BlackRock TCP Capital Corp (TCPC) 2017 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to TCP Capital Corp's. Third Quarter of 2017 Financial Results. (Operator Instructions) .

I would now like to introduce your host for today's conference, Jessica Ekeberg. You may begin.

Thank you. Before we begin, I would like to note that this conference call may contain forward-looking statements based on the estimates and assumptions of management at the time of such statements and are not guarantees of future performance. Forward-looking statements involve risks and uncertainties and actual results could differ materially from those projected.

Any forward-looking statements made on this call are made as of today and are subject to change without notice.

This morning, we issued our earnings release for the third quarter ended September 30, 2017. We also posted a supplemental earnings presentation to our website at tcpcapital.com. To view the slide presentation, which we will refer to on today's call, please click on the Investor Relations link and select Events and Presentations.

I will now turn the call over to our Chairman and CEO, Howard Levkowitz.

Thanks, Jessica.

I'm here with our TCPC team, and we would like to thank everyone for participating on our call today. I will begin with an overview of our third quarter performance and investment activities, and then our CFO, Paul Davis, will review our financial results. After Paul's comments, I will provide some perspective on the market, and then we will take your questions.

First, we will review our third quarter highlights.

We delivered another strong quarter of originations in the third quarter totaling $246 million, and we increased the percentage of floating-rate loans in our portfolio to 89%, up from approximately 80% of our debt portfolio at the beginning of the year.

Dispositions for the quarter were $158 million, resulting in net deployments of $88 million.

As shown on Slide 4, we earned net investment income of $0.38 per share, out-earning our dividend by $0.02 per share. And today, we declared a fourth quarter dividend of $0.36 per share.

As you can see on Slide 5, on a market value basis, we have generated a total return of over 87% since our IPO.

Turning to Slide 6.

You can see that our cumulative dividends plus NAV appreciation have generated a return over 55% since our IPO despite a slight decrease in NAV to $14.92 in the quarter ending September 30.

In August, we issued $125 million of senior unsecured notes with a 5-year maturity and an interest rate of 4.125%. Last week, we issued an incremental $50 million on the same terms for a total issuance of $175 million.

For those viewing our presentation, please turn to Slide 7.

In the third quarter, we continued to diversify our portfolio. At quarter-end, our portfolio had a fair market value of $1.5 billion and was invested in 97 companies across numerous industries. Our largest position represented only 3% of the portfolio. And taken together, our 5 largest positions represented only 13.6% of the portfolio.

As you can see on Slide 8, at quarter-end, the vast majority of our assets were senior secured and 89% of the debt assets we hold were floating rate. To the extent that LIBOR continues to increase, we anticipate benefiting from higher interest rates in future quarters as our floating-rate instruments reset. Most of them are already above their interest rate floors.

Turning to Slide 9.

During the third quarter, we deployed $246 million of capital primarily in 16 investments, most of which were senior secured loans. These include investments in 9 new companies and 7 existing portfolio companies. Our investments in existing portfolio companies continue to be an important source of investment opportunities and reflect our strong borrower relationships and the value we deliver to them. Our top 5 investments in the third quarter reinforce our commitment to maintaining a diversified portfolio and lending at the top of the capital structure. They include: a $43 million senior secured loan to Nephron, a manufacturing of generic respiratory medications; a $24 million senior secured loan -- follow-on loan to InMobi, one of the largest independent mobile ad networks in the world; a $24 million senior secured loan to ECi, a business management and e-commerce company; a $22 million senior secured loan to Applause, a quality assurance testing platform; and a $16 million senior secured loan to Xactly, a cloud-based enterprise platform for sales performance management.

Our other investments in the third quarter span a variety of industries, including insurance, advertising and retail.

In the third quarter, dispositions of portfolio investments comprised $158 million. These included the repayments of $19 million in debt from 36th Street Capital, a $16 million senior secured loan to ABG and $16 million from our investment in NEP.

New investments in the quarter had a weighted average effective yield of 10.3%, and the investments we exited during the quarter had a weighted average effective yield of 11.7%. Our overall effective portfolio yield at quarter-end was 11%. Given the competitive pricing environment, we're very pleased to be able to continue to generate such consistently strong yields on our investments.

Now I will turn the call over to Paul, who will discuss our third quarter financial results. Paul?

Thanks, Howard, and good morning, everyone.

Starting on Slide 11.

Net investment income after incentive compensation was $0.38 per share or $0.02 above our dividend of $0.36 per share. This continues our 5.5-year record of covering our dividend every quarter since our IPO. Since the IPO, we've outearned our dividends by a cumulative $22.8 million.

Investment income for the quarter was $0.74 per share. Interest income comprise $0.72 per share, of which recurring cash interest was $0.60, recurring PIK income was $0.05 and recurring discount and fee amortization was $0.04. The remaining $0.03 per share came from prepayment income, including both prepayment fees and unamortized OID. We also earned $0.015 per share from other income.

Our income recognition follows our conservative policy of generally amortizing upfront economics over the life of an investment rather than recognizing all of it at the time the investment is made.

Operating income of $0.27 per share included interest and other debt expenses of $0.14 per share for a net investment income of $0.47 per share before incentive compensation.

Incentive compensation was $0.09 per share or 20% of net investment income, as our all-in performance continued to exceed our cumulative total return hurdle rate of 8%.

Net realized and unrealized losses of $7.4 million or $0.13 per share were comprised primarily of markdowns of approximately $2 million each on Edmentum, Real Mex and Kawa. Realized losses of $4.6 million included $2.8 million on the expiration of our Rightside warrants, which were previously marked at approximately 0. We received these warrants in connection with loans to the company that we funded at a discount and which were repaid in full after generating significant interest income.

Our credit quality remained strong with only 2 nonaccrual loans at quarter-end, both of which were marked at 0. While we are not expecting recovery on our small loan to Essex Ocean, we are working hard to turn around Real Mex, a legacy special situations investment from before our IPO, which we've discussed in the past. The Real Mex loan had been marked at $0.09 in the prior quarter.

Turning to Slide 14.

We closed the quarter with total liquidity of $310.8 million. This includes available leverage of $311 million and cash and cash equivalents of $71.9 million, less net pending settlements of $72.1 million. Available leverage includes the remaining $75 million available on our $150 million leverage commitment from the SBA. Regulatory leverage at quarter-end, which is net of SBIC debt, was 0.68x common equity, both gross and net of cash and outstanding trades.

Given that our stock has been trading at a premium to NAV, we did not repurchase any shares under our share repurchase program during the quarter.

At the end of the quarter, the combined weighted average interest rate on our outstanding debt was 4.12%. This reflects our TCPC funding facility and SVCP revolver at a rate of LIBOR plus 2.5%, our convertible note issuances at rates of 4 5/8% and 5 1/4%, our recently issued senior unsecured notes at 4 1/8% and our SBA debentures at a blended rate of 2.57%.

I'll now turn the call back over to Howard.

Thanks, Paul.

Now I will briefly cover what we're currently seeing in the market.

We continue to see strong demand for our lending solutions for middle-market companies across a wide variety of industries. At the same time, we recognize that there are many new competitors in the market, some of whom are being aggressive.

We continue to take a highly disciplined and selective approach to new investments. And while we are passing on many opportunities, we have a strong pipeline of potential investments that meet our risk-reward profile.

I would also like to point out that we continue to invest meaningful amounts of new capital into existing portfolio companies as these are businesses and management teams with whom we are familiar and that look to us first as trusted partners to help them finance their growth plans.

Third quarter through November 3rd, we have invested approximately $68 million, primarily in 4 senior secured loans. The combined effective yield of these investments is approximately 10%. At this early point in the quarter, our pipeline includes many transactions that are well within our historical yield range, including several we expect to close in the coming weeks.

Our ATM program has been a shareholder-friendly way to raise equity to fund new lending opportunities, and we may consider reactivating it this quarter. As in the past, our ATM would only be activated in a manner that we believe to be shareholder friendly.

TCPC has built a strong market position by leveraging our platform to lend to established middle-market companies with sustainable competitive advantages that generate substantial cash flow and/or have significant asset coverage and/or enterprise value. Our co-investment exemptive relief from the SEC, which was granted over a decade ago, affords us the opportunity to co-invest alongside Tennenbaum Capital's other clients to provide larger and more comprehensive capital solutions to our borrowers than TCPC could pursue on its own.

Looking to the future, our strategy remains the same. We will continue to focus on effectively deploying capital from our diverse and attractively priced funding sources to optimize our portfolio performance by generating a strong recurring earnings stream while focusing on capital preservation.

We believe we are uniquely qualified for continued success for several reasons. First, our focus remains on managing our portfolio to deliver consistent returns and a well-covered and attractive dividend to our shareholders. We have done this in great part by taking a highly selective approach to investments, staying true to our disciplined underwriting standards and maintaining strong credit quality. While we invest in many different industries and in companies we know and understand well, we continue to focus on businesses with sustainable competitive advantages and significant cash flow and/or asset coverage or enterprise value.

Second, the vast majority of our investments are in senior secured loans, most of which are floating rate. This reduces our overall risk profile and enhances our portfolio performance, enabling us to consistently cover our dividend each quarter. Our portfolio is well positioned for any meaningful rise in interest rates, and even a 25 basis point increase in rates would be accretive.

Third, our low cost of capital and diverse funding sources are key competitive advantages for TCPC. We have attractively priced leverage and access to a variety of equity and debt financing alternatives, including convertible notes, a term loan, revolving credit facilities and long-term SBIC unsecured notes.

Finally, our interests are closely aligned with our shareholders. Our origination income recognition practices are conservative, and we have one of the most shareholder-friendly fee structures in the industry. We continue to invest alongside our shareholders, and members of the management team and the Board of Directors have frequently purchased TCPC shares in the open market.

In closing, we are pleased with our performance, and we are optimistic about our prospects for delivering continued growth and returns to our shareholders in the fourth quarter. We would like to thank all of our shareholders for your confidence and your continued support.

And with that, operator, please open the call for questions.

(Operator Instructions) Our first question comes from Jonathan Bock with Wells Fargo Securities.

Joe Mazzoli filling in for Jonathan Bock. The first question. With a regulatory leverage of just under 0.7x debt-to-equity as of 9/30, what are your thoughts on equity issuance in today's environment? It seems like you have already strong fundings in the fourth quarter. And you mentioned the ATM. How -- just to gain a perspective of how you think through this, how do you view the ATM versus additional private placements?

Joe, thank you for the question. Our views on approaching liquidity in the capital markets remain consistent, which is that our underlying principle is in order to raise capital, we -- it needs to be favorable to our shareholders over the long term. And as I think you and other long-time observers know, we have done a variety of things, direct deals, regular-way secondaries and the ATM. We announced last quarter that we might utilize ATM. We had no need to do so. We've been cautious in our use of it. We announced that we might do it again because it's a nice, efficient way to add equity on a just-in-time basis. That does not mean that we're going to. We certainly didn't use it in Q3. We're continuing to look at our deal flow, our leverage and really trying to optimize what we're doing here for the long term. And we'll continue to look at all of our options. But really underlying all of those is doing things that we think will benefit the shareholders in the long term.

That's very helpful, Howard. And just another kind of question related to the balance sheet is, with no growth in the SBA debentures quarter-over-quarter, we know that, of course, TCP has historically and continues to focus on quality deal flow and is not managing to any specific basket. But is the lack of SBIC growth kind of just the nature of what the pipeline has looked like recently?

Hi Joe. It's Raj. I'll take that one. And certainly, as we've mentioned in some prior quarters, the SBA has generally gone a little slower than we expected. I think the no-growth scenario quarter-over-quarter to, or I guess, year-to-date, some degree doesn't incorporate some repayments we've gotten through the year even though we've deployed into new companies. But to your point, the point you make, part of it is not looking to compromise our approach or our standards for the sake of drawing it down. We do think occasionally -- hopefully more occasionally, we will see opportunity to do that. In the quarter to date, what you may have missed is there is a deal that we have funded that will utilize the SBIC. Quarter to date Q4 to be clear. But I think the overarching theme is, we are not going to compromise approach or sort of the criteria that we look for in the current underwriting. I do think we are looking to make some internal changes on how we approach the market and source those deals to have a wider footprint. But how that trend -- how that kind of plays through the funding will be episodic, and hopefully we'll see more utilization of that facility in the appropriate manner.

And just as a final question here, if you could provide a brief update on Kawa Solar. So it looks like the senior loan is marked at 96%. It's 8% PIK. The equity has kind of been marked all the way down. But then I'm trying to understand, it looks like there was a new investment in Conergy. Or was Conergy kind of restructured or spun out of Kawa? If you could just provide a little bit more color there.

Sure. Sure. There are a lot of moving parts. And I guess overarching comment I'd make is, this is a company that's in the process of a restructuring that we closed in the early part of this quarter, Q3, and certainly one that we're working on to push for a recovery. What you have on the -- on our statement of positions is a couple of positions. You have a debt facility or a couple of tranches of debt facilities that we think are well covered. As part of the restructuring, we did restructure into a stand-alone company where we control the -- have a majority ownership, that is Conergy Asia, where the equity is marked down based on the deal -- the valuation at the time of the deal close. But generally speaking, we believe this company is in a growing market. There is a bit of a logistical effort because the focus of the ongoing business is in Asia, where the growth on a global basis is, I think, relatively better. We do believe there is a better -- sort of time ahead of us, but it will take work and some transitional investment, which is the new position you're highlighting, to kind of foster growth and kind of help through the restructuring transition. But there are several pieces on the statement of positions, as you point out. It is a debt or debt tranches that are covered and equity participation that is partly the result of the restructured debt and partly a new funding that we also believe is covered. And where the business goes from here, we will update you on a quarterly basis, but we do think there is good growth at the margin that we're seeing some interim success on. And how that kind of results to the position mark and valuation will be something that we update you on periodically.

Our next question comes from the line of Robert Dodd, Raymond James.

If your credit quality now -- obviously, you've cleaned a lot. I will say there's still a tiny bit on [assets] you don't expect to get a recovery. Real Mex is old, for lack of a better term. If I can kind of pick on something, where do you -- do you -- are there areas of the portfolio maybe by industry separate where you have any concerns or areas in the market where you have concerns and you're looking to stay away from -- maybe more aggressively than you would have done 6 months ago?

Yes, Robert, maybe I'll take that. I guess it's a good segue from what we just talked about. I think I agree with you. Our view is that the portfolio credit quality is quite good. As highlighted by the Kawa discussion or the question that was just asked and perhaps to some degree by the Edmentum name that we talked about several times, occasionally there will be companies that have a bit of challenge. The nice thing is, we are experienced from what we do and -- across the firm. In dealing with challenged businesses, we do not shy away from the effort that's needed as long as it takes. And so I think occasionally in this business, things will come up and you'll have to just kind of buckle down and work through those positions. Fortunately, we do not have a lot other than some of those names you mentioned and the one I just discussed. I do think, to your -- answer your question more directly, we're just doing what I feel like we've always done, perhaps doing it more frequently, which is staying away from structures, lack of covenant type of company, meaning highly cyclical or less predictable in its outlook and really trying to avoid the mistake in the portfolio by avoiding the funding outright and not forcing things that we feel like we shouldn't be forcing for the sake of deploying capital. We are clearly saying no a lot more often. The close rate is sub 10%, I would say, in things we look at. But a lot of it is just doing what we've tried to do consistently over the course of our history, perhaps more frequently now just because of what people are pushing for in terms of structure -- issuer-friendly structures and covenant-like deals and things that you're seeing in the broader syndicated marketplace. I don't think that's changed over the last 6 months. So I think there's more than ever a focus on avoiding those situations outright.

Okay, got it. On the competitive side, obviously competitors come and go. New entrants -- the entry of new entrants in the lending market is kind of cyclical. And times like this, we see a lot of them that are aggressive and then they go away. On that front, I mean, are you starting to hear anything from sponsors maybe about -- and obviously, you've held up -- your origination activity has been good. Your yield has been good. How much of that is -- can you put down to your long-term presence in the market and the fact that you're not going to disappear and leave them hanging if the credit markets get -- when the credit markets get choppy at some point? I mean, is that a material factor in how you're keeping your yields and your activity up?

Robert, it's Howard. Thanks for the question. I think our longevity in this business, we've been around as a firm for over 2 decades and doing direct lending for just a little shy of 2 decades, is a big advantage. We've been dealing with many people for many years, some institutions through multiple generations of people working there, long-term relationships and contacts across the firm. And I think for some borrowers, that does make a big difference. They'd like to have somebody that they know will be stable and be around and that they can have some idea how they're going to behave versus some new entrants who may or may not be there certainly with the same staffing model in the near future. So I do think that, that has given us a big advantage in this environment.

Okay, great. And if I can, one last one. Prepayment fee income $0.03 this quarter, obviously $0.15 the quarter before since I think I ask this question pretty consistently. It's hard to predict, but on that view -- I mean, of the vintages in your portfolio, if I can only see it, as a loan ages, prepayment fee income, if it prepays, declines. I mean, where would you say that the mix of potential prepays is in your portfolio versus old loans, new loans, et cetera, right now in terms of kind of maybe an indication of which direction prepayment income could go? Obviously, Q2 is a way outlier, but general trends.

Yes, Robert, maybe I'll try to answer that. I'm not sure if I fully understand the question, but in terms of where we have seen loans prepay in terms of how many years into it we get, I would say in the sort of second to third year, we've typically seen our loans prepay for a number of reasons. Either they're getting refinanced, the company is getting sold or what have you. So we're very focused on both prepayment as a structural element and certainly trying to have some prepayment exposure. And when we think loans might exit kind of on a historical basis, I don't know that, that ties to any vintage that you're -- based on your -- part of your question. But in terms of sort of where in the life of a loan we've seen it happen, it's typically been in the second to third year, if you will. Late second to third year.

(Operator Instructions) Our next question comes from the line of Christopher Testa with National Securities.

You had mentioned that for the quarter, you did 9 new originations and 7 existing company originations. Just wondering if you could give a rough estimate on the breakdown by -- on a dollar or percentage basis in terms of your originations for those in the quarters.

I -- could you repeat the tail end of that? The percentage of what?

Oh, yes. So you said 9 new and 7 existing. I'm just wondering if you could give me kind of a dollar breakout of new versus existing for the originations on the quarter.

Why don't we call you back with that? It's -- if you -- the largest transactions we did were new, but we don't have the number right here on the call. We're happy to get back to you with it. The information could be derived by looking at our financial statements. But obviously, no need for you to do that. We're happy to give you the information but don't want to keep people waiting.

Okay, that's fair. Not a problem. Obviously, a lot of talk has been around the spread compression. And obviously, you guys provide differentiated solutions to help that -- abate that somewhat. Just curious, given you have some space in the 30% basket, you have good amount in the space, is there any inclination to potentially enter a joint venture where you could take some lower-yielding, safer credits, put some more financial leverage on it? I'm sure a company of your reputation and size would find it pretty easy to get a partner in that. So just wondering, your thoughts on that.

Yes. We have looked at that. We've been approached by a number of parties offering to do that with us. We recognize that certainly, a number of BDCs have done just that. It is conceivable we might do so in the future. Currently, we've had a -- certainly a very robust pipeline doing regular-way loans, and that's what's been occupying our time and energy. But it's conceivable in the future we might decide to do that. And just a rough estimate of your prior question, north of 70% of our fundings were from new deals.

Okay, great. And just looking at -- something that constantly gets talked about in the market is that people have this belief that certainty of close is not invaluable when the loan environment is unicorns and lollipops. But I tend to disagree with that and think that the certainty of close that you guys are able to provide without syndication risk and having a one-stop solution is crucial to you guys maintaining the pricing power you have. Is that the correct way to look at that?

Oh, I think it definitely makes a difference. We have had the advantage in our platform of having had exemptive relief now going back to 2006. And so we've been able to provide more fulsome solutions to people for a long time. But that's definitely something borrowers appreciate. And it's not our business model to be in the syndication business. We certainly know how. We've done that from time to time. But we're not trying to run the business on that basis.

Yes. And just let me -- one clarification on the new versus existing. I would say it's approximately 70%. We'll get you the exact number versus north -- but in that range essentially, the majority of the fundings.

Okay, great. And obviously, the past 2 quarters, you guys have crushed it in terms of origination growth and obviously net portfolio growth. Obviously, the market is very tight and people are getting kind of skittish of where things are. Howard, I know you had mentioned having a strong pipeline. Just curious, I guess, what you're seeing that is differentiated from a lot of the rest of the market where you're able to generate this type of growth at good risk-adjusted returns.

Yes, maybe I'll try to take that. I would say, well, look, we've been following some of the commentary on the earnings -- on earnings season. I would say we agree with a lot of the view that there are a lot of people trying to -- there's been weakening structures, a lot of effort to get very issuer-friendly terms, and we're seeing a lot of that as well. I think what we're also seeing is good opportunity from sort of nontraditional channels and really leveraging our sourcing platform, whether that be because we've been around for so long and people know us or, as you mentioned, there's a perception of ability to close without the syndication risk. Or what have you. All of that, I think, has some relevance. So we're seeing, at the same time, a fair number of people, existing and new relationships, looking to work with us in certain scenarios where our approach and the visibility of our lower execution risk when we say we can do something matters. And that matters in situations where it may not be available to go to the syndicated route or time is of the essence or just a particular -- the good knowledge on a company or sector is differentiating us versus others. And that, fortunately, is still playing through in a robust fashion given our deployment, as you highlight, even in a market where I think there's a lot of new participants and a lot of people looking for things that we're trying to stay away from. So it's just an element that we hope continues on. We can't predict that. But so far, we've been fortunate in that we've been able to find those deals and close on them in a timely fashion.

Got it. And just the last one for me, if I may. Given you guys are 85% floating, you obviously have a significant amount of fixed-rate debt, when the 2019 converts come due in December of '19 and then, obviously, thereafter, you have the 2022s, just looking further out ahead, should we expect that you guys will be more inclined to maybe upsize the revolver and use that more given the match funding ability of that? Or do you guys -- are you guys still looking to kind of keep the mix much more heavily weighted towards fixed rate debt as well?

Yes, so there are a few components in the way we think about the right side of the balance sheet. One is the nature of the obligations, floating versus fixed; and the other one is the source. And we think it's important to have a diversified source. As you know, we have 2 different revolvers. We have 2 converts: our recent unsecured corporate bond issuance and the SBA facilities. And maintaining that diversity of funding, we think, is very important. At any given time, one of those sources or others may be more attractive economically. And we also attempt to have some balance of floating-rate versus fixed, although in the current environment, we're probably a little more inclined to fix our obligations to some extent, but I don't want to go too far with that comment. We're not in the business of trying to predict where rates are trying to go. But we've certainly benefited a little bit this quarter from the uptick in LIBOR, and the balance sheet is structured with 89% floating-rate debt at this point in our assets to continue to benefit if LIBOR rate increases.

Our next question comes from the line of Ryan Lynch with KBW.

And I just have one question. You guys mentioned that you've outearned the dividend by about $23 million since inception. I was just wondering, has this -- this spillover income, has this been increasing throughout 2017? Or have there been any DTAs or NOLs that have been able to offset this excess NII? And with a large amount of essentially spillover income that you have, how do you guys think about special dividends going forward?

Thanks, Ryan. Great question. We have been outearning the dividend every quarter since inception to continue to increase on a GAAP basis through this year. So, I mean, the tax number is going to be a little different, but on a GAAP basis, we'll continue to outearn. And as you note, there's probably $22.8 million. That's in addition to the $16 million that we had in roll-forward at inception. So that's a total of about what, $0.66 a share of spillover on a GAAP basis. That said, on a -- from a dividend perspective, we continue to analyze our dividend policy and mostly focused right now on making sure we continue to outearn the dividend.

I'm showing no further questions at this time. I would now like to call -- turn the call back over to Howard Levkowitz. Your line is now open, sir.

Thank you.

We appreciate everyone's questions today as well as our dialogue. I would like to thank our experienced, dedicated and talented team of professionals at TCP Capital. Thanks again for joining us. This concludes today's call.

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