The following is from the CSWC Deep Dive that was previously provided to subscribers of Premium BDC Reports along with revised target prices, dividend coverage and risk profile rankings, potential credit issues, earnings/dividend projections, quality of management, fee agreements, and my personal positions for all business development companies (“BDCs”).
This update discusses Capital Southwest (CSWC) and its Baby Bond that trades publicly on the NASDAQ under the symbol “CSWCL” that are included in the BDC Google Sheets. CSWC is an internally managed BDC with a $533 million portfolio with mostly first-lien debt positions and equity investments providing realized gains especially in its lower middle market investments similar to Main Street Capital (MAIN). CSWC is among a handful of BDCs that I have purchased in 2019 as I am waiting for a general market pullback.
CSWC has increased its regular quarterly dividend each quarter since 2015 and equity participation is partially responsible for supporting continued quarterly supplemental dividends of $0.10 per share. The current dividend yield is around 9.2% (MAIN is currently 6.7%) which takes into account the recently announced $0.40 quarterly regular dividend and quarterly supplemental dividends of $0.10.
Media Recovery, Inc. & Upcoming Deemed/Special Dividends:
There is a good chance that there will be a ‘deemed’ and/or special dividend related selling its final legacy equity position in Media Recovery, Inc. (“MRI”) driving around $48 million or $2.75 per share of realized gains that is expected to close later this year:
“Our last remaining legacy equity investment, Media Recovery, which does business under the banner SpotSee represents 10% of the portfolio and other equity co-investments as of the end of the quarter represented 6%. As we have mentioned on prior calls, Media Recovery is currently undergoing a sale process. The process is going well, and our expectation continues to be that this company will sell during the 2019 calendar year.”
“Media Recovery, Inc., dba SpotSee Holdings, through its subsidiary, ShockWatch, provides solutions that currently enable over 3,000 customers and some 200 partners in 62 countries to detect mishandling that causes product damage and spoilage during transport and storage. The ShockWatch product portfolio includes impact, tilt, temperature, vibration, and humidity detection systems and is widely used in the energy, transportation, aerospace, defense, food, pharmaceutical, medical device, consumer goods and manufacturing sectors. At June 30, 2019, the value of Media Recovery, Inc. represented 9.6% of our total assets.”
Management was asked about the use of proceeds related to the sale of MRI and mentioned that they will first “replenish the UTI bucket” which means that the quarterly supplemental dividends of $0.10 will be supported for the long-term. However, there will definitely be excess gains that will likely be partially retained as a ‘deemed distribution’ and partially paid as a special dividend above and beyond the quarterly supplemental dividends:
Q. “Do you have any updates on the decision once the sales process [of MRI] is complete? Or is that something you guys are still thinking about in terms of retaining versus paying out a special dividend?”
A. “The board is going to make that determination, and we’ll make that determination once it sells. So the answer is, no. We will replenish the UTI bucket, first and foremost, the gain will, obviously, most likely very likely be much in excess of that. So the remainder of the gain, we will we have options. We can either retain it and do a deemed distribution to the shareholders, pay a 20% tax or we can distribute it in a special dividend or a third option do a combination of both. And so the Board, like I said, will ultimately decide that once the sale is complete, and we’ll announce it.”
It should be noted that the recent increase in portfolio yield and dividend income during the recent quarter was partially due to MRI:
“The overall yield went up based on the dividend, one from MRI produced a larger dividend this quarter based on it having additional free cash flows.”
There is a good chance that the stock could back related to the announcement of 100% deemed dividend similar to GAIN as discussed in the previous GAIN Deep Dive report:
“On May 13, 2019, GAIN declared a deemed distribution of long-term capital gains of $50.0 million or $1.52 per share. Shareholders, including myself, were likely disappointed as the “deemed distribution” is not paid in cash to shareholders and is a way for the company to retain the capital with the exception of the taxes paid. It should be noted that if this dividend was paid in cash it would be classified as long-term capital gains to shareholders (20% tax rate).”
This information was previously made available to subscribers of Premium BDC Reports, along with:
- CSWC target prices and buying points
- CSWC risk profile, potential credit issues, and overall rankings
- CSWC dividend coverage projections and worst-case scenarios
- Real-time changes to my personal portfolio
To be a successful BDC investor:
- As companies report results, closely monitor dividend coverage potential and portfolio credit quality.
- Identify BDCs that fit your risk profile.
- Establish appropriate price targets based on relative risk and returns (mostly from regular and potential special dividends).
- Diversify your BDC portfolio with at least five companies. There are around 50 publicly traded BDCs; please be selective.