still feel comfortable with the overall package. And then I would say there is a little bit of a tale of 2 cities. We look at seeing the opportunity set up market. And on upmarket, there is those documents, there might be a few or less financial covenants. And so -- but that is a -- we're making a choice between the trade-off between credit quality side of the company and protections. And we think the relative value is still very good there. Just to size it up. Not everybody -- there's a handful of people who you write $500 million check. there's a lot of people that can write $40 million to $50 million check. And so in this moment in time, it always won't be that case. We've moved up market. You can see that in our underlying EBITDA -- average EBITDA portfolio company that's that fine metric. I think it's gone from $35 million a couple of years ago to 90%, Ian what's the average now?

It's over 90%.

Over 90%. So anything to add there, Bo?

The only thing I would add is we continue to only invest in situations where we have control or influence on the documentation. And with competition, you're going to see with your documentation, but we still have -- we still control that and tend to only play in situations where we believe the document still have the protections that we need as investors. So we have seen losing of terms certainly from 18 to 24 months ago when docs get really tight, but they're still adequate to protect our capital.

I appreciate the detailed commentary there. And I guess just the only remaining question for me. And you just noted the ability to write large checks and if I look at Slide 6 and average investment size in your portfolio. If I look at it, excluding the structured credit investments, it's actually down a little bit year-over-year. However, if the then includes the structured credit, it's up year-over-year. So just curious about the kind of the divergence there and what's transpired on the structured credit side over the past year or so?

Yes. The divergence as we've increased diversity in our portfolio for sure, over time. And our capital base is relatively fixed in SLX. And so in participating in larger deals across the platform, but our capital base is relatively fixed in Natural [indiscernible] we've been focused on increasing diversity. So I hope -- I think I got that question.

Our next question will be coming from Melissa Wedel of JPMorgan.

Most of my questions have already been answered, but I wanted to follow up on your comment, Josh, about the opportunity set right now. You're seeing it really with the larger companies and bigger capital structures. Based on Ian's comments, it seems a very detailed analysis of what the return threshold is for new investments and where you were able to source -- what you're able to source in the first quarter. Certainly, it looks like you're able to clear that threshold by a couple of hundred basis points, at least in the first quarter. But as competition increases, I guess the question is, do you see the opportunity set evolving more in the more complex deals? And you talked about a couple of those that you got done in the first quarter. Is that where the economics are? Is that where we should think about you being involved primarily in the next few quarters?

Let me tell you the power. I think this is at the heart of our platform. I think this is and now part of how we think about this, investing in how we [indiscernible]. So I mean I may go down around a hole and then you can pull me up for a second. So [indiscernible] I think people know $77 billion or $75-plus [indiscernible] Management. 600-plus employees. We have people sitting across industries and verticals and focus on the companies all types in all parts of their life cycle. And that includes by sector, by size and then by we're there on the life cycle from growth restructuring. And the power of our platform is that we can go between on a relative value. So between all those factors, from size of the company, to where they are on their life cycle to what sectors we think are interesting. And at some point, sectors are throwing out for no reason, and we think they're interesting and we can deploy capital there. Think of that as energy, which our returns have been very good. At one part, it was retail consumer. And then software, we have a differentiated view. And so we're really a relative value fire across a big top of the funnel. That is our business model. And so the answer is I don't know the difficult part of capitalism -- capital that was working is when there's excess returns capital flow. And so you kind of have to keep checking and diving through the opportunity set, that is the power of the business. And so it might be retail -- for 6 months or 9 months, it might be software as a services. It might be industrial. It might be energy. It might be a small cap. It might be a large cap. The power of the platform that what we're delivering to investors is our ability to cross those opportunities that where we have a closer to a platform where we can collaborate, where we can deliver that to people. And so that is what we have built for people. That's what we'll continue to lean on and so I know across environments, across opportunities that we're just not a [indiscernible] business, and that is where the durability of the returns that come from.

Okay. I appreciate that overview and reviewing of the opportunistic nature of what you guys are able to do. Maybe I should have rephrased my question a little bit just in terms of really sort of the pipeline on complicated investments and that idea of the good company, that balance sheet and a higher for longer impairment or you expecting more of that.

I would hope so. I mean, I look at my macro view is it's difficult for the set to pivot. We've been saying this for a long time if that hasn't pivoted and that's going to cause stress and capital structures. And so my hope is that will be -- that like Equinox, that will be interesting. We did a depth in Q1, which is public for $0.99, which is a retail business. That liquidation is going very well. And so we like the opportunity that my hope that is kind of right into the -- that's trying to go now of the platform. You got me all excited about what the platform delivers for value-add. So sorry, I had to go down the rabbit hole.

And our next question will be coming from Bryce Rowe of B. Riley.

Wanted to maybe just continue on this theme of churn within the portfolio and just churn generally within the industry. You all have clearly focused on putting money to work in '22 and '23 vintages and addressing any kind of maturities that we -- that you have in '24 and '25 and those are now kind of more limited. So if you could kind of talk about or size up the opportunity from an origination perspective versus what we might see from a repayment perspective within the portfolio and what that might mean for kind of net portfolio growth as we look forward.

I would -- on the margin, I would think net portfolio growth is again hard because we're very kind of opportunities that driven. But I would say, on the margin, payments will increase because of our vintage of '22 and '23 -- and I would say on the margin, I would expect our balance sheet to remain stable and not grow as significantly as it did in the last 18 months. That would be my get look -- we want to lean in environments where there's really, really high risk-adjusted returns. We could agree that with '22, '23 and grow the balance sheet, and not everybody could do that given their access to capital. We did that. And then which will mean that portfolio term will increase on a gross basis. On that basis, the opportunity is that it's going to be marginally less. And so I think that means that our balance sheet will be relatively stable, maybe slightly growing, but it's not going to grow as the ended on a lasting few months.

And then maybe one more for me on the capital structure. I mean you've been opportunistic in terms of raising both debt and equity. As you -- and you've talked about kind of having prefunded the '24 notes. Do you think about layering in another -- I guess, another round of notes, given how open debt capital markets are today, just giving yourself that much more liquidity or available liquidity as we think about capital structure.

Yes. I think we talked about this a little bit. I think it's a good question. I actually think on the margin we hold 2 months liquidity today. So if you kind of think about -- if you look at the post [indiscernible] of the '24 notes. We have about $750 million of liquidity. And we can't give it or the constraints debt-to-equity, which a range of 0.9 to 1.25. We can't really use that liquidity. If you don't think we're growing the net asset value of the business through new equity raises. And so if we were to -- our choices would be to give back unfunded commitments to banks, which I don't think we want to do because that's a low cost of capital if we were to raise more bonds. I just -- I don't see -- we have -- and that liquidity, I think, is very valuable and it's really good insurance but it's limited, given the constraint of our 1.25 debt-to-equity and how our capital looks today. So I don't see us and have an economic cost to shareholders. So I don't see us doing a bond deal unless we think we can grow growth assets, which will require us to grow through an equity raise because we just have a whole into trait that's an economic cost to shareholders.

And I'm showing no further questions. I would now like to turn the conference back to Josh for closing remarks.

Look, I appreciate the time as people are heading into summer and the weather is turning. I know people get to spend that with their family and enjoy your summer will obviously be back in contact at time for August. Please vote in our shareholder meeting. It's a democratic process as well as those different product processes are really, really important. But thank you for your time, and we're always around to answer questions. And I thought today's questions were really, really good. So thanks for the analyst community for putting in the work.