Prepared remarks
Good morning, and welcome to the PennantPark Floating Rate Capital's Third Fiscal Quarter 2026 Earnings Conference Call. Today's conference is being recorded. It is now my pleasure to turn the call over to Mr. Art Penn, Chairman and Chief Executive Officer of PennantPark Floating Rate Capital. Mr. Penn, you may begin your conference.
Thank you, and good morning, everyone. Welcome to PennantPark Floating Rate Capital's Third Fiscal Quarter 2026 Earnings Conference Call. I'm joined today by Rick Allorto, our Chief Financial Officer. Rick, please start off by disclosing some general conference call information and include a discussion about forward-looking statements.
Thank you, Art. I'd like to remind everyone that today's call is being recorded and is the property of PennantPark Floating Rate Capital. Any unauthorized broadcast of this call in any form is strictly prohibited. An audio replay of the call will be available on our website. I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking information. Our remarks today may also include forward-looking statements and projections. Please refer to our most recent SEC filings for important factors that could cause actual results to differ materially from these projections. We do not undertake to update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at pennantpark.com, or call us at (212) 905-1000. At this time, I'd like to turn the call back to our Chairman and Chief Executive Officer, Art Penn.
Thanks, Rick. I'll begin with an overview of our third quarter results, including the continued expansion of our PSSL II joint venture. I will then discuss the current market environment and how we believe PFLT is positioned going forward. Rick will follow up with a detailed review of our financial results, after which we will open up the call for questions. For the quarter ended June 30, our core net investment income per share was $0.26. This exceeded our current base dividend of $0.08 per share per month, or $0.24 per share for the quarter. In accordance with our revised dividend policy, PFLT will pay a supplemental dividend of $0.0033 per share over the next 3 months for an aggregate supplemental dividend of $0.01 per share. The supplemental dividend represents 50% of the excess of net investment income above the base dividend. As of June 30, our NAV per share was $10.26, which is down approximately 2% from the prior quarter. The portfolio continues to perform well. The decline in NAV was primarily attributable to a write-down in one of our nonaccrual investments. Our portfolio remains highly diversified and conservatively positioned. Median debt-to-EBITDA was 4.6x, median interest coverage of 2.1x and a loan-to-value was 44%. PIK income equaled just 2.4% of total investment income, among the lowest levels in the industry. We ended the quarter with 4 nonaccrual investments, representing just 1% of the portfolio at cost and 0.4% at market value. These portfolio metrics reflect the consistency of our underwriting process and our disciplined approach to credit selection. During the quarter, we invested $212 million in both new and existing investments at a weighted average yield of 9%. We invested $106 million into 5 new platform portfolio companies with a median debt-to-EBITDA ratio of 2.3x, interest coverage of 4.2x and a loan-to-value of 30%. Our existing portfolio continues to generate attractive deal flow. During the quarter, we invested an additional $106 million across 18 existing platform companies with credit metrics that were similarly attractive to our new investments. We remain focused on scaling PSSL II in a measured and disciplined manner. As of today, the portfolio totaled $390 million. Over time, we expect to grow the joint venture to more than $1 billion of assets, consistent with our existing joint venture. Based upon the current conditions, we expect this expansion to occur over the next 12 to 18 months while maintaining our disciplined underwriting standards. For the quarter ended June 30, PSSL II has generated a cash yield on invested capital of 12.7%. During the quarter, we generated a meaningful realization from the equity co-investment in the leading defense technology company. We received approximately $45 million in proceeds on our original $3.2 million investment, representing nearly a 14x multiple on invested capital. Government services and defense continues to be one of our highest conviction investment sectors and has consistently been among our best-performing verticals. Since inception, we've invested approximately $3 billion across this sector, including roughly $1.3 billion through PFLT. These investments are 92% first lien senior secured and generated an overall IRR of 12.2%, demonstrating our ability to identify businesses operating in strategically important markets. We remain highly constructive on the long-term outlook for government services and defense because the sector possesses several characteristics that align well with our investment philosophy. Demand has historically been supported by durable federal funding priorities and long-term contracts that provide meaningful revenue visibility and stability. Many of these businesses exhibit resilient cash flow profiles, variable cost structures and are generally less sensitive to broader economic cycles than many commercial industries. In addition, the sector continues to benefit from active M&A markets and strong valuation support, thereby providing multiple avenues for value creation. Our portfolio is concentrated in businesses supporting the Department of Defense and other mission-critical government agencies. We focus on companies addressing high-priority national security initiatives, including modernization of defense systems and digital infrastructure, cyber and electronic warfare capabilities, modeling and simulation, counter-drone technologies and next-generation autonomous systems. We believe these priorities will remain central to U.S. defense spending for years to come, creating a favorable backdrop for continued investment opportunities. Today, government services and defense represents approximately 18% of PFLT's portfolio. And given our experience, sourcing capabilities and the attractive opportunity set, we intend to maintain or increase that exposure over time. Software remains an area of focus for market participants. Our exposure is limited to approximately 4.3% of the portfolio and is structured consistently with our core middle market strategy. These investments are primarily cash-pay, covenant-protected loans with moderate leverage and relatively short durations as well. They are concentrated on mission-critical enterprise software businesses serving regulated end markets, including defense, health care and financial services. Now let me turn to the broader market environment. M&A activity has increased over the last 6 to 9 months, although overall conditions remain uneven. Private equity sponsors remain active, and we are seeing a growing pipeline of attractive opportunities across both new originations and add-on investments. We are optimistic that activity levels will remain elevated throughout the back half of this year. We expect increased transaction activity to drive repayments across the portfolio, including opportunities to monetize equity co-investments and redeploy that capital into income-generating investments. In the core middle market, the pricing for high-quality first lien term loans remains attractive, typically ranging from SOFR plus 500 to 550 basis points, with leverage of approximately 4.5x EBITDA. Importantly, these structures continue to include meaningful covenant protections in contrast to the covenant-lite structures prevalent in the upper middle market. We believe the current market environment favors lenders with established private equity sponsor relationships, consistent access to deal flow and disciplined underwriting, and these are long-standing strengths of our platform. We continue to believe that the core middle market offers attractive risk-adjusted opportunities. Companies in this segment generally have EBITDA of $10 million to $50 million and often operate below the practical threshold of the broadly syndicated loan and high-yield markets. As a result, lenders can typically conduct extensive diligence, negotiate meaningful financial covenants, structure transactions with appropriate leverage and equity cushions and maintain regular access to company financial information. Our credit quality since our inception over 14 years ago has been excellent. PFLT has invested $9.2 billion in 556 companies, and we've experienced only 27 nonaccruals. Since inception, our loss ratio on invested capital is only 13 basis points annually. As a provider of strategic capital, it fuels the growth of our portfolio companies. In many cases, we participate in the upside of the company by making an equity co-investment. Our returns on these equity co-investments have been excellent over time. Overall, for our platform from inception through June 30, we've invested over $629 million in equity co-investments, have generated an IRR of 25% and have generated a multiple on invested capital of 2x. Looking ahead, our experienced team and broad origination platform position us well to generate attractive deal flow. Our mission remains consistent to deliver a stable and well-covered dividend while preserving capital. Everything we do is aligned to that objective. We continue to focus on investing in high-quality middle market companies with strong free cash flow generation. We capture that value through first lien senior secured loans, and we pay out those contractual cash flows in the form of dividends to our shareholders. With that overview, I'll turn it over to Rick for a more detailed review of our financial results.
Thank you, Art. For the quarter ending June 30, GAAP and core net investment income was $0.26 per share. Investment income was comprised of $59 million in interest income, $6.2 million in dividends from our joint ventures and $0.8 million in other income. Our operating expenses for the quarter were as follows: Interest and expenses on debt were $25 million. Base management and performance-based incentive fees were $12.9 million. General and administrative expenses were $2.3 million. And provision for taxes was less than $0.1 million. Net realized and unrealized change on investments, including provision for taxes, was a loss of $18.3 million for the quarter. As of June 30, NAV was $10.26 per share compared to $10.47 per share last quarter. At quarter end, our debt-to-equity ratio was 1.56x, and our capital structure is diversified across multiple funding sources, including both secured and unsecured debt. Subsequent to quarter end, we reduced borrowings under our revolving credit facility, bringing our debt-to-equity ratio to 1.5x, within our target range of 1.4 to 1.6x. As of June 30, our key portfolio statistics were as follows: The portfolio remains well diversified, comprising 159 companies across 51 industries. The weighted average yield on our debt investments was 9.8% and approximately 99% of the debt portfolio is floating rate. LTM PIK income equaled only 2.3% of total interest income. The portfolio is comprised of 89% first lien senior secured debt, 1% in second lien and subordinated debt, 3% in equity of PSSL and PSSL II, and 7% in equity co-investments. With that, I'll turn the call back to Art for closing remarks.
Thanks, Rick. In conclusion, I'd like to thank our exceptional team for their continued dedication and our shareholders for their trust and partnership. We remain focused on delivering durable earnings, preserving capital and creating long-term value for all stakeholders. That concludes our remarks. At this time, I would like to open up the call to questions.
Questions and answers
We will take our first question from Chris Muller with Citizens Capital Markets.
Nice to be on with you this morning. So I wanted to ask about the government services part of your portfolio. So it looks like rates are poised to move higher into 2027, which tends to precede an uptick in credit issues. So I guess, how does that government services sector perform in times of stress compared to other sectors you guys have in the portfolio?
Yes. Thanks, Chris, and welcome. Look, government services has been extraordinarily resilient. A lot of it goes into the defense and intelligence uses. We don't need to worry about the bills getting paid. It's consistent through different presidential administrations. It has been very solid. Our track record of $3 billion over 65 deals or so is kind of from inception nearly 19 years ago. So it's been a really great space. Not a lot of people traffic in it. It's a differentiator for us. And given the geopolitical winds and what's going on in the United States, we think it will continue to be a resilient space. We just had that big win with that defense tech deal where the equity co-invest was 14x on the equity. So that is a strong validation for us, and we expect and will continue to be doing more of that type of thing.
Got it. And where do you think the exposure in that sector trends over time? Is this a good level? Or could we see you guys lean into that a little more going forward?
We're at 18% now. I think it's probably in this zone. We still want to maintain proper diversification. It's been a great space. We've had a great track record. But at about 18%, it's within an appropriate range. Obviously, equity co-invest marks can move that a little bit. But being around this level is appropriate because we do want to maintain proper diversification.
We'll next go to Paul Johnson with KBW.
So I'm just curious, you mentioned higher — potentially higher repayments here if activity picks up, which could be beneficial for the portfolio and rotation there. But if I'm looking at your dividend yield just based on where you trade today, almost a 16% dividend yield, and a cost of debt that's stepping up here. There was a recent bond issuance that was a little north of 7%. So incrementally higher cost of capital would also say that you would need a relatively high yield on the asset side or a relatively accretive environment to offset the higher cost of capital today. So how — I guess in terms of what you're looking at, you seem to have a favorable outlook on the investment — favorable investment outlook, I'll say. How are you balancing all of that with where the stock trades today and balancing that with potential leverage reduction or return of capital? How do you kind of balance that out?
Yes. It's a great question, Paul, and thank you. It is a balanced act. We do have two joint ventures. One is fully mature and one is growing and ramping. Those joint ventures can generate mid- to high-teens returns. So if we do bonds at roughly 7% and we're generating mid- to high-teens, that's accretive. That's how we think about return on equity. And then, of course, we want to make sure we're appropriately and prudently leveraged at the PFLT level. So we have this roughly 1.5x debt-to-equity zone that we think is appropriate for the underlying portfolio, which is among the lower-risk portfolios in the space. You can see it in our low PIK percentage and the leverage ratios of our underlying portfolio. We think we're appropriately balanced. It's not surprising to say the stock is cheap; many management teams say that. But it appears cheap relative to the underlying risk in the portfolio and the levers we have to be prudently leveraged and optimize net investment income. That's what we're trying to manage.
Okay. Got it. And then one just on maybe credit overall. I mean, what are you guys doing in terms of amendment activity? You mentioned you guys have low PIK. But if amendments are coming up in the portfolio, are you typically able to extract tighter terms and documentation where they're occurring? Are they requiring you to be a little bit more flexible with the sponsor at this point? It didn't look like there was an increase in PIK or anything, but what are you seeing there in terms of amendments in the portfolio?
It's a good question. The portfolio is relatively clean. The reason NAV was down a little this quarter is from that post-COVID vintage in the zero interest rate environment when consumer strength was very strong. The one or two nonaccruals we have are really from that post-COVID vintage now going on five years. The rest of the portfolio is pretty clean. We will always have a handful of amendments — with about 159 companies in the portfolio there's always some activity — but it's been relatively light. We're churning through whatever remains of that post-COVID vintage and leaning into government services and defense and resilient health care companies and other areas where we see solid risk-adjusted returns. The new loans we're originating, as you can see with the credit stats, are on the lower end of the risk spectrum in the industry. We think that mix works well with how we capitalize the company and manage risk. But amendment activity itself is relatively light.
Got it. That's helpful. And what percent, I guess, would you say the portfolio today is kind of in this post-COVID vintage?
I think it's probably on the order of 10% to 15%. Most of those investments have performed well. There are just a few where the world reverted to the mean. The one issue this quarter was a consumer company that had been doing very well for a long period of time, and then reversion to the mean combined with tariffs hurt it.
We'll next go to Robert Dodd with Raymond James.
Congrats on the progress. Kind of switching two things together, to your point, the post-COVID vintage, there was a big swell during COVID of consumers being cash-rich, et cetera. So certain underlying metrics look better when things were underwritten and caught a lot of people out. Is there any risk of that in the government services side? To your point, it seems really great right now. Is there an excess of spend in that sector right now that has any chance? I mean, I guess budgets never seem to go down, but is there any risk that there's some inflated cash flows within that sector that could turn around three, four years from now?
That's a great question. To give some historical context, during the Obama administration there was a period of sequestration where military expenditures were tightened. We did have exposure then and the companies made it through. It wasn't an easy time, but they managed. We don't really see a structural issue now, but we always consider scenarios like sequestration when underwriting new loans and think about resilience if funding tightened. One thing to note is our focus: our big win recently was in a defense tech company wrapped up in AI, drones and autonomy, which is where the action is happening, and less in traditional equipment. Historically we've focused more on services — intelligence, satellites, and similar areas — and those have remained resilient. That's why we keep leverage low across the portfolio, aiming for new deals with leverage of 4x to 4.5x or less and with substantial interest coverage. That provides cushion if adverse events occur. It's also why health care is a large sector for us and why we've outperformed peers in health care — lower leverage and more cushion reduces default risk.
Got it. On the pipeline, it looks pretty good in the second half. Is there any skew in the pipeline? I imagine there's not a lot of software in your pipeline, but there might be government services, and you're also expecting a ramp-up in repayment and monetization. So is the pipeline mix different from your overall portfolio and on a net basis, if repayments come in and originations go out, will we see a different overall mix?
Not dramatically. When we do consumer it's usually consumer services and we're comfortable with our exposure there, but we're cautious. One area popping up more is industrial-related companies, including industrial distributors, some of which support data centers and the AI build. That area is doing well and is attracting capital. We prefer high free cash flow companies in that space — less CapEx-heavy and more like distributors where inventory can be drawn down in a downturn. We're seeing more opportunities there given broader economic trends.
We'll next go to Christopher Nolan with Ladenburg Thalmann.
Art, was the actual name of the company realized 'defense tech'? Or is that just a reference to the deal?
We covered it last time. The company was called Aechelon, spelled A-E-C-H-E-L-O-N. It was sold to a company called Shield AI. Shield AI is one of these new prime-type companies, along with others like Palantir.
And Rick, what were the drivers for the elevated unrealized depreciation, I assume, beyond accounting true-ups?
The primary driver, which Art mentioned earlier, was a write-down on one of the nonaccrual names, KNS. Additionally, there was a write-down in one of the equity positions, Athletico Holdings. Those are the primary drivers, and KNS was also held within the joint venture, so there was a flow-through effect.
Finally, Art, on your comments about the attractive characteristics of government and defense-related companies, aren't these companies in a better position to command a premium, lower cost of capital, higher leverage or favorable terms and conditions? Can you comment a little bit on that, please?
Like much of our portfolio, these companies typically have a private equity sponsor that wants to do add-on acquisitions. Our cost of capital for them, typically first lien at SOFR plus 500 to 550, often featuring delayed draw term loans, is attractive as part of the financing package. These structures usually include delayed draws to provide fuel for add-ons, with 50% to 60% equity underneath us. In many cases we co-invest in the equity, as we did in the defense tech example. These are levered companies by definition, but levered appropriately and often with excess liquidity to execute add-ons.
And I'd now like to turn the call back over to Art Penn for any closing or final remarks.
Thank you. Thanks, everybody, for joining us today. Next time we speak, we'll be reporting our 10-K, our annual 10-K, and that will be in mid-November. We wish everybody a great rest of the summer, and we'll speak with you then.
Thank you. And this does conclude today's call. We thank you for your participation. You may now disconnect.