Runway Growth Finance Corp. (RWAY) CEO David Spreng on Q2 2022 Results - Earnings Call Transcript

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Runway Growth Finance Corp. (NASDAQ:RWAY) Q2 2022 Earnings Conference Call August 4, 2022 6:00 PM ET

Company Participants

Mary Friel - Assistant Vice President, Business Development & Investor Relations

David Spreng - Chairman, Chief Executive Officer, Chief Investment Officer & Founder

Tom Raterman - Chief Financial Officer & Chief Operating Officer

Conference Call Participants

Mickey Schleien - Ladenburg

Melissa Wedel - JPMorgan.


Ladies and gentlemen, thank you for standing by and welcome to the Runway Growth Finance Second Quarter 2022 Earnings Conference Call. Please be advised that today's conference is being recorded.

I would now like to hand the conference over to Mary Friel, Assistant Vice President, Business Development, and Investor Relations. Please go ahead.

Mary Friel

Thank you operator. Good afternoon everyone and welcome to the Runway Growth Finance conference call for the second quarter ended June 30th, 2022. With us on the call today from Runway Growth Finance are David Spreng, Chairman, Chief Executive Officer, Chief Investment Officer, and Founder; and Tom Raterman, Chief Financial Officer and Chief Operating Officer.

Runway Growth Finance's second quarter 2022 financial results were released just after today's market close and can be accessed from Runway Growth Finance's Investor Relations website at We have arranged for a replay of this call at the Runway Growth Finance web page.

During this call, I want to remind you that we may make forward-looking statements based on current expectations. The statements on this call that are not purely historical are forward-looking statements.

These forward-looking statements are not a guarantee of future performance and are subject to uncertainties and other factors that could cause actual results to differ materially from those expressed in the forward-looking statements including and without limitation uncertainties surrounding the COVID-19 pandemic and other factors we identify from time to time in our filings with the SEC.

Although we believe that the assumptions on which these forward-looking statements are based are reasonablem any of those assumptions can prove to be inaccurate and as a result the forward-looking statements based on those assumptions can be incorrect. You should not place undue reliance on these forward-looking statements.

The forward-looking statements contained on this call are made as of the date hereof and Runway Growth Finance assumes no obligation to update the forward-looking statements or subsequent events. To obtain copies of SEC related filings, please visit our website.

With that, I will turn the call over to David.

David Spreng

Thank you, Mary and thank you all for joining us this evening. Today I will provide an overview of the quarter, some operational highlights, and a brief market outlook for the remainder of the year.

Runway Growth had an outstanding quarter, delivering record net investment income and origination even in the face of persistent market volatility. We attribute the success to Runway Growth disciplined investment process which underpins our credit-first weatherproof platform.

As the cost differential between debt and equity capital expands, Runway Growth's durable financing model continues to resonate with high-quality innovative companies. Our portfolio companies recognize we are not simply capital providers. Runway Growth ensures our partners are positioned for success from term sheet to final payment.

Our origination team delivered strong portfolio growth in the second quarter completing nine investments in new and existing portfolio companies. This represents $200 million in new commitments including $151.7 million in completed deals. We funded all investments in the second quarter with proceeds from our revolving credit facility as part of our ongoing strategy to drive prudent portfolio growth with leverage.

Notably, we increased our core leverage ratio from 0.26 times to 0.4 times. We delivered total investment income of $25.2 million and net investment income of $14.5 million in the quarter. This is up 35% and 28% respectively from the prior year period.

Net assets were $579.4 million at the end of the second quarter up 21% from $477.7 million in the prior year period. Our record performance is paired with prudent underwriting strategy.

We believe we have the lowest risk portfolio among public venture debt BDCs as demonstrated by our concentration in first lien senior secured loans and a weighted average loan-to-value at origination of 16.1%.

Our strong credit quality is a testament to our focus on recession-resistant late-stage companies. Disciplined underwriting active monitoring and frequent communication are key components of our approach to prevent losses and keep strong companies in the portfolio. Of course in order to employ underwriting rigor we have to generate a steady flow of deal origination.

We believe we are building a best-in-class origination team that brings deep sector knowledge and experience to every deal we see. To that end, I'm thrilled to share that subsequent to quarter end we made four strategic hires.

Our new members Brad Pritchard, Ted Cavan, Jeff Goldrich, and Brannon Morisoli will increase the depth of our bench. Brad joins us from BlackRock where he led the firm's venture lending efforts globally and served as President of BlackRock Direct Lending Corp. Brad brings nearly two decades of technology banking and growth lending experience.

We are also excited to welcome the Ted, Jeff and Brannon to Runway Growth. Jeff brings nearly 10 years of experience and joins us from CIBC Innovation Banking. Ted joins us from Stifel Bank and brings seven years of experience between Stifel and TriplePoint Venture growth.

Lastly Brannon joins us after nearly seven years with SWK Holdings where he built a focus and in-depth expertise in the life sciences sector. These new additions will meaningfully contribute to our origination networks and positively impact future portfolio growth and composition.

At Runway, we are constantly evaluating all hiring opportunities. We will continue to make quality investments in our team to support growth, while remaining focused on geographic and industry tailwinds. Our origination team is delivering in the fastest-growing sectors we know best including life sciences, technology and select consumer service and product industries. The nine new investments we made in the second quarter were primarily in technology and life sciences sectors. Notable investment activity during the quarter included loan commitments to companies in enterprise AI, cybersecurity and innovative medical devices.

Turning to the broader market. One of the common questions we feel is how contracting valuation multiples may be impacting loan-to-value ratios in our portfolio. In short, we've seen minimal impact. Let me provide a little more color. For an apples-to-apples comparison, we calculated loan-to-value for the basket of loans that were in our portfolio at the end of Q1 and Q2. In comparing this consistent grouping of loans, our dollar-weighted loan-to-value ratio only increased slightly from 20% to 21% sequentially. We believe this points to the discipline we employ at the underwriting stage. It may be more accurate to call this metric loan to our value, as we believe in taking a conservative approach to valuation. We are not beholden to a company's last raise or around. We use our own proprietary process to evaluate every deal in our portfolio.

Now I'd like to take a moment to discuss our outlook for 2022 before passing it to Tom to review our financial results. We believe the current market environment is set to benefit runway growth. According to PitchBook Data, US late-stage venture activity remains at record levels and on pace to achieve 2021 on a deal count basis. The first half of the year accounted for a whopping 3,048 deals for late-stage companies. That said, deal value is lagging in 2021. Today, the market is on pace for $188 billion in deal value for US late-stage companies in 2022. This would represent a 20% decrease from 2021.

To summarize, more deals at smaller sizes. It is clear that late-stage companies are deciding to execute smaller deals given the dilution they would experience at compressed valuations. This dynamic is precisely why I founded Runway in 2015. That will be a complement supplement or even a replacement for equity capital in today's market. While late-stage companies digest the decline in equity valuation, runway gross non-dilutive capital is only becoming more attractive.

Runway Growth is strategically positioned to capitalize on declining VC equity valuations as venture debt continues to evolve to support the needs of entrepreneurs. Debt will remain cheaper than equity even in the rising rate environment and we believe the cost differential between debt and equity capital will continue to grow in the near future. Runway Growth will benefit from these tailwinds.

Lastly, we will continue to evaluate avenues to secure the requisite capital to fuel prudent portfolio growth. We are pleased with our strategic deployment of leverage in the quarter and Tom will go into more detail about the $80 million unsecured bond offering we executed subsequent to the quarter close. While venture equity markets remain challenging, we believe there is no better time to consider venture debt to fuel growth and extend Runway. Our record first half of the year is only the beginning and we look forward to supporting world-class management teams as we create long-term value for our shareholders.

I will now turn it over to Tom.

Tom Raterman

Thanks, David, and good evening, everyone. Runway Growth completed nine investments in new and existing portfolio companies in the second quarter, representing $200 million in new commitments, which resulted in $151.7 million in funded loans. Runway's weighted average portfolio rating remained strong for another quarter slightly increasing to 2.1 from 1.98 in the first quarter. This rating increase is largely procedural resulting from the payoff of our $65 million one rated loan to Brilliant Earth.

The loan was replaced with new transactions all of which are initially booked with an internal credit rating of two. As a reminder, our risk rating system is based on a scale of one to five and where one represents the most favorable credit rating. We're pleased to partner with these new portfolio companies and believe our credit quality remains strong. At quarter end, we had only one portfolio company rated five and on non-accrual status.

We attribute this to the strategic partnerships we form with portfolio companies as well as the patience and skill we exercise to create optimal outcomes for ourselves along with our borrowers. If one of our companies goes on non-accrual status, we evaluate ways we can work with management to bring it back to a performing loan while best protecting our interests as the lender. As we mentioned in our last call, that's exactly what we did with Mojix, the company was on non-accrual in 2021 went off in the first quarter of 2022 and repaid its loan in full in the second quarter.

As someone who holds both the CFO and COO titles this is a story worth repeating because it truly shows how our credit first philosophy is present at the time of underwriting a deal through the complete repayment of a loan.

At the end of second quarter, our total investment portfolio excluding US treasury bills had a fair value of approximately $807.7 million compared to $754.3 million at the end of first quarter and $587.6 million for the prior year period. This represents a sequential increase of approximately 7% and a year-over-year increase of 37%.

As of June 30, 2022 Runway Growth had net assets of $579.4 million, decreasing slightly from $597.5 million at the end of the first quarter. NAV per share was $14.14 at the end of the quarter compared to $14.45 at the end of the first quarter. NAV per share was impacted primarily by the decline in fair value of our loan to Pivot3 and public equity holdings of Brilliant Earth common stock which were partially offset by strong net investment income.

From a spread perspective, we continue to see a stable environment attributable to our focus on late and growth stage companies with sound fundamentals. Separately since inflation pressures and rising interest rates remain top of mind, we want to remind everyone our loan portfolio is comprised of 100% floating rate assets.

In the second quarter, we received $86.8 million in prepayments inclusive of interest fees and proceeds from the exercise and sale of warrants. This compares to $8.4 million in the first quarter of 2022. The increase in prepayments this quarter was primarily attributed to Brilliant Earth, we expect prepayments to remain lower on average for the remainder of 2022 due to reduced exit opportunities including M&A and less aggressive refinancing markets.

That said, our portfolio is comprised of high-quality companies that may be attractive acquisition candidates in any environment which makes it difficult to predict future prepayments. In the second quarter, we generated total investment income of $25.2 million and net investment income of $14.5 million compared to $18.7 million and $11.3 million in the second quarter 2021. This increase was largely due to the recognition of deferred revenue as a result of Mojix coming off of nonaccrual and prepaying. Our debt portfolio generated a dollar weighted average annualized yield of 15.1% for the second quarter 2022 as compared to 15.3% for the second quarter 2021.

Moving to our expenses. For the second quarter total operating expenses were $10.7 million increasing from $7.4 million for the second quarter 2021, driven by an increase in management fees, incentive fees, interest expense, as well as expenses related to being a public company.

Our performance-based incentive fee was $3.6 million for the quarter compared to $2.8 million for the second quarter of 2021. Our base management fee was $2.9 million up from $2.3 million in the second quarter of 2021 due to the increase in the average size of our portfolio.

Runway had a net realized gain of $0.9 million for the second quarter, which compares to net realized loss of $4.6 million for the second quarter 2021. We recorded net unrealized depreciation of $16.2 million in the second quarter, largely due to the decline in fair value of our loan to Pivot3 and public holdings of Brilliant Earth common stock.

Weighted average interest expense was 4.1% at the end of the second quarter increasing from 3.9% during the first quarter 2022. End-of-period leverage was 40.2% and asset coverage was 349% as compared to 26.1% and 483% respectively at the end of first quarter 2022.

As mentioned earlier, all investments in the second quarter were funded with proceeds from our revolving credit facility, as part of our strategy to generate prudent portfolio growth with leverage. We recently executed an underwritten public offering of $70 million aggregate principal amount of notes due 2027. The full over-allotment option was exercised to bringing gross proceeds to $80.5 million.

Turning to our liquidity. At June 30, 2022 our total available liquidity was $123.8 million, including unrestricted cash and cash equivalents and borrowing capacity of $117 million under our credit facility all subject to existing terms and conditions. This compares to $132.5 million and $129 million respectively on March 31, 2022. The net proceeds of approximately $78 million from our inaugural baby bond offering were used to repay our revolving credit facility, further enhancing our liquidity position since end of Q2.

We anticipate reaching our core leverage target for the portfolio which is between 0.8 and 1.1 times by the first quarter of 2023.

Before considering prepayments, we have the ability to grow our portfolio by approximately $400 million without exceeding our core leverage targets and returning to the equity markets. We also believe our strong portfolio quality would allow us to exceed our upper leverage target for periods of time, providing us flexibility on timing of any return to the equity market.

Earlier this year, our Board of Directors approved a stock repurchase program to acquire up to $25 million of Runway gross common stock. The program expires on February 23rd 2023. Runway Growth continued to use the program during the quarter.

Finally, on July 28 2022 our Board declared a dividend distribution for the third quarter of 2022 of $0.33 per share a 10% increase from our second quarter dividend of $0.30 per share and our third consecutive quarterly dividend increase. As we continue to originate high-quality loans, we expect our strategic deployment of leverage to drive portfolio growth and expand ROE.

This concludes our prepared remarks. We'll now open the line for questions, Operator?

Question-and-Answer Session


[Operator Instructions] Our first question comes from the line of Mickey Schleien from Ladenburg.

Mickey Schleien

David in the conventional BDC space, we've seen that the market volatility is resulting in more attractive deal terms both in terms of spreads, and documentation, and multiples. Is that also the case in your market? And if it isn't, how would you characterize those trends?

David Spreng

Yeah, Mickey it's a great question. And I would say, we're at the early stages of starting to see more let's call it investor-friendly terms, lender-friendly terms, the dislocation in the public markets moved into venture equity.

And we still haven't fully seen at least in the public numbers from Pitchbook and Crunchbase what we think is coming in terms of a pretty dramatic impact on valuations. There's a lot of challenging discussions happening behind the scenes. And venture equity fundraising is very difficult.

And more-and-more of those companies are coming to venture debt lenders. But the venture debt lending sector remains very competitive. I think you will start to see a little bit better interest rates. Clearly rates are rising but spreads will probably widen a touch.

I think we'll also start to see, a little bit more generous warrant coverage. And potentially and hopefully, better covenant packages, but we're really making still at the early stages of it. And we expect the conditions from our point of view to improve throughout the year.

Mickey Schleien

That's interesting and helpful. I appreciate it. My next question maybe is for Tom. I think I heard you say there was an accrual of previously unrecognized interest income on Mojix. If that -- if I'm correct could you quantify that for us?

Tom Raterman

Yes. There was at the end of Q1 there was $3.2 million in deferred revenue that was accrued while that was recorded when Mojix was on non-accrual when it came off of non-accrual combined with the exit we recognized that deferred revenue of $3.2 million.

Mickey Schleien

Okay. I understand. I appreciate. That's it for me this evening. I appreciate your time. Thank you.

Tom Raterman

Yeah. Thanks, Mickey.


Thank you. [Operator Instructions] Our next question comes from the line of Melissa Wedel from JPMorgan.

Melissa Wedel

Thanks for taking my questions this afternoon. I appreciate you touching on the expected pace of repayments into the back half of this year. I think by virtue of reaching -- exciting to reach your target leverage range in the first quarter of next year.

We might be able to back into sort of what that means for your expectations on capital deployment. It seems like 2Q was really productive. And just wondering if you think that was sort of an outlier or if that's sort of the new pace that you might be setting particularly with the new team members.

David Spreng

Well, so Melissa it's a great point that we do have now a significantly expanded origination team with Brad joining us in Silicon Valley, Ted in Boston, Jeff in Chicago and Brandon in Dallas. So we do expect that they will have an impact in terms of increased deal flow.

But even before that, our deal flow has really never been stronger in terms of quantity and quality. So for all the reasons, that we mentioned in terms of venture-backed companies, looking to avoid raising equity at this point in time. Anybody who was planning to raise equity capital or sell their company in 2022 are probably thinking about ways that they can avoid doing a price from.

That's not true for everybody. Of course there are fantastic companies that can much name their terms in any market. But for the vast majority of the 30,000 venture-backed companies out there they're looking to avoid it. And so the market is really moving towards us. So all of those things lead us to have a high level of confidence in our origination capability for the remainder of the year.

It's fair to remind you all you know but the Q3 is usually quite seasonable and typically the lowest quarter for the year. But looking at our funnel right now we feel good about what we've said in the past and our ability to originate an even higher quality of loans. And as you know we strive to be latest stage lower, lowest risk largest company and more and more of those types of high-quality borrowers are coming to us.

Melissa Wedel

Thanks, David. That's helpful. If I could follow-up with a question on the funding side of things. Obviously, you have the baby bond issuance earlier not long ago. As you continue to scale and ramp the leverage in the portfolio, can you help us think about how you're viewing funding that growth and sort of your target funding mix between revolvers and unsecured notes? Thank you.

Tom Raterman

Yes. Thanks, Melissa. We over time are going to use both unsecured and the secured markets. We've done two unsecured offerings, the 4.25% note offering last November and then just completed a baby bond offering. As those markets open up and are attractive, we'll continue to use those. At the same time, we're also in the process of the – evaluating the expansion of the accordion or drawing down on the accordion our revolver, which would take us up to $500 million. So we have market interest in that and we'll continue to do that.

I wouldn't say that $500 million and $150 million is the mix that we're committed to over time. We'll probably tap into the unsecured at some point. Further, we also think that with the quality of our portfolio and even though we won't be in our target, the low end of our target range till first quarter of 2023, that target, that high-end range of 1.1 is pretty conservative relative to the quality of the portfolio and relative to many of our peers. And for certain periods of time we would feel comfortable exceeding that, so that we could look at a more opportune or the most opportune time if you will to reenter the equity markets but there's no plan to enter the equity markets at this point.

I might also add that thinking about production and liquidity, we do have $274 million in unfunded commitments. We – that it first could seem like a big number but we take a very disciplined and sophisticated approach loan structuring and we're rigorous. And so while that might appear to be a big headline number and some borrowers like a big headline number. We don't take that approach. We right size our commitments for the business needs and credit quality and supportable enterprise value.

But at any given point in time, probably 25% to 30% of those unfunded commitments are truly available because of the milestones. And then they obviously have to be drawn before the end of the interest-only period, which on a weighted average basis for that for the remaining portfolio is about 21 months. So there is a strong base to add to that productivity that our origination team will bring. And so kind of slow and steady wins the race to portfolio growth and that leverage target.


[Operator Instructions] I would now like to turn the conference back to David Spreng for closing remarks.

David Spreng

Thank you, operator and thank you all for joining us today and for your support of Runway Growth. We hope everyone stays safe and healthy, and look forward to updating you again on our third quarter results in November.


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

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