WhiteHorse Finance Inc (WHF) 2014 Q3 法說會逐字稿

Good morning. My name is Paula, and I will be your conference facilitator today. At this time I would like to welcome everyone to the WhiteHorse Finance third quarter 2014 earnings teleconference. Our hosts for today's call are Jay Carvell, Chief Executive Officer; Bill Markert, Chief Operating Officer; and Gerhard Lombard, Chief Financial Officer.

Today's call is being recorded and will be available for replay beginning at 12 PM Eastern Time. The replay dial-in number is 404-537-3406, and the PIN number is 19146769. (Operator Instructions). It is now my pleasure to turn the floor over to Emilie Lehan of Prosek Partners.

Thank you, Paula, and thank you, everyone, for joining us today to discuss WhiteHorse Finance's third quarter 2014 earnings results.

Before we begin, I would like to remind everyone that certain statements made during this call which are not based on historical facts, including any statements relating to financial guidance, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Because these forward-looking statements involve known and unknown risks and uncertainties, these are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements. WhiteHorse Finance assumes no obligation or responsibility to update any forward-looking statements.

With that, allow me to introduce WhiteHorse Finance's CEO, Jay Carvell. Jay, you may begin.

Thanks, Emilie. Good morning. Thank you for joining us today. I hope you had a chance to review our press release announcing our results which was issued this morning before market open. I am going to take you through some highlights for the third quarter before turning the call over to Gerhard to walk you through our financial results.

While the third quarter experienced many of the same challenges and credit markets that we've seen over the past year, we continue to source high-quality loans, the result of our efforts building a healthy pipeline across multiple geographies and industries, working closely with H.I.G. Capital to identify and source new loans, and remaining focused on opportunities where we possess informational or systematic advantages. Since early 2013, we have focused our efforts building a diversified, stable portfolio that can weather market volatility while enabling us to provide sustained returns to our shareholders.

During the third quarter we invested $65 million across 16 portfolio companies, bringing our investment activity to approximately $172 million for the year, which is $20 million ahead of last year's nine-month pace. As such, our third-quarter activity has kept us on track to reach our full year 2014 investment goals.

Gross proceeds from sales and repayments for the quarter totaled $44 million, which was in line with our expectations. For the year, gross proceeds from sales and repayments are now at $79 million, or $34 million lower than the first three quarters of 2013. The primary driver here is the decline in the pace of refinancings this year over 2013, reflective of call protection embedded in our portfolio as well as general credit market conditions.

Gerhard will provide more details on our financials in a moment, but I want to spend just a few minutes providing some color on our investment portfolio. As of September 30, the fair value of the portfolio was up to $369 million, an increase of $155 million from the third quarter of 2013, and approximately $22 million higher versus what we reported last quarter. Our investment portfolio of 36 total positions is primarily comprised of senior secured loans to 34 companies in more than 25 different industries, with an average investment size of $10.3 million and a weighted average yield of 10.3%. None of our investments are currently in, or have been in, nonaccrual status.

More than 95% of the loans in our portfolio are variable-rate instruments, indexed to LIBOR, which should continue to petition the portfolio well for a potential rising interest rate environment. The $65 million we invested in the third quarter was spread across 16 companies and 15 different industry segments, including broadcasting, healthcare, auto parts, and oil and gas. The $44 million of proceeds we received from sales and repayments was primarily attributable to our investment in TCO Funding Corp., whose debt was repaid after the company was acquired.

Also, ARSloane Acquisition and ILC Industries both refinanced their debt facilities this quarter. The remainder came in through scheduled repayments, amortizations and suites, including $5 million from GMT through the cash sweep agreement that we've discussed on previous calls.

Next, I would spend a moment discussing the markets and our positioning. During the third quarter, capital markets remained active and competitive, with spreads continuing to flatten, though at a slower pace than the prior 9 to 12 months. Credit markets in general have been volatile, early in the fourth quarter, in response to a number of macroeconomic factors.

As we have mentioned in previous calls, activity in the broader credit and high-yield markets has influence over the smaller end of the spectrum, even is if it is somewhat muted. We expect that to continue to be the trend in our existing portfolio and pipeline. Despite general market instability and difficulties, we are finding healthy opportunities in the middle and small-cap credit space, and believe our portfolio is well-positioned to withstand movements in the market.

And, while we expect to encounter competition in the space as institutional investors continued to seek yield wherever they can find it, we believe our commitment and discipline in the underwriting process will produce appropriate opportunities for our overall portfolio. As we approach 2015, our focus remains on sourcing quality risk-adjusted opportunities that allow us to meet our goals from an origination and distribution standpoint. We are pleased with the pace of net originations through the third quarter as well as the forward pipeline.

With that, I will now turn the call over to Gerhard. Gerhard?

Thanks, Jay. Looking at our results for the quarter ended September 30, 2014, net investment income was $4 million, with compares with $4 million reported prior quarter. Third-quarter fee income was $346,000. Net unrealized gains on investments were $520,000 compared with net unrealized losses of $262,000. Unrealized gains recognized during the quarter were primarily attributable to the reversal of unrealized losses.

We reported an increase in net assets is from operations of $4.6 million, or $0.31 per share for the third quarter of 2014 compared with $6 million or $0.40 per share in the third quarter of 2013. The variance between the two quarters relates primarily to pre-payment fees of $1.7 million or $0.12 per share that were recognized on one transaction during the third quarter of 2013.

Expenses for the quarter totaled $5.2 million, primarily consisting of the interest on our credit facilities of $1.4 million, and base management fees and performance-based incentive fees of approximately $2.9 million. This compares with $4.8 million in expenses for the three months ended September 30, 2013.

Switching over to portfolio and investment activity, as of September 30, fair value of WhiteHorse Finance's investment portfolio was $369.2 million invested in 36 positions across 34 companies, and remains primarily comprised of senior secured debt. The weighted average current yield in the portfolio for the quarter was 10.3% compared with 10.6% in the second quarter of 2014. In addition, there were no downgrades to the risk ratings of any investments in the portfolio. Plus, there were no nonaccrual loans as of September 30, 2014.

Turning to our balance sheet, we had cash resources, inclusive of restricted cash, of approximately $26.5 million for the third quarter of 2014. This compares with $96 million as of December 31, 2013; and $132.4 million as of the third quarter of 2013. As of September 30, 2014, the Company had indebtedness in the form of senior notes and two credit facilities, that, on a combined basis, were [undrawn] by approximately [$118 million]. We are comfortable that our cash position and credit lines will continue to provide us the ability to source loans and meet our origination goals for the foreseeable future.

The Company's asset coverage ratio for borrowed amounts, as defined by the 1940 Act, was 292% as of September 30, well above the statute's requirement of 200%. Net asset value was $227.1 million, or $15.16 per share as of September 30, 2014, essentially flat when compared with $227 million, or $15.16 per share as of December 31, 2013.

Last, I would like to highlight our quarterly distribution. On August 26, we declared a distribution for the quarter ended September 30 of $0.355 per share for the total distribution of $5.3 million. The distribution was paid to stockholders on October 3, 2014. This marks the Company's eighth consecutive distribution since our IPO in December 2012. And we expect to be in a position to continue our regular distributions.

That concludes my formal remarks, and I will now turn the call back to the operator for your questions. Operator?

(Operator Instructions). Rick Shane, JPM.

The comment was made that you guys feel that you have the liquidity to fund the foreseeable pipeline. I would love to talk about the strategy here.

You have done a good job deploying the original capital, and now you are sort of approaching what we consider to be optimal leverage. The stock is trading at a discount to NAV, and has for the better part of the year at this point. I would love to have you guys explore what the next steps are, what you think is the maximal prudent leverage, what the Company's willingness to issue equity below NAV is, or what the next steps are at this point.

Good question. I am not sure that we are at optimal leverage yet. The question really is partly market-driven and partly portfolio driven, and looking at our balance sheet over time, and trying to assess what the optimal leverage there is.

As we continue to deploy capital, and as Gerhard pointed out, we feel like we have ample liquidity there to meet those goals and to optimize the portfolio. You will see us continue on our original strategy that we outlined at the IPO process of originating loans in the small and mid-cap space into companies that we like from a risk-adjusted basis.

As we continue to do that, I think you'll see the leverage both creep up just a little bit and find that level somewhere, I'm assuming somewhere north of 0.7 times. Obviously we know what our limits are on that. And I think you'll see the overall liquidity of the portfolio improve and also the NAV, where we trade in respect to NAV, improve.

Got it. And is there opportunity within the portfolio to rotate out of some of the lower-yielding investments as a way to continue to enhance the yield on the portfolio?

Yes. That's a good point, and I didn't make that well during that answer. But yes, we see certain parts of the portfolio there that we will rotate out of as we find more attractive deals. And while part of our strategy is to deploy capital and to use cash officially, we also are continually looking to optimize the portfolio and find deals that have better yields and better risk-adjusted returns. And we will rotate out of those deals that have a little bit lower yield into deals where we have a little bit higher yield, as we originate.

Got it. Okay. Thank you guys.

Troy Ward, KBW.

Just to follow up quickly on Rick's question, I think one of the pieces was kind of your appetite for equity at current levels where you're trading. If you could respond to that, I would appreciate it.

Sure. As you guys noted on other calls, we do have the ability to issue below NAV. That was part of the standard package with our Board meetings. It's not something we are exploring today. It's obviously just another tool that you have there.

We think that we will continue to originate deals, and the portfolio will take care of itself and the market will take care of itself. I try not to manage for the price here. We are really just trying to manage for the best portfolio. And we think that that will take care of itself in the stock price.

Okay, great. And then, as we think about the portfolio, I think for us that's quite honestly the biggest concern is if you look at your activity -- in the current quarter, for instance, you did 10 -- by looking at the portfolio, we see 10 new companies added to the portfolio. One of those has a yield of 11.5%. Now, if we eliminate that one, and look at the other nine, the average size of the investments is $3.5 million and the average yield is 7.2%, which includes the floors.

How should we be thinking about -- you talk about seeing good opportunities and adding good things to the portfolio, when nine of these yield 7.2%. How should we think about the pipeline and how long these are going to be in the portfolio?

Good point. So, we tend to think of our portfolio in three buckets, and this is reflected in the presentation that is on the website. And you take a look at that, it points out that we look at it in terms of originations, in terms of participations or syndications with other deals, and more of a transitory or trading bucket.

And so, while -- if there is cash available in the portfolio in a place where we feel like we can do some trading and use up some cash, then I think you'll see us do some of those lower-yielding deals. Those are also ones where we feel like we can trade out of as we originate more and as we find other things in the participation and syndication bucket that make sense. So, the lower yielding things are probably more transitory in nature, and those are things that we will cycle out of as we use some of our other opportunities.

Okay.

So we feel like it's a good use of cash in general. If you are not originating or you don't have a clear path in the very near future to closing, and we talked about how lumpy these things can be. They tend to close on their own pace. And we don't always control exactly how quickly that happens.

And if you are looking at that, we really do feel like there's a good use of cash. We'd rather be in something that yields something like you were talking about, as opposed to what we are earning on cash, which is fairly de minimis.

But, quarter over quarter, the cash balance went up and you actually drew -- you have $33 million out on the facility. Is that correct?

It's a good question. We actually paid down the facility over the prior quarter. If you look at balance sheet, you will see there's a large unsettled a balance of approximately $47 million at quarter end. So essentially we are earning interest on those investments, but we haven't settled those trades yet. So it's actually a good outcome from a yield standpoint. There is no (multiple speakers)

Yes, I see that. Okay. And then, can you talk about the pipeline, Jay? When you talk about great deals in the pipeline and opportunities to earn better yields, so what is the current yield on the pipeline? And how many of these other trading investments do you think will be used to fund that pipeline?

The focus of the pipeline is very much origination side of the business. It is hard for me to give you what I think what the yield is on those. Those tend to be at the higher end of what we do at our portfolio, and in general I think you will recall we don't try to talk specifically about what we are seeing in the portfolio.

Our pace -- I will let Gerhard hit it in a second -- but kind of what our pace has historically been, and what we are seeing -- and I would tell you that our forward pipeline look similar in nature to what we've done, both from a yield and kind of size standpoint.

And I will add to that. If you look back to the calendar 2014, from an origination standpoint, we've originated, Q1 was 11%. Q2 was 11.5%. Q3, as you pointed out, slightly lower and includes that higher-yielding asset, but that was a 9.3%. And so we have been looking at yields in the low teens, around 11%, from a direct origination standpoint.

So your current portfolio yield, I think you mentioned, was 10.3%. And then the real question that investor should be asking is, you are paying a $0.36 dividend. You have earned $0.27 for three quarters in a row. Where does the portfolio yield have to be, not on a quarterly basis, but where does the portfolio yield have to be for you to earn your dividend? And how are you going to make that happen?

It's a good question. You are right. That is the one you are supposed to ask. And I would point you back again to the presentation on the website. We put together some scenario analysis there that walks you through essentially the two or three variables that you need to assess, which would be pace and leverage and yield. And you can kind of -- and you have to kind of make your assumptions on those. But we have put out a few ways to look at that and see where we have to be.

I think, in general, you can make the assumption that if we continue the pace that we have historically, you can see where we start to earn that dividend. It's not that far out in the future. But, again, you have kind of got to make your assumptions within that model, but there's not that many assumptions to monkey around with.

Okay. Thank you.

(Operator Instructions). Terry Ma, Barclays.

I think most of my questions have been answered. But on the New Mountain financing, your loan program investment, it looks like you guys added to it this quarter. Can you just remind us what the expected return on that investment is? And just more broadly speaking, when you think about investments in your nonqualified bucket, what type of required returns are you looking for?

If I heard your question correctly, it is about the expected return on New Mountain. As you pointed out, you can see on the P&L this quarter we recognized the first dividend, which was declared during Q3.

Now, that portfolio hasn't completely ramped. And so the first distribution I don't think is really reflective of what we are going to see there going forward. Our expectation is that's going to be of low teens type return investment, which is in line with our investment strategy. So it kind of fits right into what we are looking at from an origination standpoint.

But, again, you should -- during Q4, you should see the next distribution come in, which should be at a more fully ramped level and more reflective of a go forward return.

The second half, Terry, in terms of the 30% bucket -- our view on that is that that is a good tool to have. We are certainly cognizant of the availability of capital there. We are not looking to maximize that.

There are several places that you can put that capital, including things like the senior loan fund and other finance-related companies. We are looking at those. We have some expertise in that space across the rest of H.I.G. And so as we see things that make sense and opportunistically want to invest there, you will see that. But it is not a goal of ours to maximize that at any point in time, just to maximize it.

Okay, great. Appreciate the color. That is it for me. Thanks.

There are no further questions at this time.

I would now like to turn the floor back over to Jay Carvell for any additional or closing remarks.

Thanks for joining us today, everybody. We look forward to speaking to you next quarter.

Operator, back to you.

Thank you. That does conclude today's conference call. Thank you for your participation. All participants may disconnect at this time.