Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Risk Management
As a BDC regulated under the 1940 Act, we seek to manage risk exposure by closely monitoring our portfolio and actively managing financing, interest rate, credit, prepayment and convexity (a measure of the sensitivity of the duration of a loan to changes in interest rates) risks associated with holding our portfolio. Generally, with the guidance and experience of our Adviser:
• we manage our portfolio through an interactive process with our Adviser and service our self-originated loans through our Adviser’s servicer;
• we invest in a mix of floating- and fixed-rate loans to mitigate the interest rate risk associated with the financing of our portfolio;
• we actively employ portfolio-wide and asset-specific risk measurement and management processes in our daily operations, including utilizing our Adviser’s risk management tools such as software and services licensed or purchased from third-parties and proprietary analytical methods developed by our Adviser; and
• we seek to manage credit risk through our due diligence process prior to origination or acquisition and through the use of non-recourse financing, when and where available and appropriate. In addition, with respect to any particular target investment, prior to origination or acquisition our Adviser’s investment team evaluates, among other things, relative valuation, comparable company analysis, supply and demand trends, shape-of-yield curves, delinquency and default rates, recovery of various sectors and vintage of collateral.
Investment Valuation Risk
We evaluate our loans on a quarterly basis and fair value was determined, prior to January 1, 2026, by our Board through its independent Audit and Valuation Committee, and, beginning on January 1, 2026, by the Adviser, in its capacity as “valuation designee” under, and in accordance with, Rule 2a-5 under the 1940 Act. We used an independent third-party valuation firm to provide input in the valuation of all of our unquoted investments, which we consider along with other various subjective and objective factors in making our evaluations.
Our loans are typically valued using a yield analysis, which is typically performed for non-credit impaired loans to borrowers. Alternative valuation methodologies may be used as appropriate, and can include a market analysis, income analysis, or recovery analysis. To determine fair value using a yield analysis, a current price is imputed for the loan based upon an assessment of the expected market yield for a similarly structured loan with a similar level of risk. In the yield analysis, we consider the current contractual interest rate, the maturity and other terms of the loan relative to risk of the borrower and the specific loan. A key determinant of risk, among other things, is the leverage through the loan relative to the enterprise value of the borrower. As loans held by us are substantially illiquid with no active transaction market, we depend on primary market data, including newly funded loans, as well as secondary market data with respect to high-yield debt instruments and syndicated loans, as inputs in determining the appropriate market yield, as applicable. Changes in market yields, recovery rates, and revenue multiples may change the fair value of certain of our loans. Generally, an increase in market yields may result in a decrease in the fair value of certain of our loans, while a decrease in revenue multiples and recovery rates may result in a decrease in the fair value of certain of our loans ; however, this is mitigated to the extent our loans bear interest at a floating rate.
We have invested, and plan to continue to invest, primarily in illiquid debt and equity securities of private and public middle-market companies. Most of our investments will not have a readily available market price, and the fair value of such investments are valued at fair value, as determined in good faith by the Adviser, in its capacity as “valuation designee” under, and in accordance with, Rule 2a-5 under the 1940 Act, based on, among other things, the input of independent third-party valuation firms retained by the Company, and in accordance with the Adviser’s valuation policy. There is no single standard for determining fair value. As a result, determining fair value requires that judgment be applied
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to the specific facts and circumstances of each portfolio investment while employing a consistently applied valuation process for the types of investments we make. If we were required to liquidate a portfolio investment in a forced or liquidation sale, we may realize amounts that are different from the amounts presented and such differences could be material.
Interest Rate Risk
Interest rates are highly sensitive to many factors, including fiscal and monetary policies and domestic and international economic and political considerations, as well as other factors beyond our control. We are subject to interest rate risk in connection with our assets and our related financing obligations.
Our operating results depend in large part on differences between the income earned on our assets and our cost of borrowing. The cost of our borrowings generally will be based on prevailing market interest rates. During a period of rising interest rates, our borrowing costs generally will increase (a) while the yields earned on our leveraged fixed-rate loan assets will remain static, and (b) at a faster pace than the yields earned on our leveraged floating-rate loan assets, which could result in a decline in our net interest spread and net interest margin. The severity of any such decline would depend on our asset/liability composition at the time as well as the magnitude and duration of the interest rate increase. Further, an increase in short-term interest rates could also have a negative impact on the market value of our target investments. If any of these events happen, we could experience a decrease in net income or incur a net loss during these periods, which could adversely affect our liquidity and results of operations.
Interest rate sensitivity refers to the change in earnings that may result from changes in the level of interest rates. We intend to fund portions of our investments with borrowings, and at such time, our net investment income will be affected by the difference between the rate at which we invest and the rate at which we borrow. Accordingly, we cannot assure shareholders that a significant change in market interest rates will not have a material adverse effect on our net investment income.
As of June 30, 2026, on a fair value basis, 55.4% of performing debt investments bore interest at a floating rate and 44.6% of performing debt investments bore interest at a fixed rate, respectively. Our borrowings under our Revolving Credit Facility bear interest at a floating rate and our TCGSL Credit Facility and 2027 Senior Notes bear interest at a fixed rate.
As of June 30, 2026, the floating benchmark rates included one-month and three-month SOFR and U.S. prime. One-month SOFR was quoted at 3.7% and subject to a weighted average floor of 3.7% based on outstanding principal. Three-month SOFR was quoted at 3.7% and subject to a weighted average floor of 2.5% based on outstanding principal. U.S. prime rate was quoted at 6.75% and subject to a weighted average floor of 4.5% based on outstanding principal.
Based on our June 30, 2026 consolidated statement of assets and liabilities, the following table shows the annual impact on net investment income of base rate changes in interest rates on performing investments (considering interest rate floors for variable rate instruments) assuming no changes in our investment and borrowing structure:
Basis Point Change Interest Income Interest Expense Net Investment Income
Up 300 basis points $ 3,297,250 $ (3,300,000) $ (2,750)
Up 200 basis points $ 1,983,366 $ (2,200,000) $ (216,634)
Up 100 basis points $ 697,223 $ (1,100,000) $ (402,777)
Down 100 basis points $ (544,535) $ 275,000 $ (269,535)
Down 200 basis points $ (550,378) $ 275,000 $ (275,378)
Down 300 basis points $ (550,378) $ 275,000 $ (275,378)
We may in the future hedge against interest rate fluctuations by using hedging instruments such as interest rate swaps, futures, options and forward contracts. While hedging activities may mitigate our exposure to adverse fluctuations in interest rates, certain hedging transactions that we may enter into in the future, such as interest rate swap agreements, may also limit our ability to participate in the benefits of changes in interest rates with respect to our portfolio investments.
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Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.