ArrowMark Financial Corp (BANX) 2015 Q2 法說會逐字稿

Welcome to the StoneCastle Financial Corporation second-quarter 2015 investor conference call. (Operator Instructions) As a reminder, this conference is being recorded.

Now I would like to turn the call over to Rachel Schatten, General Counsel of StoneCastle Financial. Thank you, Rachel. You may now begin.

Good afternoon. Before I begin this conference call we'd like to remind the audience that certain statements made during the call may be considered forward-looking statements, based on current management expectations that involve substantial risks and uncertainties. Actual results may differ materially from the results stated in or implied by these forward-looking statements. This would depend on numerous factors such as: changes in securities or financial markets or general economic conditions; the volume of sales and purchases of shares of common stock; the continuation of investment advisory, administrative, and service contracts; and other risks discussed from time to time in the Company's filings with the SEC including annual and semiannual reports of the Company.

StoneCastle Financial has based the forward-looking statements included in this presentation on information available to us as of June 30, 2015. The Company undertakes no duty to update any forward-looking statement made herein. All forward-looking statements speak only as of today, August 13, 2015.

Thank you. Now I will turn the call over to StoneCastle Financial's Chairman and Chief Executive Officer, Josh Siegel.

Thank you, Rachel. Good afternoon, everyone, and welcome to StoneCastle Financial's second-quarter 2015 investor call. In addition to Rachel, joining me today are George Shilowitz, President, and Pat Farrell, Chief Financial Officer.

On the call today I will highlight StoneCastle Financial's quarterly results, review the current portfolio, and comment briefly on the Company's intra-quarter SEC filings. As always, Pat will follow with details on our financial results.

I am pleased to report that in the second quarter we delivered increases in four key measurements: total earnings; net investment income; realized capital gain; and an increase in the Company's net asset value. Specifically, in the second quarter the Company reported total earnings of approximately $3.4 million or $0.52 per share, consisting of net investment income and net realized gains.

Net investment income for the quarter reached $2.3 million or $0.36 per share, a 26% increase over our results in the first quarter. In addition, the Company realized capital gains of approximately $1 million or $0.16 per share, primarily due to our investment thesis on MMCapS' fixed-rate mezzanine notes unfolding as planned.

We projected that a stressed bank inside MMCapS would improve and become current on its defer interest preferred security. A significant paydown of the MMCapS fixed-rate mezzanine notes occurred during the quarter.

At quarter-end, the Company's net asset value was $22.05, an increase of $0.15 from the last quarter. Pat will provide additional financial details later in the call.

Now let me spend a few minutes on capital deployment and continued asset deployment strategy. During the quarter, the Company deployed $24 million in four investments as we continue to build a portfolio focused on credit quality and predictable recurring income.

In addition, as we noted on our last call, our team has been actively working on a strategic initiative to invest in a pooled bank credit transaction. As many of you know, when I worked at Salomon Brothers I focused in part on developing new products, including collateralized pooled investment strategies for the community bank sector.

StoneCastle Advisors, an affiliate of StoneCastle Asset Management, has managed pooled bank investment vehicles of this type for over 11 years and currently manages over $1.8 billion in pooled transactions. Therefore, our Advisors' organization has a great deal of experience in this area.

Utilizing this experience, StoneCastle Financial is currently considering an investment in the preferred equity of a collateralized pool of bank and bank-holding company issued loans, which our Advisor believes has the potential to meaningful increase the Company's portfolio income. There is no guarantee that this transaction will occur and, if it does, when it would close.

Now I will provide a brief overview of our portfolio investments. As of June 30, the Company had total assets of $193 million, consisting of total investments of $186.3 million, cash of $4 million, and other assets of $2.7 million. Other assets include interest and dividends receivable of $1.8 million and prepaid assets of $0.9 million.

Total investments were comprised of 26.6% term loans and debt securities; 25.8% trust-preferred securities; and 38.4% preferred and convertible preferred stock. The balance of 9.2% includes equity positions, short-term investments, and other securities. More portfolio detail can be found in the semiannual N-CSR which was filed today.

Now I'd like to spend a moment describing three key points that differentiate StoneCastle Financial from other income investment vehicles. First, we use less leverage than certain other investment vehicles such as BDCs and REITs. We are limited to leverage of 33 1/3% of total assets, and such limit applies to all 1940 Act registered investment companies.

Second, while other vehicles are more highly leveraged, they also often use overnight borrowing, which carries more risk. StoneCastle Financial has a multiyear committed revolving line of credit. While more expensive than overnight debt, we have chosen to reduce the risk of borrowing short-term to buy long-term assets.

Lastly, nearly 75% of our investments are deemed investment-grade, BBB or better, by Kroll ratings, where most other high-yielding income investment companies have the majority of their portfolio in investments well below investment grade. We believe that investors should focus on the underlying credit quality of our assets relative to the extreme discount to NAV we are currently seeing in our share price. Since inception we have reported no credit losses, zero impaired assets, and no material deterioration of the credit quality within our portfolio.

Lastly, I would like to comment on the intra-quarter SEC filing. On May 22, the Company filed a mixed shelf registration statement with the SEC which has not yet become effective. We currently have no plan to issue additional shares of StoneCastle Financial; however, with several initiatives in progress, including the rate step-up for the U.S. Treasury's small business lending fund program starting later this year, and the potential to invest in more than one pooled transaction, we felt it was prudent to file with the SEC so that we will be prepared to raise capital when needed.

The specific terms of any securities that we may offer, if we choose to do so, will be determined at the time of such offering and will be described in a separately filed prospectus supplement at the time of such offering. None of the statements made regarding the shelf registration constitute an offer to sell or the solicitation of an offer to buy these securities.

In closing, we made solid progress this quarter. But as I have said before, while quarterly results are important, StoneCastle continues to take a long-term view towards creating value for our present and future shareholders.

Now I want to turn the call over to Pat Farrell to discuss the financial results in greater detail.

Thank you, Josh. I believe the detailed presentation of components which we have followed in the past has helped many of you understand the value of the Company, so I will continue to take some extra time to discuss our quarterly results.

The net asset value at June 30 was $22.05. The NAV for StoneCastle Financial is affected by four components: net investment income; realized gains and losses; the change in the value of the portfolio of investments; and finally, distributions paid during the period. Let me walk through these components.

Net investment income for the quarter was $2,345,457 or $0.36 per share. Net investment income reflects gross income from dividends and interest received from our portfolio investments, minus operating expenses.

Gross income for the second quarter was $3,954,180 or $0.61 per share. Gross investment income was up 23% from last quarter, the Company's seventh quarterly increase since inception.

The Company's operating expenses are comprised of various expenses such as: advisory fees; interest expense related to our use of leverage; custody and administration fees; legal fees; ABA fees; and other expenses. Operating expenses net of advisory fee waivers for the quarter were $1,608,723 or $0.25 per share.

These expenses are up approximately 18% from the first quarter primarily due to an increased use of the credit facility. The balance of the increase is from due diligence on our pipeline deals, advisory fees, and legal expenses.

The realized gains and losses reflect securities which were sold or called during the quarter. For the second quarter, this amounts to a gain of $1,036,964 or approximately $0.16 per share.

The third component, changes in unrealized appreciation or depreciation of the portfolio, relates to how the value of the entire investment portfolio has changed from the previous quarter-end to the current quarter-end. The vast majority of the portfolio is valued by market quotation, broker quotes, and other valuation sources.

For the second quarter, the value of the portfolio decreased by $292,510. This amounted to a decrease of $0.04 per share for the quarter.

The fourth component affecting the net asset value is distribution. The cash distribution for the quarter was $0.33 per share, paid on June 29 to shareholders of record on June 19.

To recap, we began the quarter with a net asset value of $21.90. During the quarter, we generated net income of $0.36, realized gains of $0.16, and the value of the portfolio declined by $0.04. The sum of these components, offset by the distribution of $0.33, resulted in an overall increase in the net asset value of $0.15 to $22.05 at June 30.

Now let me update you on our credit facility syndicate led by Texas Capital Bank. As of June 30, the Company had drawn $38.5 million of the facility. In accordance with the regulated investment company rules, we may only borrow up to 33.3% of our total assets. Our leverage percentage at the end of the quarter was 20%.

Now I'd like to turn it back over to Josh.

Thank you, Pat. We appreciate you taking time to be with us on this call. Now, operator, we would like to open up the call for questions.

(Operator Instructions) Greg Mason, KBW.

Great. Good afternoon, everyone; thanks for taking my question. Josh, on the potential pooled securitization, is that something that StoneCastle is putting together? Or are you buying an equity tranche in a third-party managed pool?

Good question. Citigroup is the investment bank leading the transaction. The expectation, if it gets done, is that StoneCastle Financial would be the investor in the preferred stock of that vehicle. StoneCastle Financial will not be the manager of it, will not have any active control over it, and is being contemplated currently as a static portfolio.

Okay, great. To do this first one, do you need any additional equity capital to complete this first one? Or do you have enough available capital on hand to be able to consummate it?

We believe we have enough on hand and have securities that we've been and continue to sell in the market to generate the amount we would need to close that transaction.

Perfect. Okay, great. Then in the press release you talked about $24 million in four investments, and then you highlight three of them for about $17 million. What would be the last one, that looks to be about an $8 million investment in size?

That was one of our short-term holdings, PFF, which we've -- was sort of our cash equivalent we've done for the previous quarters. We don't tend to break that one out because it is not a core long-term holding.

Got it; okay, great. Then of those three that you announced, all three of them are debt. Is there an active thought of moving toward debt versus preferreds, or any commentary around debt versus preferreds going forward?

No, it's more reactive than proactive, but that's a good question. Since the Small Bank Holding Company Policy act went into effect -- what was it now, four months ago, five months ago -- there's definitely been increased interest from banks out there to utilize the subdebt market. So that seems to just be the flavor of the quarter.

We are still working on a few preferred transactions that are in the queue and in diligence. So it's not an active choice. It's really reacting to what the bank demand is.

Okay, great. Then with the shareholder approvement of May of switching to the Delaware trust, can you talk about what the savings and the timing of those savings could be with that change?

Sure. Well, one thing is we went for a shareholder vote and we actually just didn't get enough votes to put it through. It wasn't we didn't get enough yeses; we just didn't get enough votes. So actually we never did convert.

That said, I'll let Pat speak to it. Pat has actually done a fantastic job of actually cutting those taxes anyway, really crawling through the Delaware rules, and we found there are some interesting exemptions for the company of our type. Pat, maybe just take a second (multiple speakers)

Yes. Well, initially you may recall that in the past we had -- the fee applicable to us was about $180,000 a year. It turns out there is an exception for investment companies there. So our fee is not going to be $180,000; it will be more like $90,000 a year.

So going forward, that's what we're looking to approve for. Quite frankly, we had accrued little bit extra from last year, and we were able to get a retroactive reduction in our fee for last year. So we will not be accruing anything additional this year until probably late this year or beginning of next year.

That's great. Then one last thing with the investment income; it had a nice jump up this quarter. Were there any one-time items, any prepayment penalties or anything that artificially boosted that investment income this quarter? The interest -- excuse me, the interest income.

No, not the interest income. The pay down from the MMCapS definitely was a pretty substantial part of the capital gain. But no, not on the income side. That's reasonably the predictable income.

Okay; great. Thanks, guys. Appreciate it.

Based on June 30, yes.

Okay, great. Thanks.

Devin Ryan, JMP Securities. (Operator Instructions)

Just quickly on the dividend, I'd love some maybe updated thoughts. Great to see the dividend coverage this quarter. Not sure if you're ready to share this yet, but just how should we think about the time frame and maybe appetite to raise the dividend, as hopefully the investment income continues to increase as more capital is deployed from here?

Well, that's a fair question to ask. I won't have a good answer for you because it's clearly the Board's decision each quarter. But like they always say: What I can definitely tell you about the interest rate forward curve is that it's wrong, because it never actually follows.

As we had said over many quarters when people were so focused on where our dividend was relative to our earnings, when we adjusted it last quarter and we had said -- and people rightly asked: Well, should we view that as the future? Is that really where it's going to be?

And we said whenever we make an adjustment, it's going to be wrong, because we're constantly growing the Company. Right? We're continuing to ramp and deploy.

So our view at the time wasn't we're going to constantly adjust it every quarter. It was going to make an adjustment that we thought would be safe for a while.

Clearly this quarter we exceeded that by $0.03. So this is kind of our base level. Whether in the future the Board decides to increase it or do a special, we don't know yet.

But we remain focused, as we always said, on generating more and more income. Our goal is $0.50 a share. Doesn't mean we're going to get there, but we're trying.

And credit quality we're not going to bend on. So we're just going to keep working towards the goal.

Okay. That's very helpful; appreciate the color. With respect to maybe the investing backdrop, we've seen credit spreads broadly widening out recently. Obviously as you highlighted, given the makeup of your portfolio, you're not seeing or expecting any deterioration.

But just in terms of pricing and maybe on the private side, are the wider spreads creating better return opportunities or maybe changing the mix in terms of the view of where you want to be invested?

That's a good question. What's always been attractive to us about the community bank space -- the non-market-traded -- is they were cheap to begin with. That's my personal view. They were cheap to begin with.

So they are not trading as -- like an OAS spread over a benchmark, so finely. They're very, very wide.

In fact, at the discount that we're currently trading on in the market -- and we were sort of looking at this and if we do a non-deal roadshow at some point we'll help people understand it better -- it's something like almost 1,000 over the curve for the credits we have at the current share price at StoneCastle Financial, for 75% BBB credits. I find that to be ludicrous.

So the value that's there has been there. It's not trading up and down a tick. Our pricing has remained, as can see from the deals we closed last quarter, it really hasn't changed very much. We're still in the high 8s.

So we don't have any view that it's going to widen or tighten for these smaller banks anytime soon. It's sort of steady as she goes.

Okay; good to hear. Then still getting through the filing, but if I look at the $186 million of investment, not sure if you can you maybe give a flavor of how much or what percentage you would consider to be placeholders at this time, and really what your return would be if you exclude the placeholders.

Well, I can't give you a view of what the earnings would be. Clearly -- I know you've got a great to model and you can get a sense of, if you put a placeholder in for X amount of dollars to be rotated.

We have earmarked at the moment that, if this pool were to happen, it could be $40 million to $60 million needed for that piece. So that's probably a fair number, if you just think about what we would rotate out of the portfolio.

Got it; okay, great. That's helpful. Then just lastly for me, the Limited Partnership with, I believe, Priam Capital, what exactly is that $1 million on the statement here?

Sure; that's actually a great question for a really, really cool deal. Years before, believe it or not, StoneCastle Financial was even launched, we were involved in trying to help restructure 1st Mariner down in Baltimore. That deal, believe it or not, finally got done by the lead party and institutional investor, Priam.

But it got done after we launched StoneCastle Financial, so we arranged with Priam as kind of a favor for helping pull that deal together for them, to let us do an unpromoted investment into the 1st Mariner transaction. So it's technically an investment in the single-purpose private equity fund that owns 1st Mariner, but we don't pay any fees to Priam.

Got it; okay, great. That's it for me. Thanks for taking my questions.

Dan Nicholas, W.D. (sic) Baird.

Great; thanks, guys. Josh, just following up on your high-level thoughts on the community banking space, I know the M&A environment has been -- or the potential for M&A has been a big part of your thesis on liking the space. Just hoping you could update us on what you're seeing and hearing out there among community banks, both buyers and sellers -- what you're hearing and feeling right now.

Well, I'm feeling like people are still getting so that's still, in my view, going to drive the M&A wave. It hasn't changed. The buzz is still out there that you have Board meetings with an aging management team, and Boards across this country, and they are coming more and more to the conclusion going it alone -- even though they're not losing money, they're making money. But they're just -- they can't really grow, they can't find new common shareholders to invest.

We've had a few of them take us up on investments. That's part of the drive here, is that they do want to stay independent they can do it through either preferred or subdebt rather than common equity, at least to some extent. They can't use a huge amount of their balance sheet or their capital structure for that.

But I do think the trend is going to continue. You're going to see a lot of small-on-small mergers going on. What the final number of banks is, who knows? But I do think it's hundreds or 1,000, 2,000 banks less over the next five to 10 years. There's going to be a fair amount of consolidation.

Okay, thanks. I think all the rest of my questions were asked and answered. Thanks, guys.

Thank you. There were no other questioners in the queue at this time. I would now like to turn the call back over to management for any closing comments.

Sure. Well, as always, we appreciate your continued support at StoneCastle Financial and we look forward to seeing you on the next call in November. Everyone enjoy the rest of the summer.

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time, and we thank all of you for your participation.