The stockholders of Kayne Anderson Energy Development Company (KED) approved a change that ended KED's treatment as a BDC (business development company) in the middle of 2010. But it still invests in private MLPs (master limited partnership), public MLPs and debt securities of public and private energy companies. The change did not affect KED's distribution policy, tax status or the tax attributes of its distributions. The withdrawal had the intention of giving KED better flexibility with its leverage. This change also eliminated KED's prior incentive management fee.
I still keep KED in my BDC coverage universe. I believe that all income stocks within a sector should sell at something close to a similar yield plus CAGR (or projected dividend compound annual growth rate) metric - with adjustments for dividend security that are based on the degree of certainty in the earnings forecast and dividend coverage. On that basis, KED still fits with the true BDCs when it comes to those valuations. KED sells at a logical yield, price to book, and price to earnings ratio - using 'distributable net operating income' for the earnings metric - when compared to other BDCs with higher projected dividend CAGRs and lower risk profiles.
In this article, I will cover KED's latest earnings release, provide some valuation stats, and compare KED's valuations with other BDC options.
KED reports NDI of $0.49/share compared to a dividend of $0.435/quarter
What It Earned
Kayne Anderson Energy Development Company reported Q1-13 (the quarter ended 2-28-13) total investment income of $2.505 million. Operating expenses were $2.410 million. Net investment income was $0.071 million. Net realized gains from KED's investments were $2.168 million. Net unrealized gains were $14.114 million. KED's net increase in net assets resulting from operations was $16.343 million. KED's net asset value was $259.242 million or $24.88/share compared to $23.74 last quarter.
KED's ratio of expenses to average net assets for the 3 months ending 2-28-13 was 19.1% - with tax expense at 15.2%. The ratio of net investment income to average net assets was 0.1%. Due to a high return of capital component, KED's GAAP reported earnings do not accurately reflect its ability to support its dividend. To best evaluate KED, I use the metrics provided in the spreadsheet below.
KED's reporting of its Net Distributable Income (NDI)
|Distributions + Investments Income||Q1-13||Q4-12||Q3-12||Q2-12||Q1-12||Q4-11||Q3-11||Q2-11||Q1-11||Q4-10|
|Dividends and Distributions||$ 5.4||$ 5.2||$ 5.1||$ 4.9||$ 4.8||$ 4.8||$ 4.5||$ 4.1||$ 2.5||$ 2.8|
|Paid-In-Kind Divs + Dists||$ 1.3||$ 0.7||$ 0.6||$ 0.6||$ 0.8||$ 0.6||$ 0.8||$ 0.7||$ 2.0||$ 1.4|
|Interest Income||$ 0.7||$ 1.1||$ 1.2||$ 1.1||$ 1.0||$ 1.0||$ 0.9||$ 1.0||$ 1.1||$ 0.9|
|Total Investment Income||$ 7.4||$ 7.4||$ 7.3||$ 7.0||$ 7.0||$ 6.8||$ 6.6||$ 6.5||$ 5.6||$ 5.1|
|Investment Management Fee||$ (1.5)||$ (1.5)||$ (1.5)||$ (1.5)||$ (1.5)||$ (1.4)||$ (1.4)||$ (1.4)||$ (1.2)||$ (1.2)|
|Other Expenses||$ (0.3)||$ (0.2)||$ (0.3)||$ (0.3)||$ (0.3)||$ (0.3)||$ (0.5)||$ (0.5)||$ (0.4)||$ (0.4)|
|Total Fees + Other Expense||$ (1.8)||$ (1.7)||$ (1.8)||$ (1.8)||$ (1.8)||$ (1.7)||$ (1.9)||$ (1.9)||$ (1.6)||$ (1.6)|
|Interest Expense||$ (0.5)||$ (0.5)||$ (0.5)||$ (0.5)||$ (0.5)||$ (0.4)||$ (0.4)||$ (0.4)||$ (0.3)||$ (0.3)|
|Net Distributable Income (NDI)||$ 5.1||$ 5.2||$ 5.0||$ 4.7||$ 4.7||$ 4.7||$ 4.3||$ 4.2||$ 3.7||$ 3.2|
|Weighted Average Shares||10.4||10.4||10.4||10.4||10.3||10.3||10.3||10.3||10.3||10.3|
|NDI per Weighted Average Share||$0.49||$0.50||$0.48||$0.45||$0.46||$0.46||$0.42||$0.41||$0.36||$0.31|
|Dividend per share||$0.435||$0.43||$0.43||$0.41||$0.39||$0.39||$0.38||$0.38||$0.31||$0.30|
PIK Income rose due to the inclusion of PIK interest from ProPetro's senior secured term loan of $0.4 million. Not included in the above spreadsheet was the line "Adjusted NDI per Weighted Average Share Outstandinding" of $0.43/share that excluded from NOI $0.7 million of non-cash distributions from VantaCore common and Preferred A units. The was the first quarter for KED to include such a line.
What They Own
As of 02-28-13, KED had long-term investments of $367.879 million in 51 portfolio companies, which were comprised of $88.249 million in private MLPs (24% of the portfolio); $245.147 million in public MLPs (67%); and $34.483 million in debt securities (9%). Private MLPs had an average yield of 10.8%; public MLPs had as average yield of 6.1%; and debt investments had an average yield of 10.8%. The KED portfolio was not granular. KED's investment in Direct Fuels was 12.7% of total investments; while VantaCore was 7.3%; and ProPetro was 5.3%.
Direct Fuels is a leading specialty refiner and fuel terminal operator in the Dallas-Fort Worth area. Direct Fuels in 2012 divested non-core businesses and transitioned key contracts to fixed-margin arrangements that eliminated much of the commodity price risk. Direct Fuels significantly grew transmix processing volumes during 2012, and earnings exceeded budget by a considerable margin. We continue to have discussions with Direct Fuels' general partner about potential strategic transactions, and we have had extensive discussions about a potential merger with two other affiliates of the general partner and contemporaneous IPO as an MLP.
VantaCore is an aggregate mining and asphalt company operating in Tennessee, Kentucky, Louisiana and Pennsylvania. VantaCore entered the Pennsylvania market in June of 2012 with the acquisition of Laurel Aggregates, a limestone quarry south of Pittsburgh that primarily supplies aggregates to oil and gas companies drilling in the wet gas areas of the Marcellus Shale. This acquisition more than doubled the partnership's EBITDA and further diversified VantaCore from a geographic and market perspective.
ProPetro is an oilfield service company that provides a number of different services, including pressure pumping, flowback, cementing and specialty air drilling. The company experienced a challenging operating environment during the last nine months of 2012, as it faced increased competition for its pressure pumping services in the Permian Basin of West Texas.
KED estimates its portfolio will generate dividends, distributions, and interest income of approximately $7.25 million in the next quarter. This guidance does not include $0.33 million of non-cash distributions KED expects to receive on VantaCore's common and preferred A units. Nor does it include any impact from KED's investment in Direct Fuels as a result of the proposed IPO of Emerge. KED is expected to generate net distributable income per share of $0.435 to $0.445 in fiscal Q2-13.
Since the end of fiscal Q1-13
On March 5, 2013, KED exchanged all of its equity investment in ProPetro Services and a portion of its first lien term loan for a loan that matures on June 30, 2015. On March 22, 2013, KED's largest investment, Direct Fuels Partners, announced plans with two other private companies to form a variable-pay MLP called Emerge Energy Services LP.
What It Owes
KED had $75.000 million borrowed under its senior secured credit facility. Interest is charged at the rate of LIBOR plus 2.00% - a rate that is line with other lower risk BDCs. With 10.418 million shares outstanding, debt per share was $7.1991/share and the Debt/NAV ratio was 28.93%. That is a lower level of leverage than used by other BDCs. That is an attribute that further lowers my risk assessment of KED.
Valuation and performance spreadsheets for BDCs
Yield in the spreadsheet below is based on the Q1-13 dividend. Spreadsheet header abbreviations: Div = dividend; EPS = earnings per share; LTM = last twelve months; YTD = year to date. The dividend to EPS ratio is a measure of dividend safety. The dividend to NAV ratio is a measure of safety and efficiency. The last four columns measure the percentage change in the 2013 EPS projection and the change in the price target since the beginning of the year; the change in the Q1-13 dividend from the Q1-12 dividend; and the change in the Q4-12 NAV from the Q4-11 NAV. Some BDCs have already started declaring Q2-13 dividends. KED and MAIN are the only BDCs to declare an increase in their Q2-13 dividend.
|Share Price||Div/||Div/||Q4-12||Price||YTD Percent Change||LTM||LTM|
|With the 10 Treasury at 1.71% and sector average yield (on Q1 dividends) at 8.95% - the spread is 724 bps.|
|The cap weighted ETF BDCS is up 3.07% year to date - with dividends its total return is 6.78%.|
|Sector yield, Dividend/NAV and Dividend/EPS ratio filter out the zero payout ACAS and SAR.|
|Weeding out ACAS and SAR, the average share price gain is 5.25%.|
BDC Earnings Growth & P/E Ratios 04-26
Fiscal and calendar years are not in sync. BDCs than began fiscal 2013 on or before calendar Q3-12 include AINV, FULL, GAIN, GBDC, GLAD, MCC, PSEC, PFLT, and PNNT. The range metric is the high estimate minus the low estimate, with that result dividend by the consensus estimate - and serves as one of several measurements for assessing risk. That average is currently inflated by almost 300 bps due to atypical spreads in the projections for ACAS and GAIN. With the exception of KED, all EPS projections are from Yahoo Finance.
|Earnings / Share||Earn. Growth||P/E Ratios||13 EPS Range|
KED's yield is much less than sector average. But I find ample justification for that. KED has distribution growth inertia. And distribution increases in its MLP investments are projected to continue in the 5% to 6% range. BDCs with very good dividend coverage ratios strongly tend to have better dividend growth. I am projecting mid term dividend growth for KED at 5.5%. Given KED's lower yield, there is metric evidence that the market concurs in that projection. I am also a MLP investor. I hold a non-consensus opinion that MLPs are a lower risk sector - and that KED merits some valuation points for the quality of its portfolio compared to other BDCs.
Investors who can fight their yield hog tendencies and handle the complexities of MLP valuation metrics can do better than invest in KED by investing in a diversified pool of high distribution CAGR MLPs. But that is not a large percentage of investors.
KED's approximate 6.65% yield plus dividend CAGR projection of 5.5% sums to a total return projection of 12.15%. That is a good number. The lower your total investment portfolio dividend CAGR, the more KED should interest you.
Because KED has a portion of its portfolio in debt investments, its payout is more secure than the average "all equity" MLP fund. Because of the very strong dividend coverage ratio, the payout is more secure than the average MLP fund (or BDC). On the other hand, KED has a much less granular portfolio - which lessens that security. So how do all those conflicting attributes balance out for the average investor? I believe that KED is fine in small [below 5%] portfolio weightings. At weightings higher than that, KED's lack of granularity and heavy investments in three smaller and probably higher risk MLPs would worry me.