Capital Southwest Corporation Aktie

Thank you for joining today's Capital Southwest Second Quarter Fiscal Year 2027 Earnings Call. Participating on the call today are Michael Sarner, Chief Executive Officer; Chris Rehberger, Chief Financial Officer; Josh Weinstein, Chief Investment Officer; Amy Baker, Executive Vice President of Accounting; and Morganne Stewart, Director of Communications. I will now turn the call over to Morganne.

Thank you. I would like to remind everyone that in this call, we will be making certain forward-looking statements. These statements are based on current conditions, currently available information and management's expectations, assumptions and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties and assumptions that could cause actual results to differ materially from such statements. For information concerning these risks and uncertainties, see Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events, changing circumstances or any other reason after the date of this press release, except as required by law.

I will now hand the call over to our President and Chief Executive Officer, Michael Sarner.

Thanks, Morganne, and thank you, everyone, for joining us for our second quarter fiscal year 2027 earnings call. We are pleased to be with you today and look forward to discussing our results for the quarter. Our portfolio continued to deliver consistent results during the second fiscal quarter. We generated pretax net investment income of $0.58 per share, which was supported by strong recurring earnings. Our undistributed taxable income balance remains robust at $0.92 per share, reflecting consistent realization activity.

We remain confident in our ability to continue covering both our regular and supplemental dividends through the earnings power of the portfolio. Our Board of Directors has declared a $0.58 per share regular dividend for the December quarter paid out monthly over October, November and December 2026. They have also declared a quarterly supplemental dividend of $0.06 per share payable in December, bringing total dividends declared for the third fiscal quarter to $0.64 per share. Deal flow in the lower middle market has been robust. The quarter was exceptionally active on the origination front, driven by both the strength of our sponsor relationships and the continued growth of our investment team. We closed a record $391 million in total new commitments across 14 new portfolio companies and 16 existing portfolio companies.

Our new portfolio companies this quarter span 11 industries, reflecting our ability to source deals across the lower middle market. For the new deals that closed during the September quarter, weighted average senior leverage was 3.4x debt-to-EBITDA and weighted average loan-to-value was 33%, providing a substantial equity cushion beneath our debt. Our recent origination success has been supported by the sizable growth of our organization. Over the past 18 months, we have expanded our team from 27 to 46 employees, significantly increasing our sourcing and underwriting capacity. CapTrin, our strategic joint venture with Trinity Capital, has also broadened the range of opportunities we can competitively pursue.

Together, these efforts have helped us build a substantially larger pipeline. In fact, over the last 12 months, we have screened approximately 1,600 opportunities, up from 1,200 in fiscal year 2026 and 1,000 in fiscal year 2025. And while our pipeline has grown, we remain highly selective with a close rate below 2%. We believe this reflects both our disciplined underwriting process and the depth of our relationships and sourcing capabilities in the lower middle market.

Looking at the current macro lending environment, it seems more likely than not that we're heading back toward a higher for longer rate environment. In a recent article, I discussed how a renewed rise in base rates could affect BDCs. The short answer is that higher rates aren't simply good or bad for BDC earnings. Higher rates will certainly increase portfolio yields, but they could also put pressure on borrower cash flows and raise the BDC's own cost of capital. I think if rates move higher, you can see greater separation across the industry with credit quality, portfolio company leverage, funding costs and balance sheet liquidity becoming increasingly important differentiators.

For Capital Southwest, we believe we are well positioned if rates move higher. Our assets are predominantly floating rate, much of our debt is fixed rate, and our portfolio companies have conservative leverage of approximately 3.7x. We have also gained experience and insight from navigating the previous rate cycle when SOFR rose above 5.5% and saw firsthand how our lower middle market portfolio performed. While every rate cycle is different, we believe the combination of our asset sensitivity, liability structure and conservative portfolio leverage positions us well if base rates move higher.

Beyond our core balance sheet activity, we continue to broaden the ways we access attractive investment opportunities. This quarter, we partnered with Trinity Capital to form Desert Star, our second joint venture together with a $25 million equity commitment. Desert Star gives us access to the technology lending market, allowing us to gain exposure through a granular portfolio of investments in an area where we have not historically focused. We expect to deploy our equity commitment over several years as we take a measured approach to investing in this area of the market.

Turning to our capital structure. We significantly strengthened our balance sheet during the quarter. We issued $350 million of 5-year unsecured notes and amended, extended and upsized our corporate credit facility. This amendment meaningfully reduced our cost of capital while providing additional capacity and flexibility to support future growth. Following these transactions, we have no debt maturities until 2029. In connection with the unsecured note issuance, we also entered into our first interest rate swap. Chris will provide more detail on these activities in his remarks.

Rounding out a solid quarter, we raised $67 million in gross equity proceeds through our ATM program. Our ability to access this program continues to be a meaningful competitive advantage for Capital Southwest. In a market where fewer publicly traded BDCs are trading above book value, our improved price-to-book valuation gives us a differentiated ability to raise growth capital that is accretive to NAV and supportive of long-term shareholder value.

I will now hand the call over to Josh to review more specifics of our investment activity.

Thanks, Michael. As previously mentioned, this quarter, we deployed a total of $391 million across new and existing portfolio companies. This consisted of $314 million of first lien senior secured debt and $13 million of equity across 14 new portfolio companies. Across 16 existing portfolio companies, we invested $63 million in first lien senior secured debt and $1 million in equity this quarter. Additionally, during the quarter, we generated $74 million of proceeds from portfolio company exits at a weighted average IRR of 14.5%. Our credit portfolio ended the quarter at $2.2 billion, representing 28% year-over-year growth from $1.7 billion as of September 2025.

Importantly, 100% of new portfolio company debt originations were first lien senior secured. And as of quarter end, 99% of the credit portfolio remained first lien senior secured with a weighted average exposure per company of only 0.8%. This level of portfolio granularity reflects our disciplined approach to risk management as we continue to scale the balance sheet. The vast majority of our deal activity continues to be first lien senior secured loans to private equity-backed companies. Approximately 92% of our credit portfolio is sponsor-backed, which provides strong governance, operational support and when needed, the potential for junior capital.

In the lower middle market, we frequently have the opportunity to invest in our portfolio companies' equity. When the thesis is compelling, we take a minority position pari passu alongside the private equity sponsors. As of quarter end, our equity co-investment portfolio consisted of 102 investments with a total fair value of $192 million, representing 8% of our total portfolio. This equity portfolio was marked at 120% of our cost, representing $31.6 million of embedded unrealized appreciation or $0.48 per share. These positions continue to give our shareholders meaningful upside participation in growing lower middle market businesses, driven by both operational improvements and strategic add-on acquisitions.

Our market remains competitive with both bank and nonbank lenders continuing to pursue high-quality opportunities. While that competition has resulted in tighter pricing over the past several years, we have begun to see spreads widen over the past few quarters. New originations this quarter had a weighted average spread of 6.5%. Despite the competitive environment, the depth of our sponsor relationships and the continued growth of our investment team are expanding the opportunities we are able to originate. Since launching our credit strategy in 2015, we have completed transactions with more than 145 private equity firms nationwide. Over the last 12 months alone, we have closed new platform investments with 22 sponsors with whom we had not previously partnered. We believe the breadth and continued expansion of those relationships position us well to source attractive opportunities while remaining highly selective.

Our portfolio now consists of 153 companies comprised of 89.4% to first lien senior secured debt, 1% to second lien senior secured debt, 8% to equity co-investments and 1.5% to joint ventures. The credit portfolio generated a weighted average yield of 10.9% with a weighted average leverage through our security of 3.7x EBITDA. At origination, all loans are initially assigned an investment rating of 2 on a 5-point scale, with 1 being the highest rating and 5 being the lowest. At quarter end, 89% of the portfolio at fair value was rated a 1 or a 2. Cash flow coverage has also continued to improve, increasing to 3.5x from a low of 2.9x during the peak of base rates. We remain pleased with the overall performance of the portfolio and believe it remains well positioned as we continue to grow. I will now hand the call over to Chris to review the specifics of our financial performance for the quarter.

Thanks, Josh. Specific to our performance for the quarter, pretax net investment income was $37.2 million or $0.58 per share. For the quarter, total investment income increased to $67.2 million from $61 million in the prior quarter. The increase was primarily driven by a $4.6 million increase in cash interest income, coupled with an increase of $1 million in fees and other income. The increase in fee income was driven by increased arranger fees due to larger origination volumes than in the prior quarter. Importantly, PIK as a percentage of total investment income decreased to 7.4% from 8% in the prior quarter.

On the expense side, G&A increased by approximately $400,000 from the prior quarter. This increase was driven entirely by proxy solicitation expenses related to our shareholder vote on increasing our authorized shares, which is a nonrecurring item. As of the end of the quarter, our loans on nonaccrual represented 1.4% of our investment portfolio at fair value compared to 1.1% at the end of the prior quarter. We continue to demonstrate strong dividend coverage with 109% cumulative coverage since launching our credit strategy. Our UTI balance increased to $0.92 per share this quarter from $0.87 per share in the June quarter.

In addition, we continue to hold significant unrealized appreciation across our equity portfolio. As a result, we remain confident in our ability to grow our UTI balance and continue paying quarterly supplemental dividends over time. LTM operating leverage ended the quarter at 1.4%, a meaningful improvement from the 1.6% observed a year ago in September 2025. Notably, this improvement occurred despite adding 14 employees over the last 12 months. Going forward, we expect to continue to add resources to our team while maintaining operating leverage in the 1.4% to 1.5% range. Our operating leverage remains significantly better than the BDC industry median of approximately 2.5%, underscoring the inherent efficiency of the internally managed BDC model.

NAV per share increased to $16.64 per share, up from $16.61 per share in the prior quarter. The primary driver of the increase in NAV per share was accretion from our equity ATM program, partially offset by net realized and unrealized depreciation on the investment portfolio. As Michael mentioned earlier, during the quarter, we amended our corporate credit facility, which increased total commitments to $595 million from $510 million, reduced our borrowing applicable margin to 2% from 2.15%, removed the incremental SOFR adjustment of 10 to 15 basis points and extended the maturity to September 2031 from August 2028. As a result, our earliest debt maturity is now in 2029, providing us with greater long-term funding certainty.

Additionally, we raised $350 million in new unsecured bonds bearing 6.75% fixed interest and maturing in September 2031. In conjunction with the unsecured bond offering, we entered into an interest rate hedge, which effectively swaps the September 2031 notes to SOFR plus a 2.16% spread. Finally, we raised approximately $67 million in gross equity proceeds during the quarter through our equity ATM program, at a weighted average share price of $24.50 per share or 148% of the prevailing NAV per share, reinforcing our ability to raise capital efficiently and accretively.

Our liquidity position remains robust with approximately $647 million in cash and undrawn commitments across our 2 credit facilities. In total, this represents more than 1.6x coverage of the $394 million in unfunded commitments across the portfolio. During the quarter, we also received approval to increase our applicable -- or excuse me, our available leverage in the SBIC II fund to $250 million, providing additional flexibility beyond our current $175 million commitment. The SBA program continues to be an attractive source of capital for us, offering both a competitive cost of funds and reliable long-term liquidity to support portfolio growth.

Regulatory leverage ended the quarter at 1:1 debt to equity. We will continue to raise secured and unsecured debt capital as well as equity through our ATM program in a methodical and opportunistic manner to ensure we maintain significant liquidity and a conservatively constructed balance sheet with adequate covenant cushions. Finally, we continue to make meaningful progress with CapTrin Partners, one of our joint ventures with Trinity Capital. The JV currently holds approximately $127 million in first lien securities in 14 portfolio companies with a weighted average leverage of 1.3x debt to EBITDA. We expect to continue originating low leverage, high-quality investments within this structure.

I'll now hand the call back to Michael for some final comments.

Thank you, Chris, Josh, Amy and Morganne and all the employees who help us tell the story on a quarterly basis. And thank you, everyone, for joining us today. This concludes our prepared remarks. Operator, we are ready to open the lines up for Q&A.

[Operator Instructions] Our first question comes from Mickey Schleien of Clear Street.

Michael, you recorded about $15 million of unrealized depreciation on debt investments, if I'm not mistaken. Which individual investments were the main drivers? And was that primarily borrower-specific or indicative of some broader credit deterioration?

Yes. There's -- thanks for the question, Mickey. There was essentially 3 companies that are on our watch list that had significant depreciation during the quarter. One is a car wash business that you're probably familiar with that had gone through bankruptcy. It's come out of bankruptcy. And I think cyclicality related to inflation is still harming that business. Probably the balance sheet is probably still a little overlevered to where it is. So we'll see how that lands. There's a roofing business that was a roll-up strategy. I think the execution on that has had some hiccups and they're trying to course correct that. And then the other one is an older name that's been on nonaccrual for a while in the post-production CGI for the entertainment industry. And that's sort of a 2021 deal that had basically COVID issues, based on elevated EBITDA coming out of COVID. And so I think they're all fairly idiosyncratic from one another. Those 3, I think, had about $10 million of the depreciation for the quarter, and the rest of it was really immaterial.

That's really helpful. I think in your prepared remarks, you talked about the potential for interest rate increases. And I agree that every cycle is different. But could you give us a sense of how concerned you are about borrowers at the tail end of your portfolio? I mean averages and medians are interesting, but the problems are at the tail end if the forward curve turns out to be correct and the Fed tightens several more times.

I think I'd answered the question just, kind of, going back to where we were when rates were 5.5%. Our interest coverage across the portfolio, I understand we're talking about, sort of, on a detailed perspective, got down to 2.9x where it is 3.5x today. But I also think the strength of the portfolio today where it was then, we have lower nonaccruals than we did going into that cycle. I think our portfolio -- loan to values are lower. If you look at the deals we just did this quarter, which is almost $400 million, now we're at 3.4x and 33% loan to value. I would just tell you, I think that our portfolio -- on top of that, the granularity that resides in the portfolio at about 76 basis points. I think we're better prepared for a higher rate cycle now than we were going into the last cycle, and we came out of that pretty clean, I would say.

Okay. A couple more, if I can. You had record originations and balance sheet leverage is now 1.25x on a debt-to-equity basis. So given your current pipeline and available liquidity, how should we think about investment activity going forward? And where do you -- what's your target debt-to-equity ratio on the balance sheet?

So on the origination activity, I think we're -- historically, before the growth in our investment team, which I think we cited on the call, has grown 40% over the last 24 months. A lot of those are senior individuals. So I think our total originations this quarter is going to grow from where it was $150 million-ish a quarter to something closer to $250 million a quarter. The other question was how much on the equity raise?

Yes. So Mickey, I'll take the second question. So leverage, we typically look at on a regulatory basis. And so we've said in the past, our target is 0.9 to 1x regulatory. So we're certainly at the top end of that range. I wouldn't expect it to go above that. Part of the reason for that this quarter is, obviously, we were seeking shareholder approval for our authorized shares. We didn't get that until September. So actually, I think we did a really good job raising $67 million of equity in about a month. The other thing I would say is we are expecting a repayment cycle in this December quarter, which we hadn't seen in a few quarters. And so you should think about leverage, kind of, moderating in the 0.9 to 1x range regulatory leverage going forward.

Yes. I mean, in the last 3 quarters, I think we saw maybe $100 million of repayments, and we would expect that number to be maybe twice as much just in the 12/31 quarter alone.

Okay. And lastly, and I appreciate your patience. So with CapTrin continuing to grow and now the launch of Desert Star, how meaningful could these JVs become to earnings over the next maybe year? And what returns are you targeting on your invested equity in those ventures? And how should we think about the timing of dividend income from them?

Sure. Let me just start by maybe framing -- so these 2 different JVs probably for 2 different purposes. Obviously, CapTrin is really a strategic venture, which allows us to be more competitive in deals that are sub-6%. That fund, we think since it's originating our core assets is going to grow over time. I think that we expect probably about a mid-teens return as the manager in that fund. I think the fund itself is about 13%, but we are getting scrape and some fees associated with it. Desert Star, on the other hand, so whereas we are the sourcing and originating and managing the assets for CapTrin, the inverse is true for Desert Star where Trinity is -- they're in that seat of originating the assets. We've committed $25 million, which will be funded over the next 3 years, and we expect a return of somewhere in the same 14% to 16% return once that facility is fully ramped.

Yes. For the earnings power, Mickey, what I would say is it's going to take -- we've got $50 million in equity committed to the fund alongside Trinity $50 million, so $100 million total. It's probably going to take us 12 to 15 months to get that fully funded. So we'll ramp from what we have funded today, which is around $25 million up to $50 million over the next 12 months, generating, as Michael said, sort of a 13%, 14% return.

That's really helpful.

The other thing I wanted to add too, so Desert Star, it's mostly going to be software deals. And the question is like why are we doing that today? If you look at what those deals look like in the market over the last 2 years, these are deals that were negative cash flow, negative EBITDA -- they are being funded off at 2 to 4x ARR. So not cash flow loans and it's not assets that we would frequent in. That market has changed. I think since all the headline noise coming out of the last fall, there's less lenders in the market. Deals today are all cash flow. I would say all of the deals that we've seen are positive cash flow, positive EBITDA, they're 1x ARR, full set of covenants.

And when we're thinking about the partnership, we believe we're pretty good at what we do is in the sponsored finance, lower middle market, but we don't frequent with scale in software technology. And as underwriters, the more deals you look at, the better decisions you'll make. And so our viewpoint is partnering with an expert in the field, which we consider Trinity an expert in the venture side, getting involved with them and having a small investment of granular size is a measured approach to investing in that industry without taking excess risk.

If I could just follow up. You said those deals are going to be primarily cash flow positive. There's been a lot of talk about the impact of AI on these companies and the argument that small software companies are particularly at risk because it's just so hard for them to build a moat. Can you give us a sense at least as to the scale of these businesses in terms of the EBITDA you're targeting?

Well, it's really across the board in the lower middle market to the middle market. So Trinity typically in those deals are doing businesses that are in the $5 million to $25 million of EBITDA.

So that -- so these software technology deals would still fall into that range?

Yes, they're direct -- most of the deals will be directly originated by Trinity and not bigger club deals and syndicated deals.

Our next question is from Melissa Wedel from UBS.

When I listen to what you've talked about with regard to the second JV, it really seems like just, sort of, reading between the lines, you really want to keep those 2 groups of assets separate, and that's the rationale for 2 separate JVs rather than combining into one. Is that fair?

Yes, absolutely. I mean, I said, CapTrin is a very strategic vehicle. It is adding value to this organization because maybe I'll reframe it again is that between $5 million and $8 million of EBITDA in the lower middle market is where we have real specialty. But when deals get slightly larger, and these are safer companies, they tend to price sub-6%, and those deals don't fit perfectly into our target ROE. And so having this JV allows us to compete and win on deals where we think that the spread should be below 6%, and we are able to create a structure, a first out, last out structure that provides the necessary yield. So that in and of itself is the strategic venture that we're focused on with growth. As you said, the $25 million investment into Desert Star is really just that consider a single investment, which has granular risk relative to the number of companies that will be embedded within it.

Yes. And maybe more directly, generally speaking, there's not going to be any crossover between the 2 joint ventures. I mean, today, there actually is one asset. But going forward, we do expect them to be separate strategies and separate asset allocations.

Okay. I also had a follow-up on the comment that you made about expecting more of a repayment cycle in the fourth quarter. I was hoping you could elaborate on that in terms of what's driving, sort of, elevated repayments that you expect in 4Q? And is that something that might be matched on the origination side?

Well, I'll say this, we've seen 2 large originations come back and large to us is $30 million to $40 million, and we're expecting 1/3 of the same size towards the end of the quarter. Originations are going to be closer, I would imagine, to what I stated earlier, like, a normal quarter for the amount of professionals we have scouring the nation, which is probably $250 million. I'd probably ask, Josh, if you want to chime in on that.

Yes. I think the lower middle market M&A activity is actually pretty good right now. I know that the middle market and upper middle market has been a lot less activity. And so some of that's just timing of some of the sale processes of portfolio companies of ours.

The next question is from Chris Muller with Citizens.

I guess, on the growth of the investment team, is there more hiring that you guys expect to do there? And when you guys bring new people on to the platform, how long does it typically take for them to fully ramp up?

So I think the answer to the question in terms of -- I do expect us to continue to hire people. I think one of the areas of growth that we've had over the last 18 months is hiring and building an operations team, so to work on deals that end up in our watch list, and that's been huge value add within the organization. So that's been a number of people. I think Josh mentioned, I believe, that we've hired 2 senior people, the originators, and there's others that have come up through our system that are now firing on all cylinders, if you will. So I would expect us to continue to hire in the mid- to the lower end. We probably staffed up our infrastructure on the back office fully, and that will probably grow at a slower clip at the moment. But Josh, I hand it over to you.

Yes, I would say, obviously, commenting on the time to ramp, it depends on the position. We had -- we hired an originator -- dedicated originator earlier this year who had been in the lower middle market for the last 5 to 10 years. So the ramp-up period was pretty short. And then on the deal team front, the underwriting front, sort of, depends on the position, but we hired a principal level and a VP level underwriter who -- both of whom had lower middle market direct lending experience. So the ramp-up period again is very, very short. When we hire a junior underwriter from straight-up underwriter investment banking, it's a little bit longer, but it's still within a few months, they can get up to speed and significantly add value.

Got it. That's helpful. And then I guess, given the focus on tech and the Desert Star JV, will we see some equity positions in there? Or is it going to all just be debt investments?

So Desert Star it's all debt inside the fund. But I also want to, kind of, react to that, that, again, this is a $25 million check over 3 years. I would -- I do not want to overemphasize this is a change in strategy or overallocation to technology and software. This is an opportunity to invest alongside someone that we respect in the industry and make a nice 15% return.

Our next question is from Robert Dodd with Raymond James.

Congratulations on another good quarter. A couple of questions. I mean, first, on the ramp, obviously, headcount, you've just talked about it and the amount of incremental pipeline you're seeing. I mean, when I look at pipeline, can you characterize how much of it is now coming from -- in the deal closings is coming from, kind of, newer relationships versus more established? I mean, I just think the risk profile is different. If you've known a sponsor for a decade, you know how they think, you know how they invest. If it's somebody -- if it's a sponsor that's a new relationship over the last 18 months, it might not be more risky, but there's more uncertainty. So I mean, is there a different approach in terms of how you assess deal flow and pipeline that's coming from those newer relationships versus those longer-standing ones? And are those newer relationships the factor that's driving the increase in originations right now? And how should we think about the relative uncertainty of long-standing relationships versus newer ones?

The first thing I would answer on that is our close rate has come down from 2% closer to, I think, 1.7%. So by and large, your question is true. We're accepting a lot less deals because the people that join us do have to go through a process of learning us and us learning them. I think, Josh, you want to give some more detail on it.

Yes. I think -- look, I mean, I think it takes years to cultivate a relationship where you, sort of, touched on this where you create that trust level and you, kind of, know each other very well. What I would say is the way that this generally plays is that you meet a new relationship or you get a new relationship and you may not see a deal from them for a few months or you see a deal and then you get to see how each other think, what kind of deals they're looking at, how we think about the deal. You likely don't win a deal from a relationship that you create for a year or 2, maybe even 3 years. And that's one of the reasons why our pipeline is growing because we had a couple of -- we have one new originator who's driving a lot of growth.

But we also have a couple of originators who have been doing it for 3 or 4 years. And some of those relationships that they created 3, 4 years ago are coming to the forefront now. And so you start to see, okay, maybe they saw 0 or 1 deal in the first year they, sort of, created that relationship, but then taking multiple trips to that specific city or seeing them at conferences and getting to know people better, year 3 and 4 is when you start to see all their deal flow, that kind of thing. And so that's one of the real reasons why we're driving a lot more pipeline and a lot more deal flow right now from relationships that we started 3 or 4 years ago and have cultivated over that time period.

One anecdotal too, Robert, is that, like, we hired a business development professional MD in January. So I guess we're here in November now. And he's brought in sizable amount of traffic on deals. And we've closed 2 deals with him over this 10 months. So obviously, that deal flow is there, but his win rate will increase once again, when we get more comfortable with his deal flow and vice versa as well.

Got it. On one, I got to go to back to Desert Star. Yes, I mean, it's small. You're only allocating $25 million. But what's your edge on reviewing those software deals? Obviously, Trinity has one, long-established lender in that segment of the market. But what do you bring to the table other than capital, right? Because obviously, it's your capital that's been put at risk, or shareholders' capital that's been put at risk in principle. I mean, what's the value add that you bring on rejecting a deal if it's inappropriate, when it's tech specific? I mean, you could have just bought $25 million of Trinity stock, so to speak. I'm not recommending that. But why this approach if it's not your area of expertise?

So I would probably agree with that phrasing. I think, first of all, yes, we bring cash to the deal. But in both joint ventures, we have 50-50 voting rights. At the end of the day, these businesses are still lower middle market, small businesses that our guys are experts in the field in underwriting. The reason why we don't focus on doing software deals ourselves is, kind of, what I said earlier. If we see 100 deals, and close 2, you'd like to think that you force-ranked the best 2 deals, and those are going to be the best deals that you could have invested in. In our pipeline, we may only see 10 deals on software in a given year. And if we're investing 2 out of 10, now that's 20%, you have to assume those deals may not have been the best deal. So I think in this circumstance, we still bring the underwriting to the table. We certainly bring the cash, and we have all of the input similar that they have with us on any particular deal to be the deal if we don't get comfortable with it. Josh, you want to add anything?

Yes. I mean, like, the way that we think about it is just a very -- it's a good way for us to deploy a small amount of capital into a strategy that we have not focused on in a very granular way. And so -- and we get to approve the amounts and the deals, and we can see a deal and say we don't really like that one, and I don't want to put it in. So we get to, kind of, handpick the deals. You're right, they have a lot more expertise in tech investing than we do, and we want to leverage that. And we want to leverage their relationships with sponsors without taking a big bet in, sort of, software and tech lending.

Got it. Got it. If I can, one more. Your spillover, your UTIs, it's back approaching $1 again. I mean, it's a good problem to have to support the dividend. Is there any conceptual rule of thumb, I mean, how much you would be willing to accept if that keeps building, eventually something has to be done about it, which obviously the special dividends or supplemental dividends is the way to deal with that. I mean, is it just -- is there a way we should think about that in terms of, like, how much you would like to keep as a max or a minimum on that side of the -- because obviously it's embedded in NAV as well. So I mean, how -- what should we be thinking about on how much UTI is acceptable in your view?

Sure. So I would tell you that rule of thumb, we think $1 of UTI is a strong balance. On the inverse side, we would tell you that anything $0.50 and below at a $0.06 per quarter would be too small. The other thing I would add, kind of, where you're going with the question is we've been talking over the last probably 18 months about some sizable exits that were going to occur, and we saw the UTI was going to jump considerably. Those actually -- those companies are performing, but they pushed their sale processes. So we've grown our UTI organically through under distributing the dividend. We've grown it through small granular equity exits. And we still do expect probably one of those in 2027 and maybe the other one either 27 at the end of 2028.

So we could see that balance grow sizably. What does that mean? I would tell you that we would look to increase the $0.06 over time once we get comfortable where that UTI balance is. And you didn't ask but I'd say on the regular dividend. I'd say, look, we've done what we believe is a pretty strong job of managing NII down through a rate cycle that came down to 3%, 3.5% and maintain our dividend at 100%. With the strength of our deal team, with the strength of the originations this quarter and with the likelihood of rates increasing, we are fairly bullish that it's possible that either or both the supplemental and the regular dividends will be growing probably in 2027.

Our next question is from Sean-Paul Adams with B. Riley Securities.

This was actually the second mention of car wash businesses this morning in the context of consumer-facing businesses feeling a pullback in spending. With Wash & Wax and Apple Roofing getting added to nonaccrual this quarter, I think Campany Roof is also marked below par. You guys now have 2 roofing businesses and a car wash, kind of, facing consumer pressure. Beyond those, which other parts of the portfolio are you guys seeing exposed to a slowdown in low-end consumer spending?

It's interesting. I think that the consumer spending on car wash that we're in is part of the story. But a big part of it also is some of the execution and also an overbuild in car wash centers specifically. And so it's specific to the geographies that we -- that this company is focused in. So it's -- certainly, consumer spending has been -- has attributed to the underperformance, but it's a little bit of -- a lot of it was capital structure, overbuild in the specific geographies. And so that was a big part of the story as well.

On the roofing side, I think it's pretty much across the board that roofing -- you've had a couple of bad storm years. So one of our businesses is heavily focused on storm. And so you've had a couple of bad storm years, which happens, and that's driven some of the weakness there. And then it's also just been -- a lot of it has been execution, too. I mean like a lot of it's been execution on roll-up strategies across the board from what I've heard across the industry, not just our portfolio companies. So let's say, consumer spending, particularly on the roofing side, a lot of the roofing, for example, one of our businesses, it's specifically an insurance-driven business. So that's not going to really -- there may be a little bit of consumer spending in there, but it won't be a lot.

Our next call is from Erik Zwick with Lucid Capital Markets.

I appreciate all the commentary on the new originations in the quarter in terms of average spreads and leverage. I guess one thing I hadn't heard you mention, unless I missed it, was just any commentary you have on structure and covenants, whether there's been any changes there in the most recent quarter relative to maybe the past year or so?

Yes. I mean, honestly, one thing you have to understand, on every origination we do, they're going to have full set of covenants. I mean, if they're going to be in a lower middle market, our big advantage is the fact that we can get full covenants that we can have low leverage in LTV. And so we take advantage of that in each and every case. I guess, Josh, would you have anything to add on that?

Yes. The structures have stayed really, really firm. I mean that's the bottom line. And part of that's driven by our discipline and part of that is driven by the market discipline in the lower middle market. So the combination of both, I think, has driven us to have really strong credit agreements really for a long time. And so the more fluid dynamic in the lower middle market is pricing and structures have not wavered all that much.

That's good to hear. And curious, just in terms of the increased SBA capacity, what percentage of the pipeline today would be SBA eligible?

Yes. So we've been pretty consistent on this point. I think roughly 75% of the deals that we see or that come in for serious consideration are SBIC eligible. And so SBIC II continues to ramp. I think we're not quite at the point to take the additional $75 million of leverage just yet, but that will probably happen in the next quarter or so.

And then last one for me. You mentioned potential repayment cycle in calendar 4Q. Curious on the equity realization side. I know it's sometimes a little bit harder to have an outlook out past more than a quarter or so there, but just any potential equity realizations towards the end of the year?

So the capital that's coming back this quarter is primarily debt only. I can't think of any gains.

We have one small equity gain that we expect to come back later in the quarter. Obviously, that's subject to the sale process.

But looking forward to early -- it could be as soon as the March quarter, we do have one of the -- again, one of the assets that we, kind of, discussed over time might have an exit that could be fairly sizable, sizable between $10 million and $15 million.

I am showing no further questions at this time. I would now like to turn it back to Michael Sarner, CEO, for closing remarks.

We appreciate everybody taking the time today to listen in and appreciate all the questions. That was a pretty spirited conversation, and I appreciate it. We look forward to telling the story again next quarter, and hope everybody has a good rest of the week.

Thank you for joining today's Capital Southwest first quarter fiscal year 2027 earnings call. Participating on the call today are Michael Sarner, Chief Executive Officer, Chris Rehberger, Chief Financial Officer, Josh Weinstein, Chief Investment Officer, and Amy Baker, Vice President, Accounting. I will now turn the call over to Amy Baker.

Thank you. I would like to remind everyone that in the course of this call we will be making certain forward-looking statements. These statements are based on current conditions, currently available information, and management's expectations, assumptions, and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties, and assumptions that could cause actual results to differ materially from such statements.

For information concerning these risks and uncertainties, see Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events, changing circumstances, or any other reason after the date of this press release except as required by law. I will now hand the call over to our President and Chief Executive Officer, Michael Sarner.

Thanks, Amy, and thank you everyone for joining us for our first quarter fiscal year 2027 earnings call. We're pleased to be with you today and look forward to discussing our results for the quarter. Before turning to the quarter, I want to highlight that we are still seeking additional shareholder votes for our proposal to increase Capital Southwest's authorized shares. The company has received substantial shareholder support for the proposal to date. As of today, approximately 89% of votes cast have been cast in favor of the proposal. However, because approval under Texas law requires the affirmative vote of holders of at least two-thirds of all outstanding shares, shareholder participation remains critical to the proposal's approval. A failure to vote has the same practical effect as a vote against the proposal.

The proposal would provide Capital Southwest with the flexibility to continue executing the strategy that has supported the company's growth and long-term performance. Approval would not by itself authorize the issuance of any new shares. Rather, it would ensure that the company has sufficient authorized shares available to issue accretive equity when attractive investment opportunities arise. Additionally, I would like to highlight that ISS and Glass Lewis have both issued reports recommending that shareholders vote for the proposal. We would encourage all shareholders who have not voted or have voted against the proposals to support the company by casting their affirmative vote prior to the September 1 meeting date.

Turning to the financial results, during the first fiscal quarter, we generated pre-tax net investment income of 57 cents per share, supported by strong recurring earnings across the portfolio. Our undistributed taxable income balance remains robust at 87 cents per share, reflecting consistent realization activity. Although our UTI balance declined this quarter as a result of normal annual corporate activity, we remain confident in our ability to continue growing this balance over time. Chris will provide additional detail later in the call.

Our Board of Directors has declared a 58-cent regular dividend for the September quarter payable monthly in each of July, August, and September 2026. And has also declared a quarterly supplemental dividend of 6 cents per share payable in September, bringing total dividends declared for the September quarter to 64 cents per share.

Turning to originations, deal flow in the lower middle market was strong this quarter. We closed $222 million in total new commitments across 11 new portfolio companies and 16 existing portfolio companies. Add-on financings continue to be an important source of originations for us as over the percentage of total new commitments have been 25%. These opportunities allow us to deploy capital into businesses we know well with proven management teams and sponsors.

Our investment pipeline of new opportunities continues to meaningfully expand. Over the last 12 months, we have screened approximately 1,300 deals, of which we've closed 19 new platform companies. That is an increase from the 1,200 deals we screened in fiscal year 2025 and 1,000 deals we screened in fiscal year 2025. We have continued to source more deals with each passing year, while our close rate has decreased from 1.7% in fiscal year 2024 to 1.5% today. This highlights both our disciplined underwriting process and our continued penetration into opportunities in the lower middle market.

Demonstrating our continued investment discipline, for new platform deals closed during the June quarter, weighted average senior leverage was 2.8x debt to EBITDA, and weighted average loan-to-value was 29%, providing a substantial equity cushion beneath our debt. Over the past 12 months, new platform originations have averaged 3.1x senior leverage and 34% loan-to-value, further underscoring our consistent commitment to conservative underwriting. Additionally, our portfolio continues to benefit from the broad industry diversification with an average position size of 0.8% per company, which helps mitigate company-specific risk.

Furthermore, the weighted average yield on our debt portfolio increased to 10.9% during the quarter, up from 10.8% in the previous quarter. The main driver of this increase was an increase in the weighted average spread of our portfolio, which reflects our continued ability to originate high-quality opportunities while maintaining attractive spread economics, even amidst a more competitive and tighter spread credit environment.

On the capitalization front, we raised $64 million in gross equity proceeds through our ATM program this quarter. Our ability to assess the ATM program continues to be a meaningful competitive advantage for Capital Southwest. In a market where fewer publicly traded BDCs are trading above book value, our improved price-to-book valuation gives us a differentiated ability to raise growth capital in a way that is accretive to NAV and supportive of long-term shareholder value.

We believe our relative position has strengthened significantly over the past few years, and it provides us with the flexibility that many of our peers simply do not have today. In fact, only 6 BDCs were trading above book on June 30, 2026, down from 17 BDCs on June 30, 2024. Additionally, while the median BDC price-to-book multiple declined from 0.96x to 0.73x over that same two-year period, SWC has continued to trade well above book value in a range of 1.2x to 1.5x. I'll now hand the call over to Josh to review more specifics of our investment activity.

Thanks, Michael. As previously mentioned, this quarter we deployed a total of $222 million of new committed capital consisting of $167 million in first-lien senior secured debt and $6 million of equity across 11 new portfolio companies. We also completed add-on financing for 16 existing portfolio companies, totaling $49 million in first-lien senior secured debt and $285,000 in equity. Our on-balance sheet credit portfolio ended the quarter at $2 billion, representing 24% year-over-year growth from $1.6 billion as of June 2025.

Importantly, 100% of new portfolio company debt originations were first-lien senior secured. And as of quarter end, 99% of the credit portfolio remained first-lien senior secured with a weighted average exposure per company of only 0.8%. This level of portfolio granularity reflects our disciplined approach to risk management as we continue to scale the balance.

The vast majority of our deal activity continues to be in first-lien senior secured loans to private equity-backed companies. Approximately 92% of our credit portfolio is sponsor-backed, which provides strong governance, operational support, and, when needed, the potential for junior capital. In the lower middle market, we frequently have the opportunity to invest on a minority basis in the equity of our portfolio companies, pari passu with the private equity firm when we believe the equity thesis is compelling.

As of quarter end, our equity co-investment portfolio consisted of 95 investments with a total fair value of $202 million, representing 9% of our total portfolio at fair value. This portfolio was marked at 121% of our cost, representing $34.4 million of embedded, unrealized appreciation, or $0.54 per share. These equity positions continue to give our shareholders meaningful upside participation in growing lower middle market businesses driven by both operational improvements and strategic add-on acquisitions.

The lower middle market remains competitive as this segment of the market continues to attract both bank and non-bank lenders. Although this environment has produced tighter loan pricing for higher-quality opportunities, the depth and durability of the sponsor relationships our team has built, combined with the enhanced deal flow generated by our expanded and more seasoned investment staff continue to position us to source and win transactions with compelling risk-return profiles.

Today, our portfolio includes investments from 95 unique private equity firms, and over the past 12 months, we have closed new platform investments with 20 sponsors with which we had not previously partnered. Since launching our credit strategy, we have completed transactions with over 135 private equity firms nationwide, including more than 20% with whom we have completed multiple deals. Our portfolio now consists of 141 portfolio companies, allocated 89.6% to first-lien senior secured debt, 1.1% to second-lien senior secured debt, and 9.2% to equity co-investments.

The credit portfolio generated a weighted average yield of 10.9% with weighted average leverage through our security of 3.7x EBITDA. We remain pleased with the overall performance of the portfolio. At origination, all loans are initially assigned an investment rating of 2 on our 5-point scale, with 1 being the highest rating and 5 being the lowest rating. As of quarter end, 89% of the portfolio at fair value was rated in the top 2 categories. Cash flow coverage remains strong at 3.6x, reflecting an improvement from the 2.9x low observed during the peak of base rates. I will now hand the call over to Chris to review the specifics of our financial performance for the quarter.

Thanks, Josh. Specific to our performance for the quarter, pre-tax net investment income was $35 million, or 57 cents per share. For the quarter, total investment income increased to $61 million from $57.8 million in the prior quarter. The increase was primarily driven by a $2.6 million increase in cash interest income, coupled with an increase of $1.1 million in PIK interest income. The increase in PIK income was driven by an amendment to one of our portfolio companies, which capitalized two quarters of PIK into the current quarter, half of which will be non-recurring going forward. As of the end of the quarter, our loans on non-accrual represented 1.1% of our investment portfolio at fair value, flat from the end of the prior quarter.

During the quarter, we paid a 58-cent per share regular quarterly dividend, paid monthly, and a 6-cent per share supplemental quarterly dividend. In the September 2026 quarter, our board has again declared 58 cents per share regular quarterly dividends payable monthly in each of July, August, and September 2026 and maintained the 6 cents supplemental quarterly dividend also payable in September, bringing total dividends declared to 64 cents per share. We continue to demonstrate strong dividend coverage with 109% cumulative coverage since launching our credit strategy.

Our UTI balance declined to 87 cents per share this quarter, primarily due to book-to-tax differences related to annual cash bonus payments and equity award vesting. However, we have visibility on an equity realization expected to close in the near term, which should generate a realized gain and increase our UTI balance as of September 30. In addition, we continue to hold significant unrealized appreciation across our equity portfolio. As a result, we remain confident in our ability to grow our UTI balance and continue paying quarterly supplemental dividends over time.

LTM operating leverage ended the quarter at 1.4%, a meaningful improvement from the 1.7% observed a year ago in June 2025. Notably, this reduction occurred despite the addition of 12 new employees. Going forward, we expect to continue to add resources to our team while maintaining operating leverage in the 1.4% to 1.5% range. Operating leverage remains significantly better than the BDC industry median of approximately 2.6%, underscoring the inherent deficiency of the internally managed BDC model. This structure has consistently delivered meaningful fixed-cost leverage to shareholders, while still enabling us to invest in talent and infrastructure as we continue to scale a best-in-class BDC platform.

NAV per share decreased to $16.61 per share, down from $16.69 per share in the prior quarter. The primary drivers of the NAV per share decline for the quarter were net realized and unrealized depreciation on our investment portfolio and our annual equity grant to employees, offset by accruing from our equity ATM program. We raised approximately $64 million in gross equity proceeds during the quarter through our equity ATM program at a weighted average share price of $23.47 per share, or 141% of the prevailing NAV per share, reinforcing our ability to raise capital efficiently and accretively.

Our liquidity position remains robust with approximately $375 million in cash and undrawn leverage commitments across our two credit facilities. In total, this represents more than 1.2x coverage of the $312 million in unfunded commitments across the portfolio. Currently, we are working on an amendment and maturity extension of our corporate credit facility, which should provide beneficial economic changes to our cost of capital. We'll share further details regarding the outcome of this process over the next few weeks. Regulatory leverage ends the quarter at 0.91 to 1 debt to equity. We will continue to raise secured and unsecured debt capital as well as equity through our ATM program in a methodical and opportunistic manner to ensure we maintain significant liquidity and a conservatively constructed balance sheet with adequate covenant cushions.

We've made meaningful progress with [ capturing partners ], our joint venture with Trinity Capital. During the quarter, we closed a $150 million revolving credit facility, which will provide the liquidity to meaningfully increase the scale of our joint venture over time with advance rates that should produce a 13% to 15% return once fully ramped. The JV currently holds approximately $98 million in first-lien securities in 14 portfolio companies with a weighted average leverage of 1.2x debt to EBITDA. We expect to continue originating low leverage, high-quality investments within this structure. I will now hand the call back to Michael for some final comments.

Thank you, Chris, Josh, and Amy, and all the employees who help us tell this story on a quarterly basis. And thank you, everyone, for joining us today. This concludes our prepared remarks. Operator, we are ready to open the lines up for Q&A.

Thank you. [Operator Instructions] Our first question comes from Erik Zwick from Lucid Capital Markets. Please go ahead.

First question may be for either Josh or Michael. Just curious for the 11 new portfolio companies that you added during the quarter, if you could provide any detail into the average or the range of spreads on those new companies as well as maybe a sampling of the industries that they operate in. I'm curious if you're seeing some common themes there, some industries that you're finding more attractive today or it's pretty, you know, a little bit more diverse and widespread at this point.

[ David Chambers ] - yes, I mean, I saw the coupons. I think they ranged between 5.75% and I'd say as high as 7%. And some of the uplift in our spreads this quarter were due to [ capturing ] starting to take shape. But we've had additional first-out, last-out positions. So the yield on our last position is a little bit higher. I'm going to ask Josh. Do you have any thoughts on the industry?

I mean, generally speaking, I think it's pretty consistent with our portfolio broadly. I mean, we've not seen any specific industries that we've focused on the last couple quarters or seen more volume. It's really across the board from an industry perspective and continues to really remain diversified. And I think the other thing to add as well, so again we've noted this in the opening comments, is that the add-on investments that we've seen, some of those are for deals that are older deals that maybe started with $5 million EBITDA and they've grown through add-on originations that we funded. And so some of those have been on the higher end of the yield as well.

It's always nice when you continue to maintain those relationships as they grow. A good testament to the service that you're providing. So, I'm just curious, given the strong origination activity you had in the past quarter, how does the pipeline look today in terms of maybe dollars compared to 3 months ago? And then it's the mix of, between new and add-ons still kind of, you know, I guess in terms of dollar size, you did more. It's easier to do bigger, chunkier ones on the new ones, but you had a nice, you know, a number of new add-ons as well. So just curious what that mix looks like today.

Yes, so I think when we're looking ahead, we're just into August. We've already closed about $125 million in originations this quarter, and in a continued granular sense, we still are originating somewhere between $15 million and $20 million on each origination. We would tell you based on the pipeline of deals that we've actually signed up that we expect to close over the next 60 days, I mean, we could be in the $250 million to $300 million range. And that's going to include probably about 75% of that are new platform companies and the other 25% are add-ons to existing companies.

We continue to ramp our origination staff that's helped drive continued pipeline strength. That coupled with [ cap trend ] again where we'll be able to originate deals with slightly lower yields on the phase. I think those two things together, yes, really, I think we noted also just the amount of deals that we look at on an annual basis is just, it's growing and we fully expect that to continue to grow because it feels like momentum is real and sustainable.

That's good to hear. It's certainly a little bit of a difference from some of the other of your competitors that are having a little bit more challenge growing the portfolio today. So last question for me and then I'll step aside. Just I think you mentioned 14 companies in that [ cap trend ] fund today. Are any of those just solely in that fund or is it they all have shared overlap with your legacy portfolio?

Erik, they're all, it's a mix of, so we did a secondary transaction to sort of seed the portfolio and we originated some new first-out into that fund as Michael mentioned. So there's overlap. There's nothing that's solely in [ capturing ]. There's overlap on every asset between Capital Southwest and [ capturing ] in some form or fashion, whether it's...

...a pari passu debt piece for a first-out, last-out. And you expect that, will that be consistent over the life of the fund?

Yes, that will be. I will also say that we have looked at opportunities that are first-out only loans that would go only into the JV. I think we're looking at 1 today, but I don't think today we haven't closed any, but we are open to deals that are 1, 1.5 turns of leverage just to support a deal.

Thank you for taking my questions today.

You're welcome. Thank you. Our next question comes from Robert Dodd from Raymond James. Please go ahead.

Just sticking with [ cap-trint ], if I can for a moment. Obviously, you seeded it a little bit this quarter, so this is not necessarily the normal growth rate. But in the last quarter, I think you said 18 to 24 months to ramp that up. Looking at the amount of deals you're seeing, both this quarter, screening, what sounds like the pipeline for next quarter, I mean, do you think that that JV vehicle could reach its 13% to 15% kind of target return faster than 18 to 24 months, or you'd still stick with that as kind of a base case?

You know, the answer to your question is, it's certainly possible, and if I'm being optimistic, I would probably say yes. But I think we'd probably stick to that timeline because we're not trying to reach. I think this quarter we'll probably see, and maybe typically we're going to see like 2 to 4 deals a quarter that fit into the pipeline. But if we are originating in excess of the $250 million to $300 million I noted earlier, certainly this could be 12 to 15 months.

Got it, thank you. I mean, on the lower leverage type deals, it's something you said, you'd be willing to consider a first-out with 1.5 turns. I mean, would you be willing to consider kind of non-sponsor-backed deals to go into [ Capturin ] that might be not M&A related, you know, growth capital, working capital, receivables backed or other things that could go into that vehicle, have lower leverage, lower spread, lower risk, but might not have a sponsor behind them? Would you consider something like that?

I think the answer is possibly, but I actually think this fund is set up to have 1 to 1.25 turns of leverage and have lower risk because we're planning to lever the entity 3 turns, which is significantly higher than we would lever our balance sheet. From that perspective, I think having a non-sponsored deal, which on the margin is higher risk than a sponsored deal, so I probably would shy away from that.

But there are instances where we see a deal that we like a lot and perhaps it's levered lowly enough and there's some comfort there. But I wouldn't think that's going to be the bread and butter. Most of our non-sponsored deals are, we consider them to be usually higher risk and have higher spreads versus lower spreads.

Agreed. I didn't mean it in the sense of a normal non-sponsored deal. I just meant in the sense that you might find a, there might be somebody with a funding opportunity that isn't a buyout at all and might be just, you know, growth capital or something like that rather than a more traditional non-sponsored deal where the leverage is higher than something like that. But I take your point.

Then just on the expansion in the deal screenings, I mean, obviously pretty sizable increases. You've added headcount. You're seeing a lot more deals. What proportion of those increases are kind of deals that are relevant to you? Obviously, you could say, hey, we'll look at, you know, billion-dollar deals, right? It's going to get a death kill immediately, right? I mean, so what percentage of kind of the increase is relevant to you? Obviously closing rate's down, so some of them you're not actually interested in closing. But are those all kind of relevant deals to the type of markets you want to operate in in terms of lower middle market with maybe an equity co-invest opportunity?

Yes, I think that what we call sort of dead on arrival, the DOA deals, like I think that they're the same percentage we've had over the years. I don't think that we're increasing our DOA type of deals that we're getting in over the last 6 or 12 months. In fact, as a percentage of total deals, I would say there's a chance it's even lower.

I mean, the other thing to add is keep going back to [ cap trend ], but you know, the reason we set up that fund, it was so we could originate deals that were below 5.75% because that's sort of the bogey that we'd like to stay above in terms of minimum yield. And so I think Josh and his team is working with sponsors and where deals were priced in the 5s, we probably weren't relevant or weren't being shown as many of those deals. And today that's sort of, you know, that's opened up.

And so, well, I think we're just negotiating on, I mean, if you think about it, I've said this a few times on other calls, these deals are higher quality deals. Tend to be $8 million to $10 million EBITDA companies that are low levered, but lower spread, but kind of more sleep-at-night credits if that is actually a thing. And so we're just seeing more of those.

Got it. Thank you.

Thank you. I am showing no further questions at this time. I would like to turn it back over to Michael Sarner for closing remarks.

Thank you, Operator. And thank you again to everyone for joining us today. Before we end the call, I want to reiterate the importance of shareholder approval of the proposal to increase Capital Southwest's authorized shares. We encourage all shareholders who have not yet voted or who have voted against the proposal to support the company by casting an affirmative vote prior to the September 1 meeting. Everyone at Capital Southwest works each day to serve our shareholders in a transparent, disciplined, and shareholder-friendly manner. We are now asking for your support so we can continue building on the success we have achieved for our shareholders, employees, Board of Directors, and all stakeholders. Thank you in advance.

your support and we look forward to speaking with you again next quarter. Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.

Thank you for joining today's Capital Southwest Fourth Quarter Fiscal Year 2026 Earnings Call. Participating on today's call are Michael Sarner, Chief Executive Officer; Chris Rehberger, Chief Financial Officer; Josh Weinstein, Chief Investment Officer; and Amy Baker, Executive Vice President, Accounting.

I will now turn the call over to Amy Baker.

Thank you. I would like to remind everyone that in the course of this call, we will be making certain forward-looking statements. These statements are based on current conditions, currently available information and management's expectations, assumptions and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties and assumptions that could cause actual results to differ materially from such statements.

For information concerning these risks and uncertainties, see Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events, changing circumstances or any other reason after the date of this press release, except as required by law.

I will now hand the call over to our President and Chief Executive Officer, Michael Sarner.

Thanks, Amy, and thank you, everyone, for joining us for our fourth quarter fiscal year 2026 earnings call. We're pleased to be with you today to discuss our fourth fiscal quarter and the 2026 fiscal year.

Overall, 2026 was an outstanding year for Capital Southwest by any measure. During the year, we grew our investment portfolio by approximately $300 million or 17% from $1.8 billion to $2.1 billion. Deal activity was robust with $762 million in new committed investment originations. Additionally, we grew investment income by $28 million or 14% from $204 million to $232 million. And despite a backdrop of pronounced volatility, we preserved the value of our portfolio.

NAV per share closed the year at $16.69, essentially unchanged from $16.70 in the prior year, underscoring the resilience of our platform and the durability of our underwriting. As a result of our consistent investment strategy and strong operating performance, we've delivered an industry-leading 40% return on equity for our shareholders during fiscal year 2026. Despite relentless market disruptions this year from Liberation Day to the private credit contagion to the conflicts in Iran, we continued to execute with consistency. The market has recognized that stability and our stock performance reflects the value of our approach.

The quality of our debt portfolio remains strong, reflected in a weighted average leverage of 3.6x, weighted average interest coverage of 3.5x and nonaccruals of 1.1% at fair value, down from 1.7% in the prior year. During the quarter, we saw improved performance across our watch list with seven companies demonstrating meaningful progress and two removed from the watch list following a return to plan. We attribute much of this improvement to our portfolio operations group, which works closely with our deal teams on credits that require additional support. This team is driving tangible value at the portfolio level, which in turn contributes to stronger overall performance and enhanced long-term shareholder value.

Additionally, our equity portfolio continues to perform well with net unrealized appreciation of $37.8 million or $0.62 per share as of the end of fiscal year 2026. We anticipate that a portion of this appreciation will be harvested as realized gains in fiscal year 2027 and thus will be available in our UTI bucket to support future dividend distributions. With $1.07 per share of undistributed taxable income, we are entering the year from a position of strength.

Over the last 12 months, we have harvested $36.9 million in realized gains from equity exits, driving UTI growth from $0.79 per share in March 2025 to today's level. Our UTI balance highlights both the reliability of our realization engine and our conservative approach to dividend distributions when base rates were elevated, resulting in a meaningful balance of taxable income, which we intend to distribute to our shareholders over time.

Looking ahead, we are confident in our ability to continue generating realized gains that will support and expand our UTI balance. That confidence is grounded in the strength of our investment strategy in the lower middle market. At origination, we typically see three distinct avenues for equity value creation. First, new investments often present low-hanging fruit opportunities, operational or strategic adjustments, the sponsor can implement immediately to drive meaningful EBITDA uplift.

Second, following the change of control, the sponsor and management team activate a set of targeted growth initiatives designed to accelerate both revenue expansion and margin improvement. Third, in many cases, the team has already identified actionable M&A opportunities that can further scale the platform, broaden the capabilities and diversify the business. As EBITDA grows and the business becomes more resilient and diversified, we expect these initiatives to enhance enterprise value and ultimately result in realized gains on our equity investments.

We were also extremely active during the year in diversifying our sources of capital. We raised over $465 million in new debt capital commitments in the form of a $350 million, 5.9% bond issuance, $90 million in approved leverage commitments for our second SBIC fund and an additional $25 million in new secured debt commitments on our corporate credit facility. Additionally, we raised over $160 million in gross equity proceeds on our ATM program during the year at a weighted average price of 1.3x the prevailing NAV per share. Having continual access to the public equity market through the ATM program is a tremendous tool, which we can use in all market environments.

We have also made meaningful progress on CapTrin Partners, our joint venture with Trinity Capital. The JV now holds approximately $85 million in assets, and we expect to continue originating low leverage, high-quality investments within this structure. Subsequent to quarter end, we closed a $150 million revolving credit facility, further expanding the JV's capacity and competitiveness. This facility provides the liquidity to meaningfully increase the scale of our joint venture over time and advance rates that should produce a 13% to 14% return once fully ramped. From a relationship standpoint, we could not be more impressed with Kyle and the entire Trinity team, and we look forward to exploring additional avenues where we can create value for both organizations.

Finally, this year, we continued our long track record of producing steady dividend distributions, consistent dividend coverage and solid value creation. Despite a year in which SOFR shrunk by approximately 60 basis points, we increased our total dividends paid from $2.54 per share in fiscal year 2025 to $2.56 per share in fiscal year 2026. Dividend sustainability, strong credit performance and continued access to capital from multiple capital sources are all core to our overall business strategy. Our track record in all these areas demonstrates consistent performance as well as the absolute alignment of all our decisions with the interest of our fellow shareholders.

Although broader middle market M&A headlines have highlighted a slowdown tied to technology uncertainty, AI-related risks and inflation concerns stemming from the conflict in Iran, our vantage point in the lower middle market tells a very different story. Activity in this segment has historically been and continues to be remarkably steady. Founder-driven catalysts such as retirement, succession planning, estate considerations and the desire to derisk after years of value creation do not fluctuate with macro sentiment or quarterly volatility. As a result, the lower middle market consistently offers a more resilient and predictable transaction environment, a characteristic that remains significantly underappreciated.

From a Capital Southwest perspective, we have seen a meaningful increase in new deals reviewed, advanced and ultimately closed. However, our close rate, which has historically averaged roughly 2%, has moderated to 1.5%. This decline reflects our continued discipline in pricing and structuring transactions based on the risk we underwrite, not simply the terms required to win a deal. We attribute the increase in deal flow to the continued development of our deal leads, the addition of two managing directors and the joint venture, which has enhanced our competitiveness on higher-quality opportunities. Despite this increase in deal flow, we have also seen tightening in leverage levels and loan-to-value ratios, underscoring the importance of maintaining our disciplined approach as the market continues to reprice risk.

In summary, we are extremely proud of our performance throughout fiscal year 2026, and we remain confident in the long-term prospects for our company and the opportunities ahead.

I'll now hand the call over to Josh to review some more specifics of our investment activity.

Thanks, Michael. This quarter, we deployed a total of $158 million of new committed capital, consisting of $112 million in first lien senior secured debt and $2 million of equity across five new portfolio companies. We also completed add-on financings for 12 existing portfolio companies, totaling $43 million in first lien senior secured debt and $650,000 in equity. Add-on financings continue to be an important source of originations for us. As over the last 12 months, add-ons as a percent of total new commitments have been 31%. These opportunities allow us to deploy capital into businesses we know well with proven management teams and sponsors. The weighted average spread on our new commitments this quarter was approximately 6.6%, which we view as extremely attractive given today's competitive spread environment.

Our on-balance sheet credit portfolio ended the quarter at $1.9 billion, representing 19% year-over-year growth from $1.6 billion as of March 2025. Importantly, 100% of our new portfolio company debt originations were first lien senior secured. And as of quarter end, 99% of the credit portfolio remained first lien senior secured with a weighted average exposure per company of only 0.9%. This level of portfolio granularity reflects our disciplined approach to risk management as we continue to scale the balance sheet.

The vast majority of our deal activity continues to be in first lien senior secured loans to private equity-backed companies. Approximately 93% of our credit portfolio is sponsor-backed, which provides strong governance, operational support and when needed, the potential for junior capital. In the lower middle market, we frequently have the opportunity to invest on a minority basis in the equity of our portfolio companies, pari passu with the private equity firm when we believe the equity thesis is compelling.

As of quarter end, our equity co-investment portfolio consisted of 87 investments with a total fair value of $181 million, representing 9% of our total portfolio at fair value. This portfolio was marked at 126% of our cost, representing $37.8 million of embedded unrealized appreciation or $0.62 per share. These equity positions continue to give our shareholders meaningful upside participation in growing lower middle market businesses, driven by both operational improvements and strategic add-on acquisitions.

The lower middle market remains competitive as this segment of the market continues to attract both bank and nonbank lenders. Although this environment has produced tighter loan pricing for higher-quality opportunities, the depth and durability of our sponsor relationships our team has built, combined with the enhanced deal flow generated by our expanded and more seasoned investment staff continue to position us to source and win transactions with compelling risk return profiles. Today, our portfolio includes investments from 88 unique private equity firms. And over the past 12 months, we closed 13 new platform investments with sponsors with which we had not previously partnered. Since launching our credit strategy, we have completed transactions with over 130 private equity firms nationwide, including more than 20% with whom we have completed multiple deals.

Our portfolio now consists of 131 portfolio companies, allocated 90.1% to first lien senior secured debt, 1.2% to second lien senior secured debt and 8.6% to equity co-investments. The credit portfolio generated a weighted average yield of 10.8% with weighted average leverage through our security of 3.6x EBITDA. We remain pleased with the overall performance of the portfolio. At origination, all loans are initially assigned an investment rating of 2 on a 5-point scale, with 1 being the highest rating and 5 being the lowest rating. As of quarter end, 88% of the portfolio at fair value was rated in the top 2 categories.

Cash flow coverage remains strong at 3.5x, reflecting an improvement from the 2.9x low observed during the peak of base rates. This strength is further supported by the fact that our loans represent, on average, only 43% of portfolio company enterprise value. Our portfolio remains broadly diversified across industries and our average exposure per company of less than 1% continues to provide meaningful protection against idiosyncratic risk.

For new platform deals closed during the March quarter, weighted average senior leverage was 2.7x debt-to-EBITDA and weighted average loan-to-value was 33%, providing a substantial equity cushion beneath our debt. Over the past 12 months, new platform originations have averaged 3.1x senior leverage and 35% loan-to-value, underscoring our consistent commitment to conservative underwriting.

I will now hand the call over to Chris to review the specifics of our financial performance for the quarter.

Thanks, Josh. Specific to our performance for the quarter, pretax net investment income was $35.2 million or $0.59 per share. For the quarter, total investment income decreased to $57.8 million from $61.4 million in the prior quarter. The decrease was primarily driven by a $2.2 million decrease in interest and dividend income and a decrease of $0.8 million in PIK income. The decrease in interest income was predominantly driven by a 35 basis point decrease in SOFR compared to the prior quarter. As of the end of the quarter, our loans on nonaccrual represented 1.1% of our investment portfolio at fair value, a decrease from 1.5% as of the end of the prior quarter.

During the quarter, we paid a $0.58 per share regular dividend paid monthly and a $0.06 per share supplemental quarterly dividend. For the June 2026 quarter, our Board has again declared a total of $0.58 per share in regular quarterly dividends payable monthly in each of April, May and June 2026 and maintains the $0.06 supplemental quarterly dividend also payable in June, bringing total dividends declared to $0.64 per share. We continue to demonstrate strong dividend coverage with 109% cumulative coverage since launching our credit strategy. With a UTI balance of $1.07 per share and a sizable unrealized appreciation balance in our equity portfolio, we remain confident in our ability to continue distributing quarterly supplemental dividends over time.

LTM operating leverage ended the quarter at 1.4%, a meaningful improvement from 1.7% in the prior quarter. Notably, this reduction occurred despite the addition of six new employees. Going forward, we expect to continue to add resources to our team while maintaining operating leverage in the 1.4% to 1.5% range. Our operating leverage remains significantly better than the BDC industry median of approximately 2.7%, underscoring the inherent efficiency of the internally managed BDC model. This structure has consistently delivered meaningful fixed cost leverage to shareholders while still enabling us to invest in talent and infrastructure as we continue to scale a best-in-class BDC platform.

NAV per share decreased to $16.69 per share, down from $16.75 per share in the prior quarter. The primary drivers of the NAV per share decline for the quarter were net realized and unrealized depreciation on our investment portfolio, offset by accretion from our equity ATM program. We raised approximately $25 million in gross equity proceeds during the quarter through our equity ATM program at a weighted average share price of $23.13 per share or 138% of the prevailing NAV per share, reinforcing our ability to raise capital efficiently and accretively.

Our liquidity position remains robust with approximately $394 million in cash and undrawn leverage commitments across our two credit facilities, plus $42 million available on SBA debentures. In total, this represents more than 1.3x coverage of the $329 million in unfunded commitments across the portfolio. Regulatory leverage ended the quarter at 0.9:1 debt to equity. While our target leverage remains in the 0.85 to 0.95x range, we continue to factor in the current macroeconomic backdrop and intend to maintain a prudent leverage cushion to help mitigate capital markets volatility.

We will continue to raise secured and unsecured debt capital as well as equity through our ATM program in a methodical and opportunistic manner to ensure we maintain significant liquidity and a conservatively constructed balance sheet with adequate covenant cushions.

I will now hand the call back to Michael for some final comments.

Thank you, Chris, Josh and Amy and all the employees who help us tell the story on a quarterly basis. And thank you, everyone, for joining us today. This concludes our prepared remarks. Operator, we are ready to open the lines up for Q&A.

[Operator Instructions] Our first question comes from the line of Erik Zwick from Lucid Capital Markets.

If I could start, I'm just curious with regard to the unrealized depreciation in the credit portfolio in the quarter. Was that primarily related to changes in kind of market multiples or anything kind of more credit specific. Wondering if you could just expand on that a little bit.

Yes. I think we had one portfolio company that was added to our watch list that had a write-down, which we have confidence in the company, but it had a fairly large write-down. And then the rest, I do think multiples were down quite a bit this quarter, which is sort of an overhang. When we went through our portfolio review, we pretty much identified about 95% of the portfolio was doing exceptionally well, and yet some of those didn't have write-ups because of those multiples. But by and large, it was just one company and then the overall market multiple.

I appreciate that. And just looking at the trajectory of the dividend income that you received in the most recent year, it was up markedly from the prior year from $4.5 million to $12.7 million. So curious how much of that increase is sustainable or how much of that might have been kind of onetime dividends? Just any outlook -- any thoughts on outlook you might have there would be helpful.

Sure. We've had a few companies that have done exceptionally well and have been making large distributions. I think that in the first half of this -- our fiscal year, we'll continue to see strong distributions from these companies. One or both could be in the market for sale at some point. And so maybe that doesn't bleed into fiscal year '28. But for the next few quarters, we should expect to continue to see those dividends.

And last one for me. As I look at the space of publicly traded BDCs, Capital Southwest has one of the lowest concentrations of software in the portfolio, which I guess puts you in a more favorable eye relative to many peers given the current market sentiment. Just curious why over time, have you decided not to have that much exposure to software. And in the instances where you have made some investments, what attracted you to those particular companies?

I think a lot of the software companies, honestly, are generally larger and more venture. So those two together generally wouldn't fit our lens. Same could be said, a lot of these companies also have ARR, which are -- we generally are lending cash flow lenders, and we believe that lending off a multiple of EBITDA is a more conservative and prudent way to underwrite. So I think that's generally been the reason why it's not that we haven't seen the opportunities, we've just never gotten truly comfortable with them. I don't know, Josh, you have?

Yes. To Michael's point, we've seen them over the years, we reviewed them. It's just not something any of us previously had a lot of experience with. And so we just couldn't really get comfortable or as comfortable with doing a lot of ARR deals and stuck to our knitting of cash flow lending for the most part.

I appreciate that. And just looking back across your historical results, you've certainly done very well with that. So it's not like you've needed it. Thanks. I appreciate the insight there.

[Operator Instructions] Our next question comes from the line of Robert Dodd from Raymond James.

On the operating efficiency, to your point, the 1.4 to 1.5 and the advantage of being internally managed. In this quarter, obviously, some expenses seemed pretty low, another advantage, right? That gets adjusted by the Board as you go. But can you give us any color about what was the driver there? Was it not hitting targets on deployment? Was it the fact that NAV was down, which may be temporary? But can you give us any idea like what got factored into why that was low in the fourth quarter? Just trying to get a feel for what didn't meet your expectations exactly.

Sure. And you know what, I wouldn't frame it that way at all. I think the Board and management felt that this was one of our strongest years for a variety of reasons. But we had accrued -- essentially, we had some large fees that came in over the year. We had some over accruals into the bonus pool. And then at the end of the year, the Board gets together to basically determine what they think that the final number would look like. And so we -- from where we had accrued for 3 quarters to where the payout was in the fourth quarter, we had some that was backed out. But we paid over 100% in all cases for our employees. And again, would frame this year as a very successful one.

Yes. Robert, I'll just jump in sort of going forward because it was kind of low in the last quarter, total compensation expense is sort of in the $5.5 million per quarter range. That will vacillate a little bit based on the discussion we just had, but that's sort of what you can expect going forward.

Got it. Then on the other one, I mean, to your point, I mean, you've got a lot of unrealized appreciation in the equity portfolio. Obviously, I don't have the March portfolio, the K is not out yet. But if I look at the fourth quarter, I mean, the net number is -- there's a lot of net unrealized appreciation, but as well. I mean, if you look just at the successes, you've got $100 million in appreciation on assets and then that's offset by some that are down.

Just listening to your comment, it sounds like you're very confident some of that is going to monetize this year. Now it might result in lower dividend income. But what -- are those processes -- are there significant processes already underway to sell assets not by the sponsor, obviously, to sell assets this year that gives you that level of confidence? I mean there's some like ITA Group. I mean that's -- there's a lot of appreciation in that asset, for example, right? So could you give us any incremental -- and I know it's a touchy kind of topic, but any incremental info on where the level of confidence comes from? And is it going to be some of your biggest appreciated assets that are likely to crystallize this year?

Yes. I think that there's two primary sales. I won't get into the details, but I mean one has actually been announced publicly that there's an IPO process, which would result in us -- we have shares in a company, we sold into a company that went public. We have the ability to sell those shares, and we have actually floors on what the equity value would look like. So that is something that we'd expect to see happen in the next 3 months, 4 months. And then we have another company that's in the market. Now it's still in the nascent stages. It is a fairly large position, but we feel pretty confident based on where we are that there should be a sale there.

If you look at the cost basis relative to the fair value, obviously, there's going to be large gains associated that will go into our UTI bucket. It will also allow us to reduce our cost of capital because obviously, this is appreciation that's realized, now becomes the ability to pay down our credit facility and/or raise less shares. So all of that gives us confidence both in these exits and the ability to grow UTI and the ability to continue to support our dividend going forward.

Understood. If I got one more quick one. On the JV, I think you said expected or the target kind of return on capital to you from that vehicle is 13% to 14% when fully ramped, obviously. I mean, is that like -- is the full ramp 18 months? Or yes, I mean, I'm just -- kind of what's the kind of time frame to get to that kind of -- in that vehicle with the partner you have?

Sure. So I think the notion would be it's going to take at least -- I'm looking at Chris, 18 to 24 months before we see the full ramp. I think we're targeting 2x leverage plus. And so I think it's going to take a little bit of time. I would say that we have the capital in-house, the $150 million credit facility in order to achieve that leverage and achieve that returns. But I do think we're looking at originating $30 million to $40 million a quarter in the fund. And so I think it's going to take at least 1.5 years to 2.

Yes. So Robert, we're going to be sort of efficient with the leverage there and try to be mindful of asset diversity and borrowing base. We'll probably try to ramp the leverage fairly -- in the fairly short term here. So as we look ahead, I agree with Michael's comments, it's going to take kind of 18 months to full ramp. But in the next 6 months, this should start producing double-digit returns for Capital Southwest. So call it, 6 months, we're kind of in the 11% range and then we go from there.

And Robert, I'd also like to add that the JV in itself -- so certainly, there's going to be an uplift of $0.01 or $0.02 from this fund by itself. But having this joint venture has been really important to the business in the way of us being able to be more competitive on deals that are priced somewhere in the SOFR plus 5% to 5.75%, which historically we weren't bidding or winning on. And so today, we are -- we have the ability to both bid and win on these deals, maintain tight structures and as well as earning the same type of spreads, the 6% to 7% spread that we're used to through the last-out positions on these credits.

[Operator Instructions] Our next question comes from the line of Sean-Paul Adams from B. Riley Securities.

It looks like you guys have kind of ramped up in terms of the employee count and perhaps the deal team. Any color on how just these changes in the amount of employees and perhaps the amount of deals passing your desk are going to look forward for next fiscal year's origination activity?

Sure. Sure. Look, when we look back around, what, 15, 18 months ago, we had 27 employees. Today, we have -- as of the quarter end, we had 36, and we actually have another 7 coming on. So we're going to actually be up to 43 employees. We built out our operations team over the last 18 months. We've added a new MD, a new Vice President, a new principal, certainly added more support staff on the back office. And the notion here is that with the new MD we have, with the sort of maturation of the deal leads in place and the ability to continue to win new share and new sponsor relationships, we're just seeing enhanced deal flow.

Two years ago, I think we saw 800 deals that we looked at. In 1 year, the run rate now is around 1,400 deals a year. So we are adding staff to support the growth that we're seeing and to strengthen the organization to continue to make great decisions based on having the right people in the right place, having time and experience to review these opportunities.

This does conclude the question-and-answer session of today's program. I'd like to hand the program back to Michael Sarner for any further remarks.

Thank you, operator, and thank you, everyone, for joining us today. Please feel free to call us anytime with questions or get an update on the business. We look forward to catching up with you next quarter. Goodbye.

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.

Thank you for joining today's Capital Southwest Third Quarter Fiscal Year 2026 Earnings Call. Participating on the call today are Michael Sarner, Chief Executive Officer; Chris Rehberger, Chief Financial Officer; Josh Weinstein, Chief Investment Officer; and Amy Baker, Executive Vice President, Accounting.

I will now turn the call over to Amy Baker.

Thank you. I would like to remind everyone that in the course of this call, we will be making certain forward-looking statements. These statements are based on current conditions, currently available information and management's expectations, assumptions and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties and assumptions that could cause actual results to differ materially from such statements. For information concerning these risks and uncertainties [ these ] Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events changing circumstances or any other reason after the date of this press release, except as required by law.

I will now hand the call over to our President and Chief Executive Officer, Michael Sarner.

Thanks, Amy, and thank you all for joining us for our Third Quarter Fiscal Year 2026 Earnings Call. We are pleased to be with you today and look forward to walking you through our results for the quarter.

During the third fiscal quarter, we generated pretax net investment income of $0.60 per share, supported by strong recurring earnings across the portfolio. Our undistributed taxable income balance remained robust at $1.02 per share, reflecting consistent realization activity. In fact, over the last 12 months, we have harvested $44.5 million in realized gains from equity exits driving UTI growth from $0.68 per share in December of 2024 to today's level.

Subsequent to quarter end, we realized an additional realized gain of $6.8 million from another equity exit which should further support our UTI balance going forward. Our Board of Directors has declared a total of $0.58 in regular dividends for the March quarter, payable monthly in each of January, February and March 2026, and is also declared a quarterly dividend, supplemental dividend of $0.06 per share payable in March, bringing total dividends to clear for the March quarter to $0.64 per share.

Turning to originations. Deal flow in the lower middle market remained healthy this quarter. We closed $244 million in total new commitments across 8 new portfolio companies and 16 existing portfolio companies. Add-on financings continue to be an important source of origination for us as over the last 12 months, add-ons as a percentage of total new commitments have been 29%. These opportunities allow us to deploy capital into businesses we know well with proven management teams and sponsors. The weighted average spread on our new commitments this quarter was approximately 6.4%, which we view as very attractive given today's competitive spread environment.

On the capitalization front, last quarter, we strengthened our balance sheet by issuing $350 million in aggregate principal of 5.95% notes due 2030. This quarter, we used a portion of the proceeds to fully redeem our $105 million notes due 2026 and $71.9 million notes due 2028, extending our maturity profile at an attractive cost of capital. We also raised approximately $53 million in gross equity proceeds through our equity ATM program at a weighted average share price of $21.11 per share or 127% of the prevailing NAV per share, reinforcing our ability to raise capital efficiently and accretively.

Subsequent to quarter end, we announced a first-out senior loan joint venture with a private credit asset manager, which I would like to spend some time discussing. We believe this new JV will enhance our competitiveness in our core lower middle market by enabling us to participate in larger, higher quality deals with tighter spreads while maintaining disciplined hole sizes. The structure also allows us to earn outsized economics due to our role as originator and administrator of the JV and higher relative yields on last out loans, which is extremely important in an environment where [ Sopris ] declining and loan spreads on new deals remain very tight.

The first out loans within the JV are expected to be conservatively levered at approximately 1.5x debt to EBITDA or less. And once fully ramped, we expect the JV to generate a low to mid-teens equity return for Capital Southwest. Finally, our partners in the JV is a highly regarded, well-capitalized asset manager with whom we are extremely excited to build a long-term relationship. We believe this relationship may open up other unique opportunities for co-investment in the future as we continue to expand our platform. Overall, we are pleased with our performance this quarter and enthusiastic about the prospects for this new venture. We look forward to giving further updates on the funds in the coming quarters.

I will now hand the call over to Josh to review more specifics on our investment activity and the market environment.

Thanks, Michael. This quarter, we deployed a total of $199 million of new committed capital consisting of $197 million in first lien senior secured debt in $2 million of equity across 8 new portfolio companies. We also completed add-on financings for 16 existing portfolio companies totaling $44 million in first lien senior secured debt and $405,000 in equity.

Our on-balance sheet credit portfolio ended the quarter at $1.8 billion, representing 19% year-over-year growth from $1.5 billion as of December 2024. Importantly, 100% of new portfolio company debt originations were first-lien senior secured and as of quarter end, 99% of the credit portfolio remained first lien senior secured with a weighted average exposure per company of only 0.9%. This level of portfolio granularity reflects our disciplined approach to risk management as we continue to scale the balance sheet. The vast majority of our deal activity continues to be in first lien senior secured loans to private equity-backed companies.

Approximately 93% of our credit portfolio is sponsor backed, which provides strong governance, operational support and when needed, the potential for junior capital. In the lower middle market, we frequently have the opportunity to invest on a monthly -- on a minority basis in the equity of our portfolio companies [ Paris ] with the private equity firm, where we believe the equity pieces [indiscernible]. As of quarter end, our equity co-investment portfolio consisted of 86 investments with a total fair value of $183 million, representing 9% of our total portfolio at fair value. This portfolio was marked at 133% of our costs, representing $45.2 million of embedded unrealized appreciation or $0.76 per share. These equity positions continue to give our shareholders a meaningful upside participation in growing lower middle market businesses driven by both operational improvements and strategic add-on acquisitions. This is evident from the recent realized gains, which Michael mentioned earlier.

The lower middle market remains highly competitive as this segment of the market continues to attract both bank and nonbank lenders. While this has resulted in tight loan pricing for high-quality opportunities, the depth and strength of our sponsor relationships, the team has cultivated over the years has continued to result in our sourcing and winning opportunities with attractive risk return profiles.

Today, our portfolio includes investments from 90 unique private equity firms. And over the past 12 months, we closed 14 new platform investments with sponsors we had not previously partnered with. Since launching our credit strategy, we have completed transactions with over 129 private equity firms nationwide, including more than 20% with whom we have completed in multiple deals. Our portfolio now consists of 132 portfolio companies, allocated 90% to first lien senior secured debt, 0.8% to second lien senior secured debt and 9.1% to equity co-investment. The credit portfolio generated a weighted average yield of 11.3% with weighted average leverage through our security of 3.6x EBITDA.

We remain pleased with the overall performance of the portfolio. At originations, all loan are initially assigned an investment rating of 2 on a 5-point scale, with one being the highest rating and 5 being the lowest rating. As of quarter end, 90% of the portfolio at fair value was rated in the top 2 categories. Cash flow coverage remained strong at 3.4x reflecting an improvement from the 2.9x low observed during the peak of base rate. This strength is further supported by the fact that our loans represent, on average, only 44% of portfolio company enterprise value. Our portfolio remains broadly diversified across industries and our average exposure per company of less than 1% continues to provide meaningful protection against idiosyncratic risk.

For new platform deals closed during the December quarter, weighted average senior leverage was 3x debt-to-EBITDA and weighted average loan-to-value was 36%, providing a substantial equity pushing to ease our debt. Over the past 12 months, new platform originations have averaged 3.3x year leverage and 37% loan-to-value, underscoring our consistent commitment to conservative underwriting.

I will now hand the call over to Chris to review the specifics of our financial performance for the quarter.

Thanks, Josh. Turning to our financial performance for the quarter. Pretax net investment income was $34.6 million or $0.60 per share. Total investment income increased to $61.4 million, up from $56.9 million in the prior quarter. The increase was driven primarily by a $1.8 million increase in PIK income, a $1.1 million increase in fees and other income and a $1 million increase in dividend income. The increase in PIK was driven by an amendment to one of our portfolio companies in which the sponsor provided significant new cash equity support and a debt paydown in exchange for a PIK option.

As of quarter end, non-accruals represented just 1.5% of our investment portfolio at fair value. During the quarter, we paid a $0.58 per share regular dividend and a $0.06 per share supplemental item. For the March 2026 quarter, our Board has again declared a total of $0.58 per share in regular dividends payable monthly in each of January, February and March 2026, and maintained the $0.06 supplemental dividend also payable in March, bringing total dividends declared to $0.64 per share.

We continue to demonstrate strong dividend coverage with 110% cumulative coverage since launching our credit strategy. With UTI of $1.02 per share and a sizable unrealized depreciation balance in our equity portfolio, we remain confident in our ability to continue distributing quarterly supplemental dividends over time. LTM operating leverage ended the quarter at 1.7%, significantly better than BDC industry average of approximately 2.6%. As our asset base continues to grow, our near-term target for operating leverage is 1.5% or below, reflecting the inherent efficiency of the internally managed BDC model. The internally managed model has and will continue to provide meaningful full fixed cost leverage to shareholders, while still allowing us to invest in talent and infrastructure as we continue to scale a best-in-class BDC platform.

NAV per share increased to $16.75 per share, up from $16.62 per share in the prior quarter, driven primarily by our equity ATM program. As Michael noted, last quarter, we issued $350 million of 5.95% unsecured notes due 2030. During the December quarter, we used a portion of the proceeds to fully redeem our $71.9 million August 2028 notes and $150 million October 2026, with no make-whole payments required. We view this refinancing as a highly favorable outcome for shareholders strengthen our balance sheet and positioning us well across a range of market environments.

Our liquidity position remains robust, with approximately $438 million in cash and undrawn leverage commitments across our 2 credit facilities plus $20 million available on SBA debentures. In total, this represents more than 1.5x coverage of the $285 million in unfunded commitments across the portfolio.

Regulatory leverage ended the quarter at 0.89:1 debt to equity, down slightly from 0.91:1 in the prior quarter. While our target leverage remains 0.8 to 0.95 we continue to factor in the macroeconomic backdrop and intend to maintain a prudent leverage pushing to help mitigate capital markets volatility. We will continue to raise secured and unsecured debt capital as well as equity through our ATM program in a methodical and opportunistic manner to ensure we maintain significant liquidity and a conservatively constructed balance sheet with adequate covenant cushion.

I will now hand the call back to Michael for some final comments.

Thank you, Chris, Josh and Amy, and thank you to all of our employees who work tirelessly behind the scenes to help us deliver for our shareholders and communicate our progress each quarter. Your dedication is a critical part of what makes this platform so strong, and it remains a deep source of pride for me. And to everyone joining us today, we appreciate your continued interest, engagement and support. We remain focused on executing our strategy, maintaining disciplined growth and creating long-term value for our shareholders.

That concludes our prepared remarks. Operator, we're ready to open the line for Q&A.

[Operator Instructions] Our first question comes from Doug Harter with UBS.

I was hoping you could just expand a little more talk about the lower middle market. Just how do you view that from a competitive dynamic today what are you seeing in terms of players? Or is anyone kind of moving back into that market, moving out of the market? Just how are you seeing that? And what's the outlook for spreads as a result?

Yes. I don't think it's really changed much over the last probably 6 months. I think over the last 12 to 18 months, we have seen regional banks. I think I've noted this before that have dropped down. Historically, they only [ lended ] to maybe 1.5 turns of leverage in maybe in a senior [ menstructure ]. And we're recently we're seeing regional banks actually underwrite a full unitranche loan may come and go. Certainly, anytime you're seeing headlines of private credit issues, they sort of back off.

But by and large, I think that it's kind of the same players. I mean what we probably have seen in the last I would say, 1 to 2 months that there's -- particularly on the BDC space, there's [ 2742 ] BDCs that have cut their dividends. And I think we're only seeing 5 BDCs trade above book right now. So there's a little less competition from our peers as the sort of like their wounds right now. But other than that, I think that we're in a very strong competitive position. And obviously, we announced this joint venture which we think is going to strengthen our ability to continue to win deals that are in our core competency, the lower middle market.

Great. And I guess just then on the spread outlook, how that kind of those comments would lead to kind of how you think spreads progress over the coming quarters?

Yes. So when we look at it, the spread on debt is actually from 331, 2025, it was 7.35%, today it's 7.24%. So we've held in pretty well from a spread perspective. I think we'd say that we've seen the spread compression has seemed to stop the last 12 months and even the last 3 months, we've seen our spreads on our newly originated deals in the mid-6s, and those are 3x leverage and 36% loan-to-value. So very conservatively structured deals with decent spreads. So I think for us, will continue to be somewhere between 7% and 7.5%, we would expect for the next 12 months.

Our next question comes from Mickey Schleien with Clear Street.

Yes. Michael, could you give us a sense of the breakdown of the portfolio between sponsored and nonsponsored at this time?

I think it's 93% sponsored and 7% nonsponsor. And that's probably on the high side. It's typically been somewhere between 85% and 95% sponsored deals.

And how are those sponsors behaving in terms of their appetite for deals in the current market environment. I mean we go quarter-to-quarter and sometimes it's risk on, sometimes it's risk off or there's so much going on. Can you give us a sense of just the backdrop?

Josh, do you want to take this one?

I think there's still a lot of capital in the private equity lower market private equity funds. So they're still looking for deals. I think that if you ask most private equity sponsors in a low over the market, they would say last year was a pretty weak year from a deployment perspective, and they're hoping 2026, there will be more opportunities for them. But -- but yes, I think that they're looking for deals. They have capital to spend, but they're not -- but last year, they didn't find as many deals available to them.

The other thing I would add is that the lower middle market where we play the $3 million to [ $50 ] million EBITDA. We're not -- the volume you see as typical with what you hear on the headlines of M&A going up and down. New York Founders is an aging population where companies are turning over. There's been a steady drumbeat. I wouldn't say that there's been -- there's clearly not the same peaks and troughs that you see in the upper and middle market. So I think the sponsors that Josh was referring to, they're still seeing plenty of deal flow.

And Michael, with that in mind, I mean, we're certainly reading a lot about pressure from LPs on these sponsors to provide them some liquidity. But I'm getting the sense that the sponsors you work with, which are focused on the lower middle market, is that less of an issue for them?

I think it's -- I mean, I think it can be an issue. It depends on where they are in the life cycle of fund. I mean I think that they're looking for opportunities to exit as well to provide that liquidity to LPs, but probably a little bit less pressure than you'd see in the middle market or upper middle market. But we obviously talk to a lot of sponsors in the country and have deep relationships with them. But speaking specifically about their liquidity situations and all that stuff is a little bit tough for us.

Right. I get it.

And the other thing I would note for you, this is -- when we go through our investment committee process on new deals, we definitely focus on where this investment stands in a fund's life. So if a fund or a sponsor, this is one of the last deals and we know there's only $5 million to $10 million of dry powder that's allocated with the rest of the portfolio. That's certainly going to be a negative and something that we're going to discuss to see whether we still feel good about the credit. So we typically want these deals to be in the beginning or the middle stages of a fund line.

Understood. Michael, given what we've just talked about in terms of sponsors, any sense of how active you expect to be this calendar year? And and maybe even next year in terms of deal flow and repayment risk in the portfolio. And essentially, what's your sort of business plan for net portfolio growth?

No, I feel very bullish for several reasons. One, we've grown our sponsor relationships, I think we started the numbers earlier over time. We've recently added another MD, originating MD, [ Brian Mullins ], who brings his own unique set of sponsors who's going to be covering the country. We recently promoted [ Brand Easton ], one of our principles to MD and he is firing on all cylinders and he's -- so he's another source of origination.

And then the joint venture looking back to it. So the joint venture allows us to compete on the send deals we're looking at today, but we've historically held the line at around 5.75% because that's a moving target. But most recently, 5.75% spread kind of meets our ROE target. And making below that, we didn't view as accretive to the portfolio and helpful to our dividend. By doing this joint venture, we're able to compete and win on deals at 5% or above while still actually incorporating additional arranger fee, profit allocation and enhanced spread that increases the yield on deal by 100 basis points.

So we're going to be able to see the same amount of deals from one perspective, but be winning more of them. And these are typically -- the reason this venture was really important to us is we were focused over the last 12 months say, look, we've seen a lot of really high-quality deals that we would love to put in our portfolio that we thought were "sleep credit", but we weren't getting our DLC and the ability to go below 5.75%. This is giving them another arrow in quiver to actually go out and compete. And again, these are deals that we can consider cleaner and more high quality. And it also allows us to maintain granularity. So we think that's been a huge part of our success is maintaining granularity through the last 10 years and not really getting great staying below that 1% on average.

Michael, did you say in your prepared remarks that the JV would be primarily a last-out fund. Did I hear you correctly?

No. So well, I'd say it's primarily, but there's going to be different types of assets that go into the fund. But the -- probably the best example of what this fund is, is if you look at a $10 million EBITDA company, that's 3.5x with to say, 35% loan to value at a 550 spreads. That's a $35 million total debt check. So in our -- in the example I give you the first out that we go into the joint venture, so probably correct myself. The only thing that's pretty much filling into the joint venture would be first out positioned.

So they would hold $10 million at 3.75% spread, one turn of leverage and 10% loan to value. On our balance sheet, we would hold $25 million of that debt of the debt stack and that we get a 6.25% spread, and it still levered at the same 3.5x and 35% loan to value. So that kind of gets you of what it look like on balance sheet and in the JV.

Understood. And what kind of leverage do you expect the JV's balance sheet to have?

So I'll start the asset level is going to be between one and 1.5 turns of leverage or individually on the asset side. The fund itself will be probably something around 2.5 turns, plus or minus.

Okay. And that gets you to your ROE target. I understand. And lastly, and I appreciate your patience. The portfolio has about 21% at fair value in consumer products and services, restaurants and movies. Those are sort of cyclical segments. Can you discuss your underwriting approach to those segments? And how are those portfolio companies doing given everything we're reading about a K-shaped economy?

So I think Josh, do you want to take this one. I would tell you that when we look at our weighted average leverage for consumer services that fall into the buckets you're referring to, their leverage is slightly elevated at 4.2x. When we look at where other portfolios begin at 5.5 to 6x another middle market, we would say it's still pretty conservatively levered because our entry multiple on many of these companies are going to be somewhere between 1.5 to 3x leverage. We're certainly cognizant of consumer discretionary. So I would say there's a decent amount of that consumer probably the majority of that consumer, we think, are well positioned for consumer pullback or economic pullback.

And on top of that, we do structure our deals, recognizing where we are with the potential consumer pullback.

Our next question comes from Erik Zwick with Lucid Capital Markets.

This is [ Justin Marko ] on for Erik today. Just going back to the spread conversation. I was wondering if you guys could talk about the current state of underwriting conditions and if you're seeing any other signs of pressure on structure terms?

From a performance standpoint, I would tell you that we're not seeing pressure on any particular industry. Any issues in the portfolio continue to be idosyncratic. I think you're asking about the structure of new deals we're doing. I think -- is that your question?

Yes, yes.

Yes. So I think we said this and it stayed consistent that we've definitely seen -- we had seen spread compression over the last 12,18 months considerably. But structurally, in the lower middle market, we have not seen sort of weak credit agreements or asks coming through from our private equity sponsors. It's pretty status quo from a structural perspective over the last [indiscernible] of years. I think where the lower middle market has moved in the last kind of 18 months or so has been on the pricing and the spread, not on the structure. So still seeing good covenants and solid credit documents.

Yes. I mean almost I'd say 100% of our portfolio, we're close to it. I have a fixed charge covenant, we have a leverage covenant, we have a CapEx covenant. And then to the extent that there's a [ DDTL ], you'll see an incurrence covenant as well.

Okay. And last one for me. Any other additional deals on the new JV, whether you have like a targeted size in mind or when you're expecting to be fully ramped up?

Sure. So we've actually -- we've been negotiating that for a bit of time. We've already started ramping. We closed 3 deals that will be contributed closer to deal than the [ 120-month ] than contributed in the coming weeks. And we're close to closing the credit facility. I think how many $150 million -- $150 million credit facility.

I think the answer to the question is each party is contributing its committed $50 million of equity to date. We think it's going to take probably at least a year to get probably up to the full leverage. So it's going to probably it will eventually be a mid-teens return. I think it will be double-digits return by the end of the year.

Our next question comes from [ Dylan Hines ] with B. Riley Securities.

I was just wondering, I know you talked about the spreads in the quarter for the originations. I was wondering do you have -- do you know what the weighted average yield was for your originations in the quarter?

[indiscernible] over to you.

Well, I think I said earlier, so the spread on the new deals this quarter was 6.5% and leverage was 3x and load value is 36%. So are you just -- I mean, with the SOFR, so the weighted average yield is approximately [ 1,050 ].

Yes. And then I was wondering about the ATM issuances. Do you expect to continue doing that as long as the premium is favorable? Do you have a target rate that you generally want to issue at or.

Yes, sure. So if you look past history, we do somewhere between $30 million and $50 million every quarter. That past relates depending on deal flow and repayments and liquidity needs. But certainly, with the premium we're trading at, somewhere in that range is -- would be a good expectation for the coming quarter.

Our next question comes from Robert Dodd with Raymond James.

Hope you can hear me with backgrounds noise. On the JV, but is there any impact -- I mean, you've said you don't need to expand kind of your net currently in terms of being able to stock that up. But is there any intent to expand maybe the stories of the businesses or the type of leverage multiple, anything like that? Maybe once it gets closer to scale? Or is it just it's exactly the same assets, just the lower spread ones going in that JV?

So I say that point, it's pretty much exactly the same as I think these deals that are really targeted for this are going to be deals that are between $5 million and $10 million of EBITDA. So like I said many times, we're very clean deals and at a price between $5 and [ $5.75 ]. I would say it's the extent that we're seeing deals that are slightly larger, so let's call the $35 million to $40 million check, which we don't prefer to hold as our parent granularity this does give us the ability on those deals to put $10 million to $50 million in the JV, while still maintaining $20 million to $30 million hold.

So I think on the margin, it allows us to feel more [indiscernible] field slightly larger, but for the most part, it's just the cleanest deals in our core space.

Got it. One more if I can. It's been topical at the last time a couple of this. How are you evaluating AI disruption risk, both within the assets you already have in the portfolio. But then when you look at new originations and opportunities, how much, if any, is AI risk being factored into your underwriting case?

Honestly, that is something that we started taking up about probably a year ago, we formed an AI committee and then actually created a segment in our investment committee process, which rates the various aspects of a company in terms of the AI risk. Because look, when we look at companies, sometimes AI is going to be helpful. We see sometimes financial services companies they're going to be using AI to basically become more efficient. In other deals, we're seeing AI as a potential. We just saw a deal maybe 2 weeks ago that we couldn't get comfortable with because the advent of AI may not impact the business in the next 2 years, but it would impact the business in 5, and therefore, the concern of how it's going to get sold and at what valuation would that cover the day.

So I think we're looking at -- we're certainly -- it's definitely a heavy segment of our investment committee discussion. And then internally, we're looking to see how we can utilize AI as well to become more efficient as an organization. And that's something that has begun in our list.

That concludes today's question-and-answer session. I'd like to turn the call back to Michael Sarner for closing remarks.

Yes. I want to take one to just pause and reflect our company, our balance sheet, just passed $2 billion in assets. I know growing the balance sheet is not the goal here is creating value. It is a testament to everybody who has worked here and all the value that's created will allow us to continue to grow. My optimism today and I think our optimism as a group has never been higher.

I mean we've mentioned the 2 new MDs that are helping enhance the business. The joint venture, which we spend a lot of time discussing, We talked about it, we've over the last 12 months, we've exited to date, $50 million in equity. And I'd remind everybody that's on $5 million -- a 5% equity portfolio at cost. So we're punching way above our way, which tells you our underwriting, both on our debt and our ability to create equity gains has been strong. That's created $1.02 per share of UTI. We have $0.76 of unrealized depreciation, and we would tell you, a majority of that or in companies that are in the market, some in the first half of 2026 and other in the back half.

Our operating leverage of the company is 1.4% on a run rate basis, excluding the onetime charge from last year, conservative leverage at active corporate level of 0.89, conservative leverage at our portfolio level of 3.6x, significant liquidity. And all of that has brought us to a place where in a 40% plus premium to book on our stock, which reflects, I think, all the strong work we've done in the company.

So as we did this call, I just -- I'm thankful to all of the shareholders in support of the company. I'm extremely proud of all of the employees who have done this great work and as we look forward, we see this optimism and hope you understand it as well. Thanks to everyone, and have a great week.

This concludes today's conference call. Thank you for participating. You may now disconnect.

Thank you for joining today's Capital Southwest Second Quarter Fiscal Year 2026 Earnings Call. Participating on the call today are Michael Sarner, Chief Executive Officer; Chris Rehberger, Chief Financial Officer; Josh Weinstein, Chief Investment Officer; and Amy Baker, Executive Vice President, Accounting. I will now turn the call over to Amy Baker.

Thank you. I would like to remind everyone that in the course of this call, we will be making certain forward-looking statements. These statements are based on current conditions, currently available information and management's expectations, assumptions and beliefs. They are not guarantees of future results and are subject to numerous risks, uncertainties and assumptions that could cause actual results to differ materially from such statements. For information concerning these risks and uncertainties, see Capital Southwest's publicly available filings with the SEC. The company does not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events changing circumstances or any other reason after the date of this press release, except as required by law.

I will now hand the call over to our President and Chief Executive Officer, Michael Sarner.

Thanks, Amy. And thank you, everyone, for joining us for our second quarter fiscal year 2026 earnings call. We are pleased to be with you today to discuss our second fiscal quarter as well as share our observations on the current market environment. During the second fiscal quarter, we generated pretax net investment income of $0.61 per share. Additionally, we were able to increase our undistributed taxable income balance to $1.13 per share from $1 per share as of the end of the prior quarter. Over the last 12 months, we've harvested $44.8 million in realized gains from equity exits, which is the main driver of our growth in UTI per share from $0.64 in September 2024 to $1.13 today.

Furthermore, our Board of Directors has declared a total of $0.58 in regular dividends for the quarter, payable monthly in each of October, November and December 2025, and it's also declared a quarterly supplemental dividend of $0.06 per share bringing total dividends to cleared for the December quarter to $0.64 per share. On the capitalization front, we successfully raised $350 million in aggregate principal of 5.95% notes due 2030. Subsequent to quarter end, the proceeds from these notes were partially used to redeem in full our outstanding $150 million notes due October 2026 and our $71.9 million notes due August 2028. Importantly, the redemption of these notes did not require a make-whole premium to be paid in either case. We believe this new capital enhances the strength of our balance sheet and alleviates any concerns surrounding near-term bond maturities with our earliest unsecured maturity now in fiscal year 2030.

Finally, we raised approximately $40 million in gross equity proceeds during the quarter through our equity ATM program at a weighted average share price of $22.81 per share, or 137% of the prevailing NAV per share.

Deal flow in the lower middle market continued to be robust this quarter with $245 million in total new commitments to 7 new portfolio companies and 10 existing portfolio companies. Add-on financings continue to be an important source of originations for us as approximately 32% of the total capital commitments during the quarter were follow-on financings in performing portfolio companies. Over the last 12 months, add-ons as a percentage of total new commitments have been 39%. So this is clearly a strong source of origination volume in deals. We know well and have experience with the management team and sponsor. Additionally, the weighted average spread on our new commitments this quarter was approximately 6.5%, which we view as strong in a tight spread sale environment.

I will now hand the call over to Josh to review more specifics of our investment activity and the market environment.

Thanks, Michael. This quarter, we deployed a total of $166 million of new committed capital including $162 million in the first lien senior secured debt and $3 million of equity across 7 new portfolio companies. In addition, we closed add-on financings for 10 existing portfolio companies, consisting of $79 million in first lien senior secured debt and $1 million in equity. Our on-balance sheet credit portfolio ended the quarter at $1.7 billion, representing a year-over-year growth of 24% from $1.4 billion as of September 2024. For the current quarter, 100% of the new portfolio company debt originations were first lien senior secured and as of the end of the quarter, 99% of the credit portfolio was first lien senior secured with a weighted average exposure per company of only 0.9%. We believe our portfolio granularity speaks to our continued investment discipline of maintaining a conservative posture to overall risk management as we grow our balance sheet.

The vast majority of our portfolio [indiscernible] activity is in first lien senior secured loans to companies backed by private equity firms. Currently, approximately 93% of our credit portfolio is backed by private equity firms which provide important guidance and leadership to the portfolio companies as well as the potential for junior capital support is. In the lower middle market, we often have the opportunity to invest on a minority basis in the equity of our portfolio of companies, [indiscernible] the private equity firm when we believe the equity piece is compelling. As of the end of the quarter, our equity co-investment portfolio consisted of 83 investments with a total fair value of $172 million, representing 9% of our total portfolio at fair value.

Our equity portfolio was marked at 126% of our cost, representing $35.8 million in embedded unrealized appreciation or $0.63 per share. Our equity portfolio continues to provide our shareholders' participation in the attractive upside potential of these growing lower middle market businesses often resulting from the institutionalization of the businesses by experienced private equity firms as well as the significant value accretion potential from strategic add-on acquisitions. Equity co-investments across our portfolio provide our shareholders with the potential for asset value appreciation as well as equity distributions to Capital Southwest over time.

Consistent with previous quarters, the lower middle market continues to be quite competitive as this segment of the market is highly attractive to both bank and nonbank lenders. While this has resulted in tight growing pricing for high-quality opportunities that are not exposed to the macroeconomic uncertainty, the depth and strength of the relationships our team have cultivated over the years has continued to result in our existing and winning opportunities with attractive risk-return profiles.

As a point of reference, currently, there are 85 unique private equity firms represented across our investment portfolio. Additionally, in the last 12 months, we closed 17 new platforms with financial sponsors with which we had not previously closed the deal, demonstrating our continued penetration in the market. Since the launch of our credit strategy, we have completed transactions with over 120 different private equity firms across the country, including over 20% with which we have completed multiple transactions.

Our portfolio currently consists of 126 portfolio companies, with 89.9% to first lien senior secured debt, 0.9% to second lien senior secured debt and 9.1% to equity investments. The credit portfolio had a weighted average yield of 11.5% and weighted average leverage through our security of 3.5x EBITDA. We continue to be pleased with the operating performance across our loan portfolio. All our loans upon origination are initially assigned an investment rating of 2 on a 5-point scale, with 1 being the highest rating and 5 being the lowest rating.

Overall, the portfolio remains healthy with approximately 91% of the portfolio at fair value rated in one of the top 2 categories, 1 or 2. Cash flow coverage of debt service obligations has reached 3.6x, the strongest level in the past 3 years, reflecting an improvement from the 2.9x low observed during the peak of base rates. This enhanced coverage underscores the strength of our portfolio with our loan average of approximately 43% of portfolio company enterprise value.

Our portfolio continued to be broadly diversified across industries, and our average exposure for a company is less than 1% of investment assets which gives us great comfort in the overall risk profile of our portfolio. For the new platform deals we closed in the September quarter, the weighted average senior leverage level was 3.6x debt to EBITDA and the weighted average loan-to-value level was 36%, resulting in significant equity capital attrition below our net. Over the past 12 months, new platform originations have average senior leverage of 3.5x debt to EBITDA and 38% loan [indiscernible] which highlights our consistent track record of conservative underwriting on new originations.

As Michael mentioned earlier, we believe our balance sheet is well positioned with low leverage and significant liquidity, which allows us to continue to be active and opportunistic in all economic environments.

I will now hand the call over to Chris to review the specifics of our financial performance for the quarter.

Thanks, Josh. Specific to our performance for the quarter, pretax net investment income was $34 million or $0.61 per share. For the quarter, total investment income increased to $56.9 million from $55.9 million in the prior quarter. The increase was driven primarily by a $1.3 million increase in fees and other income, which was offset by a decrease of approximately $500,000 in picking [indiscernible] compared to the prior quarter. Importantly, [ PIC ] as a percentage of our total investment income decreased to 4.9% as compared to 5.8% in the prior quarter. Additionally, as of the end of the quarter, our loans on nonaccrual represented 1% of our investment portfolio at fair value.

During the quarter, we paid out a 58% -- $0.58 per share regular dividend and a $0.06 per share supplemental dividend. For the December 2025 quarter, our Board has declared a total of $0.58 per share in regular dividends payable monthly in each of October, November and December 2025, while also maintaining the supplemental dividend at $0.06 per share, bringing total dividends to $0.64 per share for the December 2025 quarter. We continued our consistent track record of regular dividend coverage with 104% coverage for the 12 months ended September 30, 2025, and 110% cumulative coverage since the launch of our credit strategy. We are confident in our ability to continue to distribute quarterly supplemental dividends based upon our current UTI balance of $1.13 per share and the expectation that we will continue to harvest gains over time from our sizable unrealized depreciation balance on the equity portfolio.

LTM operating leverage ended the quarter at 1.6%, a slight decrease from the prior quarter. Our operating leverage is significantly better than the BDC industry average of approximately 2.7%, and we believe this metric speaks to the benefits of the internally managed BDC model and our absolute alignment with shareholders. The internally managed model has and will continue to produce real fixed cost leverage while also allowing for significant resources to be invested in people and infrastructure as we continue to grow and manage a best-in-class BDC.

The company's NAV per share at the end of the quarter was $16.62 per share, an increase from $16.59 per share in the prior quarter. The primary driver of the NAV per share increase was the accretion from the ATM equity program during the quarter.

As Michael mentioned, during the quarter, we successfully raised $350 million in new 5.95% unsecured notes due September 2030. Subsequent to quarter end, -- the proceeds from these notes were partially used to redeem in full our $71.9 million August 2028 notes and $150 million October 2026 notes with no make-whole payment required on either redemption. The cost of the $350 million notes at 5.95% fixed, was approximately breakeven with the cost of the debt we subsequently paid off, inclusive of the secured credit facilities. We view this capital raise as a highly favorable outcome for both the company and its shareholders as it strengthens our balance sheet and positions us to thrive across a wide range of capital markets environment.

We are pleased to report that our balance sheet liquidity is robust with approximately $719 million in cash and undrawn leverage commitments on our 2 credit facilities, which represents over 2x the $334 million of unfunded commitments we had across our portfolio as of the end of the quarter. Our regulatory leverage ended the quarter at a debt-to-equity ratio of 0.91:1, up from 0.82:1 as of the prior quarter. However, given that the $350 million bond issuance occurred during the September quarter and the bond redemptions occurred subsequent to quarter end, we ended the quarter with significant cash on the balance sheet.

Net leverage, which assumes paying down outstanding debt liabilities with cash on hand as of 9/30 would result in pro forma regulatory leverage of 0.82x. While our optimal target leverage continues to be in the 0.8 to 0.95 range, we continue to weigh the impacts of the current macroeconomic landscape and intend to maintain a regulatory leverage cushion, which will mitigate capital markets volatility. We will continue to methodically and opportunistically raise secured and unsecured debt capital as well as equity capital through our ATM program to ensure we maintain significant liquidity and conservative balance sheet construction with adequate covenant cushions.

I will now hand the call back to Michael for some final comments.

Thank you, Chris, Josh and Amy and all the employees who help us tell the story each and every quarter and thank you, everyone, for joining us today. This concludes our prepared remarks. Operator, we are ready to open the lines up for Q&A.

[Operator Instructions] Our first question comes from the line of Brian McKenna of Citizens.

So it's clearly a strong quarter of origination activity. It does feel like industry-wide M&A has picked up pretty meaningfully, even since the last earnings call. So what does the pipeline look like heading into year-end? And then is there a way to think about the size of the pipeline today relative to the last quarter or 2 or even a year ago?

Yes. Look, we definitely have seen, at least in these 4 walls, a significant uptick just in the size of the pipeline, top of the funnel. We did $248 million this past quarter and that 7 platform companies and 10 add-ons. I think the add-ons has been a steady drip. That's been pretty consistent. I think we'll continue to see 8 to 12 transactions a quarter. From the new resonation side, I think this coming quarter, the 12/31 is probably going to look based on what we're seeing today, similar volumes to what we saw in the 9/30 quarter. And then looking ahead, it just feels like the -- our principals, MDs, we've made significant headway with sponsor activity, and we continue to see a lot of their quality deals.

And so we don't really see any reason for the growth to slow down. So where we used to originate $100 million to $125 million a quarter, I think we're doing something closer to $150 million to $200 million on a normal quarter.

Okay. That's helpful. And then just for my follow-up, Michael, you've been CEO for a few quarters now. Can you just remind us of your top priorities for the firm heading into calendar 2026. You've also made some early changes like moving to a monthly regular dividend. But is there anything else you can do that ultimately benefit shareholders?

Yes. We've mentioned on previous calls that we're looking to monetize our investment platform to enhance our competitive position in the market as well as potentially bringing fees and additional economics for what we do. So certainly, that we spent quite a bit of time on the road, we think that -- I think I said in the previous call that we have potential opportunities in front of us that could be closing in the near-er time. So that's something that we're looking at. We since we -- in the last 8 months, we've grown a portfolio operations group internally. That's something that I thought was an important part of the process to scalability. And we continue to look to add originators to the platform. So I think it's just building for growth because couple -- taking these 2 questions together, we've seen really remarkable growth on deal volume, which doesn't always portend to deals that are closed, but getting that funnel larger leads to better quality deals, so we're definitely -- there's a focus internally.

Our operating leverage is quite low in the market, but we are looking to continually add to our staff so that we can be ready for the growth that comes.

Our next question comes from the line of Doug Harter of UBS.

I'm hoping you could just talk a little bit more about credit quality and kind of what you're seeing in the underlying portfolio companies? Any change in kind of their growth or profitability? And just kind of how you're thinking about the credit outlook over the coming quarters.

Yes. I'll give my remarks, and I think Josh, you should well. But we just looked at it over the last 12 months, the growth in EBITDA and revenue of our existing portfolio company has been about 10% growth annually, which is still very healthy. If you look back maybe 18 months, 24 months ago, it might have been something closer to 15%. So it slowed a bit. But when we are looking at our individual portfolio companies, there they're performing extremely well. We're not really seeing any one particular industry that has issues.

The one thing that's gotten more difficult, I think in the boardroom is just the changing environment in terms of what's coming out of the White House and how it impacts potential industries on a go-forward basis, right? Nothing has stayed the same. I feel like we've got our nose buried in the news more today than we ever have to make certain that we understand the impact on our portfolio, but also what's investable going forward.

Josh, do you have anything?

Yes. I mean, look, we have over 100 portfolio companies in the lower middle market. So obviously, not all of them are going to perform really well or as expected, but we have created a very diversified by industry and granular by company portfolio. So I feel pretty comfortable with where we sit today.

And the other thing I'd add is that when we look at the deals we're doing, is competitive as the environment has been, which has led to spread compression, the loan to value and the leverage of these deals is stay very conservative and consistent. I mean let me look at it, I think, over the last 9 months, we've seen, I think it was 36% loan to value and 3.4x leverage. So companies aren't stretching. They're just basically the portfolio -- the borrowers are getting lower spreads for sort of the same amount of debt.

So that's -- for us, that also in a market where there was certainly a feeding frenzy over the last 12 months, the fact that debt discipline maintained is a strong project strong going forward.

Our next question comes from the line of Mickey Schleien of Clear Street.

In your internal ratings, you're showing about 9% of the debt portfolio performing below expectations. It looks like those are names like [ Bradner ], Apple Roofing, Monster [indiscernible], U.S. TelePacific and Everest. How do you describe the trends overall affecting those companies and their outlook?

Well, let me -- I want to say one thing. When we look at our watch list and you compare us to the upper middle market. One thing to note is the leverage levels that we get in that are much lower than others, so they're 2.5x or 3x, and they have covenant cushions of 30%, so when we have a default in our portfolio, these credits are defaulting somewhere between 4x and 6x. So I say that to sort of frame that these companies aren't in dire situations when they show up on our watch list. They are obviously having issues, but they have private equity sponsors that are supporting the deals.

In terms of the individual -- kind of consistent with what I was just talking about, it's obviously a diversified portfolio, and we we obviously keep track on the industry breakout of the underperforming assets, but we don't see any real consistency or correlation. There are a lot of syncratic issues that have happened at some of these lower middle market companies, which candidly is unexpected into which ones we're going to see them, but we know in a big -- a large broad portfolio that we're going to see them. So we monitor them by industry, but we don't see sort of correlations in our underperforming assets.

Yes, that's what I was getting at, actually. And on the flip side, you have about 20% of the portfolio performing above expectations, which is great. But that could imply meaningful prepayment risk. What is your gauge of that risk? And how much could that impact the portfolio's yield obviously, excluding the fees that you could collect on those prepayments?

So I think this goes back to our discipline on granularity. When we were $500 million fund of assets, we were originating $12 million to $13 million per asset. Today, we're $2 billion, and we're still originating around $15, $16 per hold. So really, we're -- I don't -- I think that cuts from both prepayment risk as well as nonaccrual risk. The portfolio is granular enough that no one credit is going to have a material impact. In fact, 6/3 in the quarter we had -- I can't remember what company it was, but we got repaid. I think it was the tune of, what, $50 million came back and we still posted $0.61 this quarter. So we don't live in fear of that. Our top 5 is not significantly larger than the rest of the portfolio, and that supply design. That's helpful.

Yes, Mickey, if you look back in history, the other thing I would add is we've sort of had over the past 2 to 3 years, consistently 15% to 20% of the portfolio in that investment rating one bucket for outperformance and that has not correlated directly to sort of 20% of prepayment per year. Our prepayment will more 10% to 12% per year as a percentage of the portfolio. So it's an indication of performance but it doesn't necessarily indicate that all of those are going to prepay in the near term.

No, I understand. It's just that you also mentioned the tight spread environment, which I clearly agree with, and we're seeing that across not only our -- the lower middle market, but as well in the middle market and the upper middle market. So I was trying to gauge if that was a consideration.

Well kind of given the breakdown, by the way. So over the last 6 months, our spread has actually stayed pretty constant and give you an indication for this quarter, we had new -- 7 new portfolio companies the range of yield or spread was $5.50 at the lowest and $7.25 at the highest -- the add-on activity was at 6.7%, so blended 6.5%. So I don't think it's meaningfully off of part of our pace. The other point I would notice that, so one of our probably our top performing portfolio company, our largest hold is due to its equity appreciation. So if that exit the debt hold is small, the equity is nonyielding for the most part, right? So you'll redeploy that capital into gene -- so that could actually be an uptick and as well as an increase to our UTI bucket.

I understand. And in terms of the change of the portfolio's weighted average yield during the quarter, which fell about 30 basis points in a quarter where SOFR was stable. Was that due to the spread environment that you're talking about? Or was it due to maybe going up market a little bit toward higher-quality names with lower spreads? Or could you give us some insight into that?

Sure. Sure. I actually would go back in time. If you look at the 3/31 quarter, our spread was -- our total yield was [ 1168 ] it went up to [ 1183 ] in the 6/30 quarter, primarily because we had one large exit that I just mentioned that had 16 basis points of accelerated OID. So it was actually a bit used. So this quarter, it came back to the same [ 1158 ], but then we did see 8 basis points reduction due to nonaccruals and just 5 basis points based on compression.

Okay. And lastly for me, could you give us some guidance on stock-based compensation and salary expense for the fourth calendar quarter, the quarter we're in right now, given that there's some seasonality, that would be helpful for us.

So there won't be seasonality on the RSU expense. So that should be consistent with the current quarter. For the cash compensation, that is really going to be dependent on our performance during the quarter. I would say that it's somewhere between flat with 9/30 and maybe slightly elevated based on some of tapping initiatives that Michael laid out. So that's -- it's really dependent on where we -- how we performed for the quarter and how much bonus are we end up taking.

Our next question comes from the line of Erik Zwick of Lucid Capital Markets.

Wanted to follow up with the kind of a question on the credit outlook you provided. And just curious, you mentioned that the top of the funnel for originations has continues to expand. And there are maybe a couple of pockets of the economy that are showing some weakness now. So as you evaluate these new opportunities, are there any industries or segments that you're maybe kind of looking at a little bit more kind of discerning eye or staying away from that maybe you weren't 12 months ago?

Well, I'd start off by saying the area that -- and it's a very diverse is health care that there's just -- with the big beautiful build that came out before, not quite understanding where Medicare and Medicare mitigate reimbursement might come. that is something that historically we like quite a bit. And now it's not that it's I'm a no file, but it requires a deep dive to understand how that's going to play out. I'm not sure there's any other like industries that we're just staying away from completely.

I mean government-funded companies, sponsored companies. Those are tough for us right now. But we're -- Look, I mean, we're generalists. That being said, when we look at dynamic industries like health care or government, we like to partner with private equity groups that have a lot of expertise so we can piggyback off that expertise. And so when we do deals in more dynamic industries, typically, we're doing them with guys that we're investing in that space for years, given our generalist tilt that -- and then we also structure around those types of risks. We may -- like you talked about being more discerning we'll do that with -- in regards to adding spread and then also probably more importantly, reducing leverage and tightening up structure on deals to do deals in industries that we're a little bit more concerned about.

Another thing to note is related to that with our operating leverage has come down, obviously, we've grown our portfolio and our funnel has gotten larger. So we can be just generally speaking, more discerning. We've started -- we have the ability now with our cost of capital to originate deals that are 550, 575, and I always say to these guys, like 4 years ago, our deals need to be 750 and above, then it was 650. So today, we can see sort of the whole gamut of investments in our space. And we can opt out of the ones that have hair on and originate the ones that -- when we're forced ranking deals that are in the same industry that we feel have the most competitive advantages.

I appreciate the color. And just one more for me. Mike, when you're talking about building for growth and continuing to add new originators. Can you just kind of remind me about your kind of strategy for bringing in new originators. Do you typically look for some people that have multiple years of experience or you prefer to bring people fresh out of maybe college and train them yourself kind of to fit in with Capital Southwest lease? Or how do you approach that?

So we've told it both ways. I would tell you right now, we are sort of aim to do all of the above. We're certainly looking on the originator side to bring in another resource to cover one of the costs that we don't cover quite as strongly as we'd like to. We're bringing in several people on the analyst side to start supporting the pyramid. And we're also looking for another Operations VP. I kind of noticed earlier that's a department that we feel like adds a lot of value. And when we say that, these -- the operations group works alongside our deal team. So we get basically 2 opinions when we come into the boardroom to make better decisions before we put good money after bad. So I actually think it's sort of up and down the organization. I think what we're seeing today, we have enough staff to support it, but where we're going is going to require just a more scalable infrastructure.

Our next question comes from the line of John Hecht of Jefferies.

The first one is you guys have on the margin made some -- you've added the bond, you've used your ATM, you've got your SBIC, so you've got a diverse set of sourcing. Anything we should think about kind of as we go into 2020 -- well, this calendar year 2026 about the mix of your capital structure and about how that might be influenced by interest rate changes?

So I don't think so. If you look at -- we obviously, as you mentioned, we did the $350 million unsecured. We redeemed those prior 2 bonds. We're in a really good situation from a liquidity perspective. I think we'll continue to use the SBIC that will be a main source of sort of new capital for calendar year 2026 and continue to create flexibility under our secured credit facilities to make sure that we have adequate liquidity. But I don't think that you'll see a major shift from sort of where we sit today in our philosophy on the mix of unsecured debt, secured debt and SBIC.

And then final question. You guys mentioned at the beginning of the call that seeing a lot of competition from both banks and nonbanks. I'm wondering, has that changed just in light of some of these give idiosyncratic events in the bond market over the last few weeks?

It's hard to tell in real time because we propose on deals consistently. But like -- yes, I mean, there's been a little bit of firming up in the market, but I don't think -- it's a little early to say it's widespread.

Our next question comes from the line of Robert Dodd of Raymond James.

On -- I think in your prepared remarks, I think obviously looking to monetize investment platform on asset management. Correct me if I'm wrong, it seems like you're indicating that could be something on the table on that front within the next 12 months or something like that. So maybe I was reading too much into your wording, but if you could give us any more color there? And I mean, obviously, that would be an excellent low capital miss given you just be using the predominant staffing you already have. And you -- Would there be any -- yes, sorry, go ahead.

Look, yes, these processes tend to take a lot longer than you hoped or you think going in. Yes, definitely the answer is like we have a direction. I think backing up, we've been seeking out partners to help grow and I said, monetize on our investment platform that we've built over the last 10 years. And I think it's been on the road 3 years doing it, I think we finally started to hone on the right structure and found potentially a partner that is someone that's like-minded. I don't have anything to announce right now, but we're hopeful as we keep pushing along that, that will be something that we can make an announcement. And it would be net helpful to this organization going forward.

Got it. Got it. Then just another there been any changes in on -- you mentioned the equity co-invest where you've got a really good track record for an unrealized appreciation in the portfolio I mean at the margin spreads come in a little bit within your end market. Is there any appetite to maybe tweak the amount that goes into equity up a little bit? I mean if the spreads tighter and it's a good equity story, does it make sense to allocate a little bit more to that side of the book to kind of improve the total return or IRR over the life of an asset, if you're giving up a little bit of a spread for the business?

It's a good question. It's something that we grapple with internally as our hold sizes get larger, but we're still playing in the same bailiwick. Our debt check will probably be a larger percentage of the total investment capital, the equity is still being in the usually $0.5 million to $1.5 million.

We do have interest in doing so. I think that the way you get that accomplished is potentially seeing more non-sponsored deals, which we do see a pipeline of non-sponsored deals, which require usually it's a smaller debt check and a larger equity check. But a lot of those deals have a lot of hair. And so I think the old saying we got to kiss a lot of frogs there. So I think we -- that is -- when I talked about scalability, that is an area we may add some more resources to be able to do so. It does fit nicely in our business strategy because we are our SBA, right? Those are usually going to be the small and smaller businesses. And so the answer is yes, we're around 9% equity today. I would like to see it grow. I don't think that's going to happen in the next 6 to 12 months. But I think over the next 24 to 36 months, that's something we are geared towards working towards.

Our next question comes from the line of Dylan Heinz of Riley Securities.

I was just wondering, so while rate cuts are slowing, if your commitment growth maintains moving forward, do you expect the yield dilution to be roughly the same quarter-over-quarter as it was for last quarter or this quarter?

It's a tough question to answer. I mean, we are -- over the last 3 quarters, as we noted, we haven't seen that degradation. The deals that we are seeing in our pipeline for this quarter and maybe we're working on for the subsequent quarter, probably similar yield profiles. So I don't see the yields coming down. I think also some of the activity we're working on might allow us to continue to either hold or improve our spreads going forward, some of the kind of the other activities we're working on.

So I don't think -- I'm not expecting over the -- from a spread perspective. On the base rate, right, obviously, with SOFR, that's coming down. That's out of our control. But we built a portfolio and an income statement, we think that's positioned well both with our regular dividend as well as our UTI bucket.

Thank you I'm showing no further questions at this time. I would now like to turn it back to Michael Sarner for closing remarks.

Well, we appreciate everybody joining us today. We look forward to speaking to you in 3 months. Have a good weekend.

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