Saratoga Investment Corp.'s Q3 2026 Earnings Call: Emerging Contradictions on Capital Deployment, M&A Outlook, and Spillover Liquidity

Business Commentary:

• NAV Growth and Stability:
• Saratoga Investment Corp reported a NAV of $413.2 million as of the fiscal quarter end, a $2.7 million increase from last quarter and a $38.3 million increase from the same quarter last year. The NAV per share was $25.59, down from $26.95 last year and $25.61 last quarter.

• The growth in NAV was driven by continued NAV growth from the previous quarter and year, stable NAV per share, and strong performance from the core BDC portfolio despite a volatile macro environment.

• Net Interest Income (NII) and Interest Rates:

• The company's adjusted NII was $9.8 million this quarter, down 21.3% from last year and up 7.8% from last quarter. The adjusted NII per share was $0.61, down 32.2% from last year and up 5.2% from last quarter.

• The fluctuations were due to decreasing short-term interest rates and spreads on floating rate assets, as well as high levels of repayments, but were offset by increased average non-CLO assets and accelerated OID recognition from repayments.

• Originations and Repayments:

• The company reported net originations of $17.2 million for the quarter, with $72.1 million in new investments and $54.9 million in repayments. This led to a decrease in the cash position to $169.6 million.

• This trend was driven by strong new originations outpacing repayments, resulting in a net increase in assets under management, despite competitive market dynamics.

• Credit Quality and Nonaccruals:

• The overall credit quality improved, with 99.8% of credits rated in the highest category. Only one investment, Pepper Palace, was on nonaccrual status, representing 0.2% of fair value and 0.4% of cost.

• The strong credit quality was attributed to the high-quality nature and resilience of the portfolio, with all historically challenged portfolio company situations resolved.

• Liquidity and Investment Capacity:

• The company maintained substantial investment capacity, with $396 million available to support portfolio companies, including $136 million through the SBIC III license, $90 million from revolving credit facilities, and $169.6 million in cash.
• This liquidity position provides significant ability to grow assets accretively without external financing, with a leverage structure that is well-suited for future economic conditions.

Sentiment Analysis:

Overall Tone: Positive

• Management highlighted 'continued NAV growth', a '13.5% return on equity, beating the industry', and 'strong originations outpaced repayments'. They noted 'significant progress' in business development, 'strong current income', and confidence in the pipeline despite macro volatility, stating they are 'well positioned to responsibly grow' and deliver 'compelling risk-adjusted returns'.

Q&A:

• Question from Erik Zwick (Lucid Capital Markets): Could you provide more color on the increase in M&A activity and whether it's broad-based or concentrated, and expectations for 2026?
  Response: Management noted large M&A has picked up and sees more deal flow from long-standing relationships, viewing it as a hopeful sign of market normalization, though competition remains intense.

• Question from Erik Zwick (Lucid Capital Markets): Given the return to positive realized gains, what can be expected for near-term realizations?
  Response: Timing is unpredictable, but management expressed happiness that the core non-CLO BDC portfolio's fair value is about 2% above cost, indicating underlying strength.

• Question from Erik Zwick (Lucid Capital Markets): Considering lower short-term rates and spread tightness, how do you view earnings power and potential NII growth?
  Response: Management acknowledges headwinds but sees progress with capital deployment and a growing pipeline, hoping spread compression is temporary and that M&A expansion may lead to normalization.

• Question from Casey Alexander (Compass Point Research & Trading): With tighter spreads on new investments, how do you ensure adequate risk-adjusted returns?
  Response: Management emphasizes evaluating each deal for appropriate risk-adjusted returns, leveraging SBIC-favorable cost of capital and equity co-investments that have historically driven strong exits.

• Question from Casey Alexander (Compass Point Research & Trading): How are you balancing the risk of new vs. existing relationships?
  Response: Management focuses on rigorous due diligence for new relationships, takes a higher bar, but sees significant opportunity for compounding growth and preferred flow from new sponsor relationships.

• Question from Heli Sheth (Raymond James): Is there a shift in deal mix in the pipeline regarding sponsor vs. nonsponsor, LTVs, or industries?
  Response: No significant shift; the majority of deals are now non-software, core lower middle-market businesses, with a mix of sponsored and management-backed deals.

• Question from Heli Sheth (Raymond James): What industries are vulnerable to AI outside of tech?
  Response: Management evaluates AI impact on each deal, steering clear of businesses significantly disrupted by AI but notes some portfolio companies use AI to improve their credit profiles. A specific example given was avoiding taxi medallions.

• Question from Heli Sheth (Raymond James): Could I get the spillover balance as of quarter end?
  Response: The spillover balance per share was approximately $2.