Golub Capital BDC's CEO Discusses Q2 2013 Results - Earnings Call Transcript

May. 3.13 | About: Golub Capital (GBDC)

Golub Capital BDC, Inc. (NASDAQ:GBDC)

Q2 2013 Earnings Conference Call

May 3, 2013 11:00 ET


David Golub - Chief Executive Officer

Ross Teune - Chief Financial Officer


Greg Mason - Keefe, Bruyette & Woods

Jon Bock - Wells Fargo Securities

J.T. Rogers - Janney Capital Market


Good morning and welcome to Golub Capital BDC’s Incorporated March 31, 2013 Quarterly Earnings Conference Call.

Before we begin, I would like to take a moment to remind our listeners that remarks made during this call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Statements other than the statements of historical facts made during this call may constitute forward-looking statements and are not guarantees of future performance or results and involve a number of risks and uncertainties. Actual results may differ materially from those in the forward-looking statements as a result of a number of factors, including those described from time-to-time in Golub Capital BDC Incorporated filings with the Securities and Exchange Commission.

For a slide presentation that we intend to refer to on the earnings call, please visit the Events and Presentations link on the homepage of our website, www.golubcapitalbdc.com and click on the Investor Presentations link to find the March 31, 2013 Investors Presentation. Golub Capital BDC’s earnings release is also available on the company’s website in the Investor Relations section. As a reminder, this call is being recorded for replay purposes.

I would now like to turn the call over to David Golub, Chief Executive Officer of Golub Capital BDC. You may go ahead sir.

David Golub - Chief Executive Officer

Thank you very much. Good afternoon everybody and thanks for joining us today. I’m joined today by Ross Teune, our Chief Financial Officer. Earlier today we issued our quarterly earnings press release for the quarter ended March 31st and we posted a supplemental earnings presentation on the website. Ross and I will be referring to this presentation throughout the call today. I’d like to start today by providing an overview of the March 31st quarterly financial results, Ross is then going to take you through our quarterly results in more detail and I’ll come back at the end and provide an update on current market conditions.

So with that let’s get started. As highlighted on slide 2 of the Investor Presentation I’m pleased to report we had another strong quarter for the three months ended March 31, 2013 GBDC generated net investment income of $10.4 million or $0.32 per share that compares to $9.6 million or $0.34 per share for the quarter ended December 31, 2012. Net income (AKA) net increased in net assets resulting from operations for the quarter ended March 31, 2013 was $12.3 million or $0.38 per share as compared to $9.3 million or $0.33 per share for the quarter ended September 30, 2012.

I always like to highlight what caused the distinction between EPS and NII. In this case EPS was $0.38 per share and NII was $0.32 per share a $0.06 difference. Let me speak briefly about the key factors in that $0.06 per share difference. The primary element was net realized and unrealized gain on investments of $1.9 million. We’ll discuss later overall credit quality and the portfolio which remains very strong. The net gain of $1.9 million was attributable not to one but to a bunch of small unrealized gains on middle market debt and equity investments and those gains more than offset one notable unrealized loss of $1.4 million loss on a debt investment in Tecta America Corp. Tecta is a Commercial Roofing Services company that’s been negatively impacted by ongoing softness in the non-residential building construction sector. The company remains current with all interest payments and we’re currently actively monitoring this investment, the fair value of our exposure is small, it’s $1.9 million.

So negative credit loss is approximately $1.9 million were the big contributor to the $0.06 differential between our NII and our EPS. In regards to investment activity new origination commitments were $58.1 million for the three months ended March 31. As expected the level of new originations was down from a very robust quarter ended December 31, 2012 but we were still in relatively solid shape taking into account the impact of the pushed close transactions prior to anticipated tax changes in the last quarter of 2013. If we look at that $58.1 million by asset type approximately 36% were senior secured loans, 25% were one stop loans, 38% were second lien loans and 1% were equity securities. Overall total investments in portfolio companies at fair value increased by approximately $20.1 million during the three months ended March 31st.

During the quarter, we also enhanced the terms of our debt securitization. We increased the size of the facility by $50 million and we negotiated lower pricing on the Class A notes, which went from LIBOR plus 2.4% to LIBOR plus 1.74%. We also extended the reinvestment period on the facility through July of 2015. The amendment that I just described to the debt securitization facility further demonstrates our capability to utilize securitization facilities to provide very stable and very attractively priced debt financing.

Turning to slide three of the presentation, you can see on the table that $0.32 per share, we earned from net investment income and the $0.38 per share we earned from a net income perspective you can see that clearly. I also want to highlight the nice lump in our, in GBDC’s net asset value this quarter to 14.80 as of March 31, 2013 from 14.66 as of 12/31. This increase is attributable to earnings in excess of our dividend and also to the accretion from the common stock offering that we completed back in January.

On the bottom of the page, I also want to highlight the high degree of diversification in our portfolio. Over the past year, we have grown the total investments by nearly 25% but the average size of our investments has remained relatively stable and I think this is important because it highlights the strength of our origination platform and our ability to grow and maintain a very high level of diversification and granularity.

With that, I’m going to hand the floor to Ross; he is going to discuss the financial results in more detail.

Ross Teune - Chief Financial Officer

Thanks, David. As David communicated originations totaled $58.1 million for the quarter. Exits from repayments and sales were $37.6 million as we take into account other variables such as net fundings on revolvers, net change in unamortized fess and net change in unrealized gains and losses overall net quarterly funds growth was $20.1 million.

Looking at the asset mix at the bottom of the slide, despite originating a higher percentage of second lien assets this quarter the overall product mix remained relatively stable as the high percentage of our runoff this quarter was also in the second lien product category. And looking at the table, one stop investments increased slightly from 47% to $49% this quarter with no other kind of significant changes to the other product categories. We are looking at page four of the slide presentation that asset mix table at the bottom.

So, flipping over to slide to page five on the balance sheet, we ended the quarter with total investment of $788.4 million, total cash and restricted cash of $93.2 million with total assets just over $83 million. Looking at the liabilities, our borrowings were $385.7 million . This consisted ofs$203 million in floating rate debt issued for our securitization vehicle, a $135 million of fixed rate debentures issued through our SBIC licenses and $47.7 million that was outstanding on our revolving credit facility.

Total net assets at the quarter, at the end of the quarter were $499.7 million up about $80 million from the primary - from the prior quarter primarily duet to the common stock offering we completed back in January. From a GAAP perspective, our debt to equity ratio declined to 0.77 times due to the stock offering, calculated for our regulatory limit, our debt to equity ratio was 0.5 times. As David mentioned, we saw an increase in our net asset value to $14.80 at the end of the quarter.

Moving to next slide, the quarterly statement of operations, total investment income for the quarter ended March 31st, was $20.1 million up $1.5 million from the previous quarter primarily due to growth in average assets. Total investment income included $2 million of fee amortization. This was down from $2.4 million from the previous quarter primarily due to a decline in prepayment this quarter.

In addition, investment income for the quarter included $0.8 million of fee income from prepayment penalties which is consistent with fee income from prepayment penalties generated in the previous quarter.

On the expense side, total expenses of $9.7 million increased by $0.7 million during the quarter primarily due to an increase in interest expense management fees and incentive fees. As David mentioned earlier we do not unrealized gain on investments of $1.9 million with total net income of $12.3 million.

Turning to slide seven, these charts graphically summarize the breakdown of our new originations and end of period investments. Looking at the chart on the left at the grey bar we originated 36% of our new investments and senior secured loans 25% in one stop and 38% in second lien loans. Further looking at the chart on the right the end of period product mix again pretty consistent quarter-over-quarter.

Turning to slide eight, I’ll walk you to the changes in our yields and investments spreads for the quarter looking first at the grey line this line represents the interest income or all income under our investments excluding amortization of discounts and origination fees. Due to continued pricing compression our investments the interest income yield declined from 9.7% for the quarter ended December 31 to 9.5% for the quarter ended March 31st. We expect to see continued pressure on the interest income yield as we originate new loans at current market spreads. Including the amortization of fees and discounts the total yield on a dark blue line up on top for the quarter was 10.6%. Again this was down not only due to lower interest income on the investments but again lower discount amortization contribute to this decline quarter-over-quarter.

Turning to slide nine, for investments the weighted average rate on our new middle-market investments was 8.8% this is up modestly from the previous quarter primarily due to a higher percentage of second lien loans that were originated. However the weighted average rate on new investments was lower than the weighted average rate on investments that payoff during the quarter. As the payoffs included a few high yielding investments that were refinanced during the current quarter at lower rates. Again the weighted average rate and new investments is based on the contractual interest rate at the time of closing for variable rate loans the contractual rate would be calculated using the current LIBOR rate this credit for LIBOR and the impact of any LIBOR for fixed rate loans which were 16% this quarter that just stay at fixed rate.

As shown in the middle of the slide the investment portfolio remains predominantly invested and floating rate loans with variable rate loans comprising nearly 90% of the portfolio as of March 31. As David mentioned, overall fundamental credit quality remains very strong with non earning assets as a percentage of total investments on a cost basis at 1.1% and 23% as a percentage of total investments on a fair value basis. These percentage has remained unchanged from the prior quarter. During the quarter we did add one new non-accrual loan which had a cost basis of $25 million and a fair value of $0.2 million.

Flipping over to slide 11, looking at our risk ratings for the quarter, as you can see here our portfolio risk rating has improved modestly from the previous quarter with over 90% of our investments in the portfolio risk rated in the top two categories the 4 and 5 category. As a reminder independent valuation firms valued approximately 25% of our investments this quarter.

Turning to slide 12, our Board declared a distribution of $0.32 of share payable on June 27 excuse me to shareholders of record as of June 13. Turning to slide 13, we ended the quarter with $9 million of unrestricted cash and $84.2 million of restricted cash. Our restricted cash was primarily held in our securitization vehicle which we upside this quarter as David mentioned as well in our SBICs. This unrestricted cash I'm sorry this restricted cash is available for new investments that qualify for acquisition by these two entities. In regards to our debt facilities David previously highlighted we amended the terms of our debt securitization which increased the total size of the vehicle by $50 million, lower the price again in the Class A notes from LIBOR plus 2.40% to LIBOR plus 1.74% and extended the reinvestment period through July 2015.

Due to the upsize in the securitization we decreased the size of our revolving credit facility from $150 million to $100 million.

At the end of March subject to leverage and borrowing base restrictions we had $52.3 million available for additional borrowings on the revolving credit facility. In regards to our SBIC we had $15 million of available and approved debentures at the end of the quarter plus we have an additional $75 million of debentures which are available subject to customary regulatory requirements.

I’ll now turn it back to David who will provide an update on current market conditions. David?

David Golub - Chief Executive Officer

Thanks, Ross. So just before we get to Q&A let me give you some color on current market conditions as we’re seeing them. In regards to deal flow we began seeing a pickup in deal activity in late March and based on closings in April on our pipeline for the rest of the quarter we have a high degree of confidence that we’ll have strong originations for the quarter ended June 30th. The increase in deal activity has been driven by both opportunistic refinancing as well as a pickup in M&A activity.

Let me also talk quickly about pricing and structure. In respect to pricing and structure in the liquid credit markets especially the probably syndicated loan market and the high yield market we’ve seen a period of continuing spread compression and leverage creep and while the middle market is partially insulated from these broader trends it’s not immune and we are seeing spreads decline and leverage creep in middle market deals as well. We believe this is the kind of environment where our origination platform is particularly valuable, we can use our strength that deal sourcing our relationships, our incumbencies, and our broad product suite to generate a large number of quality opportunities even in a challenging environment like the one we are in.

And we can use our underwriting (process) to select companies that pass our test for resilience, companies that have strong market positions, solid sponsorship, experienced management and limited downside risk. So while we are cautious in the current environment particularly in the context of decreasing credit standards we’re also finding attractive new opportunities to deploy capital.

I’m going to stop there and open the floor for questions. As always I want to take this opportunity to thank you for your confidence in us and your time and support. Operator?

Question-and-Answer Session


Thank you. (Operator Instructions) Our first question is from the line of Greg Mason from Keefe, Bruyette & Woods. You may begin.

Greg Mason - Keefe, Bruyette & Woods

Great, thank you. I appreciate the time, David. Could you talk about you just mentioned some spread compression. Can you quantify kind of what you are seeing in the middle market where you are at in terms of basis points of that spread compression?

David Golub

Well it’s challenging to talk about that. To quantify it be for a couple of reasons, we operate in a couple of different asset classes, senior, one-stops and junior debt. And the degree of spread compression is also going to vary on a credit-by-credit basis based on specifics by deal. Let me give you with those caveats though, let me give you some parameters. We’re seeing traditional middle market senior debt pricing range now from LIBOR plus four in a quarter with a 1% floor up to the mid 5s with a one in a quarter percent floor. That range if we were talking a year ago would have probably started at L500 instead of L4 in a quarter. I’m not saying every deal is now going to be at L4 in a quarter it’s obviously not the case but we’re seeing some L4 in a quarter deals.

One-stop transactions tend to be priced at between a 150 basis point and a 300 basis point premium to traditional senior secured deals. And I think that degree of premium is probably still a reasonable proxy for where the market is today. On junior debt deals we’ve seen less compression in pricing, pricing for a while now has been in the 11%, 12% range, what we’re seeing more of is meaningfully higher starting attachment points. So let me describe what I mean by that for those who don’t speak the language of middle market credit every day.

When we talk about attachment points we mean the amount of debt that’s underneath the piece of junior debt. So if for example a new LBO is done and the senior debt goes through 3.75 times EBITDA and junior debt goes from 3.75 times to 5 times. The starting attachment point on the junior debt is 3.75 and the ending attachment point is 5. So, what we’re seeing and it’s a troubling trend that is keeping us from doing much junior debt what we’re seeing is an increased staring attachment point in junior debt, which in our judgment makes the probability of credit problems higher and the probability of low recoveries if there are credit problems much higher.

Greg Mason - Keefe, Bruyette & Woods

Great color. I appreciate that. Just on that last comment of concerns about the junior debt market, when we look at your breakout this quarter of the percentage you went in senior secured, one stop, second lien I know its an artificially low absolute dollar amount but second lien at 38% was a lot higher than you have done previously. Can you balance that with your previous comments of junior debts more concerning right now?

David Golub

Sure. So, there were two investments that we made that fell into that junior debt category in the first quarter and the quarter ended March 31st.The two were an investment in Healogics and an investment in Ahern Rentals. So, Healogics was actually a refinancing of an existing GBDC credit so it’s not a new name for us. It’s an existing name. And we’re very comfortable with that credit and we also like the structure of the new transaction. The new transaction has a starting attachment point of about 3.6 times. So, it does not fall into this category of more troubling junior debt investments. It’s also structured as a second lien, which gives us some additional protections vis-à-vis most sub debt investments.

Ahern Rentals also an unusual case some, some firms might actually call Ahern a first lien piece of debt. It’s actually a piece of debt that we bough on the secondary market. It’s a equipment rental company that is in bankruptcy and the coverage on this piece of debt is well within the asset and its we’re deeming it to be (indiscernible) asset because there is a debt loan that comes in front of it but the debt loan is small and the overall level of leverage in this deal is if I remember correctly sub 2.5. So, again here I, we characterize this as a junior debt instrument for the purposes of our chart. So, I think, that was the right decision. But these, neither of these deals would fall into the category of transactions that are in that worrisome zone.

Greg Mason - Keefe, Bruyette & Woods

Great. I appreciate it David. Thank you.


(Operator Instructions) Our next question is from the line of Jon Bock from Wells Fargo Securities. You may begin.

Jon Bock - Wells Fargo Securities

Yes. Good morning and thank you for taking my question. David I appreciated the market color in particular how it relates to next quarter and what you are seeing in terms of the increased refinance or select refinance activity and M&A? And there is really two questions that come off that statement one what’s the proportion of one versus the other are you seeing more M&A and or more select refinancings. And then, and then two if you are seeing select refinancing, how should we look at refinance risk in your own portfolio given that you focus on very low levered, high quality companies that are likely going to perhaps refinance as credit spreads and yields tightened in this current flushed with liquidity environment?

David Golub

Okay. So, let me answer those questions. The first question was what do we see proportionately between refinancing activity and M&A activity. At the risk of you’re telling m I’m punting on this answer. The distinction is in some respect it’s hard to make because I tell you that among the most common kinds of new financings that we‘re doing are financings designed to help a company do a small acquisition or add-on. And simultaneously refinance their existing facility. So, do you deem not to be a new financing by M&A, do you deem not to be refinancing I mean arguably it’s both. I think proportionately speaking where Q4 of last year and Q1 of this year saw most of the activity as refinancing activity, my expectation is that in the June 30th quarter a meaningfully higher proportion will be transactions that we probably appropriately categorize this M&A deals.

Now let me talk about the second of the two questions that you asked which I think is an absolutely terrific question. To paraphrase it how should we our shareholders think about refinancing risk in the Golub Capital portfolio. Let me put some context around that, in the first quarter of 2013 in the broadly syndicated loan market we saw a phenomenon referred to as a drive-by refis and drive-by refis are basically overnight re-pricings where you as a owner of a loan get the privilege and pleasure of saying yes to a decrease in pricing or you get your money back and you typically have a couple of hours to decide. The good news is that we don’t have drive-by re-pricings in the middle-market there is no such animal. The bad news is that we are not immune to borrowers and sponsors coming to us and saying hey the conditions that the credit characteristics of our obligors have improved, the market has improved we think it would be appropriate to have a revised pricing on this company’s loan and those kinds of conversations are quite common in the current environment not just for us but for every one in our market.

We are insulated in part from these discussions by having a relatively high proportion of our portfolio. In GOLD loans where we have a meaningful degree of call protection. So in our GOLD or one stop portfolio, in our junior debt portfolio we have meaningful protection from call protection but I think that you are going to be seeing across all of middle-market demand a substantial degree of re-pricing or refinancings that are driven by a desire on obligors part to achieve the over pricing over the course of the coming months that’s powered for the territory and a declining spread environment.

Jon Bock - Wells Fargo Securities

Thanks for the color, appreciate it.


(Operator Instructions) Our next question from J.T. Rogers from Janney Capital Markets. You may begin.

J.T. Rogers - Janney Capital Markets

Hi, good morning guys. Thanks for taking my question. I guess first question I asked this before I don’t know I got the answer exactly before, but from another manager but I was wondering if you could talk about the quality of the companies that are coming to market, are you seeing any companies sort of more cyclical businesses or selling commoditized products coming to market versus knowledge of work versus niche product leaders with defensible niches and higher returns on capital.

David Golub

Great question. What’s the quality of the deal flow that we’re seeing. I would say that in this kind of environment not surprisingly some more marginal credits come out because they can get transactions done so we are seeing a lot of direct an unusually high proportion of the deals that we’re looking at today do not meet our underwriting standards and so our hit rate meaning that the deals that we want to do as a percentage of the deals that we’re looking at is unusually low right now. What’s interesting is that in other environments we will see a large proportion of the deals that we turn down not get done in today’s environment almost all of those transactions are getting down they’re just not getting done with us.

J.T. Rogers - Janney Capital Markets

That’s helpful. And in terms of your hit rate I think before you talked something in the 5% range, can you quantify sort of how much it – how that’s dropped for the deals you’re seeing versus close.

David Golub

Only anecdotally, I don’t have at this time we don’t track that ratio on that week by week or month by month basis I can tell you anecdotally that our sense is that we are approving a lower than typical percentage of the deals that we’re looking at.

J.T. Rogers - Janney Capital Markets

Okay, thanks. And then I guess this generally broad I mean obviously you’ve had good appreciation in the portfolio what any broad macro churns that you’re seeing and all the companies that you invested in?

David Golub

So the question is are we seeing any signs of strength particular strength or weakness across our portfolio that you’re not reading about it in the Wall Street Journal with respect to the commenting generally I say the answer is right now is no, we’re seeing as a generalization we’re seeing earnings are coming in pretty good largely driven by very, very good control over costs, we’re seeing companies generally meeting their unambitious growth goals but if they had ambitious growth goals having some difficulty achieving them and yeah we’re seeing those trends pretty much across all industry sectors. We don’t play in many of the kind of more cyclical sectors so we have for example extremely low visibility into what’s happening in housing-related businesses or auto-related businesses or steel-related businesses because we simply stay away from them. So my comments have to be taken within the context of the biases that are in our portfolio we purposefully select this companies that are not cyclical or capital-intensive or prone to big changes in profitability.

J.T. Rogers - Janney Capital Markets

Okay, great. Thanks again for taking my questions.


We have a follow up question from Greg Mason from Keefe, Bruyette & Woods.

Greg Mason - Keefe, Bruyette & Woods

Great, thanks. One quick modeling question I apologize if I missed this earlier, but did you break out any of the one-time income you had from prepayments or other one-time activities in the quarter?

Ross Teune

We do provide that in our footnotes in the Q to give some color that in the footnote too.

Greg Mason - Keefe, Bruyette & Woods

Great, I’ll look at it. Thank you.


Gentlemen, we have no further questions at this time. I’ll turn the call back to you for closing remarks.

David Golub - Chief Executive Officer

Thank you very much operator. Again I just like to thank everybody on the call for your time this morning and for your continued support at GBDC. And just to repeat something I’d like to say every quarter which is please don’t consider this the only venue for being able to reach out to us and ask questions if you have questions, feel free at any time to call either Ross or me directly and I look forward to talking to you on next quarter.


Ladies and gentlemen, this does conclude the conference call for today. We thank you all for your participation. And have a great weekend everyone.

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