As we have long expected and predicted, Prospect Capital (ticker: PSEC) has reduced its dividend distribution level. Our skepticism about the company's ability to maintain its policy of ever increasing dividends was based upon the very substantial gap between Prospect's Net Investment Income Per Share and the dividend: 11 cents a share. That's after Prospect harvested many of the benefits of acquiring Patriot Capital at a discount, as well as getting the one time benefit of repricing three loans last quarter. Here's the language from the last Earnings Report which explains this item:
During the three months ended March 31, 2010, we repriced our loans to Aircraft Fasteners International, LLC ("AFI"), Prince Mineral Company, Inc. ("Prince") and R-O-M Corporation ("ROM"). The revised terms were more favorable than the original terms and increased the present value of the future cash flows. In accordance with ASC 320-20-35, the cost bases of the new loans were recorded at par value, resulting in $6.7 million of accelerated original purchase discount recognized as interest income.
Admittedly, Prospect has "dry powder" borrowing capacity, but even taking the deployment of those funds (which is underway) into account there was no way Prospect was going to get earnings per share up to 41 cents a quarter, an increase of 37%. The analysts average projection was for Net Investment Income Per Share to reach $1.19 for the year ended June 2011, which doesn't show much enthusiasm given that the latest quarter's earnings annualized was already $1.20. Management bowed to the obvious and made the cut. Here is what the press release said:
Prospect announced today a change from quarterly to monthly cash distributions to shareholders. The company has declared monthly cash distributions in the following amounts and with the following dates:
10.000 cents per share for June 2010 (record date of June 30, 2010 and payment date of July 30, 2010);
10.025 cents per share for July 2010 (record date of July 30, 2010 and payment date of August 31, 2010); and
10.050 cents per share for August 2010 (record date of August 31, 2010 and payment date of September 30, 2010).
These distributions mark the Company's 23rd, 24th, and 25th consecutive distributions.
In addition, due to prior distributions and the accretion generated from the tax-free stock merger with Patriot Capital Funding, Inc. in December 2009, the company currently expects more than 20% of distributions in calendar year 2010 to be characterized as distributions without income tax liability for shareholders.
If we annualize the August distribution, PSEC's pay-out will be $1.206, or 26% down from the $1.64 running rate previously being paid out. The market took the news in its stride because this was long expected, marking down the stock 7% or only a quarter of the pay-out reduction. The new yield (using yesterday's closing price and the August dividend annualized) is nearly 12%, which will be a decent return if earnings are now in line.
We don't know what Prospect Capital's recurring Net Investment Income will be going forward because of the vagaries of its earnings recognition from Patriot, but we'd guess management has an idea, which suggests that once the dust settles in a quarter or two (and some of the new assets booked recently start to pay their way), we'll see annual Net Investment Income Per Share running at a $1.2-$1.3 level. One of the wild cards remains what will happen to the very large number of under-performing and non-accruing loans in Prospect's portfolio. If management can make some progress in that area, Prospect may be able to generate some earnings growth, and get its stock price to trade at a premium to Net Asset Value.
Yesterday, though, Prospect's stock price was 5 pennies off NAV, and 24% off its 52 week high.
Disclosure: Author holds a long position in PSEC