Fidus Investment Corp (FDUS) 2015 Q3 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the Fidus Investment Corporation's third-quarter 2015 earnings conference call.

(Operator Instructions)

As a reminder, this conference call is be recorded. I'd like to introduce your host for today's conference, Ed McGregor of LHA. Please go ahead.

Thank you, Ashley, and good morning, everyone. Thank you for joining us for Fidus Investment Corporation's third-quarter 2015 earnings conference call. With me this morning are Ed Ross, Fidus Investment Corporation's Chairman and Chief Executive Officer, and Shelby Sherard, Chief Financial Officer.

Fidus Investment Corporation issued a press release yesterday afternoon with the details of the Company's quarterly financial results. A copy of the press release is available on the Investor Relations page of the Company's website at fdus.com. I would like to remind everyone that today's call it be recorded. A replay of today's call will be available by using the telephone numbers and conference ID providing in the earnings press release. In addition, an archived webcast replay will be available on the Investor Relations page of the Company's website at fdus.com following the conclusion of this conference call.

I'd also like to call your attention to the customary Safe Harbor disclosure regarding forward-information included in the earnings release. The conference call today will contain certain forward-looking statements including statements regarding the goals, strategies, beliefs, future potential, operating results and cash flow of Fidus Investment Corporation. Although management believes these statements are reasonable based on estimates, assumptions and projections as of today, November 6, 2015, these statements are not guarantees of future performance. Time-sensitive information may no longer be accurate at the time of any telephonic or webcast replay. Actual results may differ materially as a result of risks, uncertainties and other factors, including but not limited to, the factors set forth in the Company's filings with the SEC. Fidus undertakes no obligation to update or revise any of these forward looking statements.

With that, I'd like to turn the call over to Ed Ross. Ed?

Thank you Ed, and good morning everyone. Welcome to our third-quarter 2015 earnings call. I'll start our call by highlighting our results for the third quarter, followed by a discussion of our investment activity and the performance of our investment portfolio. Then Shelby will go into more detail about our financial results and liquidity position. After that, we will open the call for questions.

Our investment portfolio continued to deliver solid results during the third quarter. On a year-over-year basis we grew our adjusted net investment income by 21% while covering our regular quarterly dividend. As of September 30, 2015 our net asset value was $246.3 million, or $15.12 per share. We believe this quarter's results are a good illustration of the quality of our portfolio, our underwriting discipline, and all in all, we are proud of our performance for the quarter.

From an operating perspective we generated net investment income of $7.1 million, or $0.43 per share for the third quarter. While adjusted net investment income, which we define as net investment income excluding any capital gains incentive fee attributable to realized and unrealized gains and losses, was $6.7 million, or $0.41 per share.

On September 25, 2015 we paid a regular quarterly dividend of $0.39 per share to stockholders of record on September 17, 2015. As of September 30 we had an outstanding balance of us spillover income, or taxable income of excess of distributions, of roughly $14.4 million.

For the fourth quarter of 2015 the Board of Directors has declared a regular quarterly dividend of $0.39 per share, which is payable on December 18, 2015 to stockholders of record on December 4, 2015. In addition, the Board of Directors has declared a special cash dividend of $0.04 per share payable on December 11, 2015 to stockholders of record as of November 27, 2015.

During the third quarter we remained true to our investment strategy. We are patient and disciplined investors that offer quality over quantity and focuses -- focus on companies that operate in industries we know well that generate excess free cash flow for both debt service and growth, and that have strong defensible market positions and positive long-term outlooks.

In addition, the amount of capital we invest in any given quarter has in the past and will continue to vacillate as a result of the timing and frequency of deal closings, particularly when the majority of the deals are being driven by M&A activity. For example, this quarter we invested a total of $12.2 million in contrast to the $28.3 million we invested during the second quarter and the $39.6 million we invested during the first quarter of this year.

Of the $12.2 million we invested during the third quarter, $4.2 million consisted of additional investments in five existing portfolio companies. The remaining $8 million was invested in subordinated notes and common equity of a new portfolio company Vanguard Dealer Services, LLC, a provider and administrator of finance and insurance products to automobile dealerships.

Also as reported in our third-quarter press release, subsequent to quarter end we invested $21.8 million, which included two new portfolio company investments. We invested $8.5 million in subordinated notes with a royalty right agreement of Inthinc Technology Solutions, Inc., a provider of vehicle telematics solutions to large enterprise fleet operators. And we invested $8.3 million in subordinated notes of Cavallo Bus Lines Holdings, LLC, a large motorcoach operator based in the Midwest that provides charter bus services to clients, primarily in the education, athletic and tour end markets.

Turning to proceeds from repayments and realizations, we received $4.1 million in the third quarter, which included recognition of a $1.6 million gain related to our investment in Westminster Cracker Company. For the fourth quarter of 2015, we currently expect to see an increase in repayments and realizations in line with repayment levels in the first two quarters of 2015.

The fair market value of our investment portfolio at September 30, 2015 was approximately $428 million, equal to approximately 99% of cost. We ended the quarter with debt and equity investments in 48 portfolio companies with equity positions in roughly 83% of them. The breakdown on a fair value basis between debt and equity remained fairly stable, with 88% in debt and 12% in equity investments, providing us with high levels of current income from our debt investments and the opportunity for capital gains from our equity-related investments.

Terms of portfolio performance, we track several quality measures on a quarterly basis to help us monitor the overall stability, quality and performance of our investment portfolio. In the third quarter these metrics remained strong and in line with prior periods.

First, we track the portfolio's weighted average investment rating based on our internal system. Under our methodology, a rating of 1 is outperform and a rating of 5 is an expected loss. As of September 30 the weighted average investment rating for the portfolio was 2 on a fair value basis, in line with prior periods.

Another metric we track is the credit performance of the portfolio, which is measured by our portfolio companies' combined ratio of total net debt to Fidus' debt investments to total EBITDA. For the third quarter this ratio was 3 times compared to 3.5 times for the same quarter last year.

The third measure we track is the combined ratio of our portfolio companies' total EBITDA to total cash interest expense, which is indicative of the cushion our portfolio companies have in aggregate to meet their debt service obligations to us. In the third quarter this metric was 3.5 times compared to 3.4 times for the same quarter last year. The soundness of these metrics reflects our philosophy of maintaining significant cushions to our borrowers' enterprise value in support of our capital preservation and income goals. As of September 30 our debt investments in Paramount Building Solutions, LLC remained our only investment on nonaccrual and represented approximately 1% of our investment portfolio on a cost basis.

Turning to our discussion of market conditions. We continue to see solid M&A activity, and believe our target lower middle-market remains relatively healthy overall. Sound fundamentals are in place for most business segments, although energy remains weak and certain industrial segments, especially those that are more dependent on China and foreign markets, have seen recent softness. With a slow-growth economy and pockets of uncertainty as a backup, we continue to selectively focus on businesses that we believe will perform well over the long term and that are more defensive in nature.

Our focus remains on deal quality, not quantity. We have managed and will continue to manage the business for the long term, maintaining a cautious and deliberate approach to investing. Our goal remains to grow and further diversify our investment portfolio with an acute focus on generating attractive, risk-adjusted returns and capital preservation. Our relationships, our industry knowledge and our ability to offer flexible capital solutions continue to provide a strong competitive foundation, and position us to deliver stable and growing dividends over the long term.

Now I'll turn the call over to Shelby to provide some details on our financial and operating results. Shelby?

Thank you Ed, and good morning everyone. I'll review our third-quarter results in more detail and close with comments on our liquidity position. Similar to last quarter, I will be providing comparative commentary versus the prior quarter, Q2 2015. Total investment income was $13.6 million for the three months ended September 30, 2015, a $0.8 million increase over Q2 2015.

Interest income increased by $0.6 million related to higher average assets under management. A $0.3 million increase in dividend income, primarily related to two distributions from equity investments was offset a $0.2 million reduction in fee income due to fewer new investments in Q3.

Total expenses were $6.5 million for the third quarter, approximately $0.3 million lower than the prior quarter. Interest expense increased by $0.1 million and the base management fee increased by roughly $0.1 million, which was offset by a $0.3 million reversal of accrued capital gains fees and a $0.2 million decrease in G&A expenses. Interest expense includes the interest paid on Fidus' SBA debentures and line of credit, as well as any commitment and unused line fees. As of September 30, 2015, the weighted average interest rate on our outstanding debt was 4.2%. The third quarter is generally a lighter quarter for routine G&A expenses.

In the fourth quarter we will incur annualized excise tax expense, which I would expect to be slightly above excise tax expense in 2014. Net investment income, or NII, for the three months ended September 30, 2015 was $7.1 million, or a $0.43 per share versus $0.37 per share in Q2 2015. Adjusted NII was $0.41 per share in Q3 versus $0.38 per share in Q2.

The quarter-over-quarter increase in adjusted NII was driven by higher interest and dividend income and fewer G&A expenses in Q3. Adjusted NII is defined as net investment income excluding any capital gains incentive fee expense or reversal attributable to realized and unrealized gains and losses on investment. A reconciliation of NII to adjusted NII can be found on our earnings press release that was issued yesterday afternoon, and is also posted on the Investor Relations page of our website.

For the three months ended September 30, 2015 Fidus had $1.6 million of net realized gains, primarily related to a distribution from Westminster Cracker Company from the sale of its operating subsidiary. Net realized gains were offset by $3.2 million of unrealized depreciation, resulting in a $1.6 million of net loss on investment. Our net asset value as of September 30, 2015 was $15.12 per share, which reflects payment of the $0.39 per share regular dividend in September.

Turning now to our portfolio statistics. As of September 30 our total investment portfolio had a fair value of $428.2 million. Consistent with our debt-oriented investment strategy, our portfolio on a cost basis was comprised of approximately 69% subordinated debt, 20% senior secured loans, and 11% equity and warrant security.

Our average portfolio company investment on a cost basis was $9 million at the end of the third quarter. We had equity investments in approximately 83% of our portfolio companies, with an average fully diluted equity ownership of 7.8%.

Weighted average effective yield on debt investments was 13.4% as of September 30. The weighted average yield is computed using the effective interest rates for debt investments at cost, including the accretion of original issue discount and loan origination fees, but excluding investments on nonaccrual, if any.

Now I'd like to briefly discuss our available liquidity. As of September 30, our liquidity and capital resources included cash and cash equivalents of $17.7 million, unfunded SBA commitments of $34.8 million, and $35.5 million of available [in the] line of credit, resulting in a total of $88 million of liquidity. Subsequent to quarter end we borrowed $7 million of SBA debentures, which were utilized along with available cash to find new investments. Our liquidity is now closer to $66 million.

Now I'll turn the call back to Ed for concluding comments. Ed?

Thanks, Shelby. As always, I'd like to thank our team and the Board of Directors at Fidus for their dedication and hard work, and our shareholders for their continued support. I'll now turn the call back over to Ashley for Q&A. Ashley?

(Operator Instructions)

Robert Dodd, Raymond James.

Hello, everybody. Just going back to one of the comments you made, Ed, on elevated repayments and realizations in Q4. Makes it sound like you're along in the process, or rather some companies are along in the process of potential M&A events or anything like that. Any more color you could give us on that?

Plus, I mean, are these newer or older vintage companies? So if we see a realization of an older company, we wouldn't necessarily expect a prepayment penalty or accelerated amortization, but a newer one we would. And that can move things around. I mean, any color you can give us on that would be great.

Sure. It's a great question, Robert. I think with regard to repayments, as I look at third quarter I think it was lighter than usual for us now that the portfolio is pretty mature. As I look forward and the numbers were in the 20s, the mid-20s in Q1 and in Q2, that is our expectation at this point. But as you know, it's hard to predict, very hard to predict, no different than the origination side. These deals all take a life of their own. When I think about the vintage, I think there's potentially an older one and potentially a more recent one that may come to fruition. So I think hopefully that's helpful to you

Yes, it is. If I could then just follow on -- just the other comment. With multiples being high, I mean, is that one of your hesitations in doing some of these deals? You say you're seeing good flow right now. Are the [p-forms] looking to push leverage levels, given a high multiple if you want to maintain a high return they need more leverage to do it. And is that the quality issue that's maybe making you hesitant to do some of these deals when you are seeing a pretty active flow?

That's a great question, Robert. I think from a quality perspective, I'll talk about deal flow here and then actually a little bit what we've been doing. I think deal flow has been pretty good this year. I will tell you it's dropped a little bit over the last two months, but I think that's more temporary in nature with all the stock market volatility and the concerns about the industrial economy. I think people have slowed down just a little bit here to take a breather. But if I look at our portfolio, the portfolio continues to perform pretty well. And so we are not seeing any major pockets of problems or uncertainty.

From a quality perspective, I will also say that the quality of the deal flow has probably come down just a little bit. What I mean by that, maybe more cyclical opportunities or just tougher opportunities, which quite frankly we're probably shying away from at the moment. So that's been a little bit of our strategy. And then the other thing is back to the comments I made in the prepared remarks, which is the timing of these transactions is very, very hard to predict.

We're very busy right now. But we've been busy on several deals since June, and they're just slow coming to fruition. So it's just very hard to predict that. What happened in Q3 in terms of a little lighter investment pace was more of a function of timing of deals, in my opinion, than it was us being overly cautious. So that's all I think about it.

Got it. Thank you very much.

Absolutely. Good talking you, Robert.

Good talking to you.

Vernon Plack, BB&T Capital Markets.

Thanks, Ed. Ed, has there been any change to the competitive landscape here over the past 90 days?

Great question, Vernon. I don't think so. As I think about it, banks, I guess the one thing I'd say and that we've really seen over the past year is banks are less aggressive today from a cash flow lending perspective. That's a good thing for us. It means we're partnering with them on probably more situations. I think the type of capital that we provide in the larger side of our, call it the $10 million to $20 million EBITDA business, there's plenty of competition. When you drop down, I think there's less. And that's a place where we've always obviously been active over the years and continue to be very active.

But one thing I would say in line with competition is pricing. And I think I mentioned last quarter, if I'm not mistaken, is I think pricing is at a minimum stabilized. And quite frankly I think it's improved a little bit over the last six to nine months. So maybe that gives you a little bit of indication on the pricing -- I mean on the competition side. I do think it's for sure stabilized, and probably gotten a little bit better over the past 6 to 12 months

Okay. And as you look at how your portfolio companies, how they've been performing, what are your biggest concerns right now?

That's a great question, as well. What we're seeing in the portfolio today is, as a whole, is revenue growth and quite frankly EBITDA growth, when you look at things in the aggregate. I think that's a very positive thing. And I like the fact that the weighted average leverage of our debt portfolio is 3 times. So feel very good about the position that we are in.

Having said that, and you've heard me say this before, we always have a few that are exceeding expectations and a few that are underperforming. Those ones that are underperforming, the key for us is a couple-fold. One is just the underwriting, did we underwrite in really solid businesses that can weather any storm that comes up, including an economic recession or another event? And that's the goal, that's what we're trying to do. Because none of these businesses are just going to go straight-line up, as you well know.

So the key for us is weathering those storms and working with companies to make sure we can come out with a positive long-term outcome. And so that's -- we spend a lot of time on that, quite frankly, in terms of managing the portfolio. And that's our job, I think. And that's what we are continuing to do.

Energy, obviously is one where that's a tough sector right now. But I think the good news, at least from my perspective as I sit here today, our one material investment in that sector is a very solid company. It's operating in a tough industry, but it's got a very solid and strong asset base and a great management team, and we feel good about that investment. Having said that, it's a tough sector.

Okay. That's great. That's very helpful. Thank you

Thank you. Good talking to you, Vernon.

Likewise.

Bryce Rowe, Baird.

Good morning, Ed and Shelby.

Good morning, Bryce. How are you?

I'm good, thank you. Ed, I feel like I ask this for the last couple of quarters and I'm sure [the slightest] stock price has been a bit frustrating for you with it trading at a discount to NAV. But any updated thoughts on the stock -- potential for stock repurchases? I know you've got the plan outstanding there, but with the stock kind of languishing even more so now, is it looking more attractive to use that repurchase plan?

Sure. So just to be clear, we do have availability under our line of credit, right? So we have flexibility to buy back some shares. We don't have a plan in place at this point.

Having said that, we, as you would expect, we spend a lot of time at the Board meeting. I don't have an update for you which says, okay it's imminent, we're getting ready to do it. Quite frankly, we're hopeful that things improve a little bit. But it's a very real conversation for us at the Board level.

I will tell you there's other considerations to take into account, no different than a line of credit and the flexibility we have there. But also the fact that as you look at our asset base or equity asset base, some of it's at the holding Company, clearly a good part of it. But a good part of it's also in our SBIC funds. So we are managing a variety of things there. And I would say that the levels we are at today, we're not quite ready to pull the trigger on that. But recognize that it's something that we are talking about and if things for some reason get worse, which we are hoping don't, then we'll probably be getting on the phone, so.

Great. That's helpful. Thanks, Ed. Have a good one.

Thanks. You, too. Good talking to you.

Thank you. That ends our Q&A session for today. I'd like to turn the call back over to Mr. Ed Ross for any final remarks.

Thank you Ashley, and thank you everyone for joining us this morning. We look forward to speaking with you on our fourth quarter call in early March. Have a great day and a great weekend.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone have a wonderful day.