Gladstone Investment (GAIN) is a Business Development Company — or BDC — that lends money to small businesses and pays out virtually all of its net income as a dividend, suggests Adrian Day, editor of Global Analyst.
Gladstone is a little different from most other BDCs in that it also invests in equity in these private companies, with a goal of 70% debt/30% equity. It pays its monthly dividend from the interest on the debt, with gains generated by equity paying bonus semi-annual dividends.
Like most of the BDCs, Gladstone fell sharply in December on concerns that the Federal Reserve would continue to increase interest rates. To a large extent, the concern about higher rates is misplaced.
For most BDCs, including Gladstone, the vast majority of its loans carry floating rates, while its own debt is most fixed rate. Thus, rising rates actually widen the gap between interest cost and interest income and are arguably beneficial for BDCs, at least early on in a tightening cycle.
The bigger concern is if rising rates push the economy into a recession, when some portfolio companies may have difficulty repaying their loans. Even more than a recession, a credit crisis, such as occurred in 2008, is a more serious threat.
Such an event does not appear imminent at this time. And moreover, companies like Gladstone, that were hurt in 2008, have taken steps to secure long-term or permanent funding—such as preferred stock—that cannot be withdrawn in a credit crisis.
Gladstone’s NAV has increased consistently in recent quarters. From the beginning of 2016, it has increased from $9.25 per share to $12.29 per share, significantly above the current stock price.
Net Investment Income (NII), the number on which dividends are based, can fluctuate wildly from quarter to quarter for a range of reasons—a new transaction closes, or a loan is sold. There are also accounting peculiarities that can affect the number.
Most important is that not only has the NAV consistently increased and the non-accrual rate remains fairly stable, but the company has repeatedly increased its regular distribution rate, four times from the beginning of 2017, including in the latest quarter.
The regular monthly dividend equates to a very attractive yield of 8.76%. But in addition, the company pays twice-annual supplemental dividend, which have recently equated to almost another two months’ worth of regular dividends.
If you include these distributions, your current yield on today’s stock price if 9.99%. It should be emphasized that the amount and indeed whether there is a supplemental payment at all does depend on performance of the portfolio in the recent quarter.
The company emphasized that the adjusted NII exceeds all distributions “by a significant margin”. This confidence was also emphasized with strong inside buying after the latest quarter results were announced.
So a better than 9% yield on a stock selling at a 25% discount to its NAV make Gladstone a compelling buy for long-term income-oriented investors.
