Golub Capital BDC Inc (GBDC) 2015 Q3 法說會逐字稿

Good afternoon, and welcome to the Golub Capital BDC, Inc.' s June 30, 2015, quarterly earnings conference call. Before we begin, I would like to take a moment to remind our listeners that remarks made during this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Statements other than statements of historical facts may during this call, may constitute forward-looking statements, and are not guarantees of future performance or results, and involve a number of risks and uncertainties.

Actual results may differ materially from those in the forward-looking statements as a result of a number of factors, including those described from time to time in Golub Capital BDC, Inc.' s filings with the Securities and Exchange Commission. For a slide presentation that we intend to refer to the earnings conference call, please visit the Investors Resources tab on the homepage of our website, www.golubcapitalbdc.com and click on the Events/Presentations link to find the June 30, 2015, investor presentation.

Golub Capital BDC's earnings release is also available on the Company's website in the Investor Resources section. As reminder, this call is being recorded for replay purposes. I will now turn the call over to David Golub, Chief Executive Officer of Golub Capital BDC. Please go ahead.

Thank you, Martin. Good evening, everybody, and thanks for joining us today. I'm joined at Golub Capital's offices by Ross Teune, our Chief Financial Officer, and Gregory Robbins, Managing Director here.

Yesterday evening, we issued our quarterly earnings press release for the quarter ended June 30, and we also posted a supplemental earnings presentation on our website. We're going to be referring to that presentation throughout today's call. I'm going to start by giving an overview of the June 30, 2015, quarterly financial results, and then I'm going to hand the microphone to Ross, who's going to take you through quarterly financial results in more detail. Then I'm going to come back at the end, and talk about our strategy and the current environment and provide some closing remarks.

Let me start with highlights. In short, the quarter was very strong. The Company generated solid earnings in excess of our dividend. We succeeded in our goal of deploying the capital we raised in the April offering quickly, and in solid new loans, and without any earnings dilution. We grew our Senior Loan Fund meaningfully, as we've been talking about has been our goal, and our credit performance was excellent.

Let me dive into some of the details. Net increase in net assets for the quarter, or net income, was $18.3 million or $0.36 a share. That compares to $17.9 million or $0.38 a share for the quarter ended March 31. GAAP net investment income for the quarter was $15.2 million or $0.30 a share. Excluding a $700,000 GAAP accrual for the capital gains incentive fee, NII was $15.9 million or $0.32 a share. That compares to $14.8 million or $0.31 a share in the prior quarter.

We're providing you with NII per share excluding the GAAP capital gains incentive fee accrual because while the capital gains incentive fee payable is calculated using a methodology that does not include unrealized gains, and it's therefore at zero. It's likely to remain zero for the foreseeable future. Per GAAP we're required to include aggregate unrealized capital appreciation on investments in the calculation as if it's a liquidation calculation. We're required to accrue a capital gain incentive fee based on that calculation. Even though there is no fee payable, we're required to accrue it even though we think it's likely that it will remain not payable for the foreseeable future.

Net asset value per share for the quarter was $15.74. That compares to $15.61 for the quarter ended March 31. We're very proud of this. It's the 12th consecutive quarterly increase in our net asset value per share. Thirteen cents accretion was attributable to two things, quarterly earnings in excess of our quarterly dividend, and the stock offering that we completed in April that was at a premium to net asset value.

We had $3.1 million of net realized and unrealized gains on investments and secured borrowings for the quarter. That was $0.06 a share. This was the result of $4.8 million of net unrealized appreciation, and $1.7 million of net realized losses. The realized losses related primarily to writing off one non-accrual investment, [filler] processing, that was at a value consistent with our March 31, 2015, value. I'd also highlight that this was our 10th consecutive quarter with what I called in previous quarters, negative credit losses.

Let me talk for a minute about new investment activity. It was a strong quarter for new origination. We had total new origination commitments of $401.4 million. That included $30.9 million of investment in Senior Loan Fund. Investment activity was heavily weighted to existing portfolio companies in the Golub Capital platform and to establish sponsor relationships.

I'll give you two data points on that I think you'll find interesting. For Golub Capital, as a whole, and if we look at the first half of 2015 more than half of the middle market deals that we originated were with repeat borrowers, meaning companies that we've previously lent to. Over 90% of the deals were with sponsors we've previously done multiple deals with or what we call repeat sponsors.

If we look at the mix of new origination, we continue to focus on one-stop investments. The mix this quarter was 78% one-stops, 13% traditional senior secured, 8% in the Senior Loan Fund, and 1% in equities. Credit quality continues to be very strong. Non-accruals were only 0.2% of total investments at fair value at the end of the quarter, and over 90% of our investments have an internal risk rating of 4 or 5, our highest ratings.

If you turn to slide 3 of the investor presentation, you can see in the table the $0.36 per share we earned from a net income perspective, and the $0.32 per share we earned from an NII, or net investment income perspective, before accrual for the capital gains incentive fee. You can see our NAV per share of $15.74. As shown at the bottom of the slide, you can see the portfolio remains very well diversified. We have investments today in 157 different portfolio companies, in an average size of $9.4 million per investment, so very granular. I'll now turn it over to Ross who will go over the financial results in more detail.

Great. Thanks, David. Starting on slide 4, as David mentioned, we had total originations of $401.4 million, and total [assets] in sales and investments of $233.6 million. Included in the $233.6 million is $93.8 million of sales of senior secured loans to Senior Loan Fund. Subject to our approval by our partner in Senior Loan Fund, we plan to continue to sell senior secured loans to this fund in the future to enhance returns on these lower yielding, lower risk investments.

Overall net investments growth for the quarter was $147.6 million. Thirteen percent of the new commitments were traditional senior secured investment, 78% one-stops, 8% in Senior Loan Fund, and 1% in equity co-investments. Turn to slide 5, these 4 charts provide a breakdown of the portfolio by investment type. Industry classification, size, and whether it's fixed versus a floating rate.

Looking first at the chart at the top left-hand side, we saw slight increases in the percentage of both one-stop investments as well as our investment in Senior Loan Fund. These increases were offset by a decrease in traditional senior secured loans. These modest changes between the investment categories are consistent with us originating a higher percentage of one-stop investments this quarter, as well as the impact of selling loans, traditional senior secured loans, from GBDC to Senior Loan Fund.

In regards to industry (inaudible), diversification of the portfolio remains well diversified by industry. There's been no significant changes in the industry classifications over the past year. We continue to focus on investing in highly resilient companies with sustainable revenues and EBITDA, and companies with relatively low cyclicality and low sensitivity to commodity prices. Looking at the charts on the right-hand side, the investment portfolio remains diversified by investment size, and our debt investment portfolio remains predominantly invested in floating rate loans.

Turn to slide 6, the weighted average rate on new middle market investments was 6.8%, consistent with the weighted average rate on investments that paid off during the quarter. The weighted average rate of 6.8% on new investments was up modestly from 6.5% the previous quarter, primarily due to originating a higher percentage of one-stops this quarter. Our sense is that overall market pricing has been relatively stable over the past few months. The weighted average rate on new investments is based on the contractual rate at the time of funding. For variable rate loans the contractual rate would be the LIBOR, the LIBOR spread, and impact of any LIBOR floor.

Shifting to the graph on the right-hand side, this graph summarizes the investment portfolio spreads for the quarter, focusing first on the gray line. This line represents the income yield or the actual amount earned on the investments, including interest and fee income, but excluding amortization of discounts and up front origination fees, primarily due to a decline in prepayment fee income of approximately $500,000. The income yield decreased from 7.9% to 7.6% for the quarter. The investment income yield of the dark line which includes amortization of fees and discounts remains stable, 8.4%, as an increase in discount fee amortization caused by higher runoff offset the decline in prepayment fees. The weighted average cost of debt remained relatively stable at 3.2% for the quarter.

Flipping to the next slide, overall credit quality continues to remain very strong with non-earning assets as a percentage of total investments on a cost basis at 0.5%, and 0.2% as a percentage of total investments on a fair value basis. As David previously mentioned, we fully wrote off one non-accrual investment this quarter, which caused the decrease in non-accrual investments on a cost basis. This investment was previously valued at close to zero, and therefore non-accrual investment on a fair value basis remained virtually unchanged at 0.2%.

Turning to slide 8, the percentage of investments risk rated a 5 or 4, our two highest categories, remained stable quarter-over-quarter, and continue to represent over 90% of our portfolio. The percentage of investment risk rated a 1 through 3 decreased slightly and continues to remain very low. As a reminder, independent valuation firms valued approximately 25% of our investments this quarter.

Reviewing the more detail balance sheet and income statement on the following two slides, we ended the quarter with total investments of $1.57 billion at fair value, total cash and restricted cash of $56.7 million, and total assets of $1.65 billion. Total debt was $823.1 million, which includes $461 million of floating rate debt issued through our securitization vehicles, $220.8 million of fixed rate debentures, and $141.3 million of debt outstanding in our revolving credit facilities. Total net asset value on a per share basis increased to $15.74. Our GAAP debt to equity ratio was 1.03 times at June 30, while our regulatory debt, which excludes the SBIC debentures, was at 0.75 times, both right in line with our targets.

Flipping to the statement of operations, total investment income for the quarter was $30.4 million, up nearly $2 million from the previous quarter. The increase in investment income was primarily attributable to growth in average investments. On the expense side, total expenses of $15.2 million increased by $0.5 million, primarily due to an increase in interest expense caused by higher average debt outstanding, as well as higher base management fees due to growth in average investments. As David highlighted earlier, we had net realized and unrealized gains on investments of $3.1 million during the quarter, and total net income of $18.3 million.

Turning to the following slide, the tables on the top provide a summary of our EPS and ROE, both from a net investment income perspective and a net income perspective for the past five quarters. Excluding the GAAP accrual for the capital gains incentive fee, NII on a per share basis has remained relatively stable at $0.31 or $0.32 a share for the past five quarters. This is a return of about 8% prior to any GAAP capital gains incentive fee accrual. Due to strong credit performance and strong equity gains, we have generated positive net realized and unrealized gains each of the past five quarters, which has increased our ROE and NAV per share as shown on the table on the bottom of the slide.

Turn to slide 12, this slide provide some financial highlights for investment in Senior Loan Fund. In conjunction with our partner, we continue to focus on growing investments within this fund. Total investments increased $66.4 million this quarter, a 35% increase from March 31. The annualized return for the quarter was 8.5%. This declined from the previous quarter, primarily due to mark-to-market unrealized losses on some broadly syndicated loans and middle market loans.

Turning to the next slide, as of June 30 we had approximately $70 million of capital for new investments. This consists of restricted and unrestricted cash, undrawn SBIC debentures, and availability in our revolving credit facilities. As we previously reported on June 25, we amended our 2010 debt securitization which extended the reinvestment period by two years, and now goes through July 2017.

The pricing on the class A and class B notes remained unchanged. The class A notes pay interest at LIBOR plus 1.74%, and the class B notes pay interest at LIBOR plus 2.04%. As we also previously reported, subsequent to June 30, we increase the size of our Wells Fargo credit facility from $150 million to $200 million. We also extended the reinvestment period through July 2017. Pricing on the facility remained unchanged at LIBOR plus 2.25%.

Turn to slide 14, we summarize the terms of our debt financings, and on slide 15 our Board declared distribution of $0.32 a share, payable on September 29 to shareholders of record as of September 7. I will now turn it back to David, who will talk more about the strategy, our strategy in the current environment, as well as some additional closing commentary.

Thanks, Ross. We think one of the marks of being a good partner is thinking about things from your partner's perspective. To the end, as we were preparing for today's call, we thought about what we would want to ask if we were on this call. We came up with two key questions that I want to talk briefly about right now. The first one is, is anything changing in your strategy, and the second is why have originations been so robust?

Let me start with the first one. Is anything changing in our strategy? The short answer is no. Our strategy is continuing to do more of the same. We plan to maintain our asset focus on senior secured loans and one-stops and to maintain balance sheet leverage at about current levels. We plan to, as Ross said, continue to grow our Senior Loan Fund with the support of our partner RGA, including by selling select lower yielding senior secured assets that are on balance sheet now to SLF. We'll then replace those assets with higher-yielding one-stops. We see a yield expansion opportunity with this strategy.

We plan to grow only if growing make sense. This isn't new. We've said many times that we're going to issue new equity if and only if we think it's good for existing shareholders and new shareholders. One of the advantages we have at Golub Capital is that we have a very extensive platform. We manage over $15 billion. We have ample dry powder in other vehicles, so we don't need GBDC to grow at any particular point in time. In fact, our Board at its most recent meeting renewed our share repurchase program, so we can buy back shares if it makes sense to do so at any time.

Let me shift and talk about the second question. Why have originations been so robust in what's been a relatively slow deal environment? Let me answer that question first by telling you a little bit about what we're not doing. We're not relaxing our underwriting standards. In the first half of 2015, we generated over 1,200 unique opportunities, and we closed on less than 4% of them.

That hit rate is consistent with the level of underwriting selectivity we've had over the past five years. We are and frankly always intend to be a credit first shop, and you can see that in our results. As of the June 30 quarter, we've had 10 consecutive quarters with negative credit losses and 12 consecutive quarters with increasing NAV per share.

The second thing we're not doing, we're not moving out the risk curve. We've said for several quarters that we view middle market junior debt in today's environment to be downright unattractive. We continue to hold that belief, and we remain focused on our strategy of some standing now, of focusing on first lien senior secured loans and one-stops.

That covers what we're not doing. Let's talk a little about what we are doing, and why originations were robust in the last period. In short, we're continuing to leverage our platform and our brand, and these continue to grow in power and capabilities. In mentioned earlier that in the first half of calendar 2015, over half of the middle market loans we've originated have been to borrowers who we previously have a lending relationship with, and over 90% have involved sponsors with whom we've done multiple transactions.

We're in a time period right now when some of our competitors are undergoing transitions. Banks in general are continuing to retreat from middle-market leveraged lending, and I think Golub Capital's focus on boring, old-fashioned reliability has been resonating with our deal partners. Another thing we've been focusing on is using our one-stop product. We been using it particular to help us win the deals we want to win. One-stop as a category continued to gain share in the marketplace versus first lien, second lien, or first lien junior debt type capital structures because in our opinion from a sponsor's perspective, they're just a better mousetrap. We anticipate that's going to continue to be the case for the foreseeable future, and we anticipate continuing to be a market leader in the product.

Let me just sum up, and then we'll take some questions. Our focus continues to be on avoiding taking any undue credit risk and leveraging the competitive advantages of our platform. The second calendar quarter of 2015 was a solid quarter from a performance standpoint along all of the key metrics we look at, and we believe that we're well-positioned to continue to be able to deliver attractive and consistent returns for our GBDC shareholders.

We anticipate what we will not be able to be as exciting as Donald Trump or tonight's Republican primary, Republican debate, but that's not our aspiration. We're glad we don't compete with Donald Trump. That concludes my remarks for today. As always, thanks for your time and continued support, and let's open the lines for questions.

Thank you very much.

(Operator Instructions)

One moment please for the first question. Jonathan Bock, Wells Fargo Securities.

Hi, guys. It's Fin O'Shea for Jon Bock. Thank you. Just one small question at first, from a top line perspective was this quarter impacted at all on timing, as in early repayments and late originations? Or was this a pretty clean top line yield?

We had a significant amount of deal closing activity in the month of June, so I'd say there was some disproportionate weighting of new activity towards the tail end of the quarter.

Okay, that helps. Thank you. Then a more general question, as you move looking at portfolio yields, you've been moving [up] market, and with commentary today you're at least not going to loosen your standards. Would this impact your ability or even willingness to make equity co-investments, which have been a good contributor to your credit performance in the past?

We've always been selective about making equity co-investment. We continue to use the same mentality and approach that we've historically used, Fin, so I think we have never counted on equity gains as being central to our strategy. I don't anticipate that changing in the future.

Okay, very well. Thank you.

Troy Ward.

Great, thank you, and good afternoon. David, if you could just pick a little about we have all heard how banks are pulling back and how that affects the market, but obviously with GE Capital pulling out, I think it is maybe even more direct impact on your business. Can you speak to that a little bit? Also what you think the long-term ramifications of such a big player moving out of your competitive ranks?

Sure. To just refresh the facts for everybody on the call, GE Capital determined in the early part of last quarter that they were going to divest a series of businesses in an effort to help GE achieve the status of no longer being a SIFI, a systemically important financial institution. Over the course of the quarter, GE put its middle-market lending business GE Antares up for sale. GE Antares has, as I understand it, been sold for contract, but the deal has not yet closed to Canadian Pension Plan.

I think first of all the most important thing is GE Antares isn't a going away. It's going to continue to exist under Canadian Pension Plan's ownership. We have a lot of respect and admiration for our colleagues at Antares. We think they're very good at what they do. We do a lot of business with them. We can anticipate continuing to do a lot of business with them in their new capacity. I think that this is more a story of continuity than of change it.

There is however one important change that will come with the transaction. We predicted, and we were right, that the middle-market lending business would be sold to a non-bank player. Canadian Pension Plan is a non-bank player, and they are financing their acquisition of Antares in a manner consistent with a non-bank, which means specifically in this case they're financing it with large amounts of loans from banks, in particular loans is that are led by Deutsche Bank and Credit Suisse. Their cost of capital in their new ownership model is going to be meaningfully higher than it was when they could just call GE headquarters in Fairfield and say, "Send money".

It's nice to have a AAA bank parent to be able to call and say, send money. It's a bit like being a kid at camp. I would like that, but as an independent company they're no longer going to be able to do that. We anticipate that not having access to the inexpensive financing that GE has long had is going to be a strategic disadvantage. Antares is going to need to learn how to manage, and they will. They're not going away, and we anticipate there will be some opportunities for us to gain some share, but we don't anticipate this is going to be a gargantuan change.

Longer term, based on your cost of funding commentary, it would seem to be all else equal it should lead to maybe potentially slightly wider spreads for the assets in the future?

There's an argument that says that, but let me give you a counter argument, which is the GE Antares business has long had a strategy of being mostly a syndicator. In other words, they arrange new loans. They keep the piece, but mostly they sell the rest of it to other buyers.

They have historically needed to price their originations at a level that would enable them to find willing buyers to purchase the remaining part of the loan. My expectation is that in their new ownership they are going to continue with this strategy of being mostly in the syndication business. I think there may be some reason for some modest pressure on spreads, upward pressure, but I don't know that it's going to be that meaningful. Again, I think our judgment is more continuity than change.

Okay, that's very good color. Just along that theme but stepping down from the big players in the space, doing like you're talking about, syndications and such, with all of the other things going on in the space, particularly in the BDC space, where folks have been more capital constrained, are you seeing any higher degree of maybe books available out there? Loan packages, not necessarily from a BDC, but from maybe other players? What's your appetite when you think about potential for getting a portfolio of loans from another lender?

We've always been interested in being a potential buyer for portfolios of loans that become available. In our experience, this tends to be a cyclical opportunity. What I mean by that is that some lenders get themselves into trouble in downturns. Often, the trouble isn't necessarily that the underlying loans that they purchased are going bad. Often the problem is that they've financed the loan portfolio with some kind of mismatched, inappropriately short-term financing that blows up on them.

During the last downturn, we were an active buyer of loans and portfolios of loans. In the last couple of years there's been relatively little activity in the space. Could that change? Sure. I think we're more likely to see a significant uptick though after the credit cycle turns.

Great, thanks for that.

Doug Mewhirter.

Hi, good afternoon. My question about GE Capital was answered very completely. I had just one other question regarding the Senior Loan Fund. I noticed that, it seemed to be if my math is correct, the entirety of the growth of the Senior Loan Fund has been from Golub selling assets, first lien asset, into the fund. Do you anticipate the fund to have more organic growth in the future, or where you continuing to use Golub as a conduit where you would be a way station for assets before they get sent to the fund, or some combination?

I think some combination is going to be the right answer.

When do you anticipate that the fund is being more of an organic originator of loans, in proportion to total growth?

I'm not sure I understand your question.

When will the fund start adding, I guess, meaningful assets to it directly, rather than going through Golub like you did this quarter?

Honest answer, I'm not sure. We right now have significant on balance sheet assets that are lower yielding that we think are appropriate candidates for consideration by our sales and by our partner to be sold to SLF. We also think there may be circumstances that arise in the future where it makes sense for SLF to consider purchases other than from GBDC's balance sheet. I think we're going to be opportunistic on that front.

Okay. I appreciate the clarification. Could you just remind me what the capacity for Golub to invest in the sub notes and equity is? What the term loan capacity is right now in SLF?

I can answer it in the hypothetical, and in the practical. In the hypothetical, this investment in SLF is subject to the 30% limitation. We are very far from the 30% limitation right now. The 30% limitation would be in excess of $400 million investment by Golub Capital and SLF. Right now, we're under $100 million. Practically speaking, right now we're limited by what we think is the right pace of growth for SLF because the ability to increase the GBDC investment in SLF is at our discretion, obviously in collaboration with RGA.

Great, thanks. Thanks for all those answers and all my questions.

Leslie Vandegrift, Raymond James.

Hi, guys. I just had a quick question about the yield on the SLF going down quarter-over-quarter, [the total] return. You mentioned some unrealized losses on some middle market and broadly syndicated loans in there. I was curious if you could give color if those were one-offs, or something we need to be looking at further, just a little bit more information and detail there?

There's going to be some natural volatility in the ROE of SLF from quarter to quarter. I don't think there's anything to worry about there, if that's your question. Is there any pending credit blowups in there? We don't see anything that is on the horizon.

Okay, but specifically with this quarter going down, was it ones that you sold down, or were these from are you were [moving] with SLF to begin, these recent unrealized losses? Obviously, it's been volatile, and it's been increasing the past few quarters over and over. The decreased in annualized total return for this quarter, what were the issues there?

There's quite a few probably syndicated loans in there, and broadly syndicated loan market has been a little volatile quarter-over-quarter. There were a handful of marks on deals that went from 99.5, down to 99, and then one or two middle-market names that get brought down a point or two. As David mentioned there's nothing here that hit our watch list, or we feel has any permanent impairment of any sort. It was just a handful of marks that went down.

Okay. All right. Thank you.

Again, we do risk rate for loans here. We don't just have that here, but again 95% of the loans have a risk rating of 4 or 5 within SLF as well, very similar to the GBDC.

(Operator Instructions)

Cliff Rackson, Rackson Asset Management.

Hi. I wonder if you can talk a little about the impact of the LIBOR floor in association with interest rates, short rates going up over the next three months to a year? What LIBOR? Is it three-month LIBOR or one-month LIBOR are you (inaudible) to? How much does it have to go up for it to begin to impact your spreads between the rate you're getting and the rate you're paying? [Which is also] some of the is LIBOR-based?

I'm going to answer that question. I think it would be useful if folks could flip to page 14 for my answer. Let's talk about the asset side first. On the asset side, virtually all of our assets are floating rate, and virtually all of those assets are subject to LIBOR floors. In most cases the LIBOR floor is 1%.

There are a few that are a lower, a few that are a little higher, but most of them are 1%. Very specifically, increases in LIBOR between where it's at now and 1% will not result in an increase in interest income. Small increases in LIBOR actually hurt us a little bit from an earnings standpoint. There's a chart on page 85 of the 10-Q which actually shows you some sensitivity analyses that relate to this question.

On the liability side, we have primarily LIBOR denominated debt. Our SBIC debt which you can see at the bottom of page 14 is fixed at roughly 3.7%, but the predominant portion of our debt is LIBOR denominated. In general, it's three-month LIBOR, and so to hit the headline here, the headline is that increases in LIBOR from where we are now to about 1%, modestly bad for GBDC. Increases over 1% are quite good for GBDC, with almost a 1-to-1 relationship between an increase in GBDC's ROE and increases in LIBOR.

Great, thank you.

Gentlemen, there are no further questions.

Thanks, everybody, again for joining us this afternoon. Enjoy tonight's debate. Take care.

Ladies and gentlemen, this concludes the conference for today. We thank you for your participation. Have a great rest of the day, everyone.