CION Investment Corporation (CION) CEO Michael Reisner on Q2 2022 Results – Earnings Call Transcript

CION Investment Corporation (NYSE:CION) Q2 2022 Earnings Conference Call August 11, 2022 11:00 AM ET

Company Participants

Michael Reisner – Co-Chief Executive Officer

Gregg Bresner – President and Chief Investment Officer

Keith Franz – Chief Financial Officer

Conference Call Participants

Finian O’Shea – Wells Fargo Securities

Operator

Good morning and welcome to CION Investment Corporation’s Second Quarter Ended June 30, 2022 Earnings Conference Call. An earnings press release was distributed earlier this morning before market open. A copy of the release, along with the supplemental earnings presentation, is available on the company’s website at www.cionbdc.com in the Investor Resources section and should be reviewed in conjunction with the company’s Form 10-Q filed with the SEC. As a reminder, this conference call is being recorded for replay purposes.

Please note that today’s conference call may contain forward-looking statements, which are not guarantees of future performance or results and involve a number of risks and uncertainties. Actual results may differ materially from those in the forward-looking statements as a result of a number of factors, including those described in the company’s filings with the SEC.

Speaking on today’s call will be Michael Reisner, CION Investment Corporation’s Co-Chief Executive Officer; Gregg Bresner, President and Chief Investment Officer; and Keith Franz, Chief Financial Officer.

With that, I would now like to turn the call over to Michael Reisner. Please go ahead, Mr. Reisner.

Michael Reisner

Thank you, Kevin. Good morning, everyone and thank you for joining us. I hope everyone is enjoying their summer. As mentioned, I am joined today by Gregg and Keith as well as other members of senior management, including my Co-CEO, Mark Gatto. I will start our call today with an overview of second quarter results and our long-term strategy. Gregg will review our investment activity during the quarter, and Keith will provide additional detail on our financial results. After Keith’s remarks, we will open the call to questions.

During the quarter, we continued to execute on our long-term business plan of growing our portfolio through a measured growth strategy as we seek to provide excellent risk-adjusted returns to our shareholders while remaining very disciplined in our credit selection. This strategy generated strong second quarter results despite the conservative use of our existing leverage capacity. As a result, we were able to announce an increase in distributions for the third quarter by $0.03 a share or over 10%, from $0.28 per share to $0.31 a share, which we believe represents a meaningful return to our shareholders.

More specifically, over the quarter, we had strong capital deployment, and our portfolio continued to grow with quality deals. At June 30, the number of our portfolio companies increased to 121 from 115 across 22 industries. We had new investment commitments of $184 million, funded new investment commitments of $165 million, funded previously unfunded commitments of $8 million and had sales and repayments totaling $110 million. We funded 10 new portfolio companies and 9 existing portfolio companies, with 90% of such investment commitments to the new portfolio companies.

Our increased total debt capacity has positioned us well to continue to grow our portfolio by pursuing a measured and disciplined strategy. Following shareholder approval to reduce our asset coverage ratio requirements from 200% to 150% at the end of 2021, we took steps to increase our total debt capacity by a total of $150 million.

In terms of credit quality, our high-quality portfolio continued to improve, notwithstanding two new non-accruals during the quarter, one of which is due to timing and which Gregg will discuss shortly in more detail. Non-accruals in general were relatively low as compared to the total fair value of our investment portfolio and accounted for just 1.5% of the overall portfolio at fair value at quarter end. During the quarter, the weighted average yield on our performing loan portfolio increased by 39 basis points to 9.51% compared to 9.22% from Q1, while most of our other important quality metrics – credit metrics improved quarter-over-quarter.

Our deal pipeline continues to be active with quality first lien deals. We remain focused on first lien debt investments, and were able to slightly increase the level of these investments at the end of the quarter to 92.7% of the portfolio. This compares with 92% in the first quarter of 2022, somewhat similar to the full year 2021, but it’s important to note that we have seen a significant increase from 82% of our portfolio at year end 2020. Our pipeline continues to be extremely robust, as Gregg will discuss.

In addition, we previously announced an increase in the total amount of the share repurchase policy by $10 million or 20% to a total of $60 million. Given that our stock currently trades at a significant discount to our net asset value per share, which was $15.89 per share at quarter end, we strongly believe that increasing the amount to be repurchased under our existing share repurchase policy is an efficient deployment of existing capital and should be very accretive to our current shareholders and net investment income, possibly providing higher returns to our current shareholders. The repurchase plan that will implement our share repurchase policy will be put into effect in the next week or so.

As we continue to move deeper into the second half of the year, we expect the same trends to continue in the third quarter, where we believe that we are well positioned to take advantage of sound investment opportunities arising from this environment without deviating from our core investment strategy. We firmly believe that the increased number and quality of floating rate investments should further positively affect our net income in the coming quarters. While higher inflation, rising interest rates and geopolitical events continue to impact the financial markets and the broader economy, we continue to focus on aspects which we are able to control by managing risk while pursuing growth in a prudent and measured manner.

Now I’d like to turn it over to Gregg for an overview of the investment market and our investment activity for the quarter.

Gregg Bresner

Thank you, Michael, and hello, everyone. In describing the second quarter of 2022, I could not help but think of Charles Dickens’ opening sentence in his immortal novel, A Tale of Two Cities, as it was the best of times for some, and for others, the worst of times. There was a clear bifurcation between private and syndicated credit markets in Q2 as the strong liquidity and flexibility of private credit platforms helped to buoy their investment activities and deal pipelines versus the hard-hit syndicated markets. This was highly consistent with our experience, where we had a robust investment quarter with the largest and most compelling sourcing and investment pipeline that I have experienced in my more than 6 years at CION.

This is in stark contrast to the syndicated loan and high-yield markets that were sharply impacted in Q2 by the plethora of economic and geopolitical challenges, including surging inflationary pressures, rising interest rates, the likelihood of recession, supply chain challenges and the ongoing war in Ukraine. The composite S&P/LSTA Leverage Loan Index declined 4.5% during Q2 and 4.6% for the year-to-date through June 30. Q2 institutional loan volume declined 50% from Q1 to $56 billion, the lowest quarterly issuance since the second quarter of 2020. Secondary loan pricing sank as low as 92.16% on June 30 and average loan yields rose 175 basis points to 7.55% for the quarter. The seemingly endless supply of cash inflows to prime loans reversed sharply with over $10 billion of outflows in May and June of 2022, offsetting a portion of the $28 billion raised from January to April. This dynamic continued in July with nearly another $6 billion of outflows.

CION’s compounded total return to investors for the second quarter of 2022 and year-to-date 6/30/22 were 0.9% and 1.8% respectively. This compares favorably to year-to-date 6/30 total returns of negative 4.6% for the composite S&P/LSTA Leveraged Loan Index and negative 1.8% for the S&P/LSTA Middle Market Index. As with most of our peers, our portfolio was not immune to the macroeconomic and geopolitical factors affecting the overall market as supply chain issues, tight labor markets, increases in credit spreads and overall volatility resulted in a net negative mark-to-market impact of $32.3 million to our total quarterly return to investors.

We entered – turning now to investment activity. We entered Q2 with strong liquidity, a conservative leverage profile of less than 1x and the continued ability to be highly opportunistic with respect to new investment opportunities in both directly sourced and syndicated markets. Despite the highly volatile market environment, Q2 was a strong quarter for CION on the heels of our robust first quarter in terms of net investment activity.

During the quarter, we made 19 new investment commitments totaling $184 million across 10 new portfolio companies and 9 existing portfolio companies, while we had sales and repayments from 4 portfolio companies. As a result, the number of portfolio companies increased from 115 as of March 31 to 121 as of June 30, 2022. We were excited to close 5 direct first lien investments with new sourcing partners totaling $100 million during the quarter. Of the $184 million in new investment commitments made during the quarter, $165 million was funded. We also funded a total of $19 million of previously unfunded commitments and had sales and repayments totaling $110 million for the quarter. As a result, net funded investment activity increased by $64 million during the quarter.

We opportunistically took advantage of the lower quoted levels and widening spreads in the syndicated loan markets with the primary and secondary acquisition of over $20 million of first lien loans at a price of approximately 86% to par with an unlevered yield to cost of approximately 10.9%. While we continue to evaluate secondary market opportunities, we have passed in most cases as the high overall leverage profile and loose nature of the credit documents associated with the borrowers more than offset the attractive yield offered. We were able to sustain our ability to originate new first lien investments at a significant premium to the average 7.1% yield to cost of the S&P Middle Market Loan Index. During Q2, the weighted average yield to cost of our new investments was approximately 9.95%.

Moving on to portfolio composition. At quarter end, we had 205 investments across 121 portfolio companies in 22 industries with a total fair value of about $1.8 billion. The investment portfolio was comprised of 94.2% senior secured loans, including 92.7% in first lien investments. Approximately 84% of the performing loan portfolio was in floating rate investments. As of June 30, the yield on our performing loan portfolio increased to a gross annual yield prior to leverage of 9.51% compared to 9.12% at the end of the first quarter of 2022 with a weighted average purchase price of 98% of par and an average investment size of about $15 million per portfolio company.

Turning next to credit quality. Despite the turbulent market environment in Q2, most of our important credit quality metrics improved. The weighted average leverage or net debt to EBITDA, of our portfolio companies declined to 4.58x on June 30 as compared to 4.74x on March 31. The weighted average interest coverage of our portfolio companies increased to 3.85x as compared to 3.73x in the prior quarter. As Michael mentioned, as of June 30, investments on non-accrual status were 1.5% and 3.6% of the total investment portfolio at fair value and at amortized cost, respectively, compared to 0.6% and 2.5%, respectively, at the end of the first quarter.

During the quarter, we placed two additional investments on non-accrual status. The first, STATinMED, was timing-driven as the company’s restructuring and new equity financing round were completed on July 1 and placed back on accrual status as of that date. For the second investment, we elected to place Premiere Global on non-accrual status primarily due to the continuing industry headwinds. Had the STATinMED transaction closed on June 30 as opposed to July 1, the pro forma investments on non-accrual status at quarter end would have been 0.5% and 2.4% of the total investment portfolio at fair value and at amortized cost respectively.

Our investments with internal risk ratings of 4 and 5 comprised 1.5% of the total portfolio compared to 0.7% at the end of 2021. Of note, those investments rated 2 or higher increased from roughly 85% at year end to approximately 90% at the end of Q2. About 8% of our investments were risk-rated 3 at quarter end, which was down from 14% at year-end. It is important to note that our definition of rated 3 investment is one that indicates a higher risk to our ability to recoup the cost of such investment has increased since origination or acquisition, but a full return of principal and interest or dividend is expected. A portfolio company with an internal investment in risk rating of 3 requires more active monitoring.

I’ll now turn the call over to Keith.

Keith Franz

Okay. Thank you, Gregg, and good morning, everyone. As Michael mentioned, we reported a solid second quarter results, driven by an increase in the size of our investment portfolio and additional fees generated from our quarterly investment activity. During the quarter, net investment income was $19.3 million or $0.34 per share, which is consistent with the first quarter. Total investment income during the quarter was $43.6 million compared to $41.7 million in the prior quarter. The increase in investment income was primarily driven by additional fees generated from our investment activity.

On the expense side, total expenses were $24.3 million for the quarter compared to $22.2 million in Q1. The increase was primarily due to higher interest expense related to higher LIBOR and SOFR rates as well as an increase in the average debt outstanding during the quarter. At June 30, we had total assets of $1.9 billion and total equity or net assets of $905 million with total debt outstanding at $948 million and 56.9 million shares outstanding. As a result, at the end of the quarter, our debt-to-equity ratio was 1.05x as compared to 0.95x at the end of Q1 and 0.89x at year-end, which reflects the measured growth of our portfolio through the use of additional leverage.

As of June 30, our NAV was $15.89 per share compared to $16.20 per share at March 31. The decrease in the NAV of $0.31 per share or about 1.9% was driven primarily by mark-to-market adjustments caused by wider credit spreads and price declines in our portfolio. As we have previously announced, we received shareholder approval to reduce our asset coverage ratio from 200% to 150% back in December of 2021. Since that time, we took steps to increase our total debt capacity by $150 million. We upsized our senior secured credit facility with JPMorgan by $100 million during Q1 and added $50 million under a new 5-year unsecured floating rate term loan from one of our existing lenders during Q2, both of which enhanced our liquidity and supported the growth of our portfolio.

We ended the quarter with a strong and flexible balance sheet with over $400 million in unencumbered assets, low leverage, a strong debt servicing capacity and solid liquidity. We had over $57 million in cash and short-term investments with an additional $82 million available under our credit facilities to finance our investment pipeline. Our current debt mix was 78% in senior secured and 22% in unsecured. The weighted average cost of our debt capital is about 4.3% with the majority of our senior secured facilities maturing in 2024 and all of our unsecured term loans maturing in 2026 and beyond. At June 30, about 89% of our performing loans were in floating rate, of which, 92% had a LIBOR or SOFR floor above 0%, with a weighted average floor of 0.95%.

We should continue to see the positive impact to net investment income as we continue to deploy our available capital into new middle-market first lien floating rate investments with strong quality companies that typically pay a yield premium when compared to broadly syndicated deals. As interest rates continue to rise above our floor levels, we expect an increase to our net interest income of about $0.13 per share for the next 100 basis point increase to the current base rate as of June 30 and $0.26 per share or a 200 basis point increase to the base rate, assuming no material changes to the investment portfolio or debt structure.

Turning to distributions. During the first and second quarter, we paid cash distributions to our shareholders of $0.28 per share for each quarter, all of which were fully covered by our taxable income. As announced this morning, we declared our third quarter distribution of $0.31 per share, which is an increase of $0.03 per share or an increase of about 10% over the second quarter distribution. This distribution will be paid on September 8 to shareholders of record on September 1.

And as a final note, we expect to declare and announce our regular distributions for the fourth quarter during our third quarter earnings release to be held in November, and we expect to stick to this timing going forward.

Okay. With that, I’ll turn the call back over to Michael for some closing remarks.

Michael Reisner

Thanks, Keith. As a final thought before we open the line for questions, we’d like to reiterate our message that we firmly believe CION is well positioned to provide higher returns to its shareholders. We are very optimistic about future prospects for CION despite the concerns we discussed regarding current market conditions. We believe that our relatively conservative investment strategy has served investors well. The value proposition of our platform should become increasingly evident over time as we do have the flexibility to weather any potential headwinds as well as to consider measured growth.

So with that, operator, we’re ready to take any questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question today is coming from Finian O’Shea from Wells Fargo Securities. Your line is now live.

Finian O’Shea

Hi, good morning. Thank you. First, small question, I appreciate the color on the non-accruals. The first, you mentioned, I think, STATinMED, sorry if I have that wrong, with a post-quarter equity restructuring. Is – question is, is there any change to your security? Or will we see the investment we see in the 6/30 schedule of investments resume paying?

Michael Reisner

Yes. So Finian, so you’ll see a slightly different mix of securities, but you will see a debt security that’s paying cash and a preferred equity security with a common equity participation attached to it.

Finian O’Shea

Okay, thank you. That’s helpful.

Keith Franz

Yes, and that became effective as of July 1.

Finian O’Shea

Okay. And a question, I think, Gregg, you mentioned there was progress in a handful of new sourcing partners. Seeing if you could expand on sort of the – how you achieved that? What it means? I’m sure more deal flow. But are there any size or sector concentrations that might produce some style drift in the portfolio for you? And then maybe as a second part there, should we expect to see, say, a lot more of this or are you happy with your sort of ecosystem today?

Gregg Bresner

So in terms of strategy shift, there won’t be any. We’re continuing. There is no particular sector shift or anything. We’re continuing to do business as we have been. So there is really no style drift. I would say, on the new partners, it’s just really the compounding nature of our platform and our relationships. We continue to build new relationships every day. And in this particular case for the quarter, these new club partners were introduced through us, through other deals and through other partners we had done transactions with the past. So it’s just really a function of us being out there and continuing to do more direct business.

Finian O’Shea

Awesome. Helpful. And if I can do a third bonus question. Can you – and forgive me if I missed this. Can you provide the buyback? I don’t know if you will offer that detail for post quarter or if that’s able to start just today, but any sort of state of affairs you can provide on buying back stock under your program? Thank you.

Michael Reisner

Yes, Mike – and it’s Michael. As of now, we intend to start execution of the buyback next week. And again, depending on where the stock is trading, we continue take it daily.

Finian O’Shea

Appreciate that. Thanks so much.

Operator

Thank you. [Operator Instructions] We reached the end of our question-and-answer session. I’d like to turn the floor back over for any further or closing comments.

Michael Reisner

Thank you, everyone who joined the call today. We do appreciate your interest in CION. We look forward to speaking to you next quarter. Enjoy the rest of the summer.

Operator

Thank you. That does conclude today’s teleconference and webcast. You may disconnect your line at this time, and have a wonderful day. We thank you for your participation today.

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