Q2 2022 Pennantpark Investment Corp Earnings Call
Please standby.
Good afternoon, and welcome to the pennant Park investment Corporation's second fiscal quarter 2022 earnings Conference call.
Today's conference is being recorded at this time all participants have been placed in a listen only mode. The call will be open for a question and answer session. Following the Speakers' remarks, if you would like to ask a question at that time simply press star one on your telephone keypad. If you would like to withdraw your question. Please.
Prices start to on your telephone keypad. It is now my pleasure to turn the call over to Mr. Art, Penn Chairman and Chief Executive Officer of Pennant Park Investment Corporation. Mr. Penn You May begin your conference.
Okay.
Good afternoon, everyone I'd like to welcome you to the pennant Park investment Corporation's second fiscal quarter 2022 earnings call.
This call.
I'm pleased and I'm joined today by Richard Chalker, Chief Financial Officer, Richard Please start off by disclosing some general conference call information and included discussion about forward looking statements.
I'd like to remind everyone that today's call is being recorded.
Please note that this call is the property of <unk> investment Corporation and that any unauthorized broadcast of this call in any form strictly prohibited.
Audio replay of the call will be available by using the telephone numbers provided.
Provided in our earnings press release.
It wasn't our web site.
I'd also like to call your attention to the customary safe Harbor disclosure in our press release regarding forward looking information.
Today's conference call May also include forward looking statements and projections and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these projections.
We do not undertake to update our forward looking statements unless required by law.
So obtain copies of our latest SEC filings. Please visit our website at <unk> dot com or call us at 212905 1000.
At this time I'd like to turn the call back to our chairman and Chief Executive Officer.
Okay.
Thanks Richard.
You're going to spend a few minutes discussing how we fared in the quarter ended March 31.
How the portfolio is positioned for the upcoming quarters, our capital structure and liquidity the financial.
I hope it up for Q&A.
From an overall perspective in this era of inflation.
Rising interest rates and geopolitical risks, we believe we are well positioned as a lender focused on the United States.
For the floating rates on our loans to protect against rising rates and inflation.
We are pleased to be lending into the core middle market.
Well, we are important strategic capital to our borrowers and are not commoditized.
We believe we are additionally, well positioned as a company that has a clear game plan for growth in net investment income and dividend.
The highlight of the quarter ended March 31st with the sale of pivot.
Which generated cash proceeds of $232 million.
Our second lien position, which had a cost of $49 million for cash proceeds of $78 million, resulting in an IRR of 14, 3%.
The multiple on invested capital of one six times.
Our common and preferred stock investment, which had a cost of $35 million was.
It was extended for $164 million, resulting in a 40% IRR and a multiple on invested capital of three three times.
You're primarily to the successful exit of pivot.
Made progress on our three part plan to increase long term shareholder value.
Number one last quarter, we increased our quarterly dividend of <unk> 14 per share up from 12 cents.
We're announcing another increase this quarter to $14 five <unk>.
Sure.
Number two we made progress on our $25 million stock buyback program by purchasing 913000 shares for $7 million.
Number three we completed a CLO securitization financing and our P. S. L. S E. L F JV with pantheon, which gives the JV ammunition to grow to about $750 million in it.
S P N N fees NII over time.
Now to review the operating results.
For the quarter ended March 31, net investment income was <unk> 18 per share, including <unk> <unk> per share and other income.
Despite the overall choppy market was resilient.
And decreased by only <unk>, 6%.
Yes. It was the primary reason the portfolio shrunk by $231 million during the quarter and our leverage ratio debt to equity from.
From one two times <unk> eight times.
Over the last couple of years, we've been targeting the reduction of the equity portion of our portfolio and using the cash proceeds to invest in loans to increase net investment income.
At its peak equity was 36% of the portfolio on March 31 2021.
The percentage of our portfolio of equity as of March 31, 2022 is down to 25%.
Long term target continues to be 10%.
With regard to net investment income we continue to have a strategy which includes.
Number one optimizing the portfolio and balance sheet or P&L.
As we move towards our target leverage ratio of one five times debt to equity.
Number two growing our P. S. L. S J D with pantheon to about $750 million of assets from approximately $450 million of assets.
And number three the opportunity to rotate out of our equity investments over time.
The cash pay yield instruments.
We have a long term track record of generating value by successfully refinancing high growth middle market companies and five key sectors.
These are sectors, where we are successful domain expertise.
The right question to ask and have an excellent track record.
They are business services consumer government services, and defense healthcare and software technology.
These sectors have also been resilient and tends to generate strong free cash flow.
As an aside government services and defense was approximately 11, 3% of the portfolio.
Inclusive of the JV and should be a beneficiary of the geopolitical environment.
In many cases, we are typically part of the first institutional capital into a company, where a founder entrepreneur family and selling their company to a middle market private equity firm.
In these situations there is typically a defined game plan in place with <unk>.
Tangible equity support for the private equity firm to significantly grow the company through add on acquisitions or organic growth.
The loans that we provide are important strategic capital that fuels the growth and helps that $10 million to $20 million EBITDA company grow to 30, 40 $50 million of EBITDA or more.
They participate in the upside by making an equity co investment.
Our returns on these call investments had been excellent over time overall.
Overall for our platform from inception through March 31.
$324 million of equity combat.
And generated an IRR of 28% and a multiple on invested capital of two seven times.
Because we are an important strategic lending partner the process and the package. The terms we receive is attractive.
We have many weeks to do our diligence with care.
We thoughtfully structured transactions with sensible credit statistics.
Meaningful covenants substantial equity cushions to protect our capital attractive upfront fees and spreads and equity co investments.
Additionally from a monitoring from a monitoring perspective, we received monthly financial statements. They help us stay on top of the companies.
With regard to covenants virtually all of our originated first lien loans at meaningful covenants, which help protect our capital.
This is one reason why our default rate and performance during Covid was so strong.
This sector of the market.
With $10 million to $50 million of EBITDA as the core middle market.
As we just highlighted within the core middle market, we think our capital can add the most value and where we get the strongest package of risk and return is in the $10 million to $30 million of EBITDA range.
Our track record of power pockets and excellent for 15 years, but it took a step up and improve as we increase our focus on this portion of the market starting in 2015.
The IRR of our investments made prior to 2015 was nine 7%.
Since 2015, we have achieved a 13, 7% IRR.
The core middle market is below the threshold and does not compete with a broadly syndicated loan or high yield markets.
As many of you know theres been an enormous amount of capital raised.
Some of our large peers.
As such we are forced to focus on the upper middle market, which are companies with over 50 million of EBITDA.
Upper middle market companies can typically also efficiently access the broadly syndicated loan market.
As a result in the upper middle market, our large peers need to aggressively compete with a broadly syndicated loan market and among themselves.
This results in transactions, where leverage is high covenants are light or nonexistent.
Whereas in upfront fees are compressed and decisions need to be very quickly.
Additionally, from a marketing perspective, the only receive financial statements quarterly.
The argument you all here is that bigger companies are less risky.
There's a perception and may makes some intuitive sense.
But the reality is quite different.
According to S&P loans to companies with less than 50 million of EBITDA.
Lower default rate and a higher recovery rate.
As the companies with higher EBITDA.
We believe that the meaningful covenant protections of core middle market loans.
More careful diligence Empire monitoring has been an important part of these differentiated performance.
Our portfolio performance remains strong.
As of March 31st average debt to EBITDA on the portfolio was five one times and the average interest coverage ratio the amount by which cash income exceeds cash interest expense was three one times. This provides significant cushion to support stable investment income even when interest rates rise.
We have one non accrual on our books and PMT and PSL at.
This represents three 5% of the portfolio at cost and two 8% at market value.
Last time P. N N T had a non accrual was December 2020.
Since inception P. N N T has invested $6 $8 billion and the average yield of 11% with.
This compares to a loss ratio of about 10 basis points annualized.
This strong track record includes our energy investments are primarily subordinated debt investments made prior to the financial crisis and recently the pandemic.
With regard to Ram energy following a record 2021, the company continues to benefit from higher commodity prices.
<unk> recently drilled and completed two new wells.
We are encouraged by the early flowback production results.
As anticipated given the location of these wells production is far more liquid rich than prior wells <unk> drilled in this acreage.
Ram expects to complete flowback procedures and report results from the Texas Railway Commission.
<unk>.
With regard to the outlook new loans in our target market are attractive.
Our experience tells us a growing team are wide origination funnel is producing active deal flow let.
Let me now turn the call over to Richard our CFO to take us through the financial results.
Thank you Rod for the quarter ended March 31, net investment income totaled <unk> 18 per share including.
Including four cents per share of other income looking at some of the expense categories base management fee totaled 5 million taxes general and administrative expenses totaled $1 2 million and interest expense totaled $6 5 million.
Net realized and unrealized change on investments net of any associated tax provision was a loss of $8 $7 million, while 13 cents per share.
We redeemed a portion of our SBA debenture, which resulted in a realized loss from debt extinguishment of $1 1 million or <unk> <unk> per share.
Change in the value of our credit facility increased our NAV by <unk> <unk> per share.
Our net investment income was in excess of our dividend by <unk> <unk> per share.
We repurchased about 900000 shares this quarter.
Adding <unk> <unk> per share.
Consequently, NAV per share went from $10 11 per share to $10 <unk> per share down 0.6% from the prior quarter.
As a reminder, our entire portfolio credit facility are mark to market on ASC 820, and <unk> 25.
Board of directors each quarter using the exit price provided by independent valuation firms security exchanges on dependent broker dealer quotes when active markets are available.
In cases, where broker dealer quotes are inactive we use independent valuation firms to value the investments.
Our GAAP debt to equity ratio net of cash was 0.8 times.
Our overall debt portfolio has a weighted average yield of eight 4%.
Our March 31, our portfolio consisted of 113 companies across 30 different industries.
The portfolio was invested 55% in first lien secured debt.
7% in second lien secured debt, 9% in subordinated debt and 46% and P. F F 'twenty.
The 25% in preferred and common equity.
4% in <unk>.
99% of the debt portfolio is floating rate all of which has a LIBOR floor.
Average LIBOR floor is 1% now let me turn the call back to art.
Thanks, Richard to conclude we want to reiterate our mission our goal is to generate attractive risk adjusted returns through income coupled with long term preservation of capital.
Everything we do is aligned to that goal, we try to find less risky middle market companies that have high free cash flow conversion and we capture that free cash flow primarily in debt instruments and.
Pay out those contractual cash flows in form of dividends to our shareholders.
In closing I'd like to thank our extremely talented team of professionals for their commitment and dedication.
You all for your time today and for your continued investment and confidence in us that.
That concludes our remarks at this time I would like to open up the call for questions.
Thank you if you would like to ask a question. Please signal by pressing star one.
Pat if you are using speaker phone. Please make sure. Your mute function is turned off to allow your signal to reach our equipment again. Please press star one to ask a question again star one.
Okay.
And we will take our first question from Paul Johnson with K B W.
Hey, good morning, guys or good afternoon.
Thanks for taking my call.
Thanks for taking my questions.
Just wanted to ask about.
The joint venture interest.
The decision to put a little bit more capital ended the JV this quarter.
Assuming that obviously came out as the proceeds from the large exits this quarter and maybe just also talk a little bit about the deal opportunity set between the JV versus what goes on to the balance sheet any differences in those two.
Seeing.
One market more attractive than the other.
Yes, so thanks, Paul and good afternoon.
Our deal flow does generally get allocated the JV as a mechanism for us to enhance our ROE through you know kind of leverage. So it's obviously, mostly senior first lien loans that go into that vehicle equity call invests does not go into that vehicle. So the equity call invests stays with PNM <unk> so that.
The joint venture with Pantheon. It takes just a first lien deals very diversified as we said we did a CLO securitization financing in the joint venture this past quarter, which is really attractive long term.
Efficient financing and allows us to leverage our leverage the junior capital really nicely and in a safe way so.
You know kind of the goal there is to take the joint venture up to about $750 million of total assets, which should be a nice enhancer to the NII of PMT given that it.
So, it's a little bit more levered than than what we're doing over at the BDC itself and of course the call if I stick with the BDC. So a nice tool for us helps us write bigger checks to these companies. So that we can fuel their growth.
And can be very efficiently financed track record. So far it's been very good we're pleased with and I think pantheon squeeze otherwise they wouldn't have been.
Are willing to put additional capital and so again <unk> is about 60% of the capital and pantheon is about 40% of the capital.
And they are pleased so far with the performance and they are willing to continue to invest in it.
Thanks for that yes.
Great investment for you guys.
I think thats, a pretty good way to deploy at the moment.
So I appreciate that.
My other question.
Hoping you can maybe just quickly go over.
Non accrual investment this quarter JF holdings, I believe Thats mid Ocean, what exactly is that business and I guess, what's kind of going on there or any sort of update.
Yes, so the non accrual is a company called Cascade environmental.
Which does environmental drilling of soil.
Did get impacted by Covid as drilling crews.
Couldnt do their work and governmental entities, who are who are that big chunk of their cup.
Customers are pushed things off so there is work to do there it just got delayed and deferred and omicron did not help at.
That company, either so theres, a refinancing going on to refinance that capital structure our.
Security is a has become a junior.
Capital security more of a herd stock.
The idea is to set the company up with the capital structure. So that it can now kind of grow reasonably well post COVID-19 and of course, we hope to and the sponsor hopes to look for an exit hopefully in the next year or two so it's been about 18 months since we had a non accrual non accruals. So so first of all we've had in a while obviously, we're not thrilled with it but we are opt.
Domestic that.
Time.
Overtime.
We can get an exit.
Got it appreciate that and I also appreciate that.
Credit performance has been pretty good.
Many non accruals in the recent past.
Okay.
Just see more if I can.
Yeah.
As far as.
Write downs in the quarter.
Just in that depreciation how much of that reflected just kind of marking to market.
Loan prices during the quarter to just sort of idiosyncratic right.
Yes, so there was a little bit of diminishing and overall kind of <unk>.
Reising for loans of course, and the independent valuation firms certainly take.
Overall market Choppiness into account and then they layer that on top of the idiosyncratic.
Individual name by name performance and.
And come up with come up with a blend of the two.
We had a substantial mark up in Ram energy P. T wasn't fully marked that pivot of physical therapy was not fully Martha last time. So we had additional mark up their asset that walk towards exit and then the markdowns were Cascade Johnson, Frank which you just alluded to.
And Ken Alcan I will of course as a public stock in.
And that's the volatile so those were the big movers, both plus and minus in.
In the portfolio from last quarter.
Got it I appreciate that last question.
Kind of a technical wise.
But in this finally, you gave some of the abbreviated financials for Ram energy and I know that you had a pretty nice markup this quarter, but.
I'm curious.
I believe you gave the first quarter financials.
What is the reason for the company I guess profit.
It is this year, whereas I think you'd be understanding performance has been a pretty gave us pretty good through last year seems to be going pretty well this year so far so.
What is the reason for the just the negative profitability in this quarter.
Well you know I think certainly drilling.
You know as an expense.
The biggest expense so I'd say as you know we.
We drilled two wells.
So you put.
Let's say hypothetically, you put $20 million into drilling.
And to the ground and then.
I hope and I think the numbers are panning out you hoped for.
Good cash flow back from that so.
The nature of the business.
You can make your wells and then you hopefully get to cash flow back and a lot more so well seem to be.
And in reasonable shape, there seem to be kind of in line with the general performance of the rest of the geography, we're encouraged.
Early days.
About the performance of those wells.
Got it great Thats just.
Really good to hear.
Investment, that's obviously, a big piece of your portfolio. So I appreciate it those are all my questions. This morning.
Thank you Paul.
And our next question will come from Robert Dodd with Raymond James.
Hi.
<unk>.
Nice nice simple one for you.
Considerable proceeds obviously from the very successful pivot leverage went down you have a lot of excess liquidity.
How long do you think it's going to take you to get back closer to where you were on leverage.
Previously obviously this time it would be with income producing assets, which could happen right.
Significant benefit on NII quite apart from the whole latent bug.
So just what's the.
I was kidding with an easy question.
[laughter] because Robert we know exactly how we know exactly yeah origination flow into the future. This is.
It's a science you know about it.
Uh huh.
But part of it is going to be kind of you know this market that we have in 'twenty. Two like are we I mean, we could incent some sense get lucky buy.
You know.
This might sound weird, but if if.
If our capital becomes.
More more dear to companies, we might be able to deploy quicker at better risk adjusted returns in a choppy market right. So we might have been lucky rather than smart to be super liquid today.
And have the market come our direction and.
You now have higher yields and lower risk in which case, we could deploy sooner. So far we're not seeing that but we're only a couple few weeks into this kind of a choppy or market. So.
In a more normal basis, I'd say, you know kind of.
I don't know six to 12 months, you know kind of kind of ramping.
Several hundred million dollars would be six to 12 months kind of thing and of course, we're getting repayments along the way too and that's what happens when you when you pick good credits.
Which we never complain about so I'd say in a normal basis.
Six months, maybe a little bit more might be in a nine to 12 months depends.
Is deal flow going to slow up because of the choppiness or we could just going to get a lot of deal flow and better risk adjusted returns. We don't really know the answers to these questions yet it certainly feels good to be liquid right now.
And a you know an environment that looks you know looks different than it was three or six months ago, but as always it's deal by deal name by name.
The deal comes you know it was a good pitch comes across the play we're going to swing.
Uh huh.
That's how you develop these portfolios.
Hard for us to make.
You really macro.
Macro projections.
Hello.
I understand and I appreciate that I mean, just sort of related I mean on the deal flow.
Deal memos coming across the desk et cetera.
Tom just to add a compact today too.
Three bumps well like three months ago wasn't too but.
At the end of 'twenty one.
Obviously.
So is that a crazy period is.
The all the number of new members coming to you.
Yes.
Depressed.
Or has that been or where they depressed and are starting to ramp back up I mean any.
Anything on that.
Yes, the 'twenty one was crazy, particularly the end of 'twenty, one was crazy I think everyone in our business, whether it was exhausted and burnt out in some ways thankfully. The first quarter was it was light.
And I think its normalizing line. So we are I would say, we're kind of looking at a 2019 type pace pre COVID-19.
For our business, we have invested in our origination platform, we have five offices across the United States we.
And keep investing in the team. So today, we're now covering actively over 600 middle market financial sponsors, that's probably up two or 300 over over the pre COVID-19 period. So we've invested in that and that team in those offices and in relationships. So that we can get more looks and the idea is to.
You get the Luxe and then you have to figure out like what youre seeing or not but I would say is a far more getting more looks at our origination platforms broader and deeper.
No we were deeper in our in the regions, where we have five offices and elsewhere.
So the platform it feels like it's good and it feels like cheap we really wanted to ramp.
We can do that of course, we need to make sure we ramp.
In a way where the quality is high.
And that's the that's the key and the trick in our business is to make sure the quality is high as you're ramping.
Understood I appreciate it and again congratulations on the quarter.
The shape of the business being liquid right now.
Thank you Robert.
And our next question will come from Mickey <unk> with Ladenburg.
Yes, good afternoon Hearten, Richard just a couple of questions for me are.
We've talked about remnant energy, obviously a lot in the past.
So my question today is simply.
What do you think it's going to take.
For M&A in the oil and gas sector to pick up and potentially more positively impact Ram valuation is it a situation where folks are just gun shy and they don't believe.
These prices are sustainable or you know.
What's holding things back.
It's a great question we are.
Right now there is not an eminent middle market M&A way for oil and gas we are starting to see some small trades not too far from our geography, which is promising. So that's point number one point number two as you're still in a timeframe, where if you're a seller.
You still you know our modeling a $100 oil and.
Seven or $8 gas and if you're a buyer.
You're thinking you should be buying off $70 oil and four or $5. Yes, right. So you know theres still a gap over time that will that will collapse.
Collapsed and it'll be an equilibrium and I want to be clear Youre pennant Park, we're not holding out for the last nickel or dime to sell Ram. We won we would want an efficient process.
A process. That's you know that is a good process that gets fair value. So you know where.
As soon as it makes sense and as soon as there is a bit of an M&A activity, where buyers and sellers are coming together in a reasonable timeframe we will.
I'll kind of start to assess options.
We're not quite there yet in the meantime, we're heads down focused on completing these wells and optimizing the AD.
The output and you know getting ourselves organized and getting the numbers put together and getting the engineering reports.
Adding ourselves up to have hopefully interesting conversations in the not too distant future.
So we still look to get out.
Get out in a reasonable timeframe at a fair price and.
In the meantime, as long as you can you know.
Make good investments.
Kind of in wells and get good returns, that's not a bad backup strategy not our top strategy, but not a bad backup strategy.
If things don't go the way we'd like.
Thanks, all right that's really helpful.
In the past you've talked about.
Ram has a loan from the federal government I think it was under the main street lending program and there is a potential I guess to refinance that and maybe liberate some cash up dependent is is that still in the cards or given where the markets are that's completely off the table.
That's possible I mean, I think again, we want to kind of execute on these wells get the cash flow and it's possible that towards the end of the year.
We might be able to to take it out.
Again, all of these processes may come together, where we're evaluating strategic options, we're evaluating our financing options.
And we hope to have enough cash kind of in the till towards that ended the year at a potentially.
Refinance that take it out and yes that would be you know one avenue for liberating as you say liberating cash for for PMT shareholders.
Okay that that would be great. Just last question sort of housekeeping, maybe for Richard where does the pivot exit leave.
Leaves the fund in terms of undistributed net capital gains if any on a on a tax basis.
We don't we're in a net capital loss situation from a tax basis, even with Covid.
The transaction.
So with respect to just NII, we do.
<unk> per share of spill back.
Did you say 50 252.
<unk> correct.
Okay. Thank you for that that's it for me thanks.
<unk>.
Thanks, Thank you.
And our next question will come from Melissa Wedel with JP Morgan.
Good afternoon I appreciate you taking my questions today.
<unk> answered a lot of mine already but I was hoping to just get your thoughts at a high level about the volatility that we've seen and the forward curve and you know how youre thinking about.
Well your portfolio.
But also the broader market and what tradeoff there might be neutral and you know sort of higher investment income from you know those floating rates moving higher.
And what that there could be on the credit side.
The ability to really digest those borrowing costs.
It's a great question and.
And it's something we all need to be modeling in even more so in the coming environment.
Uh huh.
The company's ability to weather you know higher interest rates.
As I said the average EBITDA to interest ratio. We have today is three one times at PNM T cell.
I think we feel pretty good that even if rates go up at that P. N N T. We've got substantial question that says your points and excellent what I think we have to take it even more seriously in the modeling.
And projecting going forward and are in our cases and investment Committee memos.
Higher higher interest rates. It would lead you to it could lead you to which I think we've always had this discipline of keeping.
Now our leverage levels reasonable here in this portfolio where we're.
We're about five one times debt to EBITDA.
We you know that's a comfortable zone for us we don't like high debt to EBITDA multiples, because there's just more burden the company.
It has to bear so we are still oriented the cash flow, we're still oriented to free cash flow.
And getting paid down I mean, there's a lot of other people who are doing.
Deals based on recurring revenues or Theres, not EBITDA and those work so far.
But we are certainly in choppy waters and.
You know, we need to maintain our prudency and maybe even double down on that.
In this in this choppy environment.
Or do you think that.
That could impact the opportunities that free Kale and is there a <unk>.
I know the portfolio is almost essentially nearly entirely floating rate.
If there is demand from companies to lock in.
Financing cost at fixed rate, but perhaps at better spreads is that something that your team would be thinking about.
Sure I mean look we're we like to think we're economically rational so we'd like to think.
I believe we are in the vast majority of the time, but yes. If there is a you know like when we started out 15 years ago. Melissa you know, we did a lot of mezzanine debt, which was and still is not there is a lot of it going on no fixed rate kind of teens type of capital.
So for the right credits you know for the right structure, the right call call protection, the right, calling best package right.
Alright Covenant package, we should be willing to trade that off you know, we don't come out with a.
You know in absolute view that we don't do fixed rate.
And with the right set of circumstances, I think we'd be open to that.
Are you seeing demand from that from borrowers yet.
Not yet I mean, there might be a deal or two kind of in our pipeline. That's that looks like that you know kind of what we would call traditional mezz.
But it could come back you're right in this environment it might be more demand for.
Back to the future kind of structures.
You know we've had a good we.
We know we're doing it and that we're all done.
I had a good track record so again opportunistically in an M. P. N N T. This would be the place to do that versus P. F. L. T opportunistically for the REIT.
Teens return.
We would be open to that.
Thanks Art.
Thank you.
And that does conclude the question and answer session I will now turn the conference back over to Mr. Arpin.
Thanks, everybody for listening in today, we appreciate your focus on us.
Our next quarterly earnings will be in early August and we look forward to speaking with you then.
Thank you and that does conclude today's conference. We do thank you for your participation have an excellent day.