WhiteHorse Finance, Inc. 7.875% Notes due 2028 (WHFCL) Q3 2014 Earnings Report, Transcript and Summary

Good morning. My name is Paula and I’ll be your conference facilitator today. At this time, I would like to welcome everyone to the WhiteHorse Finance Third Quarter 2014 Earnings Teleconference. Our hosts for today’s call are Jay Carvell, Chief Executive Officer, Bill Markert Chief Operating Officer and Gerhard Lombard, Chief Financial Officer. Today’s call is being recorded and will be available for replay beginning at 12 pm Eastern Time. The replay dial-in number is 404-537-3406 and the pin number is 19146769. At this time, all participants have been placed in a listen-only mode and the floor will be open for your questions following the presentation. [Operator Instructions] It is now my pleasure to turn the floor over to Emily Liehen of Prosek Partners.

Thank you Paula and thank you everyone for joining us today to discuss WhiteHorse Finance’s third quarter 2014 earnings results. Before we begin, I would like to remind everyone that certain statements made during this call, which are not based on historical facts including any statements relating to financial guidance, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Because these forward-looking statements involve known and unknown risks and uncertainties, these are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements. WhiteHorse Finance assumes no obligation or responsibility to update any forward-looking statements. With that, allow me to introduce WhiteHorse Finance’s CEO, Jay Carvell. Jay, you may begin.

Thanks Emily, good morning, thank you for joining us today. I hope you’ve had a chance to review our press release announcing our results, which was issued this morning before market opened. I’m going to take you through some highlights for the third quarter before turning the call over to Gerhard to walk you through our financial results. While the third quarter experienced many of the same challenges in credit markets that we’ve seen over the past year, we continued to source high quality loans. The results of our efforts building a healthy pipeline across multiple geographies and industries, working closely with HIG Capital to identify and source new loans and remaining focused on opportunities where we possess informational or systematic advantages. Since early 2013, we have focused our efforts building a diversified, stable portfolio that can weather market volatility while enabling us to provide sustained returns to our shareholders. During the third quarter we invested $65 million across 16 portfolio companies, bringing our investment activity to approximately 172 million for the year, which is 20 million ahead of last year’s nine month pace. As set our third quarter activity has kept us on track to reach our full year 2014 investment goals. Gross proceeds from sales and repayments for the quarter totaled 44 million, which was in line with our expectations. For the year, gross proceeds from sales and repayments are now at 79 million or 34 million lower than the first three quarters of 2013. The primary driver here is the decline in the pace that refinancing’s this year over 2013, reflective of corporate tax and embedded in our portfolio as well as general credit market conditions. Gerhard will provide more detail on our financials in a moment, but I want to spend just a few minutes providing some color on our investment portfolio. As of September 30th, the fair value of the portfolio was up to 369 million an increase of 155 million from the third quarter of 2013, and approximately 22 million higher versus what we reported last quarter. Our investment portfolio up 36 total positions, is primarily comprised of senior secured loans to 34 companies in more than 25 different industries, with an average investment size of $10.3 million and a weighted average yield of 10.3%. None of our investments are currently in or have been in non-accrual status. More than 95% of the loans in our portfolio are variable rate instruments, indexed to LIBOR, which should continue to persist in the portfolio well for a potential rising interest rate environment. The 65 million we invested in the third quarter were spread across 16 companies and 15 different industry segments, including broadcasting, healthcare, auto parts and oil and gas. The 44 million of proceeds we received from sales on the repayments was primarily attributable to our investments in TCO Funding Corp, whose debt was repaid after the company was acquired. Also, ARSloane Acquisition and ILC Industries both refinanced their debt facilities this quarter. The remainder came in through scheduled repayments, amortizations and suites, including 5 million from GMT with a cash lease agreement that we’ve discussed on previous calls. Next, I’d like to spend a moment discussing the markets and our positioning. During the third quarter, capital markets remained active and competitive, with spreads continuing to flatten, though at a slower pace than the prior 9 to 12 months. Credit markets in general have been volatile early in the fourth quarter, in response to a number of micro economic factors. As we mentioned in previous calls, activity in the broader credit and high yield markets has an influence over the smaller end of the spectrum, even if it’s somewhat needed. We expect that to continue to be the trend in our existing portfolio and pipeline. Despite general market instability and difficulties, we are finding healthy opportunities on the middle and small cap credit space, and believe our portfolio is well positioned to withstand movements in the market. And while we expect to encounter competition in the space as institutional investors continue to seek yield wherever they can find it, we believe our commitment and discipline in underwriting process will produce appropriate opportunities for our overall portfolio. As we approach 2015, our focus remains on sourcing quality, risk adjusted opportunities that allow us to meet our goals from an origination and distribution standpoint. We are pleased with the pace of net originations through the third quarter as well as the forward pipeline. With that I’ll now turn the call over to Gerhard, Gerhard?

Thanks’ Jay, looking at our results for the quarter end of September 30th, 2014, net investment income was 4 million, which compares with 4 million reported prior quarter. Third quarter fee income was 346,000. Net unrealized gains on investments were $520,000 compared with net unrealized losses of 262. Unrealized gains recognized during the quarter were primarily attributable to the reversal of unrealized losses. We reported an increase in net assets from operations of 4.6 million or $0.31 per share for the third quarter of 2014, compared with 6 million or $0.40 per share in the third quarter of 2013. The variance between the two quarters relates primarily to prepayment fees of 1.7 million or $0.12 per share that were recognized on one transaction during the third quarter of 2013. Expenses for the quarter totaled 5.2 million primarily consisting of the interest on our credit facilities of 1.4 million, and base management fees and performance based incentive fees of approximately 2.9 million. This compares with 4.8 million in expenses for the 3 months ended September 30, 2013. Switching over to portfolio and investment activity, as of September 30th, the fair value of WhiteHorse Finance’s investment portfolio was 369.2 million, invested in 36 positions across 34 companies and remains primarily comprised of senior secured debt. The weighted average current yield in the portfolio for the quarter was 10.3% compared with 10.6% in the second quarter of 2014. In addition, there were no downgrades to the risk ratings of any investments in the portfolio. Last, there were no non-accrual loans as of September 30, 2014. Turning to our balance sheet, we have cash resources inclusive of restricted cash of approximately 26.5 million for the third quarter of 2014. This compares with 96 million as of December 31st, 2013 and 132.4 million as of the third quarter of 2013. As of September 30th, 2014 the company had indebtedness in the form of senior notes in two credit facilities that on a combined basis, were drawn by approximately 118 million. We’re comfortable that our cash position and credit lines will continue to provide us the ability to source loans and meet our origination goals for the foreseeable future. The company’s asset coverage ratio for borrowed amounts as defined by the 1940 act, was 292% at September 30, well above the statutes requirement of 200%. Net asset value was 227.1 million or $15.16 per share as of September 30th, 2014, essentially flat when compared with 227 million or $15.16 per share as of December 31st, 2013. Last, I’d like to highlight our quarterly distribution, on August 26th; we declared a distribution for the quarter ended September 30th, of 35.5 per share for a total distribution of 5.3 million. Distribution was paid to stockholders on October 3rd, 2014, this marks the companies eighth consecutive distribution since our IPO in December 2012. And we expect to be in a position to continue our regular distributions. That concludes my formal remarks, and I will now turn the call back to the operator for your questions, operator?

The floor is now open for questions [Operator Instructions]. Thank you, your first question comes from the line of Rick Shane of JPM. Rick Shane – JPM: Thanks guys good morning. Thanks for taking my question. The comment [ph] was made that you guys feel that you have the liquidity to fund the foreseeable pipeline. I’d love to talk about the strategy here. You’ve done a good job deploying the original capital. Now you’re sort of approaching, what we would consider to be optimal leverage. The stock’s trading at a discount NAV and has for the better part of the year at this point. I’d love to sort of have you guys explore what the next steps are, what you think is the maximum prudent leverage, what the company’s willingness to issue equity below NAV is – or what the next steps are at this point?

Thanks Rick. Good question. I’m not sure that we’re at optimal leverage yet; the question really is partly market driven, and partly portfolio driven, and looking at our balance sheet over time and trying to assess what the optimal leverage there is. As we continue to deploy capital and as Gerhard pointed out, we feel like we have ample liquidity there to meet those goals and to optimize the portfolio. You’ll see us continue on our original strategy that we outlined at the IPO process, originating loans in the small and mid-cap space into companies that we liked from a risk adjusted bases. As we continue to do that, I think you’ll see the leverage book creep up just a little bit and find that level somewhere, I’m assuming somewhere north of 0.7 times obviously, we know what our limits are on that. And I think you’ll see the overall liquidity, the portfolio improving also, the NAV where we trade in respect to NAV improve. Rick Shane – JPM: Got it. And is there opportunity within the portfolio to rotate out of some of the lower yielding investments is a way to continue to enhance the yield on a portfolio?

Yeah, that’s a good point and I didn’t make that well during that answer, but yes, we see certain parts of the portfolio there that we will rotate out of, as we find more attractive deals. And while part of our strategy is to deploy capital and to use cash efficiently, we also are continually looking out to optimize portfolio and find deals that have better yields and better risk adjusted returns. And we’ll rotate out of those deals that have a little bit lower yield into deals that we have a little bit higher yield as we originate. Rick Shane – JPM: Got it. Okay, thank you guys.

Your next question comes from Troy Ward of KBW. Troy Ward – KBW: Thank you and good morning. Just a follow-up quickly on a risk question, I think of the pieces was kind of your appetite for equity at current levels where you’re trading. If you could respond to that I’d appreciate it?

Sure as you guys noted on other calls, we do have the ability to issue below NAV that was part of the standard package and with our board meetings. It’s not something we’re exploring today, it’s obviously just another tool that you have there. We think that we will continue to originate deals. And that the portfolio will take care of itself, and the market will take care of itself, try not to manage for the price here, we’re really just trying to manage for the best portfolio. And we think that will take care of itself in the stock price. Troy Ward – KBW: Okay, great. And then as we think about the portfolio, I think for us, that’s quite obviously the biggest concern is, if you look at your activity in the current quarter for instance, you did 10, by looking at the portfolio we see 10 new companies added to the portfolio. One of those has a yield of 11.5%. Now if we eliminate that one and look at the other nine, the average size of the investment is 3.5 million and the average yield is 7.2% which includes the floors. How should we be thinking about, you talk about seeing good opportunities and adding good things to the portfolio, when nine of these yields 7.2%. How should we think about the pipeline and how long these are going to be in the portfolio?

Good point. So if we tend to think of our portfolio in three buckets and this is reflected in the presentation that’s on the website, and if you take a look at that, it points up that we look at it in terms of originations, in terms of participations or syndications with other deals and more of a transitory or trading bucket. And so while, if there’s cash available in the portfolio, and a place where we feel like we can do some trading and use up some cash. Then I think you’ll see us do some of those lower yielding deals. Those are also ones where we feel like we can trade out of, as we originate more and as we find other things and the participation and syndication bucket that makes sense. So the lower yielding things were a probably more transitory in nature. And those are things that we’ll cycle out of, as we use some of our other opportunities. We feel like it’s a good use of cash in general, if you’re not originating, or you don’t have a clear path in the very near future to closing. And we’ve talked about how lumpy these things can be, they tend to close on their own pace. And we don’t always control exactly how quickly that happens. And if you’re looking at that, we really do feel like there’s a good use of cash, we’d rather be in something that yields, something like you were talking about, as opposed to what we’re earning on cash, which is fairly de minimis. Troy Ward – KBW: Quarter-over-quarter the cash balance went up and you actually drew 30, you have 33 million out on the facility, is that correct?

It’s a good question, we actually paid on the facility over the prior quarter, if you look at the balance sheet you’ll see there’s a large unsettled balance, approximately 47 million at quarter end. So essentially, we’re earning interest on those investments, but we haven’t settled those trades yet. So it’s actually good outcome from a yield standpoint. There’s no – Troy Ward – KBW: Yeah, I see that. Okay, and then can you talk about the pipeline Jay, when you talk about great deals on the pipeline and opportunities to earn better yields. So what is the current yield on the pipeline? And how many of these other trading investments do you think will be used to fund that pipeline?

The focus of the pipeline is very much the origination side of the business. It’s hard for me to give you what I think the yield is on those. Those tend to be at the higher end of what we do in our portfolio. And in general, I think you’ll recall we don’t try to talk specifically about what we’re seeing in the portfolio. The – our pace – like Gerhard hit in the second, but – kind of what our pace has historically been, and what we’re seeing. I would tell you that our forward pipeline looks similar in nature to what we’ve done, both from a yield and kind of size standpoint.

Yeah, and I’ll just, I’ll add to that, if you look back to calendar 2014 from origination standpoint, we’ve originated Q1 was 11%, Q2 was 11.5%. Q3 as you pointed out, slightly lower and includes that high yielding asset, but that was at 9.3%. And so we’ve been looking at yields in the kind of low teens around 11% from a direct origination standpoint. Troy Ward – KBW: So your current portfolio yield, I think you mentioned, was 10.3%. And then the real question investors should be asking is, you’re paying a $0.36 dividend, you’ve earned $0.27 for three quarters in a row. Where does the portfolio yield have to be, not on a quarterly basis, but where does the portfolio yield have to be for your earned dividend. And how are you going to make that happen?

It’s a good question. You’re right, that is the one you’re supposed to ask. And I’d point you back again to the presentation on the website, we put together some scenario analysis there that walks you through. Essentially the two or three variables that you need to assess, probably which would be pace – and leverage and yield. And you can kind of and you have to kind of make your own assumptions on those, where we put out a few ways to look at that and see where we have to be. I think in general, you can make the assumption that if we continue the pace that we have historically, you can see where we start to earn that dividend. It’s not that far out in the future, but again you’ve kind of got to make your assumptions within that model, but there’s not that many assumptions to muck you around with. Troy Ward – KBW: Okay. Thank you.

[Operator Instructions] Your next question comes Terry Ma of Barclays. Terry Ma – Barclays: Hey guys, I think most of my questions have been answered, but on the New Mountain financing your own program investment, it looks like you guys added to this quarter. Can you just remind us what the, expected return on that investment is? And just more broadly speaking, when you think about investments in your non-qualified bucket, what type of required returns are you looking for?

Thanks Terry. If I heard your question correctly it’s about the expected return on New Mountain. And so as you pointed out, you can see on the P&L this quarter, we recognized the first dividend which was declared during Q3. Now that portfolio hasn’t completely ramped and so the first distribution, I don’t think is really reflective of what we’re going to see there going forward. Our expectation is, that’s going to be a low-teens type return investment, which is in line with our investment strategy. So it kind of fits right into what we’re looking at from an origination standpoint. But again, you should during Q4, you should see the next distribution come in, which should be at a more fully ramped level and more reflective of a go-forward return.

The second half Terry, in terms of the 30% bucket, our view on that is, that’s a good tool to have. We’re certainly cognizant of the availability of capital there. We’re not looking to maximize that, there’s several places that you can put that capital, including things like the senior loan fund and other finance related companies. And we’re looking at those; we have some expertise in that space across the rest of HIG. And there as we see things that make sense and opportunistically want to invest there, you’ll see that, but it’s not a goal of ours to maximize that at any point in time just to maximizing. Terry Ma – Barclays: Okay, great. Appreciate the color, that’s it for me, thanks.

There are no further questions at this time. I would now to like to turn the floor back over to Jay Carvell for any additional or closing remarks.

Okay. Thanks for joining us today everybody. We look forward to speaking to you next quarter, operator back to you.

Thank you. That does conclude today’s conference call. Thank you for your participation. All participants may disconnect at this time.