BlackRock Capital Investment Corp (BKCC) 2009 Q2 法說會逐字稿

Good afternoon. My name is Cara 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 host 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 D. Gordon. All lines have been place on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.

(Operator Instructions)

Mr. Maher, you may begin the conference.

Thank you, Cara. Welcome to our second quarter conference call. We will begin by having Frank review some general conference call information.

Thank you, Jim. Before we begin our remarks today, I'd 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 and does not undertake to update any forward-looking statements.

I would now like to turn the call back over to Jim.

Thanks, Frank. We're pleased to have the opportunity to speak with you this afternoon. Since our last earnings all in early May, we have witnessed increasing signs of stability in both the credit markets and in general economic conditions. We now believe that the worst of the credit crisis is behind us.

Deal activity, while, by no means, robust, strengthened materially towards the end of the second quarter. Our net asset value increased $18.5 million from $495.5 million on March 31, to $514 million at June 30 due to improving market conditions. This equates to a net asset value per share of $9.24, an increase of $0.20 per share from March 31. Prior to giving effect to the impact of our dividend reinvestment and share repurchase plans, our NAV per share at June 20 would have equaled $9.31.

The status of our portfolio, our balance sheet and our investment team remain strong. We continued to take steps during the first half of 2009 to safeguard our portfolio against the deterioration in the economy. With respect to our financial position, we ended the first half in a position of strength. Our BDC statutory asset coverage ratio improved to 237% at June 30 from 217% on March 31, and we have capital resources available to fund additional investments.

At June 30, we had more than $170 million of cash equivalents and borrowing availability under our senior credit facility. Our portfolio continues to produce investment income -- strong net investment income. For the first half of 2009, our net investment income totaled $0.89 per share, compared with $0.88 per share for the same period last year. Notwithstanding our financial strength, we continued to take an approach to our quarterly dividend that is influenced by caution and conservatism.

This morning, we announced that our board of directors has declared a regular third quarter dividend of $0.16 per share, consistent with our first and second quarter dividends. We estimate that the Company's $0.16 dividend is approximately equal to the average tax liability attributable to shareholders for the quarter. We expect to continue to evaluate our quarterly dividend policy throughout the year and may utilize a combination of selective tax loss realizations and a special dividend to satisfy our distribution requirements for 2009.

Any special dividend may be payable in cash, stock, or a combination of cash and stock and the final determination will be made by the board of directors. We believe that monitoring market conditions and taxable income earned through the fourth quarter, prior to making any determination regarding distributions, is the prudent approach. We believe this is more responsible to shareholders and more appropriate for a company that elects to qualify as a RIC for tax purposes.

BlackRock Kelso Capital intends to maintain its status as a RIC. To accomplish this, as you know, we will be required to distribute at least 90% of the taxable income that we earn during the year to our shareholders. We continue to believe it is prudent to retain capital as market conditions improve. This will enable us to continue to protect our balance sheet by reducing borrowings under our credit facility. This will also allow us to have strong -- to have capital resources available to fund additional investments in existing portfolio companies and to preserve operating flexibility during the period.

During the first half of 2009, our best investment opportunities consisted of investments in existing portfolio companies. We think by having sufficient investment capacity for these opportunities, we will derive very attractive returns in companies we know well and monitor closely. We have invested in excess of $1.7 billion across more than 100 portfolio companies since our initial funding in 2005. In that time, we have exited more than $500 million of investments at an unlevered compound rate of return of more than 14.5%.

Including the dividend declared today, we will have paid dividends equal to $5.24 per share since our inception in July of 2005. During the second quarter, we report just 82,208 shares of our common stock at an average price of $4.35 per share. This was accomplished as part of our share repurchase plan under which we may repurchase up to an additional 2.5% of our outstanding shares from time to time. All of our repurchases made under the plan to-date have been at prices that were accretive to net asset value.

We remain conservatively positioned for the long term. Our balance sheet is solid. We have access to capital under our attractively priced bank credit facility. We believe that we have the financial flexibility to profit from the improving market and economic environment for the balance of 2009 and beyond.

Mike Lazar will now review our portfolio and investment activities in more detail. Mike?

Thank you, Jim. And thanks to everybody for joining our conference call today. For BlackRock Kelso Capital, the second quarter was generally a slow environment for new transactions, but a busy quarter for portfolio activity. We sourced our fair share of new opportunities, but did not close any transactions with new portfolio companies during the second quarter.

We were once again successful in improving our portfolio as a result of repricing and credit enhancement events in some of our portfolio companies. Portfolio acquisitions during this quarter included one new investment in the securities of an existing portfolio company at a significant discount. Repayments of investments equaled $43 million during the second quarter.

We continued to find that many of our best investment opportunities in the current environment are in the securities of our existing portfolio companies. These opportunities generally are of two varieties -- opportunistic secondary market purchases of securities in performing companies from distressed sellers and direct investments in portfolio companies that improve their capital positions or advance our position in a capital structure.

As the more liquid credit markets have improved during the second quarter, we have focused our attention on opportunities of the latter type. We believe that our portfolio is well positioned for the current economic environment.

On June 30, our net portfolio consisted of 62 companies, was 59% invested in senior secured loans, and 6% invested in senior notes. At the end of the second quarter, 4% of our portfolio was invested in equity securities and less than 1% in cash equivalents. The remainder of the investment portfolio, or approximately 31%, was comprised of unsecured or subordinated debt securities.

During the second quarter, our net investment income was $0.46 per share. At cost, approximately three-quarters of our portfolio is rated level one or two, the highest levels of our portfolio company rating system. These investments represent more than 92% of our portfolio value. Our debt investments currently not accruing income amount to 1.7% of our portfolio at fair value and 6.9% at cost. This compares to 2.3% of fair value and 7.6% of cost at the end of the first quarter.

The turbulence in the credit markets continues to provide an opportunity for BlackRock Kelso Capital to enhance the risk-adjusted returns of our investment portfolio. We believe we have positioned our portfolio and each investment in it to withstand the economic downturn to the greatest extent possible.

We've enjoyed the benefit of more than $70 million of junior capital invested by equity sponsors in support of our portfolio companies during the second quarter. This brings the total of capital infusions by equity sponsors to our portfolio companies of approximately $240 million during the last 12 months. Those investments represent an increase in the capitalization of those companies of more than 20%.

The existence of financial covenants and other protections in the significant majority of our investments has resulted in our having the opportunity to reprice a portion of our portfolio. During the last 12 months, we repriced securities that account for more 17% of our portfolio on a par amount basis. We also received amendment and other fees on securities representing more than 25% of the par amount of our portfolio.

The average rate increase on these securities was 248 basis points, and amendment fees averaged 130 basis points. In total, these rate increases contribute 37 basis points of incremental annual return on our total portfolio. Our portfolio valuations improved overall during the quarter. The total portfolio experienced appreciation of approximately $9 million during the quarter, and our net asset value increased $18.5 million from March 31 to June 30.

Notwithstanding that improvement, many portfolio investments continue to carry net unrealized depreciation, resulting from the unsettled credit markets and the increase in market yields earlier this year. As the liquid debt market seized in the fourth quarter of 2008, the market became characterized by distressed and forced sales by third parties in an illiquid market.

While the volume of these forced sales has certainly abated, these values continue to affect market pricing in the second quarter. For example, while the Standard & Poor's LSTA leveraged loan index has surged by more than 35% from its lows through July 2009, it still stands at a level that equates to an almost 15% discount to year-end 2007 levels.

As we have emphasized in the past, unrealized depreciation on investments does not have an impact on our current ability to pay distributions to stockholders. A significant portion of our net unrealized depreciation corresponds with investments in companies that we expect will repay us in full. As we hold most investments to maturity, we anticipate that for investments in companies with adequate fundamental performance, we will not ultimately realize losses in value.

We believe that we have reached the trough of the current business cycle. While we expect the recovery to be somewhat tepid, we have been actively restructuring many of the weaker securities in our portfolio to capture a greater share of the opportunity for appreciation in these portfolio companies in the future.

We are pleased that the performance of our portfolio companies continues to be strong, with an overall weighted average rating of 1.37, using our one to four credit rating scale. This compares to 1.44 at March 31 and 1.45 at December 31, 2008. 8% of our investments are rated three or four, with the remainder of the portfolio rated one or two at fair value. As of June 30, 2009, we have investments on non-accrual representing 1.7% of portfolio value. The fair value of these assets is $14.1 million, compared with $20.6 million as of March 31.

The cost basis of our debt investments on non-accrual was $77.5 million at June 30, compared to just under $89 million at the end of the first quarter. Our non-accrual performance compares favorably with the over 9.5% default rate observed on the liquid leveraged loan market at the end of July.

At June 30, 2009, the Company was in compliance with regulatory coverage requirements, with an asset coverage ratio of 237%, and was in compliance with all financial covenants under its credit facility. At June 30, we had borrowings of approximately $376 million. Taking our most restrictive debt covenants into account, we have cash equivalents and borrowing capacity of more than $137 million at quarter end.

I would now like to turn the call over to Frank Gordon to review some of the GAAP financial information for the quarter.

Thanks, Mike, and, hello, everyone. I'll now take a few moments to review some of the details of our second quarter 2009 GAAP financial information. Investment income totaled $33.4 million and $34.9 million for the quarters ended June 30, 2009 and 2008. Investment income for the six months ended June 30, 2009 and 2008 totaled $65.3 million and $70.6 million. The decrease in investment income primarily reflects the impact of lower levels of LIBOR on our floating rate debt investments, which generally bear interest based on LIBOR. Three-month LIBOR this year has averaged approximately one-third of last year's levels.

Total expenses for the quarters ended June 30, 2009 and 2008 were $7.9 million and $11.6 million. For the six months ended June 30, 2009 and 2008, total expenses were $16 million and $24.1 million. The decrease in expenses is largely due to lower interest expense, which, again, is a result of lower prevailing levels of LIBOR in 2009.

Base management fees also decreased during the 2009 period. For the quarter ended June 30, base management fees were $4.6 million, compared to $5.6 million during last year's second quarter. Base management fees were $9.4 million and $11.2 million for the six months ended June 30, 2009 and 2008. The decrease in base management fees reflects a decline in the quarterly portfolio values on which the fees are paid in arrears. There were no incentive management fees during the three and six months ended June 30, 2009 and 2008.

General and administrative expenses were $1.5 million and $1.7 million for the quarters ended June 30, 2009 and 2008. For the six months that ended, G&A expenses were $3 million and $3.4 million. The decline in general and administrative expenses reflects the lower level of new investment activity.

Net investment income totaled $25.5 million, or $0.46 per share, for the quarter ended June 30, 2009 versus $23.3 million, or $0.44 per share, for the quarter ended June 30, 2008. Net investment income for the year-to-date period through June 30 was $49.3 million, or $0.89 per share, for 2009 versus $46.5 million, or $0.88 per share, for 2008. The increase is primarily a result of the decline in interest and other expenses, which more than offset a decrease in interest income.

Total net realized loss for the quarter ended June 30, 2009 was $10.7 million, compared to $1.5 million for the second quarter of 2008. Of the $10.7 million net realized loss, approximately $6.4 million represents reversals of net unrealized depreciation at March 31, 2009 on two portfolio companies that we exited or restructured during the second quarter. Net realized loss for the six months ended June 30, 2009 and 2008 was $8.5 million and $1.3 million.

For the quarter ended June 30, 2009, the net change in unrealized appreciation or depreciation on our investments and foreign currency translation was appreciation of $9 million, versus depreciation of $9.9 million for the quarter ended June 30, 2008. For the year-to-date period through June 30, the net change in unrealized depreciation was depreciation of $21 million in 2009, versus depreciation of $72.8 million in 2008. Net unrealized depreciation was $330.3 million at June 30, 2009 and $130.3 million at June 30, 2008.

For the quarter ended June 30, 2009, the net change in net assets from operations was an increase of $23.8 million, or $0.43 per share, compared to $11.9 million, or $0.22 per share, for the year earlier quarter. For the six months ended June 30, 2009 and 2008, the net change in net assets from operations was an increase of $19.8 million, or $0.36 per share, compared to a decrease of $27.6 million, or $0.52 per share.

The weighted average yield of the debt and income-producing equity securities in our portfolio at their current cost basis was 10.4% at June 30, 2009, compared to 11.3% at June 30, 2008. The weighted average yields on our senior secured loans and other debts securities at their current cost basis were 9.8% and 12.1%, respectively, at June 30, 2009 versus 10.3% and 12.8% at June 30, 2008.

At the end of the second quarter of this year, we had $1.8 million in cash equivalents, $376 million in borrowings outstanding, and $169 million available for us for use under our $545 million credit facility, which matures in December 2010.

Under the terms of our amended and restated dividend reinvestment plan, dividends may be paid in newly issued or treasury shares for our common stock at a price equal to 95% of the market price on the dividend payment date, irrespective of our net asset value on that date. This feature of the plan means that under certain circumstances, we may issue shares of our common stock at a price below net asset value per share, which could cause our stockholders to experience dilution.

Reinvestment of our most recent April 3 and July 2 dividends at such a price resulted in cumulative dilution of our net asset value of approximately $0.12 per share. At our annual stockholders meeting on May 18, 2009, our stockholders approved a proposal to provide us with the flexibility, with approval of our board of directors, to sell shares of our common stock at a price below, but not more than 5% below, our then current net asset value per share. The approval expires on the earlier of May 18, 2010 or on the date of our 2010 annual meeting of stockholders.

With that, I would like to turn the call back over to Jim.

Thanks again, Frank. Looking forward, I feel very good about our business and about our prospects. The business environment has stabilized. The portfolio is well diversified, conservatively constructed, and performing well. Importantly, the private equity sponsors with whom we have partnered have continued to support our portfolio companies. As Mike mentioned, they have added over $240 million in new junior capital during the last 12 months.

We have, during this period of time, strengthened our already well capitalized balance sheet and, in short, our conservativeness has placed us in a position of strength, with significant available capital.

Finally, I'd like to thank our entire team at BlackRock Kelso Capital, and I would also like to thank you for your interest in our firm and for joining our conference call today.

Cara, please open the call to questions.

(Operator Instructions)

Your first question comes from the line of Greg Mason with Stifel Nicolaus.

Good afternoon, gentlemen. First, I wanted to get an idea on how much capital are you comfortable deploying in this environment. You obviously have $169 million on your credit facility, but you only have about $138 million difference between your debt and equity to be at one-to-one. So what kind of capital amounts are you considering deploying in the current environment?

We really take a look at each investment opportunity on a one-off basis and don't have a target in terms of deploying capital. The difference between the margin between debt and equity and our ability to borrow really doesn't really come into play, because we assume that if we put money to work, it will be put -- and, particularly, in today's environment -- it will be put to work and continue to maintain its value at whatever we paid for it.

So the long and short of it is we don't have a target, and we feel quite comfortable putting money to work.

And could you talk about -- on the income statement, interest from non-controlled, non-affiliated investments was up $2 million versus the first quarter and the portfolio was kind of flat. So, what was the driver of that $2 million in increased interest revenue?

Greg, this is Mike, and I'll pass it to Frank to go through the exact numbers. But as I mentioned last time around, as well as in this call, we spend a lot of time on our portfolio companies, particularly those where we see an opportunity to either deploy additional capital that's accretive in its return to us or to take advantage of the current market environment to increase our rates and increase the fees payable to us on loans that have that type of flexibility.

So, again, we've been active in managing the portfolio upward in yield, upward in return, and spend a lot of time and energy focused on that.

Frank, I don't know if you want to go through the precision of the numbers, but that's the general theme of what it is we've been doing.

As I look at the 37 basis points, you mentioned, increase on the $1.2 billion portfolio at cost, I get about $1 million a quarter on a run rate for that increase. So, I was just curious if there were any kind of one-time fees in this number or any lumpiness in that $2 million increase.

There were, during the second quarter, some amendment and consent fees that you might consider one-time, although we regularly receive those from different credits quarter-over-quarter. So that's one component.

Do you have any numbers to break out? We can perhaps talk offline about that.

That's fine. We'd be happy to do follow-up with you, as you desire, Greg.

Okay. And then non-accruals declined. Did you have a loan come back on accruing status or was it sold off? What was the movement in there, in the non-accrual bucket?

This is Mike again. Every period, period-to-period, there's some movement within that bucket. Over time, we have had loans come back on accrual that have been off accrual. We also sometimes restructure loans in a manner that allows for the partial repayment or partial accrual.

The result from period-to-period, in this instance, was a result of a combination of several things happening. Again, we can attempt to sort of give nitty-gritty detail, but all of these things will affect that rate from period to period, and more than one thing happened in this particular period to drive that improvement.

All right. Thank you, gentlemen.

Your next question comes from the line of James Shanahan with Wells Fargo.

Good afternoon, gentlemen. My question is about United Subcontractors. I'm interested in really getting at the realized loss that was recorded in the period. For that particular investment, it's listed at a $5.2 million loss, but this has been kind of a problem investment for a couple quarters and, at one point, had a far greater cost basis.

Can you walk me through what's happened with this investment and why, in fact, the realized loss isn't greater than was recorded?

Sure. I'll take a stab at the storyline a little bit and then Frank can help with some of the specifics on the numbers. USI is a portfolio company that we've had some involvement in for some time. This would be an example of a portfolio company where we've done some active acquisition of additional securities, in particular, senior securities over time at significant discounts to par and at significant discounts to their ultimately restructured value.

We're able to do that because there has been, in that particular name, a perfect example of distressed sellers who could no longer hold the securities from whom we were able to purchase them over time and as an active part of the restructuring negotiations that we were involved with, we had some sense or awareness of where the ultimate recapitalization would come out.

So we were able to buy some securities attractively that gained value during the restructuring, in part, offsetting some of the original securities that we owned that lost value during that period. So you have movement in both directions.

You have now, it looks like, a very significant common equity exposure to USI. How comfortable are you with that given the operational issues and the losses already incurred on that particular portfolio company?

I think, generally, we're very comfortable with that investment and the securities that we own now are those that we received and fought to receive as part of the restructuring of the Company. As part of that restructuring, the amount of indebtedness owed by the company was reduced very significantly. So there's very little debt risk in the business. Obviously, it operates in an industry where that industry is in a very deep economic trough at the moment.

So we do view this as a relatively save investment in the near term, because we've priced it and structured it off of a very low point in the cycle and hopefully, to the extent there is a recovery, there may be opportunities for us to make some gains on that investment going forward.

I guess I'd characterize it slightly differently, which is we like that investment a lot.

Okay. Thank you.

Your next question comes from the line of Jasper Birch with Fox-Pitt Kelton.

Hey, guys. Thanks for taking my question. You talked about, in terms of putting more capital to work, it's really opportunity by opportunity, looking at that. You've also talked about you're mostly putting it into working existing companies, buying more of their debt.

Just a little bit more color on that would be helpful. What types of returns are you looking at? Are you focusing in a certain area, in a certain subordination? Is it all senior that you're really looking at?

Jasper, I'll take a stab at it and I'm sure Jim can add. But, again, opportunity by opportunity by opportunity really does mean all of the circumstancing surrounding any particular investment opportunity. So we don't do this on a top-down basis and decide that we're going to invest in a certain type of security or a certain interest rate or a certain return parameter.

We look at every opportunity and make a determination about the particular circumstances and the risk versus the reward that's available to us and we do that with a particular focus, again, as Jim said, on our existing portfolio companies.

So we're not trying to jam opportunities into a particular -- model. We're trying to look at everything open-minded and try to achieve the best possible returns, given the circumstances of each investment opportunity.

Okay. So in terms of -- we shouldn't look at -- we shouldn't assume that you're cycling your portfolio at all into more senior debt.

No, I would not make that assumption. We may be buying senior debt in a distressed situation, where we're really looking at the restructured company. Maybe the significant returns, from our standpoint, are going to come from the equity that that senior debt will get.

Okay.

And, again, the returns vary, because each opportunity, obviously, has different risk-reward parameters and they certainly are all over the lot in this current environmental. The one thing I would say is they all tend to be quite attractive, certainly higher than the mid teens and up into ranges significantly higher than that. I think that's the best I can do on that question.

And just because you have so many attractive opportunities and, obviously, your leverage is constraining you a little bit, how are you guys looking at the possibility of either raising capital or -- or raising capital going forward? What sort of parameters are you looking at? Any color on where you might be comfortable would be very helpful.

We look at two things. One, we have a limitation on raising equity at 95% of net asset value. So, that's pretty simple. The way we think about raising equity capital is will it be diluted to our net investment income; can we put the money to work at a rate that will be accretive to our net investment income. It's really that simple.

Okay. That's all I have. Thank you, guys.

Your next question is a follow-up from the line of Greg Mason with Stifel Nicolaus.

Just one more question. As I look at the dividends receivable line, it looks like it goes up by exactly the amount of dividends that come through the income statement. Can you talk about what that account is for and what's going on there?

Frank, you want to take that?

Sure. Most of that is accretion. Most of our preferreds are not currently cash pay, although we have, in recent history, received our share of cash dividends on redemptions of preferred stock, but most of that is non-current cash pay.

Okay. Great. Thank you. That was it.

(Operator Instructions)

Your next question is a follow-up from the line of James Shanahan with Wells Fargo.

So to clarify on that issue, you have PIK preferreds that aren't cash-flowing and they're also on non-accrual. So what you're doing is you're creating a balance sheet asset account that captures that value while not grossing up the assets and not recording income, thus shielding from distribution. Is that what you're doing here?

This is Mike, Jim. There's a lot of sort of things tied up in the statement, but, generally speaking, when we structure a PIK dividend, an accreting dividend in a preferred stock investment, it's a way of getting structural seniority to common stockholders rather than a way to generate interim cash income for distribution.

We like the PIK feature because it's a way to structure our seniority in the position and grow that over time in a given investment. It is an equity investment. So our structuring is one thing. Our expected return on the investment would come at the time of the sale of the company or the redemption of the security. And so we do it to get that legal advantage, that structural advantage more than for generating current cash distributable income to shareholders.

Understood. And my question actually was related to the incentive fee. I hate to be predictable, but I will be consistent and ask you, again. What is the status or what is your outlook on incentive fees? It's been quite a long time, maybe never, without looking at the model, that you've accrued incentive fees. What is the outlook, and what's it going to take to start to accrue incentive fees again?

I wouldn't use the word accrue, but to incur incentive fees I think is the right question, and I guess our view is that it is likely, although not definite, that we will incur incentive fees in the fourth quarter of this year. The degree on those incentive fees is very difficult to predict at this point in time.

Is it safe to say that it would be much greater than what might be predicted for simple quarterly earnings? Is there going to be some prior period recapture in the fourth quarter?

It certainly could be, but to the extent -- well, it gets fairly complicated, but the simple answer is it certainly could be.

Thank you.

There are no further questions in the queue. You may proceed with your presentation or any closing remarks.

Well, once again, thank you all for your interest in BlackRock Kelso Capital. We appreciate it. As you can tell, we feel very good about where we are. And if you have any further questions that come to mind, please give us a call. Thank you.

This concludes tonight's BlackRock Kelso Capital Corporation Second Quarter 2009 Call. You may now disconnect your line.