Capital Southwest - Q4 2023
May 23, 2023
Transcript
Operator (participant)
Thank you for joining today's Capital Southwest fourth quarter and fiscal year 2023 earnings call. Participating on the call today are Bowen Diehl, CEO, Michael Sarner, CFO, and Chris Rehberger, Vice President of Finance. I will now turn the call over to Chris Rehberger.
Chris Rehberger (VP of Finance)
Thank you. I would 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.
Bowen Diehl (President and CEO)
Thanks, Chris, thank you to everyone for joining us for our fourth quarter and 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 as stewards of your capital. Throughout our prepared remarks, we will refer to various slides in our earnings presentation, which can be found in the investor relations page on our website at www.capital southwest.com. You will also find our quarterly earnings press release issued last evening on our website. Now turning to slide six of the earnings presentation, we will begin with a summary of the key performance highlights for the 2023 fiscal year.
During the fiscal year, we grew our total portfolio at fair value by 29% year-over-year to over $1.2 billion from $937 million in the prior year, while increasing our pre-tax investment income by 21% to $2.30 per share from $1.90 per share in the prior year. We increased our regular dividends paid to $2.03 per share for the fiscal year, representing an increase of 12% compared to the $1.82 per share of regular dividends paid in the prior year. We continued our track record of covering our regular dividends with pre-tax NII with over 113% coverage for the year.
In addition to our regular dividend growth, we began a supplemental dividend program in the December 2022 quarter, paying $0.05 per share in each of the December and March quarters. Our board has again declared a $0.05 per share supplemental dividend for the June 2023 quarter. During the year, we strengthened our balance sheet through a variety of capital markets activities. First, we raised a total of $207 million in gross equity proceeds through our equity ATM program, as well as an underwritten public offering of our common stock, reducing our regulatory leverage to 0.88x to 1x debt to equity as of the end of the fiscal year, compared to 1.16x to 1x debt to equity as of the end of the prior fiscal year.
Second, we received $65 million in additional commitments on our revolving credit facility, bringing total credit facility commitments to $400 million. Third, we received approval for $50 million in additional SBA debentures during the year, which we are currently drawing upon. Finally, in March of 2023, based on our performance, balance sheet leverage and flexibility, we received a Baa3 investment grade rating with a stable outlook from Moody's Investors Service. Michael will provide further detail on this later in our prepared remarks. Turning to slide seven of the earnings presentation, we have summarized key performance highlights specific to the March quarter.
During the quarter, we generated pre-tax net investment income of $0.65 per share, which represented an 8% growth over the $0.60 per share generated in the prior quarter, and 30% growth over the $0.50 per share generated a year ago in the March quarter. The $0.65 per share significantly outearned our 53% share per share regular dividend as well as our total dividends paid during the quarter of $0.58 per share, which includes the $0.05 per share supplemental dividend. As of the end of the quarter, our estimated undistributed taxable income balance was $0.45 per share. As previously announced, our board has declared another $0.01 per share increase to our regular dividend to $0.54 per share for the June 2023 quarter.
These increases in our regular dividend are a result of the increased fundamental earnings power of our portfolio, given its growth and performance, as well as further improvements in our operating leverage. We have continued to be prudent in increasing our regular dividends, always endeavoring to set the regular dividend at a level that can be maintained even if market base rates return to more historical norms. In addition, due to continued excess earnings being generated by our floating rate debt portfolio in an elevated base rate environment, our board of directors has again declared a supplemental dividend of $0.05 per share for the June quarter, bringing total dividends declared for the June quarter to $0.59 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 continue to distribute quarterly supplemental dividends for the foreseeable future while base rates are above historical averages, and we have meaningful UTI generated by earnings in excess of our dividends and realized gains from our equity co-investment portfolio. During the quarter, deal activity in the lower middle market continued to be solid, primarily focused on acquisitions rather than refinancings. The environment during the quarter continued to be a favorable one for a first lien lender like Capital Southwest. We continued to see average loans pricing spreads on new portfolio company loans that were 50-100 basis points higher than a year ago, and leverage levels on new portfolio company loans that were generally lower by around a full turn of EBITDA.
At the same time, loan-to-value levels on these new loans, calculated as our first lien loan divided by the enterprise value being paid for an acquisition, were also down meaningfully from a year ago, as private equity firms remain willing to pay full multiples for quality companies. Portfolio growth during the quarter was driven by $67.3 million in new commitments, consisting of commitments to five new portfolio companies totaling $49.5 million and add-on commitments to nine existing portfolio companies totaling $17.8 million. This was offset by $16.8 million in proceeds from one debt prepayment during the quarter.
On the capitalization front, during the quarter, we raised a total of $29.2 million in gross equity proceeds at a weighted average price of $19.15 per share, or 118% of the prevailing NAV per share. Our liquidity remains robust with approximately $196 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, as we think it is critical that we maintain a conservative mindset to BDC leverage given the current uncertainty in the economy. As we have said many times, we manage our BDC with a full economic cycle mentality. This starts with our underwriting of new opportunities, it also applies to how we manage the BDC's capitalization.
Managing leverage to the lower end of our target range positions us to invest throughout a potential recession when risk-adjusted returns can be particularly attractive. It also allows us to support our portfolio companies while also opportunistically repurchasing our stock if it were to trade meaningfully below NAV. With this as context, we are very pleased with the strength of our balance sheet as we further reduced regulatory leverage to 0.88x to 1x debt to equity, down from 0.91x to 1x debt to equity in the prior quarter. We also maintained our significant liquidity position, and we continue to operate with almost half of our balance sheet liabilities in fixed rate, unsecured, covenant-free bonds, the earliest of which mature in 2026.
On Slides eight and nine, we illustrate 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 quarterly regular dividend paid to shareholders 26 times and have never cut the regular dividend, even in the tumultuous environment we all experienced during the COVID pandemic. Additionally, over the same period, we have paid 19 special or supplemental dividends totaling $3.67 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 the capital markets, has demonstrated the strength of our investment and capitalization management strategies, as well as the absolute alignment of all our decisions with the interests of our shareholders. Continuing to generate this strong track record, we believe, is critically important to building long-term shareholder value. Turning to slide 10, we lay out the core tenets of our strategy, which haven't changed since its launch back in January of 2015. Our core strategy is lending and investing in the lower middle market, the vast majority of which is in first lien senior secured loans to private equity-backed companies.
In fact, approximately 90% of our credit portfolio is backed by private equity firms, which provide important guidance and leadership to the portfolio companies, as well as the potential for new junior capital support if needed. In the lower middle market, we often have the opportunity to invest on a minority basis in the equity pari passu with the private equity firm. As of the end of the quarter, our equity co-investment portfolio consisted of 53 investments with a total fair value of $117.5 million, which was 155% of our cost, representing $41.6 million in embedded unrealized appreciation or $1.15 per share.
Our equity portfolio, which represented approximately 10% of our total portfolio 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 over time. Our lower middle market strategy is complemented by club participations in larger companies led by like-minded lenders with whom we have relationships and have gained confidence in their post-closing loan management from working well together across multiple deals. Virtually all of these club deals are also backed by private equity firms.
As illustrated on slide 11, our on-balance-sheet credit portfolio as of the end of the quarter, excluding our I-45 Senior Loan Fund, grew 31% year-over-year to over $1.1 billion compared to $794 million as of the end of the prior year. For the current quarter, 100% of our new portfolio company debt originations were first lien senior secured. As of the end of the quarter, 96% of the total on-balance-sheet credit portfolio was first lien senior secured. Over the past eight years, as we have grown the credit portfolio, we have significantly improved the granularity of loan hold sizes in the portfolio. With the average hold size as a percent of the total loan portfolio falling from 5% to less than 1.5%.
On slide 12, we detail the $67.3 million of capital invested in and committed to portfolio companies during the quarter. The capital committed this quarter included $45.7 million in first lien senior secured debt committed to five new portfolio companies, including four in which we invested a total of $3.9 million in equity. We also committed $16 million in first lien senior secured debt and $1.7 million in equity to nine existing portfolio companies. Deal activity continues in the current quarter at a healthy pace, as we have originated over $80 million in new commitments since the March quarter end. Turning to slide 13, during the quarter, we had one loan originated in July 2016 prepaid based on the sale of the portfolio company by the private equity sponsor.
This exit generated approximately $16.8 million in proceeds, generating a weighted average IRR of 13%. Since the launch of our credit strategy, we have realized 68 portfolio exits, representing approximately $800 million in proceeds that have generated a cumulative weighted average IRR of 14.5%. Not surprisingly, refinancing activity continues to be slow given the widening spreads on new loans in the market. Based on these dynamics, we expect solid net portfolio growth in the coming quarters. We are pleased with the strong market position that our team has established in the lower middle market as a premier debt and equity capital provider, as evidenced by our consistent deal origination activity and the broad array of relationships across the country from which our team is sourcing quality opportunities.
In terms of underwriting this market, while our company and portfolio are performing well, we do find underwriting certain industries is more challenging given today's economic uncertainty. However, an important component of our loan underwriting has always been to run a stress case downside financial model for every new loan, simulating an extreme recession occurring soon after the closing of our loan. In that respect, our underwriting in the current environment hasn't changed from what we have done in the past. Although models today include much higher base rates than we have experienced historically. This modeling analysis attempts to tie the leverage level we are willing to put on a company to the potential performance volatility of a particular business and industry throughout the economic cycle.
Peak-to-trough recessionary performance volatility across industries has demonstrated how performance in past recessions can be very different. It is critical to assign leverage levels that are appropriate for a given level of potential performance volatility. Specifically, in our stress case financial model, we require the fundamental underwriting standard that the model demonstrates that our loan remains well within the portfolio company's enterprise value, and that the portfolio company's cash flow is able to cover our loan interest throughout the simulated recession. On slide 14, 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, this total portfolio fair value was weighted 86.6% to first lien senior secured, 3.1% to second lien senior secured, 0.1% to subordinated debt, and 10.2% to equity co-investments. The average hold sizes for portfolio loans and equity co-investments was $13.3 million and $2.2 million respectively. The credit portfolio had a weighted average yield of 12.8% and weighted average leverage through our debt security of 4x. Slide 15 illustrates the rating migration within our portfolio for the quarter. As a reminder, all loans upon origination are initially assigned an investment rating of 2 on a 4-point scale, with one being the highest rating and four being the lowest rating.
As of the end of the quarter, 95.7% of the portfolio fair value was rated in one of the top two categories, a 1 or a 2. As illustrated on slide 16, our total investment portfolio on this slide now 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. Again, the portfolio remains heavily weighted towards first lien senior secured debt with only 3% 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.
Michael Sarner (CFO)
Thanks, Bowen. Specific to our performance for the quarter, as summarized on slide 18, we increased pre-tax Net Investment Income 22% quarter-over-quarter to $22.8 million compared to $18.7 million in the prior quarter. Pre-tax NII was $0.65 per share for the quarter. During the quarter, we paid a $0.53 per share regular dividend and a $0.05 per share supplemental dividend. As mentioned earlier, our board has approved an increase to the regular dividend for the June quarter to $0.54 per share and declared another $0.05 per share supplemental dividend for the quarter. Maintaining a consistent track record of meaningfully covering our dividend with pre-tax NII is important to our investment strategy.
We continue our strong track record of regular dividend coverage with 113% coverage for the last 12 months ended March 31, 2023, and 108% cumulative coverage since the launch of our credit strategy in January of 2015. Given the floating rate nature of our credit portfolio, elevated interest rates continue to be a significant tailwind to our net investment income. The base rate index used to calculate interest on the majority of our loans reset in early April to approximately 5.1%, up from its early January reset at 4.75%. This increase quarter-over-quarter will provide another immediate step-up in portfolio income in the June quarter.
We expect to thoughtfully increase our regular dividend to a level which can be sustained should base rates return to a neutral level. While base rates remain elevated, our intent is to distribute a portion of excess pre-tax NII to our shareholders each quarter through supplemental dividends. Based upon our current UTI balance of $0.45 per share, the ability to grow UTI each quarter organically by overearning our total dividend, and the expectation that we will harvest gains over time from our existing $1.15 per share in unrealized appreciation on the equity portfolio, we are confident in our ability to continue to distribute quarterly supplemental dividends for the foreseeable future.
For the quarter, we increased total investment income from our portfolio 14% quarter-over-quarter to $37.2 million, producing a weighted average yield on all investments of 12.1%. Total investment income was $4.4 million higher this quarter due to our higher average balance of credit investments outstanding, in addition to the tailwind provided from increases in LIBOR and SOFR base rates. As of the end of the quarter, we had approximately $4 million of our investments on non-accrual, representing 0.3% of our investment portfolio at fair value, with no new non-accruals added this quarter. Finally, the weighted average yield on our loan portfolio was 12.8% for the quarter. As seen on slide 19, we further improved LTM operating leverage to 1.9% as compared to 2.2% in the prior year.
Achieving 2% or lower operating leverage was one of our initial long-term goals when we relaunched Capital Southwest as a middle market lender back in 2015. Though we are pleased to have reached this milestone, looking ahead, we expect our internally managed structure to produce incremental improvements in operating leverage over time. We believe our willingness and ability to operate our business efficiently as an internally managed vehicle provides shareholders significant upside in terms of dividend sustainability and growth in the future. Turning to slide 20, the company's NAV per share at the end of the quarter increased by $0.12 per share to $16.37, representing an increase of 0.7%.
The primary drivers of the NAV per share increase for the quarter were earnings in excess of our dividends for the quarter, as well as accretion from the issuance of common stock at a premium to NAV per share. Turning to slide 21, as Bowen mentioned earlier, we are pleased to report that our balance sheet liquidity remains strong, with approximately $196 million in cash and undrawn leverage commitments as of the end of the quarter. Based on our credit facility borrowing base as of the end of the quarter, we have full access to our incremental revolver capacity and will look to opportunistically increase commitments to the facility in the near future. Our bank syndicate continues to support our growth. We are pleased with the flexibility the revolving credit facility provides to our capital structure.
We also have $10 million in committed but unfunded SBA debentures to be used to fund future SBIC-eligible investments, as well as $45 million in uncommitted capacity on our current SBIC license to draw from in the future. As of March 31, 2023, approximately 45% of our capital structure liabilities were unsecured, our earliest debt maturity is in January 2026. One of our initiatives for the current year will be to both increase and extend our revolver capacity in order to be well prepared to effectively manage maturities in the future. As Bowen mentioned earlier, we received a Baa3 investment-grade rating from Moody's Investors Service in March of this year. This rating is further validation of our first lien-focused investment strategy, our strong credit underwriting track record, and our prudent balance sheet management throughout a variety of capital markets environments.
We believe this rating will help immensely in future capital raises as we look to expand our investor base and complete larger capital markets transactions. Our regulatory leverage, as seen on slide 22, ended the quarter at a debt-to-equity ratio of 0.88x to 1x, down significantly from 1.16x to 1x as of the March 2022 quarter. Over the past several quarters, we've made a concerted effort to strengthen our balance sheet to ensure we are prepared for any macroeconomic headwinds that we may encounter in the future.
These efforts have included our opportunistic unsecured bond issuances at record low rates in the late calendar 2021, our receipt of an SBA license in April 2021, which gave us access to long-term fixed debt at attractive rates, 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 equity issuances utilizing both our ATM program as well as the secondary equity market. We will continue to work toward 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.
Bowen Diehl (President and CEO)
Thanks, Michael. Again, thank you everyone for joining us today. We appreciate the opportunity to provide you with an update on our business, our portfolio, and the market environment. Our company and portfolio continue to perform well, and I continue to be impressed by the job our team has done in building a robust asset base, deal origination capability, as well as a flexible capital structure.
As to the uncertainty in the economy, again, we have been underwriting with a full economic cycle mentality since day one, which we believe has positioned us well for any economic environment presented to us in the future. In summary, we have a floating rate credit portfolio heavily weighted to first lien senior secured debt allocated across a broad array of companies and industries, 90% of which is backed by private equity firms. We have a well-capitalized balance sheet with diverse capital sources, strong liquidity and flexible capital, much of which is fixed rate and covenant light. We believe our first lien senior secured investment focus and our capital raising strategy provide us complete confidence in the health and positioning of our company and our portfolio as we look ahead. This concludes our prepared remarks. Operator, we are ready to open the lines up for Q&A.
Operator (participant)
Thank you. Ladies and gentlemen, if you have a question or a comment at this time, please press star one one on your telephone. If your question has been answered and you wish to move yourself from the queue, please press star one one again. We'll pause for a moment while we compile our Q&A roster. Our first question comes from Mickey Schleien with Ladenburg Thalmann. Your line is open.
Mickey Schleien (Senior Equity Research Analyst)
Yes, good morning, everyone. Bowen, I wanted to ask you about the portfolio activity during the quarter. You know, what were the catalysts that allowed you to be so active, in what is usually a seasonally slow quarter and with overall M&A volumes, you know, down pretty meaningfully?
Bowen Diehl (President and CEO)
You know, it's an interesting question. I mean, if I look down the originations, I mean, they were just sponsor relationships. They were active in the market. You know, the lower middle market, I mean, activity was $60 million or so for the quarter is an okay quarter from an originations perspective. Obviously as we referenced on the prepared remarks, we've done, you know, over $80 million in this quarter. The activity in our world, you know, with the sponsors that we have relationships with across the country, is, you know, It just continues to be, you know, nicely active. You know, the leverage levels are down, spreads are up, loan-to-value percentages are down from like a year ago.
It's, you know, I don't know that we were doing anything as a firm differently, other than just, you know, continuing to underwrite to a coming recession. You know, it just, our sponsors are, have been, you know, reasonably active.
Michael Sarner (CFO)
Yeah. I'd also add, you know, as we've grown our balance sheet, you'll see, you know, our add-on investments with our existing portfolio has grown as well. I mean, there's obviously.
Mickey M. Schleien (Analyst)
Yeah.
Michael Sarner (CFO)
A lot of these companies are doing well. They're doing M&A transactions themselves, that supplements, you know, new platforms as well.
Bowen Diehl (President and CEO)
I mean, I'd say one thing as I look down the originations, you know, given some of these leverage levels, asset coverage on some of these deals, I would say that the banks have been less aggressive in the market. As I look at that, I see lower leverage levels and a couple of situations have nice asset coverage. A year ago, they would be bank deals that we've been able to compete for. That's one thing, that has to be probably due to the banks' mentality looking at the market and pulling back. As we all know, that's kind of going on in the economy. Then, you know, we see, you know, less competition from, you know, a bank mezz alternative. You know, mezzanine is usually attached to a bank loan.
We're seeing, you know, my sense is we're seeing less competition from that, probably built, you know, driven by the, again, the bank's level of aggressiveness in the market. I think those two things in our world, in our lower middle market world, would be a positive uplift, all else equal to our activity.
Michael Sarner (CFO)
The Schleien inquiry-
Mickey Schleien (Senior Equity Research Analyst)
Yeah.
Michael Sarner (CFO)
We mentioned earlier, Mickey, in terms of early originations in the June quarter, a lot of those were deals that we've been working on for the last, you know, two to four months.
Bowen Diehl (President and CEO)
Yeah.
Michael Sarner (CFO)
They're not just, you know, coming on our plate today, so a longer tail.
Mickey M. Schleien (Analyst)
I understand. Yeah, I was actually gonna ask about the bank competition, so I'm glad you addressed that. A couple more questions from me. Clearly the market's concerned about the outlook for credit. That's no secret. But you noted that the portfolio is performing well, which is really good to hear. But I do see that the portfolio's average EBITDA declined. Could you just walk us through how much of that decline was due to any portfolio company performance issues versus just movements in the portfolio due to the size of the new investments that you made?
Bowen Diehl (President and CEO)
I mean, like if we looked across our whole portfolio this quarter as we do each quarter, you know, it's kind of on a weighted average basis, kind of flat. You know, revenues flat, EBITDA with the whole portfolio is basically flat. You know, definitely, you know, I would say that the trajectory of the EBITDA and revenue, it's not really negative, but it's slowing. You know, from a portfolio comment, it's, you know, the trajectory is flattening out, I guess, is the best way to say it. He's looking at the average EBITDA on the portfolio.
Michael Sarner (CFO)
Yeah. I think it's because some of the new originations we put in place actually had lower EBITDA. To Bowen's point, the existing portfolio is flat, but the new originations were less than that EBITDA, and therefore that's why you saw the reduction. It's not about-
Bowen Diehl (President and CEO)
Yeah. My comment's more on a portfolio static basis. Yes, that's right. The new deals are slightly smaller EBITDA for sure. Yeah.
Mickey Schleien (Senior Equity Research Analyst)
Okay. That's what I suspected. Is that because you see the lower middle market as offering a better risk-adjusted return, or is it just idiosyncratic to, you know, the deal pipeline and the pace at which deals are closing? I'm asking because certain other BDCs have indicated that they're seeing better terms in the, you know, further up into the middle market or in the upper middle market. You know, historically, that's not the case.
Bowen Diehl (President and CEO)
Yeah. No, we're seeing the traffic terms in the lower middle market. I think also the other thing that's going on is, you know, we do a new origination that's got, you know, a less EBITDA, you know, smaller company. We back a lot of buy and build. We're doing add-ons with our sponsors. The EBITDA of the portfolio company grows through acquisitions. You can see, you know, new originations are gonna have most of the time, less EBITDA than the portfolio would because we're just getting started. That's the first platform. We'll do several acquisitions. Three or four quarters from now, that EBITDA on that particular company could be much larger.
Mickey Schleien (Senior Equity Research Analyst)
I understand. Just one housekeeping question? You mentioned, I think in the press release it says you got $16.8 million from Amware Fulfillment. When I looked at the previous SOI, it showed a principal outstanding from them at $17.1 million. I just try to reconcile that to the IRR that you mentioned. Did you actually take a loss on that investment apart from the interest that you collected over time?
Bowen Diehl (President and CEO)
No, we definitely didn't take a loss. you know, there was a principal prepayment that happened. that exit is the proceeds on the exit. we had gotten a principal prepayment prior to the exit. we got full par back.
Mickey Schleien (Senior Equity Research Analyst)
Okay. That's it for me this morning. I appreciate your time as always. Thank you.
Bowen Diehl (President and CEO)
Thanks. Thanks, Mickey.
Operator (participant)
One moment for our next question. Our next question comes from Erik Zwick with Hovde Group. Your line is open.
Erik Zwick (Director of Equity Research)
Thank you. Good morning. Wanted to first just start as I looked at the trend, in the income statement. Noticed that the, both the dollar amount and the percentage contribution from PIK interest, has increased. Wondering if you could just talk about that trend a little bit, what's driving that?
Michael Sarner (CFO)
From the previous quarter to this quarter, that's actually one company that had around $300,000 in PIK. That company had a PIK toggle through a previous amendment that ended at the end of March 31 when we had another amendment where there was an equity infusion in cash. That company is de-levered and performing and back on cash. We would expect that to come back down in the subsequent quarter.
Erik Zwick (Director of Equity Research)
Okay. That's helpful. Thank you. I noted that for the I-45 SLF, that credit facility was amended to reduce the available total commitment from $150 to $100. Curious, you know, kind of maybe the tenor of that discussion or what kind of drove that reduction.
Michael Sarner (CFO)
Yeah. You know, we'd probably tell you over the last two and three years, our investments in the syndicated space has been opportunistic at best. What we've seen are, you know, the credit facility, you know, come down from probably $135 million drawn to, you know, $80 million drawn today. We were incurring significant unused fees, at the $150 million in commitment side. It made sense without us seeing, you know, a runway where we'd be, you know, relevering that facility. It made a lot of sense just to a permanently reduction, to the level that's more, more appropriate for our current utilization.
Bowen Diehl (President and CEO)
Just to be clear, 100% driven by us.
Erik Zwick (Director of Equity Research)
Okay. Great. No, that's I appreciate the commentary there. I guess maybe a quick follow-up on that one. Does that mean, you know, as you mentioned, you know, don't have any ability to or don't have any desire at this point to kind of utilize that and lever that facility back up? Is that just what you choose to hold on your balance sheet outside of that? The opportunities are more attractive today in terms of spread and what you're seeing?
Michael Sarner (CFO)
I mean, I would tell you yes. I mean, if you think about a levered return, you know, our leverage on our balance sheet is about commensurate with the leverage in the credit facility for I-45, and the yields tend to be a little wider on the lower middle market than they do in the upper middle market. The all-in return is more attractive. We also have more control as a first lien lender with covenants than you might see on the syndicated space.
Bowen Diehl (President and CEO)
Yeah, as we've kind of said the last several quarters, I mean, from what I've heard from other earnings calls, I think it's probably similar across the industry. I mean, the syndicated markets just hasn't been that interesting within that box, especially for us, given how robust our lower middle market asset class and platform is being. That senior loan fund is really designed around the syndicated market kind of product. You know, the decrease in the facility reflects kind of the, you know, the less investing in that asset class, and, you know, we'll see where it goes going forward. You know, we could always grow it and expand it in the future if we saw the opportunity to, we don't really...
We're very focused on the direct lending to the lower middle market where we lead the deals.
Michael Sarner (CFO)
Yeah. To Bowen's point earlier, I mean, there's plenty of appetite from DB who leads that facility to grow, as well as some of the lenders underneath it in the syndicate.
Erik Zwick (Director of Equity Research)
Got it. That's helpful. Thank you. One last one for me, then I'll step aside. I appreciate the interest rate sensitivity table you included on page 26. I guess I'm just curious if the Fed is done hiking here. I guess there's still some debate whether they do one more in June. If we start to see LIBOR and so forth, kind of level out, maybe hold at this level for a little while, is there still a little bit of lag benefit that you would see in terms of your portfolio yields and NII as it kind of catches up to the final Fed or increase in kind of the base rates and so forth in LIBOR?
As we move forward, would you still potentially see a little bit of creep as you put on new investments, which seem to be coming on with maybe with higher spreads? Just trying to get a sense of, you know, the direction of NII from here.
Michael Sarner (CFO)
Sure. Yeah. We would tell you that, you know, if rates do flatten out at 5.25% or thereabouts for a period of time. I mean, we would expect that our NII would be somewhere in the $0.65-$0.70 range for a period of time. It's hard to see. You know, I think we put our balance sheet in a, in a pretty strong position. You know, we've got, you know, inexpensive fixed rate debt. We've got the SBIC, which is low rate that we're funding off of and, you know, floating rate assets. We, we certainly, you know, we can see expansion in NII in the, in the near term.
Erik Zwick (Director of Equity Research)
Thanks for taking my question today.
Michael Sarner (CFO)
Thank you.
Operator (participant)
One moment for our next question. Our next question comes from Robert Dodd with Raymond James. Your line is open.
Robert Dodd (Director in Specialty Finance)
Hi, guys. On the leverage, you know, obviously it's come down. It's slightly below, I think the historic target range. Is that you see the pipeline building, obviously $80 million since the end of the quarter, and so you took the leverage down to rebuild it that way? Or is there any connection to, you know, was there any feedback from Moody's that maybe they've got a different target in mind?
Michael Sarner (CFO)
Moody's is actually part of their analysis in providing us an investment grade was our strategy to delever going into what could be a cycle and being at the low level. The lower end of our range meant, you know, certainly was important to them. I mean, it just happened to dovetail. Their view would dovetail with our strategy. That's positive.
Robert Dodd (Director in Specialty Finance)
Yeah.
Michael Sarner (CFO)
Going forward, I mean, I think you tell us. We tell you, Bowen and I would tell you that if we think we're going into a tumultuous time or even, you know, going kind of sideways, we think we should start out at a lower leverage. Being at 0.8x, 0.9x is where we'd like to be. We still see the ability to raise equity off the ATM, which we started off this quarter with some, you know, with the ability to do that as well. We feel like staying at that bottom end is not gonna be an issue for us in the short term, and it's certainly where we are.
If and when there's sort of an all clear in the market, you could see us, you know, ticking up, maybe raising slightly less equity and trending closer to 1x regulatory leverage. That's where we are now.
Robert Dodd (Director in Specialty Finance)
Got it. Got it. I appreciate that. One, one more question if I can. Maybe I'm reading too much into this. On page 15 of your presentation, obviously there were three investments that were downgraded, but small, right? This quarter, but you last quarter you had nine category three, category four. This quarter, you've still got nine. Three downgrades, presumably three others, that were already rated, the loan that were exited. If I look at footnote 5 on page 14, right? Last quarter, you're excluding six portfolio companies because of I guess negative EBITDA. And this quarter you're excluding nine, right? That's three again. Is it that the...
Are there three portfolio companies that are showing meaningful EBITDA deterioration or is there, I mean obviously you talked about the average, like the average portfolio revenue EBITDA is kind of flat. At the margin, are there three that are showing, you know, material weakness at the moment? Or am I reading too much into a couple of party details?
Bowen Diehl (President and CEO)
Yeah. We break that apart in a couple of pieces. On the new downgrade to a 4 was the last small loan in one of the prior number 4-rated companies. It's not, it's further deterioration in an already very tough situation we've been writing. It was written down for a while. That's not a new portfolio company story. The two that there was... The two downgraded to a 3, you know, both underperforming. One of them underperforming very temporarily because of some inventory adjustments at its customers. The other ones that, you know, underperforming, it deserved going down to a 3. That's, I mean, you know.
Yeah, add to that, Michael.
that's the.
Michael Sarner (CFO)
Yes.
Bowen Diehl (President and CEO)
The color behind those group.
Michael Sarner (CFO)
Yes. If you turn to on slide 14, the increase from 3.6x to 4.0x was actually we included a company back in these metrics because it now has positive EBITDA, where it had negative EBITDA in the previous quarter. Therefore the metric shifted up just by its inclusion because it is a highly leveraged business. I think if you excluded that company, the weighted average leverage would actually been pretty consistent with the previous quarter.
Robert Dodd (Director in Specialty Finance)
Got it. Got it. I appreciate that. Thank you.
Michael Sarner (CFO)
Sure.
Bowen Diehl (President and CEO)
Yeah. Thanks, Robert.
Operator (participant)
I'm not showing any further questions at this time. I'd like to turn the call back over to Bowen.
Bowen Diehl (President and CEO)
Great. Thank you, operator. Thanks, everybody for joining us. We always love for, you know, giving you an update on our company and how we're performing and, we look forward to speaking to you next quarter. Thank you.
Operator (participant)
Ladies and gentlemen, this concludes today's presentation. You may now disconnect and have a wonderful day.