Carlyle Secured Lending is a business development company (BDC) that has shown strong performance despite the high-interest rate environment.
Specializing in lending to U.S. middle-market companies, Carlyle Secured Lending has maintained solid growth and demonstrated strong fundamentals, making it an attractive addition to an income-focused portfolio, particularly on a price pullback.
Brief Overview
Carlyle Secured Lending, although relatively new to the market with its initial public offering (IPO) just seven years ago, has established itself as a significant player in the BDC sector. The company is externally managed and focuses on lending to middle-market companies with EBITDAs ranging from $25 to $50 million.
Its diversified loan portfolio includes investments in sectors such as Investment Funds, Healthcare & Pharmaceuticals, and Software.
Latest Earnings
In early May, Carlyle Secured Lending reported its Q1 earnings, exceeding bottom-line expectations. The net investment income (NII) came in at $0.54 per share, beating analysts’ estimates by $0.02, and representing an 8% year-over-year growth despite a slight decline from the previous quarter.
Total investment income was reported at approximately $62 million, slightly down from $62.6 million in the prior quarter due to a decrease in the overall portfolio value, which fell from $1.84 billion to nearly $1.8 billion.
Despite this, the company managed to grow its total company count from 128 to 131, and originations increased by double digits on an annualized basis. The mean EBITDA of the companies in its portfolio also grew from $73 million in Q1 2023 to $81 million in the recent quarter.
Importantly, non-accruals, which are loans not generating the expected interest income, improved significantly, now accounting for less than 1% at both cost and fair value. This improvement is notable given that many BDCs have struggled with rising non-accruals in the high-interest rate environment.
Solid NAV Growth
Carlyle Secured Lending also demonstrated decent growth in its net asset value (NAV), increasing modestly to $17.07 from $16.99 in the previous quarter. While the annualized NAV slightly declined from $17.09, the company has shown steady NAV growth since the start of rate hikes in 2022, rising from $16.91 in early 2022. This steady growth is a positive indicator of the company’s financial health and stability.
Strong Dividend Coverage
One of the key attractions of Carlyle Secured Lending is its strong dividend coverage. Despite a slight decline in NII quarter-over-quarter, the company continued to cover its dividend comfortably. With a supplemental dividend of $0.07, the total payout was well-covered by the NII, giving a coverage ratio of 115%.
This coverage ratio is higher than that of notable peers in the sector, including Blackstone Secured Lending (BXSL) and Ares Capital (ARCC), which had coverage ratios of 113% and 114%, respectively, in their latest quarters.
Strong Balance Sheet
Financially, Carlyle Secured Lending is in a strong position, boasting well-laddered debt maturities that provide significant capital flexibility. Over the past year, the company has increased its liquidity, with cash and cash equivalents rising from $42.8 million to nearly $70 million.
The debt-to-equity ratio remains healthy at 113%, slightly below the sector mean of 116%. The company’s debt maturities are well-laddered, with $1.5 billion in total debt and the next significant maturity of $190 million due in December 2024.
The weighted average interest rate on this debt is 4.66%, and the next debt maturity is not until 2028, putting the company in a strong position to capitalize on future growth opportunities.
Risks
While Carlyle Secured Lending has performed exceptionally well, it faces downside risks if interest rates decline. With 100% of its debt being floating rate, a decrease in interest rates would impact its net investment income and potentially pressure its dividend coverage.
Additionally, the high valuation premium over NAV indicates that the stock could be susceptible to price corrections.
Valuation
Currently, Carlyle Secured Lending trades at approximately a 5.5% premium to its NAV, which is higher than its three-year average discount of around 14%. This premium suggests that the stock may be overvalued in the current market environment.
However, with interest rates expected to decline, a pullback in the sector is anticipated, which could present a buying opportunity for investors seeking income.
Conclusion
Carlyle Secured Lending stands out in the BDC sector due to its strong portfolio quality, robust financial performance, and effective management. Despite the potential risks associated with declining interest rates, the company’s fundamentals remain strong, and its well-laddered debt maturities provide capital flexibility for future growth.
Given its current valuation, investors may want to consider adding Carlyle Secured Lending to their income-focused portfolios on a price pullback.
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