BCP Investment Corp (BCIC) 2014 Q1 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the KCAP Financial Inc. first-quarter 2014 earnings conference call. An earnings press release was distributed yesterday, May 7, 2014. If you did not receive a copy, the release is available on the Company's website at www.KCAPFinancial.com, in the Investor Relations section.

(Operator Instructions). As a reminder, this conference is being recorded today, Thursday, May 8, 2014. This call is also being hosted on a live webcast along with a copy of the earnings call presentation which can be accessed at our Company's website, www.KCAPFinancial.com, in the Investor Relations section under Events.

In addition, if you would like to be added to the Company's distribution list for news events, including earnings releases, please contact Denise Rodriguez at 212-455-8300. Today's conference call include forward-looking statements and projections and we ask that you refer to KCAP Financial's most recent filings with the SEC for important factors that would cause actual results to differ materially from these projections.

KCAP Financial does not undertake to update any forward-looking statements unless required by law. I would now like to introduce your host for today's conference, Mr. Dayl Pearson, President and Chief Executive Officer of KCAP Financial. Mr. Pearson, you may begin.

Thank you and thank all of you for joining KCAP Financial for a review of the first quarter of 2014. This afternoon I will review some important highlights and activities for the first quarter as well as providing some context for our direct lending business and the performance of our asset manager affiliates.

I will then turn the call over to our Chief Financial Officer, Ted Gilpin, who will provide a recap of our first-quarter operating results and our financial condition at the end of the quarter. We will then open the line for your questions at the end of the call.

A presentation outlining a few of our key accomplishments in the quarter can be found in the IR section of our website. First, let me provide a brief recap of some important highlights from the first quarter which are summarized on page 3 of our earnings presentation.

In the first quarter of 2014 our net investment income, or NII, was $0.24 per share compared to $0.24 in the fourth quarter and $0.23 in the third quarter of 2013. Our first-quarter distribution was $0.25 per share, unchanged from the fourth quarter. I would now like to discuss the performance of our direct lending businesses and asset manager affiliates in more details.

I continue to be pleased with the execution of our direct lending team and the acceleration and deal flow in originations. This acceleration began in the fourth quarter and has continued into the first. While credit markets remain competitive we continue to see attractive opportunities.

Specifically, as you can see on slide 4, we have closed $20.5 million of direct new originations in the first quarter at a weighted average yield of 11.9%, which follow the robust origination volumes that we experienced in Q4. While the environment has slowed marginally into April, our pipeline remains healthy.

As you know, we grew our balance sheet last year by using appropriate additional leverage through an on balance sheet securitization, KCAP senior funding. This debt is very cost effective and allows us to expand our senior lending activities with middle market company.

Along those lines, we also continue to rotate out of placeholder assets in KCAP senior funding and reinvest them in higher yielding middle market loans. In the first quarter we invested $7.5 million in new senior loans at a weighted average yield of 5.6%, and sold approximately $9.5 million in senior loans with a weighted average yield of 4.2%. In addition, two loans prepaid in the quarter totaling $3 million.

Since the end of the quarter we closed on two new senior loans totaling $5 million at a weighted average yield of 7% replacing loans that were yielding 4%. We have recently committed to two more senior loans totaling $7 million with a weighted average yield of close to 6% which we will replace lower yielding loans that we are selling.

As a result of our direct lending initiatives and our continued rotation out of placeholder assets our weighted average yield on our debt securities portfolio increased to 7.6% in the first quarter from 7.3% in the fourth quarter, and 6.8% in the third quarter. Given the early results in the second quarter we would expect this yield improvement to continue albeit not at the same trajectory.

The combined yield on our total asset portfolio was 13% up from 12.3% at year-end and 12% at the end of the third quarter. More importantly, as can be seen on slide 5, the growth in our direct lending business has also made KCAP less dependent on income from our CLO equity portfolio and dividends from the asset management business.

In the first quarter of 2013 our debt securities portfolio contributed 22% of total investment income. By the first quarter of this year that increased to over 41% of total investment income, an 86% increase in the contribution rate year over year.

While deal flow in the middle market continues to be a healthy, pricing has deteriorated in both junior and senior capital investments over the last several quarters. As always we continue to maintain our credit standards and turn down more than 85% of the transactions that we review. Let me now turn to our asset management business.

Turning to slide 6, our asset management business continues to perform well and in May closed Catamaran CLO 2014-1, a $468 million CLO fund with KCAP investing approximately $12.5 million across two of the junior tranches of the fund. The ability to originate new CLO funds speaks to the rationale and success of the Trimaran acquisition.

Looking forward Trimaran has already opened the warehouse for its next CLO fund and it's with the previous warehouses KCAP has provided a loan to Trimaran to support this new transaction.

As of March 23, 2014, our weighted average yield mark-to-market value par on our debt securities portfolio remained at [96], the same as in the fourth quarter. As far as CLO portfolio, the weighted average mark-to-market value to par was 66 as of March 31, a slight decrease from the weighted average mark to par of 67 in the fourth quarter.

Our 100% ownership of our asset manager affiliate was valued at approximately $74 million based on their assets under management and prospective cash flows at March 31, 2014.

Our investment portfolio at the end of the first quarter totaled approximately $429 million. Looking at the composition of our investment portfolio, our portfolio quality continues to hold up well with no new assets on nonaccrual. At the end of the first quarter of 2014 our debt securities totaled approximately $265 million and represented about 62% of the investment portfolio. First lien and loans now represent 58% and junior loans represent 21%.

At March 31 we had four issuers on nonaccrual status representing less than 1% of total assets at fair value. These all relate to loans booked in 2007. The credit profile of our current portfolio is very strong. All CLOs managed by KDA and Trimaran continue to be current on equity distributions and management fees. Five of the manager funds are now paying incentive fees to the asset manager affiliates.

The stable income stream for our asset manager affiliates allows them to make periodic distribution to us in the form of a dividend. In the first quarter there was a distribution of $3 million. Additionally, as of March 31, 2014, our asset manager affiliates had approximately $3 billion of par value assets under management. It obviously does not include the fund that we just closed on May 6.

We also continue to evaluate our equity and debt financing options which will allow us to focus on continued balance sheet growth, increasing net investment income and dividend distributions. All in all I am pleased with our first-quarter results and the momentum which our business has into the second quarter. And now I will ask Ted Gilpin to walk you through the details of our financials.

Thank you, Dayl, good afternoon, everyone. I'd like to start by covering some of the high-level financial information and then go into a little more detail on specific metrics.

As of March 31, 2014 our net asset value stood at $7.62, which is up 1.5% sequentially from $7.51 at the end of the fourth quarter of 2013. The Company declared a $0.25 distribution in the first quarter which is consistent with the level paid in the fourth quarter of 2013. Net investment income was $7.9 million or $0.24 per basic share for the first quarter of 2014, the same as the fourth quarter of 2013.

I would like to now review the component pieces of net investment income for the 2014 first quarter.

First, interest income on our debt securities for the three months ended March 31, 2014 was $5.25 million or $0.16 per share compared to $4.8 million and $0.14 per share for the fourth quarter of 2013, and $2.5 million or $0.08 per share in the year ago quarter.

As Dayl mentioned earlier, investments which we have made in our direct lending platform are producing increased deal flow and investments at more attractive yields. As a result our debt securities portfolio continues to grow as a percent of our total investment income and today stands at approximately 41% versus 36.8% of investment income in the fourth quarter of 2013, just under 22% investment income in the first quarter of 2013.

Second, dividends from the investments in CLL securities. These were $4.9 million or $0.15 per share for the first quarter of 2014 similar to the fourth quarter's $5,000,000.15 per share.

Third, our Asset Management affiliates, the AMA has dividended up to KCAP Financial $3 million or $0.09 a share in the first quarter of 2014 in line with the fourth quarter's dividend of $3.1 million or $0.09 per share. These three revenue components resulted in total investment revenue of approximately $13.4 million for the first quarter of 2014 consistent with our fourth-quarter results of $13.0 million.

The Company recorded net realized and unrealized depreciation of approximately $4.4 million or $0.13 per share during the first quarter of 2014 in part attributable to our unrealized depreciation in or asset management affiliates of $2.6 million. This compares to net realized unrealized depreciation of $6.1 million or $0.18 per share during the quarter ended December 31, 2013.

As Dayl mentioned, our asset manager closed a $468 million CLO fund in May and has already opened a warehouse for a second CLO fund. These 2014 CLL funds are a key part of our strategy as they will begin to replace some of the natural runoff on our more mature CLO assets, continue to add value to the asset manager affiliates supporting NAV as well as our quarterly dividend run rate.

On the liability side of our balance sheet, as of March 31, 2014, our debt outstanding was $193 million consisting of $49 million of convertible notes, a five-year term and a fixed rate of 8.75%, $41.4 million of senior notes with a seven-year term and a fixed rate of 7.375% and a $102 million net of discount debt securitization finance transaction which is floating-rate debt with a current weighted average interest rate of approximately 2.5%.

The interest rate resets on a quarterly basis based upon the then current level of three-month LIBOR. Our asset coverage ratio at quarter end therefore was 228% which is above the minimum of 200% required for BDCs.

For additional information regarding the above metrics and for both the fourth-quarter and full-year 2013 results please refer to our recently filed 10-K -- 10-Q and our 10-K which was filed in March. They are also available online at SEC.gov or on our website, www.KCAPFinancial.com. And with that I would like to turn it over to you for questions.

(Operator Instructions). Mickey Schleien, Ladenburg.

I am curious as to how you see CLO equity behaving if short-term rates were to begin to rise since a CLOs interest income wouldn't immediately increase due to the large share of loans on the left-hand side of the balance sheet with floors. But interest expense on the right-hand side would increase right away.

So given the amount of leverage in a typical CLO that lag I'm assuming would depress distributions to the equity tranche at least for a while. So what do you expect for distributions from your CLO equity investments if that were to happen? I am sure you probably stress test the portfolio.

I think there will be some short-term reduction if that happens. But if rates continue to rise that will start to reverse because you have more assets than you do liabilities. So there will be some short-term pain, but I don't think it is going to be all that significant.

I think the last time we looked at the analysis, and I think it has probably changed a little bit, I think about two-thirds of the loans in the CLOs have floors, it's probably more like a 75% today because we have more newer loans than in the new CLOs.

But in terms of how people price CLO equities, I think most people have priced in sort of the yield curve moving up. So I don't think in terms of volatility of sort of equity prices I don't think -- again, I think most people assume that and that is certainly built into our models. When we model the distributions we have assumed that increasing rate. So that is all baked into the model in terms of determining the IRR.

Fair enough. And my follow-up question is unrelated, but I saw that you marked down was it Advanced Lighting I think is the name -- Advanced Lighting Technologies below 90 which is a first lien loan which at that mark would indicate some stress. So what is the outlook for that company and what caused the mark to decline?

Yes, I think the performance has been off. This is a company we've been a lender to since 2006. And it has some cyclicality in the business unrelated to necessarily the economy. They sell a lot into municipalities and other things like that. So it has a tendency to go up and down. I think the long-term outlook for the business is still good. But I think that is where we feel we should be marking it right now based upon recent performance.

Okay. And lastly, given that you are warehousing for a new CLO or one of the AMAs is, is your base case assumption that that second CLO will close sometime this year?

Certainly, we would be very surprised if it didn't close this year, yes.

Okay, thanks for your time.

Andrew Kerai, National Securities Corporation.

I just wanted to touch on the direct lending business a bit. So it looks like within that you kind of placed a little bit more emphasis on kind of the junior secured or the mezz type investment, that seems like you are kind of rotating out of sort of the senior secured lower yielding assets which, as you pointed out, has benefited the yield on your book.

Can you give us a sense, I guess, of maybe some of the leverage attachment points you are seeing on some of those deals, (inaudible) just the debt to EBITDA multiple?

It really depends upon the industry and the transaction, the structure of the transaction. I mean some of them have been total leverage below 4 times; some have been total leverage above 4 times. But we think they have been pretty reasonable. We stayed away from the 6 times transactions.

But large multiples can be a little bit misleading because you can have a multiple of 4.5 times on EBITDA but if the Company doesn't have a lot of CapEx they are still generating a lot of cash flow and it it's a stable business, we are very comfortable with that. And then you can see another business at 3.5 times with lots of CapEx and cyclicality and we might not be comfortable lending to that business at 3.5 times.

So, EBITDA multiples are great from a valuation perspective and great for sort of a [Sandy] check. But I think when we are looking at a business we are looking at the company's total operating cash flow and ability to service debt, so.

Sure, no, thank you for the color. And then as you grow the book here going forward, I mean what is kind of your ideal mix of first lien versus sort of junior or mezz debt? I mean you are at 50% in terms of total portfolio mix of first lien and I think it is 13% second lien mezz. I mean how does that mix shift change? You kind of emphasized the direct lending platform versus some of your more senior secured investments here.

Yes, I don't think it is going to change dramatically, I think the junior capital part of it will move up somewhat, but I think we have the balance sheet securitization which really is primarily a first lien focus because of the way it is structured. So that is sort of $140 million of our balance sheet is in that securitization.

And so, if you back out the CLO equity and the asset manager the rest of it is going to be a mixture of first lien, second lien and some small equity pieces. But it is not going to change dramatically, it will move up -- the percentage of Junior capital will move up a bit over the course of the next quarter but not dramatically.

Sure. No, thank you, that makes sense. And then the last question I had is just about liquidity here. With you guys at basically about 0.76 or so from just a leverage standpoint at the end of the quarter, I mean is sort of the idea that you continue to view whatever placeholder assets you have remaining in terms of that being the liquidity as well as the pay down would obviously come in through the rest of your book?

Or is your plan to maybe take that leverage up a little bit through maybe something like another unsecured issuance or maybe another on balance sheet securitization some time here in 2014?

Look, I think we look at all different alternatives. I think right now sort of outside of the securitization we have more than $35 million of liquid assets that we can rotate out of. We also do get prepayments from time to time, we haven't gotten a dramatic number of prepayments recently.

And within securitization there is probably another $16 million to $20 million of lower yielding assets that we want to -- really sort of placeholders that we want to move into the more appropriate Middle Market loans. So I think you will continue to see some rotation there too.

So I think from a liquidity perspective we are pretty comfortable right now. But at some point later in the year we are going to look at different alternatives in terms of growing the balance sheet if it is appropriate.

Great. Thank you for taking my questions.

(Operator Instructions). Troy Ward, KBW.

I apologize if you just mentioned this in your prepared remarks, I hopped on a little late, I got sidetracked. You priced the new CLO after the end of the quarter obviously, but does the fair value at the end of the quarter, does it reflect any of that impact of the new CLO?

Hey, Troy, it is Ted. No, we don't even though it had priced before we did the valuation. We only -- the practice is to only value it once it actually closes. So it didn't close until May, so it is not reflected in the valuation.

Okay, that is what I thought. Thanks. And then can you just remind us what is the cash flow characteristics of that? I know there is a lag before you start to realize and come off of a new closed CLO. Can you just remind us of what that is for our modeling?

Yes. Well, for us we accrue on it so we will start accruing right away on it. There is a lag in the cash and we have done all our CLOs on an accrual basis.

Generally the first payment is not for four or five months.

Okay.

But we start -- we model out -- as we talked about earlier, we model out the cash flows based upon certain default assumptions and interest rate assumptions and other things when you start accruing day one.

Yes, I recall that now, thanks. And then I know you built out the direct lending platform and obviously the income generation from that is really starting to show and that is great. But how should we be thinking about comp for the full year?

Historically it seems like we saw some seasonality in Q1 with regard to some comp expense and we didn't seem to have seen that this year or did we and we just -- are we going to run at a higher level going forward? So can you just give us a little color on what you think the comp expense will look like for 2014?

I don't think it is going to be dramatically different than the first quarter. I mean the one think that is a little high in the first quarter is some of the operating expenses related to the audit and other things. But I think the comp -- there may be an anomaly last year because of some severance issues. But it should be pretty -- if we are doing our job correctly we should be accruing for bonuses and all of that ratably over the year.

Okay, great. Thanks, guys.

Thank you. (Operator Instructions). I am showing no further questions at this time. I would like to turn the conference back over to Dayl Pearson for closing remarks.

Thank you all very much and we will be talking to you again in August. Thank you.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and have a wonderful day.