FS KKR Capital Corp (FSK) 2016 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the FS Investment Corporation first quarter 2016 earnings conference call.

(Operator Instructions)

Please note that this conference is being recorded. At this time, Jim Ballan, Senior Vice President of Investor Relations and Capital Markets, will proceed with the introductions. Mr. Ballan, you may begin.

Thanks, Hope. Good morning, and welcome to FS Investment Corporation's first-quarter 2016 earnings conference call. Please note that FS Investment Corporation may be referred to as FSIC, the Fund, or the Company throughout the call.

Today's conference call is being recorded, and an audio replay of the call will be available for 30 days. Replay information is included in a press release that FSIC issued on May 9, 2016. In addition, FSIC has posted on its website a presentation containing supplemental financial information with respect to its portfolio and financial performance for the quarter ended March 31, 2016. A link to today's webcast and the presentation is available on the Investor Relations section of the Company's website at www.fsinvestmentcorp.com under Presentations and Reports.

Please note that this call is the property of FSIC. Any unauthorized rebroadcast of this call in any form is strictly prohibited.

I would also like to call your attention to the customary disclosure in FSIC's filings with the SEC regarding forward-looking statements. Today's conference call includes forward-looking statements and we ask that you refer to FSIC's most recent filings with the SEC for important factors that could cause actual results or outcomes to differ materially from these statements.

FSIC does not undertake to update its forward-looking statements unless required to do so by law. In addition this call will include certain non-GAAP financial measures. For such measures, reconciliations to the most directly comparable GAAP measures can be found in FSIC's first quarter earnings release that was filed with the SEC on May 9, 2016.

Non-GAAP information should be considered supplemental in nature and should not be considered in isolation or as a substitute for the related financial information prepared in accordance with GAAP. In addition these non-GAAP financial measures may not be the same as similarly named measures reported by other companies. To obtain copies of the Company's latest SEC filings please visit FSIC's website.

Speaking on today's call will be Michael Forman, Chairman and Chief Executive Officer of FSIC; Brad Marshall, Senior Portfolio Manager of FSIC and the Senior Managing Director at GSO Blackstone, FSIC's investment sub-advisor; and Jerry Stahlecker, President of FSIC. We will then open the call for questions. I will now turn the call over to Michael.

Thank you, Jim, and welcome everyone, to FS Investment Corporation's first quarter 2016 earnings conference call. We appreciate your interest in FSIC.

On today's call I'll provide a summary of FSIC's key highlights and strategies, after which Brad will provide an overview of our investment activity. Then Jerry will discuss our financial results in greater detail.

Our primary focus during the first quarter was leveraging the capital base of the Franklin Square BDC platform and the resources and credit expertise of GSO Blackstone to improve the liquidity and operating efficiencies of many of our existing portfolios. Net investment income for the first quarter 2016 was $0.21 per share, unchanged compared to the first quarter of 2015, and lower than most recent quarters, driven primarily by lower fee income from prepayments and direct originations.

Adjusted net investment income for the first quarter of 2016 was $0.21 per share, compared to $0.23 per share for the quarter ended March 31, 2015. As a result distributions of approximately $0.22 per share exceeded the net investment income and adjusted net investment income during first quarter; however, we expect net investment income to fully cover and exceed distributions for the full year.

While credit prices rebounded toward quarter end, financial markets volatility during the quarter contributed to weaker secondary prices and wider clearing yields in the high yield markets, which impacted FSIC's net asset value. As of March 31, 2016 NAV was $8.82 per share, down from $9.10 per share as of December 31, 2015, and $9.90 as of March 31, 2015. It is important to note that we, along with our Board of Directors, work with independent third party valuation service providers to mark 100% of the investment portfolio to market each quarter.

In periods of market volatility such as today, NAV volatility should be expected, while secondary market volatility may place downward pressure on asset values and some credits went on nonaccrual during the quarter, we're pleased with the overall health of the portfolio. Our core investment strategies include direct originations and opportunistic investments, which at March 31, 2016 made up approximately 97% of the fair value of the investment portfolio with direct originations representing 86% of the fair value.

Before I turn the call over to Brad, I want to note that we look forward to seeing many of you at FSIC's second annual Analyst and Investor Day next Wednesday, May 18, at Carnegie Hall in New York City. If you have not yet signed up to attend and would like to, please contact Jim Ballan. With that, I will now I turn the call over to Brad to discuss our investment activity during the quarter. Brad?

Thank you, Michael. During the first-quarter our primary focus was on managing through the market volatility and providing additional capital and operational support to our existing portfolio of companies. Total purchases for the quarter were $55.6 million, nearly all of which was committed to existing portfolio companies.

We exited approximately $169 million of investments during the first quarter of 2016, driven primarily by the repayment of our investment in CoSentry and partial repayment in credits such as Corel and some opportunistic sales. The resulting net proceeds of $113.5 million were primarily used to reduce foreigns and lower leverage as we work to return FSIC's leverage to within its target range. In addition since quarter end and through April 29, 2016 net sales and repayments were $185 million, which along with new origination since quarter end, has generated approximately $6.1 million in fee income.

Prepayments since the end of the first quarter were driven primarily by the full repayment of our investment Pittsburgh Glass Works and Flanders Corporation. We expect prepayment activity to be robust in the second and third quarters of this year, with an increase in M&A activity as a key driver.

As of March 31, 2016 the gross portfolio yield prior to leverage and excluding non-income-producing assets was 10.4%, unchanged from the prior quarter, and the average leverage of our direct originations through the respective tranche in which we invested, excluding equity and collateralized securities, was 5 times, up slightly from 4.9 times as of December 31, 2015.

Although the majority of new direct originations were in equity securities, when excluding non-income-producing assets, the gross portfolio yield of new direct originations funded during the quarter was 10.9% based on amortized cost. All of our directly originated portfolio companies have access to Blackstone's group purchasing organization program, which leverages the collective buying power of Blackstone's portfolio of companies to reduce operating expenses. This potentially leads to improved EBITDA margins for the participants and ultimately better credit metrics for our portfolio of companies and stronger performance for FSIC. As of April 14, 2016 FSIC portfolio of companies that participate in the program had an average savings on [dressed end] of 20%, increasing EBITDA for those companies by an average of 3.2%.

While we do not invest in stressed or distressed credit, when our credit underperformed we welcomed the opportunity to employ our significant operating and restructuring expertise, which enables us to partner with portfolio of companies to create additional operational efficiencies in an effort to mitigate losses, create about average recovery rate and maximize returns.

As of March 31, 2016 we had 5 investments on nonaccrual. Although in aggregate, nonaccruals represented only 0.3% of the portfolio based on fair value, and 1% of the portfolio based on amortized cost. In addition, all these investments represent approximately $3.9 million or less than $0.02 per share in annual income. We're working with all these companies to maximize our recoveries.

We've made meaningful progress in the first quarter on credits that have required restructuring, including JW Aluminum, Advanced Lighting, and Logan's Roadhouse. For JW Aluminum, demand for their products remains very strong, pricing has stabilized and we believe the Company is well-positioned going forward in its target market. For both Advanced Lighting and Logan's Roadhouse we continue to look for ways to optimize the capital structures for the respective businesses and evaluate the appropriate level of operational support that we can offer Management to improve their cost structure and overall strategy.

Let me now turn to our energy portfolio. Energy-related investments as of March 31, 2016 comprised approximately 10% of FSIC's investment portfolio based on fair value, compared to 9% as of December 31, 2015. Although there was volatility in commodity and energy markets, credit prices during the quarter, the valuations of our directly originated energy investments were relatively unchanged, quarter over quarter.

While we continue to anticipate periods of commodity price volatility in the coming months, we're highly confident in the credit worthiness of our energy-related direct originations. For FourPoint, our exposure is primarily in the senior debt of the Company, and there is only a small amount of debt above us in the capital structure. The Company is working to close on a transaction to acquire certain assets from Chesapeake Energy for approximately $385 million. This pending transaction, which FourPoint planned to fund entirely with equity, will provide further cash and asset protection to our debt position upon closing, and it will position the Company as one of the largest in the Western Anadarko basin. We believe the Company is taking appropriate and deliberate steps to strengthen its business and balance sheet.

For Ascent, the Company raised approximately $700 million in equity during the first quarter of 2016, which significantly delevered the balance sheet and provided it with liquidity to develop what we believe to be a very attractive acreage in the Utica basin. We believe the transaction strengthens our secured debt investment, which sits atop of the capital structure. We recognize that the energy markets present unique challenges relative to the broader market, and we will continue to work with and support our energy-related portfolio companies. I will now turn the call over to Jerry to provide additional details on our results.

Thank you, Brad. As Michael mentioned net investment income for the first quarter of 2016 was $0.21 per share, compared to $0.21 per share for the first quarter of 2015. Adjusted net investment income for the first quarter was also $0.21 per share, compared to $0.23 per share in the prior year period.

As Michael noted, fee income during the first quarter was lower than more recent quarters, driven primarily by lower prepayments and direct originations. As a result, distributions of approximately $0.22 per share exceeded net investment income and adjusted net investment income during the first quarter. However, we expect adjusted net investment income to fully cover and exceed distributions for the full-year.

In the first quarter of 2016, we declared a regular quarterly distribution of approximately $0.22 per share, which was paid on April 4, 2016. For the second quarter of 2016, we declared a regular quarterly distribution of approximately $0.22 per share to be paid on or about July 5 to stockholders of record on June 22, 2016.

NAV was $8.82 per share as of March 31, 2016, down from $9.10 per share as of December 31, 2015. Net change in unrealized depreciation on investments during the first quarter of 2016 totalled approximately $48.3 million or $0.20 per share, which was primarily attributable to depreciation in our senior secured bond investment in Advanced Lighting and Logan's Roadhouse.

Realized losses of $13.7 million or $0.06 per share during the first quarter were driven by sales of a portion of our investment in Avaya. We have subsequently fully exited our senior secured bond position in Avaya because we believe its turnaround timeline may not line up well with its debt maturities.

As of March 31, 2016 we had approximately $1.8 billion in total debt outstanding, with a weighted average effective interest rate of 3.98%. At quarter end FSIC's debt to equity ratio was 82%, compared to 83% as of December 31, 2015. We continue to actively manage our investment pipeline with an eye toward directing a portion of our capital for repayments to reduce borrowings and return FSIC's leverage ratio to within our targeted range. The timing and volume of repayments and refinancings are difficult to predict on a quarterly basis. However, we expect our reduction in borrowings to be in line with the pace of these repayments.

We will continue to assess the most efficient use of capital for our stockholders going forward. At this time we believe we are best able to create long-term value for our investors by taking advantage of investment opportunities and minimizing our cost of debt capital to ensure we maintain our investment grade rating.

During first quarter, Franklin Square and directors and officers of FSIC purchased approximately $3.9 million in shares of the Company's stock. In addition, Franklin Square and members of FSIC's Management continue to have 10b5-1 trading plans in place. I will now turn the call back to Michael.

Thanks, Jerry. We at Franklin Square believe our experience, scale and partnership with GSO Blackstone will continue to benefit FSIC investors. We are the largest manager of BDCs with more than $15.5 billion in BDC assets under management, and we believe our continued personal investment in FSIC serves to further align our interests with our stockholders.

I would like to thank you all for joining us today. With that, we will open up the call for questions.

(Operator Instructions)

Jonathan Bock of Wells Fargo Securities.

Hello. This is Jamie Stockton filling in for Jonathan. My first question is just a short technical question here. We saw the nonaccruals on the books this quarter, were they on nonaccrual for the entire quarter, or should we expect to see the effects of that kind of coming quarter?

The impact will be felt in the second quarter, primarily.

Okay. Thank you.

And then you talked briefly about Advanced Lighting and Logan's Roadhouse. We know that Logan's recently missed an interest payment. Just curious can you shed a little more light on the outlook of these positions?

Sure, I'll -- Logan's, what was the other one?

Advanced Lighting.

Sure, so Logan's did skip their bond payment and it's a publicly traded bond. We can't say too much. But we're in active dialogue with the sponsor on what the right capital structure and operational support that we can provide that Company.

What I would say just high level, I think it's a, the concept is certainly a concept that is well received in the market, and Logan's has not had the best execution at the store level. So that's what we're working on from an operational standpoint. And then we're trying to think through the right capital structure for the business to manage through the turnaround that's necessary in that business.

With Advanced Lighting, we continue to have discussions, active dialogue with the sponsor. Again on what the operational support and capital structure should be going forward. We have a lot of expertise in the lighting sector and we look forward to bringing those to bear with that Company.

Great ,that helps a lot. And then one more.

You mentioned that you're trying to reduce leverage down from the level it's at today. Kind of given this, that you're likely to see a slightly smaller portfolio in the coming quarters, how do you view dividend coverage in that way?

Sure. Well, historically as you are aware, we've out-earned our distribution for pretty much every year since inception, we've got about $0.02 per share of undistributed net investment income on the books. It's down from -- because we used about roughly a penny of that last quarter to cover the $0.22 per distribution.

We also mentioned that the fee income was light on the quarter, because we had relatively few repayments and therefore fewer direct originations, as we were using those proceeds to reduced leverage. Brad mentioned that we have had significant repayments quarter to date in the second quarter. We expect significant repayments through the second and third quarter.

Most of those repayments generate fee income as the unamortized OID. It's fee income and then to the extent that we are not using that capital completely to reduce leverage, because we expect that repayments will be more than sufficient to bring us back within our targeted leverage range and still of capital to deploy in new deals. We think that we will see pretty significant fee income and second and third quarter and expect to cover for the full-year, as we mentioned.

Great, thanks, and just one more from me. So incentive fees came down slightly as quarter revenues, just curious, you have that look back feature. And then with losses seen over the last few quarters, when can shareholders be expecting to see the benefits of that look back feature in full effect?

I think if we had continued depreciation in the portfolio over the next couple of quarters, that would likely trigger that look back. So far though, in the second quarter the market is strengthening and we expect to have a good quarter, obviously subject to the market continuing to cooperate.

Sure. Make sense. Thanks for taking my questions.

Terry Ma, Barclays.

I just want to touch on your guidance, recovering the dividend for the full-year. A little bit more. So aside from just an increase in fee income from prepayment, what other levers do you actually have to generate more net investment income and cover the dividend?

It's been my experience that fee income and prepayments tend to be pretty volatile from quarter to quarter, and they could actually drop off. Can you just give us some more color there?

Hello, Terry. It's Brad.

I'll try and take that in a few different ways. One, we have pretty good visibility, obviously, in the second quarter, and actually into the third-quarter, on what repayment look like as well as the pipeline of deals that we will be using that, recycling that capital for.

So I think we have pretty good insight into that level of fee income. To Jerry's point, we feel pretty good about covering the dividend in the second, third, and going into the fourth quarter. In terms of other levers that we have at play. We have some lower yielding assets that are likely going to get refinanced in the third-quarter. So we will be redeploying that capital in what we think is an attractive market, so you we'll see some pick up in that activity.

And then lastly, Terry, we do have some equity positions that obviously do not generate income, and we expect that some of those positions would get realized through the balance of the calendar year. So you put all those three together, and I think we feel pretty good about the balance of the year.

Okay. Great. And then just on Advanced Lighting. Is that still cash flow then accruing?

Is it still cash flow? Yes, it's still paying. Its coupon is due at the end of this month, and we're in a regular dialogue with the Company, and we expect them to pay that coupon payment.

Okay, thanks for that. Think another BDC actually has the same investment in its portfolio and they've actually had it on non-accrual, so can you just give some more color there?

Yes, I can't comment on what other BDC's lack. I think we're probably in a closer dialogue with the sponsor and have a more informed view on what their plans are.

Okay. Great. Thanks.

Christopher Testa, National Securities.

Just wondering if you could just shed color on why the -- I know the volume is down across the board, but for you was especially light this quarter. Was it just a matter of you wanting to pay down the repurchase agreement facility, were the structures and pricing not right, just any color there would be helpful?

It was mostly, as we've stated on our year-end call, was -- our focus was to bring leverage back in line with our target, which is to get it below 0.8 times levered, and so we used the modest repayments that we had during the quarter. Really to reduce overall leverage, that was a little bit counterbalanced by the fact that NAV declined in the quarter. But we did reduce our overall borrowings and reduced specifically the JPMorgan facility, which is the next maturity that will be coming up next year. And so that was really the focus.

We've got a pretty robust pipeline, as Brad mentioned, and I think as we see more repayment activity in the second and third quarter, we will be redeploying a lot of that capital into those new transactions.

And I'd just add to that. We did commit to several deals in the first quarter, but they are not funding until the second or third quarter.

Got it. And with the maturity of the JPMorgan facility, are your thoughts around that to issue another unsecured note to take up the balance there, or would you rather put that in a revolver, lower the cost of debt?

We are looking at a variety of different avenues. Ultimately, looking to refinance that in a structure that makes sense from both a cost and maturity standpoint, and we will consider a variety of options for doing that.

Great. And just out of the unrealized marks this quarter, how much of that came from spread widening versus specific credits. Excuse me.

Probably about 70%, kind of spread widening. The market was pretty volatile in the first 6 to 7 weeks of the quarter, and then things started to bounce back a bit. But I would say it's about 70/30, and we've certainly seen some strength from the end of the first quarter carry into the second quarter. Since Jerry's earlier remarks, I think we feel fairly good about the current marks.

Great. And how have the marks on the oil and gas companies been and in the portfolio quarter to date with the rebound in prices?

We've got direct origination deals. They get marked at the end of the quarter, Chris, so we won't see what the valuation firms come up with for valuations until end of the quarter.

In terms of the publicly traded securities, you've certainly seen a rebound in those marks alongside commodity prices, but it's a small part of the portfolio. And unclear how that will shake out by the end of the quarter.

Got it. And last one for me, just how much of the capital goods exposure is relying on emerging markets for significant amount of the revenue, and how are you thinking about the cyclicality of the portfolio as the credit cycle kind of matures?

Yes, so in terms of the cyclicality -- or maybe start with the first question -- the emerging market exposure, it's pretty limited. The majority of the companies we finance are US-based companies domestically, selling products domestically. If they have international exposure it's more into developed markets than emerging markets.

So you know, pick Safariland as a good example, they're selling holsters and batons and bullet proof vests for security forces in developed economies in the US as well as internationally. And that's a big part of our capital goods exposure there.

In terms of how the overall portfolio is set up to withstand cyclicality, we have a very de minimis exposure on the retail side, which typically sees negative results in economic weakness. I think the portfolio exposure to retail is1%.

Energy, we have discussed that does have cyclicality, and we do have some capital goods exposure in companies like ThermAssist that sells products to companies like Caterpillar. But overall, I think we're both mitigated from the cyclical risk given where we are in the capital structures in many of these companies, especially in the oil and gas sector, as well as our de minimis exposure to those industries that have deep cyclical risk in an economical downturn.

Great. That's all for me. Thank you.

Ryan Lynch, KBW.

Thank you for taking my questions. Just a first one. I just wanted to talk about that DOL fiduciary rule impact on your Business. That could potentially hurt your fund raising in the private channels across the broader Franklin Square platform.

In the past, you have always talked about not really having to raise capital in the BDC because you raised a good amount outside the BDC in the private channel. How could that GOL fiduciary rule potential impact FSIC shareholders?

Sure. Thank you for the question.

We have been significantly engaged in the process through our government relations group and frankly thought the Secretary and Department of Labor did a pretty good job listening to market participants in trying to craft a rule that works. We were somewhat pleased with the outcome here and our ability to navigate over the next several years in a different kind of environment.

Couple of things I would say. Number one, the rule does not go into effect until April of next year. So over the next 11 to 11.5 months, there's no impact on us. And I think it's good to have the news out there and the uncertainty behind us.

The second thing I would add is that it only impacts retirement accounts. And we do more business in nonretirement accounts than retirement accounts, although retirement accounts is an important side of our business. I think ultimately commissions will come down. Everybody is trying to figure out how they will adapt to the rule.

But we believe we have a very good business. We have raised a lot of capital in our channels. We think we will continue to raise capital. We will do some of it on a noncommissioned basis, and others of it with lower commission structures and trail structures. We see it as an opportunity to take advantage of our strength in the marketplace.

Okay. Good color.

And then Brad, maybe just one for you, a high-level question on competition in the market. The BDC group in general is fairly capital-constrained.

I know BDCs aren't your only competition, but that group is capital constrained. However, you also have slower deal flow, it feels like, in the marketplace. So how would you characterize competition and the quality of deal flow that you are seeing out in the market today maybe versus six months or a year ago?

Thanks, Ryan.

I would say the competition really depends on what part of the market you are targeting. And I think we have said this in the past, that on the smaller deals it seems to be a lot of managers outside of BDC'S that have raised separately managed accounts and have other pool to capital that can target the $30 million, $50 million, $75 million type investment.

And then the next tier above that is kind of the $75 million to $200 million, and maybe then above $200 million, and I would say that in the first-quarter of this year, the bigger the deal the less competition there was. Sometimes banks come into that market and they were absent in the first quarter, and they have started to pick back up in the second-quarter, but one of the great things about the scale of the Franklin Square fund is they can compete in those larger deals where we have seen the most opportunities.

So going into this quarter and into the third-quarter, I think that's where we've focused our capital, because we have seen the least amount of competition. And remember, these are bigger deals which typically you would think would get tighter spreads, but we're seeing the bigger deals get wider spreads, and that's where we are focusing our attention rate now.

Got you. That's all for me. Thanks.

Henry Coffey, Sterne Agee.

It's fair to say that we've got plenty of bad information on the oil, or negative information on the oil sector. We certainly know what's going on in other markets.

If all the external flat roll, that's a heck of a statement, I appreciate it -- whether they'd be spreads or our loan values in the high yield market or commodity prices. Are we going to find the Company in a position of starting to book either no losses on the realized/unrealized front, or could we actually start to see a positive stream of net gains for the year?

I think certainly the market has turned overall in the second quarter. You saw towards the end of the first quarter that the market found strength. Outflows from high yield and loan funds had subsided and you saw capital turning around and coming back into both of those asset classes. So I think we've generally seen an uptick in asset prices.

It's always hard to predict what's going to happen in the future and whether that strength continues for the remainder of the year. But oil has gone from $37 a barrel at the end of the year to roughly $46 today.

I think the consensus is that lower, longer may not necessarily be the case. We have seen significant counts in US rig count and US production, all of which argues in favor of the revised curves that we have seen. And so, I think if all of those things continue to play out, then I would expect that we will see overall continued appreciation in the marketplace.

What I would say, Henry, just to add to that, is that best validation to our energy exposure is the equity support that keeps coming into the Companies to support our debt positions.

And I think that's -- these equity investors take a very long-term view on their investments. And so we may sit here and talk about month over month changes in commodity prices, but the equity support that's coming in, which is in our biggest energy exposure's over $1 billion, what they are telling us, and what they're telling the market, is that they see a lot of value through their investment, which is below us in the capital structure. And we expect that they will continue to be supportive as commodity prices move around quarter over quarter.

I am thinking about it on the most simple of levels, that I go to page 6 in September and that number's quietly turning positive. Is it net realized and unrealized gain loss on investment? Not that there's some big flood of gains, but that dynamic moves in the right direction, and it seems like the answer is maybe.

That's entirely possible. But I think the valuation firms will look at where the public records are trading at that time, and they will look at the longer-term curve and where commodity prices are over not just that quarter, but over a couple years out.

Just another question. The four largest period, or the four most visible peer-to-peer lenders out there, two of whom are public, have blown out their brains this quarter. I'm sure there's a more articulate way of putting it, but they do appear to be skating around the track. Is that likely to create either an opportunity or a problem from you, be it either in your own investment portfolio on the consumer side, or as an opportunity in terms of drawing in new investments?

So I think the problems that are facing peer-to-peer lenders are just their underwriting models. From our standpoint, we like to make investments by -- not on models -- but looking at it on a very granular basis, the assets that we are lending capital to. So I don't think it's an area that we would look to expand into, in terms of how that impacts the consumer.

I think it's a small part of the overall market. I think the stronger consumers do not access that type of market. They access capital from their traditional banks, so I don't think it's going to impact any of our portfolio companies in the near-term.

And you haven't made any investments in some of the smaller companies in this arena or, I don't think so.

We have not.

Great. Thank you.

Jim Young, West Family Investments.

Just wondering with respect to the asset allocation side, it sounds like you are exposure to equity is going to decline over time, and I'm just wondering where within the other asset classes do you expect to get more exposure? Is it going to be in the senior secured first lien space, or are you looking for more subordinated debt? If you can just give us a feel for how that's going to shape up over the next couple quarters?

I think on the equity side, some of our positions will materialize over the next three to 12 months, and I think as we have stated on previous calls, we would like to move up the capital structure where possible. So that we can have greater security and less volatility in the portfolio.

Okay. And then secondly, with respect to your book value, it's obviously disappointing to see the 3% decline quarter to quarter, but to see a 10% decline year over year is very troubling and obviously not sustainable. So I'm wondering what changes or measures are you taking to address that issue?

Yes, I think a couple things. One thing that I think is very, very important for the folks at Franklin Square and FSIC and GSO for that matter, is that full transparency on our marks. And I think that's something that we take to heart and it's very important to us on a quarter over quarter basis. 100%, as Michael mentioned, as marked.

So you're going to always can have great visibility into the values of the assets as determined by the market and other third party valuation firms. In terms of what we do and how we think about those marks and the markdowns in our portfolio. When something underperforms, we take a long-term view on maximizing recovery.

So if you look at what we did in Allen Systems for instance, and is Sorenson, for that matter, is we equitized some of our position that gets marked down to effectively zero, and then we build the Company back up by going in and helping support the business and turn it around. And over a long period of time, and in some cases that may be as short as six months and some cases may be 18 months, but over that period of time, our goal is to not only get a recovery on our investment as equal to par, but in some cases we try and exceed that, given the value that we can bring to these companies.

That's something that we pride ourselves, it's something that I think is differentiated about us, and in the interim, over those short periods of times, we do have to take a lower mark on those names. But in the longer-term, we think it comes out on the other end.

And I would just add to that, Jim, for the vast majority of our portfolio, which is debt that's performing, the companies are performing well, and because of spread widening in the market, on the private valuationsm those marks have moved down. We own debt and there's always pull to par as they moved to maturity.

So you are going to see a natural increase in NAV as those names move closer to maturity, and that's really the vast majority of our portfolio. Because if we look at our rating categories and our watch list, 2% of the portfolio is in the category four and five names.

Sean O'Keefe, Wasserstein.

I have one last thing here, and a lot of our questions have already been asked and answered very well. Just on the Vertellus Performance Chemicals deal, I know there was a report that Moody's put out around February that was saying that the Company wasn't expecting to meet their covenant requirements, and Moody's downgraded them three notches, from B3 down to Caa3, which typically you won't see that big jump there. And it seemed like at quarter end, the term loan was still marked around the low 90s.

I just wanted to get your sense on what the outlook of the Company is, now that it missed an interest payment in April, and it seemed like it was being traded down in the low 50s around quarter end. So I don't know if you can speak to that in terms of if you're looking to equitize it, or if it's going to go on nonaccrual next quarter.

Yes, thanks John.

So, unfortunately, our Vertellus shares the same name as another Vertellus, so what you are citing is not our credit. It's a different credit, I think some other BDCs may own that Vertellus. But we have a sister company structure with that company that you are citing. Our credit is performing fine and is not about to miss an interest payment

Okay. I do apologize on that confusion.

It's all right. It's a common --

And I saw it in a couple of the research reports, so I figured that I had another checking on it. Thank you for giving the color on that.

Yes.

There are no further questions at this time. This concludes today's conference call. You may now disconnect.