This article discusses GBDC currently yielding 7.3% and will likely outperform due to recent portfolio growth, investor-friendly fee structure, low operating expenses, a high-quality portfolio, and improved balance sheet.
Recent SEC filings indicate 10% portfolio growth during calendar Q3 which will have a meaningful impact on dividend coverage as shown in this article.
GBDC is considered lower risk for many reasons including its higher credit quality portfolio of mostly lower yield first-lien and one-stop loans with strong covenant and security protections.
Management continues to purchase shares including an additional $40 million over the last 12 months.
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olm26250/iStock via Getty Images Quick Introduction to Business Development Companies (“BDCs”)
Similar to Real Estate Investment Trusts (“REITs”), Business Development Companies are regulated investment companies (“RICs”) required to pay at least 90% of their annual taxable income to shareholders, avoiding corporate income taxes before distributing to shareholders. This structure prioritizes income to shareholders (over capital appreciation), driving higher annual dividend yields that mostly range from around 6% to 11%. However, as discussed in ” BDCs Vs. REITs: Comparing Returns For Higher-Yield Investors ,” BDCs have been easily outperforming REITs over the last two years which will likely continue especially in an inflationary and/or higher interest rate environment as discussed in ” REITs Continue To Underperform BDCs ” which compared returns since 2015. Golub Capital ( GBDC )
Golub Capital is considered a lower risk BDC for many reasons including its higher credit quality portfolio of mostly lower yield first-lien and one-stop loans with strong covenant and security protections in mostly non-cyclical sectors. Also, the portfolio is well diversified with very low concentration risk and with an average investment size of less than 0.4% of the portfolio and the top 10 accounting for around 16%. Source: GBDC Earnings Presentation GBDC Conservative Management and Fee Structure
It should be noted that GBDC is for lower yield investors with conservative management, lower yield portfolio investments, and investor-friendly fee structure including a base management fee of 1.375% of average adjusted gross assets (compared to 1.50% to 2.00%, for most) excluding cash and cash equivalents. GBDC’s fee structure includes a “total return hurdle” which means that its incentive fee structure protects total returns to shareholders by taking into account capital losses when calculating the income portion of the fee. Also, incentive fees are only paid after the hurdle rate is reached, requiring a minimum return on net assets of 8% annually. However, GBDC currently is below the 8% hurdle so management was not paid an incentive fee for the quarter ended June 30, 2021, as discussed later.
During the early stages of the COVID crisis, management took various measures to strengthen the balance sheet including a ‘rights offering’ as well as reducing the quarterly dividend from $0.33 to $0.29 per share. As shown in the previous chart 100% of GBDC’s loans are at floating rates which were impacted as the Fed reduced rates.
To be completely honest I think the rights offering was not needed as GBDC already had relatively lower leverage/stronger asset coverage coupled with higher quality assets (to support higher leverage). However, management was likely just taking a conservative approach not knowing the full extent of the impacts of the pandemic on its portfolio companies which might need additional capital drawing on the unfunded commitments which was a large concern at the time. Source: GBDC Earnings Presentation
On May 14, 2020, GBDC announced the final results of its transferable rights offering, which entitled holders of rights to purchase one share of common stock for every right held at a subscription price of $9.17 per share. Along with most of my subscribers, I took full advantage of the offering easily outperforming the S&P 500 over the last 17 months: Operating Cost as a Percentage of Available Income
As a part of assessing BDCs, it’s important to take into account expense ratios. BDCs with lower operating expenses can pay higher amounts to shareholders without investing in riskier assets.
“Operating Cost as a Percentage of Available Income” is one of the many measures that I use which takes into account operating, management, and incentive fees compared to available income. “Available Income” is total income less interest expense from borrowings and is the amount of income that is available to pay operating expenses and shareholder distributions .
Many BDCs have been temporarily waiving fees or have […]