Q2 2020 FS KKR Capital Corp Earnings Call
Good morning, ladies and gentlemen, welcome to be assessed kinky, our capital Corp. second quarter 2020 earnings Conference call. Your lines will be in listen only mode. During my remarks, This case management.
Include conclusion of the company's remarks, we will begin the question answer session at which time I will give the instructions on entering the cute. Please note that this conference is being recorded at this time, Robert <unk> head of Investor Relations will proceed with the introduction Mr. armed you may begin.
Thank you good morning, and welcome to assess KKR capital Corp. second quarter 2020 earnings Conference call.
Please note that at best KKR Capital Corp, maybe referred to.
Hi, the fund or the company throughout the call.
Today's conference call is being recorded an audio replay or the call will be available for 30 days.
Replay information is included in a press release that up its K issue on August 10 2020.
In addition, okay has posted on its website presentation containing supplemental financial information with respect to its portfolio and financial performance for the quarter ended June Thirtyth 2020.
The link to today's webcast presentation is available on the Investor Relations section of the company's website under events and presentations.
Please note that this call is the property about bascay any unauthorized rebroadcast of this call in any form is strictly prohibited.
Today's conference call includes forward looking statements and we ask that you referred to Apis case, most recent filings with the FCC for important factors that could cause actual results or outcomes to differ materially from these statements.
I guess K does not undertake to update its forward looking statements unless required to do so by law.
In addition, this call will include certain non-GAAP financial measures.
For such measures reconciliations to the most directly comparable GAAP measures can be found in Apis case second quarter earnings release. It was filed with the FCC on August.
2020.
Non-GAAP information should be considered supplemental in nature and should not be considered in isolation or as a substitute for the related financial information prepared in accordance with gas.
In addition, these non-GAAP financial measures may not be the same similarly name measures reported by other companies to obtain copies of the company's latest actually see filings. Please visit at best case website.
Speaking on today's call will be Michael Foreman, Chairman and Chief Executive Officer, Dan Pietrzak, Chief Investment Officer and co President.
Brian Gerson co President and Steven Lily Chief Financial Officer.
Also joining us on the phone our co chief operating officers drew O'toole and Ryan Wilson.
I will now turn the call over to Michael.
Thank you Robert and welcome everyone to assess KKR capital Corp. second quarter 2020 earnings Conference call.
To start I'd like to stay that all of US hope that you your family your colleagues and your friends are remaining safe and healthy during this unprecedented taught.
Like other companies second quarter was our first full quarter operating in a covered world I'm pleased with how the S.K. care team has adapted its operational activities like fully virtual work and bar.
Also as I start I'd like to remind everyone that as previously announced during June we had FX way they for for one reverse stock split freshness cat.
As a result, all per share information contained in this call will take such information into account.
In recent weeks state and local economies across the country of experience reopening some renewed challenges all to varying degrees.
The financial World the public equity markets have rebounded much faster than many observers would have predicted just a few months ago.
On the one hand.
Rising equity markets. Thanks in major part to government stimulus hands on a scale not seen since World War, two and the Great Depression are looking for the current operational challenges almost all companies are facing.
On the other had as Dan will discuss in detail in his comments credit markets are providing a different view of the operating world.
From a portfolio perspective, our management teams of financial sponsors are intently focused on maintaining liquidity cutting costs and discerning new growth opportunities.
Our view is a credit markets are more accurately pricing risk in the equity markets as the equity markets almost entirely look through the realities of the current economic climate and focused on the long term.
As is often the case time will be a primary arbiter of which markets view as more while recent.
During the first quarter, we estimated that approximately 70% of our portfolio depreciation was related to covert or spread widening most other bdcs provided these estimates as well with a range of approximately 50% in the low end and 90% on the Hyatt.
Perhaps not surprisingly our estimates fell somewhat in the middle of the industry. Owing on the one has to the high quality nature of our more recent investment vintages, which had been led by KKR offset to an extent by legacy assets. We have discussed on prior earnings calls in terms of that Avi during the second quarter, our valuation process.
Ill defined results first we experienced appreciation within the majority of the portion of our portfolio, which previously was impacted by Tobin related spread widening and our multiple contraction.
Second we experienced additional write downs in certain legacy of previously previously credit challenge investments, including energy investments and investments that were fully restructure.
Third we experienced a modest amount of for the depreciation a portion of the portfolio that continues to be impacted by the effects of code.
Well, Brian will discuss our portfolio valuation in detail during his portion of the call in summary, the net results was that our total investment portfolio declined in value by approximately 1.9% during the second quarter, which resulted in a 4.1 decline in our and easy on a per share basis.
Shifting to our quarterly was operating results. Our net investment income was 62 cents per share during the quarter, which was two cents above our second quarter dividend the 60 cents per share.
From a liquidity perspective, we ended the quarter with approximately 1.3 billion of liquidity with no meaningful near term debt maturities.
From a forward looking perspective, consistent with the dividend strategy, we outlined during our last earnings call. We currently expect our third quarter net investment income for SREC share to approximate 60 cents per share.
As such our board has declared a distribution of 60 cents per share in the third quarter, which equates to an annualized yield at 10.3% on or any of your per share of 23 point 37 cents as of June 30 2020.
In terms of strategic BDC industry updates, we're extremely pleased to see the Fccs recent propose modifications the mutual fund that exchange traded funds disclosure requirements, which include meaningful forward progress with regard to day FSC rule.
For the last several years, we imitate we have maintained an active voice in Washington on behalf of the BDC industry.
We've also maintain a significant presence with both elected and appointed officials over the years. It is gratifying to see tangible results emerge from our our and others efforts.
Before I turn the call over to dad, I'd like to take a minute to recognize the entire fs KKR team. Some of these people such as the leadership team represented on this call you know, but many of them you have not met their an exceptional group of individuals of over 150 strong who work in their own you.
You will capacities there are focused hardworking and dedicated to work with making DFS KKR BDC franchise, an industry leader across multiple metrics, while we acknowledge there's still work to do as we rotate our portfolio I can assure you that we're closer to achieving our goals because of the quality of the work of these individuals.
And with that I'll turn the call over to Dan and the team.
Thanks, Michael.
Before I begin my formal remarks, I would like to reiterate Michaels calls in common we do have a strong team and the work they have done over the last several months has been tremendous.
I am proud to be part of this team.
I also hope that you your family your colleagues in your friends are remaining safe unhealthy during this unprecedented time.
While we continue to navigate and uncertain macroeconomic environment the prospect for substantial economic recovery remains a real possibility over the coming quarters.
Actions by the federal government and the Federal Reserve.
Which are providing unprecedented levels of fiscal stimulus and liquidity support to the market offer pillars of support for an economy, which increasingly feels as though it is lurching forward towards its own method of reopening regardless of governmental and public mandates.
As we analyze the leverage loan market and contemplate what the balance of the year may bring it is helpful to start by framing a few observations associated with the high yield market.
It is somewhat unexpected fashion the second quarter of 2020 represented a record in terms of quarterly high yield issuance.
$140 billion.
On a year to date basis high yield activity also has established a record issuance level of $224 billion.
However, the details of this headline number contains some interesting specifics.
Almost one third of year to date high yield bonds are secured with represents the highest level of secured bond issuance since 2009.
Only 11% of year to date high yield bonds have been used to fund M&A activity, which marks the lowest level since the 2008 financial crisis and financial sponsor related activity dropped below the 50% Mark for the first time since the financial crisis.
Finally operating companies have been building cash reserves at an unprecedented pace as cash on hand, as a percentage of total debt increased to 15%.
Again, a record level eclipse than even the fourth quarter of 2009 level of 14%.
Understanding the high yield market is important because it helps inform us about the leverage loan market.
The leverage one market, which was quite hot in January in early February So zero issuances in March and that's been slow to build back as fund flows for a lot of mutual funds have been steadily negative since that time in a range of between 10 and $20 billion of outflows per month.
In addition year to date 2020, cielo issuance is down approximately 50% as compared to 2019.
Squarely in the middle of these data points are two key items.
Necessarily reduced M&A activity and a continued focus on liquidity.
Across our origination efforts, we see many financial sponsors tackling the current market landscape what the following approach.
Number one solidifying liquidity positions that existing portfolio companies to assessing future market dynamics for portfolio companies, which could involve acquiring or merging with competing businesses.
And three establishing a view on valuation multiples for existing portfolio companies and for potential new transactions.
Our view is most sponsors are generally between steps one and two of the three steps I just outlined.
This drives our expectation that M&A volumes during the balance of 2020 are likely to remain depressed until at least the fourth quarter.
That said, we are seeing our pipeline picked up over the last month or so.
As a platform we are focused on principal protection with our new investments, which involves financing good companies understanding the macro picture and having structures that protect our investments.
It does not involve stretching on risk for some additional yield.
Despite the rally in the public markets. We note that within the leverage loan market at the end of June only 12 basis points of issuers were trading at or above par as compared to historical level of approximately 30% of issuers. According to S&P.
The combination of the overall market and covert focused by all underpinned the reasons, we originated a very modest $253 million.
New investments during the quarter, most of which were follow on to existing names.
Our 253 million to total investments combined with.
344 million of net sales repayments when factoring in sales to our joint venture equated to net portfolio reduction of approximately $91 million during the second quarter.
Despite our strong liquidity position, we continue to remain extremely selective menards origination and underwriting process, especially given the added complexities associated with making new commitments today.
Even the concept of doing due diligence takes on special meeting during this time given the issues associated with travel meeting management things face to face and reviewing business operations.
One data point that I would like to share with the market relates to understanding asset performance.
Now the we have passed the two year Mark since the establishment of the Fs KKR advisor, we wanted to provide some context on our investment performance at MFS K to date.
Our track record is as follows.
Since the Fs KKR advisor was formed through December 30, Onest 2019, we made approximately $3.2 billion and new investments and experienced 42 basis points of cumulative appreciation.
And from the same starting point through June Thirtyth 2020, we've originated approximately $4.1 billion of new investments and have experienced a 3.58% of cumulative depreciation which includes the effects of called it.
We believe these data points illustrate the manner in which we are turning the investment portfolio toward what we believed to be more conservative investment structures and companies with more defensible operating positions.
While we will not be perfect I do believe we're taking the steps commensurate with our goal of becoming an industry leader from an investment management standpoint.
Finally, I should note that are in our quarterly earnings in Investor presentation. This information is detailed on slide 12.
In terms of portfolio rotation.
Given our modest origination volume during the second quarter still approximately 50% of our investment portfolio is comprised of assets originated by the Fs take care advisor at approximately 81% of total assets in the portfolio had been originated by the Carecredit platform.
In terms of portfolio activity as of today, approximately 12% of our portfolio companies have asked for some sort of really relating to cope with.
Of these requests we have grants at approximately 7%.
And while we expect certain portfolio companies may request additional capital or waivers through the balance of the year. We've also seen several several of our portfolio companies that access revolvers and the first quarter and early second quarter repay these revolvers as operations have stabilized.
In addition, we have seen additional equity capital injections into several names.
While we remain actively engaged with all of our portfolio companies and sponsors and are receiving updates on a real time basis across our portfolio.
From a forward looking perspective, we believe the KKR credit franchise will emerge stronger from a relationship and transactional standpoint, and a post call would world.
The elements of industry knowledge operational expertise and scale that the KKR credit platform offers will be even more relevant to sponsors as they move towards steps two and three that I outlined earlier.
That is establishing a view on exit multiples for existing portfolio companies and purchase price multiples for new assets and seeking to transact within these value ranges for both existing and new companies.
Times like these and in the market, where capital is scarce and relationships and more on trust our times, where we believe we are well positioned to do quite well.
And with that I'll turn the call over to Brian to discuss some investment portfolio specifics.
Thanks, Dan.
As of June Thirtyth, our investment portfolio had a fair value of $6.6 billion, consisting of 173 portfolio companies.
This compares to a fair value of $6.9 billion and 184 portfolio companies as of March 31 2020.
At the end of the second quarter, our top 10 largest portfolio companies represented 22% of our portfolio, which remains in line with our results to the last several quarters. We continue to focus on senior secured investments.
No portfolio consisted of 52%.
First lien loans and 67% senior secured debt.
In Thirtyth.
The weighted average yield on accruing debt investments with 8.7%.
In Thirtyth 2020, as compared to 9% at March 31 2020.
The decline in our weighted average portfolio yield was primarily due to the decline in linerboard during the quarter.
From a non accrual perspective as of the ended the second quarter, our non accruals represented approximately 9.9% of our portfolio on a cost basis.
3.8% of our portfolio on a fair value basis.
During the quarter, we placed five investments on non accrual with a combined cost in fair value of $187 million and $89 million respectively.
Our largest non accrual during the quarter were two legacy investments.
Sales and four point energy.
Yes is the largest designer and market or premium audio system in North America and its sales have been meaningfully reduced due to cope with the impact on its brick and mortar distribution.
Four point energy of the legacy MP investment, which has been negatively impacted by commodity prices and is in the process of being restructured.
On a combined basis, our new nonaccrual investments accounted for approximately four cents per share of net investment income on a quarterly basis.
In terms of industry concentrations, which we believe a more sensitive to the effects of code.
We have the following exposure.
Traditional mall based retail 0.9%.
Assuming durables and apparel, 4.2%.
Commercial aviation leasing, 1.6% and energy 1.6%.
Collectively these interest industry the town for 8.3% of our total investment portfolio.
The largest sexism exposure in our portfolio include capital goods 13 after side.
Software and services, 12%.
Health care equipment, and services, 8.9% real estate, 8.3% commercial and professional services, 7.8%.
And diversified financial 6.3%.
As Michael mentioned from a valuation perspective, our investment portfolio declined 1.9% $432 million during the second quarter.
The details associated with our quarterly valuation results are as follows.
The appreciation we experienced across the portfolio of $120 million was primarily driven by a combination of positive operating result in improved valuation input during the quarter for certain investments initially impacted by spread widening in general market conditions during the first quarter.
As the economy continues to stabilize we believe this portion of our investment portfolio will continue to increase in value as these gains move back towards their cost basis.
Our portfolio appreciation was offset by the following.
First depreciation of approximately $191 million.
Certain legacy in previously credit challenged investments all of which were consummated prior to the Fs kick your advisor.
Including energy investments.
In certain lessons that were fully restructured.
Second by certain credits, whose valuations and told declined by $61 million during the quarter as a result, with the continuing effects of cold it.
Of the hundred $91 million valuation decline associated with our legacy in previously credit challenged investments.
Proximately, 80% of the decline was driven by five specific investments and our energy exposure.
The five investments are you guys sales lead media Gordon Gary.
Turning Anders and Amtech global.
As many of you know from prior calls these companies weren't challenged positions prior to the onset of coded and therefore had been disproportionately impacted by the pandemic.
However, we believe we have the resources, including a dedicated workout team and the ability to leverage the full kits your platform to maximize the recovery for these investments.
Specific updates on board and dairy and mood media are as follows.
Onboard and dairy we partnered with capital peak partners private equity firms bounded by the former CEO Dean foods, Greg angles to purchase the company out of bankruptcy.
Just can you help $70 million of 175 million dollar term loan to Borden, which was used to credited to the assets.
Fs K received its pro rata share of the 19 million dollar term Monet and 20% from the fully diluted common equity in the company.
In addition assets can you invested its pro rata share of the 42 million dollar term loan B, which was used to recapitalize the company.
Media filed for bankruptcy on July Thirtyth, 2020, and within 24 hours confirmed its pre packaged plan of reorganization pursuant to the comprehensive ours side that was supported by 100% of the first lien lenders and 100% of the second lien lenders who submitted.
Alex.
We need business has like many others around the world been up ended the weaker co bid.
Falls into a category businesses that space immediate and severe impact caused by the pandemic.
Approximately 70% of the company's customers operate in or adjacent to the travel retail restaurant, zohr automotive and or aviation industry.
After substantial business diligence.
We concluded that investing additional equity into the company, especially under the current conditions would be it in prudent decision.
However, we are hopeful that in a more stabilized environment and with a healthier balance sheet a series of warrants that we received in connection with the plan for up to 60% of the equity the company will have value and helps support a recovery.
Yes sales mood media Borden dairy building standards and Amtech global.
Combined with our energy exposure have a combined cost basis at $753 million and an aggregate fair value $237 million, representing a blended markets 31%.
As a result would have been difficult working through these legacy names, we're beginning to believe that the worst behind us from the depreciation standpoint.
Turning back to the remaining credit seems valuation declined by $61 million during the quarter. As a result of the continued affects the co bid on operations. The majority of the companies are operating well within tolerance from a credit perspective, and an art jeopardy violating Heather.
Certain companies within this portion of the portfolio also have received support from their private equity sponsors as they have injected capital junior to our investments.
Two examples of this type activity includes Sabres entertainment benefits group.
We own $91 million they value.
The 540 million dollar first lien term loan dissavers the largest for profit thrift retailer in North America.
Like many retailers Nabors has been adversely impacted by cobot 19.
Stores were shut in during the spring in response to depend on it.
In conjunction with an equity infusion from the Companys financial sponsors provide additional operating liquidity.
We reset covenant and received incremental pricing in call protection than our investment.
Entertainment benefits group is an E commerce platform specializing in live entertainment and travel program.
The company partners with entertainment brands hotels, and other consumer leisure vendors to provide product offerings to corporate employers that we offer the products to their corporate employees as unemployment benefits, we own $35 million the companies.
35 million dollar first lien credit facilities.
In light of the Togut outbreak and the expected impact on financial performance. We recently reset covenants in exchange for an equity infusion from the sponsor along with enhanced pricing and improve reporting rights.
And with that I'll turn the call over to Stephens discusses our financial results in more detail.
Thanks, Brian.
During my first quarter comments, we began introducing a different method of communicating from a financial standpoint.
As we continue with that same my comments will be less focused on reporting financial metrics already contained in our earnings press release and 10-Q, but.
But rather focused more on the color behind our results hopefully linking them in a more transparent and informative way to the broader comments on which Michael Dan and Brian have touched.
To that end the 29 million decline in our investment income this quarter, which related to the following.
First the reduction in LIBOR or reduce our quarterly interest income by $8 million.
Additionally, we sold certain assets during the quarter and previous quarter, which reduced our interest income both cash and tick by approximately $7 million.
As a reminder, 98% of our floating rate debt investments, how floors, which averaged 88 basis points.
Non accrual assets reduced our interest income by $5 million.
Finally, our fee income declined by $6 million as we made significantly fewer commitments of capital during the quarter.
And our dividend income declined by $3 million, owing to a reduction in dividends from certain portfolio companies as they focused on maintaining healthy liquidity positions during the height of the pandemics.
Our interest expense declined by $4 million during the quarter as we benefited from the reduction in LIBOR has approximately 54% of our drawn liabilities are floating rate.
Management fees declined by $4 million during the quarter due to a reduction in the overall value of our industrial portfolio.
The detailed bridge and are in a the per share on a quarter over quarter basis is as follows.
Our starting.
Q 2020, and Avi per share of $24.36 was increased by Eni per share of 62 cents and repurchases per share totaling seven cents.
Our NPV per share was reduced by our 60 cents per share dividend.
And the decline in our portfolio value about which Brian spoke which totaled one dollar an eight cents per share.
Some of these activities results in our June 30, and Avi per share of $23.37.
From a forward looking perspective, the bridge from our second quarter and <unk> per share.
Of 62 cents to our third quarter Eni per share guidance of 60 cents is as follows.
Our recurring interest income is expected to be approximately $13 million due to lower LIBOR rates and the overall lower weighted average yield of our investment portfolio.
We expect fee and dividend income to approximate $31 million during the third quarter, which represents an increase of approximately $8 million from the second quarter, but which is still slightly lower than our normalized level given the lower amount of origination activity about which Dan spoke earlier couple.
With portfolio companies still maintaining a more conservative liquidity profile.
From an expense standpoint, we expect our interest expense will decline by approximately $2 million during the third quarter as we benefit from the reduction in LIBOR.
The combination of these activities results in our expectation of Eni per share of approximately 60 cents during the third quarter, which equals our declared dividend.
As a reminder, over the long term, we expect our dividends per share will equate to a minimum of a 9% yield on our net asset value per share, though we acknowledge there will be certain quarters, where our annualized yield maybe greater or less than this range due to quarter to quarter fluctuations in the business from an operational standpoint.
Such as what we are experiencing as cobot based volatility is resulting in greater swings and maybe on a quarterly basis, then what we would expect to experience during more normal periods.
In terms of the right side of our balance sheet.
Our gross and net debt to equity levels of 136% and 129% respectively are inline with our leverage levels as of the end of Q1 2020.
Our available liquidity of 1.3 billion equates to approximately 20% of the value of our investment portfolio, which is a very comfortable percentage.
We continue to be pleased with our liability structure, which is 36% unsecured and 64% secured with an overall average cost of debt of 3.9%.
In terms of debt maturities, we have no maturities during the balance of this year for in 2021.
During the middle of 2022, we have three tranches of debt totaling 1.1 billion, which mature representing approximately 21% of our full capital structure.
Our largest year maturities this 2024 and approximately 50% of our capital structure will roll forward.
Finally from an unfunded commitments perspective as of June 30, 2020, we had approximately 330 million of unfunded commitments of which 38 million represented revolver facilities.
And 261 million of unfunded equity commitments, primarily associated with commitments related to our asset based finance portfolio.
During the second quarter, we experienced fundings of approximately 50 million under these collective commitments with approximately 7 million if that amount being repaid during the quarter.
As we said during our first quarter earnings call. The majority of our unfunded debt and equity commitments are generally used for capital expenditures for acquisitions, and therefore subject to performance or other threshold tests, including in certain situations are specific consent.
As a result, while these commitments are disclosed in our 10-Q for informational purposes, we do not believe they will be drawn on in any meaningful capacity on a quarter to quarter basis.
And with that I'll turn the call back to Michael for a few closing remarks before we open the call for questions.
Thanks, Steven I'd be how has the entire fs KKR operating team.
I'd like to close by reiterating the positive till we believe we are beginning to experience both in the overall economy as well as within our existing portfolio.
The Fs KKR platform has originate high quality investments in healthy companies with stable cash flows teams.
As we work through the remaining pieces of our legacy investments, we begin to move closer to the point, where our investment portfolio.
And corresponding NPV per share will begin to settle somebody valuation standpoint, before perhaps beginning to move back in a positive way during future quarters.
Our investment teams our investment team has done an excellent job originating high quality new assets, while simultaneously working through certain legacy positions.
As the coven world looks forward to finding a new normal. We also look forward to completing our portfolio transition and fully harnessing the power of our BDC franchise.
And with that operator, we would like to open the call for questions.
Thank you as a reminder is asking question you'll need to press star one and telecom.
Good question of course, the long Keith Please stand by who we compile the June roster.
Our first question comes from Casey Alexander with Compass Point, you May proceed with your question.
Yeah, Hi, good morning, I have three quick questions for you one.
That is.
Yeah, I think the obvious question sort of the elephant in the room is when do you think you can pull the pen on.
Merging the two bdcs because it looks like the sort of shareholder outflow Fs KR has been stanched and that's been stabilized in the marketplace.
And and frankly, if you're not going to do it for shareholders and for yourselves do it for me because I'm tired of writing to report. So when do you think that you can move forward on that.
Hi, Thanks, Casey This is Michael and I'll take that question, but it's certainly.
We share the course, we've received that feedback from you from the analyst community.
Investors and we understand.
The positioning I would say right now we're still focused on the portfolios. We think we've made a lot of progress. This past quarter, then we're going to continue to try to evolve the portfolios.
But we're certainly considering all strategic alternatives at anything that will drive shareholder value. We're open to so at this point, we feel like we have a lot on our plate, but we hear what you say in the market says as well.
Okay, great. Thank you secondly.
Dan as it relates to the JV the jbs now up to around 9% of the total portfolio have you pretty much maximized how far you're willing to go in terms of dropping assets into the into the JV.
Yeah. Good morning, Casey good question.
And you're right about being 9% today I think we've talked about a target of 10% maybe a little bit more so I think we got some more room.
To go but it's it's getting deployment from a portfolio construction, probably wherever you want it.
Okay and then my last question, then then I'll get out of the way is yeah, yeah, Theres a substantial amount of non income earning assets in the portfolio. What's the company strategy forgetting that down in getting that rotated into some some income earning.
And I'll as step out after that question.
Yeah, No. That's a very good question case, I think thats the.
The biggest focus of this management team right now you're you're right that number is is too big both in terms of non accruals and equity numbers.
I think I think the good news is when we are able to rotate out that will mean.
Pretty decent amount of Eni that we can coraid. So that's why it is a big focus I think it's very bottoms up and it's very tactical right. I mean, there's a couple of positions that we have moved on from the Gulf positions. We're in negotiations right now some of them. We don't control the outcome, we might be a minority sort of owner, but it'll be.
Physician by physician line by line item.
Quite frankly, something that we're going to be reviewing in that level of detail on a very frequent basis because it is important you over the coming quarters.
In the coming years to make sure that number goes down.
Alright, great. Thanks for taking my questions I appreciate it.
Thank you guys.
Thank you. Our next question comes from Rick Shane with JP Morgan You May proceed in your question.
Hey, guys. Thanks for taking my questions.
In Stephen I appreciate the efforts to provide some.
Transparency on the floor look very very helpful.
I want to clarify one comment, though which is that I believe that what you said is the target return on that is about 9%.
If we look at the expectations for the third quarter, it's about 10% and I'm just trying to reconcile those two data points, what sort of the commentary being a challenging environment, which certainly we acknowledge.
Sure we're Rick Thanks, Thanks for your question.
I think it's a combination of things in terms of this quarter.
First I would say that are our target of 9% yield on and I'd over a sustained period of time is a minimum which we have said so so that I think is the first input.
The second input is in there maybe some indirect comments on this in the script as well off there in this code that period, there is heightened volatility with not just.
Our BDC franchise, but also other folks and.
These are moving more than than is typically expected in this industry, especially with a group that would have level three assets like we do so I.
I think one way to to look at that is as we were talking about portfolio. We have experienced some appreciation of some names in the first quarter, we talked about we're more qubic related in terms of spread widening and market technicals and.
And I think you know a conclusion there as we would hope overtime those would continue to move back and and their normal directions.
So.
We think the yeah, we could be at 10% one quarter, we could actually you. We study in the script, we could go below 9% in a specific quarter as well, but over the long haul we think that a 9% target us is a very good.
Yes first stuff in terms of total return to shareholders.
Got it Okay and then.
Look there's a dynamic here, which is that you're trading at one of the highest yields in the space and that's probably not particularly efficient.
Hi, guys, especially in light of to the huge discount.
To any the implications in terms of growth and opportunity for it.
I am curious you have the history of repurchasing shares.
Im curious if there are ways to increase the efficiency of distribution.
What do you believe estimate to be your minimal distribution in order to maintain youre, Rick BDC status and does it make sense in light of that she's balance a dividend distribution with perhaps a more aggressive repurchase.
Yes, Rick and this is Dan I'll start and Stephen can sort of add to that I think you're you're right. I mean, we have been a I think pretty focused on the stock buybacks. Historically, we obviously completed the 200 million dollar of program. This quarter. If you look at the supplemented that we bought back almost 500 million.
$1 or shares between this and CCT.
I think that is always something that sort of.
In our mind I do think we're trying to balance that with our balance sheet position as well I think we're not that far away from our target leverage number, but still slightly above where we want to be so I think that will clearly play into it as well but.
Steven feel free to add to the to the points around the Ric status or anything else that record asked there.
Oh, well not I think you covered it well Dan, but the only thing I would Rick maybe just add to this year. We do have like many bdcs, we have some scope backers. Some people say spillover income, but it's at a it's at a very manageable level.
For us in terms of the number of quarter. So I don't think we're in.
We're exactly where we want to be I guess I'd say in the positive way of in the middle to fairway. There. So I think from a distribution standpoint, you know the guidance, we give further GSK for the third quarter of 60, and 60 60 of Eni in 60 cents of for the dividend is.
In keeping with that.
Okay, great. Thank you guys very much.
Thanks, so much.
Thank you. Our next question comes from Ryan Congo Jefferies proceeding your question.
Good morning. Thank you for taking my questions. The first question you just mentioned spillover income can you can you just give a sense to let level you have a retained in terms of spillover.
Sure. It's a it's a little north of.
$200 million.
Okay, Great and then that next question related to the yield.
He saw 30 basis point decline quarter to quarter and is mostly given the my board decline can you give us a sense for what percentage of the portfolio as LIBOR floors in place and within that to what level they've been enacted.
Yeah, and this is Dan I'm happy to take that I mean, you're the 30 points is correct. I mean that is really all driven off of LIBOR.
We quoted specific numbers in the script, but.
We're in my mind doing deals specifically in the U.S. that only have LIBOR floors.
And I think the market for that is 1% still today and will remain that we have done some transactions out of Europe, which might have a floor of about floors.
Zero, which is just the market sort of standard there, but I think the number we quoted in the script, both thats cancer the five let out.
North of 90%.
If not 98% have a have a LIBOR floor and you should expect that's good.
Thank you as very helpful and last question in terms of the deal environment. I mean, how are you feeling leaving the outlook for origination opportunities to bounce the year.
Net leverage is pretty consistent this quarter, but I'm just curious to hear your thoughts on current deal environment and your leverage I might be thinking opportunistically moving forward.
Yeah no.
Fair question with all going on in the World.
I think we've clearly seen more activity and pipeline in the last month than we did in the months. Prior I think everyone was Verizon inward focus.
You know April uneven sort of most in may So I think overall, we're where we still would expect it to be more muted.
In Q3 in Q4 that in the past, but starting to see.
A bit of signs of life, obviously, the current work from home I think environment and lack of travel does make things kind of harder.
Said deals can get done and as I as I did make the comment in my prepared remarks, we are seeing.
Got a decent amount of activity from existing portfolio companies looking to expand operations.
Maybe acquire competitors. So we are pretty focused on supporting those incumbent lender positions, which we think are pretty value added.
Thank you very much.
Thank you.
Thank you and our next question comes from.
Brian Lynch with KBW, Sir you May proceed with your question.
Hey, good morning, Thanks for taking my question.
First one has to do with you guys gave some some good commentary outlining some specific credits.
Some were a legacy investments from the previous the advisor relationship and some war chest legacy troubled credits.
That drove a significant portion of the decline.
This quarter and I think that was helpful commentary when I look at some of the investments that have struggled.
Recently or over the previous several quarters.
These are not just investments that have been originated kind of under the previous adviser relationships. Some of these were of legacy investments originated under the KKR platform.
It will be handlers Belk, you know or just a couple of a large ones that come to mind. So.
Why you gave good commentary on on where some of these these troubled credits or Mark today, and how you guys you're trying to work through that and get passed those are going forward.
How do investors get comfortable that the underwriting of new investments that are put in the ground today are going to to be better than the one bad that that have historically been put into the ground even under the previous I kind of advisor relationship.
Yeah, and Ryan Good morning. It then.
Yes, good question and.
Yeah, I think we.
We want to be transparent and these prepared remarks and on these calls about where we are seeing so the challenges in the portfolio and I think as we mentioned to you in the past.
So while there are definitely than something some there's definitely been certain assets from.
The prior sort of advisory relationship we are sort of all hands on deck to maximize value in recovery kind of across the board. There. So I think that's number one so just to point out.
To your not wrong, you know, there's definitely a handful of names that we called two of them out in the script tilting in amtech that have underperformed that were.
Historic KKR set of assets I think we tried provide some color and the and the scripts roughly 50 odd percent originated by the new advisor of 81% by KKR itself. You know I would just say two things number one this platform on the KKR side has come a very long way.
Over the last five years, both in terms of human capital.
Both in terms of size and scale in terms of footprint.
You know it is a very different business I think when I sit here today versus.
Five years ago, I think that's important and I think we really build out the team on every facet of from origination destructuring and execution to hiring illegal resources to be part of the investment team I think really taken the business you know to where it needs to be from a market positioning.
Perspective, and you know I think you would point to holding in some ways is probably more rescue like and something that wasn't necessarily BDC appropriate in the context of a public entity, but longer as private it was a bit different so I think that Thats 0.1, Ryan to yeah, we did.
Try to give some color on slide 12 about how we have performed since the start of the new adviser. Yeah. This is a new slide for the purposes that thats presentation.
I think we need to be honest with ourselves. This is only nine quarters of information.
But it is nine quarters that includes a global pandemic.
And that 4.05 billion versus the 140 $145 million I think as the number that we're satisfied with I think we will not be.
Without mistakes, we went out to be perfect, but I think the origination machine and the underwriting machine is looking to put on high quality low.
We'll call it principal risk type investments I think hopefully you can see that in the 145 million dollar versus the world thought though.
Okay understood does that Thats fair points, and you guys good gets or some really good color on.
In your on your script over over the portfolio on some of the movements. So that was definitely helpful.
Just one more question for me.
You guys recently did a an unsecured bond offering at a fairly high cost the kind of improve liquidity.
Solidify the right hand side of the balance sheet.
Obviously, there are banned additional credit issues.
It occurred this quarter, but would you guys also had some some net repayments, which helped out I'm just wondering as we sit here today.
How comfortable are you in your current liability structure has it's composed today or will you guys be looking or pursuing any out there.
Unsecured notes in the near term.
Yeah, and fair question I mean, so if you look at page nine as of the Investor.
Supplement.
Maybe a couple points I think one we do.
I think.
Like our liability structure right I think we.
We've got a best in class revolver, I think we've been in the market meaningfully on the unsecured side, we've been able to tap the CLL market.
As Steven mentioned, we have no near term maturities I think we feel pretty good with with where we sit today you did mentioned the deal that we did in April.
Maybe just a couple of points on that.
I think we were in a in a different environments are then obviously that.
Bond does not feel like the right price today.
That said that was not something that we had to do something that we did want to do we were sitting in the middle of April in the midst of tremendous amount of market volatility and the fact that we had good investor interest on the unsecured side, we viewed as a very proactive and.
Right thing to do for for the balance sheet, you had moved our cost of liability is less than 30 basis points.
So yes hindsight, it's the wrong price that I think.
That that that time in place the right thing to do and I think the you know a strong statement that people are willing to provide unsecured at that time.
But I just want to make those comments on that note.
Okay understood.
Those are my all my questions, but I had I appreciate the time this morning.
Thank you Ryan.
[noise]. Thank your next question comes from Finian O'shea with Wells Fargo proceeded your question.
Hi, Good morning hope everyone is doing well lots been asked and answered here I'll just ask a couple of portfolio questions.
Hi.
Dan can you remind us on.
Global jet is there.
A senior debt in the form of securitization.
Ahead of you there I know you describe your investment is the Mezz notes.
And.
Overall, how is that that business holding up.
You know as most.
Parts of air travel have has meaningfully slowed.
Yeah. Good morning fan good thanks for the question.
I think does to levels on a global jet. They there is sort of senior debt in front of us.
I can either be in the form of bank warehouse facility or they have kept the capital markets in terms of Securitizations.
Numerous occasions, I think there investor base is actually pretty deep and those bonds have have traded quite well post call, but I would just say that's the you know the business performance has been.
Quite strong.
You know what is a different.
Beast than commercial aviation you know it is a diversified group of Obligors you know from large corporates to high net worth to others you were.
Leasing or taking loans out on assets.
So the credit makeup of that portfolio is very different than it's been a commercial leasing portfolio and I think the nature of the pandemic that we are seeing people are valuing access.
To private aircraft. So portfolio performance is very good right now and if you go look at some of the bond prices that are out. There you will you would see they traded down post call, but but have actually recovered nicely in trading above par I believe.
Okay. That's helpful and then on.
Yeah, I think you have some exposures.
Generally tied to residential housing.
I think the five arch income went into non accrual this quarter.
We got there is also.
Tour Act.
Open door labs, I don't I don't recall, how different these businesses are but maybe.
Can you kind of delineate what how this.
Shutdown recession et cetera hit hit arch harder than the others.
Yes, no. It's a really good question.
And maybe tend to be honest something we should have addressed more in the prepared remarks.
The five arch going on non accrual is a little bit difference.
So the normal right I mean, this is a portfolio of.
Residential mortgage bridge loans.
Not that dissimilar to tour Act.
You know that are let's call it 75 LTV.
No. This is a transaction, though that it's gone into amortization or essentially run off so we're getting back closer to the end of the portfolio.
David has driven I think across all financing.
Set of activities, you know mortgage or consumer to a higher level of of delinquencies.
The five arch investment overall will still be a very good when we just didn't think it was appropriate to it continued to accrue the interest income we'd rather just de lever the debt as we're in the stub period in the run off.
Which is different than tore act, which is very much operating.
I think the environment is pretty attractive to them right now.
But again remember both for five arch and for tore Act. These are roughly 75 LTV loans.
Our upper single digits kind of Unlevered.
So I think the risk reward for that remains very interesting, but it really up five large not a performance matter more where it is and its life as a deal and just the prudent thing to do.
I'm sure. That's helpful. Thank you and then just the.
Final higher level question.
A couple of things together.
You all outlined.
Sort of a.
Beginning of the under worse, the worst behind Us type.
Narrative to the legacy book, which is appreciated.
One of the common stuck out to me to fund.
On Caseys question about pulling the pen.
That you're.
Waiting for more portfolio stability.
And to ultimately go forward and proposing commercial vehicles.
Can you just tie those things together.
What do you want to see in in your portfolio are both the portfolios, but I guess where on the on the EPS K call now.
Before you move forward.
And then I mean.
So the touch on our that tie back to Michael's comments too I think the comments more you know we are we've been laser focused on the portfolio and I think we're happy that we've got some outcomes here.
During the board and restructured done was was a lot I think we're working with a lot of other names.
To move those forward, even some of that could impact the names you know the 12% in the 7% I mentioned.
You'll have required some some real work to get those amendments done obviously, what we're doing amendments of its material we want.
[noise] some equity dollars to come in sort of below a so I think we've just.
Been very focused on trying to get to the portfolio to the right spot like if you look at Brian's comments.
Where we end up being marked on those five names and on the energy.
We think is a good a good number we are happy is as I said with kind of the restructuring work that gets done we are positive on the forward.
We still we know we still got some work to do but I think you know we made a lot of progress this quarter on the portfolio and then as you know as we move forward and I think we have heard casey's, calling it from a bunch of folks and that's something that will be you know on our mine as we consider the strategic options going forward.
Great. Thank you Dan and that's all for me.
Thanks.
Your next question comes from Robert Dodd Raymond James You May proceed with your question.
Hi, guys. Good morning, I mean.
First question kind of ties Casey and linked together I mean, obviously you have minimal any beyond that you're talking about 9%.
We more than that next quarter and that's with a large portion the portfolio.
Capital.
Being in non income producing assets right now so that evolves into income producing.
Like the although we took to go higher than we're seeing even potentially next quarter, but that would be well in excess potentially.
Target. So when you came up with the minimum 9% can you give us any color walk.
You built into that in terms of was that based on on the portfolio will sitting there historically tight spreads compared to what we're seeing in the market.
Incremental investments going forward I'm can you give us any color on that.
Yes, good morning, Robert exactly some of that started Stephen you can add to it.
Yeah, I think we.
We're obviously going bottoms up thinking about where we want portfolio construction to be where we think sort of market pricing is and as Stephens said, we think that is.
What I will call affair sort of long term number.
And one that I think is is a good and set a rational rate of return.
For the BDC, Mark, but I do want to make the statement, it's sort of bottoms up Steven sort of.
That was.
But yeah I would agree with what Dan said, Robert It is bottoms up then it gets.
We obviously struck it in.
In the current environment to be.
Appropriate in the environment that we investors are yeah, we're all living in an experiencing obviously as we do things like what Dan talked about in terms earlier in the call in terms of.
Transitioning some.
Non income producing assets to income producing assets et cetera, and portfolio grows over time.
And to the extent that that we're over achieving that obviously, that's a good thing for all involved and I think you have to acknowledge that at some point and the.
You know in the future to them.
Tennessee will you know appropriately come back.
Obviously, it's it's being ways now and so.
Theres, an allowance for that as well in the in the operational model, but yeah. So it's I wouldn't say the expectation is will.
Get meaningfully meaningfully evolves.
Especially given especially given the market environment right now in terms of how tight things are so ah, but those would but the things we tried to balance.
Got it I appreciate that and then another couple if I can only.
On the origination side activity starting.
I happen again, but I mean, we look at your portfolio those mall.
You know capital goods, those kind of things that I can imagine.
Excuse [laughter].
The.
You know similar Tech focused you could you could do do the due diligence on some of those things more remotely Sidney you can for capital goods I mean to put a name on it could in this environment something like the am general deal heavy manufacturing be originated given the constraints on our due diligence.
Yes, fair question and don't worry and my dog liked interrupted and then obviously moments that well [laughter].
The I mean, it's there's definitely challenges to deals like that right.
I mean, I am general was probably when we underwrote that originally in 2016, we spent a lot of time, probably more on the macro and what the U.S. government was doing and using the resources as a firm.
Like General Petraeus.
So maybe that one actually could have been because it was a very low levered deal and India was much more focused on on government spending and where that was going but.
You know the bar as high for new deals right now, we're probably more excited generally about.
Add ons to existing exposures to your point Robertson easier to kind of gets your arms around it right.
Yeah.
And that will be a hindrance to sort of deals now that said if there is a sector. We like if there is.
You know risk we want to take I suspect, we will find a way with additional resources advisers, maybe more local folks are the travel to the to the sites et cetera.
But I think that is one thing that will slow down M&A volume.
I appreciate and then if I could.
Take that question and apply it again, but to workout so I mean, obviously.
Workouts should be fairly hands financial restructuring is one thing.
But the actual workout boots on the ground that that again adds those those different compensation. So is this going to delay.
The operational improvements so from a work how quick perspective, I'm not just economically obviously.
To the existing stressed assets.
Yes, no fair and I think as we've talked about in the past I mean, we hired a dedicated team to focus on on this.
Really the fourth quarter of 2017, you know really done at a time, obviously not thinking about cope with but thinking about.
A U.S.U.S. economy that felt like and had to take a downturn that downtown arguably didn't happen, but we were getting ready for that yes. I think we're fortunate to have highly qualified dedicated people, who quite frankly work tremendously hard over the last.
Five or six months, so I think we all of them a bit of of gratitude for that on on the team side you know its.
It obviously doesn't make things.
Easier right. If you want to be blonde I think that said, we've been able to get.
Advisers consultants.
On the ground, we've been able to leverage our own sort of resources inside of Capstone management teams are very important which is why we mentioned the partner that we had on board.
Uh-huh, So I think we're starting to see.
That.
We'll call it.
Recovery sort of play through I think the bigger question is what's the economy going to look like.
Three Q4, and then how will that sort of impact things will will schools opened there is obviously different things going on a different states right. Now. So I think it has requires an extra level focus but.
Our intention is to not slowing up.
Okay got it appreciate the color. Thanks.
Thank you.
Thank you and I'm not showing any further questions. At this time I would now like turn the call back over to and Peterson for any further remarks.
Well great well. Thank you all three are.
Time today and the very good questions. We're always available for follow up questions at any time, just let US know we do hope that you remain safe and healthy during this period and enjoy the rest of the summer. Thank you.
[laughter].
Thank you ladies and gentlemen. This concludes today's conference call. Thank you participating you may now disconnect.
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