Gladstone Capital Stock: Undervalued 9.9%-Yielder Reports Strong Results
November 30, 2023
GLAD Stock Should Be on Investors’ Radar
If you look at the stock charts of business development companies (BDCs) like Gladstone Capital Corporation (NASDAQ:GLAD), you’ll see that many of their share prices have trended significantly higher since the beginning of November.
Why?
For starters, a high interest rate environment is good for BDCs, also known as “alternative banks.” BDCs lend capital to small and midsized businesses, and the vast majority of their loans have floating interest rates. So, higher interest rates mean more profits for BDCs.
At the same time, BDCs have to borrow money, so higher interest rates can have a negative impact on their expansion efforts. That said, they loan out capital at much higher interest rates than what they borrow it at.
In early November, the Federal Reserve said it would keep its interest rates between 5.25% and 5.5%. The Fed didn’t rule out another rate hike when it meets in December, but Wall Street seems confident that the Fed is done raising its rates for this cycle.
A pause in interest rate hikes and the lowering of inflation means the U.S. economy is probably going to avoid a recession. A strong economy means many small and medium-sized businesses will be looking to BDCs for additional capital in order to expand. That’s good for BDCs like Gladstone Capital Corporation.
Even though interest rate hikes may be done for this cycle, Wall Street still expects high interest rates to be around for a long time. That, too, is fabulous for Gladstone Capital.
The BDC invests in debt and equity securities that primarily consist of secured first-lien and second-lien term loans to lower-middle-market businesses in the U.S. with operating cash flow in the range of $3.0 to $15.0 million and investments in the range of $7.0 to $30.0 million. (Source: “Investor Presentation for the Fiscal Quarter Ended September 30, 2023,” Gladstone Capital Corporation, last accessed November 22, 2023.)
Gladstone Capital says it targets “growth-oriented companies with revenue visibility and proven cashflows where capital flexibility is highly valued to support the achievement of the company’s growth plan.” (Source: Ibid.)
Its $750.0-million portfolio is diversified across 51 companies and 12 industries. As of September 30, the conservative asset mix included 91% secured loans and 72.5% lower-risk first-lien loans. The portfolio’s average weighted yield as of September 30 was 13.8%, which helps support the company’s cash distributions.
Gladstone Capital’s floating-rate loans have supported its recent distribution increases.
Gladstone Capital Corporation Capped Off Terrific Fiscal 2023
For its fiscal 2023 fourth quarter (ended September 30, 2023), Capstone Capital announced that its total investment income increased by 4.1% year-over-year to $23.7 million. Its net investment income dropped by 5.9% year-over-year to $10.98 million, or $0.28 per share. (Source: “Gladstone Capital Corporation Reports Financial Results for Its Fourth Quarter and Fiscal Year Ended September 30, 2023,” Gladstone Capital Corporation, November 13, 2023.)
During the quarter, Gladstone Capital invested $27.4 million in companies that were already in its portfolio.
Subsequent to the end of its fiscal fourth quarter, the BDC invested $11.0 million in Quality Environmental Midco, Inc. through secured first-lien debt and preferred equity. It also extended a $2.0-million line of credit commitment to Quality Environmental Midco.
For the fiscal year, Gladstone Capital Corporation announced that its total investment income increased by 37% year-over-year to $86.4 million. Its net investment income advanced 27% year-over-year to $41.0 million, or $1.10 per share.
Commenting on the results, Bob Marcotte, Gladstone Capital Corporation’s president, said, “While net originations moderated last quarter[,] negatively impacting fee income, the underlying portfolio continued to perform well[,] generating an 8% increase in net interest income and [return on equity] of 13.7% for the period.” (Source: Ibid.)
He continued, “These results capped a strong fiscal 2023 for GLAD where we achieved 9% asset growth and 27% [net interest income] growth which supported the 22% increase in the common distribution rate and [net asset value] growth of 3.4%.”
Management Raised Monthly Payout & Declared Special Dividend
One of the great things about BDCs is that they pay no corporate income tax as long as they distribute at least 90% of their taxable income to investors. And a great thing about Gladstone Capital Corporation is that it pays its dividends monthly, even though quarterly is the most common schedule for companies.
In July, the company’s board declared a monthly distribution of $0.0825 per share, up from $0.08 in the prior month. It has held its monthly payout at that level since then. (Source: “Gladstone Capital Announces Increase in Monthly Cash Distributions for July, August and September 2023,” Gladstone Capital Corporation, July 11, 2023.)
That works out to a yield of 9.88% (as of this writing)
Gladstone Capital stock’s distribution is safe. In fact, there’s every reason to believe that management will increase GLAD stock’s monthly payout in 2024. Gladstone Capital Corporation’s fiscal fourth-quarter net investment income was $11.0 million, or $0.28 per share, which covered its quarterly distribution of $0.2675 by 105%.
Note that, in September, Gladstone Capital also paid a supplemental distribution of $0.02 per common share.
Gladstone Capital Stock Up 16% in 2023 & Has 18% Upside
Rising monthly dividends and occasional special dividends are wonderful, and big stock market gains are even better. Thanks to Gladstone Capital Corporation’s tremendous financial results, as of this writing, GLAD stock is up by about:
- Nine percent over the last month
- 16% year-to-date
- Nine percent year-over-year
Those are solid gains, and Gladstone Capital stock’s outlook is even brighter. Wall Street analysts have provided a 12-month share-price target in the range of $11.00 to $12.00 per share. This points to potential gains in the range of approximately eight percent to 18%.
If GLAD stock hits the lower target of $11.00 per share, it would put it within a few cents of its April 2022 record high of $11.03.
Chart courtesy of StockCharts.com
The Lowdown on Gladstone Capital Corporation
Gladstone Capital is an excellent BDC with a growing loan portfolio that continues to perform well, with approximately 89.2% of its loans being subject to floating interest rates with minimum secured overnight financing rate (SOFR) floors.
The company ended its fiscal year with a conservative leverage profile and an ample borrowing capacity to capitalize on the growing private credit opportunities in the lower middle market. This should allow Gladstone Capital Corporation to increase its earnings, net interest income, and dividends in the coming quarters.
