Tetragon Financial (TGONF) Q1 2016 Results - Earnings Call Transcript

| About: Tetragon Financial (TGONF)

Tetragon Financial Group (OTCPK:TGONF) Q1 2016 Results Earnings Conference Call April 29, 2016 9:00 AM ET


Paddy Dear - Investment and Risk Committee and Executive Committee

Phil Bland - Executive Committee and Chief Financial Officer

David Wishnow - Investment and Risk Committee and Executive Committee

Stephen Prince - Investment and Risk Committee, Executive Committee and Head, North America


Paddy Dear

Great. Thank you very much. And thank you very much everyone for joining. I'm one of the Principals and Founders of the Investment Manager of Tetragon. And I'd also like to welcome you to the investor call, and we're going to focus on the first quarter results.

I will provide an introduction; Phil Bland, our CFO will review the company's financial performance for the quarter; David Wishnow, Steve Prince and I will talk through some of the detail; and then we'll conclude with some updates, recent initiatives of the company. And we'd also take questions electronically via the web-based system at the end of the presentation, and we plan to answer certain questions that we received since the last update.

As always, I'd like to remind everyone that the following may contain forward-looking comments, including statements regarding the intensions, belief or current expectations concerning performance and financial condition on the products and markets in which Tetragon invests. And our performance may change materially, as a result of various possible events or factors.

So with that, moving to the first slide. This has been updated since the fourth quarter slide that you saw, and shows the key highlights for the company. We've been in business for nearly 11 years now, and nine of those have been as a public company.

Our target return on equity at inception was 10% to 15% per annum. We've averaged 13.2% since inception, and that's calculating on a fair value basis. We have said in the past and continue to reiterate that in a low-LIBOR environment, we would naturally expect returns to be at the lower end of that guidance.

So moving to the first quarter. Our annualized fair value return on equity for Q1 was 4.1%, so obviously somewhat below our target. But having said that, maybe pretty healthy, given the broader investor issues over the quarter. And we'll come on to more color on that, as we get through the presentation.

Shareholder returns over the years have been more volatile, but have delivered 7% per annum since IPO on a dividend reinvested basis. Current yield, just under 7% on today's share price with a progressive dividend. NAV of the business on a fair value basis about $2 billion.

And one other item that have changed here is principal and employee ownership is up about 21% of the public shares. And the reason for that is that Reade Griffith and myself bought about 2.4 million shares recently, as it's been announced and was filed with the AFM.

So moving on to a reminder on strategy. For many of you this will be a very familiar slide, but it just highlights what we are looking for are asset classes that generate alpha. Secondly, we're looking for management team that can add to that alpha. The third point is structuring our investments to create value. And lastly, we like to create or help build and own some or all of the asset management businesses that deliver that alpha. Thus, TFG's assets are both financial investments and operating asset management businesses.

These asset management businesses whether they are built, joint ventures, et cetera, and collectively called TFG Asset Management and they currently represent about 20% of the fair value NAV of TFG. And as a reminder, we pointed out that there maybe potential indeed to IPO the TFG Asset Management business as an entity in itself, should it be appropriate over the next few years.

This next slide is a portfolio snapshot at the end of Q1 2016. In the pie chart on the left-hand side, that's a breakdown of the $2 billion of assets by asset class and asset type and on the right-hand side, the top 10 holdings. I would say the point to take away, the first is that there are actually no major changes on last quarter. But secondly, I would reiterate the previously mentioned theme, based on the top 10 holdings.

Firstly, I would focus attention that they are all alternative. Secondly, that we own assets and operating asset managers, as I've mentioned. Thirdly, I think it demonstrates the diversification of the portfolio. And fourth, by looking at the top 10 holding, you can see that the focus is on either private companies or indeed bespoke financial assets that would be hard to replicate in the market.

So with that in introduction, I'll hand over to our CFO, Phil Bland, to discuss the key metrics on our first quarter results.

Phil Bland

Thanks very much indeed, Paddy. As usual on these calls, I'll be providing some high level commentary on some of the key metrics that we continue to focus on. Paddy, David and Steve, will then discuss some of the underlying dynamics for each of those business lines.

As you see from this rather familiar slide now, TFG continues to focus on the same four main metrics at the TFG fund level. We look at earnings and we measure that both as fair value return on equity and fair value earnings per share. We assess how value is being accumulated in the company by our fair value NAV to share metric, and we also monitor how value is being returned to the shareholders, through distributions, and that's mainly in the form of dividends.

Our first measured operating performance is fair value ROE. So this is calculated as fair value net economic income, which was $20.3 million in the first quarter, divided by net assets at the start of the year of $1.99 billion.

Fair value return on equity, as Paddy alluded to, in first quarter was an annualized 4.1%. So while this is currently running below TFG's long-term target of 10% to 15%, we believe this result compares favorably with many fund and market metrics in Q1, and we'll hear about the businesses and the momentum behind them, later in the call.

Our second measure is fair value earnings per share, which is calculated using again fair value net economic income divided by the average U.S. GAAP shares in the period. Fair value EPS in Q1 was $0.21, with all asset classes making positive contributions other than distressed credit that made a very small negative. Paddy will focus on these business lines in a bit more detail later.

It is worth stating that during the quarter, the weighted average U.S. GAAP shares fell slightly by less than 1% to 96.2 million, partly due to the brought forward impact of Q4's buyback of $60 million worth of shares. And this was partially offset by investors taking shares in lieu of cash dividends and we're seeing that is a growing trend overtime which is very encouraging.

We move on now to the fair value NAV per share metric, which takes fair value NAV of again $1.99 billion and divide it by TFG's fully diluted share count, which was 104.7 million shares at the end of the quarter. This metric was up very slightly from 2015 yearend. The fully diluted share count was also up by about 0.5 million share or just about 0.5%, and this partly due to the recent equity based awards which have now started to be included in the fully diluted share count. And you can see a full description of that including how we are accounting for it in a new appendix to our Q1 report.

The fair value NAV per share at $19.05 is up $1.48 or 8.4 % compared to the end of Q1 2015. Around $0.49 per share of that move resulted from the Q4 2015 buyback of roughly $60 million worth of shares. It's also worth noting here that the fair value NAV per share metric is after the distribution of dividends, which was $0.1650 in Q1, that's right into the Q4 dividend and approximately $0.65 during the course of the last four quarters.

Our final metric we consider at the TFG's fund level is dividend per share, and this is the important measure of how value is being returned to you as investors. Paddy has already mentioned the progressive policy, and in Q1 we declared a dividend per share of $0.1650. That's unchanged from Q4 2015.

On a rolling 12-month basis, the dividend was $0.6550 per share and that represents a 4.8% increase of the preceding 12-month period. Looking at the Q1 dividend itself, on an annualized basis that represent about 6.8% on the Q1 share price of $9.65. So that completes my quick review of TFG's fund level metrics.

And with that, I'll hand it back to Paddy to discuss the composition of TFG's NAV.

Paddy Dear

Thanks, Phil. So let's start with a slide on the net assets composition summary, and then we'll get into detail on performance by asset class. So what this pie chart shows is the asset class breakdown of the portfolio at the end of Q1 2016. So we view that's the same as we looked at a few months ago, but in this slide it compares it to the end of 2015. And as you can see on an asset allocation basis there'll be minimal changes over the first quarter.

This next slide is a table that breaks down the assets into more granular data. And obviously, it's one we viewed before and it shows the breakdown of the assets, showing net asset value at the end of the quarter compared to the yearend and the fair value net income derived over the quarter. So I'll just take these through sequentially.

So staring with the top, obviously, the top three are all CLO equity. And so to describe the returns there, I'll pass over to David.

David Wishnow

Thanks, Paddy. TFG's U.S. 1.0 CLO investments contributed $6.8 million in fair value net income over the first quarter of 2016. The natural amortization of 1.0 portfolio and the continued unwinding of CLOs redeemed in 2015 reduced the fair value of this segment by nearly 20% over Q1 2016.

TFG's U.S. 2.0 CLO investments produced $7.4 million in fair value net income in Q1. As with the U.S. 1.0 CLO portfolio, the underlying loan prices of the U.S. 2.0 CLOs were volatile. But we believe, in many cases, this may have produced opportunity for our CLOs that we were still within their reinvestment periods.

The European CLO segment of TFG's portfolio produced $5.3 million in fair value net income during Q1 2016. Unlike in the U.S., European loan prices remain supportive of early optional redemptions of CLOs, and during the quarter we initiated the redemption of one European CLO. All CLO equity positions owned by TFG were in compliance with their junior-most O/C test as of the end of the quarter.

New issue volumes in the U.S. broadly syndicated CLO market are down significantly by approximately 77% from last year at $7.1 billion as of the end of Q1 2016 versus $30.8 billion for the same period last year. This is due to a combination of factors. Firstly, volatile CLO equity pricing caused short-term holders to back away from the market, creating attractive secondary market CLO equity opportunities that competed with new issue CLO equity returns.

In addition, the capital needs and complexity of risk retention guidelines prevented many managers from accessing the new issue market. Having said that, as loan price in CLO equity market volatility have subside, the pace of new issue CLOs has recently picked up with over $2.6 billion pricing in the first three weeks of April. This new issue activity comes on the heels of a rally in the secondary market, particularly for CLO mezz debt, as technical selling pressures cease.

This rally has put the new issue CLO market and secondary market in more of an equilibrium, which has led to the reemergence of new issue deals. Going forward, we'd expect that the effects of risk retention will have a more pronounced effect on the market resulting in lower overall deal volumes. With less supply of CLOs we would expect to see less pressure on bank loan spreads since the CLO market makes up the largest buyer-base of leverage bank loans.

In addition, with a lower supply of CLOs, we'd expect to see increased pressure on CLO liabilities, all else being equal. Both of these effects accrued in benefit of CLO equity and help maintain the arbitrage, which we believe will be beneficial to both TFG as an investor in new issue, CLO equity and LCM as a manager looking to issue new CLOs.

With that, I'll hand it back to Paddy.

Paddy Dear

Thank you, David. So getting back to the table we had before with CLO equity, the next two items are equity and in aggregate the net income for equities was $12.6 million for the quarter. The largest investment is in Polygon's European equity event driven fund, which had a very strong first quarter. That is in fact, particularly pleasing, given I think many of you are well aware about the tough time that suffered by many events driven or events focused funds.

We believe not only is it a great return, but also shows the lower correlation to market and other funds, and what we are seeking, which I guess, is genuine alpha. We also had good return from other Polygon equity funds and indeed the other equities bucket. And Steve is going to talk a bit more about the Polygon funds as we get into the TFG Asset Management part of the presentation.

Moving down the table and the next three items are all in credit. And you'll see in credit, there was a negative net income of $1.8 million. Two major investments Tetragon has in Polygon's convertible bond opportunity fund and the distressed fund and also there is a small exposure, as you can see that's in some corporate loans.

So the trend we saw in the first quarter of the year actually was fairly similar to the last quarter of last year. And that is to say the convertible bonds had a small increase in net income as did direct loans. And that was affected with a negative result from the distressed investments and down a bit on the quarter. And again, there will be more specific information on the Polygon fund later in the TFG Asset Management.

Next down this line is our real estate contribution of $3.2 million net income for the quarter. So a good result, but relatively quiet as we expected. And lastly here is the asset management division. You can see that TFG Asset Management in aggregate have net income of $0.8 million. But my next slide gives a little bit more information on how that number is arrived at.

So this table, as I say, gives a breakdown for the various different asset management businesses with the aggregate fair value net income for the quarter of $0.8 million. The breakdown by the individual asset manager shows all the different individual changes. And the main drivers for those valuation changes were small changes in forward-looking assumptions for each of those businesses, together with slightly lower valuation multiples supplied by the valuation agent.

I'll now pass back to Phil for more details on the operating performance of TFG Asset Management.

Phil Bland

Thanks, Paddy. So let's start to take a look at the TFG Asset Management's operating performance. One of the main drivers of future growth in the value of this business will be the underlying operating performance, of course, and indeed EBITDA is an important metric already used when determining the fair value for each of the TFG Asset Management business.

As you can see from the chart at the top of this table, EBITDA equivalent for the majority owned business made a decent start of the year at $9.3 million. Although there is a drop in overall EBITDA, this was largely explained by high Q1 2015 comparative particularly in terms of performance and success fees, which tend not to follow seasonal patterns.

But let's have a look at each of the components of EBITDA in a bit more detail by looking at the table on the next slide. Starting at top of the income categories, we are very pleased to continue the positive upward trend of management fee income and that rose around 33% year-on-year. Steve will discuss TFG Asset Management's AUM trends driving that later on the call.

The unrealized performance fees were also actually pretty decent in Q1, with the Polygon equity focused hedge funds performing particularly well, as already touched upon by Paddy. So success fees were therefore the main cause of the drop in this category year-on-year, and largely because Equitix had a particularly strong Q1 in 2015. Taken together success and performance fees in the quarter, as you can see in the table were $9.5 million.

And other way of looking at this is, rather than looking at the comparison with Q1 2015, is to consider the average of the last four quarters, which was $10.6 million and that's probably more representative comparison than just taking a single snapshot of one quarter last year.

The other fee income category in the table includes third-party CLO management fee incomes relating to some arrangements relating to U.S. CLO 1.0 transactions and they continue to amortize down as expected and as we have discussed on prior calls.

In addition, this category also includes some cost recoveries from TFG relating to seeded Polygon hedge funds. Those cost recoveries continue to decrease as we've seen over the last couple of quarters. Although we're continuing to invest and build the team supporting those funds, and that is because it is mature, and as they build third party capital, we'd expect to see those cost recoveries reduce.

The other income tax fee, which is playing an important part here is some fee income generated by part of the Equitix business on management services contract. And we're seeing that as a growing part of the Equitix business, which is also very pleasing.

Turning to expenses finally. The general operating expenses for the asset management business overall grew by around 26% in Q1 2016 compared to the same quarter 2015. Certainly partially driven by the addition of the Equitix business in early February 2015, so the comparative only reflects a partial quarter. But certainly, since the end of Q1 2015, we've continue to add selectively to the team, supporting a number of the growing businesses including Equitix, certainly Polygon selectively, Hawke's Point, and more recently the TCIP businesses.

And with that, I'll hand over to Steve to provide some additional color on TFG Asset Management.

Stephen Prince

Thanks, Phil. As we've discussed, TFG Asset Management is designed to enhance our asset level returns by owning asset management businesses that derive income from external investors. Our asset management platform comprises multiple brands with a focus on alternative investment strategies.

As of the end of the first quarter, TFG Asset Management represents approximately 21% of our net asset value. AUM managed by the six businesses stayed steady during Q1 and was $17.2 billion at 31 March, 2016. TCI II have second close of $60.5 million during the quarter, bringing committed capital to $203.4 million.

GreenOak achieved a final close for its Japan II fund and first closes for U.K. Debt Fund II and European Debt Fund I. Headcount increased slightly to 217 people, reflecting some growth in the businesses with a few new senior hires at Polygon and Hawke's Point.

As you can see on the next slide, the $17.2 billion of AUM within TFG Asset Management is well diversified across our business units. Our largest manager by AUM is our joint venture with GreenOak, with assets under management of $6.7 billion; next, our CLO manager, LCM, with assets of $6.1 billion; third, Equitix, our infrastructure manager, manages $2.7 billion, which was a slight decrease quarter-on-quarter in dollar terms, however, on sterling terms there was slight increase in AUM. Our hedge fund business Polygon has $1.5 billion under management.

The right side of this chart demonstrates the diversification by fair value of our businesses. Equitix by fair value is our most valuable business, representing $184 million of value; LCM represents $102 million; GreenOak $67 million; and Polygon $62 million; TCIP and Hawke's Point two of our more nascent businesses today represent a small part of the total NAV of our managers, but we are hopeful as we execute on their respective business plans that that value will grow.

Turning to the next slide, AUM by year or by quarter actually, there are few things we focus on with regards to our asset management businesses, namely returns, profitability and profitable AUM growth. We are pleased that on this last metric profitable AUM growth, we have increased AUM considerably since we embarked on building an asset management business.

In the past 12 months, TFG Asset Management's AUM grew by 25% to $17.2 billion, which is slightly up on year end. While, some of that growth was via acquisition, we're pleased that our underlying businesses also showed continued strong organic growth.

Turning to LCM. LCM continued to perform well in Q1 2016. Its defaults were 0.2% of its AUM compared to the market, which is 1.8% during Q1. As of the end of the quarter, all of LCMs cash flow CLOs that were still in their investment periods remained in compliance with our coverage tests, continuing to pay senior and subordinated management fees, and to generate cash flows for their equity tranches. One new issued LCM manage CLO was priced during Q1 and closed in April.

Next turning to GreenOak. As mentioned, GreenOak continued to perform well during Q1 2016 across our European, U.S. and Asian businesses. GreenOak achieved a final close for its Japan Fund II and first closes for U.K. Debt Fund II and European Debt Fund I.

Next Polygon. We're really pleased with our Polygon hedge funds results in Q1 2016, with all, but one of its strategies posting positive returns during a challenging quarter for many in the markets. Our European event driven strategy have a net return of 5.1% in Q1 compared to the HFRX Event-Driven Index, which was down 1.2%. Our convertible strategy was up 1.1% during the quarter compared to the HFRX Convertible Arb Index, which also was down 1.1%.

Our mining strategy was up over 1% during the quarter. The GDXJ, which is a proxy for mining equities, was up 45% on an annualized basis. However, Polygon strategy since inception has returned 3.3% versus a negative 23% for the GDXJ over the same period. Lastly, our distressed strategy was down 2%, which was in line with the benchmarks HFRX Distressed Index, which was down 1.5%.

Turning to the AUM of our hedge fund strategies. Today, our Polygon business manages $1.28 billion in its open products. Our largest strategy is European equities with nearly $660 million under management. We've been working hard to increase the AUM associated with this strategy and we believe that against the backdrop of very disappointing hedge fund returns, the long-term alpha generation of this strategy represents a compelling proposition for allocators. Our other strategies are either currently closed to new investments or we are not yet aggressively marketing them.

Lastly, turning to Equitix. Since the end of the year, Equitix's AUM remains essentially flat. Equitix Fund III 3 paid the paid the first distribution to its partners and Equitix Fund IV achieved total commitments of £430 through the end of the first quarter.

I want to lastly spend a minute on our two nascent businesses, Hawke's Point and Tetragon Credit Income Partners. Hawke's Point continues to find compelling deal flow, our team is strong and we're seeing increased opportunities created by the distressed in the metals and mining space.

And lastly, to reiterate the report on TCIP. TCIP is focused on making investments related to risk retention requirements. As mentioned, we had our second close in March, which brings its committed capital to over $200 million. We expect to have a third close this summer.

I'll now hand it back to Paddy.

Paddy Dear

Thanks, Steve. And as in previous calls, we have a slide that looks to the future. Looking at possibilities for future investments and to give investors some idea of our current sense of where cash maybe to be deployed.

So taking the first bucket, CLO equity, we continue to expect somewhere between $50 million and $100 million of potential new investments over the year. I would note that we do expect that new issue exposure for 2.0 is expected mainly to come through the TCIP platform, where TFG will be a major investor.

Next line item, event-driven equity, we have no plans to change the allocation currently. Equally in credit, we have no plans to change the allocation currently. Real Estate is always slightly more complex, we have made commitments to GreenOak funds, and obviously, we expect to be drawn on those, but you never know quite how much you can be drawn on, but we assume we're going to be drawn somewhere $25 million and $75 million over the next 12 months. Realizations against those are obviously fairly unpredictable, but we do still monitor those.

Next line is TFG Asset Management. There are no new businesses to report in the first quarter. However, our pipeline of businesses under review is larger than ever and we have a rigorous process for making sure we see and review as many opportunities as possible.

The penultimate item there is mining finance. As Steve just mentioned, although there are no investments to report, the team have analyzed many, many potential investments and we've come close on to investing in several of those. And also, as Steve said, we've added to the team and feel that we're well placed for the long-term prospects of both investments in the asset class as well as the prospects for growing a client franchise and an asset management business over time.

And lastly, no new asset classes to report for the first quarter. But just before we move to questions, I just wanted to update everyone on the process. As you know we added SFM as a trading venue in London and the benefits of thus is being on the radar for many U.K. investors.

A couple of points, I mean, firstly, the liquidity of the shares and there continues to be split amongst not just the Euronext and the Specialist Fund Market in London, but also a multiple other OTC venues, but if one monitors the aggregate, I'm sure there has been good liquidity in the main, which is obviously an important aspect.

Secondly, we continue to be active seeing potential new investors, as guided by our corporate brokers and others and have done many meetings in London, Scotland, Amsterdam, New York, and indeed plan to continue to do so. And as a result of this process, the company has several new shareholders and also thus are beginning to see the benefits from adding the London trading venue. But we do view this as a very long-term process and also continue to seek more external research and indeed a broader shareholder awareness of the company.

So with that, that concludes the presentation, but we do have some questions. So I'm going to move on to questions here.

We've got a few not surprisingly on the CLO part of the portfolio. Maybe Phil I could start with you. Can you explain in more detail how you're marking your CLO book?

Phil Bland

Yes, by all means. So as a quick reminder, we have in our yearly reports an appendix, which sets out how we go about doing our mark-to-model valuation process, but happy to cover that now. So our CLOs are basically all -- details are maintained in an independent modelling tool, but it is managed by a subsidiary of the Moody's organization on behalf of us and on behalf of our administrator, who is responsible for the NAV of the fund and on behalf of many market participants, so its very much a market standard model.

That is populated each month from trustee reports, with a lot of controls wrapped around the robustness of data. And there are a number of different market levels such as interest rates, FX rates, and the like they're all supplied independently by that external service. So there are a small number of forward-looking assumptions that need to be overlaid on that base level of information.

And those include things like forward assumptions for defaults during the life of the CLOs, recovery levels against those default assumptions, reinvestment spreads and prepayment rates, and you'll see in our quarterly disclosures details of the levels that we apply in terms of those forward assumptions.

As the finance function within the group here we're very much focused on using and benchmarking against observable data and we call upon information from a variety of external sources to validate those forward assumptions. And as one example, the forward default curve that we use, at the moment, we are applying a forward default curve based on long-term expectations driven by the weighted average rates, in fact a so called WARF of our own portfolio, it's quite specific to our own portfolio.

And we can see that a number of the credit rate agencies provide forward projection of their own against their long-term assumptions and we can benchmark our own metrics against those observable data points that also gets fed into the audit process with KPMG as part of the year end process.

So basically in addition to the forward looking assumptions, the other input that we use is the discount rates to discount the forward cash flows generated by our cash flow model. Those again are all provided in the valuation appendix in the reports. We're benchmarking those against observable data where we can find it, there are a small number of sources for that sort of thing and we see ranges and we seek to ensure that we are within the observable market range on ongoing basis.

Paddy Dear

Thank you, Phil. I have two questions here that are slightly different, but both refer or are looking at potential for buybacks. So let me just read those and tackle them. The first read, so now you have a credit facility as well as $424 million in cash, and there're still very wide discount, will you consider holding another tender offer or doing open market buybacks?

The last tender was aimed at securing shares for use of equity award, so the accretion you cite will be given back as the shares are reissued. So just backing the second point, that's absolutely correct to the extent that both shares are awarded over an eight year period that is a correct statement. So the first then to come back to is about share buyback.

And there is a second question that has some similarity, which I'll read. It said, various asset class including stocks and particularly bonds appear to be expensive, given artificially depressed interest rates, Tetragon stocks on the other hand appears to be extremely cheap. Could you explain how the current investments you're making are superior to buying back stock?

Excuse me -- I don't have a particular slide, but I am going to give a slightly pedantic answer to begin with. But if the person from the question does feel that everything is expensive, and therefore, feels that the TFG net asset value is likely to decline along with other financial investments, then presumably the best thing would be to do nothing and hold on to cash. But I think in a way that's taking the question too literally, because I do think that's a very good question that both of these addressed, which is how do we look at making new investments and how do we compare those to buying back shares in the company.

So to start the answer to that, we should address what is the cash for in the company. And I would say, we have a complex list of forward requirements that are always changing, but amongst those, I would cite dividends, fees, future investment commitments, particularly where it make commitments to private equity types structures, like real estate, so the GreenOak vehicles or TCIP II or Hawke's Point, so those are sort of known commitments.

We also have the opportunity for, what I would call, opportunistic investments. I mean, we never know what's going to happen in market and would always like to keep cash on hand to be able to make opportunistic investments.

On the other side of the equation, the inflows, we do spend a lot of time forecasting in some detail, but obviously, although you can forecast them, they're never quite known. So again, we'd like to be protected to keep cash. Today's cash level, we think may vary substantially over the next few years, and indeed on one of the slides earlier, I was trying to get some sense of what we expect the investments to be.

So when we do make new investments, we are comparing alternative strategies, not only across the portfolio but one of which is the potential to buyback stock. And indeed one of the ways to look at the business would be, if you were to think that our current book is expecting to do a 10% return on equity and you could buy shares at 50% discount to net asset value, then indeed one of the benchmarks might be at least a 20% return on equity for all other things. However, I think that oversimplifies the issues.

There are some other benefits of new investments, they may be to grow the business, they may be to diversify the risk, they may be to build new businesses with long-term potential for asset management fee income, which obviously has a different quality to it than maybe just LP returns.

There are synergies from adding new businesses, we may add new investors to the rostrum, which bring new knowledge and make us more intelligent about everything else we do. So look, a host of things that we try to bring into the equation. Notwithstanding that, I would say the benefits of a buyback are pretty immediate in terms of NAV per share accretion, depending on the discount that one manages to buy at.

I will just add one more thing and that is that buybacks do have a potential negative, and that they can at times reduce liquidity. So all of that I hope give some fence to the things that we look at, when we're looking at uses of cash. And just getting back to the first question, I think it is absolutely right that the revolver, as we have achieved, certainly helps in our cash management process.

And so a couple of more questions here. What is the look-through energy exposure on your CLOs? And I think, David, are you happy to tackle that one?

David Wishnow

Yes. On a look-through basis, we have approximately 2.5% energy exposure on our CLOs. This is clearly below market averages. You've certainly seen a bifurcation of CLO manager performance over the past year based on how much energy exposure certain managers have had. We have tended to avoid CLO equity investments that have had too much energy exposure. So we're really not concerned about that exposure at this time.

Paddy Dear

Thanks, David. There's one on the potential for IPO TFG Asset Management. Why is the runway to listing TFG Asset Management so long, likely three to five years? Do you have a target size for the business in terms of AUM before which you wouldn't want to list or do you want greater diversity in asset classes beforehand or is there another reasons?

Steve, are you happy to take that one?

Stephen Prince

Yes. So the first thing I'd say in terms of that question is, we're very happy with what we've achieved so far, both in terms of the AUM level that we have achieved and in the profitability of the business. However, we do believe the business needs to be larger and more diversified to support an independent business.

Because we're very selective, both in terms of strategies we want to add and in terms of the prices that we're willing to pay for new opportunities, it takes time to get the business more diversified and larger. So we think three to five years is a reasonable time period to achieve those goals.

Paddy Dear

Thanks, Steve. Please can you explain the drivers of the decrease in the fair value of TFG Asset Management during Q1 compared to Q4?

And I think I gave some commentary on that in the presentation, but I don’t know if Phil do you want to add more?

Phil Bland

I think just an important thing to echo there is that this is a process that is handled by external valuation experts on behalf of the audit committee, that's one. And inputs to that, we obviously have to be sensitive to changing expectations, which reflects changing markets.

And in Q1, where there are some softer market expectations for the deals and timing of realization of assets, we needed to update our forward plans, which we did, and that kind of fed in. There was definitely some sense of a reduction in market multiples. The market peers, particularly in the midpoints of the quarter, I think those came back quite a bit by the end of the quarter. But those factors you'd expect to see reflected in some volatility in the asset management business from time-to-time.

Paddy Dear

Thanks. And I think this is last one here, is on the options. Re: the conversion process for the 12.5 million options owned by the management that expire on the 25 April, 2017. And a couple of parts of the question. Can this term be extended or can more options of this size and magnitude be granted? And I think it's on the folks to tackle those. Can this term extended? The answer is no. Can more options of this size and magnitude be granted? I can say there is nothing anticipated.

And I think that there was a follow-up question on that, just as to how many shares are likely to be issued? And the question is, is the conversion price determined by the last trading price before the day of exercise, such that on one day there could be 10% more shares outstanding?

And so Phil you want to?

Phil Bland

Yes. So I think the point here, which is obviously a very important, and interesting one is, to what extent could that be a surprise in terms of dilution. So I think we must have covered it before, but such as to reiterate, these are expected to be net settled. So there won't be the issuance of the 12.5 million options into 12.5 million shares. That will be a net settlement amount. So the dilution will obviously depend on the share price on the day. But it's likely to be relatively small based on trading experience.

Recently, you'll probably recall the share price has been up to $11.5 or higher in the last 18 months or so. So you could kind of work out what the dilution impact would be if that was the price on the day of exercise. But I think the main thing is to say, net settled and for that less dilution impact.

Paddy Dear

Great. Thank you very much, Phil. And that concludes all the questions. So thank you very much everyone for listening. And have a good weekend. Thank you. Bye.


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Question-and-Answer Session

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