Monroe Capital Corp (MRCC) 2014 Q4 法說會逐字稿

Good morning and welcome to Monroe Capital Corporation's fourth-quarter and full-year 2014 earnings conference call.

Before we begin, I would like to take a moment to remind our listeners that remarks made during this call today may contain certain forward-looking statements including statements regarding our goals, strategies, beliefs, future potential, operating results, or cash flow. Although we believe these statements are reasonable based on management's estimates, assumptions and projections as of today, March 6, 2015, these statements are not guarantees of future performance. Further, time-sensitive information may no longer be accurate as of the time of any replay or listening.

Actual results may differ materially as a result of risks, uncertainty, or other factors including, but not limited to, the factors described from time to time in the Company's filings with the SEC. Monroe Capital takes no obligation to update or revise these forward-looking statements.

I will now turn the conference over to Ted Koenig, Chief Executive Officer of Monroe Capital Corporation.

Thank you. Good morning and thank you to everyone who has joined us on our earnings call today. I am joined by Aaron Peck, our CFO and Chief Investment Officer. Earlier today we issued our fourth quest and full-year earnings press release and filed our 10-K with the SEC.

I will first provide a brief overview of the quarter and the full year before turning the call over to Aaron to go through the results in more detail. He will then turn the call back to me to provide some closing remarks.

This morning we announced that our Board of Directors has declared a dividend of $0.35 per share for the first quarter of 2015, payable on March 31 to shareholders of record as of March 20. This dividend represents a 3% increase in the regular dividend and is fully supported by core net investment income. In an environment when many other BDCs are struggling to support their dividend with NII and many of our peers have actually cut their dividend, we are proud of our performance and are pleased that we can reward our shareholders with an increase in our dividend.

We are also very pleased that we have announced another record quarter of financial results. For the quarter, we generated net investment income of $0.48 per share, comfortably covering our fourth-quarter dividend of $0.34 per share. This represents the fifth consecutive quarter of growth in our adjusted per-share net investment income and the third consecutive quarter adjusted net investment income has covered our dividend.

We are pleased to continue to out earn our dividend in an environment when a large percentage of other BDCs have been unable to generate net investment income in excess of their most recent dividend. Furthermore, we are excited to announce the increase in our quarterly dividend to $0.35 per share.

Our book value per share increased to $14.05 per share as of December 31, a $0.10 per share increase from the book value per share at September 30. We achieved all of this while continuing to be focused on safety and security with approximately 95% of our assets representing first-lien senior-secured loans as of December 31, 2014.

I am now going to turn the call over to Aaron, who is going to discuss the financial results in more detail.

Thank you, Ted. Our investment portfolio continues to be stable and we have continued to optimize our portfolio to increase the weighted average yield. As of December 31, the portfolio was at $233.5 million at fair value, relatively flat since the prior quarter end. At December 31 we had total borrowings of $82.3 million under our revolving credit facility and SBA debentures payable of $20 million.

As of December 31, 2014, our net asset value was $133.7 million, which increased from the $132.8 million in net asset value as of September 30, 2014. On a per-share basis, our NAV per share increased from $13.95 per share at September 30 to $14.05 per share as of December 31.

Turning to our results. For the quarter ended December 31, 2014, adjusted net investment income, a non-GAAP measure, was $4.6 million, or $0.48 per share, an increase of $0.09 per share when compared to the third quarter of 2014. This represents the fifth consecutive quarter of growth in adjusted per-share net investment income.

Net investment income was $4.6 million, or $0.49 per share, an increase of $0.09 when compared to the prior quarter. At this level we are comfortably covering our fourth-quarter dividend of $0.34 per share and our first-quarter announced dividend of $0.35 per share. Additionally, this quarter we generated net income of $4.2 million, or approximately $0.44 per share, up from the net income in the third quarter of $0.35 per share.

Looking to our statement of operations, total investment income for the quarter was $8.6 million compared to $7.7 million in the prior quarter. Total expenses of $4.1 million included $1.2 million of interest and other debt financing expenses, $1.1 million in base management fees, $1.1 million in incentive fees, and $773,000 in general, administrative, and other expenses.

Of the $1.2 million in interest and other debt financing expenses, approximately $924,000 was cash interest expense, with the remainder representing non-cash amortization of the upfront costs associated with establishing our credit facility and our SBA debentures, as well as the interest expense associated with the secured borrowings recorded under ASC 860. We also had a net depreciation on investments and secured borrowings of approximately $419,000 in the quarter, due to some unrealized markdowns in the fair value of certain portfolio assets.

Turning to the portfolio, we have continued to skew our portfolio towards first-lien lending with approximately 95% of our investments representing senior-secured first-lien loans. The remaining 5% of the portfolio investments were junior secured loans and equity securities. We believe our portfolio of investments is well-positioned in this current business cycle.

As for our liquidity, as of December 31, we had approximately $28 million of capacity under our revolving credit facility and $20 million in undrawn SBIC debentures to fuel future growth in the portfolio. As we have said in prior quarters, all things being equal, over time accessing the remaining leverage in the SBIC subsidiary should have a materially positive impact on our per-share net investment.

I will now turn the call back to Ted for some closing remarks before we open the line for questions.

Thanks, Aaron. In our last three quarterly calls, we told you that we were singularly focused on growing our per-share net investment income. We have continued to demonstrate the success we have had in fulfilling that commitment.

In a very competitive market for lending, we have been able to maintain our portfolio while growing our average effective yield from 11.3% as of September 30 to 11.6% as of December 31. We have steadily grown our quarterly net investment income per share, up by $0.17 when compared to the fourth quarter of 2013, when many of our peers have experienced declining net investment income trends. We attribute this to our differentiated origination platform and the depth and breadth of the entire Monroe Capital platform, which has supported an increased effective yield on our portfolio.

As we continue to access our remaining leverage, we expect to continue generating adjusted per-share net investment income to comfortably cover our dividend. It is this success that has given us the confidence to increase our quarterly dividend by 3% to $0.35 per share for the first quarter of 2015.

We remain very excited about our company's prospects. Our BDC manager has continued to invest in high-quality origination and underwriting staff, as well as operations and accounting personnel. These investments continue to provide the Company with unique, high-quality, high-yielding investment opportunities and the personnel to help manage and grow our platform.

With a dividend yield greater than 9%, fully supported by net investment income, a stable book value, we believe that Monroe Capital Corporation provides a very attractive investment opportunity for investors and continues to be significantly undervalued.

Thank you for all your time today. And with that, I'm going to ask the operator to open the call for questions.

(Operator Instructions) Mickey Schleien, Ladenburg.

Good morning, Ted and Aaron. I have a couple of questions. One is I noticed a rotation from senior secured into unitranche and I wanted to get some color on your thoughts behind that. And also clarification, because you mentioned in your remarks that 95% of the portfolio is first lien. I don't quite remember whether that includes unitranche deals where you sold the first out piece.

Sure. Thanks, Mickey; it's Aaron. To answer your second question first, yes, when we talk about first lien we're talking about both senior-secured, first-lien loans where there is no first out as well as senior-secured, first-lien loans were there is a first out bank ahead of us. And so that does include both of those types.

When you talk about the rotation into unitranche from senior secured, we have seen a few neat deals that have rotated into the unitranche category. In certain cases it's because we've sold the first out on a deal that was previously not that case, so in a post-close basis we sold a small first out piece. And then in other cases there are some deals with there -- new deals in which there were first outs in front of us.

So we like the mix. We had been, as you may recall, much more heavily weighted to unitranche early in our life as a public company, and just the way the deal flow came into the Company we have some senior-secured opportunities that increased that percentage. But over time we started to see the unitranche opportunities come back a little and we like the mix. It's one of the ways that we can continue to generate really attractive yields in an environment where there has been some general yield compression, although not for us.

The other thing I will just note is, we tend to be a lot less aggressive than the broader market when you think about first out and last out. When you look at the larger market, first-out loans tend to be a much higher leverage point than where we see our first outs. So where it's much more traditional for us to see a first out lender in our deals at 1 or 1.5 times EBITDA, the broader market is much closer to 2.5 or 3 times first out. We still feel that they are very safe loans and still provide us a nice yield by selling just a little piece on the first-out basis.

Thank you for that, Aaron. Just one other question. Could you walk us through how fee income and acceleration of discounts affected investment income for the quarter and what the outlook is for those trends as well?

Yes, I can do that. I would just like to say that we took a look at our disclosure in this period and it became clear that we are going to need to do a little better job going forward to highlight this very issue, so it's easier for you all to find the information.

It is all publicly available, but it takes a little hunting around because the 10-K doesn't give you quarterly data. It gives you annual data and so you have to go back to the 10-Q. So that is not really a good thing for you all. In the future, we are going to break this out more specifically to make this easier, but I'm happy to walk through the components of NII so that you have a better feel for it.

Of the $0.49 of NII in the quarter, I would characterize approximately $0.38 as being straight-ahead core investment income. The $0.11 additional income breaks out as follows. Approximately $0.075 per share is related to prepayment and amendment fees, and approximately $0.04 per share is associative with the gains on paydowns, which represents the unamortized portion of any OID on the loans at the time of paydown.

Now when you look at these categories for the entire year, we average approximately $0.04 per share per quarter of prepayment and amendment fees and approximately $0.025 per share per quarter of paydown gains for a total of between $0.06 and $0.07 per quarter of, quote, other income, which compares to $0.11 for this quarter. So while these categories of income are a little volatile and hard to predict, we do seem to produce in excess of our core interest income regularly. And while we don't provide specific guidance on NII, hopefully this will help frame some of the components of NII to get a feel for where it goes on a quarterly basis historically.

In order to get this information yourself, and I'm happy to help anyone who calls walk through this later on how I do it, but what you would need to do is, in Note 2 to our financials, you would have to look at the components of income. You will find the annual numbers there and then you have to go back to the last 10-Q and pull out the nine-month data and then subtract. And I'm happy to walk anyone through that, to provide all the data. As I said, going forward we will make it a lot easier to track so that you don't have to do that.

Thank you for that explanation, Aaron, and for taking my call.

Brian Hogan, William Blair.

Good morning. A question on capital deployment. One, the opportunities there. And then with that the SBIC, the $20 million; is that your first --? How do you expect to deploy the SBIC? Is that the first capital that is deployed or what's the order there?

No, first of all -- this is Ted. Let me talk about the opportunity set and then Aaron will, I think, focus on the specific question relating to the deployment of the $20 million of debentures.

Opportunity set generally is good. The market is competitive and, historically, first quarter is the latest quarter that we tend to experience over the last four or five years. So what's different about this year is that there's a good pipeline of M&A activity in the market that didn't occur last year in the first quarter. So we are seeing a fair amount of M&A activity, which should bode well for the coming quarters.

So that's the answer to your first question. The second question, Aaron, focus on the SBIC specifically.

Right. So, Brian, the way we think about it is basically any deal that can fit into the SBIC subsidiary we try to put in there. So we don't have a specific game plan where we are saying we are going to try to fill up the SBIC first and then use a leverage. We are going to do both, and when a deal fits the SBIC subsidiary, we're going to put a piece of it in there. In some cases there will be a piece down there and maybe a piece at the parent company.

Because of the size of the SBIC we don't reach our maximum hold size all the time in that subsidiary, but there isn't any specific game plan where we are only trying to find SBIC deals first and then we will deal with the parent company. We are looking to grow the portfolio in general and use our different sources of financing to finance that growth.

We saw modest growth in the fourth quarter and we are hopeful and expecting some growth in the first quarter and throughout the year.

Okay. Ted, you mentioned it is competitive out there. Where is the competition? Is it banks or is it other -- your peers, other niche lenders?

That's a good question. It's not really the banks in the transactional finance market. Banks are very competitive in the asset-based lending market, which is the normal commercial lines of credits, the receivable financing, inventory financing.

But when it comes to transactional financing, it's really the non-bank lenders that have taken over most of that market, particularly at the lower end of the middle market where there's no high yield and no Wall Street money center banks involved.

All right, thanks for taking my questions.

Christopher Nolan, MLV & Co.

Nice quarter. Quick question, Aaron, is it broken out in the K the amounts of loans that were sold off? I didn't see it.

No, you won't see that specific disclosure, but I can help you because you can get the data obviously if you go through and look at a portfolio one by one. We didn't really actually sell anything off in the quarter. We just had some paydowns, which is part of the reason that you will see the prepayment income a little higher than normal.

So in the quarter we had payoffs of Alliance Time, Answers Corporation, LAI International, TRICO Products, and Willbros. And then the new loans that came on in the quarter were American Community Homes, Cytovance Biologics, Incipio Technologies, Pacific Labs, and TRG.

Great. My follow-up question and it's for either one of you guys. Given that the asset mix is sort of trending towards first lien/unitranche, where do you think we are currently in the lending cycle, the economic cycle? And how is that informing how you guys strategically are trying to position the Company?

Good question, Chris. I will tell you that the economic cycle looks a lot like it did in 2006-2007. For those of us that have been in this business for a long time, multiples, purchase price multiples are high. There's lots of capital chasing deals. There's lots of debt capacity. There's a lot of private equity dollars.

Going into 2000 -- 2007, as a firm platform we did the same thing. We rotated out of a lot of junior debts, mezzanine debt, second-lien debt into a more senior-secured position, unitranche and first-lien, senior-secured debt. And we did that as a conscious defensive move in the portfolio.

If you look at what we've done here over the last three quarters, it's very much the same. So no one -- I don't have a crystal ball, but I will tell you from doing this 25 years I like being at the top of the capital structure in periods of high liquidity. And that's where we are today.

Great. Thank you for the answer, Ted.

Bryce Rowe, Robert W Baird.

Thank you and good morning. Good quarter, guys. Wanted to ask a couple questions. Number one, and kind of in light of what you just said, Ted, what is the visibility for future repayment activity within the portfolio, given the level of liquidity within the markets today?

That's another good question. I think you will continue to see repayment activity. It's hard to tell because a lot of this is idiosyncratic to companies in terms of sales, but in the middle market, particularly the lower middle market, there tends to be a high turn rate in terms of acquisition sales. So I think he will continue to see some decent activity there, but I think you'll also see some new fundings.

Historically, our business starts out slower in the first quarter and then ramps up in the second, third, and fourth quarters throughout the year. So I fully anticipate us covering any repayment activity with new fundings and showing some nice net growth. That's our plan for the year.

Bryce, I will just add; given when we launched the BDC and when we had a lot of the growth in the portfolio, if you would look at our history, it is expected that we see a lot of our companies prepay early regardless of what's going on in the market. And we typically see our deals payout around two years.

Now some will stay longer, some will stay shorter, but the activity we've seen in prepayments is consistent with the fact that we ramped a lot of this portfolio a couple years ago. So while those companies are reaching that natural point where they have grown enough that they become attractive for an acquisition or other things that have made a repayment timely, and for us that's not a bad thing.

We have significant prepayment penalties. We built them in. We stay pretty tight on those because most management teams don't think about paying off their loan when they take a loan. So they aren't as focused on those terms and that creates a lot of yield advantage for us.

Yes, I just wanted to just guide you guys to not count on that. It's very idiosyncratic and I don't know when it's going to happen.

I think a better indication is our core earnings. We feel very good about our core earnings and anything else there is a nice upside, and you get the benefit of the platform, which is a unique ability with Monroe because we have such depth in the market. And it gives our BDC an opportunity to share in transactions and infrastructure that it otherwise would not.

That's great. And just a follow-up; from a capital perspective, obviously the stock price is now cooperating and you've got a premium to book and know that you put in place an ATM in the first quarter. Wondering if you've acted on the ATM. And then, two, how should we think about capital levels and management of the debt-to-equity ratio going forward here?

Thanks, Bryce. We are just required to disclose the shares sold in the ATM on a quarterly basis, so we will be providing an update in connection with the first-quarter 10-Q filing. However, as you know, we do disclose current shares outstanding on the cover of the 10-K, which we filed this morning.

The cover of the 10-K shows total shares outstanding of 9,632,361 shares, which is an increase of about 114,000 shares since the last time we reported shares outstanding on November 7. We haven't issued any shares since November 7 outside of the ATM, so it doesn't take a genius to figure out what we've done on the ATM thus far. It's right there.

As for how we think about it, we've always said we look at our leverage as being around -- we are going to use the SBIC leverage and then we think about parent company leverage from about 0.7 to 0.75. That is the range we think is appropriate given the mix of the portfolio today, and we are continuing to speak to that leverage load.

And just to be clear, that leverage, targeted leverage level includes or excludes the SBA debentures?

It excludes. It does not include the SBIC leverage.

Okay, thank you.

Christopher Testa, National Securities.

Good morning, Aaron and Ted. Thanks for taking my questions, most of which have been answered, but I would just like your thoughts on the unitranche. I know you've gotten some questions on that.

Are these sorts of one-off deals, or is this something where you've really seen a lot of people back out of the market and are presenting more opportunities going forward this year?

Just so you understand, Chris, and others as well, what the unitranche is it's just a transaction where we do a senior-secured financing. It's no different than a senior loan opportunity.

What we do, though, is, because of competitive pressures, and because of the nature of some of these businesses where they tend to be larger EBITDA size or they are growing rapidly or they tend to be very stable EBITDA companies with good management, the pricing for lots of these transactions is not necessarily what we would like for a standard senior secured loan. So what we do is in order to generate some additional yield for our company, we may sell off a piece of that loan to a bank.

Now, as Aaron mentioned earlier, we take a very conservative approach to selling off a piece of those loans, where we may do a deal at 3.5 turns. I think if you look at our portfolio, our portfolio averages about 3.5 turns of leverage, give or take.

Now, as a manager, I am very focused on managing our portfolio to the last dollar because the last dollar of collectability is where our risk is. I'm not really focused on the first dollar, because the first dollar is an easy dollar to collect.

In order to generate some additional return for our shareholders what we've been pretty good at doing, frankly, is selling off a front-end piece of our loans, or the first dollar exposure, at a much, much lower rate of interest to a regulated financial institution who can take that first dollar at an L300 or L350 or L400 level and find that a very acceptable return because they are leveraged at 10, 11, 12 times to 1, whereas we are levered at less than 1 to 1.

And then what we do is we pass along the savings and the incremental return to our shareholders in terms of any skim in terms of that rate differential between what we sell to a first-out person or a bank and what we retain. So when you look at a unitranche loan, look at that the same as any other senior secured loan in our portfolio, we just happen to have sold a very low-end piece in terms of low-end leverage off to someone else to increase the overall return to our shareholders.

Chris, you can see how that plays into the numbers when you look at our effective yields on page 65 of the 10-K. So when you look at our senior-secured loan portfolio, we have a contractual yield of 11.3% and we have a weighted average effective yield of 11.3%.

When you look at the unitranche loans, the contractual yield that the borrower is paying us is lower. It's 10.8%. But the effective yield, when you consider the skim interest, is higher than the senior-secured loan book at 12.1%. So that is sort of the numerical evidence of what Ted is describing.

Yes, that makes sense. I appreciate the color.

On your risk ratings improved with -- I know you had the risk-rated 3s step down about roughly 6%. If you could just talk about any particular credits that improved; did more companies come online with the covenants? Just kind of what drove that.

The portfolio is doing very well. We did -- it's not so much that any of the portfolio credits that were rated 3, we had one company that was rated 3 that has done very well and actually paid out their bank line that was ahead of us and that's why it went from a 3 to 2 in our portfolio.

One of our other credits was rated 3 and we weren't happy with the way that credit was going, so we went to the management team and told them that we wanted them to find a way to get us out. They raised some capital and they took us out and we earned a big prepayment penalty on that.

So that's really why you saw a reduction in the number of 3-rated assets. We had no new additions to the 3-rated category and we had some come out.

Generally speaking overall, even the companies that are rated 3, in every single case we are seeing material improvement in those businesses. So we feel really good about our portfolio.

We have seen no degradation in the quality of the portfolio from last quarter to this quarter. In fact, we have seen improvement and we are hopeful that in the future you will see this risk rating category actually improve where even more will go out of 3s and into 2s. But for now -- for us, it's kind of hard to get from 3 to 2. It's really easy to go from 2 to 3 in our minds, but to get upgraded back to 2 is a little trickier.

Okay, great. Thanks for taking my questions. I appreciate it.

(Operator Instructions) It looks like all the questions that we have in the queue at this time, so I would like to turn the call back over to the speakers for closing remarks.

Very good. Everyone, thank you very much for joining us on the call today. We are excited about our fourth-quarter performance and our 2014 performance. We are equally as excited about getting back at it into 2015 and we look forward to speaking to everyone again soon in the next call.

Have a good day and enjoy the weather.

Ladies and gentlemen, thank you again for your participation in today's conference. This now concludes the program and you may all disconnect your telephone lines. Everyone, have a great day.