BlackRock TCP Capital Corp. (TCPC) Q1 2015 Earnings Report, Transcript and Summary

Ladies and gentlemen, good afternoon. Welcome everyone to the TCP Capital Corp. first quarter 2015 earnings conference call. [Operator Instructions] And now, I'd like to turn the call over to Jessica Ekeberg, Vice President of TCP Capital Corp Global Investor Relations team. Jessica, please proceed.

Thank you. Before we begin, I would like to note that this conference call may contained forward-looking statements based on the estimates and assumptions of management, at the time of such statements and are no guarantees of future performance. Forward-looking statements involve risks and uncertainties and actual results could differ materially from those projected. Any forward-looking statements made on this call are made as of today and are subject to change without notice. During today's call, we will refer to a slide presentation which you can access by visiting our website, www.tcpcapital.com, click on the Investor Relations link and select Events & Presentations. Our earnings release and 10-Q are also available on our site. I will now turn the call over to Mr. Howard Levkowitz, Chairman and CEO of TCP Capital Corp.

Thanks, Jessica. We would like to thank everyone for participating in today's call. I am here with our President and COO, Raj Vig; our Chief Financial Officer, Paul Davis, and other members of the TCPC team. This morning, we issued our earnings release for the first quarter ended March 31, 2015. We also posted a supplemental earnings presentation to our website, which we will refer to throughout this call. We will begin our call with an overview of TCPC's performance and investment activities. And then, our CFO, Paul Davis will provide more detail on our financial results. Then I will provide some additional perspective on the current environment before we take your questions. I will begin with a review of the highlights of our first quarter, which are summarized on Slide 4 of our presentation. We deployed $107 million in investments during the quarter with net deployments of $56 million. We delivered net investment income of $0.37 per share, almost all of which came from recurring income. Our net asset value increased to $15.03 from $15.01 at the end of the fourth quarter of last year. We declared a regular quarterly dividend of $0.36 per share payable on June 30, 2015, to shareholders of record on June 16. Lastly, we increased our TCPC funding facility to $300 million, up from $250 million and expanded accordion feature to $350 million. This credit facility has an attractive interest rate of LIBOR plus 2.25%. For those viewing our presentation, please turn to Slide 7. At the end of the first quarter, our highly diversified portfolio had a fair value of over $1.2 billion invested in 84 companies across numerous industries. In the first quarter, we maintained our focus on investing in senior secured and floating rate debt. At quarter end, approximately 97% of the portfolio was in senior secured debt and 79% of these debt positions were floating rate. With most of our debt portfolio in floating rate instruments, we are well-positioned for any meaningful rise in interest rates. During the first quarter, which is typically a seasonally slow quarter for TCPC and the sector, we continue to focus on allocating capital primarily to income producing securities, and deployed approximately $107 million in nine different senior secured investments. These investments included senior secured debt investments in two new and seven existing portfolio companies. Periodically, we have the opportunity to invest additional capital in existing portfolio companies. Our preexisting relationship with these firms means we already know their business and operating model well. So we believe the strategy can produce strong risk adjusted returns for our portfolio. Our five largest investments in the first quarter reflect our diversification strategy, and include a $22 million senior secured loan to First Advantage, a leading provider of talent acquisition solutions; a $19 million senior secured loan to Silicon Graphics, a global leader in high performance computing solutions, a $15 million senior secured loan to Gogo, a provider of in-flight internet connectivity and wireless in-cabin digital entertainment solutions; a $14 million senior secured loan to One Sky, a private aviation company; and an $8 million senior secured loan to NEXTracker, a provider of horizontal trackers to solar systems manufacturers. In the first quarter we exited $50.4 million of investments, including a $16 million senior secured loan to M&G Chemicals, a $7 million senior secured loan to Websense and a $7 million senior secured loan to Connexity. New investments in the quarter had a weighted average effective yield of 11.4% and the investments we exit during the quarter had a weighted average effective yield of 10.6%. This represents a 70 basis point increase in the investments we made during the quarter versus those we exited. And is the eighth quarter in a row we have underwritten new investments at higher yields than our exits. Our overall effective portfolio yield for the quarter was 10.9%. A number of our investors have continued to ask us about our energy exposure. So I'll provide a brief update on that now. First, I should remind you that we have a highly diversified portfolio and our direct energy investments included two loans that taken together comprised only 2% of the fair value of our portfolio at the end of the first quarter. MD America received a large equity commitment from its owners and has stated that it plans to use the proceeds to repay our term loan in full. Our second direct energy investment is Jefferson Gold Coast, which provides storage to oil producers. The company is benefiting from increased demand for storage solutions resulting from lower oil prices. Iracore and Boomerang Tube are two industrial businesses that are dependant on demand from the energy industry. Both loans, which in the aggregate, comprised less than 1% of total assets are performing, but the company experienced lower earnings tide to end-market activity. These loans maybe modified in future, but we do not currently anticipate any material impact on our portfolio and we have not placed them on non-accrual status. Overall, we are pleased with the performance of our energy portfolio, and we continue to carefully evaluate opportunities in this sector. Now, I will turn the call over to Paul for more detailed report of our first quarter financial results. After Paul's comments, I will provide some additional perspective on what we're seeing in the market. Then we will take your questions. Paul?

Thank, Howard. We are pleased to report another strong quarter of recurring incomes. First quarter gross investment income was $0.67 per share or $32.8 million, which included recurring cash income of $0.59 per share, fee income of $0.02 per share, recurring PIK income of $0.03 per share, and recurring discount amortization of $0.03 per share. As a reminder, it's our general policy to amortize upfront economics over time rather than recognize the income all at once at the time we make the investment. Earnings for the quarter included prepayment income of $0.01 per share and cash income from aircraft leases of $0.02 per share, the latter being offset by depreciation expense of $0.01 per share, which reduced the company's tax basis income. As shown on Slides 8 and 11, net investment income before preferred dividends and incentive compensation was $22.9 million or $0.47 per share. Net investment income after preferred dividends and incentive compensation on net investment income was $18.1 million or $0.37 per share, out-earning our dividend by $0.01. Total operating expense for the quarter was approximately $9.9 million or $0.20 per share, which included interest expense of $0.07 per share. We also accrued dividends on the preferred leverage facility of $0.01 per share. Our annualized operating expense ratio, including interest expense and preferred dividends was 5.6% of average net assets before incentive compensation, among the lowest expense ratios in the industry, both with and without interest expense. Incentive compensation from net investment income for the quarter was $4.5 million or $0.09 per share, which is computed by multiplying net investment income after preferred dividends by 20%. As noted in Slide 12, all incentive compensation is subject to the company meeting a cumulative total return hurdle of 8% annually. Net realized and unrealized gains were $0.4 million or $0.01 per share comprised of net realized losses of $0.1 million and net unrealized gains of $0.5 million. Our entire portfolio is mark-to-market each quarter with substantially the entire portfolio priced using independent third-party sources with only a de minimis amount being priced internally. At the beginning of the quarter, we placed 50% of our Edmentum investment on non-accrual, which had approximately $0.005 on our net investment income. We are working hard to restructure Edmentum's balance sheet to maximize the return on our investment, which had fair value of $11.3 million comprised less than 1% of our total assets at quarter end. After paying our first quarter regular dividend of $0.36 per share or $17.5 million, we closed the first quarter with tax basis undistributed ordinary income of approximately $23.3 million. Available liquidity at the end of the quarter totaled approximately $244 million, which was comprised of total available leverage of $213.8 million and cash and cash equivalents of $25.6 million plus net pending settlements of $5.1 million. Available leverage includes the remaining $47 million available on our $75 million leverage commitment to small business administration. Combined leverage net of cash was approximately 0.66x common equity at quarter end. Turning to Slide 13, at the end of the quarter, our total weighted average interest rate on amounts outstanding on our combined leverage program, including both debt and preferred equity was 2.9%. This reflects our preferred equity facility at a rate of LIBOR plus 85 basis points; our TCPC fund facility a rate of LIBOR plus 2.25%; our partnership facility at a rate of LIBOR plus 2.5%; our convertibles notes at 5.25% and our SBA debentures at a rate of 2.85% plus fees. Finally, during the quarter, we further increased our liquidity and capital availability through a $50 million expansion of our TCPC funding facility and a $50 million expansion of the facility's accordion feature. I'll now turn the call back over to Howard.

Thanks, Paul. Hopefully, you know that our Annual Shareholder Meeting is on May 20, and all of our shareholders are welcome to attend. If not already voted, please do so. Similar to many of our BDC peers, we included in our proxy a proposal for shareholder approval to issue up to 25% of our common shares on any given date over the next 12 months at a price below net asset value. To be clear, at this time, we do not intend to issue equity below NAV, and certainly not unless it is accretive to shareholders. However, we included this proposal to provide flexibility for potential future scenarios. This is basically an insurance policy our shareholders have approved every year since we went public. If this proposal is approved, and we hope it will be, no action will be taken unless our independent directors determine that issuing equity below net asset value would be in the best interest of shareholders. Now, I will briefly cover what we are seeing, and then open the line for questions. The leverage lending markets were generally slow during the first quarter due to seasonality, lower levels of M&A and regulated institutions attempting to determine the true impact of the more rigorously enforced leverage lending rules. Volumes appear to be picking up, and this seems to be carrying over into the middle market on which we are focused. Our second quarter is off to a good start in terms of originations. Through May 6, 2015, we have invested approximately $69.4 million primarily in three new senior secured loans with a combined effective yield of approximately 10.3%. This yield is slightly below our overall effective yield based on the impact of one larger transaction, which should not be considered indicative of a change in the market. We note that originations can be lumpy and neither the pace nor the yield should be annualized. Our primary focus remains on a recurring earning stream by effectively putting a recently expanded and diversified liquidity sources toward to optimize our portfolio. TCPC has built a strong market position by leveraging our platform to lend to establish middle market companies with sustainable competitive advantages that generate significant cash flow and/or have significant asset coverage or enterprise value. In general, the middle market remains healthy and continues to outpace overall growth in the U.S. economy, serving as the primary engine driving job creation. We believe demand for growth capital from the middle market remains strong. Even the newer entrants have emerged recently to serve the needs of the middle market. Some traditional lenders have permanently retreated from the market for variety of reasons. And this is creating substantial opportunities for non-bank vendors such as TCPC. Many of you will also be aware of the public announcement made by GE last month, relating that their GE Capital unit, in which they have stated they are pursuing an exit from the U.S. middle market lending business. We believe this further enhances the opportunity for established non-bank lenders such as TCPC. Looking to the future, we are uniquely qualified for continued success for several reasons. First, we have scale and depth in our origination and servicing platform. Over the last couple of years, we have expand our origination platform, we now have a highly experience team of more than 80 people firm-wide, with our investment professionals organized into 19 discrete industry groups. We believe this structure provides us with the tremendous competitive advantage in sourcing transactions and gaining the trust of managements, teams, owners and their advisors. As a result, we are seeing growth in deal flow that allows us to continue to take a highly selective approach to the investments we make. Second, our focus on senior secured loans, most of which are floating rate, has resulted in a lower overall risk profile and strong portfolio performance. This has enabled us to consistently outrun our dividend and to make special distributions on a number of occasions since we went public. In addition, our dividend coverage remains strong. Third, our low cost of capital and diverse funding sources continue to be key competitive advantages for TCPC. In addition, TCPC remains well-positioned with our attractively priced leverage and financing flexibility, which includes our convertible notes and our long-term unsecured notes from the SBIC facility, which adds another source of low cost funding. Finally, our interests are closely aligned with our shareholders. Our origination income recognition practices are conservative and we have one of the most shareholder-friendly fee structures in the industry. We have personally invested more than $10 million alongside our shareholders, and members of the management team and the Board of Directors have on a number of occasions purchased shares in the open market. In addition, as previously noted, our Board recently approved a share repurchase plan in the event our shares trade below NAV. In closing, we are pleased with our performance in the first quarter of 2015. We are optimistic about our prospects for delivering continued growth and returns based on our opportunity set in our growing origination platform. And we remain committed to our rigorous investment process that delivers high risk adjusted return, while reserving capital over the long-term. We would like to thank all our shareholders for your confidence and your continued support. And with that, operator, please open the call for questions.

[Operator Instructions] And our first question comes from the line of Greg Mason of KBW.

Howard this is Troy, actually. Can you just comment a little bit more on color on your origination activity in the first quarter? Obviously, across this space, as earnings have been coming out in this sector we've seen really just almost every entity really come in below expectations on the origination side, and some of them meaningfully. So your activity seems to be a little better, at least getting to the finish line. Can you speak to the timing of when some of those deals started, when they closed? And maybe just give us some additional color on how you're able to keep maybe a pipeline that was maybe a little more -- you got to the finish line more often than some of your peers?

Thanks for the question. I think what you described about the industry generally is reflective of what we saw, which was a reduced level of activity across the board in Q1. The majority of our investments in Q1 were in existing portfolio of companies, which made them somewhat distinct from new investments, because these were companies in which we were already involved, had the benefit of comfort, having known them for a while, their management teams and their businesses. And so that was a little bit more unusual and put us in a unique position. Having said that, our business doesn't tend to follow the overall market completely, because a lot of the things we do are a little bit more unique. That's not that we're functioning in a vacuum, we're not. But we have a number of different areas in which we're not competing with a huge number of people across the board. With respect to the timing, they were somewhat spread out during the quarter, but our business is lumpy during Q2, which is off to a good start. That happened a little bit later. In fact, most of the closings were at the beginning of this month, but that timing is often hard to predict. As I think you're aware of, when you're dealing with a number of companies, you may think you have a closing date and for whatever reasons the deal dynamics pushes it all.

And then you mentioned, and obviously it's been a big topic on all the conference calls with GE making the move in mid-April to exit the middle market. As you see this event happening, what do you anticipate or do you anticipate that there is any benefit that you get a direct benefit, whether it's an acquisition of talent, maybe a team. I know you brought on a venture or lending team last year. Are you looking to expand your platform at all with GE getting out of the middle market?

I suspect most of the benefits will be indirect. We historically haven't competed head-to-head with GE on very many things. They had a hugely lower cost of capital than we, and we're focused on somewhat different things. But given their size, their breadth and how pervasive really their influence has been on the middle market over many years, I think it's going to have an indirect effect on everybody. Wherever the various pieces of their business windup going, unless they go into a depository institution, it's unlikely that the buyers will have the same cost of funding that GE did, unless it's on highly leverage basis. So when you think about how that ripples through the market, it's certainly our expectation that it should be helpful to us. And with respect to talent, we're always looking for good people.

And our next question comes from the line of Greg Nelson of Wells Fargo.

Just a couple of quick ones. Just a follow-up on, obviously, SBIC debt was flat sequentially. I'm just wondering to get an idea on the pipeline here? Was this quarter more of a function of the lack of deal flow just being in add-on investments, so there is nothing new really to fit in the facility or I just want to make sure that the pipeline outlook is still pretty positive to get that ramped?

I think going to your second question first, the activity in the first quarter as Howard characterized it was more, and it was weighted towards existing name. So in many ways that sort of take that -- filter that out for a second, and the volume was lower excluding that. That being said, we feel very good about the aggressive ramp of the SBIC, since we got the license and we're able to be actionable with it. I would also just reiterate that we feel fortunate that the SBA gave us the ability to not have to deposit equity down at the SBIC level to sort of without it being able to be put to work versus funding as we go, so to speak, so a very efficient use of the equity capital. And in terms of the pipeline, we never saw this when we first decided to apply for the license, as a sort of specific linear growth similar to the way we think about our existing business. Not only is our existing business a bit chunky, but when you think about the SBIC, as a isolated part of that, it also will be chunky. But that being said, we feel like we've been able to deploy a reasonable amount and using a fair bit of the life to first license thus far. Going forward, we continue to see in the pipeline eligible names. In fact, in Q2 there is another eligible, that's already been funded or committed to. But I think without changing the character of how we see it deployed, we do expect to deploy it on an ongoing basis. We do expect to see more names as we have seen in the very near-term, and an existing deployment. But I don't think we have an ability to say, any dollar amount, or with any regularity how that moves forward other than it will move forward.

Just kind of on the deal flow. The past four quarter you've done a few deals at least in the life sciences business, that you've been doing out. And I didn't see any nuance this quarter. Just kind of, get your thoughts, is that slowing down or do you continue to see good opportunities there?

Yes, I'll take that one as well. I think, in the venture debt area we have been very focused originally and currently on areas that we think have good secular growth and an ability to diligence, aside from the structural protections that sector lets you have, outside the business diligence, we also have been able to I think supplement not only the new team, but our existing team in areas that we feel we have a good insight. I think in the areas of sciences, I would say, it's been less in life sciences, which is a very specialize knowledge versus in things that have more of an agricultural or foods sort of substitute. More upstream, if you will, on the agricultural side than life sciences. So I think I nuanced that a little bit more than saying, there has been a lack of life sciences this quarter.

And then just one last one. Obviously, Howard, you alluded to and talked about the slowdown during the first quarter. Now, obviously, there is activity coming back and there seems to be somewhat of pent-up demand and your ability to grow the portfolio was allowed by add on investments during the quarter. Now, we're starting to see some things reprice and repay. Just wanted to get your thoughts about how you're thinking about repayment activity going forward?

Repayment activity was fairly slow in Q1. We would expect it to be more active in Q2 based on commitments that we've gotten from companies to date, but we always have a degree of caution around that because we have in fact one portfolio of company that's doing very well and keep selling us their -- refinancing us every quarter, and then seems to have some reasons for not doing it, which is great from our perspective. But that's just by way of examples, it's not always predictable. But I think it's reasonable to assume that it will be higher in Q2 than it was in Q1.

Our next question comes from the line of Robert Dodd of Raymond James.

On kind of the indirect point on GE and everything else being going on pricing, and I am referring to this on kind of a like-for-like basis, as you pointed out in your comments, the second quarter won lower coupon investment, but that's unique to the company. So I mean on a like-for-like basis, and you've seen this going on for several quarters now. I mean where do you think the pricing environment is in terms of being impacted by these more rigorous enforcement of the leverage lending rules. I mean, your new coupons been higher than your exits for eight quarters, and some of those also have being imposed for all of that period. So there is a general kind of a positive trend. But could you give us anymore color on where you think we are? And again on kind of a like-for-like pricing for comparable asset types?

The compression trend that we saw for most of 2014, seem to end in the fourth quarter. And first quarter of this year was like volume and each transaction was distinct. I don't think we're ready to say that there has been a truly fundamental change in the market. The downward pressure seems to have certainly slowed down, if not stopped. Each one of our transactions is a bit unique and that there are clearly things that are getting done at pricing that we're passing on. In fact, I would say, we're probably passing on a record number of things at the moment. So in parts of the market I think people are being very aggressive on both pricing and structure. But we've been able to maintain effective yields by focusing, I think on things that are little bit different than perhaps the broader markets, but its too early to say that this trend is lasting, and I think it's really too early to determine what the ultimate impacts of GE are going to be. Although, we think it's likely to be helpful. And we also think that this increased regulatory scrutiny is going to be helpful. It's not that the rules are new. The regulators introduced them in the spring of 2013. They have just gotten more rigorous in their communications with the banks about how serious they are. And so clearly some of that is resulting in a slow down in transactions, as people figure out how they're going to handle it. And some of it is probably nearing to our benefit.

So just one more. When we look at SGI and Gogo, I mean, you've always kind of -- I wouldn't say a tech biased, but particularly a tech expertise that you've utilized. I mean is there anything you have that we can read into, as you say you're turning down a record number of deals, but you did a couple of tech ones. I mean is the environment there in your view and in your understanding as a market versus maybe other participants, particularly appealing right now versus other GDP sickouts, if I can say it that way?

Certainly, there is not a tech bias. I think we have a good franchise and set of domain expertise. I don't say it is a single domain, because between Gogo and Silicon Graphics and a software company, they are very different business models. But that being said, we do find that the tech sector, or at least parts of it, are less cyclical than others, and we do like the defensibility at a high level. Each one of the names will have a very different approach to it. For instance, one is a hardware name and a leverage level and structure for that entity will be very different than something that's a software name, for instance, with no CapEx and a very different working capital dynamic. But we've had a very long history with the tech and tech-related sectors. We do feel we have a competency there, but to be honest, we also get approached by -- I think there is some selection bias, because we get approached by folks knowing that that history is there and that ability to move and close on those deals there, it's not that everyone's call out bias versus some more self selection, given what we've done and who knows us for that.

Our next question comes from the line of Chris York of JMP Securities.

Two of them have been asked any answered, so switching gears a little bit. You guys have done good job with your aircraft leasing portfolio. Are there any others specialty finance businesses maybe like equipment leasing or container leasing that you guys have considered exploring and expanding into?

We are always looking at different areas, typically things that utilize our core expertise or related to something that we've done in the past. And you mentioned aircraft, that's a business we got into after 9/11 in 2003, and we've been opportunistic. So we continue to look at different areas we moved into doing energy, technology and earlier stage companies, and we will continue to look at other areas as well. But before we enter any of them, we want to make sure that that they satisfy the sort of rigorous of our process, and both being able to make sure that we're getting good deals and that they meet our lending criteria.

And then lastly, it looks like the shares outstanding post quarter end picked up a little bit, is that from use on your ATM?

Yes. It is. So we use the ATM judiciously and on unlimited basis during the quarter.

And then just for housekeeping, what was the average price of those shares?

Let me look that up. I'll come back to you on that one.

And our next question comes from the line of Christopher Nolan of MLV & Co.

Two questions. One is, it seems like we're due for a capital raise and equity raise. Is that a fair way to look at it?

Well, I don't know that we're due for anything, Chris. I mean, we have been active participant in the Capital Partners deal. Our goal is to long-term view, what makes the most sense for shareholders here. And historically we've raised the equity, when we started to get more leverage and certainly over time we would expect to do that. But at the moment, our goal is really to effectively utilize the additional leverage capacity that we have. Paul just mentioned that we issued a few shares under the ATM, that's been very judicious. And I think we'll see what happens with our pipeline and our growth.

Howard is the slower demand of deals in the market sort of a driver in terms of the pace that you guys would raise capital at?

Our goal is to only raise capital when we think it's going to be long-term beneficial to the shareholders. So clearly, we've had some significant growth in the past couple of years. We've also had times when our growth has been slower, and in fact Q1 a couple of years ago, when the portfolio shrunk. And so I think as we look at the opportunities that we have, we're looking at not only new deals, how fast we're getting repayments back, some portfolio optimization, which is things we've done in the past also. And you can expect us to look at all of those before we would make a decision about raising additional equity.

And the follow-up is supplemental dividends. Am I correct that you guys have not announced a supplemental dividend for this quarter?

That is correct.

And given the amount of spillover income, which I think passed the 23.3 that's roughly $0.40 of share roughly.

It's 48.

And would you expect to do a larger supplemental dividend or how should we read into that?

Historically that's basically been in reserve. The supplemental dividends that we paid have been based on current earnings, either in back quarter or looking across a couple quarters, and that's the basis on which we've done it. And we continue to evaluate at every quarter with our board, but we've never used sort of that large reserve for a supplemental dividend in the past.

Our next question comes from the line of Jon Preizler of RH Capital.

I might have missed it, when Howard gave the number of originations in the second quarter through May 6. I think I couldn't hear, it was $59 million or $69 million.

It was $69 million.

And is that net of repayments or did you give a repayment number?

That is a gross number. We don't usually do the repayments number at this point in the quarter.

Another question, I don't know if how has already asked, I jumped on late. Was there any discussion on the senior loan fund similar to some of your peers, is there any need for that?

We have analyzed it. We continue to analyze it. We haven't to date put such vehicle in place. We've been very happy with the traditional loans that we originate. But we will continue to look at it, and it's conceivable that at some point in the future it could make sense for us. It's certainly dovetails nicely with what we do at TCPC and some other parts of our business, but today we haven't announced anything.

And maybe just a housekeeping, Paul Davis, just itemized numbers. But there is sequential decline in NII from $0.50 to $0.46. Can you just breakdown on the per share amount how that was allocated?

Difference between the fourth quarter at $0.50 and the first quarter at $0.46?

Correct.

That came from a small decline and OID income, about $0.01. Little bit of a decline and PIK income by about $0.01. Some of these things kind of go up and down over time. I think $0.01 decrease in cash interest income and $0.01 decrease in another income. And the cash interest income, that decrease was just prepayment.

That was a prepayment?

The ones that decreased --

There was a lower level of prepayments.

I think that's when you referred to amortizing that over time?

Yes.

And I am showing no further questions at this time. I'd like to hand the call back over to Mr. Howard Levkowitz for any closing remarks. End of Q&A

Thanks everybody. We appreciate your questions and our dialogue today. I'd like to thank our experienced, dedicated and talented team of professionals at TCP Capital Corp. Thanks again for joining us. This concludes today's call.

Ladies and gentlemen, thank you for participating in today's conference. That does conclude today's presentation. Have a great day everyone.