SBIC & Commercial Finance industry is bearing the brunt of a low interest rate environment and subsequent rise in prepayments. These are likely to continue hurting the industry players’ profitability to some extent. However, regulatory changes and robust economic growth are expected to support the industry in the coming days. Also, stimulus packages have supported the firms in which these companies invest, thereby aiding credit quality. Hence, a few industry players like Golub Capital BDC, Inc. ( GBDC Quick Quote GBDC - Free Report) , Bain Capital Specialty Finance, Inc. ( BCSF Quick Quote BCSF - Free Report) and Newtek Business Services Corp. ( NEWT Quick Quote NEWT - Free Report) are likely to benefit from these favorable developments. About the Industry
The Zacks SBIC & Commercial Finance industry comprises companies that provide finance to small and mid-sized privately-held developing firms. These firms are typically underserved by traditional banks and other lenders. Additionally, firms suffering from financial distress are the primary target clients of these lenders. The industry players provide customized financing solutions ranging from senior-debt instruments to equity capital. This financing is provided for change of ownership transactions, strategic buyouts, recapitalizations, and growth initiatives in partnership with business owners, management teams as well as financial sponsors, among others. Some of the other products offered by the industry participants include mezzanine loans that typically pay high interest rates and could be converted into equity in the target firm.
3 Key Factors Shaping the Future of SBIC & Commercial Finance Industry
The Federal Reserve cut interest rates to near zero in March 2020 with an aim of supporting the U.S. economy from coronavirus-induced slowdown. In the June FOMC meeting, the central bank signaled no change in rates in the near term. Thus, this has resulted in reduced investment income, and is likely to hurt SBIC & Commercial Finance stocks’ top-line growth. Further, a spike in prepayments and refinancing is expected to hamper profitability to some extent. Low Rates Weigh on Performance:
Following the virus outbreak and subsequent halt in business activities last year, the majority of sectors wherein SBIC & Commercial Finance companies provide loans were hit hard. This raised fears of deterioration of asset quality for industry players. Yet, support from administration in the form of stimulus packages, extensive vaccination drive and re-opening of businesses continue to support solid economic growth. Thus, these are likely to prevent substantial rise in delinquency rates for industry players. Solid Asset Quality a Tailwind: In 2018, an amendment to the Investment Company Act of 1940 by the Small Business Credit Availability Act eased the leverage limits for such companies, allowing them to increase their debt-to-equity leverage to 2:1 from 1:1. This helped these companies to reduce portfolio risk by investing in higher capital structures without foregoing current returns. In other words, the act provided extra funding flexibility to these companies and will continue offering more growth opportunities. Regulatory Changes Offer Support: Zacks Industry Rank Indicates Dismal Prospects
The Zacks SBIC & Commercial Finance industry is a 31-stock group within the broader Zacks
Finance sector. The industry currently carries a Zacks Industry Rank #167, which places it at the bottom 34% of more than 250 Zacks industries. The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates underperformance in the near term. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1. The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of disappointing earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually losing confidence in this group’s bottom-line growth potential. Since February 2021-end, the industry’s earnings estimates for the current year have been revised almost 1% downward. Thus, despite near-term challenging prospects, we are presenting a few stocks that are well positioned to outperform the market based on a strong earnings outlook. Before that, let’s check out the industry’s recent stock market performance and valuation picture. Industry Underperforms Sector and S&P 500
The Zacks SBIC & Commercial Finance industry has underperformed both the S&P 500 composite and its own sector over the past two years.
While the stocks in this industry have collectively gained 1.2% over this period, the Zacks S&P 500 composite and Zacks Finance sector have soared 50.1% and 20.8%, respectively. Two-Year Price Performance
Industry's Current Valuation
One might get a good sense of the industry’s relative valuation by looking at its price-to-tangible book ratio (P/TBV), which is commonly used for valuing loan providers because of large variations in their earnings results from one quarter to the next.
The industry currently has a trailing 12-month P/TB of 1.00X. A highest level of 1.10X, lowest of 0.41X and a median of 0.97X has been recorded by the industry over the past five years. Additionally, the industry is trading at a significant discount compared with the market at large, as is evident from the trailing 12-month P/TB for the S&P 500 composite of 18.19X, as the chart below shows. Price-to-Tangible Book Ratio (TTM)
As finance stocks typically have a low P/TB ratio, comparing SBIC & commercial loan providers with the S&P 500 may not make sense to many investors. But a comparison of the group’s P/TB ratio with that of its broader sector ensures that the group is trading at a decent discount. The Zacks Finance sector’s trailing 12-month P/TB of 4.47X is way above the Zacks SBIC & Commercial Finance industry’s ratio, as the chart below shows.
Price-to-Tangible Book Ratio (TTM) 3 SBIC & Commercial Finance Stocks Worth Betting on
Golub Capital BDC: This Zacks Rank #2 (Buy) stock makes investments mainly in one stop (a loan that combines characteristics of traditional first lien senior secured loans and second lien or subordinated loans) and other senior secured loans of middle-market companies. Based in New York, the company invests roughly $10-$75 million of capital. Following the acquisition of Golub Capital Investment Corporation in September 2019, Golub Capital became the fifth largest externally managed, publicly traded business development company in the United States in terms of assets. The deal continues to support the company’s financials. As of Mar 31, 2021, Golub Capital had total investments (fair value) of $4.4 billion in 256 portfolio companies and NAV per share of $14.86. Also, the company pays regular quarterly distributions. Its shares have gained 10.8% so far this year. The Zacks Consensus Estimate for earnings has moved nearly 1% and 1.7% north to $1.18 for both fiscal 2021 and fiscal 2022, respectively, over the past 60 days. Price and Consensus: GBDC Bain Capital: Headquartered in Boston, MA, Bain Capital is a specialty finance company that primarily invests in middle-market companies (firms having annual earnings before interest, taxes, depreciation and amortization in the range of $10-$150 million). The company is managed by BCSF Advisors, LP, an SEC-registered investment adviser and a subsidiary of Bain Capital Credit, LP. As of Mar 31, 2021, it had total investments (fair value) of $2.3 billion and net asset value (NAV) of $16.69 per share. Shares of this Zacks Rank #2 company have rallied 25.6% in the year-to-date period. The Zacks Consensus Estimate for both 2021 and 2022 earnings has moved nearly 1% upward to $1.37 over the past 60 days. Price and Consensus: BCSF Newtek Business: Headquartered in Boca Raton, FL, the company provides a wide range of business and financial solutions to the small-and-medium sized business market under the Newtek brand. As of Mar 31, 2021, Newtek Business had total investments (fair value) worth $726.1 million and NAV of $16.28 per share. In March, the company revealed plans to announce dividend in the range of $3.00-$3.30 per share this year. It has already paid out dividend of $1.20 per share in first-half 2021. This represents a 20% hike from the dividend paid in the same period of the prior year. Shares of this Zacks Rank #2 company have jumped 78.7% so far this year. The Zacks Consensus Estimate for 2021 earnings has moved 20.5% north to $2.12 over the past 60 days. Likewise, the same for 2022 has been revised 1.8% upward to $1.12 over the past two months. Price and Consensus: NEWT
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