Good morning, ladies and gentlemen. Thank you for standing by. Welcome to Saratoga Investment Corps’ 2025 Fiscal Second Quarter Financial Results Conference Call. Please note that today's call is being recorded. During today's presentation, all parties will be in listen-only mode. Following management preparing marks we will open the line for questions. At this time I'd like to turn the call over to Saratoga Investment Corp Chief Financial and Chief Compliance Officer, Mr. Henri Steenkamp. Please go ahead.

Thank you. I would like to welcome everyone to Saratoga Investment Corp's 2025 fiscal second quarter earnings conference call. Today's conference call includes forward-looking statements and projections. We ask you to refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these forward-looking statements and projections. We do not undertake to update our forward-looking statements unless required to do so by law. Today we will be referencing a presentation during our call. You can find our fiscal second quarter 2025 shareholder presentation in the events and presentations section of our investor relations website. A link to our IR page is in the earnings press release distributed last night. A replay of this conference call will also be available. Please refer to our earnings press release for details. I would now like to turn the call over to our Chairman and Chief Executive Officer, Christian Oberbeck, who will be making a few introductory remarks.

Thank you, Henri, and welcome, everyone. Saratoga Investment Corp highlights this quarter include the successful full repayment and resolution of our Noland investment, the last of our four non-accrual or watchlist investments in our portfolio resolved this past year. A return to increasing NAV per share and continued substantial over earning of our record level of dividends. Our annualized second quarter dividend of $0.74 per share implies a 12.7% dividend yield based on the stock price of $23.26 per share on October 7, 2024. The substantial over earning of the dividends this quarter continue to support the current levels of dividends, increases NAV, supports increased portfolio growth, and provides a cushion against adverse events. And while short-term interest rates have decreased from their highs, this quarter's earnings continue to benefit from elevated levels of rates and spreads on Saratoga Investments' largely floating rate assets, while costs of long-term balance sheet liabilities are largely fixed, but callable either now or in the future. Our ongoing development of sponsor relationships continues to create attractive investment opportunities from high quality sponsors, despite the recent constrained general volume of M&A. We appear to be seeing the early stages of a potential increase in M&A in the lower middle market reflected in multiple repayments over the past few months. In addition to significant new originations, including importantly, two new portfolio investments close subsequent to quarter end. We believe Saratoga continues to be favorably situated for potential future economic opportunities, as well as challenges. At the foundation of our strong operating performance is the high quality nature, resilience, and balance of our $1.04 billion portfolio in the current environment. Where we have encountered challenges in four of our portfolio companies over the past year, we have taken decisive action. The Zollege restructuring was completed last quarter,…

Thank you, Chris. Slide five highlights our key performance metrics for the fiscal second quarter, ended August 31, 2024, most of which Chris already highlighted. Of note, the weighted average common shares outstanding in Q1 and Q2 of this year were 13.7 million shares, increasing from 12.2 million last year. Adjusted NII increased this quarter, up 38.3% from last year and up 26.9% from last quarter. This quarter's investment income increases were primarily due to the reversal of the Noland interest reserve of $7.9 million that was previously on non-accrual status following the investment's full repayment subsequent to quarter end, including accrued interest. Investment income reflects a weighted average interest rate of 12.6%, consistent with last quarter and last year, and does not yet reflect the future impact of declining rates. The increases in investment income were primarily offset by first increased interest expense resulting from the various new notes and SBA debentures issued during the past year and two increased incentive management fees from higher AUM and earnings. Total expenses for the second fiscal quarter excluding interest and debt financing expenses, base management fees and incentive fees, and income and excise taxes increased $0.1 million to $2.2 million, as compared to $2.1 million last year and decreased $0.7 million from $2.9 million last quarter. This represented 0.7% of average total assets on an annualized basis, unchanged from last year and down from 1.0% last quarter. Also, we have again added the KPI slides 26 through 29 in the appendix at the end of the presentation that shows our income statement and balance sheet metrics for the past nine quarters and the upward trends we have maintained, including a 37% increase in net interest margin over the past year. Moving on to slide six, NAV was $372.1 million as of…

Thank you, Henri. Today I will focus on our perspective on the changes in the market since we last spoke with everyone and then comment on our current portfolio performance and investment strategy. While broader middle market deal volumes are showing signs of improvement, deal activity in the lower middle market where we operate has yet to pick up. Year-to-date deal volumes through calendar Q3 for transactions below $150 million are down significantly over prior year and down further still over 2021 and 2022. We believe a number of factors are influencing the decline in lower middle market deal activity, including a disconnect between where buyers and sellers are willing to transact, elevated interest rates making debt financing more expensive, and a trend toward PE firms holding onto assets longer in order to meet their return expectations. The combination of historically low M&A volume and an abundant supply of capital is causing spreads to tighten and leverage to remain full as lenders compete to win deals, especially premium ones. As a result, we're anticipating further payoffs like we saw this quarter, in some cases due to lenders offering extremely aggressive pricing on some of our low leverage assets. This historically low deal volume we're experiencing has positive and less positive elements. On the positive side, we've been experiencing fewer payoffs, and our follow-on deal activity alone has outpaced our repayments over the past 12 months. On the less positive side, lower market activity has made it more difficult to find quality new platform investments than in prior periods. Now that said, the relationships and overall presence we've built in the marketplace, combined with our ongoing business development initiatives, give us confidence in our ability to achieve healthy portfolio growth in a manner that we expect to be accretive to our…

Thank you, Mike. As outlined on slide 18, our latest dividend of $0.74 per share for the quarter ended August 31, 2024 was paid on September 26, 2024. Though unchanged from the last quarter, this reflects a 4% and a 37% increase over the past one and two years, respectively. The board of directors will continue to evaluate the dividend level on at least a quarterly basis, considering both company and general economic factors, including the current interest rate environment's impact on our earnings. As the Fed has begun to cut interest rates and the pace at which further cuts will come is still unclear, Saratoga's Q2 over earning of its dividend has a deleveraging effect by building NAV, providing a cushion against adverse events and potential future base rate declines. Moving to slide 19, our total return over the last 12 months, which includes both capital appreciation and dividends, has generated total returns of 2%. Uncharacteristically low and underperforming the BDC index of 15% for the same period. Our long-term performance is outlined on our next slide, 20. Our five-year return places us almost in line with the BDC index, while our three-year performance is now slightly below the index, reflecting the impact of the recent, latest 12-months performance and discrete credit issues. Since [Saratoga] (ph) took over the management of the BDC in 2010, our total return has been 699% versus the industry's 274%. On slide 21, you can further see our performance placed in the context of the broader industry and specific to certain key performance metrics. We continue to focus on our long-term metrics such as return on equity, NAV per share, NAI yield, and dividend growth and coverage, all of which are positive and reflect the growing value our shareholders are receiving. The lagging return…

Thank you. At this time, we will conduct the question-and-answer session. [Operator Instructions] Our first question comes from a line of Erik Zwick of Lucid Capital Markets. Your line is now open.

Thank you. Good morning, everyone. I wanted to start first just on some of the commentary you gave about the, I guess kind of the market in the most recent quarter, the investments that would have been, you know, kind of new investments for the platform that you reviewed that did not meet your characteristics. I wonder if you could just add a little bit more color there. Where were they coming up short? Were there any common characteristics or more just kind of one-off issues with each of the individual credits that you reviewed and decided to pass on?

Yes, this is Mike. To answer your question directly, there are more unique to the individual credits. I recall a couple of them had customer concentration, for example, that was above what we were comfortable with. Each of them had their own unique elements to them, but ones that we didn't feel like were suitable for our investment bar.

Thanks, Mike. I appreciate that there. And then kind of moving on to the sensitivity of the portfolio and the balance sheet to interest rates. We've obviously got 50 basis points of cuts from the Fed funds that aren't built so far. Market's predicting more over coming quarters. Henri, I know you may have given some commentary in terms of the amount of debt that you have that's callable that could be refinanced, but I guess as the balance sheet stands today, how would you quantify the impact to NII from, say, each 25 basis point reduction in short-term rates and base rates?

Yes, so Eric, we…

Go ahead, Henri.

So Eric, so actually have a table in our MD&A in the market risk section so you can see there the sensitivity. Every 25 basis points is about $0.03 on a quarterly basis. And that obviously is just a very static perspective, looking at it exactly as it is right now. It doesn't factor in any other variables, like you said, the ability to refinance some of our debt. That's definitely probably 100 basis points lower than what our current 8.5 and 8 percenters are and then obviously any actions that we take on utilizing some of our cash and originating new deal opportunities that might provide, that might be out there.

Great. That's helpful. And I guess just a follow-up on that, trying to think about worst-case scenarios. If we went into a period where maybe we did go into a hard landing recession, and the debt markets made it a little bit harder to refinance, some of those notes that are callable, I guess you feel confident kind of giving your cash position that you'd be able to manage through for a quarter or two before you have the maybe opportunity to refinance again and not have the dividend be at risk? Is that a fair assessment?

Yes, I think Erik, one of the things to always consider with regards to rate increases or decreases is that they don't occur immediately, right? So we have assets that either reset monthly or reset quarterly. So you could have situations where you know the Fed changes rates by 25 basis points, but that only flows through three months later depending upon the timing of our AUM and so you know the effect is not immediate. It obviously does impact us after a period of time, but you know at this point in time you know we still think we're over earning the dividend quite significantly at the moment.

And then just last one looking at the amount of pick interest in the most recent quarter it was up quarter-over-quarter. I guess anything that was non-recurring there or is that a decent rate going forward looking into the third quarter?

No, actually, Eric, it's a good question. Most of that is non-recurring because most of what you see there, actually the whole increase you see quarter-over-quarter is related to our Noland investment, because a portion of that one-off interest reserve that was released was pick-related and then the rest was cash.

Okay, great, that's helpful. So kind of going back to the run rate prior to this would be a better way to end it.

At this point in time, yes.

Great, thanks for taking my questions, sir.

Thank you. [Operator Instructions] Our next question comes from Robert Dodd from Raymond James. Your line is now open.

Hi guys. On the pipeline and the market, going back to Erik's question, I mean, Mike on slide 15, we can see that the biggest decline year-over-year for first three quarters, calendar quarters is ‘24, is in term sheets issued, right? I mean you self-sourced a lot of deals, that's only down 13%, the term sheets were down 16%. And you mentioned unique issues, and it mentions on the slide, based on credit quality. But is, term sheet issuance relatively early in the process? So is that kind of what you're talking about on the customer concentration and things you're seeing early or are some of the other issues unlike, you know, the ask is too much on leverage or what is it that's tripping these things up earlier in the process rather than after deeper due diligence?

Yes, it's a good question. I mean, one thing, it's hard for me to compare exactly how we -- how our processes matches up vis-a-vis other firms. But I would say generally, we are more careful to do a lot of diligence on the front end, more so than others we've seen anyways, before we issue a term sheet. And the reason being that we win a lot of deals, because people feel like if we issue a term sheet and we tell them that look, there’s a -- we really like this deal, we've done a lot of work on it. There are a couple things that we're narrowing in on that are kind of going to be the remaining gating items. But it's an approach that we take that gives our relationships greater certainty of execution and we often win deals that way. So I think the way we approach it, vis-a-vis some of our competitors, is that we're careful. We don't just throw term sheets out almost as a marketing set in the process. So that might differentiate us versus other people. But to answer your question more directly, in the cases where we were not issuing a term sheet, it was because we did a fair amount of diligence and we could see elements of the credit that didn't make us comfortable issuing an official term sheet.

Got it, thank you. Appreciate the color. On congratulations on the recovery on Noland and obviously Netreo not that long ago, where you got everything back. What's your level of optimism on Zollege and Pepper Palace, which are obviously much earlier in the process, because they've only just been restructured, in terms of the potential for getting all that, a meaningfully higher recovery than the current fair value? And then kind of like time frame, I mean is that like 18 months if it happens or are we three to five years? Any color there?

Yes, I wish I had a crystal ball on that. I mean, it’s -- I certainly commend you for asking the question. Here's the way I'd think about it. First of all, just context. I would say that, you know, our DNA is a lot different than many of our competitors. So I would say that some of our competitors probably would just would not have had the chops to try to get to where we've gotten in those deals. It took an awful lot of resources, manpower, and just I think experience to be able to negotiate the change of control, find really good managers to come in and operate these businesses. And then also structured deals with them where they were investing new capital alongside us in a way where we feel like we've got a terrific alignment of interest with the new management teams. And we think we've got the right people, the very best people to try to recapture value for our shareholders. Now, having said that, there were challenges that these businesses were facing, clearly, to get to the point that they did. At the same time, there's elements of what we originally liked in the businesses that are intact as well. And so the management teams in both of those cases are charged with and are making some progress, but it's early, to try to get those companies back on track and capitalize on the elements of those businesses that we think are really strong. But they are projects, no doubt. And it's probably going to take some time. I wouldn't want to oversell that.

Got it, thank you. One more if I could. On the dividend not the spillover, if I remember, I mean, at the beginning of the year, I looked in the [Technical Difficulty], right? I mean, undistributed income was $46 million, I think, if that's right. So that was almost $2 a share. You've obviously over-earned since then. So can you give us any perspective on how much undistributed spillover balance you have currently? Because obviously that colors on how long, even if rates go down a lot, the dividend can be sustained?

Yes, no, sure. So the way spillover works, Robert, is your dividends post the year-end count towards the prior year spillover, right? So all the dividends we've paid since February has counted towards that $45 million that you've been talking about. So that's good covering the spillover obviously from a RIC perspective. At the same time, from March 1, then our new earnings is like building up a new spillover for the current year. And so the way we think of it is, and to your point about how much spillover is there that would need to be paid out at some point and could be thought about in the context of a dividend is we probably have over $3 per share currently of spillover that's been built up again that you know would have to be paid out at some point and obviously it's part of what we think about is we also think about the dividend and declining interest rates.

Got it. Thank you.

Thank you. [Operator Instructions] Next question comes from the line of Mickey Schleien of Ladenburg Thalmann. Your line is now open.

Yes, good morning, everyone. Hope all is well. Mike, wanted to get your perspective on how you anticipate the potential reduction in base rates that a forward curve implies will impact lower middle market M&A volumes over the next several quarters?

That's really a tough question to answer. I mean, I would say this, that there are signs that the larger middle market, the kind of standard middle market is showing some signs of recovery. Historically, we've seen that the lower middle market lags that. Right now, if you look at lower middle market deal activity and you go back even pre-pandemic times, they're really all-time lows. And it's for some of the reasons that I outlined in my prepared remarks. All else equal, typically, with interest rates coming down, the cost of debt capital coming down, generally has a positive influence on deal activity. So one would think that, that might help spur an increase in deal activity. The one thing that I do know is that at some point, there will be a change in the amount of deals that we see in the lower middle market. It's the end of the market that's populated with the most businesses by far in our economy. And at some point, people will transact for a lot of reasons that are driving that. For businesses that are owned by baby boomers, there are a lot of reasons why they're sellers at the right price at the right time. And there are PE funds that are holding on to assets longer than they have historically and ultimately those assets will trade. And given all the investments that we've made in getting our name into the marketplace and really the presence that we've built in the marketplace, we're very confident in the long run that as that market comes back, our deal activity and our opportunity to deploy capital and new platforms will grow and it will outpace our payoffs as it has historically.

Thanks for that, Mike, that's helpful. And you talked a little bit about the broader markets and I did notice that Saratoga decided not to reset the CLOs liabilities. And I'm curious why you decided not to do that? And what are your expectations for how the portfolio or that portfolio will run off now that it's outside of its reinvestment period?

Mickey, I think that's you know obviously a very important part of one of our investments and a good question. A couple of things are going on. On the liability side of the CLO world, there's been tremendous demand and a lot of CLOs have been raised and reset and we explored that. On the asset side, the supply of new because of the birth of M&A, the supply of new assets is sort of not in the same sequence, right? So there's not as many primary originated, broadly syndicated loans as there is demand from a lot of the financing of the CLOs and so given the dynamics of the you know of the marketplace at that time and then currently we thought we would basically refinance part of the liability structure to take advantage of the improved rates on the liability side, but not necessarily reset the entire CLO, which also would have required a new level of equity investment in this area at this moment in time. We have a short non-call period on that. And so we are prepared and ready should the market improve and we find it attractive to sort of reset the CLO for further investment. We're prepared and ready to do that. But in the meantime, we're operating more in sort of a runoff mode in that particular CLO.

And Chris, given, first of all, I completely agree with you. I mean, the spread compression in the more liquid markets has been severe. Do your comments also impact your view on the senior loan fund and your willingness to continue to grow that fund?

Again, it's a -- I guess, I hate to say it depends, but it depends. I mean, there's just a lot of dislocations in the marketplace and just the absence of M&A activity and the absence of primary product has just created the spread compression you referenced. And so when does that abate? When does that change? I mean, it will change at some point, but it just hasn't. And so, we're poised and ready, and we obviously have many years’ experience in this marketplace. And so, our view right now is not to make incremental equity investments into this space, take advantage as best we can of improvements on the liability and the financing structure of it. And then when things change, I think we're ready to step up should that be what's warranted or continue our current sort of current stance.

I understand. Thanks for that, Chris. And in terms of capital at the BDC, obviously the stock is trading at a discount to NAV, not as much today, but still at a discount. Given your liquidity, it would seem that repurchasing your stock would be one of the best uses of capital. Why haven't you done that in the last couple of quarters?

Well I guess there's you know a lot of considerations. There's short-term considerations which is the stock trading below NAV and the opportunity to buy our own portfolio, which is obviously in our view, we're very happy with our portfolio. And so that is attractive. On the other side, we do have leverage issues and acquiring equity would sort of increase leverage and the question is, is that the right thing to do to increase our leverage in this context even though it is for an attractive investment? And then the other side is that, you know, we've had this part of the reason we have to build up in cash and we have a tremendous amount of financing over $350 million we could grow our portfolio with. So we have a tremendous opportunity on the asset deployment side. There's just been a real slowdown in M&A and everybody's experiencing it, but that could change and it might change. And we want to make sure that in the long run, right? I mean, though it was like in this six month period or something, it might have made more sense to repurchase the stock, but if the M&A market opens up next year, we're able to deploy this capital, we're able to build new relationships and set the stage for substantial long-term growth, we think it's important to have the liquidity for that, both offensively, which is, should things open up and the deal business gets a lot more robust, but also defensively. I mean, if you have economic problems out there, having cash can be important on the other side in terms of companies needing to refinance and having a more attractive refinancing situation. So as of right now, do we have more cash and more investment capacity than we have had in the past? Yes, and the question is, what do we do with it? And I think at the moment, we think it's very prudent to maintain, you know, sort of the stance of being, you know, structured and prepared for, you know, incremental asset growth to take our assets up, you know, by another several $100 million, you know, thoughtfully and carefully. And you know, sometimes, and we've had periods of time where we can do that quickly, and then there's periods of time where it takes longer. But we think that in the long run is the most important place to use of our capital is growth and improving our earnings and improving our NAV per share.

I understand, Chris. Thank you for that. And in terms of liquidity, just to follow-up on the undistributed taxable income question. It is over $3, which is a lot $3 per share, which is a lot, and Henri talked about it a little bit. Could you perhaps give us a little more insight in terms of what timing we can expect for the board to take a decision on that UTI? And is a deemed distribution part of the calculus?

Again, we haven't fully determined exactly how we're going to do that. A deemed distribution, you're talking about an in-kind? Is that your question?

Yes, yes.

Look, obviously, an in-kind is an option that the industry has to do. I mean, I think there's a fair amount of complication and cycles and you'd have to figure out how large your distribution was relative to all of that. I think that the magnitude of our distribution that may or may not be required has not been finally determined. But I think that's something that's probably will be more revealing in the next quarter on precisely what that calculation is. But it's not going to be a very substantial number, and we don't believe at this time that a deemed distribution is appropriate.

I understand. And my last question, and also a follow-up on the asset sensitivity question. That market risk table that Henri alluded to shows that adjusted NII per share would decline about $0.25 per quarter with a 200 basis point decrease in interest rates, which is sort of in line with the forward curve and where base rates were at the end of your most recent quarter and that would result in NII below the current dividend? So can you just review what tactics you plan to pursue to avoid that situation?

Sure, I guess a couple of comments there. Not to wave anything off, but I think the forward curve has not been that accurate over the last bunch of years. And…

Agreed, agreed.

And the exact course of interest rates, there's been a prediction of the decline for a long time that has not occurred. And we're not going to say it's not, we're not saying it's not going to occur, we're just saying the history is not that great in terms of those predictions. I think the economy is still strong and working. So the question is why and when would you have such a drastic cut in interest rates and would you have that in a robust economy or not? So there's still a question what that will happen. Your question though is tactics, right? And so essentially this is one dimension, right? Okay, interest rates go down 200 basis points and you look at our last quarter, what would that do? And then you have the calculation, right? But the question is, if that were to happen, there's so many other dynamics that need to be taken, they need to be -- if you're running a model, right? You have to assume different things. And the question is, do we deploy more capital, right? I mean, we have capital to deploy, what does something like that do to the refinancing marketplace? Maybe there's a bunch of new deals that come down that get refinanced and we can deploy our cash, which is the first most incremental investment we have, and then we could some of our SBIC capital. So asset deployment is one of the mitigants. I'm not going to say that's a tactic because we're not going to deploy the capital unless we find the deals that we find attractive. But in that type of environment, there may be some very attractive investments coming. I think Henri's discussed in the past that all of our baby bonds are callable. We do have floating rate instruments, and we can restructure some of our debt. We could call some of our fixed rate longer term debt, and we could replace that with more of the sort of variable lower spread, cheaper debt that's out there. And so we have a lot of factors at our disposal should that happen. And so I don't think, and then the other thing that Henri mentioned is there's all sorts of lags. In other words, some of this stuff won't take place. Even if that cuts were placed, it wouldn't take place all at once, right? That would probably, you know, because of lags and because of adjustments and things like that, there's probably, you know, six to 12 months of adjustment before the full impact of that would hit us. And during that period of time, we would have time to do some of these tactical things. The liability side is, as we discussed, is a certain, there's a lot of targets there should we want to decrease our cost of funding and then the deployment. So I think those are the main things that we would be focusing on.

Yes, the cost of funding shouldn't be understated, right?

Yes.

Because the 25 basis points are very static perspective. It just views our debt structure as fixed effectively. And we structured our debt portfolio very purposefully the way we did. We think the call options have always had immense value, especially in a declining rate environment. And so we already know from what we're being advised by various banks that our baby bonds is 100 basis points plus cheaper than what it is currently now. So there's already sort of a built-in value there at the right time. And history has suggested that as baby bond rates and private insurance market rates move down as the Fed cuts that hopefully our cost of financing will move with that. So that would have a meaningful impact to that $0.25 you referenced and we'd obviously act on that in the right time and the right place when it makes sense, you know?

I understand and I agree. That's it for me this morning. I appreciate your time as always.

Thanks, Mickey.

Thank you, Mickey.

Thank you. I'm showing no further questions at this time. I'd like to turn it back to Christian Oberbeck for closing remarks.

Well, we want to thank everyone for their support and their following of our journey here at Saratoga. We appreciate all our shareholders and all our analyst coverage, and we look forward to speaking with you next quarter. Thank you.

Thank you for your participation in today's conference. This does concludes the program. You may now disconnect.