Q4 2023 Main Street Capital Corp Earnings Call
Participants
Zach Vaughan; IR; Dennard Lascar Investor Relations
Dwayne Hyzak; CEO; Main Street Capital Corporation
David Magdol; President and Chief Investment Officer; Main Street Capital Corporation
Jesse Morris; CFO and COO; Main Street Capital Corporation
Nick Meserve; Managing Director and Head of Private Credit Investment Group; Main Street Capital Corporation
Robert Dodd; Analyst; Raymond James
Bryce Rowe; Analyst; B. Riley
Mark Hughes; Analyst; Truist Securities
Eric Zwick; Analyst; Hovde Group
Presentation
Operator
So the no Greetings and welcome to the Mainstreet Capital Corporation fourth quarter earnings conference call. At this time, all participants are in a listen only mode and a brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded.
It is now my pleasure to introduce your host, Zach Vaughan with Dennard Lascar Investor Relations. Thank you, Mr. Vaughan, you may begin.
Zach Vaughan
Thank you, operator, and good morning, everyone. Thank you for joining us for Main Street Capital Corporation's Fourth Quarter 2023 earnings conference call. Joining me today with prepared comments are Dwayne Hyzak, Chief Executive Officer; David Magdol, President and Chief Investment Officer; and Jesse Morris, Chief Financial Officer and Chief Operating Officer. Also participating for the Q&A portion of the call is Nick Meserve, Managing Director and Head of Main Street's private credit investment group.
Main Street issued a press release yesterday afternoon that details the company's fourth quarter and full year financial and operating results. This document is available on the Investor Relations section of the Company's website at Main ST. Capital.com. A replay of today's call will be available beginning one hour after the completion of the call and will remain available until March first. Information on how to access the replay was included in yesterday's release. We also advise you that this conference call is being broadcast live through the Internet and can be accessed on the company's homepage. Please note that information reported on this call speaks only as of today, February 23rd, 2024. And therefore, you are advised that time-sensitive information may no longer be accurate at the time of any replay listening or transcript reading Today's call will contain forward looking statements. Many of these forward-looking statements can be identified by the use of words such as anticipates, believes, expects, intends, will, should, may or similar expressions. These statements are based on management's estimates, assumptions and projections as of the date of this call, and there are no guarantees of future performance. Actual results may differ materially from the results expressed or implied in these statements as a result of risks, uncertainties and other factors, including, but not limited to, the factors set forth in the Company's filings with the Securities and Exchange Commission, which can be found on the Company's website or at SEC.gov. Main Street assumes no obligation to update any of these statements unless required by law.
During today's call, management will discuss non-GAAP financial measures, including distributable net investment income or DNIS. BNI is net investment income or NII, as determined in accordance with U.S. generally accepted accounting principles or GAAP. Excluding the impact of noncash compensation expenses, management believes that presenting DNI and the related per share amounts are useful and appropriate supplemental disclosures for analyzing Main Street's financial performance since non-cash compensation expenses do not result in net cash impact to Mainstreet upon settlement. Please refer to yesterday's press release for a reconciliation of these non-GAAP measures to the most directly comparable GAAP financial measures through additional key performance indicators that Management will be discussing on this call are net in net asset value or NAV and return on equity or ROV. NAV is defined as total assets minus total liabilities and is also reported on a per-share basis. Main Street defines ROE as the net increase in net assets resulting from operations divided by the average quarterly total net assets.
Please note that certain information discussed on this call, including information related to portfolio companies, was derived from third-party sources and has not been independently verified.
And now I'll turn the call over to Main Street's CEO, Dwayne Hyzak.
Dwayne Hyzak
Thanks, Zach. Good morning, everyone, and thank you for joining us. We appreciate your participation on this morning's call. We hope that everyone's doing well.
On today's call, I will provide my usual updates regarding our performance in the quarter, while also providing a few updates on our performance for the full year also provide updates on our asset management activities, our recent dividend declarations, our expectations for dividends going forward. Our recent investment activities and current investment pipeline and several other noteworthy updates. Following my comments, David and Jesse will provide additional comments regarding our investment strategy, investment portfolio, financial results, capital structure and leverage and our expectations for the fourth quarter of 2024, after which we'll be happy to take your questions.
We're extremely pleased with our fourth quarter results, which closed another record year for us. Our fourth quarter performance resulted in a new quarterly record for ENI per share, ENI per share equal to our existing quarterly record that we achieved earlier this year. A new record for NAV per share for the sixth consecutive quarter and an annualized return on equity of approximately 23% for the quarter.
Our performance in the fourth quarter continued our positive performance in the first three quarters of 2023 and resulted in new annual records for ENI per share and ENI per share and a return on equity of approximately 19% for the year. These positive results demonstrate the continued and sustainable strength of our overall platform, the benefits of our differentiated and diversified investment strategies, the contributions of our asset management business and the continued underlying strength and quality of our portfolio companies. We are further pleased that we are able to generate these returns while intentionally maintain a conservative capital structure and we'll liquidity position during 2023. The continued positive momentum across our platform during 2023 allowed us to deliver significantly increased value to our shareholders with a 25% increase in the total dividends paid to our shareholders in 2023. Despite the significant increase, our D&I still exceeded the total dividends paid to our shareholders by over 17% in addition to these record-breaking results, with the continued support from our long-term lender relationships and the benefits of our recent investment grade debt offering in January, we entered the new year with a strong liquidity position and a conservative leverage profile and are excited about the prospects for significant growth in both our lower middle market and private loan investment strategies. We appreciate the hard work and efforts of the management teams and employees in our portfolio companies and continue to be encouraged by the favorable performance of the companies in our diversified, lower middle market and private loan investment strategies. We remain confident that these strategies, together with the benefits of our asset management business and our cost efficient operating structure will allow us to continue to deliver superior results for our shareholders in the future. These positive results, combined with our favorable outlook for the first quarter resulted in our recommendation to our Board of Directors for our most recent dividend announcements, which I'll discuss in more detail later.
Our NAV per share increase in the quarter due to several factors, including the impact of the net fair value increases in our investment portfolio, the accretive impact of our equity issuances, our retention of the excess NI above our dividends paid the continued favorable performance of certain of our lower middle market portfolio companies resulted in strong dividend income contributions in another quarter of significant fair value appreciation in the equity investments in those portfolio companies.
As we look forward to the next few quarters. We remain excited about our expectations for our lower middle market portfolio companies and the opportunity for continued dividend income and additional fair value appreciation from this portfolio in the future.
Our lower middle market investment activity in the fourth quarter returned to levels consistent with our normal expectations, with new investments of $92 million in the quarter, including investments totaling $68 million in two new portfolio companies and resulting a net increase of $66 million after repayments and other investment activity. Our private loan investment activities in the quarter included new investments of $160 million, which together with higher than expected repayment activity in the quarter resulted in a net decrease in our private loan investments of $113 million. We've also continued to produce attractive results for our asset management business. The funds we advised through our external investment manager continued to experience favorable performance in the fourth quarter, resulting in significant incentive fee income for asset management business for the fifth consecutive quarter. And together with our recurring base management fees, a significant contribution to our net investment income. We also benefited from significant fair value appreciation in the value of the external investment manager due to a combination of increased fee income growth in assets under management and broader market base drivers. We remain excited about our plans for the external fund that we manage as we execute our investment strategies and other strategic initiatives. And we are optimistic about the future performance of the funds and the attractive returns we are providing to the investors of each fund. We also remain optimistic about our strategy for growing our asset management business within our internally managed structure and increasing contributions from this unique benefit to our main street stakeholders.
As part of this growth strategy, we're happy to update with the we've made continued progress with the fundraising activities on our second private loan fund, and we'll look forward to the continued growth of this new fund over the next few quarters and the related additional recurring base management fees and incentive fee opportunities. Based upon our results for the fourth quarter, combined with our favorable outlook in each of our primary investment strategies and for our asset management business. Earlier this week, our Board declared a supplemental dividend of $0.3 per share payable in March, representing our 10th consecutive and largest to-date quarterly supplemental dividend. Our Board also declared regular monthly dividends for the second quarter of 2024 of $0.24 per share payable on each of April, May and June, representing a 6.7% increase from the second quarter of 2023. Supplemental dividend from March is a result of our strong performance in the fourth quarter, which resulted in DNII. per share, which exceeded our regular monthly dividends paid during the quarter by $0.42 per share or 59%. March 2024 supplemental dividend will result in a result in total supplemental dividends paid during the trailing 12 month period of $1 and $0.075 per share, representing an additional 39% paid to our shareholders in excess of our regular monthly dividends and implying a current total yield to our shareholders of approximately 9% after multiple increases to our monthly dividends during 2023 and a significant supplemental dividend paid in December. Our DNII. per share for the fourth quarter still exceeded our total dividends paid by $0.14 per share or 14%. We are pleased to be able to deliver the significant additional value to our shareholders while still conservatively retaining a portion of our excess earnings to support our capital structure and investment portfolio.
Against the risks associated with the current continued general economic uncertainty and to further enhance the growth of our NAV per share. As we've previously mentioned, we currently expect to recommend that our Board declared future supplemental dividends to the extent DNI significantly exceed our regular monthly dividends paid in future quarters, and we maintain a stable to positive NAV based upon our expectations for the continued favorable for performance in the first quarter. We currently anticipate proposing an additional supplemental dividend payable in June 2020.
For Now turning to our current investment pipeline. As of today, I'd characterize our lower middle market investment pipeline as average, despite the current broad economic uncertainty, we expect to continue to be active in our lower middle market strategy, consistent with our experience in prior periods of broad economic uncertainty. We believe that the unique and flexible financing solutions that we can provide to our lower middle market companies and their owners and management teams and are differentiated long term to permanent holding periods should be an even more attractive solution in the current environment and should result in very attractive investment opportunities. We are excited about these new investment opportunities, and we expect that our current pipeline will be helpful as we work to maintain our positive momentum from 2023 into the future.
We also continue to be very pleased with the performance of our private credit team and the results they have provided for our private loan portfolio and our asset management business and as of today, I would characterize our private loan investment pipeline as average.
With that, I will turn the call over to David.
David Magdol
Thanks, Dwayne, and good morning, everyone. Each year end provides a good opportunity to look back at our history and highlight the results of our unique and diversified investment strategies and discuss how these strategies have enabled us to deliver attractive returns to our shareholders over an extended period of time. Since our IPO in 2007, we have increased our monthly dividends per share by 118% and we have declared cumulative total dividends to our shareholders of $40.56 per share or over 2.7 times our IPO price of $15 per share our total return to shareholders since our IPO calculated using our stock price as of yesterday's close and assuming reinvestment of all dividends received since our IPO was 11 times, money invested This compares very favorably to the 3.4 times money invested for the S&P 500 over the same period of time and is significantly higher when compared to other BDCs as we previously discussed, we believe that the primary drivers of our long-term success has been and will continue to be our focus on making both debt and equity investments in the underserved, lower middle market, supporting our private credit activities for the benefit of our stakeholders and for the clients of our asset management business, which also benefits our stakeholders, our internally managed structure, which allows us to maintain an industry-leading cost structure and a strong alignment of interest between our employees and our shareholders. As a result of our team's meaningful stock ownership, most notably uniquely, our lower middle market strategy provides attractive leverage points in income yields on our first-lien debt investments, while also creating a true partnership with the management teams and other equity owners of our portfolio companies through our flexible and highly aligned equity ownership structures. This approach provides significant downside protection through our first-lien debt investments and preferred equity positions while still providing the benefits of alignment and significant upside potential through these equity investments, which we make alongside our portfolio company management team partners increased long-term historical track record of investing in a lower middle market, coupled with our view that this market continues to be underserved, gives us confidence that we will be able to continue to find attractive new investment opportunities. And this primary area of investment focus for our business. Our ability to provide highly customized and differentiated capital solutions for the predominantly family-owned businesses that exist that exist in the lower middle market has been and continues to be a strong differentiator for us. In 2023, Main Street invested $301 million in our lower middle market strategy, $197 million of this capital was deployed in six new lower middle market platform companies with the remaining $104 million, predominantly representing follow-on investments in existing seasoned and well performing lower middle market companies. Consistent with our comments in prior quarters, these follow-on investments were made to support the growth strategies in some of our highest performing portfolio companies, which makes this aspect of our lower middle market investment activity, very exciting for us. Our follow-on investments are typically used to support multiple objectives, including acquisitions, product or geographic expansion opportunities and recapitalization transactions. Most importantly, these follow-on investments support proven management teams that we believe intrinsically pose less investment risks when compared to providing capital to new portfolio companies. Since we are significant equity owners in our lower middle market companies. We benefit from participating alongside the proven managers in these businesses as they strive to achieve meaningful equity value creation. As we've said in the past. As our lower middle market portfolio companies perform over time, they naturally deleverage with free cash flow generated from operations. This allows us along with our lower middle market portfolio management team partners to benefit from a larger portion of the portfolio companies' cash flow after debt service, which can be available for distributions to the equity owners. Given the strength and quality of our lower middle market portfolio and the long term holding period for many of our companies, we expect dividend income to continue to be a significant contributor to our results in 2024. Additionally, this deleveraging, coupled with the attractive overall strong underlying operating results of our lower middle market portfolio companies allowed us to achieve $72 million in net fair value appreciation in 2023 for the lower middle market portfolio. This benefit from our lower middle market equity investments is unique among BDCs with our fair value appreciation available to offset losses, which will naturally occur in our investment strategy. Given the fact that we are investing in non-investment grade asset classes, our unrealized equity appreciation also provides potential upside to Main Street's net asset value that the investment strategies of other BDCs simply do not have last important area I'd like to cover regarding our 2023 accomplishments are the impressive contributions that our private credit team delivered during the year. Our private credit team continued to execute on our strategy to dedicate significant resources towards growing the private loan segment of our business while deemphasizing our middle market portfolio, which, as a reminder, includes investments in larger syndicated loans, our purposeful and intentional strategic shift over the last six years to grow our private loan portfolio is primarily driven by our belief that an attractive and growing direct lending environment exists and that the private loan investments provide a very attractive risk-adjusted return profile for MainStreet and for the clients of our asset management business. During 2023, Main Street invested $507 million in our private loan strategy, while decreasing our middle market portfolio by 27% on a cost basis as a result of these investment activities during the year, our private loan portfolio represented 39% of our total investments at cost at year end, and our middle market portfolio declined by 300 basis points to represent only 8% of our total investments at cost. As Dwayne discussed earlier, our private loan capabilities also support our key strategic objective to continue to grow our asset management business. As of December 31st, we had investments in 190 companies spanning across more than 50 different industries for our largest portfolio companies, excluding the external investment manager, represented only 3.7% of our total investment income for the year and 3.5% of our total investment portfolio at fair value. At year end, majority of our portfolio investments represented less than 1% of our income and our assets.
Now turning to our investment activity. In the fourth quarter, we made total investments in our lower middle market portfolio of $92 million, including investments of $68 million in two new lower middle market portfolio companies, which after aggregate repayments on debt investments and return of invested equity capital and a decrease in cost cases due to a realized loss resulted in net increase in our lower middle market portfolio of 66 million. During the quarter, we also completed $160 million in total private loan investments, which after aggregate repayments and sales of debt investments and a decrease in cost basis due to a realized loss resulted in a net decrease in our private loan portfolio of $113 million.
Finally, during the quarter, we had a net decrease in our middle market portfolio of 50 million as a result of our continued focus to deemphasize this strategy and portfolio at year end our lower middle market portfolio included investments in 80 companies representing $2.3 billion of fair value, which is 27% above our related cost basis. We had investments in 87 companies in our private loan portfolio, representing 1.5 billion of fair value in our middle market portfolio. We had investments in 23 companies representing $244 million of fair value. The total investment portfolio at fair value at year end was 15% above our related cost basis. Additional details in our investment portfolio at year end are included in the press release that we issued yesterday.
With that, I'll turn the call over to Jesse to cover our financial results, capital structure, and liquidity position.
Jesse Morris
Thank you, David. To echo Duane's and David's comments, we are pleased with the operating results for the fourth quarter, which included a number of quarterly records and capped a year in which Main Street achieved records for net investment income, distribution, net investment income and net asset value each on a per share basis.
Our total investment income for the fourth quarter was $129.3 million, increasing by $15.4 million or 13.6% over the fourth quarter of 2022 and by $6.1 million or 4.9% from the third quarter of 2023. The positive momentum we experienced during the first three quarters continued in the fourth quarter and culminated in a year with strong levels of interest, dividend and fee income, which again demonstrated the continued strength of our differentiated investment and asset management strategies. The fourth quarter included elevated levels of certain income considered less consistent or nonrecurring in nature, including dividends from our equity investments, an accelerated prepayment repricing and other activity related to our debt investments in the aggregate these items totaled $5.3 million and were comparable to the average of the prior four quarters were 1.1 million higher than such items in the fourth quarter 2022 and $4.7 million higher than the third quarter of 2023. Interest income increased by 14.4 million from a year ago and $1.3 million over the third quarter. The increase over the prior year was driven primarily by increases in benchmark index rates, net investment activity and 2.3 million, an increase accelerated OID income. The increase over the third quarter was primarily driven by $3.1 million increase in accelerated OID income, partially offset by decreased levels of interest-bearing debt investments at quarter end as a result of elevated levels of repayments offsetting new and follow-on investments.
Dividend income increased by 1.4 million or 6.1% over a year ago. Including a 1.2 million decrease in unusual or nonrecurring dividends and increased by 2.6 million or 12.2% from the third quarter, including a $0.5 million increase in unusual or nonrecurring dividends. Increases and dividend income are a result of the continued underlying strength of our portfolio companies and the benefits from our asset management business fee income was comparable to year ago and increased by 2.2 million from the third quarter, driven by closing fees resulting from an increased investment activity in our lower middle market investment strategy and increased prepayment fees driven by repayment activity in our private loan portfolio. Prepayment and other fee income considered nonrecurring was comparable to year ago and increased by $1.2 million from the third quarter 2023. Our operating expenses increased by 1.2 million over the fourth quarter of 2020 to largely driven by increases in interest expense and compensation related expenses, partially offset by an increase in expenses allocated to the external investment manager. The ratio of our total operating expenses, excluding interest expense, as a percentage of our average total assets was 1.3% for both the quarter on an annualized basis and the year, it continues to be amongst the lowest in our industry. Our external investment manager contributed 9.2 million to our net investment income during the fourth quarter, an increase of $2.2 million from the same quarter a year ago, which resulted in a total of 33.4 million for the year, representing an increase of $11.1 million or 50% over the prior year. The manager earn 3.8 million in incentive fees during the quarter and 13.4 million for the year, increasing by $1.4 million and $10.9 million, respectively, over the same periods in the prior year as a result of the positive performance of the assets under management MANAGER ended the quarter with total assets under management of 1.5 billion. During the quarter, we recorded net fair value appreciation, including net realized losses and net unrealized appreciation on the investment portfolio of $48.2 million. This increase was driven by net appreciation across each of our investment strategies, largely driven by the continued positive performance of certain of our portfolio companies and the impact from changes in market rents. The increase in the fair value of our and external investment manager was a result of a combination of increases in the fees generated by the external investment manager and the valuation multiples of publicly traded peers, which we use as one of the benchmarks for valuation purposes, we ended the fourth quarter with investments on nonaccrual status comprising approximately 0.6% of the total investment portfolio at fair value and approximately 2.3% of costs. Net asset value or NAV, increased by $0.87 per share over the third quarter and by $2.34 or 8.7% when compared to a year ago to a record NAV per share of $29 and $0.22. At year end, our regulatory debt to equity leverage calculated as total debt, excluding our SBIC debentures divided by net asset value, was 0.59 and our regulatory asset cover coverage ratio was 2.69, both intentionally more conservative than our long-term target ranges of 0.8 to 0.9 times and 2.1 to 2.25 times. During the fourth quarter, we expanded our total commitments under the SPV facility from 255 million to $430 million and raised $38 million from equity issuances under our at-the-market program. In January of this year, we issued 350 million of unsecured notes with a coupon rate of 6.95% maturing in March 2029 and utilized the proceeds to repay outstanding borrowings under our credit facilities. We currently intend to fund the repayment of our May 2024 notes at maturity, primarily through borrowings under the credit facilities. After giving effect to the capital activities in 2023, the issuance of the March 2020 Note nine notes and the upcoming repayment of our May 2024 notes. We entered 2224 with strong liquidity, including cash and availability on our credit facilities in excess of 1 billion. We continue to believe that our conservative leverage, strong liquidity and continued access to capital are significant strengths that have us well positioned for the future and allow us to continue to execute our investment strategy and growth of our investment portfolio. With this current level of liquidity, we expect to fund our net new investment activity in 2024 through a greater proportion of debt financing. And as such, we would expect leverage to increase during the course of the year. However, we expect to continue to operate through the year and leverage levels more conservative than our long-term targets.
Coming back to our operating results. As a result of our strong performance for the quarter and year, our return on equity for the fourth quarter was 22.9% on an annualized basis and 18.8% for the year. Eni per share for the quarter of $1.12 exceeded the DNII. per share for the fourth quarter last year by $0.09 or 8.7% and exceeded the DNII. per share for the third quarter by $0.08 or 7.7%. The combined impact of certain investment income considered less consistent or nonrecurring in nature on a per share basis was comparable to the average of last four quarters, $0.01 per share above the same quarter a year ago, and $0.06 per share above the third quarter.
For the year. These items were $0.15 per share above 2022 levels. The NII per share for the quarter exceeded total regular monthly dividends per share paid to our shareholders in the fourth quarter by $0.415 per share or approximately 59%. Total dividends paid for the year were $3 $0.695 per share including $0.95 per share in supplemental dividends, an increase of 25% of our total dividends paid are in 2022. This week, our Board approved a supplemental dividend of $0.3 per share payable in March 2024. With a supplemental dividend total declared dividends for the first quarter of 2024 or $1.2 per share, representing a 4.1% increase over the total dividends paid in the fourth quarter of 2023 and a 20% increase of the total dividends paid in the first quarter of last year. As we look forward, given the strength of our underlying portfolio, we expect another strong top line and earnings quarter in the first quarter 2024 with expected D&I of at least $1.6 per share, with the potential upside driven by the level of dividend income and portfolio investment activities during the quarter and we would also expect that we would recommend to our Board that had declared another supplemental dividend in the second quarter.
With that, I will now turn the call back over to the operator, so we can take any questions.
Question and Answer Session
Operator
(Operator Instructions) Robert Dodd, Raymond James.
Robert Dodd
Hi, guys. Congratulations on the quarter or the first question on the asset management business. And I mean the largest contributor to that is still MSC Income Fund. Can you give us any update on your thought process regarding that businesses don't control it, but in terms of how that might be a shareholders, thereby end up with liquidity. And because this is a question that I think you've discussed it before, one of the possibilities eventually could be a fee cut there in commensurate with connection with other things. Do you think that's a likely go unlikely event during 2020 for the fee structure and the financial relationship that could change? Or is that if anything happens on that front?
Dwayne Hyzak
Robert, I think thanks for the question. I would say on MSC Income Fund, like you've heard us say before, we're obviously the adviser there, but the Board of MSC Income Fund will have a huge part in determining what the outcome is there. We are encouraged by some of the more recent activity here in 2024 with several finally going public through three new IPOs. Obviously, that's that's an opportunity from a space or an industry standpoint that hasn't been there for the last couple of years. So it's very encouraging to see that activity. And we will be having conversations with the MSC Income Fund Board about that activity in our next Board meeting to contemplate what it may mean for MSC Income Fund to your point on fees, I do think that the market, as evidenced by these more recent IPOs, has been requiring a lower base management fee than what we currently charge for charge to MSC Income Fund.
I will remind you that the strategy for MSC Income Fund is consistent with Main Street took, and it includes a combination of private credit private loan activities. That is more consistent with what you see for most others in the BDC industry, but also includes a healthy amount of lower middle market investment activity that we think is more akin or more consistent with a private equity investment strategy that would warrant in the marketplace, a higher fee structure, both on the the base annual fee as well as the incentive fees. I think that the conclusion on the fee will be driven by our conversations with the MSC Income Fund board, what the market would tell us if there was a desire to seek an IPO or have another liquidity event, and then how we look at the overall composition of that portfolio today and what we think the composition would be going forward. Those are the drivers of what we think happens long term with the fee structure.
Robert Dodd
Got it. I appreciate that color. Thank you. I'm changing tack completely. You mentioned the lower middle market pipeline as average. It is an election year. It's possible the White House could could. So it didn't pass the Senate House as it could could flip on that are currently tax.
I'll move the sunset in 25. I mean, any of that business, the Des Moines market because a lot of what you do there is assistant in tax planning option for for people looking to transition, do you think the it being an election year and potential tax law changes getting back to kind of have an effect on the lower middle market businesses, demand and pipeline in maybe in second half of the year?
Dwayne Hyzak
Yes, Robert, I'd say it's always hard to predict what impacts activities in Washington, whether it's an election or your tax rate changes or other changes, it's really hard to predict what those activities are, what impact they'll have on lower middle market activity, we can make arguments for those types of activities, driving increased demand for individual owner operators and their families or partners that own a business could drive them to you to be more active or you have a stronger desire for a transaction that could also result in more and certainly in the marketplace and a view that if someone goes to market, they're not going to realize full valuation. So they may be compliant more compelled to have to wait until after an election or after any of those changes take place to see what the impact on the marketplaces. And as you've heard us say in the past, we do think that what we provide from a financing standpoint and a partnership standpoint to our lower middle market companies is very, very different. We think the solution it can and should be and in the past has been applicable to all types of markets, whether it's a very good productive market. If it's a market that's got more uncertainty, whether that's economic uncertainty, the tax rate change and certainly or political uncertainty. So we continue to be confident that our lower middle market strategy will be applicable in all those markets, but it's really hard to predict what happens in Washington and what impact that will have on overall deal flow activity and specifically deal flow activity in the lower middle market strategy. Dave and I covered a lot going on if you would add anything to that.
David Magdol
All I'd add is that, Robert, when we think about the landscape, it yet the election has an impact on outcomes. As does last year, we had rising interest rates and concerns about visibility towards that so we always have some various environmental issues that we're looking at any one moment in time. But I'd say that interest rates stabilizing a bit as they have probably has a positive impact at night, we are hoping will offset any concerns relative to election year.
Robert Dodd
Got it. Thank you for the color on that one more, if I could sneak 1.2 to that point with stabilizing interest rates. I mean, you indicated you're planning to take up leverage somewhat this year. I mean, you've been running at and cut intentionally low on still producing high returns. That is the indication that you expect leverage to go up as an indication of comfort that you feel better about the interest rate environment where the economy is or is there some other factor that drove that decision to maybe increase leverage a little bit from the low level currently?
Dwayne Hyzak
Sure. Robert, you as you've heard us say in the past week, we've always viewed our ability to produce shareholder returns is driven more based upon investment strategy and our approach to the marketplace and less on financial engineering through leverage so we've always wanted to and have always consistently maintained a very conservative, conservative leverage profile and a significant liquidity position. And we've we don't expect that to change going forward, whether that's in 2024. Anytime after that, we have been intentionally more conservative for the last 12 months or so. And that was really less driven by the overall economy or other kind of portfolio related issues and more based on the fact that we had in May of 2024 have a May of 2024 maturity, and we wanted to create maximum flexibility to deal with that. And obviously, we've dealt with that here in the first 1 to 2024 with a new unsecured debt issuance. I'd say that pressure is a lot less than it would have been over the last 12 months. So that would really be the driver for us taking leverage up some but still being conservative and still likely ending the year below our leverage targets kind of pace.
Robert Dodd
Thank you.
Dwayne Hyzak
Thank you.
Operator
Bryce Rowe, B. Riley.
Bryce Rowe
Good morning. Dwayne, just maybe a follow-up to some of Robert's questioning around the external manager. Um, I know you all in the pretty recent past have have have run some tender tender processes to tried to give those particular shareholders some some liquidity have yet. Have you did you continue to do that here at the end of 2023?
Dwayne Hyzak
Yes, I see to your point, we have introduced that over the last 12 months and continue to be active in providing liquidity options to the shareholders of MSC Income Fund. Those those liquidity options have been through the consistent quarterly redemption that is funded by the funds DRIP proceeds. And then we've added the Dutch auction that I think we're now in our we're executing our fourth iteration of that. So we think those those activities have been productive and we continue to think it's a good good activity for us. Prime provide additional liquidity options for those shareholders who have a heightened need or desire for liquidity. So that was the that was the intent or the goal behind those activities, and we think they've been successful or productive from our perspective.
Bryce Rowe
Okay. That's helpful. And then as we think about the valuation, obviously, you've seen a material increase in the external manager's valuation in 23 and even in the fourth quarter.
And in your prepared remarks, you talked about kind of a breakdown of increased assets under management, increased fee income and in market market based approach to that valuation, can you help us kind of think about what's what's driving the valuation of those three factors? What's what's the biggest biggest factor or is it or is it fairly well split between the three?
Dwayne Hyzak
And I would say all three of those drivers are factors contributing to the increase in Q4. But if you were to go look at the publicly traded performance for asset managers. And I would say that in the fourth quarter there was a significant increase in those valuations and that would have been a significant contributor to the increase in our valuation in the fourth quarter. Just as a reminder, and we obviously don't use that as the only benchmark to drive our valuations. It's one of the inputs, but it is it is an input. So when you see those publicly traded peers increased significantly in value, we're going to we're going to see that come through our valuation.
Bryce Rowe
Got it. Okay. You mentioned continued kind of progress with private loan fund. Number two. Can you give us some numbers around around that progress?
Dwayne Hyzak
Sure. So the numbers at a year end, it was about $80 million of total LP equity commitments. So still not a huge number. But relative to where we were at this point in time on PLF. one, it is a significant increase and we continue to have what we think are very productive conversations with additional LP. So our goal is just to remind everyone is that we want that, that fund from an LP equity commitment standpoint to be somewhere between 103 hundred. As a reminder, 103 hundred million dollars of LP equity. As a reminder, PLF. one is just over 100. We hope to be something north of 150 or 200 with the max being 300 and and our activities over the next couple of quarters as we continue to you execute the fund raising activities for that fund, your they obviously would dictate how large we end up being from a from a LP equity commitment standpoint. And then just as a reminder, we think the marketplace will continue to allow kind of a one to one debt to equity leverage level. So if we successful at it, 150 million of equity, that's 300 million of assets. Obviously, if you go up to $300 million of equity than a 600 million of assets. But that's that have been the goal and intent and we're continuing to work on that as we as we move through the next couple of quarters.
Bryce Rowe
Got it. That's helpful. And then maybe last one for me. You all called out some nonaccrual levels. You're having come down quarter over quarter? And then also some of the realized exit activity in the lower middle market and private loan portfolios. Can you can you kind of I assume those kind of marry up together with lower nonaccruals being driven by some of that exit activity? If not, can you just help me think about that?
Dwayne Hyzak
Sure. So maybe I'll give a couple of comments if Nick, who leads our private credit activities, if he wants to add on, he can add on here. So I would say of the EM, the nonaccrual activity, obviously, it's an improvement when you look at it quarter over quarter, I would say we're not super excited about it because it improved because of a realized loss in the quarter. So that most of that movement was driven by I think, has about a $15 million realized loss on a an investment that we restructured and it came off nonaccrual in the quarter and I think the repayment activity specifically on the private credit side, as you've heard us say in the past, we think we've got a very, very attractive high-quality portfolio. And despite the continued uncertainty in the marketplace. We just saw a number of names, some of which, frankly we hadn't even been in that long, 12 or 18 months. A number of things that had performed really, really well, that either went through an M&A transaction or just went out and refinanced us with a with a significantly lower cost of capital from that replacement lender. So it's kind of a good embedded. It shows the very high quality of our portfolio. But obviously you had elevated repayments, which which is not good from a from an interest income standpoint when we look at the portfolio going forward. But Nick, if you'd add anything to that in Brazil only I'd add there is most of those repayments really came in late in the quarter.
Nick Meserve
And so from a from a bridge perspective, we're where we wanted to be for the fourth quarter. And I'd say those names are names we've targeted to get repaid in 24 states move into kind of late December, early December versus the first or second quarter of '24. And so I think from a where we want to be. I think we need to spend some money here in the first quarter will be back to where we balance should be.
Bryce Rowe
Yes. I mean, I think we've heard on other BDC calls that the expectation is for increased activity from a prepayment perspective, a repayment perspective in 24. Do you all share that sentiment?
Nick Meserve
We do think if you look at our total repayments in the private loan port product, private loan side of the business for the first three quarters, we were, I'd say, Well, under average what you'd usually see the fourth quarter picked that up. And so for the year, we probably hit our average repayment level we've seen in the last decade, but we'd expect that to continue more than average level of basically a one-third repayment rate on an annual basis.
Bryce Rowe
Got it. Okay. Thanks for taking the questions. Appreciate it.
Nick Meserve
Thanks, Bryce.
Operator
Mark Hughes, Truist Securities.
Mark Hughes
Thank you good morning.
Nick Meserve
Good morning, Mark.
Mark Hughes
On the on the private loan portfolio, the assets were down in the quarter, more repayments. I think we've been talking about that. What's your feeling about the early 2024? Is that going to be back end through the positive territory?
Nick Meserve
We appreciate the question, Marcus, and I think where we're at to date for the quarter, we'd be close to flat from Q3. So we're up for the first quarter, and we'd expect that to continue to grow and really be back to a a flat from Q3, up from Q3.
Mark Hughes
Very good. And then the other follow on investment activity. How are you seeing that trending? Is that a reasonable indicator of underlying economic health of that 10 to I'm sure it varies in terms of rationale, but are you seeing any trends there that are worth noting? And does that imply anything about the broader picture? Again, this is a follow on investment activity with your existing portfolio companies.
Dwayne Hyzak
Sure, Mark. When you look at our lower middle market portfolio, you've heard us say this, we have a number of companies in that portfolio that had been and continue to perform very, very, very well. When you look at some of those companies, they also have had an increased appetite to grow through acquisitions to supplement our compound their organic growth. So we've we had one portfolio company in the fourth quarter that was a meaningful follow-on probably news, 80 or 90% of the total follow-ons were in that one portfolio company that executed what we think is a highly attractive, very strategic acquisition.
If you look at the pipeline today, one of the things that and it makes us feel good about that investment pipeline is that we have a number of companies, multiple companies in the lower middle market portfolio. Again, most of them being in the upper end of our portfolio from a performance standpoint that are actively executing on on acquisition opportunities that would require additional debt financing for Mainstreet. We expect those to close in the in the fourth quarter. But obviously, there's a lot of pieces that have to come into place that we don't always control in order for that to happen. But we're encouraged by that activity. And if we're successful there, we think it'll benefit us significantly in Q1. But even more importantly, over the next 12 or 24 months as we really see the benefits of those acquisitions flow through the portfolio companies' results in our your fair value changes and hopefully additional dividend income in the future.
Mark Hughes
And then the external investment manager, you know, assuming things go as they have been and there's no material change, you described the 50% increase in the positive impact on NI, what's the what you have and line of sight on? Can you give us some sense of what the marginal effect is going to be here in 2024?
Dwayne Hyzak
Morgan I may have missed it. I fully followed your question. Can you kind of give me a little more detail what your what's your what you're looking for?
Mark Hughes
Yes, yes. Just the NII impact from the external investment manager, I think you said it was up, you know, the you went from 22 million to 33 million in 2023. If I heard that properly.
Yes, I was just trying to get some sense of how you think that's going to trend in 2024.
Dwayne Hyzak
Sure. Thanks. Thanks, Mark. And I apologize I want to make sure I answered the question correctly on our side. If you look at 2023 as a whole and just give you kind of the highs and lows from a quarterly NII contribution standpoint, the low was just over $7.5 million. The high was 9.2 million, which that the high was in the was in the fourth quarter. The variability quarter to quarter is really driven by the incentive fees, probably not a big surprise. The base management fees, one of the reasons we find the asset management business so attractive as those base management fees, you don't really move much quarter to quarter. Obviously, as we as we grow additional clients and we grow additional AUM, you they will move over time. But quarter to quarter, they just don't move that much to the real driver. The real volatility is all driven by the incentive fees so that to the extent we continue to have favorable performance, you heard Jesse's of comments about our expectations at Main Street for the for the first quarter. As I said earlier, there's a lot of overlap between our portfolio and MSC Income Fund's portfolio. It's not it's not one or 100%, but you can apply a little bit of a read through from our results and our expectations to MSC Income Funds. And so given that we expect MSC Income Fund to continue to perform well and continue to generate positive contributions to us from an incentive fee standpoint, but the real productivity or growth year over year versus that $33 million number that you that you referenced is really going to be more dictated by the incentive fee coming off the performance of not just MSC Income Fund, but also the private loan funds that we manage and our ability to continue to produce positive results. There is going to it's going to really be the driver of that outcome.
Mark Hughes
Great. Thank you.
Dwayne Hyzak
Thank you.
Operator
Eric Zwick. Hovde Group.
Eric Zwick
Good morning, everyone. Just one question for me this morning. Given the fact that both the Fed and the futures market are projecting declines in short-term interest rates at some point during 2020 for obviously, the timing and magnitude remain up for debate. But wondering can you provide an update on your interest rate sensitivity, maybe in terms of the potential impact to DNII. per share for each 25 basis point reduction?
Sure.
Dwayne Hyzak
Eric, thanks for the question, and thanks for joining us. This morning. And we like other, I think all the other BDCs that provide what we think is a pretty granular table, both in our SEC filings and in our investor presentation. So you'll you'll see that when we when we post all that later this morning. But in general, we have historically and continue to view our position to be a little less sensitive than other BDCs as purely attributable to the fact that our lower middle market strategy is predominantly fixed rate as opposed to floating, whereas most of the spaces, as you know, is 100%, if not 100%, close, 100% floating. So we do think we have a little bit less sensitivity. So we've not seen the same benefits that the space may have seen over the last 12 or 18 months. But if rates come down, we should we should see less of an impact going forward. But for your benefit if you look at our portfolio and our obligations as of 1231, 2023. So as of as of year end, a 25 basis point change would be just over $0.04 a year, I think it's about $0.045. So if you look at that and annualize it, you're going to get to $0.18 a year just remember that assumption is a very, very and your aggressive calculation because it assumes those rates change day one of the year. Obviously, given the curve, as you know, that wouldn't happen in practice, it also likely wouldn't happen at all. That will happen kind of on a core basis over the balance of the quarter and the year. So the impact will likely be lower than that. But that's the best way that we and I think the other BDCs have been able to deliver that interest rate sensitivity historically and continue that provid it today.
Eric Zwick
Great. Thanks, Terry, and I appreciate the color that's all for me today.
Dwayne Hyzak
Thank you. Appreciate it.
That was the the the last question there. So again, we appreciate everyone's participation. Really appreciate the questions. We have responded to questions. So we appreciate that the individuals that they join and ask those questions, and we'll look forward to talking to everyone again, in May after our first quarter 2024 results were released.
Operator
And ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. You may disconnect your lines and have a wonderful day.
