BlackRock TCP Capital Corp (TCPC) 2021 Q4 法說會逐字稿

Ladies and gentlemen, good afternoon, and welcome, everyone, to BlackRock TCP Capital Corp.'s Fourth Quarter and Full Year 2021 Earnings Conference Call. Today's conference call is being recorded for replay purposes. (Operator Instructions)

I would now like to turn the call over to Katie McGlynn, Director of BlackRock TCP Capital Corp. Investor Relations team. Katie, please go ahead.

Thank you, Charlie. Before we begin, I'll 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.

Earlier today, we issued our earnings release for the fourth quarter and full year ended December 31, 2021. 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 & Presentations. These documents should be reviewed in conjunction with the company's Form 10-K, which was filed with the SEC earlier today.

I will now turn the call over to our Chairman and CEO, Raj Vig.

Thanks, Katie, and thank you all for joining us today for TCP's Fourth Quarter 2021 Earnings Call. I will begin today's call with a few comments on the market environment as well as highlights from our fourth quarter and full year 2021 results. I will then turn the call over to our Chief Operating Officer, Phil Tseng, who will provide an update on our portfolio and investment activity. Our CFO, Erik Cuellar, will then review our financial results as well as our capital and liquidity positioning in greater detail, and I will then close with a few concluding remarks. After our prepared remarks, we will all be available to take your questions.

Turning to the current market environment. In prior calls, we have expressed our view that in general, private capital markets performed well during the pandemic and that direct lending, in particular, emerged as a well-positioned source of financing for a wider spectrum of middle market companies. We continue to believe that, that is the case. Activity during Q4 and the full year 2021 was among the busiest in our over 2 decades of investing and current activity levels in the middle market remain robust. We work with a broad range of businesses as they seek to finance growth, make acquisitions or simply refinance existing debt with greater earnings power. As such, we believe that our shareholders continue to benefit from our efforts and expertise as our direct lending investments deliver a premium source of income and an attractive risk award position relative to other fixed income investment categories.

I'd now like to review our fourth quarter performance and discuss a few key highlights for 2021, a year in which our team again delivered strong results for shareholders. First, we had strong NAV appreciation. Year-over-year NAV per share increased 8.5%, including an increase of 1.9% in the fourth quarter alone. This performance was driven by both realized and unrealized gains in our portfolio holdings as well as by net investment income that continues to exceed dividends paid. Our ROE for the full year was 17.5%, the highest level since TCPC became a public company in 2012, reflecting strong portfolio performance combined with a lower cost of capital.

Second, portfolio credit quality remains strong. As of December 31, non-accruals were limited to just 0.9% of the portfolio at fair value and have remained at 1% or less throughout the pandemic. Our excellent credit quality is a function of our disciplined and consistent underwriting process, along with a stable or improving profitability across many of our portfolio companies, even during the midst of the pandemic. Third, as Phil will discuss in more detail, the strength of our underwriting platform continue to drive robust investment activity. Year-over-year, TCPC's investment activity increased 65% and was up 8% versus the pre-pandemic levels in 2019. We reviewed nearly 1,000 investment opportunities across the U.S. private capital platform in 2021, which is a testament to the strength of the relationships we've developed with a wide variety of deal sources as well as the extensive resources and relationships with the broader BlackRock platform.

During the fourth quarter, we deployed more than $180 million in capital and continue to identify attractive opportunities across our industry groups. We also had approximately $115 million of sales and repayments, resulting in net portfolio growth of $67 million. Fourth, we further optimized our balance sheet and liability profile during the year. We issued a total of $325 million of unsecured notes due February 2026 at attractive rates. As a result, we were able to redeem higher cost notes that were due in August 2022 prior to their maturity, thereby taking advantage of the attractive financing environment to further reduce our cost of capital.

Additionally, we amended one of our 2 credit facilities on more favorable terms, including lowering the headline borrowing rate on the facility. We continue to seek ways to diversify and enhance the right side of our balance sheet and are benefiting from the significant flexibility in our existing capital structure. Fifth, in addition to our strong performance and financial results in 2021 and as an indication of our commitment to strong corporate governance, TCPC's Board of Directors elected our existing long-time Board member, Eric Draut, to serve as lead independent director.

And finally, we extended our record of continuous dividend coverage having done so every quarter since we took the company public in 2012. On February 24, our Board declared a first quarter 2022 dividend of $0.30 per share payable on March 31 to shareholders of record on March 17. It is also worth noting that we continue to exceed our cumulative total return hurdle. As a reminder, TCPC maintained a 7% hurdle based on total returns, including realized and unrealized gains and losses and with a cumulative look back. Since 2012, we have generated a 10.9% annualized return on invested assets and a total annualized cash return of 9.7%, which we believe is at the high end of our peer group, demonstrating our ability to consistently identify attractive opportunities at premium yields.

Throughout 2021, we capitalized on the scale of our platform and the breadth of our team's experience to grow along with the expanding direct lending market. Some portfolio highlights I'd like to mention. At year-end, our portfolio had a fair market value of approximately $1.8 billion. 89% of our investments are senior secured debt and are spread across a wide range of industries, providing portfolio diversity and minimizing concentration risk. Our portfolio continues to be weighted towards companies with established business models and less cyclical industries.

The portfolio at year-end was made up of 115 -- investments in 115 companies. As the chart on the left side of Slide 7 of the presentation illustrates, our recurring income distributed broadly across our portfolio and is not reliant on income from any one company. In fact, nearly 90% of our portfolio companies each contribute less than 2% to our recurring income. 84% of our debt investments are first lien, providing significant downside protection and 95% of our investments are floating rate, positioning us well for the rising rate environment we are likely entering.

Now I will turn it over to Phil to discuss our investment activity and portfolio positioning. Phil?

Thanks, Raj. Moving on to our investment activity. While the number of direct lending managers has grown in recent years, we remain one of a small group of reputable lenders capable of providing complete and customized financing solutions. As such, we emphasize transactions where we act as a lead, co-lead or part of our small club with lenders, negotiating deal terms and conditions that we believe provide downside protection on our investments.

Also of note, our team is generally finding opportunities to invest at a higher spread than the average middle market transaction. This is a direct result of our extensive long-standing set of relationships developed over the past 2 decades as well as our industry specialization, which are deal sources value and enables us to assess and underwrite risk well. We sourced an increasingly large set of investment opportunities. And while we've been actively deploying capital in this market, we maintain a very disciplined approach to investing. We regularly review a substantial number of opportunities, but we end up investing in only a small percentage of them.

As an example, while we reviewed nearly 1,000 potential investments across the U.S. private capital platform in 2021, we invested in fewer than 60 of them. Investment activity in the fourth quarter was robust for new deployments as TCPC invested $182 million, primarily in 19 investments, including loans to 11 new portfolio companies and 8 existing ones. Follow-on investments in existing holdings also continue to be an important source of opportunity, accounting for nearly 40% of our total investments in 2021. Incumbency has clearly become an important factor in sourcing investments. And from a risk management perspective, these are companies we already know and understand well, and therefore, are very comfortable making these follow-on investments.

As we analyze new investment opportunities, we emphasize seniority in the capital structure, portfolio diversity and transactions where we can act as lead or co-lead. Our largest new investment during the fourth quarter was a first lien incremental term loan to Pico Trading. Pico is a provider of infrastructure services, network connectivity, data analytics and cloud services for the financial services industry. Pico's customers include some of the largest financial services companies in the U.S. It's also a great example of how our existing portfolio generates attractive opportunities.

The company was looking to secure financing for a strategic acquisition and needed to move quickly. Given BlackRock was the sole lender on their existing first lien term loan, Pico approached our team to provide the acquisition financing. And we saw this as an attractive opportunity to increase our investment in a portfolio company that has performed well since our initial investment and that has been able to witness firsthand how well management executed upon its business plan and continue to grow the company both organically and through acquisitions.

Our second largest investment in the quarter was a second lien term loan to Anthology to support its acquisition of Blackboard. The combined company is a scaled market leader in end-to-end software solutions to higher education institutions. Anthology's equity sponsor reached out to BlackRock directly given their experience working with us on very similar transactions. Leveraging our team's experience investing in online learning platforms, we saw this as a great opportunity to provide second lien financing to a combined company with strong competitive positioning and that is benefiting from very favorable industry tailwinds.

New investments in the fourth quarter were offset by dispositions and repayments totaling $115 million. These included the sale of a portfolio of asset-backed credit-linked notes managed by Credit Suisse as well as the sale of our loans to Onyx Centersource, the payoff of our loans to live auctioneers and a pay down of our loan to OneSky. Our successful exit of Onyx is worth noting, as the company, which is a leading payment solutions vendor to the hospitality industry had experienced challenges as a result of the pandemic. We were able to sell our loans at a price that was meaningfully higher than our recent marks and ultimately delivered a healthy return.

The overall effective yield on our debt portfolio was 9.2% as of December 31. Investments in new portfolio companies during the quarter also had a weighted average effective yield of 9.2%. And the weighted average effective yield on exited positions was roughly 9.5%. Given that 95% of our debt portfolio is floating rate and the majority of our outstanding liabilities are fixed rate, we believe we're well positioned for when rates rise. In fact, while a 100 basis point increase in interest rates would have a modestly positive impact on our earnings, given we have interest rate floors on the majority of our loans, a 150 basis point increase in rates would result in approximately a $0.12 per share increase in our annual net investment income.

We continue to invest selectively in 2022, maintaining our underwriting discipline, and focusing on companies with established business models that are well positioned to succeed throughout economic cycles. Our pipeline is healthy, and we continue to source opportunities from a broad range of sectors. The yields on investments in our pipeline are generally in line with our current portfolio. And to date, we have had limited prepayment income in the first quarter.

Let me now turn it over to Erik to walk through our financial results as well as our capital and liquidity positioning.

Thanks, Phil. I will now cover our financial results for the fourth quarter and the full year in 2021. For the fourth quarter, we generated net investment income of $0.31 per share, which exceeded our dividend of $0.30 per share. And for the full year, we generated net investment income of $1.26 per share, outearning our dividends for the year by $0.06. We continue committed to paying a sustainable dividend that is fully covered by net investment income. And today, as Raj noted, we declared our first quarter dividend of $0.30 per share.

Investment income for the fourth quarter was $0.69 per share. This included recurring cash interest of $0.59, recurring discount and fee amortization of $0.02 and PIK income of $0.04. Notably, our PIK income for the year was the lowest level in more than 3 years. Investment income also included $0.02 of dividend income and $0.02 from accelerated OID and exit fees. As a reminder, 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 expenses for the fourth quarter were $0.31 per share and included interest and other debt expenses of $0.17 per share. Incentive fees in the quarter totaled $3.7 million or $0.06 per share. Our net increase in net assets for the quarter was $32.6 million or $0.56 per share, which included net unrealized gains of $21.4 million or $0.37 per share, partially offset by net realized losses of $6.5 million or $0.11 per share. Unrealized gains during the fourth quarter primarily reflected a $10 million increase in the value of our investment in core entertainment, a $5 million increase in Edmentum and a $2 million increase in Razor Group.

Unrealized gains also included the reversal of previously unrealized losses on our investments in Onyx and a portfolio of credit-linked notes as we exited both investments. These exits were also the primary driver of the $6.5 million of net realized losses recognized in the fourth quarter. Substantially, all of our investments are valued every quarter using prices provided by independent third-party sources. These include quotation services and independent valuation services. And our process is also subject to rigorous oversight, including back testing of every disposition against our valuations. Our credit quality remains strong with non-accruals limited to just 3 portfolio companies that in total represent just 0.9% of the portfolio at fair value and 1.7% at cost at December 31.

Now turning to our liquidity positioning. We ended the quarter with total liquidity of $352 million relative to our total investments of $1.8 billion. This included available leverage of $356 million and cash of $20 million, net of trade spending settlement of $23 million. Unfunded loan commitments to portfolio companies at quarter end equaled 7.2% of total investments or approximately $132 million, of which only $31 million were revolver commitments. The increase in unfunded commitments quarter-over-quarter was primarily driven by 2 delayed draw commitments that had not yet funded as of December 31.

Our diverse and flexible leverage program includes 2 low-cost credit facilities, a convertible note issuance, 2 unsecured note issuances and an SBA program. And our unsecured debt continues to be investment-grade rated by both Moody's and Fitch. Additionally, given the modest size of each of our debt issuances, we are not overly reliant on any single source of financing, and our maturities are well laddered. Given the success of our latest bond issuance back in August and the significant capacity on our credit facilities, we are very well positioned to redeem or refinance our convertible notes due next week. Combined, the weighted average interest rate on our outstanding liabilities decreased to 3.26% from 3.54% at the beginning of 2021.

And with that, I'll turn it back over to Raj.

Thanks, Erik. To conclude, we are pleased with our fourth quarter and full year results and are confident in our team's ability to deliver strong ongoing risk-adjusted returns for our shareholders. We also remain cautiously optimistic regarding current investment environment. While we have seen an increase in volatility in the public markets to start the year, likely [defined] by concerns around inflation, supply chain disruptions and uncertainty on rates, transaction volumes in the private markets are healthy and revenue and EBITDA growth trends are strong across the middle market and our portfolio.

In this environment, we are leveraging our team's competitive advantages, including over 2 decades of experience lending to middle-market companies. Our long track record, combined with our industry specialization makes us a unique and valuable partner to our borrowers and deal sponsors. In addition, our experience in structuring loans that are downside protected has contributed to exceptional long-term performance. These advantages enabled TCPC to deliver a 17.5% ROE in 2021 and a 26.9% ROE since the start of the pandemic.

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

(Operator Instructions) We will now take our first question from Kevin Fultz of JMP Securities.

So as you mentioned in your prepared remarks, you were able to lower the overall cost of capital in 2021 by issuing the 2.85% unsecured notes and then also amending the credit facility. Just curious if you see additional opportunity to lower financing costs and what that might look like, particularly with the convertible notes maturing in early March.

Yes, I can take that one. Yes, we definitely continue to watch the markets. Obviously, it's been a tough week so far. But we always look to the capital markets and opportunistically reach out to the markets as we've done in the last few years. As we mentioned, we're very well positioned to take out our converts, which are coming up due next month. And those are the highest trench so far in our capital structure. So those are coming off the balance sheet. We can very well repay those with our credit facilities, which have a significantly lower cost than the converts, but we definitely continue to monitor the capital markets.

Yes. And Kevin, I would just add that we've certainly tried to keep sufficient flexibility in the balance sheet to do just what Erik was mentioning, so we're not holding or requiring to just take the what the market prices at that point in time, but we will continue to opportunistically look and monitor. And I think there is an increasing number of investors getting familiar with the BDCs than in the past. So I think that's a positive. But overall, we're comfortable where we are and have the flexibility to deal with the upcoming debt.

Okay. Understood. And then just a follow-up question related to interest rate sensitivity. Could you provide the weighted average LIBOR floor for floating rate investments?

Sure. That's 90 basis points, 0.9%.

Okay. 90 basis points.

The next question comes from Robert Dodd of Raymond James.

Just a question about prepay income, right? I mean over the long-term average, you've averaged about $0.05 in prepay fees quarter. Over the last 8 quarters, there's only been 1 quarter that's actually hit or exceeded that. Has there been anything structurally you think that's changed in the portfolio to result in lower levels of prepay income? Or is it just -- it's that part of the cycle, so to speak? I mean, there's been other periods where it's been low for a while as well. And obviously, you said you've seen limited in Q1 so far. But I mean, any color on -- is it lower than new norm? Or do you expect it to rebound at some point?

Yes. It's -- thanks, Robert, the question and the compliment. Look, I think it's a very good question, and we certainly discuss it on our side. I think the short answer is, there isn't anything that's changed in the portfolio or the positioning. I think it's just a lower level. And to be honest, on the one hand, it's positive because we're keeping money outstanding with companies we know and are comfortable with longer. From a risk point of view, it's -- you're just having that experience, lets you make the right types of decisions. On the other hand, you're not taking up that income that is more episodic. But to be honest, it is a smaller and smaller portion of income. And we've had a higher NII overall. So the run rate NII is actually a higher quality as well.

But the other side of it is, as Phil mentioned, something like 40% of our deployment is coming from the existing names. So not only are their names staying outstanding longer, we're actually adding on to them at an increasing level. Again, a positive, in my opinion because you're putting money out to companies and credits you know. So I don't know that it's necessarily any structural change or positioning in the portfolio. It does feel like winners are seeing winners longer. And I guess with rates rising or more likely to rise, people are less actively refinancing opportunistically. So maybe there's an element of that, but overall, it isn't something that we're doing consciously. And I think there's a lot of benefits to it, but it is a notable difference from prior periods as you mentioned.

I appreciate that detailed answer there. I mean on the point on the incumbency, do you have any data about -- do you have data supporting an evidence that being 40% incumbent bores -- produces better credit protection for investors? Or is it -- I don't want to say it's easier to do an incumbent borrower. It's not. But is there actually upside from a credit protection in doing that in the data? Or it just feel that way?

Yes. Let me -- I'll start, and Phil may have additional comments. But I think on the one hand, the data we looked -- and maybe it's not tied to incumbency specifically, but maintaining a 1% or less non-accrual level through what is obviously a notable credit risk cycle in the pandemic, I think, has proven the putting of doing something, right. I think any time we add on to a loan, we do have a chance of going back and either tightening up. And you get a chance to re-underwrite in many ways because you can go back and tighten up the documents, if that's appropriate. You have a chance to -- you have a history of credit performance through prior earnings and on a closely watched basis.

So I think intuitively, it feels like that is certainly something that's credit-enhancing or at least a chance to go back and reassess your original estimates and underwriting. I think the data I would point to is just the overall performance of the portfolio. I wouldn't -- it's not isolated to the incumbents, but certainly the incumbents are a pretty big part of that driving that empirical outlook put. But Phil may have some additional comments in addition to my observations.

Yes, Robert, thanks for that question. I'll just add to what Raj is saying. Oftentimes in these situations where we do provide an incremental loan to existing borrowers. We have a seat at table and we're often negotiating and structuring favorable situations for us, whether that's through the document, whether that's through pricing or other structural consideration. Pico is a great example where we had an opportunity to tighten things up. And we had a opportunity to really diligence the add-on target that the company was contemplating and acquiring.

And we're very pleased with the outcome of the due diligence. So that's a great example of us wanting to put good money after good investments. And oftentimes, in these situations for add-ons generally, the equity sponsor is also putting in additional capital to continue supporting the business and funding, let's say, the acquisition or the growth. So these are often good situations in our opinion, to invest in.

Congrats on the year and the 2 years really.

(Operator Instructions) Our next question comes from Christopher Nolan of Ladenburg Thalmann.

Is there a timing -- excuse me, in the event of a rate increase by the Fed, would there be a timing difference between revenues increasing as opposed to what your interest expense could rise?

Chris, this is Erik. Yes. I think there is a very small timing lag. Most of our loans reset quarterly, some of them monthly. And so that any pickup in rates would kick in at the next reset date, so either the next coming month end or quarter end.

Okay. And then as a follow-up question, strategically, for much of the past year, I mean, you guys have posted some really good returns, but your stock price has lacked, more often not trading below book value per share. And I'm trying to understand where are you guys sort of thinking about how to increase the stock price multiple. I mean you -- I mean, performance is not an issue. Is it something else? I'd like to hear your thoughts on that.

Funny, I was going to ask you the same question, Chris, because I think what we can control…

I'd say more into [having into] my input but offline. But you guys are doing great. So (inaudible) time, the stock price is struggling.

I appreciate the observation. And I don't want to speculate. I guess what we've tried to -- what we can control, we have tried to control and I think that is portfolio selection, investment performance, positioning for the rate environment. So I think we've done what we think is appropriate. And while we're disappointed where the stock is at some level, that's all we can do. And we're hoping people pick up on the same comments that you mentioned, and we'll just continue to try to maintain that performance. I don't know that I have a magic answer or sort of a targeted set of observations other than observing the same thing you've observed, but we're just going to keep trying to perform the way we think investors would like us to and hopefully, things follow in a positive way from that.

Okay. We'll take it offline.

The next question comes from Ryan Lynch of KBW.

First one, I just wanted to hit on. Obviously, there are a lot of different worries and concerns in the market, but maybe the one that's probably most focused on is just inflation issues both labor and potentially raw material or input cost inflation. Your portfolio looks like it has a lot of services, different sort of services, industry exposure. So maybe it's less of a worry. But as you guys are kind of evaluating your portfolio and then borrowers, are there any particular companies that you guys have noticed that that may have a harder time passing along those higher input costs to the end user and you're more concerned about going forward?

Yes. No, it's a good question. And I think your observations are astute in that much of our portfolio is services. There's a lot of technology and just general business services. And what we do at the time of underwriting, even before inflation became kind of a topic of the day was really to make sure we understand that there is pricing power on the revenue side in these companies, whether it's on the subscription revenues or it's the actual pricing per engagement on -- for service companies. And we don't have a lot of heavy manufacturing. So the other concern these days the supply chain and input costs. And I think there's not a lot of exposure in terms of the -- where types of companies that those issues will hit.

So I think we're comfortable that these companies have that ability. I think the one thing that we are watching more closely is not so much on the inability to pass on pricing, but it's really labor and wage inflation. And that's for -- and obviously, we underwrite with a fair bit of buffer and conservatism. So to the extent there is the normative increases in that area or other inputs, these companies and these capital structures can handle it. But I wouldn't sort of highlight any one company or an area that other than a normal course that we feel is outsized, exposed. In fact, I think we have less exposure to some of the topical issues, but I can't point to any empirical evidence. It's just more intuition.

Okay. That's good to hear. And then my other question was, you guys mentioned a $10 million unrealized gain in core entertainment. Can you talk about what drove that increase in value in that portfolio company?

Sure. Phil, you want to take that one or you want me to take it?

Yes, go ahead, Raj.

Okay. Basically, it was a sale of the business. So it was actually a value tied to an actual transaction value, strategic acquirer. And so I think that highlights in many of these names where we have some equity or equity exposure, we try to tend to value them reasonably, if not conservatively. And Edmentum was another example where we've obviously seen consistent markups and oftentimes tied to cash investments or cash related transaction. But core to be specific was tied to a sales price of the business to a strategic buyer.

Well, congrats on that successful exit.

There are no further questions on the line at this time. So I'll hand the call back over to Raj Vig.

Thank you. We appreciate your participation on today's call. I would like to take a moment to thank our team for all the continued hard work and dedication, particularly through the pandemic and all the challenges it posed. I would also like to thank our shareholders and capital partners for your confidence and your continued support. Thanks for joining us. This concludes today's call.

This concludes today's call. Thank you for joining. You may now disconnect your lines.