BDC Update: Trinity Capital
10 min read

BDC Update: Trinity Capital

It's been too long since we last updated Trinity Capital. Sorry about that. However, we've updated the Expected Return Table and our projections through 2028. This is a BDC that could achieve great things. Or not. We explain.

March 15, 2024

Confessions

We may have bitten off more than we can chew trying to maintain up-to-the minute projections and valuations for every public BDC. Even after jettisoning PhenixFin (PFX) for its opaqueness and TriplePoint Venture Growth (TPVG) and Horizon Technology Finance (HRZN) for their unreliable investment valuation methods and BlackRock Investment (BKCC) - now merging into its sister BDC we have plenty of BDCs left and have just added Palmer Square Capital (PSBD) to our list. All of this to say that it's been a year since we last wrote about Trinity Capital (TRIN) and much has happened in the intervening months that we've not captured on these pages and in the projections.

Second Chances

However, we're not ready to give up and promise to do better. Let's start with TRIN's most current earnings and dividend estimates for 2024 to 2028 and a new net asset value per share (NAVPS) projection. Regarding the latter, we had previously anticipated that TRIN might experience a (10%) decrease in its NAVPS over the next 5 years. Based on the latest data, and the fact that the BDC can theoretically benefit from its many equity investments when market conditions improve, we are projecting TRIN will maintain a "stable NAV" and end up in 2028 at, or very close, to the $13.19 NAVPS achieved as of December 31, 2023. (By the way, since launching in 2020, TRIN has increased its NAVPS by 6%, and was essentially flat in 2023).

Earnings Growth

The BDC's Net Investment Income Per Share (NIIPS) has increased greatly since 2020, both because more and more investments have been added and because - since 2022 - interest rates have shot up. NIIPS began at $1.29 in 2020 and have risen to $2.31 in 2023. That's three years of earnings growth as the Expected Return Table shows. Most recently - in the IVQ 2023 - NIIPS came in at a record $0.57, which annualizes at $2.28.

Peak-ish

However, that may be as good as it gets where recurring earnings are concerned. The analysts believe TRIN's IQ 2024 NIIPS will be $0.55. More importantly, 2024 the analysts believe 2024's NIIPS will get to only $2.18 a share and 2025 will be lower still at $2.12. We've borrowed those projections and estimated that NIIPS will continue to drift down thereafter to $1.96 by 2028. That decline reflects management's own calculations of how much profitability will be impacted by a 300 basis point reduction in yields over time. We've adjusted for lower incentive fees but assumed no net loss of income from credit snafus, as gains elsewhere should keep earnings-power intact.

Distributions

TRIN has been very generous with its shareholders since coming to market where dividends are concerned, paying out $7.69 per share so far, including $2.31 in 2023. Another $0.51 has been promised for the IQ 2024 as management has increased irs quarterly payout for the thirteenth time in a row. We've recently discussed the dividend in the BDC Reporter and opined that TRIN might yet get one or two more increases out before falling earnings cause a re-think. Management can afford to be magnanimous because they's hoarded away $1.39 per share in undistributed taxable income which will need to be released at some point.

Going Forward

A little bullishly, we're projecting that TRIN could pay $2.16 a share in 2024 - higher than the current running rate of $2.04. This should involve some mix of regular dividend increases and "specials". However, from 2025 we envisage the total payout dropping to $2.04 and then to $1.92 in 2027-2028 as rates flatten out. Of course, these are rough estimates but the idea is that TRIN's distributions - like its earnings - will come down from their record-breaking levels, but not too much. If we're right, shareholders will receive only 4% less in 2028 than they did in 2023.

Target Price

In our methodology, we value a BDC with a "stable NAV" at a 12.5x multiple of the dividend. This is undoubtedly "rich" for TRIN. Even in March 2022 when total distributions were on their way to $2.33 thanks to a mix of income and equity gains, the stock price barely broke through $20 a share and reached an 8.7x multiple. However, venture-debt leader Hercules Capital (HTGC) has reached those sort of heights before. If TRIN can continue to prove itself year in and year out, we should expect to see multiple expansion. However, there's no doubt that with its high yield of 16.7% and involvement in the risky world of venture debt, TRIN may struggle - whatever its results - to command that 12.5x multiple.

Valuation

We calculated a Target Price at both 10.00x the 2028 dividend and 12.5x. The former results in a Target Price of $19.20 and the latter of $24.50. The more modest price is below the BDC's all-time price record, but the latter is well above. That's the beauty of the Expected Return model: it's customizable to whatever one believes is right. Anyway, the Total Return at 10x comes to 99% over 5 years. At 12.5x, the Total Return goes to 131%. Admittedly that's the highest Total Return showing for any BDC in the Expected Return Table, but not an impossible dream. The current price is $14.80, and the 52 week high $15.44.

Recommendation

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TRIN is still a very "young" BDC and we're still getting to understand the strengths and weaknesses of its business model. Causing us some concern is how poorly its two fellow "venture debt" denizens HRZN and TPVG have performed of late and recently Runway Growth's (RWAY) performance has been worrisome. However a 16.9% Return on Average Equity (ROAE); a very high dividend yield and top of the market total return are hard to turn away from. This is a double-edged knife that can cut both ways, either to potentially record returns or above average losses. We hold the BDC in our BDC Best Ideas Model portfolio and elsewhere, but always with a frisson of worry. TRIN is a BUY, but only to investors with a strong constitution and able to laugh off huge price volatility. We illustrate with the (short) lifetime chart of the BDC below, which includes a (50%) drop in its stock price, followed by a 50% increase.

TRIN- Lifetime Price Chart 2021-March 15, 2024.


March 15, 2023

Drastically Changed

Back on March 8, 2023, after a review of Trinity Capital's (TRIN) IVQ 2022 results, we amended the BDC's projected 5-year distribution estimates. We took the annual 2023-2027 payout to $2.5000, from the $2.0000 projected in September 2022. (This all happened before Silicon Valley Bank et. al. hit the headlines).

How High?

Admittedly, that's quite a jump but the BDC has been in growth mode in 2022 - increasing its portfolio size by 25% in 12 months. Net Investment Income Per Share reached $2.26 in all of last year and was annualizing out at just under $2.50 a share using the IVQ data. The so-called "core yield" of the portfolio is 14.2% and could edge higher. Then there's a great amount of undistributed taxable income yet to be shared with investors: $1.73 per share.

Held Back

To confuse the matter, TRIN's management today announced the IQ 2023 regular quarterly would be"just" $0.47. That's 2% up from the quarter before, but equal to only 76% of those IVQ 2022 earnings. Unlike in every quarter of last year, when TRIN paid out a $0.15 supplemental distribution per share, none was offered up for the first 90 days of 2023. If it had, the "running rate" annualized distribution would have been $2.48 - very close to our projection.

With Good Reason

The sudden stinginess with the payout is - probably - largely due to management adapting to the new, more fragile, environment in the wake of the bank failures. As discussed in the BDC Reporter, paying out all its undistributed income would deprive TRIN of one-third of its liquidity. "Better safe than sorry" is becoming the mantra for so many things right now and TRIN is no exception. However, over time and given the BDC tax rules, TRIN will have to fork over those earnings to shareholders.

Not Backing Down

Starting in 2024 or 2025 everyone expects the Fed to reduce rates. That will bring down TRIN's interest income, but that will be - at least - partly offset by a faster pace of loan repayments, which results in more end-of-term income. Then there's a new joint venture and an asset management business that we expect to contribute incremental earnings dollars. Moreover, we expect undistributed taxable income will also be called upon to maintain that $2.5000 a year payout.

Valuation

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As before, we are projecting a terminal dividend multiple of 11x in our effort to come up with a Target Price for the BDC, which is $27.50. (Over its short history TRIN has reached as high as $20.26). With the closing price on March 15, 2023, at $12.85, the Expected Return model is expecting the BDC to more than double in price. The Total Return comes to 211% over 5 years and the 2023 yield - using our seemingly aggressive payout projection - is 19.5%.

Buy Low

The return seems so fantastical - in part - because investors have been running for the proverbial door since March 2022 on hearing of TRIN's 3 crypto company investments (one of which -Core Scientific - has filed for bankruptcy) and a few other credit troubles. As recently as December 2022 TRIN had lost half its market value and was trading at 4.5x its 2022 Net Investment Income Per Share. For our part, we're more optimistic than we were about the crypto exposure (including the prospective recovery at Core Scientific) and don't discern any systematic credit difficulties as yet. We do worry, though, that TRIN does have nearly a quarter of its investments in second-lien loans.

No Faith

This is a newer public BDC and investors are quick to bail at the first sign of trouble. There's been a rebound in price since December 2022 but as we write this, TRIN is still (37%) off its highest point - having made back only a fourth of its price loss. Of all the BDCs we track, TRIN trades at the lowest Price to 2023 Projected EPS: 5.7x. Doubts abound, which greatly boosts the price upside should TRIN prove their doubters wrong.

Nobody's Perfect - In Lending

We just go where the numbers take us, especially as handicapping TRIN's future is very hard given our short history tracking the BDC. We concede that the BDC could yet rack up substantial credit losses, which would greatly erode those earnings we're expecting. Or, management could become much more stingy than they've been with the share of earnings they'll distribute, as occurred this quarter.

We'll Take Less

As a not-so-good case, we've calculated what a Total Return might look like if TRIN's annual payout dropped to as little as $2.0000 from 2023-2027. That's a (10%) drop from the 2022 earnings level, and (20%) below our Expexted Return. The resulting Price Target would be $22.00; the current yield goes to 15.6% and the Total Return over 5 years remains a still-impressive 149%.

Stranger Things

On days like today, it's hard to ever imagine TRIN could one day trade at $22.00, let alone $27.50. Yet, just such an eventuality is possible if TRIN keeps its credit slate relatively clean and BDC multiples return to historical levels. That's what makes BDC investing for the long term so intriguing.


September 16, 2022

Confusing

The better venture-debt-oriented BDC Trinity Capital (TRIN) performs - at least by way of increasing its dividend payout, the less investors seem interested. The BDC has just announced a third increase in its quarterly "regular" distribution while continuing to pay a "special" of $0.15 as well and - at least - till the end of 2022. TRIN's stock price, though, peaked in April and has been headed ever lower since:

Trinity Capital: 2022 Price Chart To September 16, 2022

We tackled this dichotomy in a BDC Reporter article on September 16, 2022, on the same day we listened to, and re-published an interview with the President of the internally managed BDC.

Out Of Date

What is clear is that the dividend projections we made for TRIN earlier in the year no longer apply and need updating. With three-quarters of 2022 already paid out or announced, and the special distribution for the IIIQ just re-affirmed, we can safely say the $2.2200 we projected is too low. Instead, we are assuming - thanks to higher rates - the regular distribution will be increased to $0.48 in the IVQ 2022, bringing the full-year payout to $2.3500.

Higher

Looking forward - and adding on a new year to maintain our rough 5-year rolling methodology - we have upped the yearly distribution to $2.0000 from the $1.8800 projected previously. In this regard, we're influenced by the latest analyst earnings consensus for 2023 which clocks in at $1.9600, up from $1.8800. What's more, TRIN still has $2.15 per share of "undistributed taxable income" to dole out. Some of that may be used up this year, but there will be a slop over into 2023.

Not So Bad

We also take the BDC at its word that there is no mountain of defaults headed its way, despite the current slowdown in enthusiasm for everything tech. The President's argument in the aforementioned interview is that the source of repayment for its venture debt loans is continued support by venture capitalists. Valuations may come down now that some of the animal spirits have abated but should be sufficient in almost every case to keep the underlying companies solvent. That's been the same argument made by the venture-debt grandaddy Hercules Capital (HTGC) for the last twenty years, and we've no reason to disagree.

Good Size

Moreover, TRIN is already a $1.0bn player. That's not huge by BDC standards when Ares Capital (ARCC) tops out at $14bn and Oaktree Specialty Lending (OCSL) wants to merge with its sister BDC to get to $3.3bn, but in venture debt terms - a niche within a niche - that's an impressive size. There are 108 companies in the portfolio - an above-average level of diversification. (By contrast, Runway Growth -RWAY - has $808mn in portfolio assets spread over 43 companies).

Bottom Line

With the new projections - and making no change to the 11x terminal multiple we use to come up with a Target Price of $22.00 - the 5-year return comes to 118%, or 23.5% per annum - one of the highest in the Expected Return Table right now. Going by the projected 2023 dividend of $2.0000 (i.e. not relying much on special distributions), the yield is 13.6%. Based on the latest net book value per share, $2.0 a year of distributions means a 15.3% return on equity - substantially above what a BDC has tended to earn and even above our own optimistic outlook for higher sector ROE in the future.

Stating The Obvious

It's an irony of stock investing that such a high potential return makes one almost suspicious. What have we missed? Probably a great deal as we are still getting familiar with the BDC and its chosen market is experiencing - or is about to - a period of turmoil. Nonetheless, there's a lot of room in all this for an unpleasant surprise or two which makes investing in TRIN right now an attractive prospect.