INTRODUCTION

IIIQ 2024 earnings season beckons so we’ve dug into all the work we’ve done about Barings BDC (BBDC) in the recent past at all three of our publications – BDC Reporter, BDC Credit Reporter and BDC Best Ideas – to prepare us for what we might expect on November 6. This preview does not simply cover what recurring earnings might or might not be – arguably the least important metric investors if one agrees with Jamie Dimon who famously said a couple of days ago:

“Can I just point out that NII, all things being equal, is a number, but all things are never equal?” 

Seeking Alpha – October 13, 2024 JPMorgan’s Jamie Dimon, analysts exchange words on 2025 NII outlook

We also cogitate about other elements that comprise financial performance: change in portfolio size/mix; credit performance (worthy of a tome by itself); net book value and the dividend payout. We end by looking at how BBDC’s has performed since the last time results were announced and how the markets are valuing the BDC on the eve of its quarterly reveal.

PORTFOLIO SIZE

At the end of 2023, BBDC’s portfolio at cost was $2,535,576,000 and by mid-2024 had fallen to $2,445,862 – a (3.5%) decrease. The fair market value went from $2,488,715 to $2,395,660, (3.7%) down. Through the year so far, BBDC has incurred ($13.3mn in realized losses) or just (0.7%) of its equity capital at par. This has been partly offset by a hodgepodge of unrealized gains and losses, netting out at $5.3mn unrealized gain and bringing net losses down to ($8.0mn). Given the size of the BDC’s portfolio and its net book value of $1.2bn, these are insignificant movements over 6 months.

As of June 2024, the BDC’s net leverage was $1.07x, well off the 1.25x target top. Technically that could allow AUM to grow by over $200mn, everything else being equal. We can’t say what will happen to the size of the portfolio in the IIIQ but we are not expecting the cost – or the FMV for that matter- to change by much. That’s not the Barings way.

We’ll be keeping an eye out for what proportion of investments are BBDC generated – as opposed to MVC or Sierra – the BDCs acquired along the way. As of the IIQ Barings had originated 90%. That should continue to go higher, eroding the number and value of the sometimes dodgy investments scooped up previously.

EARNINGS

BBDC’s Net Investment Income Per Share (NIIPS) jumped up in IIQ 2024 to $0.40 from $0.28 in IQ, but only due to no incentive fee being charged temporarily thanks to the BDC’s complex and semi-shareholder friendly compensation contract. At half year that places NIIPS at $0.68, 10% ahead on an annualized basis if the BDC Best Ideas full year projection of $1.24.

In the IIIQ and IVQ 2024, the analysts are not expecting any fee waiver – for our part we can never tell – and projecting $0.30 in both quarters and $1.27 for the year.

In 2025, the analysts are expecting NIIPS will fall off to $1.13 – a (10%) drop. BDC Best Ideas is projecting $1.16 and by 2028 expects NIIPS to come down to $1.00, thanks to those promised Fed rate decreases. (For BBDC – and everyone else – we are presuming SOFR will ultimately drop by 2027 to 2.3% from 4.8% or so currently). For reference, the projected $1.00 NIIPS is just about (20%) off BBDC’s likely peak earnings in 2024; greater than its performance in 2021 but lower than 2022.

CREDIT

Important Underperformers

BBDC has a highly granular portfolio and most underperformers don’t reach our materiality minimum of $5mn. (The average FMV of investments is a very low – by BDC standards for a fund of this size – of $7mn, or 0.6% of net assets). As a result, there are only 4 Important Underperformers in the 329 company portfolio. Two of those are special purpose vehicles created by the Barings organization and in the process of being wound down – Waccamaw River, LLC and Thompson Rivers LLC with an aggregate FMV of $23mn, and expected to result in further losses of only ($3.7mn).

The other two Important Underperformers include Black Angus – a long standing troubled , non-performing credit inherited from an acquisition and for which there is famously little to report. The credit is “guaranteed” by BBDC in the long run and we’ve heard of no change of late.

That leaves only FinThrive – recently downgraded by Fitch – and rated CCR 4 by BDC Credit Reporter – to worry about. This is a Trending name which might reduce in value in the IIIQ 2024 or thereafter. BBDC holds preferred stock paying a dividend which could be suspended and the value of the investment decreased. See the BDC Credit Reporter article of September 27, 2024.

Non Accruals

The disadvantage of having a “granular” portfolio – i.e. large number of portfolio companies – is that – inevitably – there will be losers. BBDC has 7 non-accruals on the books, including one new one added in the IIQ 2024.

As of June 30, 2024 … the Company had seven portfolio companies…with investments that were on non-accrual. .The seven portfolio companies on non-accrual included one portfolio company purchased as part of the Sierra Merger, one purchased as part of the MVC Acquisition and five portfolio companies originated by Barings. 

…the aggregate fair value of which was $6.5 million, which comprised 0.3% of the total fair value of our portfolio, and the aggregate cost of which was $43.2 million, which comprised 1.8% of the total cost of our portfolio

Both the cost of non-accruals and the FMV – as a percentage of the portfolio – are very low by BDC standards. Only one non-performer – Black Angus – is carried at a value above $2mn.

It is very difficult to determine if the number of non-accruals or the cost of the investments involved or the FMV will change much in the IIIQ 2024. We do note, though, that 6 of 7 non-performers had no material decrease in value last quarter.

Overall Credit Performance

Back in August 2024 – at the time of the IIQ 2024 results – we wrote this about the BDC’s credit performance:

Overall, BBDC’s Credit performance – when considering long term net losses; percentage of underperforming assets; percentage of non-accruals at both cost and FMV and taking into account estimated losses in the future – is ABOVE AVERAGE by our standards. Thankfully the BDC’s portfolio remains one of the most granular in the BDC sector.

Subsequently, though, after further credit review we’ve retreated from that view and regard recent credit performance as NORMAL (4 stars out of 5).

After latest analysis decided the high percentage of underperforming assets (21.6% of portfolio) and high-ish level of realized losses in the first half of the year – equal to 25% of NII – merited only a NORMAL credit rating.

Internal Notes

NAVPS

In the first half of 2024, BBDC’s NAVPS is 1.0% up and flat over the past 12 months. In the IIQ 2024, this metric was off a modest (0.7%) over the IQ 2024, ending at $11.36.

Over the long term, BDC Best Ideas expects NAVPS to remain stable at the 2023 level of $11.28. There is no projection for the IIIQ 2024 but potentially “out-earning” the dividend by $0.04 per share – assuming a $0.30 NIIPS as per the analysts – should help offset about ($4mn) of potential net losses.

We doubt there will have been accretive common stock issuance or share buybacks to boost NAV. See the IIQ 2024 NAV bridge for an illustration:

DISTRIBUTIONS

As this dividend chart from BBDC’s website shows, the BDC has inexorably managed to increase its annual payout every year:

In 2024, the BDC has paid out 3 $0.26 quarterly dividends and appears very likely to reach a total payout of $1.04 just by maintaining its dividend level in the IVQ. That would set a new record, appropriately in the same year that BBDC is projected – see above – to reach peak earnings.

Now comes the complicated part. What will BBDC’s dividend look like in years ahead as earnings drop due to forces beyond the BDC’s control? We created BDC Best Ideas to try to answer such questions because no one else is tackling the longer term outlook. Our sister publication projects the annual dividend will come down – though 2028 – only modestly: to $1.00 per share. The argument is that there is considerable “coverage” between earnings and payout which will allow BBDC’s management to support its dividend for some time even as profits fall.

STOCK PRICE

As this chart shows, the market was reassured by the IIQ 2024 results issued on August 7, causing the stock price to rise. What the chart does not show that prior to the earnings release investors had pulled in their horns, dropping the price by (8.5%) from a recent high on July 30 – a significant drop in a short time. On August 8, BBDC rose to $9.97 from $9.45 before the earnings were known. By August 23, BBDC was up to $10.10 but has since slumped back to $9.85 at the open on October 17. In the interim, a shareholder would have received a $0.26 IIIQ 2024 dividend. The price gain over this period comes to 4.2% – the “slump” notwithstanding. On a “total return” basis, BBDC is up 7.0%.

Performance Metrics

• The current yield – on an annual payout of $1.04 and a stock price of $9.85 – is 10.6%, below the sector yield of 11.8% as calculated by BDC Best Ideas (which data does not include HRZN or TPVG).
• Given the 2024 projected NIIPS of $1.27 in 2024 and $1.13 in 2025, the price to earnings ratios are 7.8x and 8.7x respectively.
• The BDC is trading at a (13%) discount to its NAVPS and (4%) below its 52 week high and (14%) below its 5 year high of $11.40.
• According to SA, the stock is up 15% YTD, and has generated an annual total return of 7% over 3 years and 11% over 5 years. The 10 Year data is not useful as it includes some time when the BDC was Triangle Capital.

CONCLUSION

We have rated BBDC a 3 on our 1 to 5 rating scale – performing as expected – since the IVQ 2023 when we got started doing such things. Everything seems to point to BBDC achieving the same in the IIIQ 2024. Longer term – leaning on BDC Best Ideas – BBDC seems to have a good shot at maintaining a stable NAVPS, seeing its earnings drop by a fifth through 2028 but come close to maintaining its current record payout. Of course, once the BDC’s results do come out we’ll have another chance to assess the outlook.