One sector of the economy that is enjoying some genuine prosperity is the business-to-business lending industry where issuing floating rate loans well above historical averages is affording business development companies (BDCs) to pay out double-digit-percentage dividend yields. Capital Southwest Co. (CSWC) is one such company, thriving in its niche of financing, explains growth and income expert Bryan Perry, editor of Cash Machine.
Based out of Dallas, Texas, Capital Southwest specializes in lead financings of $5 to $70 million that regularly has the company as an equity partner with an active network of co-investors.
Capital Southwest targets companies generating minimum earnings before interest taxes, depreciation and amortization (EBITDA) of $3 million, where the typical borrower has $3 to $20 million in EBITDA. Plus, 96% of its loans are first lien in structure with total balance sheet assets standing at $1.2 billion as of the end of 2022.
Equity co-investments alongside debt investments can be up to 20% of the total check to a borrower. Capital Southwest will only make non-control investments.
Lending criteria is aimed at industrial manufacturing and services, value-added distribution, health care products and services, business services, specialty chemicals, tech-enabled services and software as a service (SaaS) models and food and beverage.
The analyst community is very bullish on the company’s prospects for 2023 and 2024 after the release of Q4 2022 results, bolstered by robust deal activity. Net investment income of $0.62 per share, exceeding the $0.56 average estimate, increased from $0.51 a year ago. Total investment income of $32.77 million for the fourth quarter, versus $30.23 million, increased by 35.5% from $22.31 million in Q4 2021.
The increase was attributable to a rise in average debt investments and an increase in the weighted average yield on investments that consist of floating rate loans. During the quarter, the company originated $164 million in new commitments, received a full prepayment on one debt investment and proceeds from the sale of an equity stake.
As a result of its strong performance and the current rising rate environment, the board declared an increase in its quarterly dividend to reach $0.53 and declared a supplemental dividend of $0.05 per share for the quarter ending March 31. By law, business development companies (BDCs) have to pay out 90% of distributable income in the form of dividends.
The six analysts that cover Capital Southwest are forecasting 2023 revenue to jump by 43% to $117 million and increase by another 35% in 2024 to $160 million. Earnings for 2023 are forecast to climb by 19.2% to $2.23 per share and increase by 16.6% in 2024 to $2.60 per share.
With a current annual dividend payout of $2.12 per share, the investment income covers the payout well, which sports a current yield of 11.27%. In my view, this BCD will make for a solid addition to our Extreme Income Portfolio. Buy Capital Southwest Co. under $20.
