Apollo Investment Corp (AINV) 2007 Q3 法說會逐字稿

Good morning and welcome to Apollo Investment Corporation's Third Fiscal Quarter 2007 Earnings Conference Call.

At this time, all participants have been placed on listen-only mode. The call will be opened for a question-and-answer session following the speakers' remarks. [OPERATOR INSTRUCTIONS].

It is now my pleasure to turn the call over to Mr. John Hannan, Chairman and Chief Executive Officer of Apollo Investment Corporation. Mr. Hannan you may begin your conference.

Thank you and good morning everyone. I'd like to welcome you to our Third Fiscal Quarter 2007 Earnings Conference Call. I am joined today by Jim Zelter, COO and President and Rich Peteka, our Chief Financial Officer.

Before we begin, Rich would like to touch on a few issues; Rich?

Thank you John. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of Apollo Investment Corporation and that any unauthorized broadcast of this call in any form is strictly prohibited. Audio replay of the call will be available by using the telephone numbers and PIN provided in our earnings press release.

I'd also like to call your attention to the customary Safe Harbor disclosure in our press release regard forward-looking information. Today's conference call may include forward-looking statements and projects, and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these projections. We do not undertake to update our forward-looking statements unless required by law.

To obtain copies of our latest SEC filings, please visit our website at www.apolloic.com, or call us at 212/515-3450.

At this time, I'd like to turn the call back to our Chairman and Chief Executive Officer, John Hannan.

Thank you Rich. Let me start off by saying that we are pleased to report that Apollo Investment Corporation raised almost $445 million in net proceeds from its recent equity rate. This brings Apollo Investment Corp's total investable capital to over $3.2 billion and gives us an important scale in growing an active middle market. It also provides us with ample liquidity to capitalize on periods of market dislocation or disruption. While we do not attempt to time the markets, we do want to have significant power -- powder available in case the markets break. Accordingly, we remain very excited about our business prospects and believe Apollo Investment Corporation is extremely well positioned looking out into 2007.

The quarter ended December came off the heels of an opportunistic second quarter that helped drive strong third quarter results. Our net investment income grew by more than 12% quarter-over-quarter, and our portfolio of diversified assets continued to generate strong, below-the-line results for shareholders. Our ability to offer flexible capital to our relationships continues to be highly advantageous in a competitive marketplace where capital today is truly a commodity.

Unlike many other specialty finance companies, we do not structure our investments simply to generate top-line earnings alone. We are IRR investors and the value of broad network and relationships seek to structure and create solutions to meet the various needs of our clients.

Our goals continue to be to deliver a steady, stable, and growing dividend to our shareholders by patiently and prudently building a diversified portfolio of high-quality assets that generate a matching stream of cash flow. We remain highly cognizant of today's market conditions, and you can rest assured that we will continue to remain value investors.

During the quarter ended December 31, we invested approximately $234 million in six new transactions and two existing portfolio companies. Investment by asset type approximated $169 million in subordinated debt, $65 million in second liens; our total invested capital since the IPO is now over $3 billion in some 79 portfolio companies. Our portfolio at December 31 consisted of 54 companies valued at over $2.25 billion.

At this time, I'd like to turn the call over to our President and COO, Jim Zelter to go through some market commentary and provide more detail; Jim?

Thanks John. Over the last quarter, we continued to see a very strong pipeline of new investment opportunities, as well as significant repeat flow from existing private equity sponsors and existing portfolio companies. However, we've also seen record issuance of second lien and high-yield securities with tighter and tighter spreads and better overall terms for issuers. Average deal sizes also continue to grow as large cap private equity firms deploy their capital and invest in larger and larger companies. This dynamic continues to create opportunities for us as it abandons many healthy and sizeable companies from the high-yield market. Last year, as we talked about, the high-yield deal was $450 million; that will continue in the first quarter and last quarter as well.

Apollo Investment Corporation remains as one of the only handful of mezzanine lenders in scale and expertise in this middle market of capital structures. As John mentioned earlier, we have now invested over $3 billion in 79 companies since our IPO in April of '04, and we continue to grow our franchise through new and existing relationships in our credible consistent capital commitment process. Through December '06, we have invested NDOs with 57 different financial sponsors.

We had a relatively normalized quarter investing $234 million across six new and two existing portfolio companies. Of the six new investments we made last quarter, four were with middle-market sponsors that we had done business prior to the quarter. Our average investment in new portfolio companies exceeded $34 million for the quarter, and our average portfolio investment at December 31 now exceeds $41 million.

In general, and especially given where we are in the cycle, our business model continues to focus primarily on larger, middle-market companies, and we are very focused on the discipline that we've mentioned before and John mentioned earlier.

Let me take you through some of our investments made during the quarter. We invested EUR15.3 million in the subordinated debt of Casema Holding BV, a leading cable TV provider in the Netherlands. This investment was to back the buyout of the company by Cinven and Warburg Pincus. We also committed to fund an additional EUR16.9 million at a later date subject to various events and contingencies.

MW Industries is a leading manufacturer and catalog distributor of engineered springs, fasteners, and related components. We invested $60 million in subordinated debt to back the buyout of the company by Brockway, Moran, and Partners. We invested $20 million in the second lien bank debt of Oceana Cruises, an operator of cruise ships in the upper premium segment of the cruise line industry. Our investment was to finance the company's purchase of these cruise ships from Cruise Invest LLC, as well as to redeem Cruise Invest's preferred equity interest in Oceana.

Sheridan Healthcare is a leading provider of anesthesia and neonatology physician outsourcing services to hospitals and ambulatory services, surgery centers in the US. We invested $30 million in second lien bank debt to support the recap of the company by JW Childs. We also invested $15 million in the second lien bank debt of Summit Business Media. Summit Business Media is a newly-created holding company of business-to-business media companies. The financing was used to support the acquisition of Pfingsten Publishing and High Line Media by Wind Point Partners through Summit Business Media.

Veral International designs and manufactures drill bits for use in oil and gas exploration and production, as well as in other mining applications. We invested $47 million in subordinated [Out-Co] notes, $18 million in subordinated [Whole-Co] Notes with warrants in the company to support the re-capitalization of the company by KRG Capital. And with regard to existing investments, we invested an additional $7.3 million in subordinated debt of API Heat Transfer, Inc. to support the recap of the company by Audax Partners. API Heat Transfer is a global manufacturer of both standard and customized heat transfer equipment used in industrial manufacturing processes and in other commercial equipment.

Finally, we invested an additional $18 million in Sorensen Communications to support the partial sale of the company by GPCR to Madison Dearborn Partners. Sorensen is the leading provider of video relay services which enable people with hearing disabilities who use American Sign Language to communicate with voice telephone users through the use of an interpreter and video conferencing equipment.

Our net portfolio at December 31 consisted of 54 companies with a market value of $2.25 billion and was comprised of 65% in subordinated debt, 25% in Senior secured bank debt, 2% in preferred stock, and 8% in common equity and warrants. The weighted average yield of our debt portfolio increased slightly to 13.4% compared to 13.3% the last quarter, and the weighted average yield on our subordinated debt portfolio, including preferred stock increased to 13.6% compared to 113.5% last quarter while the average yield on our Senior Loans was 12.7% versus 12.8% at September 30, '06.

With that, I'll turn it over to our CFO, Rich Peteka.

Thank you Jim. We closed our third fiscal quarter of 2007 on December 31 with a net asset value of $16.36 per share, up from $16.14 per share at September 30, 2006 and from $14.41 per share at December 31, 2005. The increase for the quarter was driven by strong quarter-over-quarter net investment income growth as well as from net unrealized appreciation. Notably, our investment in GS Prismian and Co-Invest LP continued to outperform as the Company continued to generated strong earnings growth. Subsequent to quarter-end, the sponsor, Goldman Sachs, announced a liquidity event that will be reflected in our fourth fiscal quarter results.

Gross investment income for the quarter totaled $71.1 million compared to $63.9 million for the quarter ended September 30, 2006 and $37.6 million for the comparable quarter a year earlier. This represents an 11% increase quarter-over-quarter, as our net portfolio size increased from $2.04 billion at September 30 to $2.25 billion at December 31.

Net expenses total $32.4 million for the quarter, of which $7.2 million was our net performance-based incentive fee and $12.8 million was interest in other credit facility related expenses.

Expenses net of incentive fees and the credit facility were $12.3 million versus $11.1 million for the quarter ended September 30, 2006 and $7.7 million for the quarter ended December 31, 2005. This modest increase in expenses was due primarily to the increase in asset-based management fees related to the growth of our overall investment portfolio as compared to the September and December comparative quarters.

G&A expenses totaled $1.5 million for the quarter versus $1.5 million for the quarter ended September and $1.3 million for the comparable quarter December a year earlier. Accordingly, net investment income was $38 million or $0.46 per share for the quarter compared to $33.8 million or $0.41 per share for the quarter ended September 30 and $20.6 million, of $0.33 per share for the comparable quarter a year earlier.

Apollo Investment Corporation taxable investment income represents only a portion of our taxable income included in quarterly dividends. Taxable income also includes commitment and other up-front fees received from investments that we are amortizing over the respective terms of our loans among other book-to-tax differences. Our investment sales and prepayments during the quarter totaled $85.3 million; these sales and prepayments generated net realized gains totaling $3 million as compared to gains of $30 million for the quarter ended September 30, and $2.1 million for the comparable quarter ended December 2005.

In addition, the Company realized net currency loss of $3.5 million for the quarter compared to losses of $0.3 million for the quarter ended September and gains of $2.6 million for the comparable quarter of December 2005. Total net realized losses for the quarter were $0.5 million versus a gain of $29.7 million for the quarter ended September and a gain of $4.7 million for the comparable quarter ended December 2005.

As a reminder, every portfolio company is valued each quarter using independent market quotations or are fair valued by our Board or Directors with the assistance of independent valuation firms.

At December 31, our investment portfolio had net unrealized appreciation of $118 million. This compared to $98 million at September 30 and $18.9 million at December 31, 2005.

For the quarter, the portfolio had a net increase in net unrealized appreciation of $19.4 million versus a net increase of $17.7 million for the quarter ended September 30 and a net increase of $8.3 million for the quarter ended December 31, 2005.

In total, our quarterly operating results increased net assets by $57 million, of $0.69 per share, versus an increase of $81 million and $1.00 per share for the quarter ended September and $33.5 million, or $0.53 per share for the share ended December 2005.

Now let me turn the call back to John.

Thanks Rich; we're extremely passionate about our business, and we remain very excited about what lies ahead for 2007. We believe that Apollo Investment Corp is well positioned to benefit from our strong brand, our integrated platform, overall market trends, and our strict investment discipline. I would like to reiterate that mezzanine and private equity is not a quarterly business, and that you should continue to expect us to have both periods of relative inactivity and periods in which we are very active.

We continue to be pleased with the performance of our overall investment portfolio through December 2006. Our portfolio management strategy of creating a portfolio of primarily debt investments with an allocation to private equity continues to generate desired results. Through December 31, 2006 on over $3 billion of invested capital, we have generated an internal rate of return in excess of 20%. We are also pleased to report that shareholders of AINV stock received a total return of approximately 11.7% for the quarter ended December 31 assuming a reinvestment of the dividends. Shareholders investing in AINV since the IPO in April of 2004 have received an average annual return of approximately 24% or 80% cumulative through December 31, assuming reinvestment of dividends.

In closing, I'd like to thank our growing team of talented professionals for their commitment and dedication to the overall success of Apollo Investment Corporation. Thank you for all your time today and for your continued investment and confidence in us.

This concludes our remarks. At this time, I would like to open the call to questions.

Thank you. [OPERATOR INSTRUCTIONS].

Carl Drake, SunTrust Robinson.

Good morning and congratulations on the Prismian transaction. I was wondering if you could provide a few more details about the gain; I believe it was close to $1.00 a share of unrealized appreciation at 12/31; could you provide some detail as to what the gain might look like, or fetch dividend income in this coming quarter?

Yes Carl, this is Rich; we really haven't been publicly announced how that's going to impact the portfolio; obviously, the liquidity of that was announced, it was pretty large from Goldman Sachs' standpoint. Keep in mind that management of the Company owns a significant interest in the Company, Goldman Sachs owns an interest, and we own an interest. Again, we're excited about the liquidity event, and we're going to have to think through how that's going to flow with regard to dividends, with regard to how it's going to hit our P&L, the character of these earnings and again, we're very excited about it but at this time, we can't comment any further.

Okay I understand; I guess last question in terms of the current market conditions are very competitive. Other than patience in searching for value, is there anything that we might expect in terms of the changes in the portfolio mix; perhaps more European mezzanine or larger mezzanine transactions? Any potential changes assuming the market doesn't break?

Carl this is Jim; it's our view that certainly, whether it's credit trends or pricing, we all read what we've seen in the headlines recently, I would not expect any difference in our portfolio construction. I think later and later in the credit cycle, we're looking at larger middle-market companies; we're trying to get larger companies, some of the syndicated transactions we've looked at sometimes have been larger like the Casema transaction, so we're trying to realize, and we are late in the credit cycle, trying to have a, raise our credit profile and some of our companies to a greater degree in terms of substance and size. But nothing beyond the normal portfolio construction we've put forth to day.

So in terms of yield, you expect really not much of a change in portfolio yield as you move slightly larger up-market?

Well certainly, product pricing continues in terms of pricing the overall market has continued to be grinding down to tighter spreads, and I think that in the current environment, you'll see over time our average yields in our portfolio as we put new investments on in a lower environment, it'll be a natural progression, which takes place over time. But certainly, we are just -- what we're find ourselves, quite frankly doing is saying "no" to a lot more transactions. We are finding a few that fit into our zip code of return. And since we are an IRR investor, we're not just focused on the coupon; we're very focused on the other benefits, whether it's for us right now, redemption provisions, the fact that we've been so focused on them in the past is helping us out to this, in this environment.

Great, thank you.

Sanjay Sakhrani, KBW.

Good morning guys; good quarter. Jim I was wondering if you could discuss the net depreciation you guys saw on American Asphalt. And I also just wanted to get an update on that one non-accrual you guys have.

Well sure; let me talk about American Asphalt for a moment. This is a Las Vegas based infrastructure and construction company and certainly we've been involved in this investment for, since the middle of '05. This is a company that I would say a couple of issues have occurred; one is the nature of the business, the nature of the accounting in the business when the sponsor first bought the business, in terms of how the percentage of the completion accounting and the nature of the construction business, that was when the sponsor actually ended up buying the business. In closing on it, there were some post-closing adjustments realizing that the EBITDA of the business was quite not as healthy as they'd thought on the original purchase.

There were some subsequent working capital adjustments subsequent to that, but since that point in time, the operation, certainly Las Vegas has, the residential construction business had a detrimental impact on the company's earnings in the latter half of 2006. We certainly still believe in the long-term prospects of this business. All indications to us indicate that that area in that region of the country will over time attract a great deal of migration and thus, infrastructure build and home building. However, there is a downturn in the region right now, which is certainly impacting the company. We're in the midst, we're having a very active dialog with the sponsor, and the first-lien lenders to make sure the company has the appropriate capital structure to withstand this downturn. It is a very active dialog going on; this is a very sponsor we've done quite a bit of business with in the past and again, it's our position to be able to have those very candid dialogs as part of the actual dialog taking place week-in, week-out.

This company has made all its required cash interest payments to date, but certainly we thought it was prudent, and since this is one where there is an outside quote in the marketplace, and we marked it down appropriately and went through the valuation process. So we're very focused on it, and I think it's one we are certainly spending a lot of time and resources to make sure that we address appropriately going forward.

Okay great, and are there any other instances of housing exposure in the portfolio?

A lot of it is indirect in that we don't have any home builders or builders per se; we have companies that certainly have, whether it's commercial or residential building exposure by farther down the chain, if you would, but those credits in fact we have been on top of a handful of those, and we feel very comfortable that they are providing good EBITDA growth and de-leveraging as we would expect.

Okay great, and just on that one non-accrual that you guys have, any updates on that?

There have been, we did mark -- the credit went down for the quarter, which Rich can talk about. We are still working on the restructuring. We had an opportunity to make an equity investment in that business; we chose not to pursue that. We did not believe that it was a prudent investment for us, i.e. good money going after bad, so we chose not to do that. But there's nothing material that we should disclose to this point in time.

Right, and just let me add to that Jim, thank you, that when the mark went from $0.15 on the dollar to $0.05, again this is something that we have full [recovernance] to, they need to get our consent in order to sell the company; we're working with them very closely. This is a company that's a multi-national company; they have a US business, they have a French business, and we've been to France a few times and we continue to work hard with the company trying to maximize shareholder value, but as Jim said, we're not interested in the equity of that company at this point, and we're just trying to maximize where we are today.

Okay, well once again, great quarter, thanks.

Thank you.

[OPERATOR INSTRUCTIONS].

Joel Houck, Wachovia.

Thank you, good morning; my question really has to kind of do with deals that you turn down in kind of the current environment. Can you give us a sense for where the challenges are, whether it's pricing, tighter spreads, is the structure weaker that's coming in from sponsors, or is it more of the leverage multiples are higher than where you guys would like?

I think it's -- this is a great question -- and just to be clear, on the average quarter since the beginning of this Company, we turn down many, many more investments than we make every quarter, and certainly that number is increasing. But the transactions we're turning down right now, some of these may end up being very good investments in good companies, but I would say overall, we see it's a combination of both those questions you raised. There is an upturn in leverage, leverage that we feel that in a downside scenario, which we really stress to a lot of our companies, there is an, there is a likelihood of some impairment. So in those cases where we think there is a likelihood of some degree of impairment, we are just not willing to pull the trigger on those situations.

Certainly, with what's going on in a lot of the structure products, CDOs, CLOs, they are certainly putting some pricing pressure on the second lien market; the second lien market we're looking at a lot more transactions before we find a few that make sense for us, and quite frankly, there's a lot of companies that are smaller under our radar screen in terms of half in size, which we just do not believe they're going to have the ability to deal with a challenging downturn when that does eventually happen.

So it really is a combination of both of those; we are still continuing to see our pipeline as robust. We're seeing many deals. We happen to be turning down a greater number than before, but we would expect that to continue in this current environment as we see it, as we're seeing it here today.

Okay thanks, that's great color.

[OPERATOR INSTRUCTIONS].

Rich McCaffrey, Stifel Nicolaus.

Hi good morning; I guess a kind of follow-up here just on, if you look at the originations that you did over the quarter, so this was just a case of you being opportunistic and kind of stepping back as opposed to changing anything in terms of lending standards, looking for bigger deals, anything along those lines.

That's exactly right -- I'm sorry -- that's exactly right. I mean we, as John mentioned, we pride ourselves on being an overall IRR investor, and the second quarter this year when the high-yield market really backed up in the middle of '06, we took great advantage of that; that did not happen in the third quarter, the calendar fourth quarter of last year, but certainly we are going to maintain this discipline. We believe this is what our investors want; we believe this is what would allow our portfolio over time to really have a great overall return.

And certainly we feel as confident as ever before in having the Apollo integrated network sourcing opportunities for us, and we'd hate to be out there without that because we do see many transactions and we are afforded a handful every quarter, but right now we are, the credit bar has to rise because of the type of leverage and the type of terms issuers are getting, we just want to make sure we do what's right long term for our business.

That's helpful, thank you; and then maybe just one philosophical kind of quest. Just in terms of thinking about the dividend, thinking about the portfolio and thinking about coverage of the dividend, a portion coming from potential gains; obviously, with a piece of the portfolio in equity, it makes sense for a piece of it to come from that, but can you just give us some color on how you look at it long term and what kind of your comfort levels are?

Yeah, hi Rich; this is Rich Peteka. What you're going to see is our equity exposure, that 8% or so, is largely from unrealized gains in GS Prismian. As that comes out of the portfolio, you're going to see the equity go back down to 1%, 2%, so keep in mind that this is primarily a debt portfolio, and our philosophy all along since the IPO is to generally just try and capture the pre-cash flow of bigger middle-market companies, structure it in a debt security, and generate some interest income for us to support our dividend stream to you guys. So the equity that we do selectively invest in is first and foremost there to offset the inevitable losses you'll have in a primarily credit portfolio.

And to the extent that we believe we're a debt-to-private equity, we believe that we can add value and offset those losses and add over and above that, that's great, but we're not promising anybody that. We're hopeful that we can do that but again, this is, we're very, very focused on the dividend, a steady, stable, and growing dividend, and to date, we're sticking to our strategy of this being debt with a very little amount of equity.

If value comes back in the market from an equity perspective, you'll see us raise that equity percentage up; actually go back to 10%, 15%; it's going to be opportunistic, so when we see that value, you'll see the equity come up as a percentage of the portfolio, and then we'll continue to do the mezzanine, the middle of the capital structure, so and that equity percentage will start sliding down again until we see more value in the equity.

But again, our primary mission is this is going to be a debt portfolio; we've got a lot of equity sponsors putting a lot of capital, fresh equity capital below us. We're giving it some support in where we are in the cycle focused on that dividend.

That's helpful; thanks very much.

[OPERATOR INSTRUCTIONS].

As there are no questions, this will conclude today's Apollo Investment Corporation Third Quarter 2007 Earnings Conference Call. You may now disconnect your lines.