BlackRock Kelso Capital Corporation (ticker: BKCC) announced on Thursday June 17 that it priced its public offering of 7.5 million shares of common stock at an offering price of $10.25 per share, raising $76.9 million of gross proceeds. The company has granted the underwriters an option to purchase up to an additional 1.125 million shares to cover over-allotments, if any. The offering is subject to customary closing conditions and is expected to close on June 22, 2010. The company expects to use the net proceeds of this offering to make investments in portfolio companies, repay indebtedness owed under its credit facility, and for general corporate purposes.
The BDC Reporter had been expecting a capital raise from BKCC for awhile. The company has been very disciplined about avoiding raising capital at a discount, as many other Business Development Companies (“BDCs”) have done, but management has been signaling that an equity raise was in the cards for many weeks. Moreover, BKCC’s peers (in our mind): Ares Capital (ARCC) and Apollo Investment (AINV) have both raised fresh capital.
Still, back on April 26, 2010 in one of our posts , we were becoming concerned that there the anticipated equity raise might not be coming in the forseable future. We were concerned about the several lenders not renewing their commitment to the company’s Revolver, when the line (and the related Term debt) expires in December. We thought the large number of lenders not re-upping for another tour of duty (45% of the total) might be related to the absence of a new equity infusion.
As we said then we were just speculating. We’ve got more speculating to do on today’s news and again it’s about what BKCC might do next in terms of borrowing, so read on.
As it stands, BKCC will have about $120-$150mn of dry powder to spend (assuming the company does not fully leverage itself) between $100mn available beyond December on its debt agreements, and the cash from the equity raise. That will allow BKCC to resume growing a balance sheet which has been de-leveraging even through the last quarter. From an earnings contribution standpoint, assuming BKCC borrows a net $50mn more on its Revolver (which had $253mn drawn at March 31 2010) and deploys $70mn of new cash, we estimate incremental earnings will increase by $9.4 mn a year, which is very close to the $9.6mn in additional dividend “liability” the company has just taken on.
On a pro-forma basis, asset coverage of debt would be a healthy 300% plus and debt to equity at or below 0.5:1. That’s a strong balance sheet, but does not leave much room for incremental earnings growth. Remember that Net Investment Income last quarter, adjusted for the company’s annual “Incentive Fee” was running at $0.30 a share, below the $0.32 a quarter dividend. If BKCC maintains its conservative balance sheet, earnings per share (and the dividend) should remain flat.
However, should BKCC be able to raise additional debt (and we’re not even sure if it’s management preference to leverage up its balance sheet after the turmoil of the Great Recession), we could see earnings per share grow. Again, just noodling some hypothetical numbers ($200mn of additional debt, invested in assets yielding 12%) we calculate BKCC could increase annual Net Investment Income Per Share from $1.20 to $1.37. However, debt to equity would ramp up to 0.8:1. What will BKCC choose: low leverage and flattish earnings, or more leverage and higher earnings ? We don’t know but we’ll find out soon enough. If we hear of an increase in committed debt capital from BKCC in the next few weeks that will be a strong suggestion as to which way they’re going to go.
The joker in the pack will the credit performance of the existing portfolio. If we look at the big picture, BKCC has not done an admirable job in the credit underwriting department through the Great Recession. Realized Losses have reached a total of ($136mn), and Unrealized Depreciation is a still weighty ($155mn). We keep track of 21 BDC companies aggregate Realized and Unrealized Losses and compare that number against invested equity capital, and BlackRock ranks 5th highest (American Capital is number one), with these Total Losses equaling 35% of invested capital (before today’s capital raise). BKCC still has several non-performing loans on the books and 5.3% of yield assets on a non-accrual status. With an improving economy management, shareholders and the BDC Reporter are assuming those numbers will reduce in the next couple of quarters, partly through more Realized Losses (not so good) or through credit improvements (very good). However, nothing is for certain. We’ll be be able to comment further when the second quarter results come in in six weeks or so.
Disclosure: Author holds a long position in BKCC