Prospect Capital shifts its portfolio toward first-lien middle-market loans

By the time Prospect Capital closed its fiscal year on June 30, first-lien senior secured loans made up 72.5% of the portfolio on a cost basis. That is up 840 basis points from a year earlier. The shift showed up in results the business development company released Aug. 20. Second-lien exposure fell 454 basis points in the same period. It stands at 11.9% of the book. The subordinated structured notes allocation dropped 837 basis points. That slice of the portfolio is gone. Prospect also sold six real estate properties during the year and exited Echelon Transportation in February.

Allocators will want the performance figures behind that rotation. Prospect went public in July 2004. Since then, its exited investments have produced a gross IRR of roughly 12%. That return came on about $13.4 billion of capital invested. Proceeds from those exits reached $17.2 billion. Middle-market lending since 2004 only strengthens the pitch. Prospect puts the exited gross IRR at 14.4%, on $11.5 billion invested. Those loans returned $14.7 billion. The annualized realized loss rate on the middle-market book is 0.2%.

Once Prospect pays the distribution it has declared for October 2026, cumulative distributions to original common shareholders will hit $22.14 per share. That amounts to more than $4.8 billion in aggregate to common shareholders. Prospect has put about $23 billion to work since its IPO. That money went into more than 450 investments. Exited deals exceed 350.

Two years of selling have left Prospect concentrated in first-lien senior secured middle-market loans, the senior slice of a borrower's debt. The positioning is consistent with the 0.2% annualized realized loss rate Prospect reports on its exited middle-market lending. But that 14.4% gross IRR is gross, not net, and counts only exited deals; the live book could behave differently. The capital freed from second-lien and structured-note exits now has to find first-lien loans at yields high enough to keep the distribution stream intact.