Wednesday, March 26, 2014

GLAD: March 2014 Report

Summary and Recommendations

Gladstone Capital (GLAD) is a component in my suggestedHigher Total Return’ and ‘Underdog’ BDC portfolios due to its much higher than average returns but along with higher amounts of risk.  I have changed my recommendation from a ‘Hold’ to a ‘Buy’ but investors should be aware of the increased amount of risk compared to the other BDCs I recommend.  If the price moves higher toward the upper end of my price targets I will change it back to a ‘Hold’. The reasons for changing my recommendation was based on improved credit quality, net asset value (“NAV”) growth, commitment to dividend coverage, low use of leverage, selective portfolio growth and expected total return.  

Over the last 6 months GLAD has provided total returns of 17% to shareholders and well above most BDCs (if not all).  This is mostly due to recent increases in its NAV per share and investors paying higher prices.  However it is still trading under NAV.

The key risks are related to the potential opportunities including depressed values of portfolio investments.  Historically GLAD has been near the bottom of my rankings but has shown signs of improvement over the last two quarters with 17% growth in NAV per share.  I believe there is a good chance for future NAV increases but this is dependent on many factors some of which are external (see page 14).

The depressed portfolio values have come from a combination of having higher than average amounts of subordinated debt (see page 8) along with originations during periods of increased competition and potentially less protective covenants before the financial crisis.  GLAD has also had issues with exposure to the broadcasting and media sectors, specifically radio, that were disproportionately impacted by the recession (see page 9).

GLAD has not grown the portfolio over the last few years and has focused on improving credit quality and increasing value to shareholders.  The external manager has been waiving fess “to ensure distributions to stockholders, were covered entirely by net investment income. 100% of common and preferred stock distributions paid in over the last three years were covered by NII.”

This article discusses the pros and cons of investing in GLAD along with earnings projections, dividend sustainability and growth potential over the coming quarters including best and worst case scenarios as well as key risk considerations, updated rankings/pricing compared to the other 25 BDCs that I follow.

Also included:
  • Interest rate sensitivity analysis
  • Timing for future share issuances
  • Projected total returns compared to the other BDCs
  • Price target based on expected total returns
  • Pricing based on multiples of NAV and projected earnings
  • Overall rankings and recommendations

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