Earnings Call Transcript - NCDL Q2 2025

Operator, Operator

Welcome to Nuveen Churchill Direct Lending Corp.'s Second Quarter 2025 Earnings Call. As a reminder, this conference call is being recorded for replay purposes. I'd like to turn the call over to Robert Paun, Head of Investor Relations for NCDL. Robert, please go ahead.

Robert Paun, Head of Investor Relations

Good morning, and welcome to Nuveen Churchill Direct Lending Corp.'s Second Quarter 2025 Earnings Call. Today, I'm joined by NCDL's Chairman, President and Chief Executive Officer, Ken Kencel; and Chief Financial Officer, Shai Vichness. Following our prepared remarks, we will be available to take your questions. Today's call may include forward-looking statements. Such statements involve known and unknown risks, uncertainties, and other factors, and undue reliance should not be placed thereon. These forward-looking statements are not historical facts, but rather are based on current expectations, estimates, and projections about the company, our current and prospective portfolio investments, our industry, our beliefs and opinions, and our assumptions. These statements are not guarantees of future performance and are subject to risks, uncertainties, and other factors, some of which are beyond our control and difficult to predict. Actual results may differ materially from those expressed or forecasted in the forward-looking statements. We ask that you refer to the company's most recent filings with the SEC for important risk factors. Any forward-looking statements made today do not guarantee future performance, and undue reliance should not be placed on them. The company assumes no obligation to update any forward-looking statements at any time. Our earnings release, 10-Q and supplemental earnings presentation are available on the Investor Relations section of our website at ncdl.com. Now I would like to turn the call over to Ken.

Kenneth John Kencel, Chairman, President, and CEO

Thank you, Robert. Good morning, everyone, and thank you all for joining us today. During my prepared remarks, I will discuss our results for the second quarter, our origination activity, portfolio positioning and forward outlook. After that, I'll hand the call over to Shai for a more detailed discussion of our financial performance. Before discussing our results for the quarter, I wanted to express our deepest sympathies and condolences to those affected by the tragic events last week in New York at 345 Park Avenue, just steps away from our headquarters next door. Our thoughts are with the families, friends and colleagues of the victims and all those that were affected. Now turning to our results. We are pleased with the returns we generated this quarter, reflecting the positive momentum in our business driven by the strength of our platform and our high-quality investment portfolio. NCDL's financial performance continues to be strong as we reported net investment income of $0.46 per share during the second quarter, which exceeded our regular quarterly distribution of $0.45 per share. Gross originations totaled approximately $48 million in the quarter compared to $166 million in the first quarter of this year. The decline quarter-over-quarter was intentional as we sought to reduce leverage modestly during Q2. In addition, global trade policy changes created volatility in the markets, which temporarily slowed transaction volume in April and early May. Our investment portfolio continues to perform well despite the volatile market environment during the second quarter, largely due to the strength of our senior loan investments. Net asset value was $17.92 per share at June 30 compared to $17.96 per share at March 31. The slight decline quarter-over-quarter was primarily due to modest valuation declines in some of our watch list names, partially offset by the positive impact of our share repurchase program. In terms of the recent market environment, the second quarter began with increased market volatility and uncertainty regarding global trade policy, which ultimately led to a pause in transaction activity early in the quarter. The second quarter ended with a rebound in market sentiment and investment opportunities. In fact, by June, investment activity returned to a more normalized level, similar to what we experienced during the first quarter of this year. Against that backdrop, our business continues to perform well, and we are intensely focused on continuing to invest in high-quality assets and deliver attractive risk-adjusted returns for our shareholders. As we look ahead to the remainder of the year, we believe we are well positioned and entering the second half with positive momentum. Our investment pipeline continues to increase and remains healthy and strong. While we expect geopolitical uncertainty to continue, we remain focused on maintaining underwriting discipline, selectively investing in high-quality companies and proactively managing our current investment portfolio. In a period of constant change, a disciplined, time-tested approach to investment and portfolio construction is critical. Now turning to our investment activity. Despite uncertainty related to trade policy in April, new leverage buyout deals for high-quality assets that are in resilient non-tariff-exposed sectors continued to move forward in the second quarter. As clarity began to return in late Q2 and market conditions stabilized, we saw deal flow begin to rebound. In fact, within our own portfolio at Churchill, the number of deals reviewed in June was up more than 60% from April. The scale and breadth of the Churchill platform allowed us to sustain steady activity through refinancings and add-on acquisitions, maintaining uninterrupted access to high-quality deal flow. Churchill ultimately closed or committed $6.5 billion across more than 190 transactions in the first half of 2025, driven by a record-setting first quarter and renewed momentum heading into the summer. As I mentioned earlier, during the second quarter in NCDL, we intentionally reduced our allocation sizes to new deal flow given our focus on reducing leverage within NCDL to bring leverage back within our target range, while also continuing to benefit from activity at the platform level. Our new commitments remain focused on senior lending, which represented 95% of NCDL's origination activity in the second quarter. As a result, first lien debt remained steady as a percentage of the NCDL portfolio, representing approximately 90% of the fair value of the overall portfolio. In addition to our differentiated sourcing and long track record, we believe focusing the vast majority of our investments in the relationship-driven core middle market, typically companies with $10 million to $100 million in EBITDA, helps insulate us from the more aggressive structures and loosening terms prevalent in the upper middle market and broadly syndicated loan space. In our view, risk-adjusted returns in this segment remain among the most compelling in private credit, particularly for scaled, highly selective managers with deep private equity relationships. We see the core middle market as a durable opportunity to generate great long-term value and enhance portfolio diversification for our investors. In terms of the portfolio and credit quality, company performance across our overall portfolio remained healthy and resilient, which we believe reflects the quality of the deal flow we've experienced over the last several years. Additionally, our rigorous underwriting, high selectivity and focus on diversification have been critical to minimizing losses and generating strong returns across multiple market cycles. That same discipline extends to today's shifting trade landscape. Our weighted average internal risk rating remains at 4.1 versus an original rating of 4.0 for all of our investments at the time of origination. And our watch list remains at a very manageable level of approximately 7% of fair value. Credit fundamentals within the NCDL portfolio remains strong, with portfolio company total net leverage of 4.9x and interest coverage of 2.3x on traditional middle market first lien loans. These metrics are a direct result of conservative structuring and relatively low attachment points that we target when underwriting new transactions. This conservative approach has served us well in the elevated interest rate environment. During the second quarter, NCDL had no new non-accruals, and one investment came off non-accrual following a restructuring. As of June 30, non-accruals represented just 0.2% of our total investment portfolio on a fair value basis and 0.4% on a cost basis. This compares to 0.4% and 1% of fair value and cost, respectively, as of March 31 of this year. With a highly diversified portfolio of over 200 companies and only one name on non-accrual status, we believe that this metric compares favorably versus BDC industry averages. Diversification remains a key focus of ours within our investment portfolio. This has been achieved with a continued high level of selectivity, facilitated by the significant proprietary deal flow our sourcing engine is able to generate from the breadth and depth of our private equity relationships. As of June 30, we had 207 companies in our portfolio, and our top 10 portfolio companies represented only 13.6% of the total fair value. This diversification is critical as we seek to maintain exceptional credit quality and originate additional attractive opportunities. Looking ahead to the second half of the year, we remain focused on building upon our competitive advantages to source a pipeline of high-quality investments in resilient, service-oriented sectors with minimal tariff exposure in the core middle market. We believe we remain well positioned due to our scale, our differentiated sourcing as an LP in over 325 private equity funds, and our nearly 20-year track record of investing across interest rate and economic cycles.

Shaul Vichness, CFO

Thank you, Ken, and good morning, everyone. I will now review our second quarter financial results in more detail. NCDL reported net investment income of $0.46 per share in the second quarter compared to $0.53 per share in the first quarter of 2025. As previously disclosed, the incentive fee waiver we implemented at the time of our IPO in January of 2024 expired on March 31 of this year, and our management fee stepped up modestly. As a reminder, our fee structure now consists of a 1% management fee and a 15% incentive fee, both of which we believe to be shareholder-friendly and at the low end of the public BDC market. Total investment income decreased slightly to $53.1 million in the second quarter compared to $53.6 million in the first quarter of this year, primarily driven by the modest decline in our investment portfolio as a result of our intentional reduction in leverage during the quarter. In July, we paid a regular quarterly dividend of $0.45 per share, which equates to an annualized yield of approximately 10% on our quarter end net asset value. Our total GAAP net income in the second quarter was $0.32 per share compared to $0.29 per share in the first quarter of this year. Our second quarter net income included $0.14 of net realized and unrealized losses, largely due to a reversal of unrealized losses on a restructured loan, which was ultimately realized during the quarter as well as a decrease in values of a few watch list names. As we anticipated, our gross debt-to-equity ratio declined to 1.26x at June 30 compared to 1.31x at March 31. Our net debt-to-equity ratio, net of cash, was 1.21x compared to 1.25x at March 31. At June 30, our net asset value was $17.92 per share compared to $17.96 per share at March 31. The modest decline quarter-over-quarter was primarily driven by the $0.14 per share of net realized and unrealized losses during the quarter, partially offset by the positive impact of our share repurchase program of approximately $0.09 per share. Our investment portfolio had a fair value of $2 billion at the end of the second quarter, down slightly from $2.1 billion of fair value at the end of the first quarter of this year. Gross originations totaled approximately $48 million, and gross investment fundings totaled approximately $81 million, which compares to $166 million and $153 million of gross originations and gross investment fundings, respectively, in the first quarter of this year. Repayments during the quarter totaled 3.1%, lower than our long-range assumption of 5% per quarter, largely due to the temporary pause in transaction activity early in the second quarter following Liberation Day. During the second quarter, we had full repayments on seven deals totaling $52.6 million and partial repayments for another $12.5 million. We also sold nearly $100 million worth of upper middle market investments, largely completing our strategy of rotating out of lower spread upper middle market investments into our traditional middle market pipeline. On a net basis, we saw a net reduction in our funded investment portfolio of $81 million, and we used those proceeds to repay leverage, allowing us to modestly reduce our debt-to-equity ratio during the quarter. Looking ahead, we expect to continue to deploy capital received in connection with repayments into traditional middle market transactions. Our total portfolio consisted of 207 names as of the end of the second quarter compared to 210 names at the end of the first quarter. We remain highly focused on diversification with the top 10 portfolio companies accounting for only 13.6% of the fair value of the portfolio. Our largest exposure is only 1.6% of the total portfolio, and our average position size is 0.5%. We continue to view this high level of diversification by position size as a key risk mitigation tool. Now turning to deployment and asset selection. Our new originations during the quarter were weighted towards traditional middle market senior loans, representing over 90% of the dollars deployed during the quarter with the balance deployed into equity investments. This focus on the traditional middle market segment, we believe, will benefit NCDL shareholders as we see meaningfully higher spreads and tighter documentation terms in the traditional middle market versus the upper middle and directly sourced loans markets. Spreads in the quarter were largely unchanged with the average spread on first lien loans again coming in at 480 basis points. Our weighted average yield on debt and income-producing investments at cost also remained flat quarter-over-quarter at 10.1%. At the end of the second quarter, first lien loans represented 90% of the total portfolio, while junior debt and equity comprised 8% and 2%, respectively. We continue to target 85% to 90% senior loans with the balance allocated to junior debt and equity, and we feel good about the current asset mix across the NCDL portfolio. As far as credit quality is concerned, as Ken mentioned earlier, our portfolio remains in good shape with only one portfolio company on non-accrual and one portfolio company removed from non-accrual status post restructuring. The one non-accrual in the portfolio represents just 0.2% on a fair value basis and 0.4% at cost. This compares to 0.4% and 1% on a fair value and cost basis, respectively, at the end of the first quarter. Notably, we did not place any new names on non-accrual during the second quarter. Additionally, our weighted average internal risk rating remained consistent with the prior quarter at 4.1. Our watch list consisting of names with an internal risk rating of 6 or worse also remains at a relatively low level of 7.3% as of the end of the second quarter. And finally, our conservative approach to underwriting is highlighted by our weighted average net leverage of 4.9x and interest coverage of 2.3x. Now turning to the right-hand side of our balance sheet. As expected, our debt-to-equity ratio declined to 1.26x as of June 30 compared to 1.31x as of March 31. And on a net basis, our debt-to-equity ratio was 1.21x as of June 30, net of our cash position at quarter end. Our goal is to redeploy capital received from repayments and maintain leverage towards the upper end of our target range of 1 to 1.25x debt to equity. With over $300 million of available liquidity as of the end of the second quarter and no near-term debt maturities, we remain well positioned to take advantage of attractive investment opportunities as well as fund our unfunded commitments. As discussed, our focus for the near term is on optimizing the asset mix within the portfolio and actively reinvesting cash received from repayments and sales into high-quality assets. Lastly, subsequent to quarter end, we completed the nearly $100 million share repurchase program that our board authorized at the time of our IPO, repurchasing a total of approximately 5.9 million shares at an attractive discount to NAV.

Kenneth John Kencel, Chairman, President, and CEO

Thank you, Shai. In summary, we are pleased with our results for the second quarter, and I'm extremely proud of the execution of our team, particularly given the volatility created by global trade policy changes. We believe we continue to be well positioned with respect to our high-quality investment portfolio, conservative investment approach and strong capital structure. Furthermore, we continue to believe NCDL is uniquely positioned for long-term success and remain optimistic about the company's outlook based on our experienced team and our long-term successful track record of investing and operating across various market conditions and cycles. Thank you all for joining us today and your interest in NCDL. I will now turn the call over to the operator for Q&A.

Operator, Operator

And your first question comes from Brian Mckenna with Citizens.

Brian J. Mckenna, Analyst

So it seems like NII has normalized here in the mid-40s on a per share basis before assuming any changes to base rates. You're at the upper end of the leverage range. So net portfolio growth will be pretty muted in the near term. And then you also bought back quite a bit of stock since the IPO. But I'm curious, I mean, do you have any other levers you can pull to accrete some more NII in the coming quarters?

Shaul Vichness, CFO

Yes. Brian, thanks for the question. Good to hear from you. It's Shai. A few things. One, as we look ahead here, one of the things that we're very focused on is obviously redeploying cash that we receive from repayments into what we see as a very attractive traditional middle market pipeline across the platform. So as Ken mentioned on the call, we continue to see attractive opportunities, notwithstanding the slowdown that we saw in April. That activity and volume is picking up, as evidenced by the number of books coming in, number of IC meetings that we're having and just the overall general level of activity. So that obviously provides us for the ability to sort of recapture and realize the original issue discount on the outgoing names and then redeploy into attractive assets, while at the same time, maintaining our leverage at sort of the upper end of the range, which we did bring down a bit during the quarter. So we were pleased that we were able to generate the earnings that we did even at a slightly lower leverage ratio than what we had in the first quarter. So those are two areas where I think we'll be able to continue to generate an attractive return and support the dividend that we declared for the third quarter and going forward. The other element that I would highlight, and I know this has been talked about by others on their earnings calls through this cycle, is just the spillover income that we've accumulated in the vehicle as well. So that can also provide a bit of a buffer as we move forward. But from an earnings perspective, again, assuming market conditions remain favorable and base rates stay where they are, we feel good about our ability to maintain earnings in and around this level that we generated during the second quarter.

Brian J. Mckenna, Analyst

Okay. That's great. Appreciate that. And then just a bigger picture question for you, Ken. You mentioned that the pipeline continues to grow and remain strong. I believe that's how you framed it. But any context around just the size of the backlog today relative to where it was, say, at the beginning of the year? And then just a bigger picture on deal flow. Sentiment has clearly recovered quite meaningfully across the capital markets. It finally feels like we're getting closer to an inflection in sponsor M&A. But I'm just curious what you're hearing and seeing across your large network of sponsors.

Kenneth John Kencel, Chairman, President, and CEO

Yes. No, that's a great question. We published a survey a few weeks ago on sponsor approach and assessment of what they were seeing in the market. So a couple of things I would say. First of all, deal flow right now that we're seeing is at an incredible level right now. In fact, I would say it's actually not only back to where it was in the first quarter, which was running at an all-time record for us more broadly as a platform, but I would say as good as we've seen in the last several years. Quality is excellent. Obviously, we're really only focusing on non-tariff impacted businesses, and I would say have kind of an extra level of a recessionary screen, although that – the risk of that, I think, continues to be quite muted. But the amount of deal activity, the level of books that we're seeing in terms of new processes that are starting lead us to be incredibly optimistic about deal activity as we head into the fall. Normally, as you know, summer is a pretty slow time for deal activity, particularly August. And the reality is that has not been the case for us as we enter August of this year. Very robust pipeline, very high quality in terms of the opportunities we're seeing. Spreads have kind of, in our view, kind of leveled out now in that kind of 4.50% to 4.75% range, all-in leverage for new deals in that kind of 4.5, 5x. I mentioned quality companies. I would say the dynamics around covenants, certainly in the core middle market, remain quite good for us. So when you look at all of that, the deal activity, the level of new deals we're seeing, coupled with an all-in yield in the mid-9s, I think you've got the formula for a very attractive risk-adjusted return, and we feel very good about where we're standing today. But deal activity, pipeline, backlog, excellent right now. And I would say it's reflective of another dynamic, and I've alluded to this in prior calls. The larger scale players are raising more capital. They are focusing on the larger, higher-quality mid-market companies, and they're benefiting from that deal flow. We are in the midst not only of a very, very strong deployment year, despite the slowdown in April and May, we're running roughly equal to where we were last year with having lost almost 2 months of really normalized activity. We're also having a fantastic year capital raising wise as well. So plenty of capital to deploy and deal activity there to keep us busy. So I feel very good, very optimistic about where we are today and heading into the fall.

Operator, Operator

Your next question comes from Douglas Harter with UBS.

Cory Johnson, Analyst

This is Cory Johnson filling in for Doug. I have a question regarding your ability to shift from the upper middle market to the more traditional middle market. How much potential is still available for that shift? Can you estimate the impact of this transition on earnings?

Shaul Vichness, CFO

Thank you for the question. I want to provide a few comments. We discussed this during our first quarter earnings call, and we touched on it in this call regarding the extent of the rotation. The main factor driving this rotation trade was our investment in more liquid upper middle market loans funded by the IPO proceeds. We’ve spent a significant part of last year and this year completing that rotation. As I mentioned during the call, most of that process is essentially finished. We sold $100 million worth of upper middle market loans in the quarter, focusing on more liquid assets that were trading at or close to cost and also with lower spreads. Looking at our income statement, we’ve mostly removed assets with 300 handle spreads, completing that rotation. There may be a few million dollars left to go, but that process is largely done. You can see some of this reflected in our portfolio metrics in the earnings presentation, which show our shift towards more traditional middle market focus. In short, there is not much left to address there. From an earnings standpoint, we believe we now have a portfolio with a weighted average spread that is attractive given the current rate environment, which should enable us to maintain this level of earnings going forward. The impact has already been realized. I wouldn’t expect there’s a significant amount left, considering the extent of the rotation we’ve completed over the past two quarters.

Cory Johnson, Analyst

You mentioned that spreads have somewhat stabilized. Can you discuss where you anticipate the spreads might head in the next few quarters and what scenarios could potentially occur?

Kenneth John Kencel, Chairman, President, and CEO

Yes. No, great question. And the backdrop here, of course, has been that certainly for the last 1.5 years to 2 years, spreads have been gradually drifting down. Deal activity picking up has led to competitive dynamics. From an investment standpoint, spreads have tightened. They kind of stalled at around 475, 500 for several quarters there. They've gone to kind of 450, 475. If you look at historically where the spreads have been in our world, and I would call that high-quality core middle market, good businesses that, frankly, any lender would look at and say, yes, that's a great credit, and we would underwrite that. The bottom end of that, if you look back over the last 5 years, has been around 4.25%. So I'm not anticipating much tightening in spreads. I think the vast majority of the folks that we compete with and frankly, partner with, all have, I would say, general approaches regarding absolute yields that would, I’d say, keep spreads in that vicinity. So I would not anticipate spreads coming in much further, maybe another 25 basis points. But based on historical experience, that kind of has been the bottom end of what we've been seeing in the core middle market. Again, obviously, rates are higher this time around, although coming down. So we'll see what happens. But I would say we would expect that spreads will continue to hover in that 450 range, maybe 425 being the kind of absolute low end of what we've experienced historically. And then that in part is due to the desire of direct lenders, obviously, to keep a yield premium to the liquid credit markets. Even in the periods of where the yield premium has been tighter, it's still been hovering around 100 to 150 basis points. So, if you look at where broad secured loan spreads are at, that would all triangulate around that kind of mid-400s range.

Operator, Operator

And your next question comes from Arren Cyganovich with Truist Securities.

Arren Saul Cyganovich, Analyst

You mentioned that the Churchill platform closed or committed around $6.5 billion in the first half of the year. Can you explain what is included in that amount? Additionally, what assets fall within that $6.5 billion for NCDL, considering the limits on how much can be allocated to the BDC?

Kenneth John Kencel, Chairman, President, and CEO

Sure. Looking at the overall platform, approximately $6.5 billion was involved, with around $4.8 billion in senior lending and about $1.4 billion in our junior capital strategies. This includes structured credit, structured equity, direct equity investments, fund commitments, and commitments to private equity funds. We also had an active equity secondaries effort. To summarize, about $4.8 billion was in senior lending. Out of 191 transactions we conducted, 78 were from our core middle market senior lending platform. These overall figures, and particularly the senior lending figures, are roughly the same as a year ago. It's worth noting that we effectively invested for 4 months instead of 6, as April was very slow, and activity didn’t significantly pick up until late May. Therefore, we had three months of record investment activity in the first quarter, followed by about 1.5 months of normalized activity in the second quarter. To maintain our year-over-year performance and improve our run rate as we approach fall, we feel optimistic about the deal activity across the platform. Furthermore, we should find it relatively straightforward to keep NCDL fully invested with high-quality core middle market assets now that we've completed the full rotation referenced by Shai. Our focus will be on reinvesting where there have been repayments and accessing the broader platform. As the statistics show, in the first quarter, we were the leading middle market lender in core transactions under $500 million, maintaining a top position in the first half of the year. This means we are seeing a lot of deal activity and can be very selective about the opportunities we pursue, which is something we value. Being a limited partner in 325 private equity funds and part of 250 advisory boards gives us a significant advantage, ensuring we have visibility on potential deals. The main consideration for us is whether we like the deal and if it aligns with our leverage, structural, and pricing criteria. We're remaining selective while staying busy, which is ideal. Additionally, this allows us to allocate across the platform and uphold a high level of diversification, while still engaging with well-sized core middle market companies. This gives us the benefits of diversity and selectivity without exposing ourselves to the higher risk and volatility associated with lower middle market or nearly micro-sized companies, especially in an economic downturn. Overall, we feel very good about our current position and marketplace standing.

Arren Saul Cyganovich, Analyst

I appreciate the color there. You completed the share repurchase program in July. I guess there was a little bit left after the quarter. What are the plans there? Are you anticipating adding a new share repurchase program to the extent that your stock is trading below NAV?

Shaul Vichness, CFO

Yes. So thanks for the question. Obviously, we did just complete the program, and we were happy to sort of round that out at what ended up being an attractive discount to NAV in terms of the cumulative purchases, and you could see the benefit in the NAV math. So from that perspective, we're pleased with how it operated. The question of whether or not to implement a new program is something that we are consistently evaluating as with other corporate finance decisions. So it's definitely a discussion that is ongoing. We don't have any plans right now to put one in place, but it is definitely something that we will be thinking about and talking about as we watch the performance of the stock going forward here.

Operator, Operator

We have reached the end of the question-and-answer session. I'll now turn the call over to Ken Kencel for closing remarks.

Kenneth John Kencel, Chairman, President, and CEO

Great. Thank you, and thank you all for joining us today. We very much appreciate your support and work on the analysis that you do and the coverage that you provide of our stock and of our business. So we, again, thank you very much for joining the call. We appreciate very much the time you investors have provided us and certainly look forward to continuing to update you as we move forward. Thanks again.

Operator, Operator

Thank you. And that concludes today's call. All parties may disconnect. Have a good day.