Goldman Sachs BDC (NYSE:GSBD)
Q2 2016 Earnings Conference Call
August 5, 2016 11:00 AM ET
Katherine Schneider – Head Investor Relations
Brendan McGovern – President & Chief Executive Offocer
Jon Yoder – Chief Operating Officer
Jonathan Lamm – Chief Financial Officer & Treasurer
Good morning. My name is Dennis and I will be your conference facilitator today. I would like to welcome everyone to the Goldman Sachs BDC, Inc. Second Quarter 2016 Earnings Conference Call. Please note that all participants will be in listen-only mode until the end of the call when we will open up the line for questions.
I will now turn the call over to Ms. Katherine Schneider, Head of Investor Relations at Goldman Sachs BDC. Katherine, you may begin your conference.
Thanks, Dennis. Good morning everyone. Before we begin today's call, I would like to remind our listeners that today's remarks may include forward-looking statements. These statements represent the Company's beliefs regarding future events that, by their nature, are uncertain and outside of the Company's control. The Company's actual results and financial condition may differ, possibly materially, from what is included in the forward-looking statements as a result of a number of factors, including those described from time to time in the Company's SEC filings.
Yesterday after the market closed the Company issued an earnings press release and posted a supplemental earnings presentation, both of which can be found on the homepage of our website at www.goldmansachsbdc.com under the Investor Resources section. These documents should be reviewed in conjunction with the Company's Form 10-K filed yesterday with the SEC.
This conference call is being recorded today, August 5, 2016 for replay purposes. With that, I will turn the call over to Brendan McGovern, Chief Executive Officer of Goldman Sachs BDC.
Thank you, Katherine. Good morning, everyone, and thank you for joining us for our Q2 Earnings Conference Call.
I'll start by providing an overview of our highlights for the second quarter. I'll then turn the call over to Jon Yoder, our COO, to discuss our investment activity and portfolio metrics. Jonathan Lamm, our CFO, will take you to a detailed discussion of our financial results. And finally, I'll conclude with some closing remarks before opening the line for Q&A.
We are pleased to report Q2 net investment income of $0.50 per share, as compared to $0.44 per share for Q2 2015. Year-over-year increase in NII is primarily due to an increase in earning assets, as we grew our investment portfolio by over 10% from Q2 2015. As we announced after the close yesterday, our board declared a $0.45 per share dividend payable to shareholders of record as of September 30. We are pleased that are net investment income has continued to exceed our dividend meaningfully, reflecting attractive underlying yield to our assets and a carefully considered expense structure. This quarter, our NII exceeded our dividend by 11%. Year-to-date, our NII has exceeded our dividend by over 20%.
Moving on to investment activity. Gross and net originations were $42 million and $37 million, respectively, representing a mild increase in our total investment portfolio for approximately 3% sequentially. We ended the quarter at a debt equity ratio of 0.7 times which continues to be within our target leverage range of 0.5 to 0.75 times.
Turning to the underlying performance of our portfolio companies. We continue to believe that the current economic environment of steady growth in the U.S. provides an attractive backdrop for our portfolio companies. Our weighted average basis, our portfolio companies continue to grow EBITDA on both year-over-year and year-to-date basis, including the companies in our portfolio that are currently marked at meaningful discounts to par.
That said, we placed our first-lien investment in NTS Communications on nonaccrual status as of quarter end. This was a result of the company and its PE sponsors' decision not to pay the amounts owed under our loan facility while we negotiated an amendment with terms of our investment.
Subsequent to quarter end, we reached an agreement on the amendment and received a cash payment from NTS in the amount of the past due interest which was applied to principle. To provide some background, NTS's telecom company that operates a fiber optic network which services the premises for both commercial and residential customers. Our underwriting thesis was premised on the growing demand for data speed and bandwidth, and the superiority of fiber in meeting this demand relative to other technologies.
While the company has solid penetration rates in many of its most important markets, relative to our initial underwrite, the company has not grown its subscriber base in line with expectations. We believe this performance extends in part from NTS's inability to pursue certain growth CapEx programs given its debt service requirements. In light of this, we are pleased that the agreement we reached with the company and its sponsor after quarter end will provide the company with the financing and the flexibility it needs to facilitate news programs, which we believe improves our prior [ph] position and push the company on improved trajectory. I would note that this first-lien investment was initiated on an attractive loan to value, with approximately $100 million of equity cushion beneath our loan.
The other investment we had on nonaccrual status as of quarter end was our loan to Hunter Defense. As you may recall from our Q1 earnings call, Hunter Defense was place on nonaccrual status as result of the company's deteriorating financial performance. During the second quarter, in an effort to right size Hunter's balance sheet and provide the company with adequate liquidity to execute its turnaround plan, we engaged in intensive negotiations with the company and its stakeholders including the first-lien lenders, the other second-lien lenders and the company's private equity sponsor.
We are pleased to report that shortly after quarter end; we closed on a restructuring of the company that we believe de-risk the capital structure, infuses capital to bridge with normalized operating environment and provides a potential thrust to recoup our invested capital. Specifically, we converted our existing $28 million second-lien loan into non-interest bearing preferred in common equity. In addition, we were able to purchase approximately 8.7 million of first-lien loans from existing holder at a discount to par and exchange it for additional preferred stock. As a result of these transactions, the total cost basis of our investment at Hunter is now $12.6 million, representing approximately 1.1% of our total investment portfolio cost, and we have removed the investment from nonaccrual status effective July 1, 2016.
With that, let me turn it over to Jon Yoder.
Thanks, Brendan. During the second quarter, we saw transaction activity pick up from first quarter levels and build momentum modestly through the end of the quarter. This trend has continued thus far into the third quarter as well. At the same time, we are starting to see a little bit of consolidation and in some cases outright contraction in a number of competing lenders with meaningful amounts of capital to deploy, which we believe is indicative of an industry that is slowly maturing.
While these trends haven't yet manifested in a significantly altered investment landscape, we are taking note that the direction is positive for investors and the private credit asset class more broadly. As Brendan mentioned, we are pleased with our investment activity during the second quarter, particularly our ability to grow the portfolio and continue to stay well within our target leverage range of .5 to .75 times debt to equity.
We're also pleased with continued growth of the senior credit fund where we earned a 13% return on our invested capital over the past year. During the quarter, we were able to grow the senior credit fund by 4% and by 38% year-over-year. Our investment in the senior credit fund now represents approximately 6% of the company's total investment portfolio. The continued strong performance of the senior credit fund and its continue growth as a percentage of our overall assets remains a priority in the coming quarters.
The quantifier investment activity this quarter, we made new investment commitments of $42 million, including an additional $9 million investment in the senior credit fund. The new investment commitments were comprised of 70% in first-lien debt, 7% in first-lien last-out unitranche debt, 2% in second-lien debt and 21% in the senior credit fund.
Sales and repayment activity was muted during the quarter, totaling just $5 million, and was driven by partial pay downs and scheduled amortization payments. While predicting the timing of future repayments is difficult, there are certain investments in our portfolio that we believe could be repaid in the relatively near future, so we do not expect this quarter's light repayment volumes to continue.
As of June 30, 2016, total investment and commitments in our investment portfolio were $1.116 billion at fair value. This is comprised of 92% senior secured loans, which includes 39% in first-lien, 28% in first-lien last-out unitranche, and 26% in second-lien, as well as 2% in preferred stock and 6% in the senior credit funds. We have less than $1 million of unfunded commitments at the end of the quarter.
The portfolio continues to be well-diversified across investments in 40 portfolio companies operating in 28 different industries with no significant industry concentration. The weighted average net debt to EBITDA of the companies in our investment portfolio decreased slightly to 4.4 times from 4.5 times as of March 31, 2016, which reflects the generally steady economic performance of our portfolio companies that Brendan described.
Turning to the senior credit funds. We originated $58 million investments in three new companies and three existing portfolio companies, bringing the total size of the investment portfolio to $354 million. All of these new investments were in first-lien senior secured floating-rate loans with interest rate floors. The senior credit fund had sales and repayments of $47 million, driven primarily by the repayment or refinancing of loans to three portfolio companies. Total activity in the senior credit fund resulted in net portfolio growth of $11 million during the quarter and an increase in the weighted average yield on the asset of approximately 30 basis points at cost and 20 basis points at fair value, as new originations had higher yields than repayments.
The senior credit fund portfolio also remains well-diversified in across investments in 28 portfolio companies, operating in 20 different industries, again, with no significant industry concentration. There are no investments in the senior credit fund on nonaccrual status.
I will now turn the call over to Jonathan to walk through our financial results.
Thanks, Jon. We ended the second quarter of 2016 with total portfolio investments at fair value of $1.115 billion, outstanding debt of $469 million and net assets of $668 million. Our net investment income was $0.50 per share as compared to $0.58 per share in the prior quarter, and $0.44 per share in the quarter ended June 30, 2015. As Brendan mentioned earlier, our Board of Directors declared a second quarter dividend of $0.45 per share payable to shareholders of record as of September 30. For the trailing fourth quarters, we have consistently out-earned our dividend on a net investment income basis. We believe that this is a testament to the stronger earnings power of our portfolio as well as to our incentive fee structure.
During the quarter, our average debt-to-equity ratio was 0.68 times as compared to 0.62 times during the previous quarter. We ended the second quarter with a debt-to-equity ratio of 0.7 times as compared to 0.63 times at March 31. The increase in ending leverage was primarily attributed to our net portfolio growth in the quarter. Turning to the income statement, our total investment income for the second quarter was $29.3 million, down from $31.3 million last quarter, primarily driven by the classification of NTS on nonaccrual, and that's resulting in a reversal of accrued interest income.
Notwithstanding this nonaccrual, we believe that our dividend continues to be well supported by high quality income earning assets in our portfolio. Total expenses before taxes were $10.9 million for the second quarter as compared to $9.9 million in the prior quarter. Expenses were up quarter-over-quarter, primarily driven by an increase in incentive fees and an increase in interest in credit facility expenses. The higher incentive fees are attributed to higher pre-incentive fee earnings in the quarter as net unrealized depreciation was lower than in the prior quarter. As a reminder, our incentive fee calculation takes into account net realized and unrealized losses and, therefore, can display some volatility from one quarter to the next. We believe this feature provides the proper shareholder alignment as the fee is based on total returns.
We ended the quarter with net asset value per share at $18.41, down modestly from the prior quarter, driven by unrealized depreciation and partially offset by net investment income that exceed the dividend. Our supplemental earnings presentation provides a NAV bridge to walk you through these changes.
Finally, as mentioned during last quarter's conference call, we put in place a 10b5-1 program to repurchase up to 25 million of our shares on a programmatic basis when the market price is below our most recently announced net asset value per share. There were no repurchases triggered under this program in the second quarter as our stock price traded above NAV throughout the quarter. We believe this type of program is indicative of the confidence we have in the value of our investment portfolio.
With that I will turn it back to Brendan.
Great, thanks, Jonathan. Overall we are pleased with the strong net investment income that we're able to produce this quarter. In particular we are pleased with our continued ability to produce net investment income that is meaningfully higher than our dividend. Furthermore, as we described in our past earnings calls, our investment income continues to be comprised predominantly of contractual cash interest payments received from our portfolio companies, as compared to one-time non-occurring items such as origination or syndication fee income.
We continue to maintain a close eye on managing expenses and are pleased to have among the lowest managing fees and cost of debt capital in the industry. Our incentive fee structure is designed to incentivize prudent risk management and align GSEN interest with the interest of our shareholders. Taken together, these items have allowed us to utilize year equity capital very efficiently, consistently producing net investment income that is among the highest in the industry as percentage of gross investment income.
Finally, we continue to like the economic backdrop in the U.S. on relatively steady, consistent GOP growth, and are generally pleased with the credit metrics and performance of our portfolio companies. While we are disappointment to have had two investments on nonaccrual status at the end of the quarter, we wanted shareholders to know that we brought tremendous focus and highly skilled resources to both of these situations.
As we described, shortly after quarter end, this dedication was rewarded by renewed capital partnerships and reinvigorated business plans with respect to both situations that we believe puts these companies on a path towards growth.
So with that and on behalf of the team, we thank you for your time and continued support. And now Dennis, we'd like to open the line for questions.
[Operator Instructions] And your first question is from the line of Jonathan Bock with Wells Fargo. Please go ahead.
Hi, guys, good morning, Finn O'Shane [ph] for Jonathan Bock this morning.
Hey, Finn, how are you?
Good, thank you. Just one, couple of housekeeping things. I missed the fair value for Hunter post-restructuring.
Yes, I think we gave a pretty good accounting of that transaction. I think a few things to note, Finn, is it's all in our subsequent event section of our 10-Q. So as of quarter end we have this reflected as the pre-restructuring transaction which effectively was the pre-existing second-lien note as of quarter end. And so I think the important is to highlight here, and again we go to this in detail in our subsequent event transaction is basically we took that $28 million of phase amount of Hunter, we equitized that into preferred [ph] we also were able to purchase, as part of that restructuring, some first-lien debt and contribute that back to the company, and the overall effect of this transaction is the fair value as of that subsequent event is about $13.4 million. I think the way if you would think of it, Finn, is again when you go through that subsequent event you'll see the effect of that transaction was really closed on July 1, which might be part of [ph].
Very well, thank you. And then another -- on the incentive fee, are there any [ph] there this quarter? In that calculation it appeared on our end to have come a little higher than what we calculated the cap would have been.
It was $2 million versus $1.4 million in the prior quarter so the cap did kick in. If you take a look at the unrealized depreciation in the quarter, the $11 million, you can back into what a fully peaked incentive fee would look like at 20% of that $11 million.
So that 2.085 was the cap?
2.08 was reflective of the cap, correct.
Okay. And one more on the NTS. Just sort of a mystery it seems. It seems that it's going well there, positive comments of the enterprise value and such, but on the other hand the sponsor chose not to pay and you lose it on tick. So just kind of some color on maybe what we can expect from a valuation perspective post quarter.
Yes, let's try, Finn, to give you a little more context insured. Jon, you might have some thoughts as well. We went through a fair bit of this in the remarks. But basically we have a first-lien loan to NTS. We put the loan phase about two years ago. This is a company that provides telecom services, both business and residential customers. When you think about this business, it's effectively providing the last mile of service to these customers. So there's an element here of a requirement of capital, so a capital intensive business that we characterize as success there.
And so as we look through the performance of the company over this year while we have this loan, it's kind of chugging along, it hasn't grown to the degree as certainly the sponsor would have hoped specifically with respect to its subscribers on that advanced network, and so the tension here has been as between success-based CapEx and the cash debt service obligation of the company, the sponsor wanting to pursue those growth initiatives and ultimately company that has a debt burden attached to it. So we started to discuss and negotiate a dynamic which would have us providing some relief to this dynamic whereby some incremental capital could come into business to reinvigorate that growth, that success-based capital expenditure that was described.
And so in the course of those negotiations, the company did not pay the cash interest that was due. In about mid-July we did come to an overall arrangement with the sponsor whereby a new capital came into the business from both, we and the sponsor. We agreed to pick the investment for a period going forward. We were paid the amounts that were owed under interest previously that had not been paid as June 30. I think we took a pretty conservative approach and applied that to the principle of the loan, and so among other things we were also granted warrants or equity effectively to participate in what would be the outside growth as those capital initiatives take hold.
So on balance here, when we think about this investment, first-lien loan, first dollar cash in this company's capital structure, and a dynamic whereby we deem to prudent that flexibility to the company and are participating in the value we think that will unearth the company by virtue of the grant of the equity position.
Okay, guys. Thank you very much. That's it for me.
[Operator Instructions] And your next question is from the line of Doug Mewhirter with SunTrust. Please go ahead.
Hi, good morning, this is actually Nancy Rosenberg [ph] on for Doug. Thank you for taking my questions.
Hey, how are you?
Good, how are you?
Can you comment on what you're seeing in terms of pricing and activity levels?
Sure, Ashley. So it's Jon Yoder, I would say that the first couple of quarters of the year, especially the first quarter, there was not a lot of activity on the sponsor side, and I guess the way we look at the market is we kind of bifurcate the world between the sponsor market and the non-sponsor market. And so in the sponsor market, as I said first quarter very low activity levels, as I said in my opening remarks their certainly accelerated activity levels, activity levels that picked up in the second quarter. But still if you look at the trajectory on year-to-date basis it's still relatively muted.
So as a result, I would say there continues to be pricing pressure in the sponsored market, there continues to be significant levels of competition there. But on the non-sponsored side where we're also very active. We really haven't seen that being dynamic. We've seen activity levels and competition levels that are really unchanged from what we've seen in prior quarters, and so we're certainly spending a fair bit of time on the non-sponsored space as well. So that I think is kind of a tale of the two different markets.
Okay, thank you. And then can you also give us an update on your grade three and four investments and how you're thinking about those credits?
Yes, so I think when look at the overall composition that we disposed, there's really not been a lot of movement as we see in the other competition between the threes and the fours. I think we've spoken pretty much at length around NTS and Hunter which are the two nonaccruals that were on the book as of June 30. Hunter as we discussed and gave a lot of detail on both of these investments in the subsequent events. Hunter's been [indiscernible] non-accrual as of quarter end. So we're actually feeling good about the recap position of the company that's left of that business. I think we just gave it a pretty good accounting of NTS. So overall when we kind of peel back the onion on the portfolio metrics across the board, we see good solid tail performance across the portfolio and not a lot of overall changes in those restraining.
Okay, thank you. That's all I have for now.
[Operator Instructions] At this time there are no further questions. Please continue with any closing remarks.
Great. Thanks, Dennis. Thank you all for joining us today for the call. We appreciate your time and the questions. If you have any follow ups please feel free to reach out directly to the team. Have a great weekend.
Ladies and gentlemen, this does conclude the Goldman Sachs BDC, Inc. Second Quarter 2016 Earnings Conference Call. Thank you for your participation, you may now disconnect.
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