Great Elm Capital Corp: Earn Monthly Dividends With a 10.3% Yield
A Monthly Dividend Stock Most People Have Never Heard Of
When it comes to monthly dividend stocks, most investors would probably think about the real estate sector. Indeed, because tenants have to pay rent on a monthly basis, many real estate investment trusts (REITs) can afford to have a monthly dividend policy.
However, REITs are not the only companies that are capable of returning cash to investors every month. With that in mind, I’m going to tell you about a monthly dividend stock that most people have never heard of: Great Elm Capital Corp (NASDAQ:GECC).
Great Elm Capital is an externally managed business development company (BDC). Under the amended version of the Investment Company Act of 1940, BDCs don’t have to pay income tax at the corporate level, so long as they distribute at least 90% of their profits to shareholders through regular dividend payments.
Having this mandatory distribution requirement is certainly a good start, but in order to pay sustainable dividends, a BDC needs a stable business model. So, let’s take a look at what Great Elm Capital actually does to make money.
Headquartered in Waltham, Massachusetts, Great Elm Capital is best described as an alternative bank because it is in the lending business. However, most people have never heard of this bank because it does not serve consumers directly. Instead, it invests in debt instruments primarily of middle market companies.
The company’s target middle-market companies typically have enterprise values of between $100.0 million and $2.0 billion.
A Unique High-Yield Opportunity
Great Elm Capital usually makes multi-year investments in debt instruments purchased in the secondary market, but it may also originate investments directly. And that has created a unique opportunity for the company.
Because middle-market companies are not as established as their large-market counterparts, the increasingly stringent regulations in the banking sector means traditional banks don’t always lend to them. As a result, middle-market firms have to pay higher costs to obtain financing, which translates to oversized interest paid to lenders.
For instance, in the second quarter of 2018, Great Elm Capital deployed approximately $37.9 million of capital into eight different debt investments. The weighted average yield on those investments was 10.9%. As of June 30, the weighted average yield on the company’s total debt portfolio stood at 11.1%. (Source: “Investor Presentation – Quarter Ended June 30, 2018,” Great Elm Capital Corp, August 10, 2018.)
Moreover, Great Elm Capital’s debt portfolio consisted entirely of first-lien and/or senior secured loans. This means the loans are secured by collateral. As a first-lien lender, Great Elm Capital would stand first in line to get paid in the event of a borrower liquidation.
The company’s high-yield portfolio, combined with a focus on senior secured lending, allows it to generate an oversized interest income stream. And thanks to the mandatory distribution requirement for BDCs, those profits are eventually passed on to the company’s shareholders.
Right now, Great Elm Capital pays monthly dividends of $0.083 per share, giving GECC stock an annual yield of around 10.3%. When most companies are paying quarterly dividends of less than five percent, a 10.3%-yielding monthly dividend stock may look too good to be true.
Great Elm Capital Is a Surprisingly Safe High-Yielder
As an alternative bank, Great Elm Capital Corp earns profits by lending money out at higher interest rates than it borrows at, pocketing the difference. So, the key performance metric to look at is net investment income.
In the second quarter of this year, Great Elm Capital generated net investment income of $6.1 million, or $0.57 per share. Since the company declared three monthly dividends totaling approximately $0.25 per share for the quarter, its net investment income covered the dividends more than twice over. (Source: “Great Elm Capital Corp. Announces Second Quarter 2018 Financial Results; Net Investment Income of $0.57 Per Share; Board Declares Fourth Quarter 2018 Distribution of $0.25 Per Share ($0.083 Per Share Per Month),” Great Elm Capital Corp, August 10, 2018.)
In the first six months of 2018, things were equally impressive. During this period, Great Elm Capital generated total net investment income of $0.93 per share while declaring total dividends of approximately $0.50 per share. That translated to a payout ratio of 54%, leaving a wide margin of safety.
Mind you, regular monthly dividends are not the only thing that GECC stock investors have collected over the years. In December 2017, the company’s board of directors declared a special dividend of $0.20 per share, which was paid in January of this year.
The reason for the special payment was quite obvious: “As we have consistently out-earned our declared distributions this year, we are pleased to announce a year-end special distribution to our stockholders of $0.20 per share,” said President and Chief Executive Officer Peter A. Reed. (Source: “Great Elm Capital Corp. Declares Special Distribution of $0.20 Per Share,” Great Elm Capital Corp, December 26, 2017.)
The Bottom Line on Great Elm Capital Corp
Now, keep in mind that, so far in 2018, Great Elm Capital has managed to out-earn its declared distributions. If the company can keep this momentum going, GECC stock might be able to pay another special dividend at year-end.
Adding in its current yield of about 10.3%, this monthly dividend stock looks like a serious income opportunity.