Investment Thesis

Oaktree Specialty Lending Corporation’s (OCSL) portfolio demonstrated resilience in the face of the pandemic. The company’s net income decreased a mere 6% in FQ3. This result is spectacular, given the economic disruptions caused by COVID. The quality of the OCSL portfolio will enable the company to maintain its dividend distributions, which, at the time of this writing, yield 8.7%.

Image from the company’s investors presentation

Excellent Management

Oaktree Capital (NYSE:OAK), one of the best names in the asset management industry, is the external manager of OCSL. When Oaktree acquired OCSL in Q4 2017, it did an excellent job integrating its technology platform with that of OCSL, allowing for better loan origination, valuation, and risk management. Oaktree’s relationship and status on Wall Street translated to lower borrowing costs for OCSL. As a result, OCSL’s NAV per share increased for eight consecutive quarters before it declined as a result of the pandemic.

Resilient Portfolio

OCSL’s portfolio performed well, given the COVID market disruptions. Total revenue was down 10% and 6% in the three months ending March and June, respectively, on a YoY basis. This is an excellent performance both in absolute terms and compared to OCSL peers.

Below is a list of OCSL’s peers’ Q2 (three months ending June) performance.

Source: Table created by Author. Data from financial statements. Peers group chosen based on market cap.

Portfolio Characteristics

OCSL’s portfolio is composed of 119 companies spanning 39 industries, providing valuable diversification to investors. About 90% of the portfolio is composed of first-lien debt securities, producing a reliable income stream to shareholders.

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OCSL focuses on debt rather than equity investments. The company has 5% equity investments, most of which it classifies as non-core. OCSL’s focus on debt investments was an important factor in income stability during the pandemic. Take Gladstone Investment Corp. (GAIN), for example. GAIN’s revenue decreased ~40% in the three months ending June, compared to a 6% decline in OCSL. GAIN’s equity investments, which constitute 25% of the portfolio, stopped paying dividends during the lockdown.

Dividend sustainability

Earlier last month, OCSL announced a 10.5% increase in its dividend distributions to shareholders. I believe this distribution is sustainable because of portfolio strength and the low payout ratio.

The current dividend is $0.105 compared to $0.12 EPS in Q3 (three months ending June). OCSL’s income is stable, as explained above, and Wall Street analysts expect $0.12 EPS in Q4 as well. This translates to an 88% payout ratio. This low payout ratio not only shows that OCSL’s dividend yield is stable but also indicates that OCSL might increase dividends in the coming months.

Discount to NAV

The quality of the portfolio and large portion of liquid asset holding, as well as the conservative estimates by the company demonstrated by rapid write-offs in Q2 (ending March), are all factors that instill confidence in the reported NAV and the management. As a result, the gap between reported NAV and share price tightened in the past few weeks.

Table created by the Author. Data from OCSL financial statements.

Summary

When Oaktree acquired OCSL in Q4 2017, it did an excellent job integrating its technology platform with that of OCSL, allowing for better loan origination, valuation, and risk management.

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As a result of management’s actions, the OCSL portfolio demonstrated resilience in the face of the pandemic. The company’s net income decreased a mere 6% in FQ3. This result is spectacular, given the economic disruptions caused by COVID.

In recent weeks, the gap between reported NAV and price tightened, demonstrating investors’ confidence in the company. The pandemic allowed OCSL to demonstrate the quality of its assets.

In times of turbulence, it is wise to have a safety net to fall on. OCSL has proven itself to be a reliable source of steady income that would support investors in turbulent times. Strengthening your portfolio by adding companies like OCSL, before venturing into riskier investments like Tesla (TSLA) will enable you to stay longer in the game.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This is not an investment advice. All information contained in this article are for educational purposes only.



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