EPS of $0.31 decreased by 50.8% from previous year
Gross margin of 140.1%
Net income of 14.04M
"balance sheet liquidity at Capital Southwest is at an all-time high" - Bowen Diehl
Capital Southwest Corporation (CSWC) QQ1 2025 Results – Portfolio Strength, Dividend Sustainability, and Balance Sheet Resilience in the Lower Middle Market
Executive Summary
Capital Southwest Corporation (CSWC) delivered a solid QQ1 2025 performance anchored by strong net investment income (NII) and resilient portfolio metrics in a competitive lower middle-market environment. Pretax NII of $31.3 million, or $0.69 per share, comfortably covered the regular dividend of $0.57 and supplemental dividend of $0.06 in the quarter, reinforcing a prudent dividend policy aimed at sustainability in a rising-rate regime. The Board subsequently lifted the regular quarterly dividend by $0.01 to $0.58 for the September quarter, while maintaining a $0.06 supplemental payout, underscoring confidence in ongoing excess earnings and realized gains from the equity portfolio.
Key portfolio dynamics include 8 debt prepayments in the quarter (totaling $77.2 million) with a 12.6% weighted-average IRR on exits, and $108.1 million of new commitments across three new platform companies and 11 add-ons. Equity co-investments totaled $133 million across 69 investments, representing 9% of total fair value, with the equity portfolio marked at 134% of cost and $0.72 per share in embedded appreciation. The on-balance-sheet credit portfolio stood at $1.3 billion, up 20% YoY, with 98% of the portfolio first lien senior secured. Portfolio yield averaged 13.3% and leverage per security averaged 3.8x EBITDA. LTM operating leverage reached 1.8%, modestly below the BDC industry average of ~2.8%, reflecting the efficiency advantages of Capital Southwest’s internally managed model.
Liquidity remains a salient strength, with roughly $485 million of cash and undrawn leverage commitments across two credit facilities and SBA commitments, equating to about 3.1x unfunded commitments. The SPV credit facility was increased by $200 million in the June quarter, and the ING-led corporate facility remains a primary growth vehicle, with capacity to expand up to $750 million under an accordion feature. The company continues to balance disciplined leverage with the flexibility to fund accretive investments and opportunistic share repurchases should the stock trade meaningfully below NAV. Looking ahead, management signaled expectations for continued investment activity in a solid market backdrop, potential near-term prepayments, and ongoing execution of a multi-source capital plan including a MAC SBA license review with an end-2024/early-2025 timeline. Overall, CSWC remains well-positioned to grow NAV, sustain elevated dividend coverage, and expand its balance sheet while navigating a competitive, rate-sensitive market environment.
Revenue and Profitability
- Revenue: $36.254 million; YoY +19.74%; QoQ +15.10%
- Gross Profit: $50.786 million; YoY +72.17%; QoQ +98.43%
- Operating Income: $28.633 million; YoY +16.39%; QoQ +8.91%
- Net Income: $14.035 million; YoY -41.06%; QoQ +4.20%
- EPS (basic/diluted): $0.31; YoY -50.79%; QoQ +3.33%
- Pretax NII: $31.3 million; per-share $0.69; up from prior quarter
- Net Investment Income (after tax): $28.9 million; per-share $0.63
Portfolio and Asset Quality
- Equity co-investments: 69 investments, fair value $133 million (9% of total portfolio); equity marked at 134% of cost; embedded unrealized appreciation $0.72 per share
- Equity distributions over 12 months: $5.6 million, $0.13 per share pre-tax NII
- On-balance-sheet credit portfolio: $1.3 billion (YoY growth +20% vs. 6/30/2023); 100% new originations were first lien senior secured; 98% first lien senior secured as of quarter-end; weighted average exposure per company: 1%
- Portfolio yield: 13.3% (weighted); leverage per security: 3.8x EBITDA; quarterly revenue/EBITDA growth: +5% and +4% QoQ respectively
Liquidity and Capital Management
- Cash and undrawn commitments: ~$485 million; total cushion: 3.1x unfunded commitments (against $158 million unfunded commitments across portfolio)
- SPV credit facility: increased by $200 million to $200 million in the quarter
- ING-led corporate credit facility: full access to $460 million; potential expansion up to $750 million via accordion
- ATM equity program: raised over $38 million during the quarter at an average price of $25.60 per share (153% of NAV)
- NAV per share (end of quarter): $16.60, down $0.17 or 1% QoQ
- Leverage and capital structure: debt-to-equity ratio 0.75x; target leverage 0.80–0.95x; 49% of liabilities unsecured covenant-free bonds; cash at period-end: $33.3 million
- Balance sheet positioning: strong liquidity combined with conservative leverage supports ongoing origination and portfolio growth
Dividends and Coverage
- Regular dividend: $0.57 per share; supplemental dividend: $0.06 per share in the quarter
- Board-approved increase to regular dividend: $0.01 to $0.58 per share for the September quarter; supplemental dividend unchanged at $0.06; total declared for September quarter = $0.64 per share
- Dividend coverage: 122% for the twelve months ended 6/30/2024; 111% cumulative since January 2015 launch of the credit strategy
Valuation and Market Environment
- Portfolio diversification: 88.9% first lien senior secured; 9.1% equity co-investment; 1.9% second lien senior secured; 0.1% subordinated debt
- Debt service coverage ratio: 3.3x; enterprise value collateralization: ~44% of enterprise value financed by portfolio loans
Income Statement
Metric
Value
YoY Change
QoQ Change
Revenue
36.25M
19.74%
15.10%
Gross Profit
50.79M
72.17%
98.43%
Operating Income
28.63M
16.39%
8.91%
Net Income
14.04M
-41.06%
4.20%
EPS
0.31
-50.79%
3.33%
Key Financial Ratios
currentRatio
131.85
grossProfitMargin
140.1%
operatingProfitMargin
79%
netProfitMargin
38.7%
returnOnAssets
0.91%
returnOnEquity
1.81%
debtEquityRatio
0.95
operatingCashFlowPerShare
$0.68
freeCashFlowPerShare
$0.68
dividendPayoutRatio
210%
priceToBookRatio
1.54
priceEarningsRatio
21.29
Net Income vs. Revenue
Expense Breakdown
Management Commentary
Theme: Market Conditions and Balance Sheet Strategy
- Bowen Diehl: balance sheet liquidity at Capital Southwest is at an all-time high, underpinning ability to fund investment activity and support growth (Slide 19 commentary).
- Bowen Diehl: we have a tremendous nationwide network of field sources and remain disciplined in balancing leverage with liquidity to fund new platform companies and add-ons while maintaining the flexibility to opportunistically repurchase stock if the stock trades below NAV.
Theme: Investment Activity and Market Competition
- Josh Weinstein: 108.1 million of capital invested in portfolio companies this quarter; 3 new platform investments and 11 add-ons; 77.2 million in prepayments with a 12.6% weighted IRR; competition has increased in the lower middle market with spreads tightening, particularly for sponsor-backed opportunities.
- Michael Sarner: average yield on new platform investments was 7.5% over 24 months; more recently just south of 7%; overall blended returns remain robust as spreads are still attractive across the board.
Theme: Portfolio Quality and Characteristics
- Josh Weinstein: 69 PE-backed counterparties represented; equity co-investments mark at 134% of cost; 12-month cash distributions from equity portfolio of $5.6 million; on-balance-sheet credit portfolio ended at $1.3 billion, up 20% YoY; 98% first lien senior secured; weighted average portfolio yield 13.3%; weighted average leverage 3.8x EBITDA.
- Michael Sarner: focusing on maintaining strong dividend coverage and prudent leverage as the rate environment evolves; LTM operating leverage of 1.8% versus ~2.8% industry average indicates configuration advantages of internally managed BDCs.
Theme: Dividend and Growth Outlook
- Michael Sarner: increased regular dividend by $0.01 in the current quarter to support a higher baseline payout in a potentially volatile rate environment; long-term target to never cut the regular dividend in foreseeable rate scenarios; foundation for ongoing supplemental dividends supported by UTI balance and unrealized equity appreciation of $0.72 per share.
Theme: Risks and Watchlist
- Sean-Paul Adams (Raymond James): watchlist downgrades occurred to Level 3 and 4 for a few names; two equity-backed downgrades tied to private equity-driven turnarounds in pharma services; no new non-accruals this quarter; overall watchlist improved vs prior quarter.
- Bowen Diehl and Michael Sarner: covenants remain strong across new deals; competition leads to some pricing pressure; the lower middle market maintains tight covenants and robust security during originations.
balance sheet liquidity at Capital Southwest is at an all-time high
— Bowen Diehl
Staying unlevered at the moment, while we have significant liquidity is going to allow us to pick up investments as things kind of get difficult and choppy in the market, we'll be able to originate when others might be pulling back, and we'll be able to continue to lever up, also modestly, and improve earnings and therefore the dividend
— Michael Sarner
Forward Guidance
Management Commentary and Expected Path to Growth
- Investment Activity and Leverage: CSWC intends to continue growing the balance sheet through accretive new platform investments, growth capital, and add-ons, supported by a multi-source capital base including ATM equity, SPV facilities, and corporate credit facilities. The company expects near-term prepayments in the range of $20–$30 million for the coming quarter, with potential exits into mid-2025, which could provide additional sources of equity for reinvestment.
- Dividend Policy and Earnings Power: management emphasizes a dividend policy designed to be sustainable across different rate environments. A regular dividend increase was enacted (+$0.01 to $0.58 per share for the September quarter) with a $0.06 supplemental dividend, anchored by undistributed taxable income and gains realized from the equity portfolio. The company projects continued quarterly supplemental dividends driven by UTI balance and potential gains from equity investments (current unrealized appreciation of $0.72 per share).
- Liquidity and Capital Markets: liquidity is at an all-time high, with access to $460 million in the ING-led corporate facility and a $200 million SPV facility expansion; the company is actively pursuing additional commitments and considering continued unsecured debt issuance to optimize cost of capital. The anticipated MAC SBA license completion by year-end could further diversify funding sources and potentially improve long-term capital efficiency.
- Risk and Monitoring: CSWC expects market competition to persist, with spreads likely to fluctuate as rate expectations shift. The management team remains focused on disciplined risk management, maintaining covenants, portfolio diversification, and opportunistic repurchases when NAV discounts arise. Key factors investors should monitor include: credit quality of larger borrowers, pace of prepayments, changes in base rates and the timing of potential rate cuts, SPV facility utilization, share repurchase activity relative to NAV, and progress on the SBA MAC license.
- Overall View: The QQ1 2025 results underscore CSWC’s ability to grow earnings and maintain dividend coverage in a volatile backdrop, aided by a diversified, first-lien heavy credit portfolio, a strong equity co-investment program, and a resilient, multi-source liquidity framework. If financing conditions remain supportive and the equity portfolio continues to generate realized gains, CSWC should be able to sustain dividend growth and capitalize on accretive investment opportunities while maintaining conservative leverage.
Competitive Position
Company
Gross Margin
Operating Margin
Return on Equity
P/E Ratio
CSWC Focus
1.40%
79.00%
1.81%
21.29%
XFLT
0.00%
0.00%
0.00%
0.00%
CGBD
69.00%
1.10%
3.19%
6.99%
TSLX
73.80%
445.33%
3.00%
9.91%
HTGC
98.00%
83.70%
4.82%
7.88%
Gross Profit Margin
Operating Profit Margin
Return on Equity
P/E Ratio Comparison
Investment Outlook
CSWC’s QQ1 2025 performance demonstrates earnings power backed by a high-quality, first-lien secured portfolio and meaningful equity upside. The balance sheet remains exceptionally liquid with ample capacity to fund growth through multiple capital sources, while the leverage remains within a conservative range (0.75x debt-to-equity; target 0.80–0.95x). The dividend policy remains constructive, with a modest regular dividend increase and ongoing supplemental payouts underpinned by a healthy undistributed taxable income balance and equity appreciation. The near-term outlook hinges on continued deal flow from the lower middle market, management’s ability to maintain credit discipline amid tightening spreads, and successful execution of capital-raising initiatives (ATM, SPV facility, potential SBA license). Investors should monitor prepayment activity, watchlist performance, and the pace of NAV accretion via realized equity gains. Overall, CSWC presents a differentiated risk-adjusted opportunity with resilient cash flows, steady dividend coverage, and a robust liquidity runway, albeit with market- and sponsor-concentration risk that warrants ongoing diligence.
Key Investment Factors
Growth Potential
CSWC’s growth runway is anchored in expanding its balance sheet through accretive first-lien lending in the lower middle market, growing its equity co-investment portfolio, and leveraging multiple capital sources (ATM, SPV facility, and corporate credit facility). The expected SBA MAC license could broaden funding rails and potentially reduce funding costs, enhancing ROE and achievable dividend growth. The 3.1x unfunded commitments indicate ample dry powder for future deals, supported by a diversified portfolio (88.9% first lien; 9.1% equity co-investments).
Profitability Risk
Key risks include tightening spreads in sponsor-backed financings, dispersion of borrower credit quality in a rising rate environment, and potential prepayments compressing future yield. Competition could pressure leverage levels or covenants; external funding costs and macro rate trajectories could impact debt service coverage and earnings power. Watchlist downgrades, although modest, could signal idiosyncratic collateral risk, particularly among equity-backed credits.
Financial Position
CSWC maintains a strong liquidity position (approximately $485 million) with substantial undrawn capacity on SPV and ING facilities. The debt-to-equity ratio stands at 0.75x, with 49% of liabilities unsecured covenant-free bonds. NAV per share is $16.60, with ongoing accretion from equity issuances at a premium to NAV and $0.72 embedded equity appreciation per share. The company has a track record of dividend sustainability (122% NII coverage over the past 12 months) and a disciplined approach to leverage within a target range of 0.80–0.95x.
SWOT Analysis
Strengths
Diversified, first-lien heavy credit portfolio backed by private equity sponsors (~93%), reducing single-name risk
Strong dividend track record: regular dividend increased 29 times since 2015 with ample coverage
Robust liquidity and multiple financing sources (ATM, SPV, ING facility, SBA MAC license progress)
Equity co-investments provide upside participation and realized gains; embedded upside of $0.72 per share
Internally managed BDC model delivering fixed-cost leverage and scalable capital deployment
Weaknesses
Significant reliance on private equity sponsor ecosystem; higher equity cushion may be required for non-sponsored deals
Net interest income and distributions can be sensitive to rate volatility and prepayment activity
Portfolio-level downgrades, while limited, indicate risk in selective segments (e.g., pharma services)
Opportunities
Expansion into non-sponsored deals to diversify deal flow and reduce sponsor concentration
MAC SBA license completion could broaden funding capabilities and improve cost of capital
Equity ATM proceeds provide ongoing funding for growth without excessive leverage
Potential stock repurchases when trading meaningfully below NAV
Threats
Competitive market with tightened spreads on sponsor-backed deals and potential covenant competition
Macro rate volatility and possible reductions in base rates affecting earnings power and prepayments
Credit-cycle risk in lower middle market where a downturn could impact loan performance
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