Monroe Capital Corp (MRCC) 2015 Q2 法說會逐字稿

Good morning and welcome to Monroe Capital Corporation's second quarter 2015 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 flows. Although we believe these statements are made reasonable, based on management's estimates, assumptions, and projections as of today, August 11, 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 results 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.

Good morning and thank you to everyone who has joined our earnings call this morning. I'm joined by Aaron Peck, our CFO and Chief Investment Officer. Yesterday, we issued our second quarter earnings press release and filed our 10-Q with the SEC.

I will first provide a brief overview of the quarter 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.

We are very pleased to have announced another strong quarter of financial results. For the quarter, we generated net investment income of $0.43 per share, comfortably covering our second quarter dividend of $0.35 per share. This represents our fifth consecutive quarter adjusted net investment income has covered our dividend.

Our consistent dividend coverage separates us from the pack in an environment when a large percentage of the other BDCs have either cut their dividends or have been unable to generate net investment income in excess of their most recent dividend.

Furthermore, we are gratified that we're able to generate this strong quarter of per share net investment income and dividend coverage in a quarter when we completed a public offering, which generated net proceeds of approximately $40 million.

Despite the timing drag typically associated with putting fresh capital to work in the quarter, we were able to generate significant earnings performance and cover our dividend with room to spare.

Our book value per share increased again to $14.18 per share as of June 30th, a $0.07 per share increase from the book value per share at March 31, primarily as a result of our recent accretive capital raise and earnings in excess of the dividend paid this quarter.

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 grow. And we have continued to generate high-yielding opportunities, which has allowed us to maintain a high level of weighted average yield in the portfolio.

As of June 30th, our portfolio was at $282.5 million at fair value, an increase of approximately $30 million since the prior quarter end. Our portfolio continued to grow and, as of July 31st, was at $303 million of principle amount, a $16.3 million increase from June 30th.

At June 30th, we had total borrowings of $49.7 million under our revolving credit facility and SBA debentures payable of $40 million. The reduction in outstandings under the revolver are the result of the application of the proceeds from our recent capital raise, which were used initially to pay down the balance.

We would expect to redraw on our revolving credit facility during the third quarter to fund our continued portfolio growth. To that end, we recently announced an increase in the capacity under our revolver to $135 million, a $25 million increase under the accordion feature of the credit facility.

As of June 30th, our net asset value was $146.5 million, which increased from the $135.9 million in net asset value as of March 31st, primarily as a result of our recent capital raise. On a per share basis, our NAV per share increased from $14.11 at March 31st to $14.18 per share as of June 30th.

Turning to our results for the quarter ended June 30th, net investment income was $5.1 million, or $0.43 per share, a decrease of $0.01 per share when compared to the prior quarter. At this level, we continue to comfortably cover our quarterly dividend of $0.35 per share.

Additionally, this quarter, we generated net income of $5.1 million, or approximately $0.43 per share, an increase from the net income in the prior quarter of $0.41 per share.

Looking to our statement of operations, total investment income for the quarter was $9.5 million compared to $8 million in the prior quarter. The increase in investment income is primarily as a result of our recent asset growth.

Total expenses of $4.4 million included $1.3 million of interest and other debt financing expenses, $1.2 million in base management fees, $1.3 million in incentive fees, and $741,000 in general, administrative, and other expenses.

Of the $1.3 million in interest and other debt financing expense, approximately $947,000 was cash interest expense, with the remainder representing noncash 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.

Turning to the portfolio, during the quarter, we began to put to work the proceeds from our recent capital raise by investing in a combination of proprietary direct originations and more liquid club and syndicated loan transactions.

Many of the new liquid investments were second lien assets, as we saw attractive opportunities in that part of the market. We would expect to sell a portion of these liquid assets in the future as we seek to optimize our portfolio. Our expectation is that future optimization of the portfolio will likely result in the increase of first lien loans as a percentage of our total portfolio from today's level.

As for our liquidity, as of June 30th, we had approximately $60 million of capacity under our revolving credit facility. As previously stated, we increased the availability under the revolver to $135 million on July 31st, which increases our pro forma availability to $85 million as of June 30th.

Our SBIC debentures were fully drawn at $40 million at the end of the quarter. We continue to experience portfolio growth during the month of July, and our current pipeline of deals scheduled to close this quarter is extremely strong.

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

Thank you, Aaron. As Aaron mentioned, the current pipeline for all of the funds managed at Monroe is as large as I can remember. Our focus on proprietary national lower middle market origination has continued to provide our funds with unique, attractive investment opportunities with high risk-adjusted returns.

We have grown our quarterly adjusted net investment income per share on a year-over-year basis, up by $0.08 when compared to the second quarter of 2014, during a time when many of our peers have experienced declining net investment income trends. We attribute this to our differentiated origination platform and the depth of the entire Monroe Capital platform, which has supported a high effective yield on our portfolio at a time when many others have experienced declining yields.

We remain very excited about our Company's prospects. With a dividend yield greater than 9%, fully supported by net investment income, and a stable book value, we believe that Monroe Capital Corporation provides a very attractive investment opportunity for our shareholders and investors.

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

(Operator Instructions). Bob Napoli, William Blair & Company.

Good morning. Nice quarter, again. Well done. A question on the credit quality of the portfolio, looks very stable. What are your thoughts, Ted, on what concerns do you have at all at this point in credit? What are your thoughts on the economy? What are you most alert for in looking for challenges in your current portfolio?

Well, thanks, Bob, for the comments. Our portfolio today is very, very strong. As I think you've seen, we have one asset on nonaccrual that's a very small asset. It's been there for some time. Everything else is performing. And based upon the numbers that I see regularly, I like where we stand right now in the cycle.

As Aaron mentioned in his comments, we continue to be predominantly first lien focused. We did some second lien in the quarter to put some money to work on a temporary basis. But, I imagine, as Aaron said, we'll rotate back out of that again.

I think that the market is pretty good. There's a lot of competition. There's a lot of dollars in the market. There's a lot of debt. But, I'll tell you. The interesting thing about this quarter, different than last year, is there's more activity. There's more deal activity. We've seen a lot more M&A activity, both sponsor backed and nonsponsor backed.

So, unless there's some type of an external shock to the system, I think we're set here for the next 12 months in a pretty good spot. Even if rates increase slightly, I don't see that as any headwind into the deal activity. I think that third quarter and fourth quarter will be strong quarters for us.

Okay. And then I think you made your first investment in aerospace, at least in the BDC. Is that a new initiative for you guys on the aerospace market?

Not really, no. We continue to be opportunistic. When we see a good deal, we're going to go after it. We've got, as I mentioned in my prepared comments, we've got as large of a pipeline as I've ever seen in our business in August part of the year. Traditionally, the fourth quarter is our busy time. We've got roughly 20 transactions in our pipeline right now that we're in diligence on and moving towards closing.

Any -- ?

-- Hey, Bob?

Yes.

Let me just add one thing.

Sure.

The investment you're asking about is not really an aerospace investment. It's called aerospace and defense is the industry. But, it's really because they sell into the defense market. It's a company that makes chemical luminescence glow sticks for military operations and training. So, it's not really an aerospace investment per se.

Okay. And then a last question just on the SBA debentures, which I think you've fully drawn down the SBA debentures. Any progress in getting -- working with the SBIC and getting that expanded?

It -- as you probably know, there's been a pretty heavy effort from the lobbying groups that deal with SBIC funds that we're an active member of to go to the Hill. And Ted and I were on the Hill not too long ago with a group talking to both sides about this probability. I think there's universal support on both sides of the House to get something done here, to expand the family funds limit. And there's a bill pending. And I think we just sit and wait.

I don't know, Ted, if you have anything you'd like to add.

No, well, the good news, it's cleared committees in both houses. So, when that happens, usually things get passed. I think that, right now, I'm told that we're waiting for some type of an agreed bill that's going to get passed that this can get tacked onto. So, we'll have to wait and see.

Great. Thank you.

Mickey Schleien, Ladenburg Talmann & Co.

Yes, good morning, Ted and Aaron. Ted, last quarter, I asked you about how you felt in terms of where we were in the economic cycle. And I think your answer was pretty late innings, maybe eighth inning. And since then, if anything, the news has become even more mixed, sort of confirming I think what your thoughts were last quarter.

How is that affecting what you're expecting to do in terms of the portfolio for the third and fourth quarter and going into next year?

Well, on the last call, I think I said we were in -- I believe we were in the eighth inning of the credit cycle.

Yes.

And I still believe that. We're at the same point we were in probably in 2006 for those of us that are old enough to remember that. I think that the good news is that the deal market is stable. Multiples are high. Private equity funds have lots of capital to deploy. And financing is plentiful. That's usually a good combination for transactions. I think that, for us, I see a lot of opportunity. I see lots of deals. Our originators, we have almost 20 originators across the country in eight offices. And everyone's busy.

For us, we're going to stick to our discipline. I think, in response to your question and Bob's from a minute ago, the best thing we can do is stay disciplined. And there's going to be some transactions that we're going to pass on because we don't feel we're getting appropriately rewarded in pricing. And there's some transactions we're going to pass on because we feel leverage multiples are too high.

But, again, as a platform, we see 2000 transactions a year. And my guess is we'll end up doing somewhere between 40 and 50 this year and on a directly originated basis, which is a pretty good year.

Okay. I appreciate that. In terms of a comment Aaron made on the second lien, which increased pretty meaningfully in the quarter, I see that yields in that segment were down about 70 basis points, at least in your portfolio. And a lot of other folks have commented that they just don't see the value there. So, I'm trying to reconcile, why are you parking money there as opposed to maybe higher up in the capital structure?

Yes, that's a great question. I think, generally, I would agree with the market that the opportunities in the second lien space are temperate in terms of the liquid market. And so, you have to be very disciplined. And so, if our origination strategy was to buy into market second liens and, like some of our peers in that their -- really, their main origination strategy, I would be concerned because the deal flow is such that there's only a sort of finite number of decent opportunities to put money to work in more liquid second liens that we think you get fair risk-adjusted return.

We happen to be in a position where we could pick and choose the ones that we thought made the most sense because we were just putting a little bit of money to work on a temporary basis. And the idea and strategy is, over time, to rotate out of those, as we discussed into the proprietary side of the business.

So, on the first part of your question, I agree that the market is not as robust in terms of opportunity and yield in the second lien space. And we picked the deals that we knew well or had spent some time on and felt comfortable with. And they were sort of -- I won't call it a needle in a haystack, but they're probably five or six deals out of hundreds that were out there that we thought made sense for the portfolio.

Now, as for why we didn't go down and -- or go up in quality in the first lien space in the liquid market, the answer is really risk reward. When we look at second liens and first liens, we think about, what risk are we taking, and is it binary, or is it not binary? And a lot of times, when you look at opportunities, sometimes you get paid extra yield and, secondly, when you haven't really increased the risk a lot.

And we also looked at the market. And the first lien syndicated loan market was thin. There wasn't a lot to find that made sense. And we want to put money to work in every -- on every turn, we want to put money to work that is accretive for shareholders. And so, putting that money to work in LIBOR plus 400 assets, which is what was available in the marketplace, isn't a benefit for shareholders because we pay a management fee on assets put to work.

So, we've got to find assets that make enough yield to make it accretive for shareholders. And there just wasn't a great opportunity in the first lien market to find a lot of opportunities in syndicated and club loans that were liquid. And so, that's why we chose the loans we did in the second lien space.

Okay. I think I understand. And the ones that you did do then are liquid enough to where you can get out of them in 30, 60 days and do the -- get -- focus on the Unitranche and other deals that are interesting to you?

That's correct.

Mickey, we -- right. We -- Mickey, we essentially found a handful of loans that we really liked, and we invested in them. That's kind of the way we do things. And we're not going to do anything that we don't believe is a good trade for us.

Okay. Just a couple last questions. Can you -- what's the investment thesis on Answers Corporation? And is the markdown of TPP Acquisition due to company performance, or is there a quota out there that you need to reflect?

Sure. Answers is a name we have followed for a long time. That's a more liquid asset. It's a name that we've been in and out of actually in this portfolio as well. And it's a name that we know very well. And it's a company that we think is very strong and performs very well.

We're a little bit mystified by the trading quotes on that name right now. We don't think there's a lot actually trading, but we did fair value it based on some activity and verifying that the quotes in the market did seem actionable. And so, it did take a temporary write down on a pure market basis, market quote basis. But, it's a name that we've known for a while and like. And we think they're well suited and have done well against some of the things that have changed in the market.

We think some of the markdown came as a result of an unexpected change in Google's algorithm that people were worried about. We've spent a lot of time on the deal. And we feel they're well structured and are in a position to do well with the change in the algorithm for Google. But, that's a name we're going to have to obviously watch and monitor because it did quote down. And we're watching it carefully. But, we don't see any real credit degradation there.

As for TPP, that's a proprietary direct deal. That's not a liquid deal. And so, we did see a change in the mark there on a fair value basis. The company has -- is going through a turnaround. And we're actively engaged and involved in helping the company make a turnaround.

There's a lot of good things happening for that company in the third and fourth quarter of this year, which unfortunately, when you fair value something, it's difficult to really get the benefit of what's to come. You really usually look backwards when you think about fair value and when we work with our independent valuation firms.

So, while we see some positives on the horizon for that company with some new store openings and some improvement, it's not really reflected today in the fair value. So, I think we're hopeful that, as the year progresses, we'll see that company's performance improve and be able to sort of see a change in the valuation to the up side.

Okay. I understand. Congratulations on a great quarter. Thanks for your time.

Thanks, Mickey.

Thank you, Mickey.

Christopher Nolan, MLV & Co.

Hi, guys. Is there -- given that you are easily covering your dividend and you have very little bouncy leverage, what's the philosophy operating here? Is the intent to keep operating leverage relatively low as long as you're able to cover the dividend, or do you have a particular threshold for return on NAV? How are you guys looking at this?

Yes, good question, Chris. The answer to your first question is no, I don't think we're necessarily actively keeping the portfolio underleveraged because we're earning the dividend with our current NII. I think the viewpoint is that we want to be appropriately leveraged for the asset mix, which would be a higher leverage point than we -- where we were at, at the end of June.

And we will continue to monitor the market activity and what's happening with our credit and our unfunded commitments and things of that nature to stay properly leveraged, which we have said historically -- we think on a regulatory basis is between 0.7 and 0.8 based on the asset mix.

And if that drives higher NII over time, then we'll have to make some decisions about the level of the dividend. And the Board and management are in close conversation constantly about opportunities with regards to what we want to do on the dividend. And we're watching it and watching what's happening in the market and our portfolio. And we'll make some determinations in the future about what we want to do on the dividend.

But, we aren't holding back leverage because we can cover our current leverage. That's not the game plan.

Follow-up question, strategically, given that you guys are trading at a premium, most of your peers are trading at a material discount to NAV per share. Were -- what are your thoughts strategically in terms of the BDC market? Is the focus really going to be just on organic growth, or are you looking at other stuff, like acquiring portfolios or anything along those lines?

We're looking at everything is the answer, Chris. We're having ongoing conversations with lots of parties. And as I said previously, my goal is to continue to expand the platform and increase shareholder value. And we're looking at all of our options in order to do that.

Great. Okay. Thanks for taking my questions.

Dan Nicholas, Robert W. Baird & Co.

Thanks. Good morning, guys. Just switching back to the leverage question, with leverage being kind of light, as you talked about now, would you -- do you have much of an appetite to add any more liquid placeholders type investments, like you did this quarter, or do you think the core kind of directly originated pipeline is strong enough where that doesn't make sense going forward?

Yes, Dan, good question. I think it's the latter. We'll always look at opportunities, liquid market. And if we see good value there, we will consider liquid assets, and we'll put them on the books if it makes sense and we see good value. But, we do have a very strong pipeline, as Ted pointed out in his remarks.

And we still feel very comfortable and confident that, well, we have enough opportunity in the direct origination side that we would expect that to be the preponderance of what gets added to our balance sheet in the third quarter. Barring any change, that's what we would expect.

And over time, as I said in my remarks, we would probably expect to rotate out of some of the more liquid second liens in favor of our direct originated loans because we think it, A, is typically a better risk reward and, B, often can provide better pricing. And so, I do think that you'll see that part of our portfolio grow as we get into the third quarter.

Okay. Got it. And in terms of yield in the directly originated portfolio, are they kind of stable, or are you seeing any real change there?

Yes, it's a good question. I think, if you look at the portfolio, you've probably seen some slight slippage in the yield that we're able to generate in the quarter and on a blended basis. And so, there's definitely been yield pressure in the market. There will definitely be some rotation of the yield as you see some of the loans that we did sort of two years ago, 2.5 years ago when we first went public.

It's the natural order of things in our businesses that we're sort of in prime prepayment time. Just on an average basis, our loans tend to stay up between two and three years. And so, you'll see some of those higher-priced loans. Some of them will probably repay. And the market opportunity today is probably a little bit more competitive than it was then.

And so, I think it's reasonable that we should see some -- we would expect to see some decline in yield. I'm not talking about hundreds of basis points. But, I think the market opportunity today is definitely a little bit more challenged on the yield basis than it was two years ago or three years ago when we were -- when we had just launched.

So, we definitely are seeing some yield compression. But, I -- we still feel comfortable with our pipeline that there's significant yield opportunity for us to continue to put money to work accretively.

Okay.

Yes, I don't see that as a big issue, Dan.

Got it. Okay. Good quarter. Thanks, guys.

(Operator Instructions). Christopher Testa, National Securities Corporation.

Hi, good morning. Thanks for answering my questions today. I just wanted to know just, again, with the junior secured loans that you had a large increase in, just -- my questions are, how many different companies were those loans made to? And how long are you looking to keep those as placeholders? Is there still a good pricing opportunity there, or was this kind of a one-off deal?

Yes, good question, Chris. If you pull up our scheduled investments when you have a chance to study that a little bit in the 10-Q, you can get a look at the loans that are in there. There's a pretty wide variety of loans. They're five, six, seven loans that we made in the period that were more liquid.

Not everything in this second lien bucket in our SOI is considered liquid. So, some of them are not. So, when you look at it, you'll see names like Mud Pie. That was a directly originated second lien opportunity, has very nice pricing, is a very good company. That's not a liquid asset. That's one we would expect to hold for the long term.

Physiotherapy's a little bit less liquid. It's liquid, but less liquid. And that's one that we thought was a good long-term hold.

When you look at the list, (inaudible) growth is definitely liquid, but it's a name we've had in the portfolio for a couple of years and continue to add to it. It's a great business. We really like it.

The other ones are more liquid. And some of them have lower yields, some as low as 7.5 and 8, 8.25. Those are the assets that I would expect that, over time, we would likely liquidate in favor of directly originated loans. And they're plenty liquid. And there's plenty of opportunity to do that. And it's a pretty granular portfolio when you look at it, at the second lien portfolio.

Okay. Great. And do you think that there's still these opportunities that are presenting themselves, where you'll be able to use these as placeholders going forward, or was this just pretty much the only quarter we should expect to see that type of volume tick up in the second lien portion?

I don't ever want to say definitively. But, our expectation is that most of the origination going forward would be in direct originated assets. Now, things can change. Our job is to put money to work for shareholders to create the best shareholder value and return. And if there is a dislocation, for example, in the liquid markets and we see opportunities there, we'll take advantage of it for shareholders.

But, all other things being equal, I would expect to see this portion of the portfolio stable or declining and the direct originated part of the portfolio growing.

Okay. Great.

That happens -- Chris, that happens from time to time. And it could be week to week. It could be month to month where opportunities come up in the second lien market. Because of the relationships we have and the depth of the amount of business we do as a platform, we have opportunities to do these clubby second liens that generate some nice yield at good leverage attachment points. And I suspect that, from time to time, we'll take advantage of those relationships.

Okay. Great. And just with regards to the unrealized depreciation on the Unitranche loans, grew a bit this quarter again, are there any specific factors driving that? I took a look through. I know Fabco Automotive has a pretty big cost-to-fair value disparity, big unrealized loss with it. Is there anything going on there within that bucket that's driving those?

Not really. It's been relatively stable actually quarter to quarter. The only one that really moved in any measurable way is the one I already addressed, which was TPP Acquisition. Fabco actually was pretty stable from last quarter. That company is doing fine. It's stable. It's definitely a turnaround story, has a great sponsor, who's put money in. And we definitely see some visibility in the future for that company to see improvement.

But, outside of that, it's actually not been that -- there hasn't been that much movement. And when you look at the portfolio on a whole, markup to markdown, we were pretty much flat this quarter. We didn't see any measurable net change in value.

So, that's kind of the job, right? When you're -- that's kind of part of our thesis and how we go about this investing. We go in and invest in assets. We from time to time make some small equity bets or get some equity upside. We know as a lender that your best-case scenario is to get your money back.

In certain instances, you might not. And so, we marry that with some one-off opportunities on the equity side and with some prepayments and other things. And we hope and think, over time, that we'll either stay flat or improve in terms of the total mark on the portfolio based on those factors together. And that's proving out.

Okay. Great. Thanks for taking my questions, guys.

Thanks, Chris.

Thank you. And I'm showing no further questions at this time. I would like to turn the conference back over to Mr. Ted Koenig for any closing comments.

I just wanted to thank everybody for the time today. Keep watching. I think that, based upon where we sit, I expect good things to continue to happen for MRCC. So, thanks, again.

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