Q3 2023 WhiteHorse Finance Inc Earnings Call
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Good afternoon. My name is Britney and I will be your conference operator today at this time I would like to welcome everyone to the Whitehorse Finance third quarter 2023 earnings Conference call. Our hosts for today's call are Stuart Aronson, Chief Executive Officer, and Joyce Thomas Chief Financial Officer.
Sure.
This call is being recorded and will be made available for replay beginning at four P. M Eastern time.
The replay dial in number is four zero to 220 to 978 no pass code is required.
At this time, all participants have been placed in a listen only mode and the floor will be opened for questions. Following the presentation. If you would like to ask a question at that time. Please press star one on your telephone keypad, if you wish to remove yourself from the queue Press Star two it is now my pleasure to turn the call over to you Jacob Muller.
Our frozen company. Please go ahead.
Thank you operator, and thank you everyone for joining us today to discuss Whitehorse finances third quarter 2023 earnings results before we begin I would like to remind everyone that certain statements, which are not based on historical facts made during this call, including any statements relating to financial guidance may.
May be deemed forward looking statements within the meaning of the private Securities Litigation Reform Act 1995.
Because these forward looking statements involve known and unknown risks and uncertainties. These are important factors that could cause actual results to differ materially from those expressed or implied by these forward looking statements.
Language to announce it seems no obligation or responsibility to update any forward looking statements.
Today's speakers may refer to material from the Whitehorse Finance third quarter 2023 earnings presentation, which was posted to our website. This morning.
With that allow me to introduce introduce Whitehorse finances, CEO Stuart Aronson Stuart you may begin.
Thank you Jacob and good afternoon, everybody. Thank you all for joining us today.
As you're aware, we issued our earnings this morning prior to market open and I hope you've had a chance to review our results for the period ending September 32023, which can also be found on our website.
On today's call I'll begin by addressing our third quarter results and current market conditions.
Washington, Thomas Our Chief Financial Officer will then discuss our performance in greater detail after which we will open the floor for questions.
This afternoon I'm pleased to report strong performance for the third quarter of 2023, Q3, GAAP net investment income and core net income was $10 8 million or 46, and a half cents per share, which more than covered our quarterly base dividend of <unk> 37 per share.
This represents an increase from Q2, GAAP and core NII of $10 6 million or $45 six per share and an increase of over 10% year over year as.
As you may have seen in our press release. This morning, the board of directors in the BDC approved an increase to our quarterly base dividend from <unk> 37 cents per share to <unk> 38, and a half cents per share starting in Q4 this year.
The board of Directors also improved a decrease in the base management fee rate paid to H I G. Whitehorse advisers LLC the BDC sponsor.
2% to 175% effective January one 2024.
So I have a further positive effect on our financial results and our ability to cover the increased base dividend on a go forward basis.
<unk> per share at the end of Q3 was 13 87, representing a 0.9% decrease from the prior quarter NAV per share was negatively impacted by $5 4 million of net mark to market losses on our portfolio.
Markdowns were related to company specific performance and some of our consumer facing portfolio companies as well as some specific challenges on certain portfolio companies that are experiencing independent.
Economic conditions.
Turning to our portfolio activity, we continue to see steady transaction activity across our markets relative to Q2 with market prices trending slightly down, which we believe is driving increased steel close across the market.
In Q3 gross capital deployments totaled $20 6 million with $8 4 million funding on two new originations and the remaining $12 2 million funding add ons to existing portfolio investments.
All of our new originations in Q3 were sponsor deals with an average leverage of approximately four three times debt to EBITDA I noticed that these deals were all first lien loans with spreads of $6 50, or higher and an average all in rate of 11, 9%.
At the end of Q3 more than 97% of our debt portfolio was first lien and senior unsecured.
Portfolio has a sponsor mix composition of approximately two third sponsor and one third non sponsor.
In Q3 total repayments and sales were $31 7 million, primarily driven by two complete realizations, one partial repayment and one partial sale. In addition, there were $1 7 million in net repayments made on revolver commitments.
As discussed in our last earnings call, we expect repayments to pick up towards the end of the year.
We have visibility into a number of likely repayments in Q4, and we will seek to redeploy capital into attractive investments.
At current market pricing, we expect new assets to likely be at similar pricing to the assets that are running off.
During the quarter, the BDC transferred to new deals and one add on to the Ohio S. T. R. S. JV totaling $8 8 million in exchange for cash of $5 1 million and $3 7 million of in kind contribution to the JV.
I'll discuss activity within the JV in more detail shortly.
With repayments and sales outpacing originations during the quarter. The company's net effective leverage was reduced to 116 times down from 1.25 times at the end of Q2.
This is below the lower end of our target leverage range.
And so long as our portfolio remains heavily heavily concentrated in first lien loans, which have lower risks in second lien loans, we expect to continue to run the BDC at up to 1.35 times leverage.
With that in mind, I'll now step back to bring our entire investment portfolio and to focus.
After the effects of net repayments and S. T. R. I S. T. R. S JV transfers as well as five points borne by a million dollars and net mark to market changes Sharepoint 3 million unrealized losses, and $1 2 million of accretion the fair value of our investment portfolio was $706 8 million at the end of Q3.
This compares to our portfolio of fair value of $728 4 million at the end of the previous quarter.
Weighted average effective yield on our income producing debt investments increased to 13, 6% as of the end of Q3 from 13, 4% at the end of Q2.
The variance was primarily driven by an increase in the portfolio space right.
We continue to utilize the S. T. R. S. JV successfully the JV generated investment income to the BDC of approximately $3 9 million in Q3 up from $3 7 million in Q2.
As of September 30th the fair value of the Jv's portfolio was $313 million and at the end of Q3, the Jv's portfolio had an average unlevered yield of 12, 2%.
The change from the end of Q2 and up from eight 8% at the end of Q3 of 2022 a.
The year over year increase in Unlevered yield is primarily due to rising base rates as well.
The JV is currently producing an average annual return on equity in the mid teens. The BDC. So we believe the white horses equity investment in the JV provides very attractive returns for shareholders.
Transitioning to the Bdc's portfolio more broadly there was some markdowns in the portfolio in Q3 as I mentioned earlier.
As we've shared before we are seeing some pressure on our portfolio and the general economy as well primarily in the consumer segment, we remain vigilant in monitoring our portfolio of companies and we have not seen demand weakness in other sectors, including general industrial DDB health care TMT or financial services.
Additionally, our portfolio includes mostly non cyclical or like sickle box look light cyclical borrowers and we hold no direct exposure to oil and gas auto or restaurants, and very little exposure in the construction sector.
As majority of our deals with strong Covenant protection and we are finding that in most cases private equity currently partnered with are supporting their credits as new cash or contingent equity as needed.
The Bdc's Q3, Mark to market declines were driven by our investments in our store mid call American crafts motivational marketing and play Monster. These declines were partially offset by net mark to market increases in various other portfolio investments.
As mentioned on our last call our investment in Crown brands, a second lien loan was moved to non accrual in Q2.
Oh Crown brands can crown brands continues to make interest payments, we expect that the investment will remain on non accrual until the company achieves its projected performance levels.
American Crafts first lien delayed draw term loans were placed on non accrual status in July.
Hosting and an impact of approximately 1.3 cents per share of net NII for the quarter our investments in play monster in arc serve remain on non accrual as well.
We're in the midst of an active restructuring to try and resolve arc search.
We do remain optimistic in our ability to effectively navigate and turnaround trouble investments Whitehorse in H I G capital have a proven ability to leverage our collective resources and expertise turnaround investments with the objective of minimizing losses and preserving capital.
Actively working with our portfolio of companies to improve their performance as an example, the performance historical holdings, which began to improve during the third quarter as a result.
As a result of H I G S efforts and operating the company.
Similarly last quarter I mentioned, our successful exits from our previously troubled investment in Oracle, which produced approximately a one in the quarter times return on the original invested capital.
At the end of the third quarter investments on non accrual totaled two 8% of our total portfolio at fair value.
Across the portfolio generally we see balanced activity in terms of credit performance roughly 50% of our portfolio companies have been performing better than they were at closing approximately 35% are performing below where they were at closing and the balance is performing more or less in line with closing levels.
Turning to the broader lending market, we saw the direct lending markets begin to shift back and direction of normal market activity. During Q2, and this trend continued through Q3 with the market's continuing to treat lower mid market companies more conservatively than mid market companies in the lower mid market were seeing deals being levered to.
Three and a half to five times with loan to value running up to 50%.
We are seeing leverage in mid market deals of four to five five times, a little bit higher with loan to value a little bit higher as well typically up to 55%. Although many of the deals are at 50% and below L. T V.
Our sponsored deals pricing and lower mid market deals is typically within a range of soccer 600 yourself were 650.
And in the middle market, so for $5 75 to 625.
The non sponsor market hasn't moved much.
It is still typically two and a half to four times on leverage.
And under 50% loan to value.
Non surprises or pricing.
It still tends to be sulfur $6 50 and above.
Pretty consistently.
We think the fed is succeeding installing the economy and we expect a mild to moderate recession in 2024, we remain conservative in our expectations and factor in a downturn equivalent to 2008, and 2009 and all of our investment decisions.
Whitehorse has consistently and deliberately chosen to deploy capital into deals with more conservative terms and as such has built a portfolio that we believe is well equipped to withstand a potential economic downturn.
For this reason the deals that we're working on are mostly non cyclical or liked cyclicals and we continue to be highly selective about which credits we will enter at the BDC.
For deals that have even moderate leverage sorry for deals that have you been a moderate degree of cyclicality, we're trying to keep leverage at under four times.
In general we're seeing a continuing rebound in terms of both deal volume and quality and our pipeline activity levels remain high our three tier sourcing architecture continues to provide the BDC with differentiated capabilities. We continue to derive significant advantages from the shared resources and affiliation with H I G who is.
A leader in the mid market and lower mid market Whitehorse has nearly 70 investment professionals located in 11 regional markets across North America.
Strikes at the origination pipeline enables us to be very conservative in our deal selection.
Following the repayment activity in Q3, the BDC balance sheet is approximately $15 million of capacity for new assets at our target leverage level range.
The JV is approximately $30 million of capacity supplementing the BDC success existing capacity.
With the move in market deals that are priced below soccer 650.
Good for the JV that was priced at $6 50, and above are largely targeted at the BDC balance sheet.
We're actively working on 10, new mandates and conducting due diligence on them. In addition, we have mandates for five add ons to existing credits while there can be no assurance that any of these deals will close a number of these mandates would fit within the BDC for our JV should we elect to transact.
Subsequent to quarter end, we've closed three new originations and one add on to an existing portfolio company with several more pending and three of these investments being transferred to the JV during the first quarter fourth quarter.
We remain cautiously optimistic for the final quarter of 2023 and into the new year, despite sustained concerns or economic softening. We believe continued execution of our three tiered sourcing approach and rigorous underwriting standards leaves whitehorse, well positioned to navigate any future potential economic challenges and we hope to.
Delivering for our shareholders with that I'll turn the call over to Joyce and for additional performance details and a review of our portfolio composition.
Yeah.
Thanks, Stuart and thank you everyone for joining today's call.
During the quarter, we recorded GAAP net investment income and core NII of $10 $8 million or $46 five per share. This compares with Q2, GAAP NII and core NII of $10 $6 million or $45.06 per share.
In a previously declared a quarterly distribution of <unk> 37 cents per share Q.
Q3 fee income decreased quarter over quarter to <unk> 4 million in Q3 from 0.9 million. In Q2 Q3 amounts are highlighted by amendment fees generated from an investment in Ares Holdings lab logistics and trim like as long as the zero point $1 million prepayment fee from PSP.
For the quarter, we reported a net increase in net assets, resulting from operations of $5 6 million a risk ratings during the quarter showed that 78, 2% of our portfolio positions carried either a one or two rating slightly higher than the 76, 3% reported in the prior quarter.
As a reminder, a one rating indicates that a company has seen its risk of loss reduced relative to initial expectations and a two rating indicates companies performing according to initial expectations.
In the quarter, we also downgrade to our investments in play Monster to a five rating and this is the only investment that carries a five risk rating across the portfolio.
Regarding the JV, specifically, we continue to grow that investment as Stuart mentioned earlier, we transferred to new deals and one add on transaction totaling $8 $8 million in exchange for cash proceeds of $5 1 million and a $3 $7 million in kind investment in the JV.
As of September 30th 2023, the Jv's portfolio held positions in 32 portfolio companies with an aggregate fair value of $313 million compared to 32 portfolio companies at an aggregate fair value of $324 5 million as of June 32023.
Subsequent to the end of the quarter the company transfer three investments in the JV, including two new portfolio companies.
The investment in the JV continues to be accretive to the Bdcs earnings and is generating a mid teens return as we have noted in prior calls the yield on their own are asking in the JV may fluctuate period over period as a result of a number of factors, including the timing and amount of additional capital investments and changes in asset yields in the underlying portfolio as well as the AUM.
All credit performance of the Jv's investment portfolio.
Turning to our balance sheet, we had cash resources of approximately $29 $8 million at the end of Q3, including <unk> $19 2 million and restricted cash and approximately 126 $4 million of Undrawn capacity available under our revolving credit facility.
As of September 30th 2023, the company's asset coverage ratio for BARDA mounts as defined by the 1940 Act was 179, 9%, which was above the minimum asset coverage ratio of 150%.
Our Q3 net effective debt to equity ratio after adjusting for cash on hand was $1 one six times as compared to 1.25 times in the prior quarter.
As discussed on our prior earnings call. During Q3, we repaid $30 million of unsecured notes paying 6% interest that have matured with existing cash on hand that matured with existing cash on hand, as well as proceeds drawn from R. J P M revolving credit facility.
Later on in the quarter, we successfully completed a new unsecured notes issuance of 34, and a half million dollars in the aggregate paying seven 875% interest per annum with the proceeds received from the debt offering used to pay down our revolving credit facility.
Relative to the current interest rates on borrowings under our secured bank credit facility. The financing cost of this unsecured notes offering was lower and Thats accretive to earnings while also improving our secured unsecured ratio and further creating the capital structure less dependent unsecured bank financing.
The new unsecured notes have a contractual maturity date of September 15, 2028.
And may be called in whole or in part at any time. After September 15, 2025, which will afford us flexibility in the future should interest range change to a declining rate environment.
Before I conclude and open up the call to questions I'd like to again highlight of distributions. This morning, we announced that our board declared an increase to our quarterly base distribution, beginning with the fourth quarter distribution to <unk> 38, and a half cents per share an increase from 37 cents per share from the prior quarter.
This follows the decrease despite the increase in our dividend earlier this year from 35, and a half cent per share given our rate and has been in place since the bdcs IPO, representing an aggregate aggregate increase in our dividend eight 5% since the start of 2023.
These actions speak to both the consistent earnings strength of the platform as well as a resilient deal sourcing capabilities and being able to create a well balanced portfolio generating consistent current income.
As was announced on our Q1 2023 earnings call.
<unk> also implemented a formulaic supplemental quarterly distribution program for.
For the third quarter. The board did not declare a supplemental distribution, which is consistent with a formulaic supplemental distribution framework.
We believe this framework allows us to maximize distributions to our shareholders, while preserving the stability of our NAV a factor that we believe to be an important driver of shareholder economics over time.
The upcoming distribution of 45th consecutive quarterly distribution paid since our IPO in December 2012, with all those distributions at or above our rate of $35.05 per share per quarter will be payable on January three 2024 to stockholders of record as of December 20th 2023.
As we said previously we will continue to evaluate our quarterly distribution both in the near and medium term based on the core earnings power of our portfolio. In addition to all the relevant factors that may warrant consideration.
With that I'll now turn the call over to the operator for your questions operator.
Thank you at this time, if you would like to ask a question. Please press the star and one on your Touchtone phone you may remove yourself from the queue at any time by pressing star and to once again that is star Anne why don't you would like to ask a question and we will take our first question from Mickey.
Spine Lindbergh with Ladenburg Your line is open.
Yes, good afternoon, everyone.
Stuart in the upper Middle market, we're seeing somewhat of a dislocation in terms of supply and demand.
Where by the CLO market.
It's bumpy.
Bumpy you know closed at times, but theres a lot of private debt capital available, but M&A volumes are down and due to you know.
Interest rates as high as they are an economic uncertainty, that's causing spreads to decline somewhat I'm curious, whether that's trickling down into the middle market and lower middle market, where you tend to operate.
Yes, Mickey you're exactly right and spreads have moderated a bit.
I would say over the course of the year, we've seen compared to the end of 2022.
We have seen spreads come down 50 to 75 basis points that said, we're doing senior secured deals with the top of the capital structure.
Usually with covenants and were generally commanding yields including the amortization of the.
Closing fee of about 12 or even 13%.
The historical basis being able to do senior debt at 12% to 13% is extremely extremely attractive.
Which is of course, one of the reasons why what you said is true.
The M&A activity has slowed down because senior debt is so expensive.
But yes, we have seen spreads moderated a bit but we still see this market environment as being very attractive.
Because most lenders in the marketplace are concerned around economic softening next year and as a result of the underwriting standards being applied in the market.
Are much more appropriate imbalanced than they were at a vintage like 'twenty 'twenty. One. So overall, we see very attractive risk return in this market and as I mentioned earlier volumes just picked up very significantly for us in Q4.
And we have 15 or more deals that we're actively working on with mandates trying to get them closed.
Stuart in terms of those volumes and you may have mentioned this in the prepared remarks, but.
Is that being stimulated by sort of more acceptance of the current rate environment.
Higher for longer regime, and at least the understanding amongst investors that.
You know, there's there's less uncertainty as to where rates may go over the medium term.
Or is there something else that's driving that increased volume.
We think the increased volume is due to.
A combination of factors number one.
The markets are demonstrating.
The strong appetite for low cyclicality companies.
Enterprise valuations on those companies have been very strong we've seen companies selling.
We're 12 to 17 times.
If theyre non cyclical and now that that's going on there are more people willing to come to market.
To sell.
There has also been an acceptance among people who are cyclical companies, but those companies are probably worth a 1% to two turns less than they were a year and a half two years ago and that acceptance by sellers that valuations on a cyclical companies have come down.
Helping more transactions actually occur we're seeing the cyclicals trade Mickey asked a six and a half day times, we're seeing light cyclicals trade typically nine to 11 times and we're seeing non cyclical as trade typically 12 to 17 times.
I appreciate that Stuart that's really helpful. Those are all my questions. This afternoon. Thanks for your time.
Thank you bye bye.
Thank you we'll take our next question from Melissa Wedel with Jpmorgan. Your line is open.
Good afternoon, Thanks for taking my questions today.
Wanted to dig into the decision to lower the base management fee from 2% to $1 75.
Certainly something I think shareholders will applaud I'm curious how your team got Q1 0.75.
Did you consider other levels can you just walk us through that thank you.
The board of directors did a analysis of the BDC market in general, but also an analysis of comparable Bdcs, who were similar in size to us.
And also similar in mission of what they do.
And we concluded that a 175% was the appropriate or the board decided that the appropriate market level was 175% and <unk> agreed to continue to manage and run the company for.
Toward that lower fee.
Okay. Thank you.
Thank you we'll take our next question from Robert Dodd with Raymond James Your line is open.
Hi, guys.
Hi, Robert.
One on one questions.
In your prepared remarks, you talked you expected mild to potentially moderate recession in 'twenty 'twenty, four which you know that's that's why they choose.
Things that could happen in 2024 ones no recession or maybe moderate.
How much does that view affect your concerns.
About for example pay more so now.
Some of the more.
Stressed credits had the most stressed to credit is before the recession and more coupled with likely to happen in one. So would you say if there is no recession would you say that I think the two would that have a material positive change in your view on outlook. There's stress credit. So can you give us any.
Any indications that.
American Crafts and play Monster are both already suffering.
From a softness in consumer demand.
That has been going on for a while now.
We are working with both of those companies too.
Cut costs and optimize value and if there is a stronger economy next year than were currently envisioning.
That could be.
Be positive for.
For both of those credits.
Which are driven or or impacted directly by consumer appetite.
But we do think we have those assets marked as of the end of the quarter.
Levels that were reflective of current market conditions and as I indicated those current market conditions are pretty soft.
Got it I appreciate that and then on the.
Okay.
Unless on the on the one one and three quarters.
The the over one turn of leverage the one in a quarter that's.
One of the three quarters I can see the one quarter I mean, those that have a lower management fee over a turn of leverage tend to be one so.
So can you give us any any first of all.
Why now.
One a quarter that I mean, it's marginal like because obviously any price to a very small piece.
If the capital base in effect, but any thoughts.
On why that relative to most Indian and victory one if they have anything on that.
Yeah.
Yeah, all I can tell you is that in discussions with the board.
The reduction on the core management fee from 2% to one or three quarters was considered to be the main focus and the board felt comfortable let's see one in a quarter on assets over one times leverage.
<unk> was a reasonable rate given what we do and the labor content that goes into the transactions that we originate Miki talked about Mckee I'm sorry, Robert.
And last one.
Last one for me.
The.
The non sponsor piece of the portfolio, which is down to basically a no.
No I think that's probably over the lifetime of Pittsburgh.
What would you expect over the next.
12, 24 months would you expect that device or is that is that going to continue relatively speaking to decline.
Sure.
Yeah.
On a forward basis.
Our our originations pipeline has been and continues to be about one third non sponsor and two third sponsor. So I would expect that ratio in the portfolio to remain fairly.
Stable based on what we're seeing right now.
Got it thank you.
No problem.
Thank you we have reached our allotted time for questions I will turn the program back over to our presenters for any additional or closing remarks.
I appreciate everybody's time today as always if there are more questions that we can answer where.
We're happy to answer them either offline.
Or get indications prior to the calls of the types of things that shareholders or analysts would like to hear from us.
We want to be as transparent as possible and we'll continue to do that going forward. So thank you everyone for your time.
Thank you. This does conclude today's program. Thank you for your participation you may disconnect at anytime and have a wonderful day.
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