Investcorp Credit Management BDC, Inc. (ICMB) Q1 2020 Earnings Report, Transcript and Summary

Welcome to Investcorp Credit Management BDC Earnings Conference Call. Your speakers for today's call are Mike Mauer, Chris Jansen and Rocco DelGuercio. [Operator Instructions] A question-and-answer session will follow the presentation.I'll now turn the call over to your speakers. Please begin.

Thank you, operator. Thank you all for joining us this afternoon. With me are Chris Jansen, my Co-Chief Investment Officer; and Rocco DelGuercio, our CFO. Before we begin, Rocco will give our customary disclaimer regarding the information and forward-looking statements. Rocco?

Thanks Mike. I would like to remind everyone that today's call is being recorded, and that this call is the property of Investcorp Credit Management BDC. Any unauthorized broadcast of this call in any form is strictly prohibited. Audio replay of the call will be available by visiting our Investor Relations page on our website at icmbdc.com.I would also like to call your attention to the Safe Harbor disclosure in our press release regarding forward-looking information and remind everyone that today's call may include forward-looking statements and projections, actual results may differ materially from these projections. We will not update forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our Investor Relations page on our website.At this time, I would like to turn the call back to our Chairman and CEO, Michael Mauer.

Thanks, Rocco. On August 30, the acquisition of the majority interest in CM Investment Partners by Investcorp occurred during our first fiscal quarter which runs from July 1 through September 30. While on one hand, the quarter continued the portfolio transitions we have been implementing for over a year, it was also a quarter of transition for our team.Our BDC’s results we will talk about here today changes name and ticker from CM Finance, Inc. CMFN to Investcorp Credit Management BDC ICMB. Our board changed in size and composition, what hasn't changed is the funds management and investment team. Our focus remains originating and investing in the best mix of risk adjusted assets we can to deliver a consistent dividend to our shareholders. Our ongoing work to reposition and diversify our portfolio continues. We focused on maintaining an appropriate balance across industries while increasing the number of new portfolio companies. By design and necessity, this also means smaller average position sizes, which helps to manage risk.Throughout the past year, we've been conservative focusing on first-lien loans and our portfolio is comprised of over three quarters first-lien investments today. Although there have been idiosyncratic credit issues that created challenges in the portfolio, our team has done a great job managing these investments while simultaneously originating new opportunities and underwriting new portfolio company investments.We've been even more selective than usual as of late, whether a borrower has $30 million or $300 million of EBITDA, we have seen new deals where we don't believe the economics are compelling, the structure have protections or in our view entire transactions that are too borrower friendly.We don't want to lend into situations with excessive leverage or bad documentation to stretch for yield. It's a challenging environment. But we are nimble and we are seeing increased deal flow now that we are part of Investcorp, and we’re happy with the investments we've made over the past quarter.Chris will now walk through all the investment activity during and after quarter-end in detail and then Rocco will discuss our financials further. I'll conclude with some commentary about our most noteworthy investments. And then I'll speak about our outlook as we look toward 2020. As always, we'll end with Q&A. With that, I'd like to turn it over to Chris.

Thanks, Mike. We invested in four portfolio companies this quarter, including three new portfolio companies. All of our investments were in first-lien loans. We also had four realizations during the quarter. After quarter-end, we made three additional investments. First, I'd like to cover our fundings on revolving and delayed draw positions. We funded approximately $0.5 million on 1888 Industrial services revolver. We also advanced a small amount of term debt to support the company's growth. Our yield on these positions at cost is 7.1%.We invested in the incremental first-lien loans to United Road Services, the leading auto transportation service company in the United States. URS is sponsored by Carlyle. This loan was utilized to make an acquisition. Our yield-to-cost is approximately 8.6%. We participate in a first-lien club loan for Hyperion Materials & Technologies. Hyperion is an industrial manufacturer of products made from hard and very hard materials, carbide and synthetic diamonds.It was carved out of Sandvik by KKR last year. Our yield at cost is approximately 8.3%. Finally, we're also participants in the first-lien club loan to NorthStar Group Services, an environmental and facility management company focused on the remediation and deconstruction services markets. NorthStar is owned by J.F. Lehman. Our yield at cost is approximately 7.8%. We had four full realizations this quarter, and no realizations after quarter-end. First, we sold our final debt exposure to PR Wireless, also known as Open Mobile. We had previously sold the bulk of our position holding only a delay draw commitment, which was fully funded over the summer.Our fully realized IRR on Open Mobile’s loans was approximately 10.9%. Today, we have no exposure to Open Mobile from an NAV perspective. Although we do continue to carry PR Wireless warrants at zero value, and as such remains in our portfolio company cap. We sold our first-lien position in FleetPride. This is our third iteration of the investment. And candidly, we viewed it as a high quality, but ultimately low yielding and non-core position.Our fully realized IRR in this position was approximately 8.4% and our IRR across all investments in FleetPride was approximately 14.3%. I would note that these are higher than we reported to you on our call in September, due to the timing of settlement and interest receipts.We also sold ABL term loan position in Sears. This is a smallest debt investment, and we never had the ability to build a meaningful position. Our fully realized IRR was approximately 12.2%. Finally, we sold our first-lien position in (inaudible). We have previously successfully realized on an investment in the company. And much like FleetPride viewed this as a non-core position.A fully realized IRR on this position was approximately 7.7% and our IRR across all investments in Immucor was approximately 8.4%. Using the GICS standard, as of September 30, our largest industry concentration was professional services at 13.4% followed by construction and engineering at 11.6%, energy equipment and services at 10.3%, media at 10.0% and commercial services and supplies at 8.7%.After quarter-end, we made three new investments. The first is a small investment in Chorus Infrastructure, which does businesses oilfield, water, logistics. This first-lien loan backs the acquisition of the company by InstarAGF. It gathers and disposes of water generated by E&P activity in the Permian Basin. The company's infrastructure assets provide significant collateral value to back the loan. Our yield to cost is approximately 10%. Our second investment is a first-lien loan to Barry Financial, which is owned by Pinto American Growth Fund and is backing a recapitalization of the company.Barry is a Houston based consumer services company providing a broad range of financial products primarily to the under-banked Hispanic community. Our yield at cost is approximately 10.8%. Our third investment is in the first-lien credit facilities to Golden Hippo. Golden Hippo is a direct-to-consumer developer and market of products within the health and wellness, beauty and pet care markets. This loan supports a transfer of partial ownership to an ESOP. Our yield at cost is approximately 8.5%. Our portfolio companies are in 20 GICS industries as of quarter-end. As of September 30, our portfolio company count was 33 versus 33 at June 30 and 30 a year-ago.Discount stands at 36 today. I'd now like to turn the call over to Rocco to discuss our financial results.

Thanks, Chris. For the quarter ended September 30, 2019, our net investment income was $3.5 million or $0.26 per share. The fair value of our portfolio was $302.2 million, compared to $306.4 million at June 30. Our portfolios net decrease from operation this quarter was approximately $906,000.The new investments during the quarter had an average yield of 8.21%. Investment exited during the quarter had an average yield of 8.20% and a realized average IRR of 9.15%. The weighted average yield of our debt portfolio was 10.44%, a decrease of six basis points from June 30. The major driver of this decrease was a decline in the LIBOR. As of September 30, our portfolio consisted of 33 portfolio companies, 77.9% were in first-lien investment, 18.4% of the portfolio were in second-lien investments, and 3.7% were in unit tranche investments.All of these metrics are essentially unchanged from last quarter, 96.8% of our debt portfolio was invested in floating rate loans, and 3.2% in fixed income -- in fixed rate positions. Our average portfolio company investment was approximately $9.2 million and our largest portfolio company investment was 1888 Industrial Services at $16.1 million.We were 1.25 times levered as of September 30, compared to 1.16 times levered on June 30. Finally, with respect to our liquidity, as of September 30, we had $3.4 million in cash, $7.4 million in restricted cash and $11 million of capacity under our revolving credit facility with UBS.Since quarter-end, we closed on an offering of about 6.125 notes due 2023, including the greenshoe, the company receive total net proceeds of approximately $16.4 million. Additional information regarding the composition of our portfolio is included in our Form 10-Q, which was filed yesterday. With that, I'd like to turn the call back over to Mike.

Thank you, Rocco. As I discussed last quarter on our call in September, we carefully balanced the trade-off between risk and returns. Targeted returns materially higher than the average broadly syndicated loan generates, we mitigate risk through diversifying the portfolio across sectors, geographies and borrowers but more than that, we focus our underwriting process on a deeper dive into the credit, then it's possible on a typical syndication.We focus on underlying drivers of the business idiosyncratic risk, the quality of loan documentation maturities, cash flows and return of capital. We still do not see reasons to reach down the capital structure now to generate yield in the current environment. Selectively, we evaluate second-lien loans, but we have not found a second-lien opportunity that we feel was the right risk reward in the current environment.I'd like to take a few minutes to update you all on a few investments in our portfolio. Fusion Connect has been in bankruptcy since June 3. Fusion currently expects to exit bankruptcy in December. The first-lien lenders, ourselves included will receive a mix of new loans and 97.5% of the equity of the company. When Fusion’s restructuring is consummated, our unrealized loss on the position will become a realized loss and the fair value of our loan will become the new cost of our combined debt and equity positions.As I said, that's something we expect to occur during this quarter. We lend to Deluxe Toronto Limited, a Canadian subsidiary of Deluxe Entertainment Services. The parent, Deluxe Entertainment filed a pre-pack bankruptcy to address its over leveraged capital structure and liquidity issues.Our loan was unimpaired and was reinstated. The performance of Deluxe Canada remains good and we are current on the interest in amortization. I discussed 4L briefly on our last call. There is no new news I can share with you because of confidentiality agreements. The company continues to explore strategic options alongside an ad hoc committee of first-lien lenders and their advisors. There remains a great deal of uncertainty in the situation. But we're in communication with relevant parties and are cautiously optimistic that progress is being made toward a successful resolution. Much like 4L, there isn’t new information on XL. It’s a public company. So there have been 8-K reports released regarding stock ownership and board composition.AR or 1888, is now our largest position. We have supported the company through an out of court balance sheet restructuring and ongoing operational restructuring. We have provided a revolver for working capital purposes, as well as term debt to fund a strategic acquisition. As I mentioned on the last call, 1888 made an acquisition to enable the company to grow outside its historic exclusive focus on the D.J. Basin diversifying into the Permian and Wyoming.Our newest debt the term loan D is structured senior to the term loan B, which was created during the restructuring, which is why you'll see a significant difference in remarks on the two tranches. We have hired a new CFO to work with the new CEO who previously managed the acquired business. We’re cautiously optimistic that the company has the right positioning and staffing to succeed today. We marked down our position in the first and second-lien loans of Premier Global Services by an aggregate of $1.5 million this quarter.Following a $1.2 million mark down last quarter, trends in PGI’s fundamental results have been challenging for several quarters. The sponsors, Sears Capital has been very supportive of the company and their behavior throughout this period of fundamental weakness helps us take comfort in the turnaround plan that has been proposed.We maintain the open dialog with the sponsor, our fellow lenders and industry professionals. We continue to monitor the company's results, and we will update you in the coming quarters as more information is available. Our portfolio repositioning continues to be a successful undertaking. We have increased our portfolio company count to 36 today, and have increased to the number of club deals in the portfolio.We have several likely prospects in our pipeline, along with capacity to lend to these new borrowers. We used opportunistic sales to fund the purchase of new loans during the September quarter and today those proceeds plus the newly issued incremental bonds, which we issued this month will allow us to grow and diversify the portfolio further.We have guided that our new leverage target will be in the 1.25 to 1.5 times context. We were at 1.16 times at June 30, move toward our target range. At September 30, we were at 1.25 times reaching the bottom of the target. As I previously stated, the advisor will waive base management fees in excess of 1% over the next quarter on leverage above one-time.We covered our September quarterly dividend with NII, it did not earn our incentive fee due to the look back, we waive the portion of our management fee associated with base management fees in excess of one-turn of leverage. Our board of directors declared a distribution for the quarter-ended December 31, 2019 of $0.25 per share payable on January 2, 2020 to shareholders of record as of December 13, 2019.We have maintained our dividend of $0.25 since March of 2017 and are confident that this level is supported by our ability to generate NII without reducing the quality of our investments or changing our focus from secured lending opportunities. Due to the negotiation of the transaction between CM Investment Partners and Investcorp, we are in an extended blackout period and as such, we did not purchase any additional shares during September quarter.As a reminder, the board approved the extension of this $5 million program through May 1, 2020. Investcorp remains committed to purchase shares of ICMB. There are two components of their commitment. First in the quarter has begun to make open market purchases under a 10b5 program. Second, they have committed to purchase shares at NAV, we expect Investcorp will begin to execute purchases under the second commitment before the end of 2019.Operator, please open the line for Q&A.

Ladies and gentlemen, at this time we will conduct a question-and-answer session. [Operator Instructions] Our first question comes from Paul Johnson from KBW. Please state your question.

Good afternoon guys. Thanks for taking my questions today. My first question was around the transaction with Investcorp, realizing that obviously closed at August 30, probably none of your activity during the quarter was had any benefit from the manager. But I was wondering, was there anything in the pipeline that you've seen from Investcorp and the new manager? And if not, maybe when you can expect to start to see that benefit, your deal flow?

Yes, Paul, thanks for the question. There I'll put it in kind of two or three camps. There are direct advisors that we originate through, there's a handful of those with dialog. We always had a call-in, but all of a sudden, we've gone from call A second, third-tier relationship of theirs to a first year. So we're seeing more dialog there. We've said no to a few transactions. There's one we're working on in the pipeline. The second bucket that I put it in is regional banks who do a lot of direct middle market for middle market sponsors, they'll do the revolvers typically and then they'll arrange for a second-liens. In there, there's been less than the advisory side but you've seen, we've seen at least three elevated discussions there.They are people that also call on Investcorp directly around underwriting and arranging private equity deals where they are the equity sponsor. Just as a reminder, we will never invest in the debt where Investcorp is the private equity sponsor. And then thirdly, there are some club participants. There's been less of that. That is an area that Investcorp has said that, they're going to help extend more dialog. And I think as everyone is aware in this space, especially around second-lien is a lot of that that gets directly placed, it doesn't go through the regional banks et cetera.And that’s an area where facilitating the relationships that are at the Investcorp, so that we can look at deals with some of those larger investors on transactions that are not Investcorp, those have not really elevated to a point that we want yet and that's really because we've got a lot on our plate but that is on the docket to do.

Thanks. That’s very good detail. Good to hear that you're starting to already see some benefit from that. My next question would be because of the smaller investment of all sizes that you're taking in the portfolio, does thathas that limited your ability to participate in deals or get called into deals or perhaps even drive terms if possible?

Yes, we have never been the one driving terms, and to say never is an overstatement. There's been a handful of deals if you look over the last few years where we have been able to do that. That having been said, as a general rule, we have not been the ones driving terms. So it does not affect that piece. But your question, I think is spot on because there have been times historically, where people have said, yes, look, we're looking to round out the last $10 million to $15 million and we're looking for somebody to do it.To the extent that we have said, we are taking in, we have taken smaller positions. NorthStar being an example, where we took a $5 million position. We will continue to look at some positions that are in the $10 million plus or minus, but we are going to avoid in most situations, I never want to say all, the $15 million to $20 million that we have done somehow in the past. So we’re going to be more in the five and strategically in the 10 plus or minus.

Okay, great, great. Thanks for that. And my last question, kind of actually back to the first one I asked. But I'd also like to add maybe a little bit to that, has Investcorp, has that transaction provided you with any additional resources? Perhaps, maybe on the other side of things on the workout side or anything that you maybe just didn't have before? Has there been anything afforded to you from that benefit?

I would say not the workouts because our team's got a lot of distressed and stressed experience across the senior members of the investment team that are beyond Chris and myself and I ran Restructuring at Citigroup. So we've got a lot of experience there. We're always open to people who want to help us on that, where there has been added expertise and knowledge and we’re taking advantage of it is that whenever we look at the deal, the first thing we're doing now is looking internally and in a lot of it's also with the private equity guys and saying, okay, here's the industry that we're looking at something. Do you guys have some familiarity, do you have an internal expert, let's get a different perspective on what we're doing to make sure that to the extent that they've had experience around it, that we take that into account.We don't miss anything, but there are some very, very smart people throughout the organization on the existing credit and private equity side, and we are making sure that we do not operate in a vacuum from that expertise.

Sure, great. Thanks. Those are all my questions and thanks for taking my questions today.

Thank you, Paul.

Our next question comes from Robert Dodd from Raymond James. Please state your question.

Hi guys, a couple, first of all on if I can on 1888 you gave us a nice rundown on what's going on there with the restructuring et cetera. When I look at it, it also looks like it a lot of that commit to PIK interest this quarter, I mean your PIK income was up substantially year-over-year but I think that was mainly 1888. So can you give us any more color, is that, is that a PIK toggle function, is it permanently restructured to PIK, I mean, normally I would read a big increase in over switch and restructuring tool kind of PIK coupons to be indicative of continued significant cash crunch at that business. So is that the case? And if it is, how long do you think, it's going to take for that business to getback onto its feet to the point that potentially can repay the loans at some point in the future?

Yes, a great question, Robert. So the PIK is not a permanent PIK. We have temporarily gone to PIK, we will evaluate that over the next three to six months. And it is really driven by a lot of the working capital needs and there's a huge ramp-up right now around Permian and so we've got to make sure that we don't starve the capital of cash for our benefit and not facilitate that growth because we all want more cash flow, we all want cash flow to us, but at the same time to your second half of the question, if we think about how do we exit this down the road and I don't know if that's two years or four years, I think it's in the shorter end of that, but it's somewhere in the two to four-year range.A critical piece of that is having a business as we've lived with this last few years, that is not concentrated just in the DJ in Colorado. And so that acquisition is a huge step toward diversification in the Permian, across Texas in New Mexico, and allows us to expand up into Wyoming but the principal areas in the Permian and that takes working capital and a little bit of equipment and some other things. So over the near-term, we're going to make sure that we fund that and so we've gone to PIK. But that is not a long-term structure in our mind.

Got it, got it, I appreciate that. And I’ve got one more on the market and then one is about Investcorp in beginning you mentioned obviously I mean you’re still seeing the weak terms et cetera. You found some deals that you found attractive this quarter. I mean it looks like we've seen a bit of bifurcation of the market in the end of this year so far with terms on some deals remaining pretty weak but maybe and spreads remaining pretty tight but then some variation on the other side.I mean, any color you can share with us on, if you're seeing that kind of bifurcation in the type of deals you're looking at. Or if it's just generally we call overstock.

Well, yes and no, I mean the weak all over is a general statement, I would agree with. As with everything, it's not 100% and we've got decent flow and we're rejecting a lot very quickly, so that we're not alienating people who are showing us deals. At the same time, we’ve got limited capital we're putting to work. So that allows us to be a little bit more selective. If you look at some of the deals that we talked about Barry Financial, Golden Hippo, direct marketing merchandize business, it's not a retailer brick and mortar, we don't like that, we're avoiding those. Barry Financial, we looked at it a few years ago, it was smaller, it's grown, we like what it's done.But those are ones that I'd say the broader market is not looking at and there tend to be club deals. These are, I'd say three to six investors in most of those deals. And so that's not your middle market deal that has a dozen people and once you get to that size, I think the competitive dynamic gets to be one that people are falling all over each other and we're trying to avoid, if you don't have a strong anchor who can dictate terms, who happens to be a friend.

I appreciate that. And kind of a sort of related when we obviously congratulations on the deal with Investcorp. I mean, one of the things that, as you mentioned, right, you don't necessarily I mean, you don't have a huge pool of capital, you can't necessarily drive terms. Sometimes I'm sure you'd like to and sometimes you'd like smaller hold positions as well, right. All of those things tend to help motivate less, one of the things a number of other BDCs have done over the years is have sidecar vehicles or where they either run another private fund or another pool of capital as they can then co-invest across. So can you give us any color? If that's within the plans of what we should expect you to do in collaboration with Investcorp and how that would be a benefit to the BDC?

So I'm glad you asked that question because I probably should have hit that someplace in general comments. Thank you. So, let me start with Investcorp did not make the investments they made in this business, including different 10-b5 where they're buying shares, the future purchase of shares at NAV which is expected to be this the first part order.They didn't do that, so that they've got a manager who's managing $300 million to $350 million of AUM, they are round figures $30 billion AUM manager with a publicly disclosed goal of being $50 billion plus over the next four to five years, we are a critical part of that plan to grow, as well as the rest of the credit business be real estate, et cetera. So by definition, yes, it is part of the plan. To be a little more specific with you, they run a great organization, there is a lot of thought put into what is the next product, how would we do a private fund? Where would we raise the money? Where are our LPs? Where's the market demand et cetera?So I think that that process, which we are well into and quite seriously, we started having those discussions before we even closed, so let's call it August. That will take because the holidays, it'll take us through the end of the year, I would expect that during the first quarter, we have finalized all of the internal approvals and processes and that we go out to the market on how to raise additional capital.Second piece of that is that in our view, it is critical that that benefits everyone, not just new investors in whatever structure that is, but our existing shareholders in the BDC. So the structure that we will target is one that allows for us to co-invest and be able to, be more important not drive terms for future investments, also allow us to do whether or not it's $3 million to $10 million positions, $5 million plus or minus small pieces with diversification in the BDC while we still have significant presence in the investment by virtue of a co-investment position, and allows us to have more control on behalf of all stakeholders.

I appreciate the color, Mike. Thank you.

Okay. Thank you, Robert.

Our next question comes from Christopher Nolan from Ladenburg Thalmann. Please state your question.

Mike, given the most of your investments are LIBOR based, three-months LIBOR based specifically, should we see more yield compression given the drop in LIBOR?

It's a great question. I think that number one, the drop in LIBOR call it 25 to 30 basis points. We have seen some of that, which is offset a little bit by some of the things that we're doing that I think will be slightly above the average. But the other piece is that and that gets into my statement, I think that we see from time-to-time when you go from a 50 basis point LIBOR to a 300 basis LIBOR, you see the spreads kind of compressed a little bit.You don't get a one-for-one, but you see some compression there because if it's a sponsor-to-sponsor saying listen, I'm willing to pay 8% goal or 9% and he doesn't think about it as LIBOR plus eight or LIBOR plus six, he thinks about it as 8% or 9%. So the inverse does happen on its way down that we're not getting one-to-one, but we get a little bit of expansion in those spreads on new deals that are coming on. But to the extent that we are looking at existing portfolio, you will see a little bit of compression there. We've got over $100 million of our liabilities that are floating also, so we benefit on that also.

Great, that’s it from me. Thank you.

Thank you.

At this time, we have no further questions.

Operator, with that, we will adjourn the call. I'd like to thank everyone for joining us and look forward to speaking to you next quarter call in February of 2020. Have a Happy New Year.

This concludes today’s conference. Thank you for attending.