Business Overview and History

Gladstone Investment Corporation (NASDAQ:GAIN) is a leading business development company (BDC) focused on providing debt and equity financing to lower middle market companies in the United States. With a strong track record spanning nearly two decades, Gladstone Investment has established itself as a trusted partner for entrepreneurs and business owners seeking growth capital and strategic guidance.

Gladstone Investment Corporation was incorporated under the General Corporation Law of the State of Delaware on February 18, 2005, and completed its initial public offering on June 22, 2005. The company operates as an externally managed, closed-end, non-diversified management investment company and has elected to be treated as a business development company (BDC) under the Investment Company Act of 1940.

Established with the purpose of investing in debt and equity securities of established private businesses in the United States, Gladstone Investment's investment objectives are twofold: to achieve and grow current income by investing in debt securities of established businesses, and to provide long-term capital appreciation by investing in equity securities, often in combination with the debt investments.

Throughout its history, Gladstone Investment has faced and overcome various challenges in managing its portfolio. During the 2008-2009 financial crisis, the company incurred realized losses from the sale of performing syndicated loans to pay off a former lender. However, Gladstone Investment demonstrated resilience by offsetting these losses through successful exits of 32 portfolio companies acquired under its buyout strategy since inception. These liquidity events generated an impressive $332.5 million in net realized gains and $42 million in other income, resulting in a total increase to net assets of $374.5 million.

To support its capital needs and growth initiatives, Gladstone Investment has successfully accessed the capital markets through various means. The company has extended and increased its revolving credit facility, conducted public offerings of unsecured notes, and issued common and preferred stock. Additionally, Gladstone Investment has leveraged co-investment opportunities with its affiliates to enhance its investment capabilities and expand its reach in the lower middle market.

Over the years, Gladstone Investment has developed a diversified portfolio across a range of industries, including aerospace and defense, buildings and real estate, diversified/conglomerate manufacturing, diversified/conglomerate services, healthcare, education and childcare, and home and office furnishings, among others. As of December 31, 2024, the company's investment portfolio consisted of 26 portfolio companies located in 20 states or countries across 17 different industries, with a total fair value of $1.07 billion.

Gladstone Investment's success can be attributed to its disciplined investment approach and the expertise of its management team. The company's investment process involves thorough due diligence, rigorous risk assessment, and a focus on companies with stable cash flows, experienced management teams, and the potential for capital appreciation. This strategy has enabled Gladstone Investment to consistently generate strong returns for its shareholders, with a focus on providing current income through debt investments and the potential for long-term capital appreciation through strategic equity investments.

Financial Performance and Liquidity

Gladstone Investment's financial performance has been solid, with the company generating total investment income of $66.11 million for the nine months ended December 31, 2024, up from $63.66 million in the same period the prior year. However, net investment income decreased to $20.87 million from $16.45 million, primarily due to an increase in incentive fees and base management fees.

In the most recent quarter ended December 31, 2024, Gladstone Investment reported revenue of $20,528,000 and net income of $38,490,000. The company's operating cash flow (OCF) and free cash flow (FCF) for the quarter were both negative at -$164,155,000, indicating significant investments or changes in working capital during the period.

The company's balance sheet remains strong, with total assets of $1.07 billion as of December 31, 2024. Gladstone Investment maintains a conservative leverage profile, with an asset coverage ratio of 185.9% as of the same date, well above the regulatory requirement of 150%. Additionally, the company has significant liquidity, with approximately $160 million available on its $200 million credit facility as of the most recent reporting period.

As of December 31, 2024, Gladstone Investment's liquidity position included:

• Cash and cash equivalents: $2,570,000
• Restricted cash and cash equivalents: $578,000
• Available credit on $200 million credit facility: $108,500,000

Gladstone Investment has also been active in the capital markets, recently issuing $126.5 million in 7.875% notes due 2030, which will provide additional long-term, fixed-rate financing to support the company's growth initiatives. The successful note offering, combined with the company's available credit facility, underscores Gladstone Investment's ability to access capital and maintain financial flexibility to fund new investment opportunities.

Dividend and Distribution History

Gladstone Investment is known for its robust dividend and distribution policy, which is a key component of its investment strategy. The company pays monthly cash distributions to its common stockholders, with the current monthly distribution set at $0.08 per share, or $0.96 per share on an annual basis.

In addition to the monthly distributions, Gladstone Investment also declares supplemental distributions from time to time, which are funded by the capital gains realized on successful portfolio company exits. During the second quarter of fiscal year 2025, the company declared a $0.70 per share supplemental distribution, which was paid in October 2024. This type of supplemental distribution aligns with Gladstone Investment's goal of providing shareholders with meaningful capital gains from its equity investments.

The company's consistent dividend and distribution track record, combined with its ability to generate supplemental distributions, are attractive features for investors seeking stable income and the potential for capital appreciation. Using the monthly distribution run rate of $0.96 per share and the $0.70 per share supplemental distribution paid in October, Gladstone Investment's aggregate estimated fiscal year 2025 distributions would yield about 12% based on the closing price of $13.80 per share as of the day before the most recent earnings call.

Investment Activity and Portfolio Performance

Gladstone Investment has been particularly active in its investment activities, deploying $187 million in new capital during the third quarter of fiscal year 2025. This represented the largest investment quarter in the company's history, as it continued to capitalize on the robust deal flow in the lower middle market.

The company's investment portfolio has performed well, with four portfolio companies on non-accrual status as of December 31, 2024, consistent with the prior quarter. Notably, Gladstone Investment successfully exited its investment in Nth Degree during the quarter, generating a significant realized capital gain of $42.3 million.

Overall, the company's portfolio valuations increased by $3.9 million, excluding the reversal of unrealized appreciation related to the Nth Degree exit. This unrealized appreciation was driven by higher valuation multiples across the portfolio and improved performance at several portfolio companies, partially offset by declines at others.

As of December 31, 2024, Gladstone Investment's investment portfolio was composed of 76.3% in debt investments and 23.7% in equity investments, at cost. The company's debt investments primarily consist of secured first lien loans with a fair value of $599.91 million and secured second lien loans with a fair value of $108.74 million. The weighted-average yield on the company's interest-bearing investments, excluding cash and cash equivalents and receipts recorded as dividend and success fee income, was 14.0% as of December 31, 2024.

In terms of equity investments, Gladstone Investment's preferred equity investments had a fair value of $308.23 million, and its common equity and equivalents had a fair value of $50.35 million as of December 31, 2024.

During the nine months ended December 31, 2024, Gladstone Investment made several notable investments and exits:

• In May 2024, the company exited its remaining investment in Funko Acquisition Holdings, LLC, resulting in a return of its equity cost basis of $21,000 and a realized gain of $2,000.

• In July 2024, the company invested an additional $18.5 million in secured first lien debt in Nocturne Luxury Villas, Inc. to fund an add-on acquisition.
• In September 2024, the company exited its investment in Nth Degree Investment Group, LLC, which resulted in $100,000 of success fee income, a realized gain of $42.3 million on its preferred equity, and the repayment of its $25.0 million debt investment.
• In November 2024, the company invested $27.2 million in a new portfolio company, Pyrotek Special Effects, Inc., in the form of $20.1 million of secured first lien debt and $7.1 million of preferred equity.
• In December 2024, the company invested $71.3 million in a new portfolio company, Nielsen-Kellerman, Inc., in the form of $49.1 million of secured first lien debt and $22.2 million of preferred equity.
• Also in December 2024, the company invested $78.7 million in a new portfolio company, Ricardo Defense, Inc., in the form of $61.3 million of secured first lien debt and $17.4 million of preferred equity.

Gladstone Investment's ability to actively manage its portfolio, capitalize on exit opportunities, and selectively deploy capital in the lower middle market has been a key driver of its consistent financial performance and shareholder returns.

Risks and Outlook

While Gladstone Investment has demonstrated its ability to navigate the challenges of the lower middle market, the company is not without its risks. The company's performance is largely dependent on the economic conditions and financial health of its portfolio companies, which can be impacted by various macroeconomic factors, industry trends, and competitive dynamics.

Additionally, as a BDC, Gladstone Investment is subject to regulatory oversight and must maintain compliance with certain asset coverage and leverage requirements, which could limit its flexibility in managing its balance sheet and investment portfolio.

Despite these risks, Gladstone Investment remains optimistic about the future, citing a robust pipeline of potential investment opportunities and a strong balance sheet to support its growth initiatives. The company's management expressed confidence in the state of its portfolio and believes it is in a strong position with a liquid balance sheet, positive level of acquisition activity, and the prospect of continued good earnings and distributions over the next year.

Conclusion

Gladstone Investment Corporation has established itself as a leading player in the lower middle market, leveraging its expertise and disciplined investment approach to generate consistent returns for its shareholders. With a diversified portfolio, a strong balance sheet, and a commitment to providing stable monthly distributions and supplemental capital gains distributions, Gladstone Investment is well-positioned to continue navigating the challenges and opportunities of the middle market in the years to come. The company's focus on maintaining a balanced portfolio of debt and equity investments, combined with its active management approach and ability to capitalize on exit opportunities, should continue to drive value for shareholders in the future.