BlackRock Capital Investment Corp (BKCC) 2008 Q1 法說會逐字稿

Good afternoon. My name is Christy and I will be your conference facilitator today. At this time, I would like to welcome everyone to the BlackRock Kelso Capital Corporation Investor Teleconference.

Our hosts for today's call will be Chairman and Chief Executive Officer, James R. Maher, Chief Operating Officer, Michael B. Lazar, and Chief Financial Officer, Frank P. Gordon. All listeners are currently in a listen-only mode. After the speakers' remarks, there will be a question-and-answer period.

(OPERATOR INSTRUCTIONS).

Thank you, Mr. Maher. You may begin your conference.

Thank you, Christy, and welcome to the Blackwood Kelso Capital Corporation First Quarter 2008 Earnings Conference Call. I'm joined today by Mike Lazar, our Chief Operating Officer, and Frank Gordon, our Chief Financial Officer. We will begin by having Frank talk about some general conference call information, including forward-looking statements.

Thank you, Jim. Before we begin our remarks today, I would like to point out that during the course of this conference call, we may make a number of forward-looking statements. We call to your attention the fact that BlackRock Kelso Capital's actual results may differ from these statements.

As you know, BlackRock Kelso Capital has filed with the SEC reports which list some of the factors which may cause BlackRock Kelso Capital's results to differ materially from these statements. Finally, BlackRock Kelso Capital assumes no duty to update any forward-looking statements. I would now like to turn the call back over to Jim.

Thanks, Frank. We're delighted to have the opportunity to speak with you this afternoon. We're pleased with our first quarter of 2008. We continue to deliver on our goals of becoming a premiere provider of capital to middle-market companies and providing an attractive return to our stockholders.

Since our inception in July 2005, we've built a strong team of investment professionals and have an extensive outreach program to access middle-market companies. We have a well diversified investment portfolio of more than $1.1 billion in assets. At quarter end, the weighted average yield on invested capital was 11.5% on an annualized basis.

While the first quarter was certainly a difficult one for the credit markets and for financial services companies, BlackRock Kelso Capital completed a solid quarter on March 31. We continued to utilize our direct sourcing model with high credit underwriting standards to structure sound investments in middle-market companies.

We view the recent turbulence in the credit markets as an opportunity for BlackRock Kelso Capital to apply our thorough investment selection process to enhance the risk adjusted returns of our investment portfolio.

As a business developing company, our balance sheet leverage is limited to one to one and BlackRock Kelso Capital had the balance sheet leverage of approximately 0.66 to 1 on March 31. As a reminder, we do not make, and have not made, any mortgage or real estate loans and do not own any CDOs or CDL or CLO securities.

Yesterday, our Board Directors declared that the second quarter dividend of $0.43. This dividend will be paid on June 30 and represents a 13.7% annualized yield on our net asset value and over 14% based on yesterday's closing price.

Since inception, dividends have been derived from taxable income and net capital gains. Net investment income for the first quarter was $0.44 a share. Mike and Frank will discuss more of our financial results shortly.

We continue to be pleased with our investment opportunities that have resulted from our direct calling efforts. As a result of this effort, we invested $94.6 million during the first quarter. We examined more than 100 investment opportunities during the quarter and well over 1,100 opportunities since our initial funding in July 2005.

We attribute our success to our terrific investment team. We're particularly proud to have accomplished this during a quarter that exhibited lower overall transaction volume for sponsor-led leverage buyouts.

Activity in the middle-market, which we define as companies with EBITDA between $10 million and $50 million, slowed significantly in the second half of 2007 and remained slower than it was, significantly slower than it was, at this time last year. Notwithstanding the reduction in volume, we continue to see many opportunities today that are of a higher quality.

We believe that the changes in the environment to syndicated loans and public high-yield debt reduced opportunities for higher returns and reduced leverage. This environment continues to provide a great opportunity for BlackRock Kelso Capital.

We believe that our portfolio is well positioned for the current economic environment. On March 31, our net portfolio consisted of 62 companies and was 68% invested in senior secured loans and senior notes. At the end of the first quarter, only 4% of our portfolio was invested in equity securities. The remainder of our portfolio, or approximately 28%, was invested in unsecured or subordinated debt securities.

Our [underwriting] process is focused on investments in low, capital-intensive, high pre-cash flow businesses. Our transactions are structures based on our underwriting credit cases, which factor in the effects of recessionary environments on each of the Company's cash flow forecasts.

And despite the conservative positioning and strong underlying credit quality back portfolio, we were certainly not immune from the impact of marks on our portfolios during the first quarter. We believe that being actively involved in the due diligence and structuring of the assets that we acquire provides us with a conservative portfolio.

The terms of the loan which we are invested are conservatively structured with adequate covenants, security, and other protections. We continue to make investments where we are able to play an active role, either as the sole or lead investor, or as a member of a small club of investors.

Investments made in these lead or club transactions represent approximately 70% of the assets in our portfolio today. More than 90% of the capital that we invested during the first quarter was invested in fixed rate securities and more than half of the capital was invested in senior secured loans.

We're pleased with our results for the first quarter. We continue to demonstrate our ability to originate and structure investments in the middle-market companies. These investments produce high risk adjusted returns with high recurring yield and opportunities for higher total return from structuring and prepayment fees and from equity investments. Mike Lazar will now review our portfolio and investment activity in more detail.

Thank you, Jim, and thanks to everybody for joining our earnings conference call today. We are pleased to report that BlackRock Kelso Capital Corporation invested a total of approximately $94.6 million in eight companies during the first quarter. Four of these investments involved companies with which BlackRock Kelso Capital had previously completed a transaction.

New investments included $15 million fixed rate senior loan to a sponsored buyout in the healthcare sector, a $35 million fixed rate senior loan to a privately-held, vertically-integrated transportation infrastructure company, and $15 million of subordinated fixed-rate debt to a consumer financial services company.

We were able to find and capitalize on these investment opportunities as a result of our active origination program, our access to sponsors and management teams, our thorough due diligence process, and the resources of our partners.

In the current market environment, we're finding that by being selective, we are able to make new investments, not only at higher yields, but also at lower levels of leverage. We experienced $28 million of portfolio runoff during the first quarter. We are pleased that we collected prepayment and related fees in connection with three of our four repayments during the quarter. Substantially all of our repayments were of floating rate loans.

As fair market values in our GAAP financial statements are derived by dealer quotations for those securities that are quoted and by engaging third-party valuation firms to perform valuations on all non-traded portfolio investments.

These valuations are performed on a company-by-company, security-by-security basis for every investment every quarter. Our valuation procedures have been consistent with FAS 157 requirements since our inception and, as a result, there is no adverse effect in our March 31 financial statements due to the adoption of FAS 157 under GAAP.

During the first quarter, BlackRock Kelso Capital was required to adapt FAS 159. FAS 159 gives us the option to fair value of the Company's financial liabilities in its financial statements. While the Company did not elect to reduce to fair value the liabilities on our balance sheet, we believe that if we did so, our NAV per share would be higher.

As you know, conditions in the corporate credit markets changed dramatically during the second half of 2007 as a result, in part, of the events in the sub-prime mortgage sector. In the first quarter of 2008, the condition of the credit markets generally deteriorated even further than it had in late 2007. Total portfolio unrealized depreciation during the quarter was approximately $62.7 million. At quarter end, our net asset value per share was $12.60.

We believe the declines in valuations of our investments are due primarily to instability of the credit markets and changes in the current interest rate environment. The unrealized depreciation on investment does not have an impact on our ability to pay distributions to our stockholders.

Slightly less than half of the dollar value of our portfolio is valued by dealer quotes. Quotes on this portion of the portfolio were down approximately $47.9 million. Most of the loan quotes that we received are not based on actual trades but instead on dealers relative value estimates. As we hold most of our investments to maturity, we anticipate that for investments in companies with adequate fundamental performance, we will not ultimately realize losses in value.

The largest portion of the increase in unrealized depreciation for non-quoted or appraised investments relates, again, to one portfolio company, [Tygen Holdings] that has significantly under-performed its plan and its historical results due to several company specific and market events.

BlackRock Kelso Capital continues to be actively involved in working out a recovery plan, taking an active role on the company's Board of Directors. In the aggregate, the value reflected in our financial statements for this company is carried at less than one third of its cost.

While we have seen some companies with credit issues in the first quarter, we find the condition of the portfolio to be strong today. Our investments are well diversified and our largest exposures are to companies that provide business and other services to media and publishing companies and to consumer products companies.

Overall, these industries represent just under half of the total portfolio. We are pleased that the performance of our portfolio companies continues to be strong with an overall weighted average rating of 1.31 using our 1 to 4 credit rating scale.

Consistent with yearend, approximately 3.5% of investments at value is rated 3 or 4 with more than 96% of the portfolio rated 1 or 2. As of March 2008, we have three investments on non-accrual status, representing less than 1% of portfolio value. This fair market value of these assets is just over $8 million as of March 31, which represents approximately 30% of their aggregate cost.

In the first quarter, BlackRock Kelso Capital earned structuring and upfront fees and discounts equal to approximately 1.7% relative to new investments. Currently, our ratio of volumes to net assets is 0.66 to 1, leaving us with sufficient capacity for new investment opportunities in what is now a very attractive investment environment. We borrow under our revolving credit facility at LIBOR plus seven-eighths and at March 31, we had availability of more than $100 million.

2008 is off to a good start with an increasing number of attractive investment opportunities for BlackRock Kelso Capital. Middle-market deal activity has regained at least some of its strength and our access to these transactions continues to increase since we continue to add to our investment team and grow our direct sourcing efforts.

We remain focused on finding the best risk-adjusted returns and middle-market companies where we're able to play an active role in due diligence and in transaction structuring. I'd now like to turn the call over to Frank Gordon to review some of the GAAP financial information for the first quarter.

Thank you, Mike. I will now take a few moments to review some of the details of our GAAP financial information for the first quarter of 2008. Investment income totaled $35.7 million for the quarter ended March 31, 2008 compared to $25.1 million for the quarter ended March 31, 2007. The increase reflects the growth of our portfolio as a result of the deployment of debt capital under our credit facility and equity capital from our initial public offering in July 2007.

Net expenses for the quarter ended March 31, 2008 were $12.5 million versus $11 million for the first quarter last year. Of these totals, for the quarter ended March 31, 2008, $5.2 million was interest and other credit facility expenses.

Interest and other credit facility expenses totaled $3.7 million for the corresponding quarter in 2007. In addition, performance-based incentive fees totaled $3.7 million for the quarter ended March 31, 2007. There were no incentive fees for the quarter ended March 31, 2008.

Expenses net of performance-based incentive fees, interest, and other credit facility expenses for the quarter ended March 31, 2008 were $7.3 million compared to $4.6 million for the quarter ended March 31, 2007. Overall, the increase in expenses was driven primarily by an increase in base management fees resulting from the growth of our portfolio and an increase in other general and administrative expenses.

Net investment income totaled $23.2 million, or $0.44 per share, for the quarter ended March 31, 2008. Taxable income exceeded our GAAP investment income during the quarter. For the corresponding period in 2007, net investment income totaled $14 million, or $0.36 per share. Total net realized gain or loss for the quarter ended March 31, 2008 was a gain of $200,000 compared to a loss of $200,000 for the quarter ended March 31, 2007.

For the quarter ended March 31, 2008, the net change in unrealized appreciation or depreciation on our investments, foreign currency translations, and cash equivalence was depreciation of $62.7 million versus appreciation of $3 million for the quarter ended March 31, 2007. Net unrealized appreciation or depreciation was net depreciation of $120.5 million at March 31, 2008 and net appreciation of $4.6 million at March 31, 2007.

For the quarter ended March 31, 2008, the net increase or decrease in net assets from operations was a net decrease of $39.5 million, or $0.75 per share, compared to a net increase of $17 million, or $0.44 per share, for the quarter ended March 31, 2007. With that, I would like to turn the call back over to Jim.

Thank you, Frank. Looking forward in the second quarter and the second half of 2008, we continue to be very excited about our business and about our prospects. The portfolio is well diversified, conservatively constructed, and performing well.

We remain focused on preservation of capital and on providing the best risk-adjusted returns for our shareholders. And, finally, I'd like to thank the talented investment team at BlackRock Kelso Capital and our partners at BlackRock and at Kelso for their dedication to the success of BlackRock Kelso Capital Corporation. Will the operator please now open the call to questions?

Certainly. (OPERATOR INSTRUCTIONS). Your first question comes from [Jay Anson] from [Newburger Berman]. Your line is open, sir.

Hi, Jim. Hi, guys. Quick question for you. With regard to the value of the portfolio, have you all seen any bounce back in April? Obviously, the last couple of weeks of March were incredibly tumultuous and what we've heard from some is that some of the relief has created a real bounce back. Have you all seen much of that?

I think if you look at the more actively traded securities, there's clearly been a bounce back. And if you take a look at our portfolio, it hasn't bounced back as much because it's not traded. But the quotes have improved, I would say, somewhat but nowhere near as much as the quotes in the broadly traded market.

Okay.

And then, this way, in the actually traded market.

And this is Mike. Many of the securities that are quoted are quoted on some type of a relative value basis and so because they're not active, they're -- the quotes don't move and the absence of an actual new [fact], typically.

Okay. Okay. And then the other question is are you all seeing any -- do you work with having financing any of the [spacs] or seeing any of the interest from the spacs?

No, we haven't financed a spac to date. It doesn't mean that we wouldn't but we haven't, and we haven't -- I don't think a spac would work particularly well with a BDC in terms of financing a BDC.

Okay. Okay. Thank you very much.

(OPERATOR INSTRUCTIONS). Your next question comes from James Shanahan from Wachovia. Your line is open, sir.

Thank you. Jim Shanahan. Good afternoon.

Afternoon.

Hey, Jim.

A question, I guess, maybe this is for Frank, but you know, for the team. I'm curious if you can walk through what's happening with the incentive fees. It seems to me like [created] incentive fee income is sufficient to have resulted in incentive fees, the last couple quarters, and there hasn't been any.

Is that a function of the big unrealized losses that were taken and would there be some sort of catch up if portfolio values rally? There might be some subtleties about the incentive fee that I'm not aware of.

Hi, Jim. It's Mike. The one-word answer to your question is yes. The reason that there haven't been any incentive fees has to do with the high watermark component of our incentive fee test. Because of the unrealized depreciation in the portfolio, we have not been entitled to any incentive fees to date.

There is a trailing four quarters element to this test so it is conceivable that, at some point in the future, there may be some amount of a catch-up payment, although it's very difficult to guess as to whether or not that would happen and to what extent it would affect our going-forward financial results.

Okay. So the follow-up question is the portfolio's under-levered, probably there's some opportunity here to grow the business. That would be favorable for earnings but eventually the incentive fees are going to kick in and I'm just questioning, I guess, if you're comfortable with diluted EPS relative to dividend has been an issue in recent quarters, but could it be? I mean, are you comfortable with the dividend, going forward?

I think the answer to that, as Mike said, it's very hard to predict the timing and probability of those incentive fees. If they were to all kick in in one quarter, it would create a payment that would be greater than, I think, the dividend in that particular quarter.

When that occurs is difficult to predict. It could be -- it's not likely to occur so very late this year or early next year and in the period in the intervening period, I think, it's much more dependent on the mix of our fixed-rate portfolio and the leverage that we're able to employ in the portfolio.

Jim, this is Mike. I would add, you'll notice that our net investment income is greater than our dividend and I think Frank mentioned in his remarks that our taxable income is, in fact, greater than our net investment income. So, hopefully, that will give you some direction as to where we might have some excess capacity in our earnings to the extent that there may be incentive fees payable in the future.

We continue to have floating rate assets go off of our books. We have some visibility on some assets at our currently floating rate that we expect to be refinanced in the next quarter or two and the combination of those events will have an impact also on the dividend, obviously.

And a follow-up question, kind of a higher level here. What would you say to the following question that there have been, so far, relatively limited credit issues impacting the commercial finance market or just middle-market companies, in general, and that it's inevitable that credit issues are going to materialize, they're going to accelerate rapidly? How do you feel about what sort of the next six, 12, 18 months looks like in terms of the credit development?

Well, we structured our portfolio on a basis where we thought we could weather some pretty significant downturns in the economy. We stayed away from cyclical companies and we feel quite comfortable with our portfolio.

To the general, overall view of if you took, not our portfolio but an overall snapshot of the economy, if the economy continues to deteriorate over the next six to nine to 12 months, we will clearly see a deterioration in credit. We feel quite comfortable with our portfolio.

At some point and time, with a very significant deterioration in the economy, we will see an impact in our portfolio, but we, based on where we see the economy at the moment, are not seeing that type of impact.

And, Jim, it's Mike again. I would add to Jim's remarks just that, as you know, our portfolio is very senior and senior secured biased so in a bad economic environment, or if any particular company runs into issues that would cause credit deterioration, at least we are, in the large part, in a position to take an active role and pursue a meaningful recovery. Senior secured loans in the past have had pretty low default combined with pretty high recovery rates and so we do have this senior biased portfolio.

Thank you.

(OPERATOR INSTRUCTIONS). We have no further questions at this time.

Well, thank you all. We look forward to talking again in another quarter or feel free to give us a call in the interim. Thank you again.

Thank you.

Thank you, gentlemen, and have a wonderful evening. This concludes your conference call for today. You may now disconnect your lines.