Good morning ladies and gentlemen and thank you for standing by. At this time I would like to welcome everyone to Stellus Capital Investment Corporation's First Quarter 2020 Results. At this time all participants have been placed on a listen-only mode. The call will be opened for a question-and-answer session following the speakers' remarks. This conference is being recorded today, Tuesday, May 12, 2020.It is now my pleasure to turn the call over to Mr. Robert Ladd, Chief Executive Officer of Stellus Capital Investment Corporation. Mr. Ladd, you may begin your conference.

Thank you, Valerie. And good morning, everyone and thank you for joining the call. Welcome to our conference call covering the quarter ended March 31, 2020. Joining me as usual this morning is Todd Huskinson, our Chief Financial Officer who will cover important information about forward-looking statements, as well as an overview of our financial information.

Thank you, Rob. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of Stellus Capital Investment Corporation, and that any unauthorized broadcast of this call in any form is strictly prohibited. Audio replay of the call will be available by using the telephone number and pin provided in our press release announcing this call. I'd also like to call your attention to the customary Safe Harbor disclosure in our press release regarding forward-looking information. Today's conference call may also include forward-looking statements and projections, and we ask that you refer to our most recent filing with the SEC for important factors that could cause actual results to differ materially from these projections. We will not update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at www.stelluscapital.com under the Public Investors link or call us at (713)-292-5400. At this time, I'd like to turn the call back over to our Chief Executive Officer, Rob Ladd.

Thank you, Todd. As we all know we're in unprecedented times. I'm glad to report however that our team has been working remotely since March 16th without interruption to our operations and all our employees are healthy and safe and we're prepared to continue to work in this manner as long as is necessary. Since the onset of the COVID-19 pandemic, we've been in regular contact with all of our portfolio companies and their sponsors to assess the current and expected impact of the pandemic on their businesses and the industries in which they operate. Overall, the portfolio is stable and all borrowers on accrual made their scheduled principal and interest payments for the first quarter. I’ll discuss the portfolio, including asset quality in more detail shortly, but first Todd will cover our operating results for the first quarter.

Thank you, Rob. In the first quarter we more than covered the dividend of $0.34 per share with realized income of $0.39 per share, which included $1.3 million of realized gains or $0.07 per share. Core net investment income excluding the impact of capital gains incentive fee reversal and excise tax was $0.29 per share and GAAP net investment income was $0.32 per share. Net investment income includes the accrual of $1.3 million of incentive fees or $0.07 per share, which are not payable to the manager due to the limitation of the 12-quarter test resulting from the unrealized losses recorded during the quarter. Net asset value decreased $45.7 million or $2.59 per share from $276 million to $224.9 million due primarily to unrealized losses on our portfolio for the quarter, resulting primarily from the increased uncertainty caused by the COVID-19 pandemic, in addition to approximately $17.2 million of portfolio company-specific depreciation. As a reminder, we did generate approximately $20 million of realized gains during 2019. We recently announced that we're moving our dividend payment timing from monthly to quarterly beginning with the second quarter dividend. We're doing this to have visibility into the income for the quarter, as well as our capital position and to better match the dividend with cash income. We will announce the second quarter dividend in early July. With that, I'll turn it back over to Rob.

Thank you, Todd. I'd like to cover the following areas: portfolio, asset quality, and then outlook. As I mentioned earlier, we've been in regular contact with our portfolio companies and sponsors addressing their liquidity position, expected covenant compliance, the health of their workforce and customers, and the current and expected impact of the pandemic on their operations and industries. We have taken this information into account for our asset quality risk rating and valuation work for the quarter. We did see an increase in revolver and delayed draw term loan funding requests in our portfolio companies initially, which have since subsided. Since March 1st we funded $17.2 million of such requests, while maintaining sufficient liquidity for the remaining unfunded commitments. We've not made any new investments in new portfolio companies since mid-March, and in the near term we plan to focus on our existing portfolio companies. As of yesterday, the remaining unfunded commitments were $22.7 million, and we have cash in revolver capacity of $27 million, excluding cash and debenture availability at our SBIC subsidiaries. Overall asset quality is stable at two on our investment rating system or 'on plan.' 92% of our portfolio is rated at two or better, or on plan, and 8% of the portfolio is rated in the market investment grade category of three or below. In total, we have five loans on non-accrual, which comprise 2.4% of the fair value of the total loan portfolio. During the first quarter, we invested $61.5 million in three new and 11 existing portfolio companies, all of which were first lien and received $31.8 million from amortization repayments, resulting in net fundings of $29.7 million. However, that portfolio growth is more than offset by the unrealized losses across the portfolio previously mentioned by Todd. As a result, we ended the quarter with an investment portfolio at fair value of $609.5 million, across 65 portfolio companies. This is down from $628.9 million at 12/31/19. In terms of loan portfolio, I do want to remind everyone that all but one of our loans have LIBOR floors which on average are approximately 1.1%. We continue to maintain good diversification with the largest industry sector at 15% of the total. The average investment per company is approximately $9.4 million and our largest investment is $20.5 million, both measured at fair value. Finally, 61 of the 65 portfolio companies are backed by a private equity firm. Now turning to outlook, as we look forward, our primary focus, as previously stated, is to maintain liquidity and continue to closely monitor and support our portfolio companies. Given the current environment, we do not expect the portfolio to grow materially in the near term, at least until the uncertainty associated with COVID-19 has passed. Though we do not expect in the near-term repayments, we would expect repayments to pick up in the second half of the year. With respect to portfolio valuation, credit spreads generally have tightened approximately 40% since quarter-end. And of course, should this trend continue through June, our portfolio valuation could recoup a portion of the unrealized loss from the quarter. With that, we’ll open it up for questions and Valerie you may begin the question-and-answer session please.

Thank you. [Operator Instructions] I will move to our first question from Christopher Nolan of Ladenburg Thalmann. Please go ahead.

Hey, guys.

Good morning, Chris.

Ron, given everything that's going on, where do you think leverage will wind up going? Regulatory leverage ratios for SCM will increase as the year progresses?

You know, Chris, we're optimistic that the valuation adjustment that occurred in the first quarter would not increase from here. And as a result, leverage where we are, which is a little over one time, would be about where we'd end up. It certainly could move a little bit more or less, but we'll target as we have in the past to try to keep leverage at one to one.

Okay. And then, am I correct from your comments that there are no additional non-accruals in the second quarter to date?

One loan was placed on non-accrual effective April 1. They made their March payment, but we put it on non-accrual and that was included in the total. So five companies in total and again roughly 2.4% fair value.

Got you. And then, I guess the final question would be, given everything that's going on with the SBA and all these new programs and so forth. And as I recall, you have two licenses, are they giving any flexibility to BDC, especially quality ones like Stellus, to get an additional license or get additional lending capacity?

So our relationship with the SBA has been great. And as you pointed out, we obtained a second license in August of last year. And so—all the things that we would need to do, they are being helpful to us. So we have plenty of room to grow the second license. Currently, just $11 million of debentures have been drawn, and there's $9 million that could be drawn. But we're in good shape and have a lot of room to grow with a second license before we would certainly consider a third.

Okay. Great. That's it for me. Be well.

Yes. Thank you, Chris.

Thank you. [Operator Instructions] We'll take our next question from Bryce Rowe of National Securities. Please go ahead.

Thanks. Good morning, Rob and Todd.

Good morning, Bryce.

Good morning, yes. I wanted to ask about a couple of things here. Rob, you made the comment about the expectation for repayments possibly picking up in the second half of this year. Just wondering are you seeing something or hearing something from portfolio companies that indicate that might be happening, or is there the expectation that conditions will improve in the second half of the year and the natural pace of prepayment activity might pick up from where it is right now?

Yes. So this is an assumption based on. We had a few portfolio companies that were in the market to be sold by the second quarter until the pandemic hit. And so companies that are performing well still continue to perform well, that could be candidates for a sale still this year, but we'd certainly need to have a more positive climate than we currently have. So it's principally, Bryce, based on that expectation that at some point, you know, well-performing companies that may have been sold may end up being sold by the end of the year. So it could come from some refinancings. But also we do not have anything specific at this point. Just projecting that there'll be something closer to maybe quasi-normalcy as we get to the second half of the year.

That makes sense. Okay. Next question is about the credit facility. Obviously, there's commentary in the Q or the press release about ongoing negotiations with the agent on that credit facility. You ended the quarter maybe $10 million shy of what it is currently available. So curious, are you looking to upsize it, and maybe you could describe how those negotiations are kind of playing out at this point, in light of the COVID environment right now?

Yeah, sure. So the general matter, that bank group has been very supportive through the history of the company and certainly in these times. So we’re at this point principally focused on extending the revolving period from this fall out to next year. So again, things are going well. They have been supportive and so we still have to accomplish that. But don't expect any difficulties in being able to do that.

Okay. And then one last question, you mentioned that the majority of your companies are sponsor-backed. I was wondering about the support that the sponsors are giving to portfolio companies now and if you have some that are in more need of immediate liquidity versus those that may not be. But I just wanted to get a feel for how your interaction with those private equity sponsors has been and what they've kind of indicated in terms of supporting these companies where need be?

Yeah. So of course, this is a lot of our investment philosophy or strategy is to be backing companies that have serious owners with both intellectual as well as capital to—intellectual capital and the capital to support companies. So we've found that over time the private equity firms that we're backing do support their companies. We've seen that currently where you may find a situation where, you know, the sponsor is economically out of the money materially or perhaps this is an older fund, it may be more difficult, but most of our companies are certainly being well supported by their sponsors. I’d also indicate that most of our companies have good liquidity positions, both in terms of cash or unused capacity, whether it be a revolver with us or a revolver with another lender. So we've seen good support there. And again, probably the best metric I can share is the one we said in the prepared remarks, that all companies that were on accrual in the first quarter made their payments and we're expecting to continue to see that through the second quarter. Overall, the answer to your question specifically is good support from the private equity firms who are very capable, smart, and have been through difficult times like we have been through before and are doing similar things, lots of things that we're doing, which is maintaining liquidity and focusing on the operations of the business.

That's great. Thank you. Thank you, Rob. Appreciate the answers.

Thank you, Bryce.

Thank you. We'll move to our next question from Paul Johnson of KBW. Please go ahead.

Hey, guys. Good morning. Thanks for taking my questions. I had another question on a credit facility that you mentioned, it was about $10 million remaining capacity there. I'm curious, I mean with all of that currently available to be drawn by the company or are there any sort of borrow restrictions that restrict any sort of availability there?

Yeah. Good morning, Paul. So at quarter-end that was the case of $10 million of capacity; all that could be drawn. Currently, as of yesterday, the facility had $15 million of availability, and all of that could be drawn. We're really well and comfortably in compliance with all of our covenants with the bank and have—as well as the borrowing base.

Okay. And how much of the cash that was available as of 3/31 of $35 million, how much of that is also available for your use or how much is actually in SBIC subsidiary or something like that?

Yes. So I think, Todd should correct me, but I want to say roughly of the $35 million, $15 of that cash at 3/31 is in the SBIC subsidiary. So I think that’s right Todd?

Yes, $14 million.

Okay.

Okay. Thanks for that. And then the next question is kind of on the portfolio. I would just ask you. I think you touched on it a little bit, but you know maybe kind of asking during kind of the height of the crisis and as we move forward, what has been the process for evaluating your portfolio companies and the steps that are being taken to sustain these companies? And I’d also ask in the event you have been asked for any sort of amendments, you know, how those conversations gone if you have been willing to make them?

Okay. So as I said in the prepared remarks, we've been in constant contact with all of the portfolio companies or their private equity owners and sponsors throughout the period starting mid to early March. This would not be unusual. Anyway, we would typically have touched base and have contact with portfolio companies roughly on a monthly basis. So it has been more active than normal in terms of gathering data and thinking through issues. We've had very few requests for amendments. We have had requests from someone looking to apply for a PPP loan that would require an amendment for the documents to allow the financing. But other than that, there are no material requests. I think the only one where we've had a payment issue would be the one that we put on non-accrual in April that did make their March payment, but we placed it on non-accrual in April. So very few true financial covenant or certainly payment request changes. So virtually not just - just one that I mentioned and might have one or two others, but a very modest amount.

Okay. Thanks for that. And my last question, I would just ask, I think it sounds a lot like you're basically focusing on the existing portfolio at this time in your current borrowers and probably not evaluating too many new opportunities. Is that fair to say?

That's correct.

Thanks, Rob. Those are all my questions today.

Okay. Thank you.

Thank you. And we’ll move to our next question from Matt Tjaden of Raymond James. Please go ahead.

Hi, everyone. Morning and hope all is well. So first question on the dividend, can you tell us if you expect to declare a level of cash dividend for Q2?

So good morning, Matt. We - probably best to wait until, as we've said in the press release and previously, that we're going to evaluate that after the first - I'm sorry after the second quarter results. So you should expect more to come from us in early to mid-July. So we would certainly like to be paying a cash dividend for the second quarter. But we should probably stick with what we said previously that we'll have more to say in early July.

Okay, great. That's helpful. And then I guess, kind of along those lines too if you can, can you just give us an idea of what framework will be used in setting it, specifically as it relates to levels of spillover income would be of interest?

Yes. So I think as we've said previously, we'll be looking at the actual income received for the quarter. And again, we're optimistic based on the liquidity in portfolio companies and knowledge that we have that most of those payments, if not all, will be made. So that would be the first priority. The second would be just certainly evaluating our overall capital position at the time and is there further concern about the COVID-19 situation. So we should take that into account, so it would be somewhat forward-looking as well. And then with respect to the spillover income, it's approximately $18 million remaining from 2019. And so certainly our plan would be that that would eventually be paid out this year. We certainly have the option of having some of that be in stock versus cash. But our goal is to pay as much as we can out of the income. We really look at it as the income to generate this year that would be what we planned to be paying out this year. And then that should go a long way towards covering this spillover.

Great. That’s helpful. Thanks, Todd.

Okay. Thank you, Matt.

Thank you. We’ll move to our next question from Harold Mandell, private investor. Please go ahead.

Again, Robert Ladd, I'm sure eight years ago when you joined the company, you did not anticipate any 2020 disaster like we've had. So anyway, I think you've answered most of my questions. The big question is, what would you say the NAV as of right now evaluating a portfolio that you have out there? And it sounds as though you're not facing any non-performing or any non-performing assets?

Good morning, sir. So, with respect to NAV, when we reported the results in March, the NAV is $11.55 a share. Then in terms of non-performing assets, we currently measure them at 2.4% of the total on fair value. There are five individual positions. So that's what we reported as of March 31 and with one addition on April 1st.

Okay. And again are you—the dividend is a question as far as the second quarter?

So with respect to the business in the second quarter, we'll have more to say in July after we get through the quarter. So unfortunately can't be specific about what it will be for the second quarter, but we certainly will talk more about it in July.

Thank you very much. Hang in there. Okay, thanks again.

Yes, yes. Thank you so much.

Thank you. We'll move to our next question from David Miyazaki of Confluence Investment Management. Please go ahead.

Good morning and thank you for giving me a little time to talk this morning. One of the things that I think that I have observed in my conversations with the management team over the years is that you guys are very straight shooters and you will always discuss things that have been publicly disclosed and you stick very close to that design play. And I appreciate that. I think all investors want straight shooters from the management team. That said, we are in an environment, I think if you look across the B2C industry, the news are presumed to be unless told otherwise and if the news is announced, it's good, it's still considered, if you look at the valuations to not be very good. And against that backdrop, your decision to really not just move away – you’re not giving us really anything concrete about your dividend. And I think that can easily be interpreted that you've got a lot of problems that you might not have. And frankly, waiting until July is just too long. So I would just—as a comment, would suggest you think pretty hard about kind of getting dividend news out sooner because it'd be very helpful. If the news isn’t good, and you need to bring it down for whatever reason it might be, getting the news out there to what it actually is, is going to be a lot better than what people are presuming it to be. Your stock right now is at a huge discount to its net asset value and a little bit of clarity on some earnings call would go a long way. And against that backdrop, I guess I would also say that you know, between your quarters, if you have meaningful news to report with regard to credit facility, amendments, paydowns, portfolio quality to the extent that you can provide that between your filings in the 8-K or other news, press releases that would be very helpful. So I'm not sure if you guys are putting any thought into that. But I am wondering what your comments might be?

Yeah. Dave, good morning. Thank you for joining and thank you for the questions and ideas. So just in terms of interim reporting, if we have something that's material, we certainly would report that given the quarter. So we’ll do that for sure. I mean, I guess I would say that in all the conversations that I have with the different BDC managers, that I tend to get the least amount of information from you guys with regard to updates and that's not suggest that what other managers are doing is wrong disclosing more than they should. It's that they have a tendency to provide more information through press releases or their presentations with regard to what might be happening. I think the material bar right now might be too high. It would be helpful, I think, to get information that includes things that may not be considered material, but just some updates on what might be happening. The way that you have framed things on this call that you've been cautious and careful with capital, which we appreciate.

But you never intended providing a whole lot of clarity with regard to whether the quality of earnings is not high enough to support a cash dividend? What are the plans that you might have to do? Are you going to have to raise equity below net asset volume? Are you going to introduce maybe a stock out? If all those things are likely to happen or a possibility would be helpful, if you could provide updates on that before July. Because until then you know, investors are going to presume that you're not paying the dividend and if you're going to delay them. And if that’s the case then—if that's the way it is, I think it's a lot better just to get the news out there, whatever it might be rather than have investors kind of handicap what that it's going to be?

So I understand and understand the request would be to provide more information we can, so it's duly noted. Thank you.

All right. Thank you.

Thank you. We'll move to our next question from Kevin Tripp with Oppenheimer & Company. Please go ahead.

Hi, good morning. Hope you're doing well. And thank you for taking my question. My question just pertains to the cumulative total return lookback feature in the base incentive fee calculation. So I see that this quarter's base incentive fees are now deferred. So going forward, I would assume that subsequent incentive fees will be expensed and added to that deferred balance, say, and so the 20% cumulative returns allow for that balance to become currently payable over time. But I did want to see, is there anything that would cause a reversal of these deferred base incentive fees in subsequent quarters, similar to that, say, the capital gains, say, apart from deferred interest income reversals?

Sure. Go ahead, Rob.

Yeah, Kevin. Thank you for your question. I would say that the best correction at this point, the way it works is that we calculate an incentive fee under the formulas in the investment management agreement and accrue it if the calculation suggests to accrue it and then it's limited by the 12 Quarter Test. And as you pointed out, this quarter's incentive fee was limited by that. And you know, to the extent something in the future happens, as we calculate the 12 Quarter Test each quarter, that would result in a recruitment of any of those incentive fees then they would be payable at that time. But at this point, they're just—they are deferred subject to that. So things that would occur that could occur that would cause that to happen would be unrealized gains that were previously realized gains that are not previously unrealized. That's the primary mover on that 12 Quarter Test.

Okay, excellent. Thank you so much. That is all for me today.

Thank you.

Thank you. It appears there are no further questions at this time. I'd like to turn it back to the presenters for any additional or closing remarks.

Okay. Thank you. Thanks everyone for being on and thank you for your support of the company in trying times. But we're working hard for all of our benefits. So thanks again for the support. We look forward to speaking with everyone as we report the second quarter. And again, we'll have more to talk about certainly by July with respect to the second quarter dividend. Thank you.

This concludes today's call. Thank you for your participation. You may now disconnect.