PennantPark Floating Rate Capital Ltd. (NASDAQ:PFLT)
F1Q 2014 Earnings Call
February 7, 2014 10:00 a.m. ET
Arthur Penn - Founder, Chief Executive Officer and Chairman
Aviv Efrat - Chief Financial Officer and Treasurer
Greg Mason - KBW
Hannah Kim - JMP Securities
Good morning, and welcome to the PennantPark Floating Rate Capital's first fiscal quarter 2014 earnings conference call. (Operator Instructions) It is now my pleasure to turn the call over to Mr. Art Penn, Chairman and Chief Executive Officer of PennantPark Floating Rate Capital. Mr. Penn, you may begin your conference.
Thank you, and good morning, everyone. I'd like to welcome you to PennantPark Floating Rate Capital's first fiscal quarter 2014 earnings conference call. I'm joined today by Aviv Efrat, our Chief Financial Officer.
Aviv, please start off by disclosing some general conference call information and include a discussion about forward-looking statements.
Thank you, Art. I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of PennantPark Floating Rate Capital and that any unauthorized broadcast of this call in any form is strictly prohibited. Audio replay of the call will be available by using the telephone numbers and PIN provided in our earnings press release.
I'd also like to call your attention to the customary Safe Harbor disclosure in our press release regarding forward-looking information. Today's conference call may also include forward-looking statements and projections and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these projections. We do not undertake to update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit our website at www.pennantpark.com or call us at 212-905-1000.
At this time, I'd like to turn the call back to our Chairman and Chief Executive officer, Art Penn.
Thank you, Aviv. I am going to spend a few minutes discussing current market conditions followed by a discussion of investment activity, the portfolio, the financials, our overall strategy, and then open it up for Q&A.
As you all know, the economic signals have turned positive, with many economists expecting a slowly growing economy going forward. With regard to the more liquid capital markets and in particular the leveraged loan and high yield markets, those markets have remained strong due to substantial cash flows in the high yield funds, leveraged loan funds and CLOs. Risk reward in the middle market has generally remained attractive, as the overall supply of middle market companies who need financing exceeds the relative demand of applicable lending capacity. As debt investors and lenders, a slow growth economy is fine as long as we have underwritten capital structures prudently. A healthy current coupon with de-leveraging from free cash flow over time is a favorable outcome.
We have continued to be selective about which investments we make in this environment. Given our strong origination network and size of our company, we believe we can continue to prudently grow. We remain primarily focused on long-term value and making investments that will perform well over several years and can withstand different business cycles. We continue to set a high bar in terms of our investment parameters and remain cautiously selective about which investments we add to our portfolio. Our focus continues to be on companies or structures that are more defensive, have low leverage, strong covenants and high returns.
As credit investors, one of our primary goals is preservation of capital. If we preserve capital, usually the upside takes care of itself. As of business, one of our primary goals is building long-term trust. Our focus is on building long-term trust with our portfolio companies, management teams, financial sponsors, intermediaries, our credit providers and, of course, our shareholders. We are a first call for middle-market financial sponsors, management teams and intermediaries who want consistent credible capital. As an independent provider free of conflicts or affiliations, we've become a trusted financing partner for our clients. Since inception, PennantPark entities have financed companies backed by 129 different financial sponsors. We have been active and are well positioned.
For the quarter ended December 31, 2013, on a net basis, we invested $49 million, with the average yield on our debt investments remaining at 8.1%. Core net investment income was $0.28 per share, before non-recurring incentive fees and debt issuance cost. As a result of our focus on high quality companies, seniority in the capital structure, floating rating assets and continuing diversification, our portfolio is constructed to withstand market and economic volatility. The cash interest coverage ratio, the amount by which EBITDA or cash flow exceeds cash interest expense, is a healthy 3.7 times. This provides significant cushion to support stable investment income.
Additionally at cost, the ratio of debt-to-EBITDA on the overall portfolio was 3.6 times, another indication of prudent risk. We currently have no non-accruals in the portfolio. In terms of new investments, we had another active quarter investing in attractive risk adjusted returns. Our activity was driven by a mixture of M&A deals, growth financings and refinancings. In virtually all these investments, we have known these particular companies for a while, have studied the industries, or have a strong relationship with the sponsor.
Let's walk through some of the highlights. ABG Intermediate Holdings acquires, develops and manages prominent consumer brands in the fashion, sport, and celebrity industries. We bought $7 million of the first lien term loan. Leonard Green is the sponsor. We purchased $7 million of the first lien term loan of Azure Midstream Energy. Azure is a natural gas pipeline located in Louisiana and East Texas. Energy Spectrum Partners and Tenaska Capital are the sponsors. We invested $10 million in the first lien term loan e-Rewards. e-Rewards is engaged in permission-based digital data collection reporting. TA Associates is the sponsor. Old Guard Risk Services provides workers' compensation and claim administration solutions to insurance carriers. We purchased $8 million of the first lien term loan and under $1 million of the common equity. The company is owned by management. Vitera Healthcare Solutions is a healthcare technology company that provides ambulatory software platforms serving physicians and midlevel healthcare providers. We purchased $7 million of the first lien debt. This equity is sponsored.
Turning to the outlook. We believe that 2014 will be active due to both growth in M&A driven financings. Due to our strong sourcing network and client relationships, we are seeing active deal flow. Now let me turn the call over to Aviv, our CFO, to take you through the financial results.
Thank you, Art. For the quarter ended December 31, 2013, recurring net investment income totaled $0.30 per share. In addition, we had $0.01 per share of other income. We incurred $0.03 per share of capital gains incentive fee, $0.01 per share of incentive fee expenses accrued for GAAP purposes only, which is not payable to the advisor, and $0.05 per share of debt issuance costs. As a result, net investment income for the quarter was $0.22 per share.
Looking at some of the expense categories. Management fees totaled about $1.6 million, general and administrative expenses totaled about $490,000, interest expense totaled $740,000, and one time debt issuance costs total $713,000.
During the quarter ended December 31, net unrealized appreciation from investments was approximately $2.2 million or $0.15 per share. Realized gains were $600,000 or $0.04 per share. And dividend in excess of income was $757,000 or $0.05 per share. Consequently, NAV was up $0.14 per share from $14.10 to $14.24 per share.
Our entire portfolio and our credit facility are marked-to-market by our board of directors each quarter, using the exit price provided by an independent valuation firm or independent broker dealer quotations, when active markets are available under ASC 820 and 825. In cases where broker dealer quotes are inactive, we use independent valuation firms to value the investments.
Our portfolio is relatively low risk. It is highly diversified with 85 companies across 23 different industries. 88% is invested in first lien senior secured debt, 8% in second lien secured debt, 4% in subordinated debt and equity. Our overall debt portfolio has a weighted average yield of 8.1%. 93% of the portfolio is floating rate, including 90% with a floor and 7% is fixed rate. The average LIBOR floor is 1.2%.
Now, let me turn the call back to Art.
Thanks, Aviv. To conclude, we want to reiterate our mission. Our goal is a steady, stable and protected dividend stream, coupled with the preservation of capital. Everything we do is aligned to that goal. We try to find less risky middle-market companies that have high free cash flow conversion. We capture that free cash flow primarily in first lien, senior secured floating rate debt instruments and we pay out those contractual cash flows in the form of dividends to our shareholders.
In closing, I'd like to thank our extremely talented team of professionals for their commitment and dedication. Thank you all for your time today and for your investment and confidence in us. That concludes our remarks. At this time, I would like to open up the call to questions.
(Operator Instructions) And we will go first to Greg Mason of KBW.
Greg Mason - KBW
First, could you give us an update on the average LIBOR floor in your portfolio?
Greg Mason - KBW
Great. And then as we look at the balance sheet and leverage, I would assume that $27 million of payable for investments purchased is more of a timing. You closed those but not funded them, is that correct?
That’s correct. That's correct, Greg. And also there is a receivable also in the balance sheet of $6 million for investments that are getting prepaid or sold. So if you are looking at what the pro forma leverage is or pro forma debt, you should net those two items.
Greg Mason - KBW
Right. So if we look at that pro forma leverage, you are about 0.75 debt to equity when those deals close. Kind of what is your thought in movement of leverage from here on your balance sheet?
That’s a great question. We think about it a lot. As we have stated in the past our leverage targets are kind of 0.7 to 0.9 or 0.8 to 0.9, optimally, if we can get there. So we are getting close to optimally leveraged in our view. Obviously, we think first lien assets could be leveraged more and if there were a change in regulation, PFLT should be a big beneficiary of that. But at this point, with the 1:1 leverage constraint, we are getting fairly fully leveraged. And what that means for us is we have got to work at optimizing the portfolio, trying to maintain our discipline around credit and yield and risk-adjusted returns, and just work the portfolio.
Greg Mason - KBW
So that was part of next question, you know full deployed. What are thoughts on equity raises? You haven't typically done one below book but you are sitting here fully deployed and kind of trading at 0.96 of book value today. Any thoughts [ph] on the equity side?
We cannot issue stock below book at this point. And we don’t have an intention at this point of doing so. So that means we have to work the portfolio and optimize it and don’t grow, that’s okay.
Greg Mason - KBW
Okay. Great. And then one last question and I will hop off. Virtual Radiologic has been a stressed investment. Looks like another slight markdown in the quarter. Can you talk about the risk of that potentially going on non-accrual?
Good question. We keep evaluating and we always have the debate. Fortunately, just in this quarter and for the first time in a while, we got a positive financial report from that company. So, perhaps it's reached its bottom and it's on its way back. So we are going to, with that positive financial report, going to hold on for a little while and we will continue to debate whether to sell or whether to hold on. But at least it still came a little bit better at this point than it was.
(Operator Instructions) Next we have Chris York of JMP Securities.
Hannah Kim - JMP Securities
This is Hannah Kim calling in for Chris York. Thanks for taking my questions. First of all, I just wanted to ask, out of the $35.4 million you have received this quarter, how much of it was voluntary sell and how much of it was refinance? And how does this percentage compare to last quarter? And lastly, what is view of refinance going forward?
Thank you, Hannah. I will take the first question first, which is refis are ongoing part of the market. We model for that and we like it when companies pay us back. We don’t lose perspective on that basis. PFLT is a relatively small first lien, middle market range [ph] vehicle relative to the overall size of the middle market first lien world. So when we get refi, that’s great, someone paid us back. We don’t see a shortage of opportunities. And we are confident that we can continue to find attractive risk-adjusted first lien middle-market loans to fill the portfolio when we get refinancings.
In terms of the percentage of voluntary versus involuntary refinancings, probably about, and this is my guess, probably about half-and-half. We don’t mind taking gains at times. In the first lien world we understand every day the risk-rewards that we taking. And as you have seen, we have continued to build a nice pool of realized gains in this portfolio which we will hopefully continue to build, because we need to have the capacity to deal with realized losses that inevitably we are going to have. To date haven't had realized losses and we haven't had non-accruals, so we think smart and perhaps a little lucky. Inevitably over time we will make mistakes and we think it's prudent to realize gains on occasion when you have the opportunity to do so.
Hannah Kim - JMP Securities
Great. Thank you. I appreciate the color. And one more question for me. On the last earnings call you mentioned that investment teams generally try to underwrite first lien deals at yield around 8%. And obviously for the past three quarters we saw yields stabilizing at this level. Just wanted to know if anything has changed at the current environment and how are the yields looking like in the current pipeline?
Look there's no -- it's a great question, Hannah -- there is no question that there has been yield compression overall in the market. Fortunately for us again, PFLT is a relatively small player in a very large middle-market first lien world, so we can afford to be really picky. We don’t come to the office everyday and say how do we grow, we come to the office everyday and say, can we find a good risk-adjusted return. So, so far we have been able to maintain our discipline both around credit as well as yields and we hope to continue to do so. And if that means we don’t grow that means we don’t grow, that’s okay.
Hannah Kim - JMP Securities
So in the current pipeline the yield is pretty consistent with last quarter?
Yes. We are hoping to maintain our yield and our credit quality. But you know it's been a nobelium [ph] market there and we need to remain vigilant.
And with that, that does conclude today's Q&A session. I would like to turn the conference back over to our speakers for any additional or closing comments.
Just want to thank everybody for being on the call today and your support and we will talk to you next quarter.
And with that ladies and gentlemen, that does conclude today's call. We would like to thank you again as always for your participation.
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