We are re-publishing an article that appeared in our sister publication BDC Best Ideas updating the long-term outlook for Barings BDC (BBDC). This followed an in-depth review of the BDC’s earnings press release, 10-Q, Investor Presentation, and latest conference call transcript. We also leaned on a survey of the BDC’s portfolio undertaken by that other sister publication – the BDC Credit Reporter – which found little in the way of likely future losses. Every time there is a material update to the outlook – and prospective total return – for one of the 41 BDCs we track, BDC Best Ideas writes an Update. This is the most recent in the series:

August 16, 2023

Things Change

The last time we updated Barings BDC (BBDC), the stock price was at a relatively low level and had recently fallen to $8.10. However, with our long-term perspective – and following a thorough review of the BDC – we remained sanguine about BBDC’s outlook. Now, 6 months later – and after another in-depth review of BBDC’s latest results (including leaning on the BDC Credit Reporter’s most current assessment), we’re making a change in the Expected Return model.

Higher

Starting in 2024, we’ve increased the expected annual distribution to $1.1000 per share, going through to 2027. Previously, we were projecting the distribution would be $1.0200 from 2023 through 2027. The dividend multiple we use to set a Target Price remains at 12.50x. Furthermore – and a new metric to take into consideration – we’re projecting that BBDC’s NAV Per Share will remain unchanged between the end of 2022 and the end of 2027.

Up When Down

Admittedly, a 7% increase in the annual distribution might not seem like much, but given that everyone expects interest rates to drop from 2024, this projection is relatively aggressive.  We have a host of reasons, though, why we believe BBDC can reach the stated level and – more importantly – stay there.

Of Late

To date, BBDC’s 2023’s earnings and dividend performance have been encouraging. The former is highly volatile as adjustments to the incentive fee are constantly occurring. Anyway, through mid-year BBDC’s Net Investment Income Per Share (NIIPS) has reached $0.66, including $0.3100 most recently. Earnings would have been better had incentive fees not been higher due to a catch-up payment from prior quarters. The analyst consensus is that BBDC will achieve NIIPS of $1.2000 in 2023 and $1.2400 in 2024. That’s notable because analysts are typically presuming the BDC sector will be reporting slightly lower EPS next year than this.

Factors

In the short run, BBDC’s results should benefit from the July 2023 0.25% rate increase and from our not-so-unusual belief that the Fed will keep rates pretty high for some time.  Further down the road, income will be boosted further as the assets from a couple of joint ventures that were not generating much income are redeployed into loans. By 2024, we’re also hopeful that proceeds from the resolution of bankrupt – and non-performing – Core Scientific will also get deployed into new interest-bearing assets.

Looking Good

We are also encouraged by the outlook for net book value. The BDC Credit Reporter makes clear that BBDC has a number of underperforming companies on its books – including 6 on non-accrual – but very little in the way of likely further unrealized losses to worry about right now. Importantly, the BDC’s portfolio is highly diversified and mostly invested in lower-risk middle-market loans. As a result, BBDC boasts a lower average loan yield than most of its peers but also has less to fear in credit terms. Management is not shy about buying shares at a discount when appropriate – as very successfully shown in the IIQ 2023 – which boosts NAVPS.

Dividend Policy

BBDC’s management has been building up – like many others – an ever-higher reserve of “spillover” income. That should continue into 2024. This provides very useful support in years to come for the maintenance of the distribution even if quarterly EPS wavers. Moreover, management has taken a slow and steady approach to its dividend increases, which makes it less likely that it will need to reverse course when rates begin to fall.

In-Line

As repeated on its most recent conference call, BBDC’s Powers-That-Be are targeting a return on equity (distribution to net book value per share) of 8%-10%. Our projected $1.1000 projection for 2027’s payout and the NAVPS of $11.05 results in a 10% ROE – at the upper end of the range.

Valuation💡At the time of writing BBDC’s stock price is $9.23 – substantially higher than the last time we wrote and boosted by the recent dividend increase to $0.2600 per quarter. With the new dividend projection of $1.1000 in 2027, the Target Price at a 12.5x multiple is $13.75 – 40% higher than today. The Total Return over 5 years is 107%, or 21.5% per annum. The 2024 yield at the projected distribution of $1.1000 is 11.9%. (Using the latest distribution, the actual yield is 11.3%). 

Buy, Sell, or Hold💡We are maintaining a BUY rating on BBDC, which is trading at an (18%) discount to NAVPS and (10%) below its 52-week high and (20%) below its all-time high. The expectation of higher earnings and distributions; credit stability and the support of a huge asset manager offset the lower-than-average yield on offer and the recent run-up in the stock price