Greetings, and welcome to Main Street Capital Corporation Second Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] 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.

Thank you, operator, and good morning, everyone. Thank you for joining us for Main Street Capital Corporation's Second Quarter 2021 Earnings Conference Call. Main Street issued a press release yesterday afternoon that details the company's second quarter financial and operating results. This document is available on the Investor Relations section of the company's website at mainstcapital.com. A replay of today's call will be available beginning an hour after the completion of the call and will remain available until August 13. 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 home page. Please note that information reported on this call, speaks only as of today, August 6, 2021, and therefore, you are advised that the 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. Please refer to yesterday's press release for a reconciliation of these measures to the most directly comparable GAAP financial measures. 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?

Thanks, Zach. Good morning, everyone, and thank you for joining us. We appreciate you taking the time to join us and we hope that everyone is doing well and staying healthy and safe. Joining me today with prepared comments, are David Magdol, our President and Chief Investment Officer; and Jesse Morris, our Executive Vice President and Chief Operating Officer. Also joining us for the Q&A portion of our call, are Vince Foster, our Executive Chairman; Nick Meserve, our Managing Director and Head of our Private Credit, formerly Middle Market Investment Group; and Brent Smith, our CFO. On today's call, I will provide my normal updates regarding our performance in the quarter, while also providing updates on our asset management activities, our investment activities and current investment pipeline, our recent dividend increase, and our expectations for dividends going forward, and several other updates. Following my comments, David and Jesse will provide additional comments on our investment strategy, investment portfolio, financial results and future expectations, after which we'll be happy to take your questions. We are pleased with our second quarter results, which we believe demonstrate the strength and momentum of our Main Street platform and the quality and strong performance of our diversified group of portfolio companies. The quarter represented our third consecutive quarter of sequential growth in total investment income, with the total investment income for the quarter, representing a significant increase from our pre-pandemic levels and with all components of income above their pre-pandemic levels. Our performance resulted in distributable net investment income or DNII, well in excess of our monthly dividends paid to shareholders during the quarter and significantly higher than last year, along with continued improvement in our net asset value per share. Our results also included a net increase in net assets from operations of $1.39…

Thanks, Dwayne, and good morning, everyone. As Dwayne highlighted in his remarks, we believe our second quarter financial results demonstrate the strength of Main Street's platform, our differentiated investment approach and our unique internally managed operating model. We are excited that our investment income generated during the quarter was at an all-time high. We're also pleased to report that the overall operating performance for the majority of our portfolio companies was strong in the quarter and resulted in both significant increases in our NAV per share as well as the achievement of several significant positive milestones in our lower middle market strategy. As we've discussed in the past, the primary driver of our long-term success has been and continues to be our focus on the underserved lower middle market and specifically, our strategy of investing in both the debt and equity in lower middle market companies and partnership alongside strong existing management teams. Our equity investments closely align our interest with our portfolio company management teams, and allow us to share in the equity upside on a current basis through dividend income. And on a long-term basis, through the equity appreciation as our companies grow and perform. These equity investments support growth in Main Street's realized income through the dividend income we received and the periodic realized gains upon the exit, of those businesses. This quarter, our lower middle market portfolio companies generated the highest level of dividend income in our firm's history, which we view as an important milestone and continued validation of our unique, lower middle market investment strategy. In addition to the benefit we received from the dividends paid from our lower middle market portfolio companies, Main Street also significantly benefits from both the unrealized and realized equity appreciation, as the portfolio of companies we invest in…

Thank you, David. Turning to a summary of our financial results. Our total investment income in the second quarter increased by $15.3 million over the same period in 2020, to a total of $67.3 million, driven by increases in both interest and dividend income. Of particular note, dividend income increased by $10.8 million, which more than doubled the level of dividends a year ago and included a net increase of $2.6 million that is generally considered less consistent or nonrecurring. This increase in investment income is further evidence of the strength of our underlying portfolio companies and their management teams and Main Street's continued success in deploying capital to support our portfolio company's growth initiatives and execute new platform investments that Dwayne and David discussed in their earlier remarks. Our operating expenses, excluding non-cash share-based compensation expense, increased by $4.2 million over the same period of the prior year, primarily driven by increases in compensation expense and interest expense in the quarter. The increase in compensation expense is primarily due to higher levels of incentive compensation accruals, which is directly related to the improved performance and an investment in additional personnel to grow our investment team. Despite these compensation expense increases, the ratio of our total operating expenses, excluding interest expense, as a percentage of our average total assets, was 1.4% for the second quarter on an annualized basis and for the trailing 12 months, which continues to be amongst the lowest in our industry. The activities of our external investment manager benefited our net investment income by approximately $3.8 million during the second quarter, through the allocation of $2.6 million of operating expenses for services we provided to it and $1.2 million of dividend income, an increase of 75% from prior year. As a reminder, in October of 2020,…

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first question is from Kenneth Lee of RBC Capital Markets. Please state your question.

Hi. Thanks for taking my question. I just want to talk about the topic of the distributable net investment income, the DNII. It sounds like it's on that sustainable path of improvement, but I just want to double check and also get a little bit more detail on what could potentially drive that upside to DNII in the third quarter? Thanks.

Sure. Thanks, Ken. I do think we feel good about where DNII sits today. And as we look forward to the next couple of quarters, which is why Jesse and his comments gave the guidance that we feel good about $0.65 with some potential for upside. I think when you look at the upside, it will be driven by the pace of new investment activity how many of the new lower middle market transactions we have in our pipeline, how many of those can we get closed between now and the end of the quarter as well as just the quarter-to-quarter volatility we talked about in the past that we continue to see in the dividend income from certain of our lower middle market companies, how much of that dividend income ends up coming in before 930. So those will be the two big drivers that could lead to some upside to that $0.65 number.

Gotcha. Very helpful. And just one other question. Within the lower middle markets segment, you talked about seeing a lot of volumes for follow-on investments. Just wanted to get a little bit more detail around what's driving that elevated activity? Thanks.

Sure, Ken. So I think we mentioned over the last year kind of since the beginning of the pandemic, certain of our companies, particularly the companies that were performing better throughout the last 12 to 18 months. One of the things that they started to embrace more than our companies had embraced historically was growth through acquisition. So as we've looked at those companies and have been supporting them through those acquisition growth alternatives, or activities they've been going through, we're finally starting to see some of those activities pay dividends through transactions that have either closed here recently, or that we're hopeful will close over the next couple of months.

Great. Very helpful. Thanks, again.

Thank you.

[Operator Instructions] Our next question is from Robert Dodd of Raymond James. Please state your question.

Hi, guys. Dwayne, on the pipeline for lower middle market, I mean, you said well above average. I mean, I've heard a lot of above averages in the past a lot of averages. I don't recall hearing – in the call hearing a well above average at least for a long time. I mean – so where would you characterize the portfolio not just relative to averages, but relative to say historic highs in terms of potential for activity? It sounds very optimistic on that front right now.

Yeah, Robert, I think David touched in his comments on the actual closings we've had today, which is right at $50 million. So when you put that together with the current pipeline, historically, I think we've guided to an annual origination amount for Main Street in the lower middle market kind of in the $225 million range. So if you take that and you separate it out, or look at it on a quarterly basis, you're looking at just under $70 million a quarter. If I was to look at the current quarter with the $50 million that we've already closed, I think you have potential upside for 1.5 times to 2 times that number for the third quarter, if everything was to go the way that we want it to. But at the same time, I'll give you a caveat that, we don't control the timing of closing of these transactions exclusively. There is the seller and other parties involved. So things have to go well for us to hit that upside number.

Understood. And on that – I mean, what's the – can you break down kind of the drivers? Obviously, there's potential for tax changes. There's – last year was very slow for obvious reasons. I mean, is it just the confluence of both those two factors driving that, or is there something else that's driving the pipeline? I don't want to be just talking about Q3 because things can spill to Q4, but it doesn't really matter that much in the long-term. So any kind of color you can give on kind of what the factors are that are driving that right now?

So, we do think Robert that tax is a big driver. When you look at the potential for a significant increase in capital gains tax rates, the seller as he or she should be as focused on the net after tax amount. So if you see a significant increase in tax rates that could be a big motivator to transact in the current year before year-end. So I do think we're seeing, a healthy amount of activity from that potential change, or the uncertainty around it. I also think, as we've touched on, we are seeing the benefits of the focus on acquisition growth of some of our companies. We're seeing that come through the pipeline as well. So we're very excited about that, because if we have the opportunity to put additional capital into our best companies and our best management teams, we love doing that. We're seeing that through these follow-on acquisition financing opportunities.

I'd just add one last thing, Robert. Last year with COVID and all, there were a number of transactions that were pulled from the market and came back to the market, which really helps us as far as the number of transactions we're seeing come through our pipeline.

Got it. Appreciate that. And then one last one, if I can. On the Asset Management business that as you said, performing well. What are – the bulk of that today obviously is MSC and that's not in fundraising mode, obviously. It's in growing by relevering up, et cetera, but not fundraising. What are your expectations or maybe that's overstating it, but hopes maybe aspirations about fundraising and additional capital that can be raised to be managed by the asset management business, which obviously accrues earnings to the BDC shareholders?

Yes, Robert. So if you look at the two primary drivers for our Asset Management business, obviously, MSC Income Fund is by far the largest. And to your point, they are not and have not for quite a while been raising equity. We do think their balance sheet leaves an opportunity for additional leverage or debt capital. So you've seen them grow through the use of debt capital and leverage. And I think, we continue to see an opportunity for additional growth there for the fund through the use of additional leverage. I think that's one area for potential growth on the MSC Income Fund side. And then, on the private loan fund side, that really has not been a significant contributor to the asset management business today. But we do remain optimistic about the pace of fundraising activity that we've seen as well as the opportunity for once we get through the fundraising process and have completed the equity raising to come back and put some debt capital leverage on top of that that equity. So we think those two factors give us quite a bit of tailwinds behind us on the asset management business that should be a really big positive for Main Street over the next two to four quarters.

Got it. I appreciate it. Thank you.

Thank you, Robert.

Ladies and gentlemen, we have reached the end of the question-and-answer session. I would now like to turn the floor back over to management for closing comments.

Thank you to everyone for joining us again this morning and we'll look forward to talking again in early November.

Ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. You may disconnect your lines at this time, and have a wonderful day.