Investcorp Credit Management BDC, Inc. (ICMB) Q2 2020 Earnings Report, Transcript and Summary

Welcome, ladies and gentlemen, to the Investcorp 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. You may begin.

Thank you, operator, and thank you all of you for joining us this afternoon. I am joined by 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 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, Mike Mauer.

Thanks, Rocco. The quarter was ended on December 31st, marked our first four quarter as part of Investcorp. Our transition into the firm has been as smooth as we could have hoped and we continue to be encouraged by how positively the market, our counterparties and our peers have reacted to our team joining the broader platform.We saw an almost immediate increase in inquiries, a deepening of our pipeline and a renewal of relationships with many fellow lenders we hadn't done much with previously. Our ongoing work to reposition and diversify the portfolio remains our central focus. We think we're approaching a better balance across industries and we have made tangible progress in increasing the number of new portfolio companies.We have de-risked the portfolio through smaller average position sizes in our new positions and through selective sales in the secondary. Our conservative approach has not wavered. We endeavor to be selective about the structures we are willing to lend into to be disciplined about the returns we require for investing your capital and to be through in our due diligence process.Chris will discuss our investment activity during and after the quarter, and then Rocco will walk through our financial results. I'll conclude with some commentary about a few of our investments as well as some housekeeping items. We will end with Q&A.With that, I'll turn it over to Chris.

Thanks Mike. We invested in six portfolio companies this quarter including four new portfolio companies. All of our investors were first lien. We also had three full realizations during the quarter. After quarter end, we made three investments, adding two new portfolio companies. We invested a small amount in a term loan E to 1888 Industrial services to support the working capital needs as of the business as it grows.This new term loan is senior to all of the other debt at the Company. Our yielded cost is approximately 6.9%. As I mentioned last quarter, we made a first lien investment in Horus Infrastructure which does business as oilfield water logistics. This loan backs the acquisition of the Company by InstarAGF. OWL gathers and disposes of water generated by EMP activity in the Permian Basin.Our yielded cost is approximately 10.2%. We invested in a first lien loan to Barry Financial, a portfolio company of Pinto America Growth Fund, which backed the 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 yielded cost is roughly 10.8%.Our third new portfolio company investment is in the first lien credit facilities to Golden Hippo. Golden Hippo is a direct-to-consumer developer and marketer of products within the health and wellness, beauty and pet care markets. The loan supports transfer of partial ownership to an ESOP.Our yielded cost is approximately 8.5%. We participate in the new loan to One Sky, the leading provider of private aviation services. This loan is supported the growth of the Company through the purchase of additional aircraft. Our yielded cost was approximately 10.6%.Finally, we were also participants in the exit loan for Fusion Connect. Mike will speak more about Fusion and its restructuring in a few minutes. I'd just like to say that we believe this is a very well structured loan and we're also happy to have been able to support the Company's exit from bankruptcy. Our yielded cost was roughly 12.6%. We had three full realizations this quarter and no realizations after quarter end.First, our first and second lien loans to Carlton Group will be paid. The capital structure was refinanced by traditional bank. Our fully realized IRR on the first lien was 10% and on the second lien was 16.4%. Our second lien loan to Lionbridge was also repaid, very late in the quarter. Our fully realized IRR was 13.2%.Since quarter end, we have made two investments. The first was an additional investment in the first lien loan of RPX. We have received a partial repayment and we want to rebalance our position. Our yield on this new purchase at cost is approximately 9.0%. We also invested in two new portfolio companies.First, Pixelle Specialty Solutions is the Rogers specialty paper manufacturer in North America. The Company is owned by Lindsay Goldberg. We invested in the incremental first lien loan. which was used to purchase two additional notes. Our yielded cost is approximately 9.1%.Second, we invested in the Alta Equipment Group. Alta is a largest integrated equipment dealership platform in the United States, offering new, used and rental equipment as well as parts and services. It is being acquired by a SPAC. Our first lien loan yields approximately 12.2% of costs.Using the GICS standard, as of December 31st, our largest industry concentration was professional services at 11.7%, followed by energy, equipment and services at 11.6%, construction and engineering at 10.3%, media at 10.0%, and diversified telecommunications services at 5.2%.Our portfolio companies are in 22 GICS industries as of quarter end. As of December 31, our portfolio company cap was 35 versus 33 at both June 30th and September 30th. Discount stands today at 37 including our investment activities since quarter end.I'd now like to turn the call over to Rocco to discuss our financial results.

Thanks, Chris. For the quarter ended December 31, 2019, our net investment income was $3.8 million or $0.27 per share. The fair value of our portfolio was $305 million compared to $302 million at September 30th. Our portfolio's net increase in operations for the quarter was approximately $3 million. Our new investments during the quarter had an average yield of 10.33%. Investments exited during the quarter had an average yield of 10.51% and a realized average IRR of 12.99%.The weighted average yield of our portfolio was 10.41%, a decrease of 3 basis points from September 30th. As of December 31, our portfolio consisted of 35 portfolio companies, 82.6% of our investments were in first lean, 13.8% of our portfolios were second lean, and 3.6% were in unitranche investments. 96.9% of our debt portfolio was invested in floating rate loans and 3.1% in fixed rate investments.Our average portfolio investment was approximately $8.7 million and our largest portfolio company investment was 1888 Industrial services at $60.3 million. We were 1.23 times leveraged as of December 31st, compared to 1.25 times leveraged as a September 30th and 1.16 times leveraged as of June 30th.Finally, with respect to our liquidity, as of December 31, we've had $17.2 million in cash, $8.3 million in restricted cash and $30 million of capacity under our revolving credit facility with UBS. In addition, we had $5.4 million receivable for portfolio companies sold and a payable of $20.1 million for portfolio companies purchased. Additional information, we thought in 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.

Thanks Rocco. I'd like to update you all on a few of the investments in our portfolio. As you may have seen in our 10-Q, our investment in Fusion Connect term loan was on non-accrual as of December 31st. The Company had been in bankruptcy since June 3rd. I'm pleased to say that it emerged this January, and we no longer hold any investments on non-accrual. As first-lien lenders, we received new loans as well as the equity in the Company.In the current quarter, as a result of Fusion's restructuring, our realized loss on the original term-loan portion will become -- unrealized loss will become a realized loss, and the fair value of that loan will become the new cost to our combined debt and equity position. We have a great deal of confidence in choosing going forward in connection with the exit of the Company from bankruptcy and the refinancing of the dip loan we invested a net incremental 4.3 million.Ultimately, our return on Fusion will depend on the value of the shares we receive, but while we wait for that realization we have two loan positions with attractive yields in our books. I discussed 4L briefly on our last call. Since then, 4L sold its imaging business and planned a restructuring around is Clover Wireless business, which remanufacture and remark its mobile phones and now through a small acquisition tablets and other devices as well.The proceeds of the imaging sale were worth approximately $0.30 on the dollar on our loan. The Company filed for a prepackaged bankruptcy in December and they emerged on February 3rd. Alongside, our fellow first lien lenders, we received a new term loan as well as shares in the reorganized company. We're glad that this process moves efficiently and we are cautiously optimistic about Clover Wireless and its prospects going forward.AAR or 1888 is our largest position. Our investments include of working capital revolver, term loans put in place during an -of-court restructuring, and additional term loans provided to fund an acquisition. Last quarter, we provided a term loan D strategic to fund a strategic acquisition. This quarter, we've provided a term loan E which is structurally senior to all of the debt of the Company to fund working capital and support its growth.We remain optimistic that company has made the right strategic and personnel decisions to succeed. We've continued to orient the portfolio toward first lien loans. In the current market environment, we believe that it isn't proven to stretch our attachment point too deep into the capital structure. As we target returns materially higher than the average broadly syndicated loans, we continue to focus on club relationships to originate loans with acceptable credit profile, structures and returns.Our portfolio repositioning continues to be a successful undertaking. We have increased our portfolio company accounts to 37 today and we expect to add additional borrowers this quarter. We have the capital to grow in diversity in the portfolio as we are working hard to do so. We have guided that our new leverage target will be in the 1 in the quarter and 1.5 half times context. We are essentially at the low end to that range at 1.23 times as of December 31st.As we have previously stated, the adviser will waive the base management fees in excess of 1% over the next quarter on leverage above one-time. We covered our December quarterly dividend with NII, and although we fully earn our incentive fee due to the look back test, the Company waived $336,000. We waived the portion of our management fee associated with base management fees over one turn of leverage.Our Board of Directors declared a distribution for the quarter ended March 31, 2020 of $0.25 per share payable on April 2, 2022 to shareholders of record as of March, 13, 2020. We have maintained our dividend to $0.25 since March 2017, and our confidence at 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.You'll recall the Investcorp made two separate commitments to purchase shares ICMB. First, Investcorp has begun to make open-market purchases under a 10b5 program and have bought 90,459 shares through December 31st. Secondly, they have committed to purchase shares at NAV. Investcorp has purchased 113,500 shares at NAV through December 31st.Operator, please open the lines 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.

First, I just want to ask you about that your new investment the small investments that you made in Horus, a new energy investment. Can you just talk a little bit about the opportunity that you saw there either specifically what the Company or the sector broadly?

Yes. Hi, Paul. This is Chris Jansen. Two things regarding Horus, the Permian Basin is continued to be the most prolific basin for drilling activity in the U.S. also Instar capitalized the Company with almost two-thirds equity and they're using it as a growth platform. So, the support is there and the leverage is pretty low. And it is a lot of upside as drilling continues, and the further technology with more of the horizontal drilling just requires more and more water usage and waste water, and they have a very effective barrier to entry in the form of a couple of pipelines, which are signed, so very defensible in the Permian Basin.

Secondly, I wanted to ask about the investments that you made this quarter. I was wondering, if you can provide me a little bit of a context on how the deals were sourced either via direct or bank partners, club transaction? And if you've started to see some of that progress from Investcorp flow through, coming through the deal flow and executed transactions at this point?

Yes, we have seen that as we go through in Mike's portion of the statements. We've seen increased activities from club members. Like our peers, we referred them to them in the prepared remarks. And also, we have moved way up the pecking order, if you will, not a technical term, but way up the pecking order with a lot of the smaller banks, that are interested in helping to finance the private equity investments done by the private equity shops here. And also, other peers that they have, we've seen that as well.With regard to the fourth quarter additions, Barry Financial was a club deal arranged through our longstanding contacts at Jefferies, they continue to be a good source of information and deal flow for us as was One Sky. With regard to, Golden Hippo came to us in a couple of ways. We actually looked at the best with two separate financing parties. One being, could not be more disparate, one being a large, I don't have to call the money center banks anymore, but huge money center leverage finance bank, which was that big was superseded by a smaller regional bank who we have relations with. That's really helpful for us as well.On or as infrastructure otherwise known as OWL that came to us through again our decade's long relationship with the people who run SunTrust, and we were able to get into a club group there. None of those really have direct causation from all our new Investcorp relationships. So, we have seen almost a half a dozen separate deals from other club members that were, we've looked at and we pass on a couple of them and we have three or four in house right now. So, we are working hard, but we're only scratching the surface of what we feel are the benefits it could be that.

So, the only thing I'd add to that is, if you think about a lot of our processes, they can take anywhere from 4 to 24 weeks from initial dialogue until we actually make an investment. So, one that we did not talk about because we're committed to it we've not been allocated yet and haven't closed yet, is directly a result of the Investcorp platform elevating us. That happened over the last weeks. So, we're waiting that stuff public yet.There's another one that we expect to commit to over the next four to eight weeks that is a direct result of the platform. So, those are two direct results as Chris said, there's a lot of direct results that we have passed on because we've passed on 90% of the stuff we see. But there's no doubt that the dialogue has gone and is maintaining a lot higher level, not only from volume but from a quality of deals.

Good, great. Thanks for that. That's a very good to hear. My next question has to do with the credit facility. So that's maybe for Rocco or you Mike. It looks like the credit facility I believe expires December this year. You don't have anything drawn on it at this time. Just sort of wondering what your capacity is for debt on the balance sheet as a whole, but probably also more specifically with the facility if you're willing to, to continue to draw on that in the mean time or if you're looking at other options to leverage in the balance sheet?

Yes, you're very observant and I thank you for that. The answer is that over 30 years of doing this, whenever we get to 12 months from any type of maturity, we are all over discussions in options. So, we have been focused on this for more than six months. I would expect that in the next couple of months, you will see us announced that we have entered into new financing that addresses that maturity in December, one way or the other. And I think it will be an attractive financing and it will be on beneficial terms relative to what we have done in the past and again that is another benefit, direct benefits of being part of the Investcorp platform.

Okay, great. Thanks for that. And lastly, I was just more of a housekeeping question, but the fee waiver this quarter. It's my understanding that was a waiver out of the incentive fee. And I guess I'm a little bit unclear if that was as a part of the new look-back feature in the new fee structure or if that was a voluntary fee waiver and if I'm understanding it correctly?

Yes. Hi, Paul, it's Rocco. So, the waiver-related incentive fee is because we have the new investment advisory agreement. We actually had to reset as of September quarter. So, what happened was, we had earned whatever is on the statement of upside $857,000. But if we were took it all, we were actually failed the look-back test. So what we did was, we just waived the portion of it to get underneath it.If we would have failed, I could have took it two ways, I could have just got rid of, not showed as waiver, but I didn't want to be misleading and I'd rather have been a little more transparent. If to the extent that we would have failed, it would have been a situation where even if I waiver the whole 800,000, I would have failed. I wouldn't have shown any. You wouldn't have seen the way of, you would have seen nothing, but because I just weighed enough to get, we waved and we were able to capture just to give transparency, we'd show it.

We want to make sure that you understood that we're partially only earning in net.

Yes.

What we put in our prepared remarks were the piece that we did not earn was because of the new rule back.

Our next question comes from Christopher Nolan from Ladenburg Thalmann. Please say tour question.

What are your thoughts in terms of industry concentrations? I mean, being energy services is fairly high. I'm just trying to think what's your thinking around that? How you manage that?

Hi. It's Chris. We're pretty much right where at the upper end of where we want to be. What we were presented within the Horus transaction was something that was off the run. Meaning, we were shown the transaction at a much more attractive level than other members of the club had seen. And it was really a compelling situation as we know from Instar putting in almost two-thirds equity, number one.Number two, they are focused in the Permian and they have a solid defensible niche as a leader in the wastewater business there. And more importantly, number three as you know, all of our work, all of Mike's with 1888, we had a lot of history on the growth of the Permian and how much attention that's getting. So, it really was those three things that really, we have a lot of conversations about this, and those three things really made it a compelling investment from our viewpoint.

And Chris, the other thing I'd add to that is. If we think about a core level of exposure to an industry, oil field services in this area, we're very comfortable that this is a good level. That having been said, I actually think that the number overstates our core exposure, meaning we've got Liberty in there and Liberty is an extremely low risk, and you'll see it's rated number one in our rankings and everything else.I don't know if we identify it as the number one but it is, it is over performed, it's under leveraged and so we think about exposure to the industry that one is extremely low. And so, putting on this it's kind of a core industry exposure made given Chris' other three items you went through.

And the outlook for PIK income, PIK income increased in the quarter, second consecutive quarter. Should we be seeing PIK income continues to be an elevated portion of revenues? Or any sort of outlook you have for that would be helpful?

Yes, I think over the near term you should assume that it's around where you've seen it currently and there are two main components of that. They are PGI, which I think will continue in, and the second one is around 1888 and ARR. And on that what we are doing is, we are focused around making sure that we are directing capital into the growth of the Company.As you remember, there was an acquisition made. I think it closed effectively July 1 last year. It's been extremely positive to the Company, but the flipside of extremely positive is working capital. So, we want to make sure that they are not starved for working capital. So, we're picking income over the near term and the last piece is the fusion piece, but that's it.

Final question, the higher leverage, when do you think you can -- do you anticipate taking it up fully to the 1.5x and over what period of time?

What we've seen is and you guys have seen it over the last year, we can drop a quarter of a turn of leverage in a matter of weeks when we get repaid by three or four names. I don't think you're going to see us take it up to 16 to 17. I think you will see as they get up to 15 or you may not get, because we get paid down, once you break the quarter by anywhere from two to four names. And so we're trying to keep in a range of one of the quarters or one a half, but that means there's going to be some variance between those numbers.

And I presume that the incremental leverage is likely to be unsecured notes that way you don't have a mark-to-market issue or anything?

It is a combination of secured and unsecured. We did some incremental notes in the fall around this point and I addressed earlier that we are looking at options around all liabilities.

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

It looks like a pretty solid quarter. So going back to that leverage and financing question. I mean when I do look at your credit facility. That's spreads are pretty wide by BDC standards. The known used fee is very high by BDC standards. So, can you give us any color given that you're working on it, I mean, just how much could the funding costs on between the spreads and on use? What's your target for how much you can reduce those now that obviously you're part of an Investcorp and you haven't put more leverage on that front maybe?

So, I hesitate to give specifics because we're not done on anything until we're done, as the saying goes. I would say that as you think about that December 2020 facility, as we address that, that the terms would be more in line with what you would expect.Let me leave it with that and I know that you guys have a lot of visibility across market. And then, we will have another year on the terminal with UBS as we discussed with them options around that, that's comes due in December of 2021.

Got it. Thank you. And then, just only -- now to your point, it takes a little while before you start to see the Invescorp deals got approved because there's an extended due diligence process before you actually would close any of them. I mean, on the deals that you see coming through, potentially coming through that channel. What should we expect on ballpark terms? I mean, you know, this quarter, mainly firstly a little over double-digit incremental yield. Is that the kind of the same kind of deals and spreads and coupons and first new structures, that we're going to see come through the Investcorp channel as well or are they going to different a little bit?

I think they're going to be similar in yield, and I think the market itself has gotten a bit tighter. So, whether or not it's in that channel or out of that channel, we're seeing a little more pressure on spreads. So, we will see if we maintain the 10.5 plus or minus. And I think that's consistent with what you've heard us say in the last two calls.So, I don't think that's different because of Invescorp. What is different is that, we will see more deals in this $20 million to $80 million EBITDA that are 3 to 6 lenders, true club deals of people looking to say, okay, there's going to be 3 to 6 of us doing the deal. And you know, we want to make sure that we get a group that works together on a more consistent basis.

Got it, got it. I appreciate that. And now one that, I mean, in your remarks, you said, as you said, Fusion Connect, ultimate recovery. It's going to depend on what's you get out of the equity. What can you tell us about, not necessarily the timeframe for realizing that, but as part of the emergence and bankruptcy, the business plan, I mean, what's the timeframe of Fusion's plan that you think, basically you agree to when you put the money in, that before we could expect to see before you couldn't gauge whether it's going to pay off the way you hoped?

Yes, and I think this is consistent with most companies that I've been involved with over 20 years. When they restructure, there's several pieces to it. There is the financial piece and there's the business piece. So, the financial piece of the restructuring is done. We can put in the capital. The business piece, they've had a interim CEO in. They are completing a search to put a permanent person in. There's some other changes that will happen around management.I think some of the people have left from the management are very positive to that story. I think that you will not start to see any momentum for 6 to 12 months, and it's 2 years to 4 years to get to ultimate view on firm value and everything else, but it'll take at least six months before you start to see the momentum or the fruits of what has been worked on in the last six months.

[Operator instructions] At this time, we have no further questions.

Thanks everyone. We look forward to talking next quarter.

This concludes today's conference call. Thank you for attending.