FDUS - Get Paid A Hefty 8.2% Dividend Yield By Fidus Investment

Summary

• Fidus Investment has a growing, secured debt-focused portfolio.
• Dividend coverage is great, the regular and special dividends are well-covered by NII.
• Fidus again trades at a discount to net asset value.

Fidus Investment Corporation ( FDUS ) is a well-managed business development company ("BDC") that passive income investors should look into.

The business development company provides investors with portfolio growth, a well-covered dividend, and a secured debt focus that provides significant downside protection in the event of a recession.

Furthermore, Fidus Investment invests in equity, which may drive total returns for investors in the future. The stock of the BDC is currently trading at a discount to net asset value.

Portfolio Strategy And Exposure

Fidus Investment is a business development firm that seeks to invest in the lower middle market. Fidus Investment typically seeks to make targeted investments ranging from $5 million to $35 million and is willing to take equity positions in the portfolio companies in which it invests.

In terms of debt exposure, Fidus Investment primarily invests in First and Second Lien investments, which provide investors with a high degree of certainty that their investment capital will be recouped, even in a distressed situation.

Fidus Investment's portfolio is dominated by high-quality first liens, which accounted for 59.0% of all investments at the end of the September quarter. Second Liens accounted for 24.2% of investments, yielding an 83.2% Secured Debt percentage. Subordinated debt, which is less secure than First and Second Liens, accounted for 9.7% of investments.

Importantly, Fidus Investment also invests in equity (7.1% of total investments) to boost potential investment returns. Over the long term, the BDC's management intends to invest 10% of its investment funds in equity. The inclusion of equity investments raises both Fidus Investment's total return potential and portfolio risk.

Fidus Investment had 75 portfolio companies with an investment value (at fair value) of $857 million at the end of the September quarter. Fidus Investment reflects on a decade of strong portfolio growth, during which the investment value more than tripled.

Dividend Remained Covered By NII

In 3Q-22 , Fidus Investment earned $0.51 per share in adjusted net investment income, resulting in a dividend payout ratio of 71%. The payout ratio is calculated using the BDC's adjusted net investment income and a quarterly dividend of $0.36 per share, which is Fidus Investment's going dividend rate.

In addition, the BDC paid a special dividend of $0.07 per share in the third quarter (as it had done in the previous two quarters), bringing the total remuneration to $0.43 per share. In 3Q-22, the dividend payout ratio was 84% based on total dividend payout (regular + special).

Overall, the dividend remained very well-covered, providing a good margin of safety for an investment in FDUS. Fidus Investment provides a trailing dividend yield of 7.5% based on the current quarterly payout of $0.36 per share.

However, the forward dividend yield will be higher because management has paid variable special dividends on a regular basis in the last year and announced plans to return the dividend to the pre-COVID level of $0.39 per share per quarter in 2023.

FDUS' dividend yield (based on the regular, predictable dividend) will be 8.2% based on an expected $0.39 per share per quarter dividend payout next year.

Net Asset Value Discount

Fidus Investment is currently trading at a 4% discount to NAV. The stock was trading at a premium in November, but the recent drop has made the valuation more appealing. Given the strength of Fidus Investment's portfolio, I believe the drop represents a buying opportunity.

Why Fidus Investment Might See A Lower/Higher Valuation

The extent to which Fidus Investment trades at a discount or premium to net asset value is primarily determined by the portfolio's performance, the resilience of NII, and the extent to which investors believe the company can credibly maintain its dividend.

The dividend (regular + special) is currently covered by Fidus Investment's solid dividend coverage, but this may change if credit market conditions deteriorate.

The business development company also has some equity exposure, which could be a problem if the market does not provide attractive exit opportunities for FDUS.

My Conclusion

Fidus Investment has developed a focus in its investment portfolio on First Lien and Second Lien Debt, but it also maintains a small position in Equities to spice up returns and boost its net investment income potential.

Fidus Investment has strong dividend coverage and can afford to pay special quarterly dividends for the time being.

Due to a consolidating market, the FDUS valuation has taken a hit recently, but this drop provides passive income investors with an opportunity to purchase Fidus Investment at a small discount to net asset value.

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