Keating Capital Inc. (KIPO) Q1 2014 Earnings Conference Call April 28, 2014 4:00 PM ET
Margie Blackwell – Director, IR
Tim Keating – President and CEO
Edward Woo – Ascendiant Capital Markets
Good afternoon and welcome to Keating Capital’s Quarterly Earnings Call being held on April 28, 2014. This call will discuss Keating Capital’s results for the quarter ended March 31, 2014. As a reminder, this call is being recorded and will available for replay until our next quarterly conference call, which is currently scheduled for July 28, 2014.
I’m Margie Blackwell, the Investor Relations Director for Keating Capital. Let me remind you of the two points. First, we issued a detailed financial results Press Release that includes all of the important financial information and metrics for the quarter ended March 31, 2013; and second, the slides to be presented during this call, which themselves contain comprehensive and detailed financial information, are posted on the Investor Relations section of our website at keatingcapital.com.
Now let me begin by reading our disclaimer about forward looking statements. We would like to remind you that various statements that we may make during this afternoon’s call will include forward-looking statements as defined under applicable securities laws. Management’s assumptions, expectations and opinions reflected in those statements are subject to risks and uncertainties that may cause actual results and/or performance to differ materially from any future results, performance or achievements discussed in or implied by such forward-looking statements and the Company can give no assurance that they will prove to be correct. Those risks and uncertainties are described in the Company’s earnings release and in its filings with the Securities and Exchange Commission.
And with that, I’ll turn it over to CEO, Tim Keating.
Good afternoon. Because of the extensive disclosure in the earnings press release, in my prepared remarks I am only going to highlight three items that occurred in the first quarter and that deserves special attention.
First, we sold part of our position in Millennial Media and I will provide a few key numbers related to that disposition. Second, I will provide some basic details and information about our position in TrueCar and Zoosk, two portfolio companies that recently filed for IPOs.
And third, I will discuss the highlights of operations and change in net assets. Here are the details beginning with the partial sale of our position in Millennial Media. During the first quarter we sold 415,964 common stock with an aggregate cost basis of $1.7 million for total net proceeds of $3.0 million, resulting in net realized gains of approximately $1.3 million.
The Millenial shares sold have been held for 1.6 years the return multiple was 1.8x the cost of our investment, and the internal rate of return on this partial sale was 43% before giving effect to the fund’s operating expenses.
Following these sales, Keating Capital still holds 831,929 shares of Millennial Media common stock which are subject to certain lockup restrictions or are held in escrow for potential indemnity claims.
Our cost basis is $4.01 per share. Of the remaining 831,929 shares, 696,735, or 56% of the original position, will be eligible for resale following the expiration of a lockup restriction on or about May 5, 2014. The remaining 135,194 shares, or 11% of the original position, are subject to an escrow holdback for a one-year period ending on or about November 1, 2014.
Based on our net realized gains from portfolio company sales of thus far, which includes four complete sales and the partial sale of Millennial; we have generated a 24% weighted average annual rate of return from these sales.
Next, let’s discuss the two portfolio company IPO files. In April, two of our portfolio companies, TrueCar and Zoosk, filed registration statements for proposed IPOs.
TrueCar, a negotiation-free car-buying platform, filed a registration statement on April 4, 2014, with the SEC to raise up to $125 million in an IPO. The Santa Monica, California-based company, which was founded in 2005 and had $134 million in revenue for the year ended December 31, 2013, plans to list on NASDAQ under the ticker symbol TRUE. TrueCar initially filed confidentially on February 14, 2014. Goldman Sachs and J.P. Morgan are the joint bookrunners on the deal. No pricing terms were disclosed.
Keating Capital made a $3 million investment in TrueCar on September 26, 2011, acquiring 566,037 shares of TrueCar’s common stock.
Zoosk, Inc., an online dating platform with 26 million members, filed a registration statement on April 16, 2014, with the SEC to raise up to $100 million in an IPO. The San Francisco-based company, which was founded in 2007 and had $178 million in revenue for the year ended December 31, 2013, plans to list on the New York Stock Exchange under the ticker symbol ZSK. Bank of America Merrill Lynch, Citi and RBC Capital Markets are the joint bookrunners on the deal. No pricing terms were disclosed.
Keating Capital made a $3 million investment in Zoosk on January 27, 2012, acquiring 715,171 shares of its Series E Convertible Preferred stock.
Registration statements relating to these proposed IPOs have been filed with the SEC but have not yet become effective. Accordingly, Keating Capital can give no assurances that either TrueCar or Zoosk will complete an IPO, and even if completed, when it may be completed and the total amount raised, or at what price and under what terms.
Further, and as we stated in the first quarter we reaffirm our expectation that a majority of our private portfolio companies may complete an IPO or strategic sale or merger over the course of the next four to eight quarters.
Now let’s turn to our discussion of net assets and results of operations beginning with our net assets.
As of March 31, 2014, the total fair value of Keating Capital’s 17 portfolio company investments was $57.7 million. We also had cash and cash equivalents of $15.4 million, or $1.61 per share. Our net assets at March 31, 2014 were $70.1 million, or $7.34 per share, a decline of $0.31 per share during the first quarter.
The components that typically drive the changes in NAV each quarter are: one, net investment losses, effectively our operating expenses, two, realized gains/losses on portfolio company sales, three, the change in unrealized appreciation or depreciation on portfolio company investments, and four, distributions paid to stockholders or capital transactions.
During the three months ended March 31, 2014 Keating Capital had a net investment loss, again effectively the company’s operating expenses including base management fees and accrued incentive fees of approximately $567,000, or $0.06 per share. Our operating expenses, excluding base management fees and accrued incentive fees, were approximately $514,000 in the first quarter.
During the first quarter, we recorded a reduction in incentive fee expense of approximately $293,000 resulting from a net decrease in unrealized appreciation of approximately $2.8 million during the first quarter and the net realized gains of approximately $1.3 million during the period.
In the first quarter, Keating Capital generated $1.3 million of net realized gains, or $0.13 per share. As previously mentioned, the gains realized in the first quarter were sourced from the partial sales of our investment in Millennial Media.
Keating Capital had a net decrease in unrealized appreciation on its portfolio company investments of approximately $2.8 million or $0.28 per share comprised of the following three components:
One write-ups during the quarter of $800,000 in six portfolio companies. Write-downs during the quarter of approximately $2.5 million in six portfolio companies which include one, a write-down of $300,000 on the company’s remaining position in Millennial Media, based on a March 31, 2014 closing price of $6.92 per share, reduced by a 12% discount for lack of marketability, and two, a write-down of $1 million on Tremor Video based on a March 31, 2014 closing stock price of $4.12 per share.
And then three, a $1 million decrease in net unrealized appreciation resulting from the reversal of the December 31, 2013 net realized appreciation on the Millennial Media shares sold during the quarter.
And finally a total of five portfolio companies had no increase or decrease in unrealized appreciation or depreciation during the quarter.
Okay, putting that all together, Keating Capital’s NAV decreased by $0.10 per share as a result of the first quarter 2014 dividend which was payable as of March 31, 2014 and paid on April 14.
The dividend yield on Keating Capital’s common stock for the 12 months ended March 31, 2014 was 9.7%, which is calculated with the total dividends of $0.59 per share declared for such period divided by the $6.11 per share closing stock price as of March 31, 2014. Since its first distribution in 2011, Keating Capital has now distributed a total of $0.75 per share to its stockholders.
Lastly, let me provide a brief update on the IPO market. The IPO market in 2014 has been very strong continuing the trend from last year. The first quarter of 2014 had more activity than any of the first quarter since 2000 as 64 companies raised $10.6 billion. That is more than double the number of IPOs in the first quarter of 2013, a year that also had the most public offerings in over a decade.
One final data point that is worth mentioning is the volume of IPO filing activity through April 25th, there have been 136 IPOs filed in 2014 which is a 147% increase compared to this time last year.
Finally, let me conclude with an important reminder of our investment strategy. We believe that because investors place a premium on liquidity, public companies typically traded higher valuations than private companies with similar financial attributes.
We further believe that there is a private to public valuation arbitrage opportunity that can be exploited by providing growth capital to private companies seeking to go public and then, benefiting from the transformation in value associated with becoming public as they complete IPOs.
Finally, we believe that when steps are taken to mitigate the risk associated with the pre-IPO investments, there is a potential for both higher absolute returns and attractive risk adjusted returns. Accordingly, our investment strategy is focused on making investments in emerging growth companies that are committed to and capable of becoming public.
Effectively, we have an IPO event-driven strategy and we attempt to generate returns by accepting the risk of owning ill liquid securities of typically later-stage venture capital-backed private companies.
Naturally, the process of transforming from private to public ownership is subject to the uncertainties of the IPO process. If this process happened quickly and with certainty, we believe there would be less of an ill liquidity discount enhance less return potential available to us when we invest.
Instead, the process takes time and it’s subject to market conditions and we therefore incorporate and expected four year average holding period for each portfolio company into our model.
In closing, I want to remind you that we expect a majority of our private portfolio companies to complete an IPO or a strategic sale or merger over the course of the next four to eight quarters.
Based on our net realized gains from portfolio company sales thus far, again, four complete sales and one partial sale and the 24% weighted average internal rate of return from these sales, we remain confident that our private to public valuation arbitrage strategy is working. With that, I will turn it back to Margie.
We will now open the call to Q&A. As a reminder, we are accepting verbal questions and we ask that you follow the operator’s instructions if you would like to ask a question. Operator?
Thank you. Ladies and gentlemen once again, we will only be accepting questions over the phones today. (Operator Instructions) And now the first question is from the line of Ed Woo, research analyst. Please go ahead. Your line is open.
Edward Woo – Ascendiant Capital Markets
Yes, thanks for taking my question. Tim, I know you mentioned at the IPO first on first quarter, we’ve seen a little bit bull through the overall stock market. Do you think that there will be any type of correlation or any type of pullback, because the overall market is a little bit more volatile recently?
No, there – clearly the volatility has been there, but even in a very volatile market add, deals are getting priced and they are being priced at either the low end of the ranges or in certain cases, below the low end, but the IPO market really even through this volatility is simply a juggernaut that can’t be stopped.
So, I think there is probably the broader level of concern is small cap valuations relative to large cap valuations and there we are quite stretched. And, the small cap valuation since the beginning of the bull market back in 2009 have outperformed large caps by about 60 percentage points and for people who compare these relationships, these small caps have had a very, very long period of outperformance relative to large caps and that’s a very substantial margin.
So, if you look at the valuations of – the current valuations of the rustle, relative to historical norms, if you look at the valuation differential between small and large cap stocks, it’s hard to avoid any conclusion except small caps are historically and relatively overvalued to large cap stocks.
Notwithstanding that, the IPO market is not going to stop, it’s not going to miss a beat and I don’t think, it’s the worst thing in the world for some of these companies to be pricing at slightly lower valuations.
Edward Woo – Ascendiant Capital Markets
Great, and if I could answer one more question. You mentioned that a majority of your companies you expect to go IPO through the next one to two years. What percentage do you think they will be done, based on confidential filing and what has been the typical timeframe from when a company, I guess, finally reveals that they are going to go public and they tend to file confidentially to when they would actually go public?
And those are great questions and let me answer them in the following order. First, here is the rule about confidential filings. A issuer has to file publicly at least 21 days before it begins or launches its road show and a typical road show lasts about two weeks.
So I think it’s fair to say that on average for many companies the day they publicly file, you can typically expect a pricing five to six weeks after they file publicly. So, just the day they file, this pack five to six weeks on and that’s generally a good rule of thumb across the market.
Second, the number of companies, the number of our portfolio of companies that we expect to file confidentially answer 100%, why? Since the Jobs Act was passed in April of 2012, there has been dramatically increasing trend among so-called emerging growth companies and for simplicity, any company with less than $1 billion of revenues in the preceding 12 months.
Virtually, all of these companies are availing themselves of the ability to file confidentially. At this point, it’s no secret to say that a 100% of our companies qualify for emerging growth company status and I think the view in Silicon Valley, the view among these companies is, it’s a free option to file confidentially, why not do it? Why disclose your financials?
And PricewaterhouseCooper tracks the percentage of emerging growth companies that are availing themselves with the ability to file confidentially, that percentage increases every quarter. I think, it’s up to about 70%, perhaps even 80% and that trend has been up every quarter.
So, there is always going to be a few stalwarts who decide to just file the old fashion way, but generally, I think you are going to see nearly all emerging growth companies file confidentially going forward and our companies would be no exception. Did I cover all of your questions in that – all the parts of that question?
Edward Woo – Ascendiant Capital Markets
Yes, thanks a lot Tim and good luck.
Thank you, Ed.
Do we have other questions?
There are no further questions in queue at the moment. (Operator Instructions) And there seems to be no further questions in queue. I’ll turn the call back to you now.
That concludes our call for today and we want to thank everyone for joining us. Our next conference call has been scheduled for July 28, 2014, following the filing of our Q2 2014 results. We look forward to your continued interest in Keating Capital. Thank you.
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