BDC Update: Trinity Capital
March 15, 2023
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).
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.
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.
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.
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%.
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
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:
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.
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.
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).
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.