Moody’s Investors Service affirmed the B2 corporate family and senior secured ratings of NXT Capital and revised its rating outlook to positive from stable.

Moody’s revised NXT’s rating outlook to positive to reflect the firm’s profitable operations, disciplined growth, well managed asset quality, and strong capital position. During the past two years, NXT has pursued reasonable and balanced growth in its corporate finance, commercial real estate finance and equipment finance segments, extending its record of profitable operations, though like other commercial lenders, its net interest margin has narrowed in response to competitive conditions.

NXT’s rating constraints include its reliance on secured funding, modest alternate liquidity, and competitive disadvantages versus more established finance companies and regional banks.

NXT has lengthened its operating track record, reinforcing its modest but sustainable franchise positioning in mid-market commercial finance. The company’s business proposition is based on the expertise and prior operating experience of management, as well as the company’s network of relationships with transaction sponsors and other financial institutions from which it sources new lending opportunities. However, NXT is disadvantaged in comparison to larger, more established banks and finance companies in terms of the breadth of business opportunities it can competitively pursue and the market capital that it can efficiently access.

NXT has demonstrated good asset quality performance as its portfolio seasoned over the past few years. As with other lenders, this is partially a function of originating loans during a period of economic recovery. NXT’s credit risk appetite is appropriately measured based on its strong underwriting bias for first lien senior secured lending and good industry and geographic diversification. Moody’s considers it possible that competitive pressures could result in NXT expanding its risk appetite for more highly levered “stretch” senior secured and second lien loans and larger loan transactions. Outsized growth in such loan volumes would be a ratings constraint.

NXT maintains reasonable leverage for its mix of business, with its ratio of tangible common equity to tangible assets measuring a healthy 27.3% at the end of the March quarter. Moody’s expects that NXT’s leverage will gradually increase within an appropriate range as it deploys capital towards portfolio growth and to address current pressures on return on equity profitability.

NXT employs multiple long-term funding sources, which results in manageable near-term refinancing risk. However, the company’s alternate liquidity is modest, including availability under secured credit facilities, undrawn equity commitments, and unrestricted cash. Additionally, NXT has encumbered almost all earning assets, which reduces financial flexibility.

NXT’s ratings could be upgraded if the company continues to demonstrate solid asset quality and operating performance over the intermediate term, while maintaining strong capital buffers. Diversification of funding that reduces the firm’s reliance on secured funding and an increase in alternate liquidity would also strengthen prospects for higher ratings.
Ratings could be downgraded if NXT’s asset quality performance and profitability deteriorates unexpectedly, leverage increases significantly, or growth materially accelerates.

NXT, with total assets of $3.4 billion at March 31, 2015, is a provider of financing to US middle market companies as well as commercial real estate investors.