PennantPark Floating Rate Capital Ltd (PFLT) 2018 Q2 法說會逐字稿

Good day, and welcome to the PennantPark Investment Advisers, LLC PFLT Second Fiscal Quarter 2018 Earnings Conference Call.

Today's conference is being recorded.

And now, at this time, I would like to turn the conference over to Mr. Art Penn.

Please go ahead, sir.

Thank you, and good morning, everyone.

I'd like to welcome you to PennantPark Floating Rate Capital's Second Fiscal Quarter 2018 Earnings Conference Call.

I'm joined today by Aviv Efrat, our Chief Financial Officer.

Aviv, please start off by disclosing some general conference call information and include a discussion about forward-looking statements.

Thank you, Art.

I'd like to remind everyone that today's call is being recorded.

Please note that this call is the property of PennantPark Floating Rate Capital Limited.

Any unauthorized broadcast of this call in any form is strictly prohibited.

Audio replay of the call will be available by using the telephone numbers and pin provided in our earnings press release as well as on our website.

I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking information.

Today's conference call may also include forward-looking statements and projections, and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these projections.

We do not undertake to update our forward-looking statements unless required by law.

To obtain copies of our latest SEC filings, please visit our website at www.pennantpark.com or call us at (212) 905-1000.

At this time, I'd like to turn the call back to our Chairman and Chief Executive Officer, Art Penn.

Thank you, Aviv.

I'm going to spend a few minutes discussing financial highlights followed by a discussion of the portfolio, investment activity, the financials and then open it up for Q&A.

For the quarter ended March 31, we invested $138 million in primarily first lien senior secured assets at an average yield of 7.8%.

Since quarter-end through April 30, we have purchased an additional $50 million of investments.

PennantPark senior secured loan fund, or PSL -- PSSL, continued to grow.

As of March 31, PSSL owned a $221 million diversified pool of 30 names with an average yield of 7.6%.

Since quarter-end through April 30, PSSL invested in an additional $31 million of investments.

Over the last several years, we have substantially grown our platform by adding senior and mid-level investment professionals in regional offices as well as in New York.

The additional people and offices, combined with additional equity and debt capital we have raised, have resulted in significantly enhanced deal flow.

This puts us in a position to be both active and selective.

The growth in our PFLT and PSSL portfolio is evidence of this enhanced platform.

We are pleased to announce that we have doubled our PSSL joint venture with Kemper Insurance.

In addition, Capital One and a syndicate of lenders has doubled the PSSL credit facility as well.

As a result, PSSL has buying power of $630 million, consisting of a $420 million loan facility and $210 million of notes and equity.

PSSL has enabled us to be even more responsive to our middle-market private equity sponsor clients as well as generate an attractive ROE to help grow PFLT's income.

Net investment income was $0.24 per share.

The vast majority of investments made in PFLT and PSSL during the quarter ended March 31 were made late in the quarter.

Our earnings stream should have a nice tailwind based on that activity, additional investments we have made since quarter-end, the increase in LIBOR and the doubling of capacity in PSSL.

As of September 30, our spillover was $0.45 per share.

In a surprise move, on March 23, the Small Business Credit Availability Act was signed into law.

On April 5, the board approved the modified asset coverage that was included in that law, reducing asset coverage from 200% to 150% effective April 5, 2019.

The company has generated an excellent track record over the last 7 years investing in lower risk, first lien senior secured floating-rate assets.

We believe that such assets represent an appropriate risk profile that can be prudently leveraged under the revised statute to provide attractive returns for our investors.

Our successful operation of PSSL is evidence of this strategy.

Over the next year, we look forward to working closely with our lenders, our bondholders, rating agencies and stockholders to discuss our road map into the future.

Our primary business of financing middle-market financial sponsors has remained robust.

We have relationships with about 400 private equity sponsors across the country and elsewhere that we manage from our offices in New York, Los Angeles, Chicago, Houston and London.

We have done business with about 180 sponsors to date.

Due to the wide funnel of deal flow that we receive relative to the size of our vehicles, we can be extremely selective about what we ultimately invest in.

We remain primarily focused on long-term value and making investments that will perform well over several years and can withstand different business cycles.

Our focus continues to be on companies and structures that are more defensive, have low leverage, strong covenants and high returns.

We are first call for middle-market financial sponsors, management teams and intermediaries who want consistent, credible capital.

As an independent provider free of conflicts or affiliations, we've become a trusted financing partner for our clients.

We are pleased that we have been approaching this investing market with substantially more capital and resources in order to drive enhanced, self-originated deal flow.

This enhanced deal flow has meant that we can get more looks and be even more relevant to our borrower clients.

Being more relevant means that we can be increasingly selective about which investments we make as well as giving us the ability to be an important leader in transactions who can drive terms.

We have taken several steps in order to build this increased relevance over the last few years, including the MCG Capital merger, the addition of senior and mid-level professionals across different geographies, 2 follow-on equity offerings, the launching of PSSL, our recent bond offering and now the doubling of PSSL.

As a result of our focus on high-quality companies, seniority in the capital structure, floating-rate assets and continuing diversification, our portfolio is constructed to withstand market and economic volatility.

The cash interest coverage ratio, the amount by which EBITDA or cash flow exceeds cash interest expense, continue to be a healthy 2.9x.

This provides significant cushion to support stable investment income.

Additionally, at cost, the ratio of debt-to-EBITDA on the overall portfolio was 4.25x, another indication of prudent risk.

Our credit quality since inception over the 7 years has been excellent.

Out of 320 companies in which we have invested, we have experienced only 5 nonaccruals.

On those 5 nonaccruals, we have recovered $1.05 cents on the dollar so far.

On March 31, we had 1 nonaccrual on our books, representing 0.3% of the portfolio on a cost basis and 0.1% on a market value basis.

In terms of new investments, we had another active quarter investing in attractive risk-adjusted returns.

Our activity was driven by a mixture of M&A deals, growth financings and refinancings.

In virtually all these investments we've known these particular companies for a while, have studied the industries or have a strong relationship with the sponsor.

Let's walk through some of the highlights.

We invested 4 point -- $14.7 million in the first lien debt of Beauty Industry Group.

Beauty Industry Group provides hair extension and cosmetic products.

Gauge Capital is the sponsor.

Credit Infonet is a software company focused on the bankruptcy market.

We purchased $28 million of a first lien term loan.

Sentinel Capital is the sponsor.

We lent $14.3 million of a first lien term loan to Douglas Products & Packaging.

Douglas Products is a leading manufacturer and distributor of specialty chemicals for pest management, thermal fluids and sanitary sewer applications.

Altamont Capital is the sponsor.

We added $11.3 million to our existing first lien loan to Morphe.

Morphe is a cosmetics company controlled by Summit Partners.

Turning to the outlook.

We believe that the remainder of 2018 will be active due to both growth and M&A-driven financings.

Due to our strong sourcing, network and client relationships, we are seeing active deal flow.

Let me now turn the call over to Aviv, our CFO, to take us through the results.

Thank you, Art.

For the quarter ended March 31, 2018, net investment income was $0.24 per share.

Looking at some of the expense categories, management fees totaled $2.3 million, general and administrative expenses totaled about $1.1 million and interest expense totaled about $3.5 million.

During the quarter ended March 31, net unrealized depreciation on investment was about $600,000 or $0.02 per share.

Net realized gain was $1.5 million or $0.04 per share.

Net unrealized appreciation on our credit facility and notes was $5.3 million or $0.14 per share.

And dividend in excess of income was $1.7 million or $0.04 per share.

Consequently, NAV went from $13.86 per share to $13.98 per share.

Our entire portfolio, our credit facility and our notes are mark-to-market by our Board of Directors each quarter using the exit price provided by an independent valuation firm or independent broker-dealer quotations when active markets are available under ASC 820 or 825.

In cases where broker-dealer quotes are inactive, we use independent valuation firms to value the investments.

Our portfolio is relatively low risk.

It is highly diversified with 86 companies across 24 different industries.

91% is invested in first lien senior secured debt; 4% in second lien debt; 5% in subordinated debt and equity, including 3% in PSSL.

Our overall debt portfolio has a weighted average yield of 8.6%.

100% of the portfolio is floating rate.

Now let me turn the call back to Art.

Thanks, Aviv.

Before we conclude, we want to emphasize 2 key points: number one, the regulatory leverage changes came as a surprise to the entire market.

It has been discussed on and off for the past 8 to 10 years, however, the market had no clue that these changes might be approved by Congress and the administration.

We certainly didn't.

PennantPark adopted the regulatory change similar to many of our market peers, and we are taking a 12-month period to assess the implications and decide what to do.

Number two, PennantPark is not a controlling shareholder of PFLT.

In actuality, no investor holds more than 5% of PFLT.

PennantPark is the management company, which is a fiduciary to PFLT's third-party bondholders and shareholders with the role of acting in the best interest of all.

Some recent articles stated that PennantPark is the controlling shareholder of PFLT, resulting in investors thinking that increasing leverage will benefit PennantPark directly with higher dividends while adding risk to bondholders who may not benefit.

That is not correct.

And we are also pleased that Maalot S&P reaffirmed their rating on these bonds, along with the recent announcement.

So to conclude, we want to reiterate our mission.

Our goal is a steady, stable and protected dividend stream coupled with the preservation of capital.

Everything we do is aligned to that goal.

We try to find less risky middle-market companies that have high free cash flow conversion.

We capture that free cash flow primarily in first lien, senior secured floating rate debt instruments, and we pay out those contractual cash flows in the form of dividends to our shareholders.

In closing, I'd like to thank our extremely talented team of professionals for their commitment and dedication.

Thank you all for your time today and for your investment and confidence in us.

That concludes our remarks.

At this time, I would like to open up the call to questions.

(Operator Instructions) And we will hear first from [Ross Dimal] with Leader Capital Markets.

First I would like to congratulate you on the good results.

I have 2 questions following the new legislation.

The first one is in general on the industry, if you can give us some color on possible implications of the changes on major businesses.

And do you have estimates regarding the number of companies that have already asked or intend to ask for approval?

And the second question is, in particular, on PFLT.

Does the expected increase in the leverage will change your investment methodology and policy and if you are going to extend your investment pipeline as a result?

Okay, let me take -- thank you, Ross, for your question.

Let me take the first one first, which is within our control.

So we have, from day 1, wanted to focus on lower-risk investments, senior secured top of the capital structure floating rate.

That's been the mission of this company from day 1 7 years ago.

So we have no intention of changing that as our primary focus.

As we've said, our track record has been excellent over 7 years in preserving capital for our lenders and our shareholders and our bondholders, so there will be no change in policy no matter what -- how we finance that policy.

Now we come to how we finance those investments, it looks like the vast majority of the industry thus far has done -- did what we did which was get Board of Directors' approval.

Now that doesn't mean that each of these participants in the industry will actually use that extra leverage, and we have not at PFLT decided whether we will use that leverage.

This gives us a 12-month time period to assess the market; to speak to our stakeholders, which include our bondholders, our lenders, our shareholders; look at what's going on in the market to make a thoughtful decision.

So most of the participants in the industry approved it just to have that optionality because it's good to have that optionality whether these participants choose to use it or not.

Now we have consistently said for those 8 to 10 years that this legislation has been discussed, that should this legislation pass, the lower risk, lower reward assets such as the type that PFLT uses might be an appropriate collateral to use for that strategy, which is why we've been growing our PSSL joint venture with Kemper Insurance.

That is a joint venture where PFLT and Kemper share that joint venture and those assets, which are exactly the same type of assets that we put into PFLT.

Those assets are leveraged more than 1 to 1.

So we've been living in some sense with a joint venture in that vein.

It's gone highly successfully since we've done it.

The lenders seem to really appreciate it.

We just upsized to that credit facility for PSSL, and we had more lenders than we could use.

We had to cut people back because there was such demand for that credit facility, and that credit facility is LIBOR plus 225 versus the PFLT credit facility LIBOR plus 200.

So really interesting case study in essence for using the same collateral, having slightly higher leverage and seeing the demand by lenders on that kind of vehicle.

So we're still evaluating things.

We appreciate the feedback and the counsel and guidance from our bondholders as well as all of our other stakeholders.

And I just do want to state that we're very appreciative of the relationships we're developing in Israel.

We take the relationships seriously.

We spent a lot of time to develop those relationships.

And as we stated, our goal is thinking about very, very long-term relationships that are trusted.

So we look forward to long-term trusted relationships with our Israeli bondholders for many, many, many years, and we take it very seriously.

(Operator Instructions) And we will hear from [Amir Lev] with [Cabin Investment House].

I have 2 questions, please.

The first one, I am trying to understand that I understand the advantage in the JV after the new law.

I mean, if you can go to a leverage of 1 to 2 in the JV as well as in PFLT, so what is the advantage of PSSL beside, of course, the nonrecourse?

Yes, so it's a good question, Amir.

There's several advantages.

If it works in PSSL for $630 million portfolio, perhaps it could work on a greater percentage of the portfolio, which could generate more ROE for our investors, which could generate more equity market cap for our investors, which could lead to greater growth of PFLT.

And one of the benefits to bondholders is a greater equity market cap.

There's more cushion beneath bondholders.

The other potential advantage is PSSL right now clogs up our 30% basket, which we use either for investments outside the United States, which could be investments in places like Canada, Great Britain, Australia as well as investments in financial services companies, which aren't a big piece of what we do, but could be a substantial opportunity at some point.

Okay.

And one more question, please.

I've seen that your new loans are given in 7.10% according -- and your old -- your overall investments are in 8.6% loans.

So I'm just trying to understand if the market has changed or why do you give lower percent loans now in this quarter?

It's a great question, and we think about the portfolio construction all the time.

Part of it is, we -- because of the PSSL joint venture, in essence, our investment in PSSL, because it's junior to more leverage, is a little higher risk.

So because we've invested in PSSL, we have decreased the amount of second lien and subordinated debt into the portfolio so you're actually highlighting a great point because we want to have a lower risk, lower-reward portfolio overall.

Because of the growth of PSSL, we have reduced our investment in second lien and subordinated debt commensurately with that.

So they're a little bit of an offset.

We think the ROE to shareholders is roughly the same and could even grow as PSSL grows.

(Operator Instructions) With no additional questions in the queue, I will turn the call back over to Mr. Art Penn for any additional or closing remarks.

Thanks, everybody, for being on the call today.

Again, we're going to have our next quarter in early August, and I am sure we will be reaching out to our Israeli bondholders and shareholders over the coming weeks to continue to discuss PFLT.

So we really appreciate your support and look forward to continuing the dialogue.

With that, ladies and gentlemen, this does conclude your conference for today.

We do thank you for your participation, and you may now disconnect.