Trinity Capital Inc. Q3 FY2021 Earnings Call

Good afternoon, my name is Ashley and I will be your conference operator today. I would like to welcome everyone to Trinity Capital's Third Quarter 2021 Earnings Conference Call. Our hosts for today's call are Steve Brown, Chairman and Chief Executive Officer; Kyle Brown, President and Chief Investment Officer; David Lund, Chief Financial Officer; and Sarah Stanton, General Counsel; Gerry Harder, Chief Credit Officer; and Michael Testa, Chief Accounting Officer are also present. Today's call is being recorded and will be made available for replay at 8 P.M. Eastern Time. The replay dial number is 800-839-5685, and no call ID is required for access. All participants have been placed in a listen-only mode, and the floor will be open for your questions following the presentation. It is now my pleasure to turn the call over to Sarah Stanton. Please go ahead.

Thank you, Ashley and welcome everyone to Trinity Capital’s earnings conference call for the third quarter of 2021. Trinity's third quarter 2021 financial results were released just after today's market closed and can be accessed from Trinity's Investor Relations website at ir.trincapinvestment.com. A replay of the call is available at Trinity's web page or by using the telephone number provided in today's earnings release. Before we begin, I would like to remind everyone that certain statements that are not based on historical facts made during this call, including any statements relating to financial guidance may be deemed forward-looking statements under Federal Securities Laws. Because these forward-looking statements involve known and unknown risks and uncertainties. There are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements. We encourage you to refer to our most recent SEC filings for information on some of these risk factors. Trinity Capital assumes no obligation or responsibility to update any forward-looking statements. Please note that the information reported on this call speaks only as of today, November 4, 2021. Therefore, you are advised that time sensitive information may no longer be accurate at the time of any replay listening or transcript reading. With that allow me to introduce Trinity Capital's Chairman and CEO Steve Brown.

Thank you, Sarah. And thank you to everyone joining us today. The third quarter of 2021 saw accelerated momentum for Trinity as we continue to execute our plan and delivered on all key financial and operating metrics. These results were highlighted by net investment income of $0.42 per share, and growing our NAV by $0.37 from Q2 to $14.70. From an originations perspective, we set a new record with more than $151 million in gross fundings, leading to net portfolio growth of $64 million on a cost basis and expanding our investment portfolio to $638.7 million on a cost basis. As Kyle will expand on later in this presentation, Trinity is benefiting from the overall vitality of the thriving VC operating environment. While acknowledging the macro tailwind in our industry, we do want to underscore our successful execution since entering the public markets. In short, we're doing what we said we would do. By building a best-in-class team we're leveraging relationships and networks with top VCs around the country and beyond to capture market share and benefit from unprecedented VC industry growth. Trinity has emerged as a partner of choice, and we have no plans to slow down. I'd like to touch on just a few highlights from the third quarter. Our growing portfolio contributed to the strong operating performance in Q3 allowing us to declare a dividend of $0.33 per share and increase over our prior quarter and in line with our goal of increasing our dividend as we grow our platform. We originated $258.2 million in new loan and equity commitments, and more importantly funded $151.7 million in gross deployments across 25 portfolio companies. Q3 net investment income was $11.1 million or $0.42 per share. This compares to net investment income of $10.1 million or $0.38 per share in Q2 of 2021. Our credit quality and the portfolio remained strong with 99% of our debt investments performing. As of September 30, total liquidity including cash, cash equivalents and availability under a credit facility was over $206 million. We've been working hard on enhancing our capital structure and leveraging the balance sheet to increase financial flexibility in support of our continued portfolio growth. In August, we issued $125 million in 4.375% bonds lowering our overall borrowing cost as we raised our leverage levels to 0.8 from 0.6 times at the end of the second quarter. We will continue to manage our overall cost of funding to drive improved returns for our shareholders. Further on October 27, we completed a new five-year $300 million credit facility led by KeyBank. Looking to the end of the year and beyond, we are confident about Trinity in our unique venture lending and equipment financing platforms ability to continue to grow and scale. We remain well positioned to continue deploying the capital raised and building a portfolio of senior and subordinated secured loans and equipment financings to emerging growth companies. We have been able to continue growing the portfolio even with unexpected pay-offs while enjoying the additional income from prepayment fees and accelerated final payment fees. As we mentioned on our last call, we have filed an application with the SEC for exemptive relief to form a registered investment advisor. If approved, we believe the RIA will provide financial flexibility to fund larger transactions that are synergistic to the public BDC. As a reminder, we expect this process to take between 9 and 12 months to complete. So to recap, we're performing at record levels. We've strengthened our team to further that performance, and we've enhanced our financial profile to support accelerated portfolio growth. Before I turn it over to Kyle to share more about the encouraging macro backdrop, I want to thank our most valuable asset at Trinity, our team, it is their diligence, their relationships, their experience that have made our record performance possible. We believe that Trinity is unique among both venture lenders and the overall BDC landscape. We have the right team and the right strategy to continue to capitalize on a thriving operating environment, offering capital solutions to growth stage companies across a broad technology sector. With that, I'll now turn the call over to Kyle Brown, our President and Chief Investment Officer for some further thoughts on our progress and more detail on the market.

Great, thanks, Steve and good afternoon, everyone. We continue to accelerate growth in Q3, which has allowed us to make notable progress toward our strategic goals and growth initiatives. We built upon momentum in the first half of the year, capitalizing on strong market tailwinds from an increasingly robust VC environment and continued execution from a growing and seasoned team. Our people at Trinity played an important role in the company's success. Investing in the current individuals and teams that have proven to be the company's backbone as well as strategically expanding our bench of investment professionals will create a flywheel effect for the company, enabling increased deal flow and optionality in the quarters to come. We continue to add to our back office here in Phoenix, Arizona, as well as key additions to the originations team in major markets. Turning now to the investment portfolio, the composition of our portfolio remained consistent with manufacturing once again making up over one quarter of our total portfolio, which is primarily our equipment finance business, professional, scientific and technical services made up 18% followed by information making up 9%. Our portfolio's geographic footprint remains weighted toward domestic opportunities in both the West and Northeast. We expect to grow this footprint both in terms of depth and breadth through our investments in key markets on the East Coast, South and Mountain regions. To that end, we continue to invest in our originations team. In the third quarter, we brought on Ryan Thompson as Managing Director of our originations in Austin, Texas. Ryan is a seasoned finance professional and joins us from Silicon Valley Bank. In addition, earlier this week, we announced the appointment of Phil Gager as Managing Director at Boston. Phil is an experienced venture lender with extensive contacts throughout the Northeast region. With these additions, we have now expanded our originations team to 13 professionals with deep and established high-quality networks, my executives and sponsors of emerging growth stage companies. Having boots on the ground in two key innovation markets of Austin and Boston so position us to drive originations for both lending and equipment financing opportunities going forward. Diving deeper into our portfolio composition, at fair value, approximately 81% of our debt portfolio or $469 million is comprised of secured loans and 19% or $109 million is invested in equipment financing. This represents a slight sequential decrease in equipment financing, primarily due to early repayments from two equipment portfolio companies. This vertical remains a focus of growth for us and we expect its percentage of overall mix to increase in the fourth quarter due to record commitments in Q3. As a reminder, equipment loans generally fund over subsequent periods to the commitment as the portfolio companies put equipment into their operations. The balance of our portfolio approximately $99 million is comprised of equity and warrants. Structurally gross deployments during the quarter were $151 million across 25 portfolio companies. This included $77 million in gross deployments across nine new portfolio companies and $74 million in gross deployments to 16 existing portfolio companies. Gross deployments were partially offset by $92.4 million in debt repayments, of which $74 million was from early repayments. We finished the quarter with $204 million of unfunded commitments, which only $400,000 was contractually committed to one portfolio company. We've continued our record origination pace. Trinity has accomplished its fourth consecutive quarter of net portfolio growth since becoming a BDC in Q1 of 2020. With strong visibility into the fourth quarter already and continue to accelerate. We expect the new additions to the originations team to support our growing pipeline of lending and equipment financing opportunities. Our record commitments and fundings in Q3 are a direct result of our team's ability to grow expand our pipeline activity for the first nine months of the year. In addition to liquidity opportunities, we mentioned on our last call with both Matterport and Lucid Motors listing on the NASDAQ in July, two more of our portfolio companies have announced business combinations with SPAC and one portfolio company has publicly registered for an IPO. On August 10, GreenLight Biosciences announced a merger with Environmental Impact Acquisition Corp. Subsequent to quarter end, Rigetti & Co. announced the business combination with Supernova Partners Acquisition Company Two. And on October 18, Backblaze filed a registration statement on Form S-1 with the SEC for its IPO. Lastly, in July, our portfolio company Birchbox was acquired by FemTec Health, this transaction resulted in the assumption of our loan to Birchbox and the issuance of Trinity to have approximately 1.1 million shares of common stock in FemTec. All four of these announcements demonstrate the strength of our overall portfolio, both and desired verticals and financing arrangements spanning debt and equity financings. We will periodically provide updates on these companies as they move forward with their eventual listing plans. As we mentioned previously, the lockups on our common shares in Lucid and Matterport expire in January. We are not long-term equity investors, and we'll prudently and methodically divest our equity positions in these companies to maximize the capital returns on these investments for our stockholders. As capital continues to flow into technology and specifically the Venture Capital market, we expect more growth stage companies to seek liquidity events and exit opportunities. That's why we've taken every possible step to optimize our capital structure, and for the strength of our pipeline propensity to underwrite and eventually deploy capital. We're built for scale and building Trinity for the long-term, assembling a world-class team to execute across various economic cycles. That said, we are encouraged by the continued strength of the Venture Capital market, even amidst a prolonged pandemic, and see an exciting opportunity to build our momentum and start fast in 2022. Now with that, I'll turn the call over to David Lund, our Chief Financial Officer to discuss our financial performance in more detail.

Thank you, Kyle. And thank you, everyone for joining us on today's call. As you've heard today, we've continued to execute against our long-term strategy, building a best-in-class Venture Lending platform, diversifying our balance sheet to optimize our ability to further grow our portfolio in the active Venture Capital markets. In addition to our strong investment activity and operating results, we bolster our balance sheet and improved our liquidity profile. Once again, our portfolio grew at a record pace. During Q3, we entered into $258 million of new commitments and deployed $151 million across 25 portfolio companies. This more than doubles our year-to-date commitments to $509 million, which is well ahead of plan in our first year as a public company. We funded $119.2 million in secured loans to 15 portfolio companies, we found a $28.8 million in equipment loans to seven companies. We made $3.3 million of equity investments in five portfolio companies. Gross deployments were partially offset by approximately $92.4 million in debt principal repayments, of which $73.6 million was from early principal repayments and $18.8 million was from normal amortization. In addition, we received $800,000 in principal proceeds from sales of our warrant and equity investments. Of the early repayments, $32.7 million was from equipment financings and $40.9 million was unsecured loans. Levels of early repayments both in our portfolio and industry-wide continue to remain high, reflecting an active year in equity and debt capital markets. We remain encouraged that so many of our portfolio companies are finding new sources of funding, allowing them to continue to grow while paying back our capital and generating returns on our investments. As a result of the $58 million in net investment activity and approximately $6.2 million of accretion of OID and $0.7 million of net realized gain, our portfolio grew at cost by approximately $64 million or 11.2% to $639 million compared to $575 million at the end of Q2. On a fair value basis, our portfolio increase from $598 million to $677 million attributed to net deployment since the technical difficulty and other activity I just mentioned plus $15.4 million of net unrealized appreciation. This $15.4 million increase was attributed to $18.4 million of unrealized appreciation in our equity and warrant portfolio offset by $3 million of depreciation in our loan and equipment finance investments. The unrealized appreciation and the warrant and equity portfolio was driven by a reversal of $10.5 million in unrealized losses, primarily in connection with a sale of one portfolio company and net unrealized appreciation of $7.9 million. The unrealized appreciation in our loan portfolio was attributed to the flip of $1.2 million of unrealized appreciation to realize gains and unrealized appreciation of $1.8 million related to mark-to-market adjustments in our loan and equipment finance investments. Approximately 60% of our loan portfolio is in floating rate securities, up from 49% at the end of Q2 as we continue to reposition our portfolio to have a higher concentration of floating rate securities. Now, let's dig deeper into Q3 operating results. On a GAAP basis, we recorded a total investment income of $21.8 million comprised of approximately $20.7 million in interest income and $1.1 million in fee income. This represents a $2.3 million or 11.7% increase over the $19.5 million of total investment income recorded during the second quarter, and the year-over-year increase of 61% over the $13.5 million recorded in Q3 of 2020. Looking at the year-to-date period, total investment income increased by 48% to $58.6 million from $39.6 million in the first three quarters of 2020. This increase was primarily related to the record growth in our outstanding debt portfolio income derived from earlier repayments, and work to increase the yield of our investments across the board. Our effective yield on the portfolio for Q3 was 15.8%, which was in line with the prior quarter. For the year-to-date period, effective yields were 15.8% as compared to 14.6% in the prior year period. We incurred a total of $5.1 million of total interest expense and amortization of deferred financing costs on our various debt facilities as compared to $4.4 million in Q2. As we have mentioned, we took definitive steps in the third quarter to strengthen our balance sheet, closing an offering of $125 million in 4.375% notes due in 2026. These notes were the primary contributor to the increase in interest expense for the quarter. Our ongoing growth and success as a company have allowed us to lower our overall cost of debt and will help us drive incremental returns to our shareholders in the quarters ahead. For Q3, our weighted average cost of debt including interest and fee amortization was 7.1%, which was a decrease from 7.6% in the previous quarter. The decrease in the weighted average cost of debt was primarily due to the issuance of 2026 notes and a lower average balance outstanding under our credit facility. Our SG&A expenses were approximately $5.6 million during Q3 as compared to approximately $5 million during Q2. The increase of approximately $600,000 or 11.8% was primarily driven by higher variable compensation expense, higher consulting fees and slightly higher expense related to our new Phoenix headquarters. During the quarter, our Board of Directors approved the issuance of restricted stock awards to employees and awards to Directors under the non-employee plan. A total of approximately 593,000 shares were issued, and we incurred approximately $149,000 of expense during Q3. We estimate the ongoing quarterly expense related to these awards to be approximately $800,000 per quarter. As a result of this operating activity, net investment income for the third quarter was $11.1 million or $0.42 per share on a basic basis, and an increase of 2.3% as compared to $10.1 million or $0.38 per share in the preceding quarter on a basic basis. As I noted earlier, we recorded net unrealized appreciation of $15.4 million in our investment portfolio. During the third quarter we’ve recognized net realized gains of $666,000 primarily related to the realized gains of $2.7 million from early repayments of equipment loans and $679,000 in connection with two warrant transactions offset by a $2.7 billion loss on the sale of one portfolio company. Net Assets increased by approximately 5.1% to $399 million or NAV of $14.70 per share, compared to Q2 net assets of $379.7 million or NAV of $14.33 per share. The quarter-over-quarter increase of $0.37 per share in NAV was primarily the result of the unrealized appreciation, as well as net investment income that exceeded our declared dividend of $0.09 per share by $0.09 per share. Our investment portfolio continues to perform strongly with approximately 99% of our portfolio performing. We currently have two portfolio companies on non-accrual with a carrying cost of $13 million and a fair value of $7.6 million representing just 1.3% of the fair value of the debt investment portfolio. Our average risk rating for the quarter was 3.1 based on our one to five risk rating scale, with five indicating very strong performance. This rating was steady with 3.1 in the prior quarter. Moving to liquidity, available liquidity at September 30, 2021 is approximately $206 million, including approximately $25 million in cash and cash equivalents and a borrowing capacity of $181 million under our credit facility, subject to existing terms and conditions. Our leverage increased to 78% from 65% in the prior quarter driven by our additional borrowing during the third quarter, as we target a long-term leverage ranging between 115% and 135%. In addition, as we announced this week, we closed a $300 million credit facility with KeyBank. KeyBank is leading the facility with a $75 million commitment and the facility can accordion to $300 million as we add banks to the lending syndicate. Rates under the facility range from LIBOR plus 2.85% to 3.35% with variable advance rates depending on the characteristics of the loans in the portfolio. Finally, regarding our dividend as of September 30, 2021, our Board of Directors declared a cash dividend of $0.33 per share for the third quarter of 2021. It was paid on October 15 and which generated coverage of 127% by our GAAP NII earnings for the quarter. We anticipate declaring a dividend for the fourth quarter of 2021 during December subjected to our Board of Directors approval. And with that, I'll now open the line for questions.

And we will take our first question from Ryan Lynch with KBW. Please go ahead.

Good afternoon and congrats on the nice quarter guys. I wanted to first talk about your originations this quarter, obviously, it was a record quarter. I wanted to know if you could kind of give some commentary on how much of the record quarter was driven by just the overall strong activity that we've been seeing broadly in the Venture Capital Ecosystem versus the investments that you guys have made and continue to make in growing your platform. And what I'm getting at is if there is a slowdown in the overall Venture Capital system, how confident are you, you can still put up strong quarters like this in that scenario?

Thanks, Ryan. This is Steve. I think that the growth that you're seeing is mainly a result of the investment that we're making in the team. You've seen the folks that we've added sort of quarter-over-quarter, we've had two recent announcements. You know that we have made a commitment to grow our team, build out the origination platform, there's no question there's tailwinds in the market and everybody is experiencing that right now. But I believe that, we at Trinity had planned for this growth and are building the team for it. And I think what you're seeing is mainly a result of that, because our underwriting hasn't changed. In fact, it probably continues to get tighter as we move along, so I would attribute it to the growth in the team.

Can you provide an update on the Board's policy regarding dividends? Your earnings have been increasing significantly, well above the dividend for this quarter. There seems to be some variability each quarter due to accelerated fee income. Could you clarify the Board's philosophy on dividend payouts in relation to operating earnings?

Yes, let me begin. David, feel free to jump in anytime. From the outset, we've emphasized our intention to grow earnings and increase our dividend. We have successfully done so and plan to keep it up. When determining the dividend at the Board level, we assess what we consider our core income, excluding capital gain and fee income. As we decide on the dividend, we take that into account and consider whether we can sustain its growth. Overall, we've increased our income and our dividend, and we intend to maintain this practice. Each quarter, we evaluate that recurring income from our interest compared to one-time fees. David, do you have any thoughts on this?

No, I think that's right. We're looking to get to a stable platform in terms of our dividend with the potential to payout special dividends through the course of the year or at the end of the year, as needed to make sure that we distributed 98% of our earnings for the year.

In FY '20, there was a decline or negative impact of $0.32 on the NAV, which I'm assuming is related to the 593,000 shares of restricted stock issued. Can you clarify if this was a one-time event? I understand that restricted stock will continue to be paid, but should we expect this impact to recur annually? I know you plan to record about $800,000 from an expense perspective, but could you provide insights on how restricted stock will affect NAV in the upcoming quarters?

This is Dave. We will be issuing restricted stock awards in the future years as well, probably on an annualized basis with our Board, and all that subject to Board approval and compensation committee approval. So, you will see expenses in the forward years as well related to stock awards. But we don't have a specific number planned at this point that we put in front of the Board.

Okay. All right. I appreciate the time this afternoon and nice quarter, guys.

Thanks, Ryan appreciate it.

And we will take our next question from Casey Alexander with Compass Point. Please go ahead. Your line is open.

Yes, good afternoon. I want to confirm what I heard regarding the $32 million in equipment finance loans that were prepaid during the quarter. That seems like an unusual situation because doesn't that accelerate all of the scheduled payments to the end of the loan? Does this indicate a temporary increase in your income this quarter due to those equipment finance loans being paid?

Okay, this is Steve. The answer is yes. We had two unexpected equipment financings that prepaid, which is a positive development. As a result, all of the payments were pulled forward, contributing $2.7 million to our income. In terms of cents, that's approximately $0.10. So yes, it was unexpected but beneficial since we maintain our income; we receive it all upfront. Now we have the cash, and we will reinvest it.

But that, Casey is the important point. We expect future deployments to them as they grow in the future.

Okay, thank you for that clarification. And secondly, there was some migration into your lowest credit bucket in terms about $6.9 million there was a de minimis amount there last quarter. Can you give us some color on what you're doing on that particular situation?

I’ll let Gerry take that one for you, Casey.

Sure. Thanks, Casey. In Q2, we had two companies in non-accrual, and we still have two in Q3. One is a small, unsecured financing that's performing, but we're not recognizing the income because it's an unsecured note. The second company we are rehabilitating that loan, and it is now performing, which we are pleased about. Another company on our watchlist moved into non-accrual in Q3, and we are actively working with its management team to find a solution for the business that allows it to continue operating and return to profitability. This particular business is affected by supply chain issues and semiconductors, but we believe they will overcome these challenges.

Okay, thank you. That's all my questions. Thank you.

Thanks, Casey.

We'll now take our next question from Christopher Nolan with Ladenburg Thalmann. Please go ahead.

Hey, guys. On the new credit facility, how are asset-based loans, the advance rate for asset-based loans treated compared to the normal venture debt loans?

Yes, Chris, this is Dave. Both asset pools with secured loans and equipment loans can go into the facility. We are actually getting a higher advance rate of up to 64% on our equipment-based loans, compared to a borrowing limit of up to 60% on our secured loans.

Great. And then I guess, on the issue of supply chain disruption, given that you have such an exposure to asset-based loans, how's that affect the companies that you lend to? I would think they'd be more susceptible to supply chain disruptions than service companies?

Would you say anything in general about that?

Yes, I mean, if you look at the portfolio, we're very diverse across different industry sectors. So even within our equipment financings and manufacturing, we've got semiconductor, we've got wireless internet and sustainable packaging. So, our portfolio is really very diverse across industries. And so we don't feel we've got any particular exposure. Some portfolio companies are a little bit more challenged than others. But, in general we're getting through it. And I think we're starting to see some of those issues ease a bit as we get toward the end of this year. So, we think we've got the portfolio risks properly accounted for and we're optimistic about the performance of our portfolio companies.

Great. Thanks for the color.

And we'll go next to Sarkis Sherbetchyan with B. Riley Securities. Please go ahead.

Hi, good afternoon and thank you for taking my question. It was a strong quarter. I believe Kyle mentioned that we already have good visibility for the fourth quarter. I would like to know if you anticipate robust net origination activity in the fourth quarter, especially given the context of elevated prepayments that seem likely to persist.

Yes, I don't know that we can predict again, what's going to happen on the prepayment side of the world, it's very difficult to do so and don't want to do that. We have been talking about growth, we've been talking about record levels of opportunities, which are at the top of our funnel quarter-over-quarter and that continues. And as we've said, each quarter that's the best indicator of what originations will look like. And so far, we've been able to outpace the levels of pay-offs that have occurred meaningfully and add to the portfolio on a quarter-over-quarter basis. And we expect that to continue.

Understood. Any kind of help or comments around dollar figure to the pipeline you're looking at today?

Opportunities are at the top of our funnel quarter-over-quarter and that continues. Each quarter serves as the best indicator of what originations will look like. So far, we have successfully outpaced the levels of pay-offs that have occurred and added to the portfolio on a quarter-over-quarter basis. We expect this trend to continue.

Well, I don't know that we give out specific numbers on exactly what the pipeline numbers are. Although I can tell you, they are and have been growing. And I mentioned that in the prepared remarks. But, we had a record deployment, but we also had record commitments this quarter and so we believe that we will just continue to perform and do well hopefully close those transactions, which would lead to great results if we can continue to execute.

Yes, just a reminder too, I mean, Kyle mentioned in the prepared remarks we had over $200 million of these $50 million commitments and close to half of that was in the equipment side of the world. And those equipment fundings happen over time, and they're sort of planned out. And we know that what's going to happen, so there is good visibility with some of those commitments to actual funding. So…

That's helpful. And just one last one for me, I guess, as we kind of sit here, just wondering if you can maybe provide some real-time color on loan pricing trends and if spreads are stable, tightening or widening for the investments you're looking to underwrite?

We've encountered considerable competition. However, we have not observed a significant downward trend in our pricing thus far, nor has there been a decrease in the number of accepted term sheets compared to those we are issuing. It remains competitive, and we must ensure we provide value that goes beyond just pricing. This is an area where we are distinctive, and we prioritize the relationship aspect of our business. So far, this approach seems to be effective for us, and we have not experienced pressure on pricing.

Great. Thanks. That's all for me.

Great. Thank you.

Since there are no further questions at this time. I will turn the call back over to Chairman and Chief Executive Officer Steve Brown for any additional or closing remarks.

Thanks so much. I just want to say to the investors, thank you so much for your support, continued support. We're just excited about what we've accomplished this year. And we are going to continue to work hard on your behalf to drive returns for all of us. So we appreciate your support. And we'll look forward to talking with you again next quarter. Thank you.

Thank you. And this does conclude today's program. Thank you for your participation. You may disconnect at any time.