Good morning, and welcome to THL Credit Inc. earnings conference call for its second fiscal quarter ended June 30, 2019. It is my pleasure to turn the call over to Ms. Sabrina Rusnak-Carlson, General Counsel of THL Credit Inc. Ms. Rusnak-Carlson, you may begin.

Thank you, Operator. Good morning, and thank you for joining us. With me today are Chris Flynn, our Chief Executive Officer; and Terry Olson, our Chief Operating Officer and Chief Financial Officer. Before we begin, please note the statements made on this call may constitute forward-looking statements within the meaning of the Securities Act of 1933 as amended. Such statements reflect various assumptions by THL Credit concerning anticipated results that are not guarantees of future performance and are subject to known and unknown uncertainties and other factors that could cause actual results to differ materially from such statements. The uncertainties and other factors are in some ways beyond management's control and include the factors included in the section entitled Risk Factors in our most recent annual report on Form 10-K as updated by our quarterly report on Form 10-Q and our periodic and other filings with the Securities and Exchange Commission. Although we believe that the assumptions on which any forward-looking statements are based on our reasonable, any of those assumptions could prove to be inaccurate, and as a result, the forward-looking statements based on those assumptions also could be incorrect. You should not place undue reliance on these forward-looking statements. THL Credit undertakes no duty to update any forward-looking statements made herein. All forward-looking statements speak only as of the date of this call. Our earnings announcement and 10-Q were released yesterday afternoon, copies of which can be found on our website along with the Q2 earnings presentation that we may refer to during this call. A webcast replay of this call will be available until August 19, 2019, starting approximately two hours after we conclude this morning. To access the replay, please visit our website at www.thlcreditbdc.com. With that, I'll turn the call over to Chris.

Thank you, Sabrina, and good morning, everyone. I will begin today's call with an update on our Q2 financial results and then I will move on to the progress we've made in managing and repositioning our portfolio. Our net investment income for the quarter was $0.28 a share and included a onetime exit free from the sale of LAI of $0.05 per share. Excluding this fee, our core earnings were $0.23 per share versus our dividend of $0.21. The NAV decline to $8.49 per share this quarter was isolated primarily in two credits, Charming Charlie and LAI, with some modest volatility in our Logan joint venture. Both Charming Charlie and LAI have been on nonaccrual and were significantly marked down in Q1, so there was minimal to no impact to income. I'd also like to point out that 90% of our NAV decline over the last three quarters have been concentrated in these two names. Despite the NAV volatility, we believe the fundamentals of business and our portfolio are moving in the right direction. Now let me first address Charming Charlie. Despite a successful ABL refinancing that we mentioned in our Q1 call and the evaluation of additional liquidity sources, the company projected an incremental liquidity need in 2020, which was unable to be filled. And with tough headwinds that many in the retail face -- sector are facing, the company had difficulty securing sufficient trade support, which resulted in weaker inventory levels that led to softer spring sales seasons. As a result, Charming Charlie filed for Chapter 11 bankruptcy in July and is in the process of liquidating. This process is progressing well. Our Q2 mark reflects our current estimated recovery value once all these assets are successfully liquidated. Now let me speak to the sale of LAI. As…

Thanks, Chris, and good morning, everyone. First, a few portfolio highlights. As of June 30, our portfolio of $464 million was invested 64% in first lien senior secured debt and 18% in the Logan JV. As a reminder, the Logan JV is 96% invested in first lien assets. The remaining 18% of TCRD's portfolio was held in second lien subordinated debt and other income-producing and equity holdings. Copperweld and C&K represent over half of the 18% or $48 million. Please refer to Slides 14 and 15 in our earnings presentation, which highlight these trends over the last two years. The weighted average yield on the debt and income-producing portfolio, including Logan, was 9.8%, in line with the previous quarter. Logan continues to perform well and credit quality remains solid. The $336 million portfolio at par of 128 issuers continues to generate an attractive return for our shareholders. We expect to continue to grow Logan as we cycle out of noncore and concentrated positions. At 18% of the portfolio today, we see the upper end in the future at 20% plus or minus at this time. Our long-term yield expectation continues to be in the 11% to 12% range. We were near the lower end this quarter largely due to the portfolio running at lower leverage levels, timing of equity contributions and a continued muted level of prepayment activity in the broader market, which has slowed the accretion in OID and prepayment penalties at Logan. Logan was marked down by $2.4 million or $0.08 per share this quarter largely due to broader credit market movements and pricing in June and some credit weakness in a couple of names. There was one loan on nonaccrual status as of June 30 with a cost basis of $2.5 million and representing less than 1%…

Thanks, Terry. We appreciate this opportunity to update you on our continued progress in Q2. Hopefully, you'll have a better understanding of our efforts to reduce risk and transform the fundamentals of our portfolio. We believe continued diligent execution of our plan is a clear pathway to a more stable and predictable return for shareholders. Thank you, and we look forward to your questions. With that, I'll turn the call back over to the operator to start the Q&A.

[Operator Instructions]. Our first question comes from Lee Cooperman of Omega Advisors.

I had three questions. I'll just put them out there and handle them any way you want. If I take the $0.23 of core earnings over your $8.49 book, we are 10.8% in equity. Is that a number that you think is reasonable, given the way you want to run the business? Do you think you can enhance upon that return, et cetera? So kind of question one is, the ROE target likely to be achieved in the business model -- I'm not interested in the next quarter or two, I'm just looking at over the next 12, 18 months, what is a reasonable target for return on equity for the shareholders given the way you want to run the business in the future? Secondly, the cost of management, taking a full fee with your new arrangement, the cost of management expressed in basis points, percent whatever, so we have a gross return on equity, net return on equity. And third, I think you gave me the answer is the status of repurchase program. You bought -- you have $15 million authorized, you spent $8.4 million. There's $6.6 million left. Is that correct? And what is your time frame assuming the stock is where you want to buy it so if you're spending the $6.6 million?

Perfect. Thanks, Lee. Appreciate the questions. I'll take them in probably inverse order. The math that you outlined is correct. The $15 million program, we have approximately $6.6 million left at our current buying velocity. We anticipate that to be fully utilized in the next 2 to 3 months. To your first question regarding the dividend. I think as we sit back and set the dividend at $0.21, we took a number of factors into consideration, potential stress in the portfolio, what we think the new earnings strength should be as it relates to the type of assets that we're booking and then the potential, when appropriate, of putting incremental leverage on our books. As I sit back and think about the highlights of the quarter, obviously disappointed on the write-down of Charming Charlie, but with that, couple of other factors were still able to cover our dividend at 110% at these lower leverage levels is something we feel very good about. So as I look out into the future, I believe the $0.21 is very strong. It's something that we can support. The other comment regarding the appropriate return on equity. We're in the 10% to 10.5% range. I think most BDCs, they trade at/or around book are in the 9.5% to 10.5% range. So I think that's appropriate. Your second question, I was a bit confused on is that the cost of management -- could you specify what you're looking for in a bit more detail please?

Well basically I guess the cost of management is the 1% management fee plus 17.5% of the profits above the 8% hurdle. That's the way to look at it, I guess, right? You are saying after all cost you think you're going to earn about 10%, 10.5% on your equity.

On a fully loaded basis, Lee, we think we can earn that 10% to 10.5%, right. Yes.

And the next question comes from Kyle Joseph of Jefferies.

I thought you guys did a good job outlining the strategy shift, but I just wanted to go back over any sort of incremental risks do you see to NAV from here? I think you outlined two potential assets that, I don't know, were causing you to lose sleep or just that you were focused on. But beyond those two and given the concentration reduction as well as the portfolio rotation, are you pretty confident in the remaining NAV?

Kyle, thanks, appreciate the comments. As it relates to the portfolio, kind of regardless of the performance of the business, anything that's concentrated is a heightened sense of focus for us. It's been a core comment since the last 18 months. We want to reduce any exposure that's over 2.5% regardless of the company being performed. We highlighted OEM and Holland, OEM, as discussed, is our single largest investment. With that said, the business itself is performing fine. We highlighted Holland as another example, given that we took a small markdown in that this quarter given some industry headwinds. But our focus is -- settle along is to diversify some of the risk associated with our historic portfolio construction by exiting these names and replacing them with substantially more diversified pools of assets. And I think that's the critical component of -- why the fundamental part of our business is working so well. We let a lot of transactions over the last six months and the BDC has been able to participate given the overall size of the broader platform, but do so on a much more diversified basis, which, once that rotation is complete, will substantially reduce the overall risk of the portfolio.

That makes sense. Next question. You guys talked about potentially increasing leverage on the balance sheet. Just interested in your thoughts given sort of the -- an evolving rate environment. Would it be primarily focused on increasing the bank line? Would you seek alternative debt financing options?

Kyle, this is Terry. I think -- look, I mean, we've got some -- we've got capacity under our existing facility to achieve the leverage levels that Chris outlined under our new construct of 1.05 to 1.15. So I don't think we'd have to change the size of our facility. Obviously, we still need to go through the process of amending that. So given the amount of folks that have gone through that process, I'm confident that, that level of leverage can be achieved. I think more importantly, before we go down that path, as Chris highlighted, I think it's important to us to have moved on from these concentrated positions and further diversify, as we outlined. So we kind of expect the two things to happen in tandem, without -- and as a result be able to just utilize more of our existing facility.

Got it. That's helpful. And one last question for me. Appreciate the color you guys provided on Charming Charlie, LAI, Holland, et cetera. But in terms of the rest of your portfolio that you have majority of the portfolio, just want to get a sense of what sort of trends you're seeing from the top and bottom line prospective, particularly over the last few months as we've seen a little bit of more macro volatility out there.

Yes. No, I appreciate the question. I think the good news is that we step back and think about our historic our legacy portfolio and our new portfolio. Since 2014, over 90% of the loans we've originated are performing at/or above expectations. So I think the team has done a very good job in not only selecting credit better but also underwriting and structuring credit better. So the overriding portfolio, what I call, the new strategy, new assets is performing in line or above expectations. So that feels good. There is some select pressure, as we highlighted on Holland. It's one of our remaining energy credits and it's obviously facing some volatility and some headwinds. The good news there it's a first lien investment, so we have a lot to say in how that plays out, but we do see some industry pressure there on that Holland. But the rest of portfolio itself, especially the new things we've underwritten are all performing very well.

And our next question comes from Robert Dodd of Raymond James.

I appreciate the color on LAI and Charming Charlie as well. I mean obviously the comment on LAI that the delay resulted in deterioration of value. Any potential risk of that kind of thing at Charming Charlie obviously in liquidation. Is there -- and your covered marks reflect what you anticipate the liquidation value to be, but how sensitive could that be to potential delays in that process?

Sure. Thanks for your question, Robert. This is Terry. Charming Charlie only has about $600,000 or $700,000 of value ascribed to it at June 30. So that would be the maximum exposure. That being said, that reflects our estimate of recovery through the process as it relates to the assets at June 30.

Okay. Okay. And then on the noncore control, I mean you said making progress, and then also the current dividend should continue. Obviously if we look at Copperweld and C&K, they produce a pretty attractive dividend yield on a combined equity fair value. So can you give us any more on the timing of that or whether there is an incentive to basically keep those a little longer, obviously, this concentration risk, and I don't necessarily think you should but does it create incentive since they produce such an attractive dividend yield while everything else is gone?

Robert, this is Chris. Appreciate the question. We played that game before. We're not going to hold what we believe to be concentrated or higher-risk positions in an effort to support or chase the dividend. We're not going to do that. If you look at those two names, we don't disagree the businesses have been restructured, they perform well, they are paying us a nice dividend. And when we anticipate those being sold, our expectation is that, that derisks and provides further diversification to our balance sheet, we can continue to enhance and support the dividend by taking lower-risk positions and utilizing slightly higher leverage. I mean that's a much more appropriate way to play this market as opposed to taking outsized, concentrated equity positions and implying the dividend. So don't disagree with your math. We see it, but we do believe as we get those proceeds in, and that balance sheet affords us to take leverage up slightly, that's the way we'll offset the pressure there and maintain the $0.21.

And our next question comes from Ryan Lynch of KBW.

I wanted to talk about -- you guys had a really good slide, Slide #15, of decreasing noncore assets. Obviously, the top-left bucket, nonincome-producing investments, those are probably -- don't have a lot of credit risk. But for those other three buckets, you've done a pretty good job of reducing subordinated debt to 2%, but you still have about 5% second lien and about 9% unsponsored investments. I was just wondering, as you look at maybe those three debt categories on that slide, how do you guys kind of view that from a risk standpoint? Is it more urgent to get rid of the subordinated debt, which you guys have done a better job of doing, versus the second lien versus the unsponsoreds?

Yes. Appreciate the question. I think as we sit and look at the portfolio from a security mix, be it second lien or mez, I'd say we're more focused on the individual asset as opposed to the type of security. Anything that's second lien or mez, we want to reduce, but what will be driving our decisions is going to be more of the underlying portfolio company itself versus the related security, if that makes sense. Again, when you originate some of these loans in an effort to drive a higher yield to support the dividend, you're taking on that incremental risk. And we're not going to do that any longer. So we want to exit all of these. It's a unique situation in a portfolio like this. When the business is performing, your ability to exit or reduce isn't always apparent, it takes time. There needs to be some catalyst to that, that enables us to raise our hand to try to reduce or exit. And I can assure you, when given the opportunity, we're doing those across both mezzanine and second lien.

Sure. I guess you talked about the big write-downs this quarter were in LAI and Charming Charlie, which were identified troubled credits in the past, and we're hoping to move past those and look forward. But as I look at again, the Slide #15, 9% of your portfolio is still in unsponsored. Me as an outside analyst looking in, it's tough for me to decide. Does that -- the 9% nonsponsored, does that still hold a significant amount of risk that could potentially be a downside to NAV in the future? So how confident are you with those remaining four portfolio companies that represent about 9% of your portfolio that are unsponsored investments?

Yes. No. That's a great question. It is an area of focus. If you think about it, that 9% is approximately four names. There's small [indiscernible] and like Wheels Up that's very small that's performing. OEM is the vast majority of that box. So it's our single largest investment. We control the debt and we control the equity of that investment, so we control that business. If you go back over time, if you watched our -- the capital structure, we had a change in management going back almost 18 months. We've injected capital into the business to stabilize it. The business has now stabilized. We've got a very good team running it. We believe we're positioning the business for sale. But -- so from a confidence of segment, we feel good about the businesses that we control, each of those businesses. Copperweld would be another example. That's a business that has had very similar history. It's just running its course faster than OEM, but it's had a few markups in that over the last two quarters. So OEM is listed as an area of focus not based on performance, again it's just based on size, It's an outsized position. I wish it was more diversified. We're working as hard as we can to take that risk off the table and redeploy that capital, but it's going to take time, a bit more time to finish that transition.

And currently, I'm showing no other questions in the queue. I'd like to turn the call back over to Mr. Chris Flynn for closing remarks.

Perfect. Thanks, Operator. We want to thank everyone for joining us on this Q2 call. To the extent folks have additional follow-up questions, feel free to reach out. We look forward to giving you an update of our Q3 results in the coming months. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. You may now disconnect. Everyone, have a wonderful day.