Fidus Investment Corporation (FDUS) Earnings Call Transcript & Summary

Good day, and welcome to the Fidus Second Quarter 2026 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Jody Burfening. Please go ahead.

Thank you, Danielle, and good morning, everyone, and thank you for joining us for Fidus Investment Corporation's Second Quarter 2026 Earnings Conference Call. With me this morning are Ed Ross, Fidus Investment Corporation's Chairman and Chief Executive Officer; and Shelby Sherard, Chief Financial Officer. Fidus Investment Corporation issued a press release yesterday afternoon with the details of the company's quarterly financial results. A copy of the press release is available on the Investor Relations page of the company's website at fdus.com. I'd also like to call your attention to the customary safe harbor disclosure regarding forward-looking information included on today's call. The conference call today will contain forward-looking statements, including statements regarding the goals, strategies, beliefs, future potential, operating results and cash flows of Fidus Investment Corporation. Although management believes these statements are reasonable based on estimates, assumptions and projections as of today, August 7, 2026, these statements are not guarantees of future performance. Time-sensitive information may no longer be accurate at the time of any telephonic or webcast replay. Actual results may differ materially as a result of risks, uncertainties and other factors, including, but not limited to, the factors set forth in the company's filings with the Securities and Exchange Commission. Fidus undertakes no obligation to update or revise any of these forward-looking statements. With that, I would now like to turn the call over to Ed. Good morning, Ed.

Good morning, Jody, and good morning, everyone. Welcome to our second quarter 2026 earnings conference call. On today's call, I'll start with a review of our second quarter performance and our portfolio at quarter end and then share with you our outlook for the second half of 2026. Shelby will cover the second quarter financial results and our liquidity position. After we have completed our prepared remarks, we'll be happy to take your questions. Although ongoing geopolitical uncertainties and market volatility weighed on deal activity levels in the fragmented lower middle market, we continue to build our diversified portfolio of debt and equity investments in the second quarter. Our long-standing relationships with high-quality sponsors, our proven investment strategy and industry knowledge continue to differentiate Fidus. These attributes create opportunities for us to add, through disciplined selection, niche market leaders with defensible moats and resilient business models that generate cash flows to service debt and support realistic growth strategies. As a result, our portfolio remains healthy and structured to produce both high levels of current and recurring income and the potential for capital gains from monetizing equity investments. Adjusted NII of $0.50 per share extended our track record of covering our base dividend. In addition, we realized net gains of $6.4 million or $0.17 per share from the monetization of 3 equity investments. Net asset value was $738.5 million at quarter end or $19.46 per share. For the third quarter of 2026, the Board of Directors declared a total dividend of $0.50 per share, which consists of a base dividend of $0.43 per share and a supplemental dividend of $0.07 per share, equal to 100% of the surplus in adjusted NII over the base dividend from the prior quarter, which will be payable on September 29, 2026, to stockholders of record as of September 15, 2026. Originations in the second quarter amounted to $98 million, the vast majority of which were M&A-driven first lien investments. We invested a total of $48.1 million in 4 new portfolio companies. In terms of existing portfolio company investments, we continue to support many of them with acquisition capital in the form of debt and equity investments. As we continue to build our portfolio, we remain focused on maintaining a high level of diversity while investing in growing companies that provide essential products and services with an emphasis on manufacturing, distribution and service enterprises. Proceeds from repayments and realizations totaled $39.2 million for the second quarter. At quarter end, our portfolio on a fair value basis stood at $1.4 billion or 102% of cost and consisted of $1.3 billion in debt investments and $147.2 million in equity investments. Our portfolio remains well structured to produce both high levels of recurring income and capital gains from monetizing equity investments, coupled with attractive loan-to-value characteristics. Our debt portfolio continues to perform well and is sound from a credit quality perspective given the solid fundamentals of our underlying portfolio companies. At 6/30, one portfolio company, Virtex, remained on nonaccrual, accounting for less than 1% of the total portfolio on both a fair value and cost basis. Subsequent to quarter end, we exited our second lien and subordinated debt investments in Virtex Enterprises LP, which had previously been written down. We received payment of $0.2 million, resulting in an aggregate realized loss of $11 million. As a result, as of today, we do not have any investments on nonaccrual status. Looking ahead to the second half of 2026, given the pent-up demand in the M&A market, we expect deal flow and investment activity to pick up as geopolitical uncertainties abate. So such timing is not entirely clear. Yet deal flow appears to be picking up as we sit here today. In addition, even in this more muted environment, our portfolio continues to be active and a meaningful source of new investments. As we have in the past, through periods of both robust and sluggish deal activity and during the heightened risk associated with the pandemic, we will adhere to our strict underwriting standards to maintain a well-diversified portfolio that produces both high levels of current and recurring income and offers the potential for enhanced returns from monetizing equity investments. Our portfolio is well positioned to continue to generate adjusted NII that covers our base dividend. We remain focused on managing the business for the long term and committed to our goals of capital preservation and generating attractive risk-adjusted returns. Now I'll turn the call over to Shelby to provide some details on our financial and operating results. Shelby?

Thank you, Ed, and good morning, everyone. I'll review our second quarter results in more detail and close with comments on our liquidity position. Please note, I will be providing comparative commentary versus the prior quarter Q1 2026. Total investment income was $43.5 million for the 3 months ended June 30, a $4 million decrease from Q1, primarily driven by a $2.6 million increase in interest income driven by increased average debt investments outstanding, a $0.6 million increase in dividend income from equity investments, offset by a $6.8 million decrease in fee income, primarily related to the fees from the American AllWaste debt refinancing recognized in Q1. Total expenses, including income tax provision, were $24.8 million for the second quarter, a $1.9 million higher than Q1, driven primarily by a $1.2 million increase in interest expense related to higher average debt balances outstanding and the refinancing of our unsecured notes due November 2026 completed in the second quarter, which included approximately $0.4 million of duplicative interest given the timing of the redemption of the unsecured notes. A $0.3 million increase in base management fees given increase in assets under management, offset by a $1.2 million decrease in income incentive fees given lower fee income in Q2. A $0.4 million increase in G&A expenses primarily related to proxy solicitation costs related to the Annual Shareholder Meeting held in Q2 and a $1.2 million increase in capital gains fee accrual. Net investment income, or NII, for the 3 months ended June 30 was $0.49 per share versus $0.65 per share in Q1. Adjusted NII, which excludes any capital gains, incentive fee accruals or reversals attributable to realized and unrealized gains and losses on investments, was $0.50 per share in Q2 versus $0.62 in Q1. For the 3 months ended June 30, we recognized approximately $6.4 million of net realized gains on our equity investments in Medsurant Holdings, USG AS Holdings and Worldwide Express Operations. We ended the quarter with [ $739.8 million ] of debt outstanding, comprised of $296 million of SBA debentures, $320 million of unsecured notes, $112.7 million outstanding on the line of credit and $11.1 million of secured borrowings. Our net debt-to-equity ratio as of June 30 was 1x. Our statutory leverage, excluding exempt SBA debentures was 0.6x. The weighted average interest rate on our outstanding debt was 5.8% as of quarter end versus 5.2% in Q1. The increase in the cost of debt is driven by the refinancing of the 3.5% unsecured notes that were due in November with new unsecured notes with a higher interest rate of 6.625% that are due in June 2029. As a result of the refinancing, our earliest debt maturity is now in June 2029. Turning now to portfolio statistics. As of June 30, our total investment portfolio had a fair value of $1.4 billion. Our average portfolio investment on a cost basis was $14 million, which excludes investments in 8 portfolio companies that sold their operations during the process of winding down. We have equity investments in approximately 82.4% of our portfolio companies with average fully diluted equity ownership of 2.1%. Weighted average effective yield on debt investments was 12.5% as of June 30, in line with Q1. The weighted average yield is computed using effective interest rates for debt investments at cost, including the accretion of original issue discount and loan origination fees, but excluding investments on nonaccrual, if any. Now I'd like to briefly discuss our available liquidity. As of June 30, our liquidity and capital resources included cash of $39.3 million, $112.3 million of availability on our line of credit and $18.5 million of available SBA debentures, resulting in total liquidity of approximately $170.1 million. Now I'll turn the call back to Ed for concluding comments.

Thanks, Shelby. As always, I'd like to take -- thank our team and our Board of Directors at Fidus for their dedication and hard work and our shareholders for their continued support. I will now turn the call over to Danielle for Q&A. Danielle?

[Operator Instructions] The first question comes from Robert Dodd from Raymond James.

Congratulations on the quarter. If I can ask on the market outlook, Ed, I mean, as you say, and there's uncertainty, there's a lot going on globally. Your color kind of indicated that you do think deal activity is going to pick up -- is picking up right now. But overall timing, like I mean, is it going to be strong in the second half? Is it going to be stronger in '27? I mean, can you give us any more feel for kind of like what -- and again, you already hedged a little bit on the timing. So I'm not trying to totally pin you down, but like kind of what does it, kind of, feel like for the second half of this year versus is it just going to be more '27?

It's a great question, Robert, and I wish I had a crystal ball. What I would say, and I did allude to it and you caught it, is that we are seeing a higher level of deal flow today than we were 60 days ago, for sure. And I think that bodes well for Q4 in particular, maybe Q3 for some, but I think it bodes well for Q4. But there clearly are uncertainties in the world today that could get in the way of some of that. But that's how we're thinking about it as we sit here today. Deal flow is picking up. I mean, if I go back to Q1 and Q2, deal flow was not robust. There was some deal flow. I would say quality was also lackluster. So our hope is quality does and continues to improve. And with that, hopefully, activity levels across the board will pick up a little bit. But I think there's also good news from our perspective, which is our portfolio continues to be quite active. It was in Q1. It was in Q2. I think there has been activity here in Q3. A couple -- we've had one funding of a commitment we made in Q2, and we've also made 2 sizable add-on investments in July that were acquisition related. So I do think things continue to move along from a portfolio investment perspective, and that's healthy, and we like that. The whole idea of incumbency is a good thing. But we also expect new deal activity probably more in Q4 to pick up so.

Got it. I appreciate that color. On credit quality, obviously, I mean, Virtex, after the end of the quarter, was exited. So you're back down to 0 non-accruals right now. I mean, are you seeing anything on the horizon or anything in any particular portfolio that comes up? I mean anything that gives you any concern over the next 6 to 12 months about credit quality, either in your portfolio or even more broadly, I mean, for the economy?

Sure. No, it's a great question. And what I would say is that -- as you know, we have some companies performing really well, some that are performing as expected and a lot that are performing kind of as expected, if you will. So I think we aren't seeing anything systemic, if you will. We're all aware of the higher oil prices. We're all aware of the lower end consumer struggling a little bit more than maybe others. But generally speaking, we are seeing healthy growth in our portfolio. EBITDA growth levels this quarter, about 6%. And so we feel good about kind of the outlook and really the strength of the portfolio as we sit here today.

Got it. If I can, one more. You've talked about it. I mean, it's still topical, software, and you do have a good chunk of software though. It tends to be specialized software. Anything -- have you seen any impacts on any of your software book from the AI discussions or pressures or anything like that? Or is it just business as usual?

I think it's more business as usual. I think our software and tech-enabled services portfolio continues to perform well. Our debt portfolio with regard to our software and tech-enabled services is marked at 99% of cost as we sit here today. We think we've invested in a very resilient group of companies. But as is typical of any 100 company portfolio or with regard to software, a meaningful portfolio, from time to time, we have a few businesses dealing with company-specific issues. But really, as it pertains to AI risk, we are not seeing any widespread performance issues showing up in the portfolio. What I would say is that most borrowers are investing in and adopting AI capabilities to reduce costs and also just improve their products. And we also believe many of them are well positioned to capitalize on their advancing AI capabilities and software capabilities. So we are pleased with where the portfolio is and expect it to continue to perform well as we sit here today.

[Operator Instructions] The next question comes from Christopher Nolan from Ladenburg Thalmann.

A follow-up on Robert's question in terms of the pickup in deal flow. Ed, what does this all mean for terms and conditions? I mean -- and I guess there is a -- in terms of the deals that you're seeing. And also, is the pickup in deal flow, private equity sponsors, just trying to find an exit after such a lull?