Q4 2022 PennantPark Floating Rate Capital Ltd Earnings Call
You are currently on hold for the pennant Park closing race capital fourth fiscal quarter 2022 earnings Conference call.
At this time, we are assembling today's audience I'm trying to be underway. Shortly we appreciate your patience and please remain on the line.
[music].
Good morning, and welcome to the pennant park floating raise capitals fourth 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 opened 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 Press Star two on your telephone keypad.
It is now my pleasure to turn the call over to Mr Art, Penn Chairman and Chief Executive of pennant Park floating rate capital.
Mr. Penn.
You may begin your conference.
Thank you and good morning, everyone I'd like to welcome you dependent bark floating rate capital's fourth fiscal quarter 2022 earnings conference call I'm joined today by record, Florida, Our Chief Financial Officer Rich. Please start off by disclosing some general conference call information and included discussion about forward looking statements.
Thank you art I'd like to remind everyone that today's call is being recorded. Please note that this call is the property of pennant park floating rate capital and that any unauthorized broadcast of this call in any form is strictly prohibited.
An audio replay of the call will be available on our website.
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.
To obtain copies of our latest SEC filings. Please visit our website at pennant Park 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 Art Penn.
Thanks, Ric we're going to spend a few minutes discussing how we fared in the quarter ended September 30th how the portfolio is positioned for upcoming quarters, our capital structure and liquidity a detailed review of the financials and then open it up for Q&A.
For the quarter ended September 30th our core net investment income was <unk> 30 per share, which includes one set of other income and excludes <unk> <unk> per share of one time upfront financing cost from the $66 million increase in our revolving credit facility.
The credit quality of the portfolio remains solid and we did not have any new non accrual investments.
As of September 30th we'd had only two non accruals out of 125 different names and P. F. L T.
This represents only 0.9% of the portfolio at cost and 0.01% at market value at.
Our credit statistics remain among the most conservative in the industry with an average debt to EBITDA on the our underlying portfolio of four seven times and interest coverage of three times.
<unk> decreased from the prior quarter due primarily to unrealized mark to market adjustments tied to the overall market and not due to fundamental credit factors.
<unk> decreased by four 8% of which three 3% was due to market related fair value adjustments. The remainder of the decrease in GAAP earnings was primarily due to fair value adjustments on our credit facility and notes.
But the debt portfolio, that's 100% floating rate, we're well positioned to substantially grow our net investment income as base rates rise the weighted average yield to maturity on our portfolio increased to 10% from eight 5% last quarter.
Holding everything else constant and the portfolio every 100 basis point increase in base rates translates into about <unk> <unk> per quarter of NII.
We believe that this late 2022 and 'twenty 'twenty three vintage of middle market directly originated loans should be excellent.
Leverages, lower spreads and upfront fees, and OID or higher and covenants are tighter.
Our capital, which we believe is always value added is adding even more value in this environment.
During the quarter, we continued to originate attractive investment opportunities for both of the P. F. L T portfolio as well as the JV portfolio at quarter end, the JV portfolio was $757 million.
And we will continue to execute on our plan to grow the JV portfolio to $1 billion of assets. We believe that the increase in scale and the JV is attractive ROE will enhance <unk> earnings momentum.
From an overall perspective in this market environment of inflation and rising interest rates geopolitical risk and potentially weakening economy. We believe we are well positioned we like being positioned for capital preservation is a senior secured first lien lender focused on the United States or floating rates on our loans can protect against rising inflation we.
Continue to believe that our focus on core middle market provides the company with attractive investment opportunities, where we are an important strategic capital to our borrowers.
In times of market volatility, our direct lending strategy focuses on creating value from the dislocation in the markets specifically, we've been active buying first lien loans in the secondary market at discounts and companies, where we believe we have differentiated institutional knowledge.
It can be a company that we used to finance in a sector, where we have domain expertise or a direct relationship with the management team or financial sponsor.
We have been buying loans, where we think we can generate double digit or low teens are ours as the loans returned to par in three years, we employed a similar strategy during the global financial crisis and generated excellent returns.
We have a long term track record of generating value by successfully financing high growth middle market companies and five key sectors. These are sectors, where we have substantial domain expertise and the right questions to ask and I have an excellent track record.
They are business services consumer government services, and defense health care and software and technology. These sectors have been resilient and tend to generate strong free cash flow. It's important to note that we do not have any crypto exposure and our software and technology investments.
In many cases, we're typically part of the first institutional capital into a company, where a founder entrepreneur or family is selling their company to a middle market private equity firms and these situations. There's typically a defined game plan in place with substantial equity support from a from the private equity firm to significantly grow the company through add on.
<unk> or organic growth.
The loans that we provide are important strategic capital that fuel the growth and hope that $10 million to $20 million EBITDA company grow to 30, 40 50 million of EBITDA or more we typically are participate in the upside by making an equity co investment.
Our returns on these equity co investments have been excellent over time.
We're all for a platform from inception through September 30th our $355 million of equity co investments have generated an IRR of 28% at a multiple on invested capital of two five times.
With the current volatility in the broadly syndicated loan market, we have seen more private equity sponsors tap the private credit markets.
We are selectively looking at these new opportunities and believe the vintage for these loans will yield compelling returns.
Because we are an important strategic lending partner the process and package of terms, we receive is attractive.
We have many weeks to do our diligence with care, we thoughtfully structure transactions with sensible credit stats meaningful covenants substantial equity cushion cushions to protect our capital attractive upfront fees and spreads and equity co investment. Additionally from a monitoring perspective, we received monthly financial statements help us stay on top of the call.
<unk>.
With regard to covenants virtually all of our originated first lien loans had meaningful covenants, which help protect our capital. This is one reason why our default rate and performance joint covered was so strong.
I believe and why we believe we are well positioned in this environment.
This sector of the market companies with $10 million to $50 million of EBITDA as the core middle market. The core middle market is below the threshold and does not compete with a broadly syndicated loan or high yield markets.
Many of our peers, who focus on the upper middle market state that those bigger companies are less risky than.
That may makes some intuitive sense, but the reality is different according to S&P loans to companies with less than 50 million of EBITDA have a lower default rate and a higher recovery rate the loans to companies with higher EBITDA we've.
We believe that the meaningful covenant protections of core middle market loans more careful diligence and tighter monitoring has been an important part of this differentiated performance.
The borrowers in our investment portfolio are generally performing well, we said earlier as we said earlier.
Debt as of September 30th the weighted average debt to EBITDA on the portfolio was four seven times and the average interest coverage ratio the amount by which cash income exceeds cash interest expense was three times. This provides significant cushion to support stable investment income even as interest rates rise based on this substantial cushion.
Even with a 200 basis point rise in base rates and a flat EBITDA our portfolio companies will cover their interest two one times on average.
These stats are among the most conservative in the direct lending industry.
Our credit quality since inception over 10 years ago has been excellent.
<unk> has invested $5 billion.
Dollars and 451 companies and we have experienced only 15 non accruals since inception <unk> loss ratio is only six basis points annually.
Our experienced and talented team and our wide origination funnel is producing active deal flow. Our continued focus remains on capital preservation and being patient investors, our mission and goal or a steady stable and protected dividend stream coupled with the preservation of capital everything we do is aligned to that goal, we seek to find investment opportunities and growth.
Middle market companies that have high free cash flow conversion, we capture that free cash flow primarily in first lien senior secured instruments and we pay out those contractual cash flows in the form of dividends to our shareholders. Let me now turn the call over to Rick our CFO to take us through the financial results in more detail.
Thank you art for the quarter ended September 30, net investment income was 29 per share, including $1 10 per share of other income.
Operating expenses for the quarter were as follows management fees and performance based incentive fees were $6 2 million interest and credit facility expenses were $9 million Gen.
General and administrative expenses were 800000 and provision for taxes were 100000.
Core net investment income was <unk> 30 per share, which excludes <unk> <unk> per share of one time upfront financing cost from the $66 million increase in our revolving credit facility.
For the quarter ended September 30th net realized and unrealized change on investments, including provision for taxes was a loss of $19 6 million or <unk> 45 per share.
The unrealized appreciation on our credit facility and notes for the quarter was $6 2 million or <unk> 14 per share.
As of September 30th R Gap, and EV was $11 62, which is down four 8% from $12 21 per share.
Adjusted <unk>.
Excluding the mark to market of our liabilities was $11 59 per share down from $12 and <unk> last quarter.
Our GAAP debt to equity ratio net of cash was $1, one time $1, one nine times for the quarter.
Our capital structure is diversified across multiple funding sources and we do not have any near term maturities.
During the quarter ended September 30th we increased our revolving credit facility by $66 million at the existing spread.
As of September 30th our key portfolio statistics, whereas follows.
Our portfolio remains highly diversified with 125 companies across 46 different industries.
Portfolio was invested in 87%.
First lien senior secured debt, including 16% in PSS L.
Less than 1% in second lien debt.
13% in equity, including 4% in PSS L.
Our overall debt portfolio has a weighted average yield of 10%.
100% of the debt portfolio is floating rate.
As of September 30th 2022, the company had approximately 26 cents per share of spillover taxable income.
I'll now turn the call back over to art.
Thanks, Rick and closing I would like to thank our dedicated and talented team of professionals.
For their continued commitment to <unk> and its shareholders.
You all for your time today and for your investment and confidence in US that concludes our remarks at this time I would like to open up the call to questions.
Thank you.
If you would like to ask a question. Please signal by pressing star one on your telephone keypad.
If you're using a speaker phone.
Please make sure your mute function is turned off to allow your signal to reach our equipment again press star one to ask a question.
We will take our.
First question.
Paul Johnson from <unk>.
Please go ahead.
Hey, good morning, Thanks for taking my questions.
I was wondering if you could just.
Address one of the investments in the portfolio that it's also in the JV as well.
There's been some obviously developments with a company called Walker Edison.
Post quarter to date and I was just wondering if you could just kind of.
You could talk about any of the developments there.
As well as just the exposure.
In the portfolio.
As well as the JV I'm.
Just wondering how much exposure I guess you guys out there.
Thanks, Paul and good morning, we have about.
About $12 million of Walker Edison in <unk> and about the same amount of $12 million in the joint venture.
It was marked at about 68 cents on the dollar.
As of 930, they did pay us cash huge risks on 930 or as of 930. So we it was kept on accrual for that quarter.
There are in restructuring discussions going on.
As we speak we hope that by the time next quarterly earnings happens in early February or as at December 31.
We'll have a little bit more color to share as to what exactly is going on but restructuring discussions going on in.
It could be a non accrual as of 12 31, it may not be well, we'll see when the time comes.
Got it thanks.
And then.
Can you just.
Speak to I guess the overlap.
The overlap with the JV in the <unk> portfolio, and just kind of I guess remind.
Remind me.
Is the attention and the intention in GB.
You're essentially PSL Ts deal flow and have a high degree of overlap there.
Or is there more of the.
Uh huh.
And objective the differentiation.
I guess I'm wondering what the degree of percentage overlap of the two portfolios. There is between the JV and P. F. L T.
Yeah. That's a good question and if people use their <unk> in different ways in our industry for us in <unk>. It's really just an extension of <unk> to be able to write bigger bite sizes.
So you know kind of very similar first lien senior secured floating rate portfolio. So you'll see many deals.
That cross.
Both the BDC and the J and the JV. The JV does not take equity co invest so the equity call invests stays in the BDC.
Ben.
As we can as you note the co invest has been good it's been a 2.5 times NYSE over 16 years. So the.
BDC retains the co invest.
Got it.
And then just one question on the liabilities.
You guys have some bonds that have been kind of gradually amortizing down 2000 and that should be maturing in 2023 I'm just curious is there.
The current market any preference for if you were to be looking at refinancing that may not be the case at the moment I understand but.
Between I guess borrowing in the unsecured market.
The securitization.
Curious if there's any still any big cost differential between the two or if that's been close with rates moving up.
I guess as well as the securitization.
Possible in this market.
Yes.
So we do have some unsecured bonds that are due at the end of 'twenty three.
So we have a bit of a bit of time to figure out.
Capital structure options over the long term, we think unsecured bonds should be a substantial piece of a diversified liability stack, we like having diversified pieces now that said certain times, it's better to do our regular credit facility or a securitization or bonds.
<unk> did do some bonds in 2021, which were very attractive.
Well evaluate the options over the over the course of the next year and try to figure out something some of the options could be kind of more long term options. Some of the options could be more short term.
In nature, depending on where the markets are kind of as we get down the road here six to nine months.
So don't have a real answer for you now.
Bonds are available today, they are just expensive.
Securitizations, we think are available.
They are just expensive or at least more everything is more expensive than it was obviously six nine months ago.
All things equal securitization is cheaper today than the long term bonds.
You'd be locking in a high fixed.
Fixed.
Yields.
So.
<unk> comes to show up today I think we if it were today, we would upsize the credit facility. We just did we just upsized its credit facility $66 million last quarter.
We'd probably upsized credit facility or looking at potential securitization, but.
A monitor the markets and all options are on the table over the course of the next year.
Got it I appreciate that.
And two more if I may.
One just being on.
The unrealized marks for the quarter I know you mentioned Walker and Dunlop is obviously mark lower.
It's a little bit more credit related but.
The $20 million or so obviously, excluding the liability adjustments I was wondering if you can give any sort of general idea of how much of that is just.
Mark to market versus other any sort of credit issues or any other one time issues.
That might be driving that.
Yes, I mean look I think Walker Edison is the one outlier in terms of.
Unrealized mark to market loss I think it was about 11 share, but the rest of the items are are very small.
Thankfully so it's really just market, we would say, it's just market issues and not not actual credit deterioration other than.
In the case of Walker Edison, we feel very good about the portfolio overall.
Having a portfolio that's kind of in the mid fours debt to EBITDA.
It does give us some nice cushion.
We covered kind of interest coverage and certainly interest coverage for all of the underlying companies in our industry are going down by definition, we're getting the benefit of higher floating rates interest coverages are going down but even.
Even if you took.
A severe case of kind of.
Interest rates going up by and large our portfolio is well positioned to win.
Whether the storm both from the standpoint of credit stats and capital structure as well as just the industries, we're in by and large tend to be more recession resistant recession resilient industries.
Got it I appreciate it and last last question for me.
Just on inflation.
EBIT trends for your borrowers I'm just curious as you are.
Any sort of updated forecast or financial statements from your.
Your borrowers where has.
That trended in term of in terms of forecast for EBIT growth.
Is that.
Can you come down has that been fairly stable and alongside that.
Inflation I guess just.
Company's ability to continue to pass that on and I think that's pretty much been the case as long as inflation has been.
Going on in the NDA.
Tanami, but have you started to see any limits to that.
Yes, no we haven't seen any limits on the on the ability for companies to pass on price increases at this point.
On the other hand, I think the good news is items like container cost shipping coming over from Asia or elsewhere is going down significantly so.
We're hopeful that as.
The end of 'twenty two rounds into 2023.
Supply chain cost issues start are diminishing.
The companies have less need for four you know kind of price increases that they push along to their ultimate customers in terms of EBITDA, a bunch of crosscurrents, certainly youre not seeing it up into the right. The way you were seeing it kind of post COVID-19. So it's more of a slight up to the right or flattish kind of.
Environment we're in.
Some companies.
More impacted than others, but by and large from a portfolio standpoint.
I would say slightly up into the right as opposed to weigh up into the right, which is kind of what you saw kind of post COVID-19.
Got it. Thanks appreciate it that's all for me.
Thank you.
Yeah.
Once again, if you would like to ask a question. Please press star one.
If you're using a mute button. Please check your mute button.
We will now take our next question from Mickey <unk> from Ladenburg Thalmann. Please go ahead.
Yes, good morning, everyone.
Art I wanted to ask you about your view on the attractiveness of the current vintage I mean generally we're hearing that.
So we're quite excited about it given wider spreads and better deal terms, but.
Your on balance sheet portfolio declined in the SLS portfolio only grew slightly.
Is there can I interpret that to mean, maybe youre not as excited as the rest or was there. Some other reason that we didn't see more portfolio growth this quarter at P. F. L T.
Yeah, so in terms of the.
Portfolio, we actually got some repayments.
One of the Big repayments was a company called Kras champion that was because the company was sold.
That was about $35 million between the JV in the at the BDC.
And then we got two deals, adding up to about $17 million between the two entities.
That leverage was so low good old commercial banks came in you know these companies leverage around three times.
And they were both able to go to a commercial bank and get very attractive financing. So.
It's hard to complain about that the credits where were good and we knew they were there.
We're a potential refinancing candidates so.
And I'm kind of good what good news credit events, we are enthusiastic about.
The environment.
We are hopeful that there will be growth year in this quarter and the quarters thereafter, and both the BDC and the JV.
We arent seeing the new vintage of new deals for all the reasons, we've mentioned the low the lower leverage the higher yields and spreads the higher OID tighter covenants.
More a significant equity cushion.
Really shaping up to be a nice vantage and as we said you know we have a nice opportunity in the secondary market.
Where if we can buy $1 four between 85 to 95.
And the secondary market and a company that we know well, perhaps we used to finance.
And in one of our industry verticals et cetera.
Mark it's given us that opportunity, where we can kind of say, okay. It's probably more par in a two to three year time period and that ends up being kind of teens return. So we're doing a bit of that in both the JV and in the BDC.
And to US that's just kind of pivoting and taking advantage of some of the softness that we see elsewhere.
I understand thanks for that explanation that that's really helpful. A couple more questions for me if I'm doing the math right it looks like the <unk>.
Dividend to the BDC from the SLS declined pretty meaningfully in the fourth quarter versus the last couple of quarters.
I understand that there's obviously differences differences between cash and tax and GAAP bookkeeping, but was there some underlying reason for that and what is the outlook for the dividend from the senior loan fund.
Yes, there is no in fact, if you look at the income coming from the JV, including.
The debt investment we have in the JV, which is floating rates.
The overall income is stable or up but because we have into the JV.
The notes, which fluids had a very healthy spread over LIBOR.
<unk> has gone up obviously, so the overall income we're getting from the JV has not diminished at all.
And it's just that overall income more of it's being absorbed in the in the debt piece. So therefore, there's less income for the equity piece.
But if you look at that.
Okay.
Yes.
Youre looking at going over.
Yeah on a return on investment invested capital basis.
Right right. So I don't know if that will have on.
That note into the JV is a pretty healthy spread over LIBOR.
Yes.
Got it my last question.
Marketplace that Vince first lien as mark well above.
Cost.
And I think it's been like that for a couple of quarters does that imply that you're expecting to exit that investment relatively soon or is there something else there.
Well, we certainly hope to to exit marketplace events. When the time is right companies performing well.
<unk> business focused on.
Home goods.
Rebounded nicely and Thats reflected in the Mark whether now is the appropriate time to seller or we give it some more time to ramp.
I don't think its a near term because we think the.
The opportunity for that company to grow is actually very strong right now as a consolidator in its particular industry.
So we're always evaluating options, but this is not we don't think right now it's a short term.
Item, but kind of over the intermediate to long term, we think the.
The opportunity to build that company, therefore build the value of the company in the in the <unk> portfolio is pretty strong given given the tailwind is it saying people are coming back to these trade shows they.
They are very popular people like the in person interaction so.
For us we're going to we're thinking whole module for awhile.
Of this group.
Yes.
So just so I make sure I understand.
The mark of the.
Above cost is related to the restructuring rather than expectations of near term exit is that correct.
Yes, yes, there is an equity.
There is equity you said, we are in control of the company so as equity associated right.
We have three other three other lenders are in control of the company, where the lead lender and.
And so the markup is due to the valuation of the company increasing.
Okay. That's it for me this morning Art I appreciate your time. Thank you.
Thanks Mickey.
Mr. <unk> I'd like to turn the conference back to you for any closing remarks.
Just want to thank everybody for being on the call. This morning, we appreciate it and wishing everybody a terrific Thanksgiving and a great holiday season.
And we look forward to speaking with you in early February at our next earnings call.
This concludes today's call. Thank you for your participation you may now disconnect.
[music].
Yes.
Sure.
Okay.
[music].
Okay.
[music].
Yes.
[music].
Yeah.
[music].
Yes.
Yes.
[music].
Yes.
[music].
Yeah.
[music].