Lower Base Rates And Spread Compression Will Pressure Earnings And Dividend Sustainability

Catalysts

About WhiteHorse Finance

WhiteHorse Finance is a business development company that provides first lien, senior secured loans to middle market sponsor and nonsponsor borrowers in the United States.

What are the underlying business or industry changes driving this perspective?

• Intensifying competition and spread compression in both mid market and lower mid market lending, driven by larger managers moving down market and new entrants chasing volume, is likely to cap asset yields and pressure net investment income even if deployment modestly improves.
• The shift to a lower base rate environment following the onset of interest rate cuts, combined with structurally tighter credit spreads, reduces the earnings power of the largely floating rate loan book and limits the company’s ability to grow or even sustain current dividend levels from core income.
• Prolonged workout timelines on underperforming credits that are expected to remain on nonaccrual for 12 to 24 months will tie up capital in low or non income producing assets. This constrains portfolio rotation into higher yielding loans and weighs on earnings and potential NAV recovery.
• Rising leverage within the STRS JV and its declining portfolio yields increase downside risk if credit performance deteriorates. This could turn what is currently an accretive ROE contribution into a drag on consolidated returns and pressure overall net margins.
• Muted M&A and sponsor activity that is keeping deal pipelines below normal levels limits origination opportunities. With balance sheet and JV capacity already nearing full utilization, the company has few levers to drive material portfolio growth, constraining future revenue and earnings expansion.

Assumptions

This narrative explores a more pessimistic perspective on WhiteHorse Finance compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts. How have these above catalysts been quantified?

• The bearish analysts are assuming WhiteHorse Finance's revenue will decrease by 7.6% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 12.9% today to 54.6% in 3 years time.
• The bearish analysts expect earnings to reach $32.9 million (and earnings per share of $1.42) by about December 2028, up from $9.9 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 6.5x on those 2028 earnings, down from 18.2x today. This future PE is lower than the current PE for the US Capital Markets industry at 25.3x.
• The bearish analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 12.5%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• The company is actively resolving troubled credits and has already reduced nonaccruals to 2.7 percent of the debt portfolio at fair value from 4.9 percent in the prior quarter. If this improvement is sustained over the next 12 to 24 months, it could support a recovery in net asset value and stabilize earnings.
• Management is pivoting hard into the less competitive nonsponsor market, where leverage is lower and pricing remains at SOFR plus 600 basis points or better. This shift could help preserve asset yields despite spread compression elsewhere and provide support for revenue and net margins.
• The STRS JV is generating a mid teens return on equity and continues to grow, with income from the JV already increasing quarter over quarter. This may provide a durable and accretive earnings stream that supports future net investment income growth.
• The new lower base dividend of 0.25 dollars per share is explicitly set to be reliably covered under management’s rate and spread assumptions. The supplemental distribution framework and special dividends tied to undistributed taxable income create potential upside that could improve total shareholder returns and earnings visibility.
• The Board approved a 15 million dollar share repurchase program at a stock price more than 40 percent below book value. If executed meaningfully, these buybacks could be accretive to NAV per share and NII per share and may support a higher share price and stronger earnings profile over time.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bearish price target for WhiteHorse Finance is $6.5, which represents up to two standard deviations below the consensus price target of $7.67. This valuation is based on what can be assumed as the expectations of WhiteHorse Finance's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $9.0, and the most bearish reporting a price target of just $6.5.
  
• In order for you to agree with the more bearish analyst cohort, you'd need to believe that by 2028, revenues will be $60.2 million, earnings will come to $32.9 million, and it would be trading on a PE ratio of 6.5x, assuming you use a discount rate of 12.5%.
  
• Given the current share price of $7.71, the analyst price target of $6.5 is 18.6% lower. Despite analysts expecting the underlying business to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.