BlackRock Capital Investment Corp (BKCC) 2010 Q3 法說會逐字稿

Good afternoon, my name is Marvin, and I will be your conference facilitator today.

At this time, I would like to welcome you all 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 Operator Frank D. Gordon.

(Operator Instructions)

Mr. Maher, you may begin the conference.

Thank you, Marvin. Welcome to our third 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 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 Corporation's actual results may differ from these statements. As you know, BlackRock Kelso Capital Corporation has filed with the SEC reports which list some of the factors which may cause BlackRock Kelso Capital Corporation's results to differ materially from these statements. Finally, BlackRock Kelso Capital Corporation 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 had a busy and productive third quarter. During the third quarter, we completed four investments in new portfolio companies aggregating more than $175 million. Third quarter new transactions included one financing for business growth, two refinancings, and one merger related financing. The overall business environment continued to slowly improve positively impacting our portfolio companies and deal flow continues to strengthen. More broadly, the liquid leverage finance market remains dominated by refinancing activity.

Year to date, 40% of new loan volume and more than two-thirds of high yield volume related to refinancing of existing loans. The middle market, however, continues to provide opportunities not only in refinancings but also change of control transactions and other merger related activity as well as financing for growth.

For the quarter, we had net investment income of $0.26 per share. And yesterday, our Board of Directors declared a regular fourth quarter dividend of $0.32 per share payable on January 3, 2011. This dividend is consistent with the Company's third quarter dividend and is supported by our taxable income.

Income we received from origination, structuring, closing, commitment and other up-front fees associated with investments and portfolio companies is generally treated as taxable income when it is received and accordingly generally distributed to stockholders. For financial reporting purposes, these fees are recorded as unearned income and accreted or amortized over the life of the respected -- respective investment. We received fees in the amount of approximately $4.8 million or $0.07 a share during the third quarter.

As we look forward to the fourth quarter, we expect that the deleveraging effect of our recent equity offerings as well as the related increase in the number of shares outstanding combined with net repayments and redemptions in the first half of 2010 will likely result in lower net investment income per share in the near term.

In addition, we expect that a substantial portion of any performance fees earned in 2010 will be incurred during the fourth quarter. Longer term, we expect that we will be able to increase our net investment income with the use of leverage to make new investments. We also expect that some of our lower yielding investments will be refinanced. Fortunately, our substantial excess and spill over income from 2009 and the first half of 2010 provide support for our dividend.

Our balance sheet remains extremely conservatively positioned. Total debt stood at $205.5 million on September 30. Our statutory BDC asset coverage test stood at less than .35 to 1 at quarter end. We have managed our balance sheet conservatively, and this has placed us in a strong position with significant capital resources available to invest in today's improved economic environment.

Net asset value decreased slightly in the third quarter and now stands at $639.1 million compared to $642.4 million at the end of the second quarter. This equates to $9.76 per share at the end of the third quarter, up from $9.55 per share at the end of the year. The fair market value of our portfolio companies on a net basis was stable from the second quarter to the third quarter.

The volume of new transaction opportunities continue to increase into the fourth quarter and improvement in the quality of these investment opportunities continues to be evident. Solid businesses with improving performance are seeking capital for new transactions and refinancing greater numbers. The current investment opportunity offers us the opportunity to put capital to work at rates that are accretive to our overall portfolio yield and to our net investment income.

For example, $130.5 million of investments that we made in fixed-rate debt securities during the quarter have an average stated cash coupon of 12.6% or approximately 12.6%. The new floating-rate debt securities originated in the third quarter contained (inaudible) arrangements. We have an active pipeline of new investment opportunities, and we are excited to have the capital resources and disciplined investment process in place to take advantage of these opportunities.

Subsequent to quarter end, we completed an equity offering of 6.9 million shares at a price of $11.95 per share, generating $82.5 million of gross proceeds. We are very pleased to have completed the transaction at a price that is more than 20% higher than our September 30 net asset value per share. Pro forma for the effect of this equity offering net asset value equals $9.91 per share at September 30.

Mike will now discuss our portfolio activity and market conditions in more detail.

Thank you, Jim. I am pleased to have the opportunity to speak with everyone this afternoon. As we highlighted in our press release this morning, portfolio activity increased in the third quarter for new investments. We also had an active quarter for repayments. During the three months ended September 30, we invested $177.4 million across four new and several existing portfolio companies. This compares to investing $127.8 million for the three months ended June 30, 2010.

Sales and repayments of investment principle totaled $100.2 million during the three months ended September 30 versus $181.3 million during the three months ended June 30. Investments in new portfolio companies during the third quarter included $37.5 million in the 11.75% senior secured second lien loan of [Ashton Woods], $50 million in the 13% senior subordinated notes of Aspen Marketing Holdings, $45 million in the Volume Services America senior secured first lien term loan at an interest rate of LIBOR plus 8.5% with a 2% LIBOR (inaudible) and $43 million in the 13% senior subordinated notes of Med-Quest.

BlackRock Kelso Capital acted in a lead role in each of these transactions providing all or at least half of the capital for the securities on three of the four occasions. Repayments of investments equaled $100.2 million during the quarter. This includes our $35.9 million investment in [Isola] first and second lien loans, $35 million of New Enterprise Stone & Lime second lien loan, and our $14.4 million Juran's Healthcare second lien loan.

The number of transactions for portfolio companies seeking covenant relief and other amendments has slowed materially over the course of the year. As a result, the third quarter was not one in which we earned significant fee income related to existing portfolio companies. This compares to amendment and related fees equal to approximately $1.6 million in the first half of 2010. We have successfully reduced the amount of pay in kind interest in the portfolio over the last several quarters in an effort to have our PIK income continue to approximate the amount of our dividend reinvestment on a quarterly basis.

During the third quarter, shareholders elected to reinvest 7.2% of total dividends for approximately $1.3 million. During the third quarter, we reviewed more than double the number of new investment opportunities compared to the same period last year. While we can't give any assurances about whether specific transactions will ultimately close, we have an active pipeline and hope to close several transactions in the next few months. While the market has been more active recently, middle market transactions continue to be more conservatively capitalized, have lower levels of leverage and higher levels of debt coverage than those available in liquid credit markets.

We currently have plenty of capacity for new investments. Quarter end, the Company was in compliance with all financial covenants under its credit facility, and our amended and extended credit facility currently provides us with $375 million of borrowing capacity, which extends to December of 2013.

The portfolio continues to be well-positioned. At quarter end, our portfolio consisted of investments in 51 companies, was invested 58% in senior secured loans and senior notes, 24% in unsecured or subordinated debt securities, 12% in equity investments and 6% in cash and cash equivalents. 74% of our debt investments or interest at a fixed rate or were subject to LIBOR (inaudible) or arrangements at quarter end. During the third quarter, our weighted average yield on income producing securities was 10.5% on a cost basis, and 12.4% at market value.

Our net unrealized depreciation increased by $1.8 million reflecting stable underlying portfolio company evaluations offset by an increase in unrealized depreciation relating to a currency hedge. At September 30, 2010, our portfolio was valued at 86.3% of costs, an increase from 80.3% of costs at year end 2009 and from a year ago value or 77% of costs. Since 2006, we have exited 60 investments with a total cost of $879 million. Of those exits, we have received proceeds that exceeded the fair market value in our most recent financial statements 56 times.

We are pleased with the performance of our portfolio companies. Both the fair value and cost of debt securities on non-accrual is lower at third quarter end. This decrease is the net result of one security removed from non-accrual and a net larger total portfolio. Finally, the weighted average rating of our portfolio companies at September 30 was 1.30 compared to 1.35 at June 30 and 1.45 at March 31.

With that, 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 will now take a few moments to review some of the details of our third quarter 2010 financial information. Net investment income totaled $16.8 million and $57.5 million or $0.26 per share and $0.96 per share for the three and nine months ended September 30, 2010. This compares with net investment income of $21.8 million and $71.1 million or $0.39 per share and a $1.28 per share for the three and nine months ended September 30, 2009. The decrease in net investment income primarily reflects a reduction in the size of our portfolio due to investment sales, repayments and other exits.

Total expenses for the three and nine months ended September 30, 2010, were $8 million and $23.3 million versus $7.6 million and $23.5 million for the three and nine months ended September 30, 2009. The increase in expenses for the most recent quarter is largely due to higher interest expense and debt issuance costs under our credit facility.

Total net realized gain or loss for the three months ended September 30, 2010, was a gain of $1.3 million versus a loss of $56.3 million for the corresponding 2009 period. The net realized gain for the most recent quarter resulted primarily from settling previously outstanding currency hedges at a gain.

For the three months ended September 30, 2010, the net change and unrealized appreciation or depreciation on the Company's investments in foreign currency translation was an increase in unrealized depreciation of $1.8 million versus a decrease of $65.7 million for the three months ended September 30, 2009.

Net unrealized depreciation stood at $133.5 million at September 30, 2010, versus $131.7 million at June 30, 2010. The increase in unrealized depreciation for the three months ended September 30, 2010, resulted primarily from the effects of foreign currency exchange movements on our outstanding currency hedges.

The valuations of our investment on a net basis were relatively unchanged during the quarter primarily as a result of stabilizing market conditions. Market wide movements and trading multiples are not necessarily indicative of any fundamental change in the condition or prospects of our portfolio companies.

The weighted average yields of the debt and income producing equity securities in our portfolio or senior secured loans and other debt securities at fair value were respectively 12.4%, 10.6% and 15.0%, and at the current cost basis were 10.5%, 9.4% and 11.9% at September 30, 2010.

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

Thanks again, Frank. As we look forward from our third quarter results into the balance of the year and 2011, we find that the investment environment is excellent and that our portfolio is performing well. We believe that BlackRock Kelso Capital is well positioned to continue to prudently accelerate the growth of our portfolio.

We have increased our equity capital, expanded our base of shareholders and increased the flow of our stock. In the second and third quarter, we originated more than $300 million of new investments, and we expect the environment to continue to support our focus on originating and structuring new transactions in the middle market.

In short, we are in a strong position to produce profitable growth for the remainder of 2010 and beyond. On behalf of Mike, Frank and myself, I would like to take this opportunity to thank our talented investment staff for all of their efforts and to thank you for your continued interest in BlackRock Kelso Capital.

Marvin, please open the call to questions.

(Operator Instructions). Our first question comes from the line of Greg Mason with Stifel Nicolaus.

Great, thank you, gentlemen. First, I wanted to talk about -- you have had a big win in your portfolio -- electrical components -- that is -- I think that is up from $20 million to $47 million over the last couple of quarters -- it is an equity investment. What are your thoughts on potentially monetizing that investment and using that capital into new debt investments?

I think with all of our investments they are -- we monitor them, we pay very close attention to what is going on in each investment, and it is very hard to put a pin in the point in time when we will have a realization on that particular investment. But I think it's fair to note that it's a substantial portion of our portfolio, and it's performing quite nicely.

And at some point in time, I don't think in the immediate future, it will be converted into -- give us the opportunity to convert a non-interest bearing security into cash and then ultimately be redeployed into a cash -- an interest bearing security. But I don't - it's not going to happen in the immediate future.

Great, and then can you talk about what you are seeing in terms of fourth quarter capital deployment? I know it can be lumpy, but do you think it is going to -- your acceleration is going to continue into quarter end? And then what do you think about 2011 origination expectations for you in the market overall?

Let me answer 2011, that is a little easier. I would think that we will continue to see an acceleration and opportunities to invest in 2011. The last quarter, as you point out, this business is very lumpy, and we have a fair number of transactions that we are looking at whether they close and whether we determine that we want to be part of them is still very much an open issue.

All right. I also wanted to touch on the debt capital with the $375 million of long-term debt capacity you have, that is about 0.5 times the equity following your October equity raise. What are your thoughts? What are you seeing out there? What are your discussions like on increasing your debt capacity?

I think it's fair to say that -- simply put, we recognize that we are going to need some more debt capacity and probably fair to say that it is not going to be too far into the future that will need additional debt capacity, so we are focused on that.

Okay great and then one last question, and I will hop back in the queue. Some of the -- as we look in your portfolio, you have got some larger investments like [big dumpster] and [facet] that are still on accrual status, but you are holding those on $0.20, $0.10 -- $0.20 on the dollar, just curious of what your thoughts are in terms of those. What are the risks that those potentially go on nonaccrual just given your fair value marks are relatively low?

Hello Greg, it's Mike. The -- I think the extent of what we can say in this context is that you will see in the notes to the schedule of investments and to the financial statements that with respect to non-accrual, non-accrual is generally a non-cash concept and some of the investments that you mentioned are investments that accrue interest on a pay in kind basis. And I mentioned during the remarks -- the prepared remarks in the call that we have had a pretty substantial reduction in our PIK interest, and without going too much further down the road, that may help you understand how those are characterized.

Okay great, thanks gentlemen.

Our next question comes from the line of Jim Ballan with Lazard Capital Markets.

Great, thanks a lot. Just following up on the question about availability of credit, can you talk maybe a little bit about your options in terms of availability of credit and what you are thinking about maybe your options are there?

And also, you talked about -- it sounds like a pretty robust pipeline. Are there any other obstacles that you see that may get in the way of your being able to start to re-lever the business and grow the portfolio?

I don't see any other obstacles. I think the next hurdle is set at $375 million of amended and extended credit facility. I guess there are two main options in terms of refinancing, one would be to expand that facility and the second one would be to explore other avenues. And we are taking a good look at both options at the moment.

Okay great, thanks a lot.

And I think it is also fair to say that we think the availability of capital in these markets is pretty good at the moment, and it's consistent with where we have been all along on this which is -- we didn't really want to spend a lot of money with credit facilities that we weren't going to use. It's clear now that we are going to need them, so we are spending time on that.

Okay, looking forward to it, thank you.

Our next question comes from the line of David Chiaverini with BMO Capital Markets.

Good afternoon thank you. I apologize if you said this during your prepared remarks, but what were the yields on the new investments?

In the prepared portion I went through each of them. Of the four new portfolio companies, one has a stated rate of 11.75%, another is a floating rate instrument at LIBOR plus 850 with a 2% LIBOR (inaudible) and each of the other two have a stated rate of 13%.

Great thank you for that. And the spillover income last quarter was 20 -- or the undistributed taxable income was $24 million. What is it as of the end of the third quarter? Do you have a figure for that? Or is it as easy as taking the $24 million and adding the $4.8 million or--

It remains consistent with the prior quarter. We published it in the earnings release in the Q. It's $25.6 million. And as you know, tax -- the end of the year is really when taxable income is fully determined for the year, so we have some estimates of the interim quarters but we really don't publish those or release those.

Great, that's all I had, thank you.

(Operator Instructions). We have a follow up question from the line of Greg Mason.

Great, one last modeling question. As we look at interest income quarter over quarter, 3Q versus 2Q, it fell by $3 million, but your portfolio grew and your nonaccruals were flat. Just curious, what was the change in there? I think maybe you hinted it was restructuring fees maybe in the past quarter, but can you give us a little more detail there?

Certainly that's a component. Another would be timing. For example, we published a recent developments page in our perspective supplement a couple weeks ago where we went through the dates on which many of the new investments were made, and as a general matter, there was some late quarter new investment versus some early quarter repayment.

Got it, that makes a lot of sense.

And our next question comes from the line of [Freeman Jones] who is a private investor.

Good afternoon, how are you?

Well, thank you.

Thanks for the call, and I'm proud to be a relatively new investor with you all. And I'm very impressed with the yields and the performance of the stock. I just had a question though about the secondary and the pricing, and it looked like there was about a 6% discount. What is the thought process in the secondary pricing, and did you feel that you had to discount the price to get it placed properly?

Yes, I think it's pretty consistent with what follow-on offerings have been done in our industry. I think it was 5.7% which is the discount from the last of (inaudible) or 5.5 approximately. And that's very consistent with what other (inaudible) have done in terms of following-on offerings. We would like it to be nothing, but unfortunately the underwriters don't see that as a possibility.

Right. Well, I think this was at least your second secondary this year is that right?

Yes.

Okay, do you have any more planned?

We do not have any more planned. I think it's fair to say that we would like to re-leverage our balance sheet from where it is today. So until we get a higher level of leverage, I don't think you will see us in the equity market.

Now the timing of this offering, it says in your release it was primarily to -- for new investment and then to pay down the credit facility. Did they require that? Is this sort of a revolving line? Why did you need to pay down the credit?

It is a revolving -- part of it is a revolving line. But it was not required to be paid down. We took advantage of what we thought was an opportune time and at a point in time to raise some equity, fully recognizing that we were going to need to raise some in the next -- within the next three to six months. We thought this was a good opportunity to do it.

Again, it's a lumpy process. If we could balance our -- precisely balance our equity raises and our debt equity, and our debt to some -- manage it to some level we would do that, but we intend to do it on more of an opportunistic basis. And as I said, for the foreseeable future we will be putting debt capital to work.

Good. Well, thanks again. Keep up the good work.

Thank you.

Thank you.

(Operator Instructions). And we seem to have no further questions. Do you have any closing remarks?

I'd just like to thank everybody for participating. And if you have any other questions, feel free to give us a call. Appreciate it, thank you very much.