Invest Like Private Equity, Without The $1M Minimum

“Hi Brett, how’s business?”

“Horrible,” I admitted. “But we are a startup. If we can improve horrible simply badIt will be a great milestone for us.”

That was an economic crisis ago, in 2008. I had just quit my “day job” to start my first company. At just the right time, the Great Recession descended on us.

But the bleak economic backdrop didn’t matter. Actually, it was a blessing. A recession is actually the Best time to start businesses and grow them.

As a startup with no money, we were able to improvise our limited resources to get the company off the ground. Our pennies, nickels and hustle got more in return than they would have in a booming economy. The Great Recession, devastating for some companies, was a launch pad for an opportunistic and aggressive company like ours.

Thirteen years later, the software company serves an ever-growing customer base. (Without your income strategist these days. I sold my founding stake years ago to focus on finding dividends for us like-minded contrarians!)

In early 2009, Inc Magazine featured our fundraising story. Or lack thereof: it prominently involved my credit cards! I keep a framed copy on my wall, right next to my professionally commissioned artwork, to remind me of the importance of the recession and the value of being aggressive when competitors are digging in.

I don’t have to lecture an 8.2% producer on the sand. Throughout 2020, when most of its competitors were quietly walking away from deals, this “power lender” stepped up and gained market share.

In fact, CEO Kipp DeVeer recently stated:

“We believe that many of our competitors were not open during the pandemic, and market participants realized that we were very active during this period.”

Kipp’s team at Ares Capital (ARCC) took market share. ARCC is a business development company (BDC). It was already the largest BDC on the bloc. I have argued before that ARCC is also the The worst (in that bad is good) after showing the audacity to be open in a year when its competitors were essentially closed.

ARCC is a “favourite of the rich” because it pays a lot and harasses its competition.

That said, it’s not the only BDC that pays a lot. Are the others worth considering?

Let’s take a look at some potential gems in this space: a mix of three small business portfolios that return between 8.7% and 10.7%.

Golub Capital BDC (GBDC)

Dividend yield: 8.7%

let’s start with Golub Capital (GBDC)which provides a number of financing solutions, largely debt and minority equity investments, primarily to companies that are backed by private equity backers.

The vast majority of its loans are first lien: 84% one-stop loans and another 10% traditional senior debt. Another 5% is equity, with a touch of 1% junior debt. And of that debt, 100% is floating rate, helping you take advantage of the current environment of rising rates to your advantage.

GBDC is also a well-diversified BDC, spanning dozens of industries, although it is larger in some than others. Software is the largest share at 24%, but all other industries, including healthcare providers, specialty retail, and insurance, are in single digits.

Golub Capital BDC’s most recent quarter was strong once again: Earnings were up and better than expected, credit quality remained strong, and while book value fell, it fell less than analysts expected.

Importantly, investors continue to undervalue GBDC. The stock is down 12% this year, below the BDC average, but now trades for just 90% of net asset value. That’s convincing, as is a nearly 9% yield at today’s prices.

The big question I have: when will its potential finally turn into outperformance?

TriplePoint Venture BDC Growth

Dividend yield: 10.7%

TriplePoint Venture Growth BDC (TPVG) he is similar to Golub, but “younger”. That is, instead of investing in PE-backed companies, invest in venture capital-backed companies in the venture growth stage. It does this primarily through secured growth capital loans.

And, as the name suggests, its portfolio is heavily focused on technology, life sciences, and other high-growth industries. Indeed, his current portfolio includes some relatively well-known names among startups, including electric toothbrush maker Quip, fintech firm Revolut and shirtmaker Untuckit.

This focus on growth has served TPVG well for years, resulting in clearly outperforming the BDC industry as a whole.

And yet, several things about TriplePoint Venture Growth make me wonder, at least at this point.

On the one hand, TPVG is not as well positioned to capitalize on higher interest rates; less than 60% of its loans are currently variable rate.

Nor is it the value game that GBDC is. TriplePoint’s most recent investor presentation showed that the company has been trading at a premium compared to its peers for the past two years, based on price-to-book ratio. Currently, its price/NAV is up to 1.02, at best quite valued.

Credit quality is also an issue here. Last quarter, one of his investments, Pencil and Pixel, went into non-accrual and wrote off significantly. That raised its irregularities to 5.1% of the portfolio at cost.

It may be worth considering TPVG with a better valuation, but it’s hard to justify in this interest rate environment at current prices.

PennantPark Floating Rate Capital (PFLT)

Dividend yield: 9.3%

PennantPark Floating Rate Capital (PFLT) invests primarily in companies owned by established private equity backers in the middle market who typically back their portfolio companies. Portfolio companies typically generate between $10 million and $50 million in annual earnings before interest, taxes, depreciation, and amortization (EBITDA). The portfolio currently represents 123 companies spanning 45 industries.

PFLT deals primarily in first lien senior secured debt (87%), with another 13% in common and preferred stock. And as the name suggests, every penny of that debt portfolio is floating in nature, somewhat I suggested that it would serve the PFLT well in 2022. (And has!)

As I said in March:

“A more aggressive PennantPark and more favorable interest rate environment make analysts much more optimistic about PFLT’s ability to continue to write its dividend checks. That makes it a much safer play, at least while the hawks are in charge at the Fed.”

I also mentioned that PFLT had increased its investment in a joint venture with a Kemper (KMPR) subsidiary, that and higher rates have helped improve the performance of its portfolio.

Credit quality is also heading in the right direction thanks to a loan to Marketplace Events being put back into accrual status, lowering its non-accrual rate to just 0.9%.

A high yield of 9.3% on its dividend, paid monthly no less, sweetens the pot. However, it trades roughly at NAV, so it might be a bit cheaper.

Brett Owens is chief investment strategist at contrary perspective. For more great income ideas, get a free copy of his latest special report: Your Early Retirement Portfolio: Big Dividends, Every Month, Forever.

Disclosure: none

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