MidCap Financial Investment Corporation (MFIC) Q1 2020 Earnings Report, Transcript and Summary

Good afternoon and welcome to the Apollo Investment Corporation's Earnings Conference Call for the period ended June 30, 2019. At this time, all participants have been placed in a listen-only mode. The call will be opened for a question-and-answer session following the speakers' prepared remarks. [Operator Instructions] I will now turn the call over to Elizabeth Besen, Investor Relations Manager for Apollo Investment Corporation.

Thank you, operator, and thank you, everyone, for joining us today. Speaking on today's call are Howard Widra, Chief Executive Officer; Tanner Powell, President and Chief Investment Officer; and Greg Hunt, Chief Financial Officer. I'd like to advise everyone that today's call and webcast are being recorded. Please note that they are the property of Apollo Investment Corporation and that any unauthorized broadcast in any form is strictly prohibited. Information about the audio replay of this call is available in our earnings press release. I'd also like to call your attention to the customary Safe Harbor disclosure in our press release regarding forward-looking information. Today's conference call and webcast may include forward-looking statements. Forward-looking statements involve risks and uncertainties, including, but not limited to statements as to our future results, our business prospects and the prospects of our portfolio companies. You should refer our registration statement and shareholder reports for risks that apply to our business and that may adversely affect any forward-looking statements we make. We do not undertake to update our forward-looking statements or projections unless required by law. To obtain copies of our SEC filings, please visit our website at www.apolloic.com. I'd also like to remind everyone that we posted a supplemental financial information package on our website, which contains information about the portfolio, as well as the Company's financial performance. At this time, I'd like to turn the call over to Howard Widra.

Thanks, Elizabeth. I will begin today's call by providing a brief overview of our financial results for the quarter followed by an update on the execution of our investment strategy. I will then discuss a couple of additional business highlights. Following my remarks, Tanner will discuss the market environment, our investment activity for the quarter and also provide an update on credit quality. Greg will then review our financial results in greater detail. We’ll then open the call to questions. Let me begin with an overview of our financial results. Net investment income for the quarter was $0.50 per share, which reflects strong net investment activity, the impact of an investment being restored to accrual status, as well as the impact from the total return feature in our incentive fee structure, which result in no incentive fee pay for the quarter. Net asset value per share was $19 at the end of June, down 3.3% quarter-over-quarter. The slight decrease is due to net loss on the portfolio, partially offset by net investment income in excess of a distribution as well as the accretive impact from stock buybacks. The net loss in the portfolio was mostly attributable to our non-core and legacy assets. New commitments for the quarter totaled $451 million. We often talk about the importance of scale as a lender, particularly in today's competitive market. I wanted to provide you with a couple of data points which show that AINV is part of a much broader platform that is able to compete with other major market participants. For the quarter, the Apollo direct origination platform made over $3.5 billion of new commitments and currently manages more than 20 billion in middle market lending commitments across a variety of Apollo managed vehicles and accounts. The scale of the platform allows AINV to participate in larger commitments, while maintaining relatively small hold sizes. Net investment activity was strong during the quarter. Net fundings totaled $215 million, increasing our net leverage to 1.03 times at the end of the quarter. Our current pipeline is healthy, and we currently expect our net leverage ratio to be over 1.1 times by the end of September. I will now highlight some of our portfolio metrics, which we believe demonstrate how we are prudently growing our portfolio with safer, lower yielding loans, following our adoption of the lower asset coverage requirement. Our corporate lending portfolio grew by approximately $272 million or 18% quarter-over-quarter. Our core portfolio, which includes corporate landing positions and Merx represented 83% of the total portfolio at the end of June, 68% in corporate lending and 15% in Merx. 71% of the corporate lending portfolio is in first lien investments, up from 65% last quarter and compared to 46% a year ago. 99% of the corporate lending book is in floating rate debt investments. Although asset spreads for the quarter declined, the portfolio’s weighted average net leverage and attachment point continued to improve. We also continue to take advantage of our ability to co-invest with other funds and entities managed by Apollo, which allows us to participate in larger deals, which are typically less competitive. Investments made pursuant to our co-investment order increased to 67% of the corporate lending portfolio at the end of June, up from 63% last quarter and compared to 41% a year ago. We continue to deploy capital in life sciences, asset based lending and lender finance, areas with significant barriers to entry and in which mid cap financial has expertise. These three niches now represent 14.2% of the portfolio at the end of June, up from 13.5% last quarter and 8.9% a year ago. We also continue to proactively manage position size and concentration risk. Regarding Merx, as discussed on previous calls, our strategy includes reducing our exposure in Merx to 10% to 15% of the total portfolio. During the quarter, Merx repaid AINV approximately $46 million on a net basis, reducing AINV’s investment in Merx from 425 million to 381 million, or from 17.7% of the total portfolio to 14.5% within our target range, and we expect to continue to further reduce our exposure. Additionally, we continue to make progress reducing our exposure to non-core and legacy assets. During the quarter, we received a small pay down from both Pelican and glacier, two of our oil and gas investments. We remain focused on prudently exiting our remaining non-core positions. Non-core and legacy assets represented 17% of the portfolio at the end of June, down from 19% at the end of March. Moving on, the equity market did present as to what we believe was an attractive opportunity to repurchase our stock. We consider stock buybacks below NAV to be a component of our plan to deliver value to our shareholders. We typically repurchase shares during both open window periods and we generally allocate a portion of our authorization to a 10b5 plan, which allows us to repurchase stock during blackout periods. Since the inception of our share purchase program and through the end of June, we have repurchased $186 million or 13.9% of initial shares outstanding, which has added approximately $0.62 in NAV per share. Since the end of the June quarter, we have continued to repurchase stock. The company currently has approximately $61.8 million available for stock repurchase under the current authorization. We intend to continue to repurchase our stock, should it continue to trade at a meaningful discount to NAV. Turning to our distribution, the board has approved a $0.45 per share distribution to shareholders of record as of September 20, 2019. Lastly, the company held its annual shareholders meeting earlier today. We greatly appreciate the support of our shareholders. With that, I will turn the call over to Tanner to discuss the market environment and our investment activity for the quarter.

Thanks, Howard. Beginning with the market environment, the volatility at the end of 2018 impacted syndicated loan issuance activity for much of the first half of ‘19 and consequently, more borrowers sought private debt solutions, particularly given some significant amount of capital. The private debt market saw a pickup in deal flow during the quarter compared to the first quarter, but was still slow by historical standards. As always, the environment remains competitive, as direct lending funds continue to raise capital. In the secondary market, loan funds continue to experience outflows due to the expectations about interest rate cuts. During the quarter, our investment activity focused on first lien floating rate corporate loans sourced by the Apollo direct origination platform. New investment commitments and fundings were 451 million and 312 million respectively. New commitments were comprised almost entirely of first lien floating rate loans. These new commitments were across 25 companies for an average commitment size of $18 million. The weighted average spread over LIBOR of new commitments was 552 basis points, within our target range of 500 to 700 basis points for incremental assets. The weighted average net leverage for new commitments was 4.7 times, within our target range of 4 to 5.5 times. Lastly, 96% of new commitments were made pursuant to our co-investment order. Sales totaled 10 million and repayments totaled 67 million for total exits of 76 million, resulting in net funded investment activity of 236 million, excluding Merx and revolver activity. As Howard mentioned, we received modest repayments from a few non-core and legacy investments, including a $1 million repayment from [indiscernible], a $2 million repayment from Glacier Oil and Gas and a 900,000 repayment from Pelican Energy. In addition, net fundings on revolvers totaled 25 million and we received a net repayment of 46 million from Merx. Net fundings totaled 215 million, including Merx and revolver activity. Now let me spend a few minutes discussing overall credit quality. As previously mentioned, our second lien investment in Sprint Industrial was restored to accrual status during the quarter. Sprint is a rental provider of liquid and solid storage tanks and safety equipment to refinery, petrochemical and industrial customers along the US Gulf Coast. Sprint primarily serves downstream and midstream customers. The company commenced the sale process earlier this year and recently sold one of its two businesses and is under contract to sell the remaining business this quarter. As a result of the sale process, we expect to receive a full recovery of interest and principal on our investments. Moving on, our first lien debt investments in KL Outdoor were placed on nonaccrual status during the quarter. KL Outdoor is a designer and manufacturer of recreational outdoor products, including kayaks, canoes, paddle boats, fishing boats, paddle boards and fishing blinds. The company has underperformed due to lower customer demand, consolidation challenges and higher costs. At the end of June, investments on nonaccrual status represented 1.7% of the portfolio at fair value, down from 2.4% last quarter and 2.5% at cost, down from 2.9% last quarter. Moving on to our credit metrics, the weighted average asset spread on the corporate lending portfolio decreased 27 basis points to 6.86, down from 7.13 last quarter, compared to 552 basis points for new commitments. The weighted average net leverage of our investments decreased from 5.54 times to 5.43 times and compared to 4.7 times for our new commitments and the weighted average attachment point of the portfolio declined from 1.9 times to 1.7 times. The average interest coverage remained at 2.4 times. We view this trade off of yield for credit quality as a positive at this point in the credit cycle. With that, I will now turn the call over to Greg who will discuss the financial performance for the quarter.

Thank you, Tanner. Beginning with the income statement, total investment income was 66.5 million, up from 61.4 million for the March quarter, an increase of 5.1 million or 8.3%. The increase was due to higher interest income and prepayment income, partially offset by lower dividend and fee income. Interest income rose 8.8 million quarter-over-quarter due to our investment in Sprint Industrial being restored to accrual status and higher recurring interest income due to the portfolio growth. Interest income includes 3.3 million of catchup interest from Sprint. Expenses for the quarter were 32 million, up from 28.9 million in the prior quarter due to higher interest expense and management fees, given the growth in the portfolio. No incentive fees were accrued during the quarter, given the total return provision in our fee structure. Net income was $0.50 per share for the quarter, compared to $0.47 per share for the March quarter. Net leverage at the end of March was 1.03 times compared 0.83 times at the end of March. Average leverage during the quarter was 0.93 times, up from 0.78 times during the March quarter. The net loss on the portfolio for the quarter totaled 10.7 million or $0.16 per share. The net loss was primarily attributable to our non-core and legacy assets, including our oil and gas, shipping and carbon free chemicals investment, one of our legacy names. Positive contributors included our investment in Sprint, Merx and SquareTwo. During the quarter, we received $1 million of escrowed funds associated with the sale of our investment in SquareTwo Financial, which occurred in 2017. NAV per share was $19 at the end of June, compared to $19.06 at the end of March. The $0.06 decrease was attributable to the $0.16 loss on the portfolio, offset by net investment income of $0.05 greater than our distribution as well as a $0.04 accretive impact from the stock buybacks during the quarter. The average corporate lending portfolio yielded for the quarter -- yield for the quarter was 9.9%, down 40 basis points quarter-over-quarter. The quarterly change was due to a combination of a decrease in the average loan spread, given the lower spread on new investments and a decline in LIBOR. On the liability side of our balance sheet, we had $1.35 billion of debt outstanding at the end of the quarter. Regarding our funding, we continue to evaluate various alternative sources of capital with a particular emphasis on diversifying our funding sources. In July, we announced we will be redeeming all of our $150 million, 6.875% unsecured notes due in 2043 in mid-August. We recognized a loss of approximately 4.4 million on the extinguishment of these notes in the September quarter due to the acceleration of the associated unamortized debt issuance costs. We will initially replace these notes using a revolving credit facility. However, it is our current intention to issue lower cost unsecured debt to replace these notes long term. The timing of any future debt issuance will be subject to market conditions. We currently estimate that there is an approximately one year payback period, given that the redemption of these notes will result in interest expense savings. Our weighted average interest rate on our average debt for the quarter was 5.15%, down from 5.44% last quarter. Excluding the 2043 notes, the weighted average annualized interest cost would be approximately 4.9% for the period. Regarding our credit facility, a new lender committed $70 million during the quarter for our facility, increasing total commitments to $1.7 billion. We are pleased also to announce that Kroll Bond Rating Agency recently affirmed our investment grade credit rating. Lastly, regarding stock buybacks, during the quarter, we repurchased 950,000 shares at an average price of $15.92 for total cost of $15 million during the quarter. And since quarter end and through yesterday, we repurchased an additional 136,000 shares at an average price of $16.11 for a total cost of 2.2 million. Since the inception of the share repurchase program, which began in 2015, we have repurchased 11 million shares or 14% of our shares outstanding for a total cost of $188 million. The company now has approximately $62 million of availability for stock repurchases. This concludes our prepared remarks, operator. So, please open the call for questions.

[Operator Instructions] And your first question comes from the line of Terry Ma with Barclays.

On the decrease in yields, your corporate lending portfolio, can you kind of disaggregate how much of this 40 bps was driven by LIBOR versus the other pieces?

Yeah, I mean, it was about a third LIBOR, about two-thirds of the portfolio mix, especially because there was so much growth in the first lien.

Got it. Thank you. And how do you think about, I guess, dividend coverage go forward, given there's at least one more rate cut baked in, maybe a couple more for the down the line? I think your sensitivity tables show something like a 6% decline in income for 100 bps?

Yeah. So, 25, right. I mean, that 6% is right, I mean, $3 million of net income annually per 25 basis point cut of net income at leverage levels in the 1.3 to 1.4 range, we feel comfortable with our ability to cover our dividend, assuming sort of a normal rate cut cycle. Obviously, at some point, decent enough. But, at some point, also our leverage, our leverage could be 1.4 or 1.5. So, it's hard to know exactly where we hit it, but if you -- we have continually sort of articulated that at a 10% yield and leverage between like 1.1 and 1.25, we sort of cover our dividend and or over our dividend. As we fall below 10, even -- our portfolio saw over 10.1 right now, either because of the mix of our portfolio, because of LIBOR, obviously that 1.1 to 1.25 moves up right to 1.2 to 1.35. But there's enough room to absorb what, sort of any near term significant movements of interest rates.

Okay, that's helpful. And then just on Merx, what drove the decrease in the dividend this quarter and how should we think about that going forward?

Yeah, I think, for Merx and also on in our shipping investments, we decided to leave capital down in both of those businesses, due to their recycling of certain assets within there or in the shipping, for instance, there was some dry dock expenses that was using that capital.

Okay. And then for modeling purposes, how should we think about the dividend in future quarters.

I think we've historically been between 1 million and 1.5 million. As we reduce our investment size on Merx, I would bring it down over time. We are pulling out 12% on the note that's there. So, over time, we model in at 1 to 1.5, but I think depending upon asset sales within Merx, it may decline in the longer side.

But just if you look at it over historically, the 1 to 1.5, which is $4 million to $6 million a year on our sort of equity count right now is about 12%, both on the equity and that's what it yields on the debt. And so it’s just a little lumpier on the equity side than the debt side. So like, 12%, across the whole investment is around how we generally think about it.

Your next question is from Rick Shane with JP Morgan.

Curious in -- further intrigued by Greg's comments about the interest rate sensitivity. Greg, you said, 3 million for 25, down 25 basis points. When I look at your interest rate sensitivity chart on page 13, it's one of the more interesting ones that I've seen in that it's very linear off the floor, down 100 basis points. And then after that, it really starts to -- or, excuse me, flattened how down 200 basis points, I assume that that has to do with floors or some sort of caps that you guys have in place. But I'm curious to make sure we understand this because what this would suggest to me is that for the next 50 basis points, we would expect to see about $6 million, $6.5 million of pressure and then as we move past that, the pressure starts to abate and really understanding that, that looks like it's going to be sort of the sweet spot is going to be really important.

I think your assessment is fair. And I think one of the things that we've been able to hold on to within the middle market origination as well, floors have started leaving the syndicated market as we have been able to keep that as a feature within our agreements. And so your characterization is broadly correct. And it's the existence of floors that moderates that that detriment past 100 basis points.

And it looks to me based on this plus what Greg had said that the majority of their floors are probably down about 75 bps from here.

The majority of the floors would be, so it depends. Most of them are at 1%. But we have a number of names that are 1.5 and in some cases even higher than that. So broadly speaking, correct.

Your next question is from Kyle Joseph with Jefferies.

Following up on Rick's talking about the impact of rates and you guys retiring here a relatively high cost piece of debt. Can you give us a sense for your outlook for cost of funds? I know you talked about terming out some debt eventually, depending on market conditions, but just how you anticipate your cost of funds trending over the near term?

I mean, I think, based upon what we said, we're taking the, if you pro forma just taking out the 6.875, we're down without the LIBOR adjustment, across the funds, down to about 4.9%. And I think that that's where, we're obviously focused on that and so I think, given where we are, given where the interest rates are headed, I think that's a good barometer at this point.

And apologies if I missed it, but it looks like PIC income ticked up in the quarter. Was that related to Sprint or anything one time there?

No, it's just related to Sprint. And we collected the majority of that post quarter end.

And then stepping back a little bit, given what's going on with the rate environment, what's going on with leverage in the BDC space, can you give us any changes to the competitive environment you've seen over the past few months?

I wouldn't say so much over the past few months. I mean, I think, the trends are the same. There has been and continues to be a reasonable amount of capital formation. So there continues to be sort of a good amount of competition, there continues to be a premium available, there seems to be some competitive advantage available for people who have scale, both because they have more origination, they can do bigger deals. And also because they have existing relationships of which to sort of grow from. And then also product diversity, those are the themes we have been beating all the time. So -- and sort of we see that, so I wouldn't say there's anything markedly different, it remains quite competitive. And we have seen nothing that alleviates that.

Your next question is from Finian O'Shea with Wells Fargo securities.

Hi, guys. Good afternoon. First question for Greg on the 2043 notes. Could you give a little more color as to the why on turning those over? I think you noted that, you'd wait for a little more opportune time to replace it with unsecured meaning that, right now, it's not the best, but, after having gone through years of holding them, and I know, you've taken some criticism on the call for it, they seem more attractive than ever, given they'll probably carry us through a recession. So, if you -- with all that said, how would you answer those claims and just kind of expand on why take those out now?

Well, I think, first of all, if you just look at our cost of funds, and you look at where we're taking it out with our credit facility, which has been upsized substantially in the last year, that's one reason, but I think if you look at our funding going forward, and I think as I indicated, we're going to continue to look at potentially down the road, putting some more unsecured debt out, also look at our asset base, and look at what we're putting on our balance sheet, there are a number of ways to finance those, even beyond our credit facility, so we feel very comfortable that we're not shut out of the market at all, from both looking at unsecured and secured financings going forward. So we're very comfortable, kind of building our portfolio up, de-leveraging the portfolio up to 1.4 times with our capital structure, and accessing the markets on when appropriate to, be able to ourselves of a very favorable cost of capital.

Sure, thanks for the color. And then another for anybody, Howard or Tanner, with the shipping assets, those are a large component of non-core now, can you kind of give an overview on the challenge of moving these? Are they hard to clear -- are your specific underlining shifts hard to clear, you don't like the prices today or are there other investors that don't want to sell, just any color as to the challenge of those shipping assets?

Sure, I mean, they're illiquid assets. So, they're hard to clear regardless, right, just because they're just -- they're pretty unique. That said, the prices that we think are available for them are now, in the ballpark of where we would be happy with, and we would expect to be able to sort of transact some of them soon. And it'll be in a piecemeal basis as opposed to sort of a whole portfolio sale, but, we would expect to be able to transact on soon, so the prices are sort of meeting our sense of the value now. And, there's also some strategic opportunities with our -- the whole fleet to sort of bring that together with sort of other larger platforms. So, you're right, it has been hard to move, value of these shifts, we've actually been pretty consistent on, but the market’s ability to pay for these illiquid assets changes a little bit, and then it's now sort of hit the point where we think there is some real ability to transact.

And one more, does the advisor for Apollo receive any of the upfront economics before allocating to the BDC and other funds?

No.

Your next question is from Ryan Lynch with KBW.

Hey, good afternoon. First question, I know originations can be lumpy quarter-to-quarter, but over the previous four quarters, you guys were kind of originating anywhere from 225 million to 300 million. This quarter, that bumped up to 450 million, so can you just talk about what really drove the big spike this quarter?

Yeah, I mean, we can talk in some detail. But I mean, really, over the past two or three quarters is when, as our ability to go up, above the 1 to 1 leverage market in April occurred, sort of the funnel widened, if you will, because we originated the full array of assets that made sense for us that fit between our 500 and our 700. And so, we have sort of said, I think over the past year, we would expect sort of, around this level of origination. So this may be a little bit high and run off is a little bit low. So the net fundings were a little bit higher, but we have sort of, I think, given some guidance of about 100 million of growth, which we said would be 300 million to 350 million of origination. And, so this was a little bit higher than that. But I think it's just indicative of where our platform is and how much flow we're saying.

And then I wanted to ask a question on the dividend. If I look at this quarter’s kind of core operating earnings of about $0.50, you guys had about a 3.3 million catch up from Sprint, and then you guys had no incentive fee, which is to be around $7 million, or so. If I take those two kind of one-time factors into account for $10 million, that added about $0.15 per share to your earnings this quarter. So if you ex those out, earnings would have been around $0.35, running at 1.05 times leverage. So, can you just kind of walk me through, were there any one time items in this quarter’s earnings that kind of -- the one time that they kind of hurt earnings lower and your confidence and your ability to kind of get earnings back up in line with the dividend?

Yeah, there was no dividend income from Merx and the shifts, which we had discussed before. There was a little bit higher expense level, in the normal course, related to a few minor one-time items, but irrelevant. And then, the other -- so that, not exact numbers, but that takes us into the low-40s. And then the growth in the portfolio takes us up to the level that we're comfortable. I mean, there is one other slight number, which is our average fees each quarter over the past six to eight quarters has been between $4 million and $4.5 million, that was a little below this quarter as well. And so all of those things add up. So if you sort, if you look through our model, and you look at a 1.25 times levered portfolio, yielding around 10% with long term averages of fees and dividends off of Merx and the shifts, we cover the dividend. And so we're focused on that. That 1.25 is relevant, but that's -- we closed the quarter 1.03. We -- the bridge from 1.03 to 1.25 has been that the incentive fee hasn't paid these last few quarters. But as the incentive fee kicks back in, getting to that 1.25 leverage will cover the dividend with the incentive fee being paid.

And then I'd also note that the management fee above 1 to 1 asset goes from 1.5% to 1%, which also helps and it's embedded in Howard's guidance as it relates to give it in coverage at our target leverage.

Right. And as I said, obviously, I'm using sort of shorthand math, it's accurate, but it's shorthand. So like, if yield is 9.9, as I said it to an earlier question as opposed to 10, that means 1.3 leverage as opposed to 1.25. And so, there's some variations in there. But, the answer is, I mean, you're looking -- what you said is accurate about those one-time items. But, there were some one-time items the other way combined with sort of the significant growth in the portfolio, which doesn't really kick until this quarter, because it happened during the course of the quarter, sort of bridges the gap.

And then you guys’ investment in Bumblebee, I think that company has about filed for bankruptcy or may have just been announced that they're going to file for bankruptcy. Just wanted to know, does your 630 fair value mark guys have it about, marked about 95% of cost? Is that mark inclusive of the stage as to run through bankruptcy?

Yes. So what I’d say there is that that is a LCD article that came out this -- today or yesterday, our valuations are a point in time, the company has had -- has experienced issues not only related to tariffs, but also related to historical issues with price fixing and consequent litigation expenses. We are a participant in a broader facility and are working with the borrower to deal with the issues and move things forward. But in terms of the specifics, your evaluation is a point in time with the information available to us at the time as of quarter end.

Okay. And then one last one, you guys, meaning the power platform has been on the forefront of working with the SEC to get the AFSC corrected. I was just hoping that you guys could give us an update on where that stands in the process. And any sort of outlook over the next several months before you expect that bill to go?

Since last quarter, there's been continued dialog, there’s been dialog with the SEC, we are filing and amended letter with them based on our approach. I think they've been very positive relative to it, but I wouldn't-- I don't think anything's going to transact in the near future. But there's good correspondence, they are asking good questions and we’re responding appropriately.

[Operator Instructions] Your next question comes from Robert Dodd with Raymond James.

Some nitty-gritty ones. And then Greg, could you tell me the debt extinguishment cost against the next quarter? I didn't get that one?

4.4 million approximately.

4.4. Thank you. And then looking, I mean, Howard, you mentioned lower fees. I mean, if I look at the other income, it was 900,000 across all portfolios, it's been two years since we've seen a number that low. Is there anything that's changed structurally in the portfolio where we should expect a lower other income kind of contribution going forward? Or is it just I mean, obviously, it's volatile quarter to quarter, but is it going to be systematically lower? Or is this just a, kind of a one off set of factors that resulted in this quarter?

You know, one-off set of factors, I mean, related mostly to not that much run-off.

Going back to Merx, if I can, obviously, lost money in the quarter. Can you tell us if, is that related to them rotating their portfolio or was that one-time costs, so the obvious question is, if they're in a position, where in the near term, they’re losing the money, they’re probably not going to pay a dividend. So while I can appreciate your point that Merx, the return you get on that capital should come up to a kind of 12% run rate at some point? Is it -- should we expect that to happen next quarter or is it going to be a longer term process?

So first of all, Merx has retained earnings. Okay. So on their retained earnings, it can be dividend up, the quarter specific for the answer this quarter, okay, is the GAAP basis. So that's what you're reporting. We took -- we had some legal costs related to the securitization that ran through and also that were not capitalized. And we also had some additional bad debt expense that we put on the reserve again based on our reserving policy and so that's what really occurred during the quarter. But nothing outside of the normal course.

Your next question is from Casey Alexander with Compass Point.

Hi, good afternoon. Just if you could educate me, based upon the net losses that resulted in this quarter, will there be any reduction in the incentive fee next quarter? And if so, can you estimate how much?

We've essentially caught up with the look back period.

Your next question is from Rick Shane with JP Morgan.

Hey, guys. Actually, my question was on the look back as well. I was trying to figure out, given the loss in the December quarter, if you would sort of lap that in the December quarter this year. It sounds like we should assume a normal incentive fee starting in the September quarter.

Yes.

And there are no further questions at this time. We'll turn back to management for any closing remarks.

Thank you. On behalf of our team, we want to thank you for your time today and your continued support. Please feel free to call any of us with any questions. Have a good evening.

Thank you. And this does conclude today's conference call. You may now disconnect.