This 10.7% Yielder Is Trading at a Significant Discount
Value Stock Offers a Huge Payout
There is a very simple reason why PennantPark Investment Corp. (NASDAQ:PNNT) deserves income investors’ attention: value.
With share prices soaring for most of the last decade, the U.S. stock market has gotten bloated. Even with the recent market correction, valuations of U.S. equities are still much higher than their historical average.
Consider this: Historically, S&P 500 companies had an average price-to-earnings (P/E) multiple of 15.7 times. Today, the ratio stands at more than 24.1 times.
Still, investors who know where to look can find value in this market.
PennantPark Investment Corp., for instance, had a net asset value of $9.10 per share the last time it reported. Yet the company’s shares trade at just around $6.70 apiece. Therefore, if the value of PNNT’s portfolio hasn’t deteriorated that much over the last several months, its current stock price would represent a discount of over 25% from its net asset value. (Source: “PennantPark Investment Corporation Announces Financial Results for the Quarter Ended December 31, 2017,” PennantPark Investment Corp., February 7, 2018.)
Of course, trading at a big discount could mean that the company lacks investor appeal. However, while PNNT doesn’t have the most impressive share price performance, it still runs a solid business.
Let me explain.
Headquartered in New York City, PennantPark is a business development company (BDC) that focuses on the U.S. middle market. In particular, it provides financing solutions to middle-market private businesses in the U.S. through first-lien secured debt, second-lien secured debt, subordinated debt, and equity investments.
As of December 31, 2017, PennantPark had a $1.1-billion portfolio invested in 57 different companies. The average investment size was $19.3 million. (Source: “PennantPark Investment Corporation,” PennantPark Investment Corp., December 31, 2017.)
While PennantPark’s investments can take many forms, its focus has always been on secured lending. By the end of the last year, first- and second-lien secured loans accounted for 74% of the company’s total portfolio.
For those not in the know, a first-lien lender gets to stand first in line to get paid if the borrower defaults. Therefore, the focus on senior secured loans could significantly reduce the risk for the middle-market lender.
Indeed, since PennantPark’s inception, the company had an annual loss rate of just 34 basis points against a 13% average yield from its portfolio.
Today, the yield on cost of PennantPark’s debt portfolio stands at 11.8%. To shareholders, that has translated to a tidy income stream.
Paying quarterly dividends of $0.18 per share, PNNT stock offers an annual yield of 10.7%.
And if you are concerned about this high-yield stock’s dividend safety, a look at its financials should be reassuring. According to PennantPark’s most recent quarterly earnings report, the company generated a net investment income of $0.20 per share. This was more than enough to cover its quarterly dividend payment of $0.18 per share.
And the best could be yet to come. By the end of 2017, approximately 82% of PennantPark’s assets bore interest at floating rates, while liabilities consisted of mostly fixed-rate debt.
Therefore, if interest rates go up—which they’ve already been doing—the company could generate significantly higher interest income without incurring much higher interest expense. This could lead to higher net investment income, which can then be distributed to PennantPark’s shareholders.
With a solid 10.7% yield and a huge discount to its net asset value, PNNT stock deserves a serious look.
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