fifth street finance corp
Moderator: William Craig
05-07-09/9:00 am CT
Confirmation # 6873334
Page 1
fifth street finance corp
Moderator: William Craig
May 7, 2009
9:00 amCT
Operator: Good day everyone and welcome to the Fifth Street Finance Corp.Second Quarter 2009 Earnings conference call. Today's call is being recorded.
At this time, I'd like to turn the conference over to William Craig. Please go ahead, sir.
William Craig: Thank you, Melissa. Good morning and welcome everyone. This is the conference call to discuss the results for Fifth Street Finance Corp. for the second fiscal quarter ending March 31, 2009.
I have with me this morning, (Len) Tannenbaum, CEO and President, Stacey Thorne, VP of Investor Relations and Bernard Berman, Chief Compliance Office, Executive VP and Secretary.
Before I begin, I would like to point out that this call is being recorded. Replay information is included in our press release today, and is posted on our Web site. Please note that this call is the property of Fifth Street Finance Corp. Any unauthorized rebroadcast of this call of any form is strictly prohibited.
I would like to also call your attention to the customary SafeHarbor disclosure in our press release today regarding forward-looking information. Today's conference call includes forward-looking statements and projections, and we ask that you refer to our most recent filings with the SEC for important factors that would 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 Web site or call Investor Relations at 914-286-6811.
The format for today's call is as follows, (Len) will provide an overview, I will summarize the financials and then we'll open up the line for Q&A. With that, I'll turn it over to (Len).
Leonard Tannenbaum: Thanks, Bill. I am pleased to report that, from Fifth Street's perspective, the macroeconomic environment continues to improve. It is nice to operate without a headwind of a deepening recession, though we have let to feel the wind at our backs.
Though we did experience a slight increase in NAV for the quarter, we were able to add to our unrealized write-down basket. I view this basket as a loss reserve. Our basket of unrealized write-downs taken on both an economic and yield adjusted basis, should be sufficient to account for the foreseeable losses that we will incur from this economic cycle. This will happen as long as the stabilization of the economy continues.
Our board has reduced – had reduced the dividend from 33 cents to 25 cents for our fiscal year third quarter due to charge-offs in our portfolio. We also targeted the lower end of the 90% to 100% pay-out range to allow for future charge-offs if necessary.
Given limited additional charge-offs, I would expect that the dividend should increase by the end of the calendar year. We believe that dividends should be paid out of earnings net of losses. Obviously visibility on higher earnings from leverage or better performance should increase the dividend going forward.
We are conservatively leveraged. We only have about $14 million of leverage currently drawn on our $50 million BMO facility. This is very little leverage on a $270 plus million equity base.
We continue to pursue additional leverage, but we only feel comfortable taking on this additional leverage, if we do not have a duration mismatch. Our average loan is repaid after 2-1/2 to 3 years.
We believe we should properly match our borrowings to our assets and, therefore, a 3-year credit facility would be preferred. The SBA, where we continue to be in the process to obtain a license, would obviously provide a long-term source of capital should we receive a license.
We hope to provide more clarity as to where we are in the SBA process in the future monthly newsletter. In addition, we are working with our lending partners to develop a larger longer term solution for additional capital.
Another sign of positive progress in the economy, at least from our perspective, is that several of our companies are finding ways to refinance us out of our loans. A significant portfolio holding is currently exploring strategic options with a reputable investment bank.
Elephant & Castle is also pursuing a refinancing solution for part of their debt. As these are both second lien securities, these exits would allow us to continue our shift to financing primarily first lien securities. We currently have 46% of the portfolio in first lien securities at fair value and expect that ratio to continue to increase.
This environment, in which many of our competitors are being forced to de-leverage or have exited the market entirely, continues to create great lending opportunities with the best risk adjusted returns we have ever seen.
We are excited to be one of the few firms that will continue to deploy capital in this environment. Over 85% of our capital has been deployed since July 2007 when the credit dislocation began.
We look forward to continuing to execute on our business plan and delivering results. I am pleased at our progress at navigating through these difficult times and have growing optimism about our prospects going forward.
With that, I'll turn it back over to Bill.
William Craig: Thanks, (Len). With respect to our balance sheet ending March 31, 2009, total assets were $297.6 million, which included investments of $290.8 million at fair value and cash of $3.7 million.
Debt was at $21 million and stockholder equity was $272.4 million, but as (Len) mentioned, as of May 4, 2009, we had $14 million of borrowings outstanding under our credit facility.
Our weighted average yield on investments was 16.4% at March 31, 2009, which includes a cash component of 13.4%. Our net asset value per share at March 31, 2009 was $11.94, as compared to $11.86 at 12/31/2008.
I would like to review our earnings. For the quarter total investment income was $11.9 million and total expenses were $4.4 million, resulting in net investment income of $7.5 million.
We ended with a net investment income per common share of 33 cents and earnings per common share of 12 cents. With regard to the dividend, our board approved a third fiscal quarter 2009 dividend on April15 of 25 cents a share.
The third quarter dividend will be paid on June 25 for stockholders of record of May 26. Going forward, we plan to pay a regular dividend in connection with our quarterly SEC filings.
At March 31, 2009, 94% or approximately $270 million of our interest bearing investment portfolio consists of fixed rate loans and 6%or nearly $17 million consists of floating rate loans. All of our floating rate loans carry a minimum interest rate floor of at least 9% which protects our return in a low rate environment.
With respect to the portfolio, during the 3 months ending March 31, 2009, we invested $24.2 million; $22.6 million was in one new investment and $1.6 million was in two existing portfolio companies.
At March 31, 2009, our portfolio consisted of investments in 26 companies, all of which were completed in connection with an investment by a private equity sponsor. And these investments at fair value consisted of 46% first lien loans, 53% second lien loans and the remaining 1% equity investments.
As of March 31, 2009, we had stopped accruing PIK interest and OID on four investments, including two investments that had not paid their scheduled monthly cash interest payments or were otherwise on non-accrual status.
With respect to our ratings at March 31, 2009, the distribution of our debt investments on the one to five rating scale at fair value was as follows. Investment Rating 1 investments totaled $9.8 million or 3.4% of the portfolio. Investment Rating 2 investments totaled $239.2 million or 82.3% of the total portfolio.
Investment Rating 3 investments totaled $29.8 million or 10.2% of the total portfolio. Investment Rating 4 investments total $9.2 million or 3.1% of the portfolio and Investment Rating 5 investments total $2.8 million or 1% of the total portfolio.
We are closely monitoring all of our investments and continue to provide managerial assistance as needed, to help the companies navigate through the current economic downturn. In a given quarter, we typically value 100% of the securities internally with independent third party valuation on approximately 90% of the securities.
I'd like to address the charge-offs and the impact on realized and unrealized depreciation and appreciation. We took $12.4 million in charge-offs, or realized losses, for the period. It's essentially a re-class from unrealized losses to realized losses. The offset to that is $7.7 million of unrealized appreciation, which creates a net of $4.7 million increase in the unrealized depreciation balance.
As of recent developments on April 15, 2009, we declared a 25 cent per share dividend to our common stockholders of record as of May 26, 2009. The dividend is payable June 25, 2009.
On April 3rd and May 4, we repaid $4 million and $3 million respectively of the balance in our secured revolving line with Bank of Montreal and the current outstanding balance on the facility is $14 million.
With that, let me give it to Stacey.
Stacey Thorne: Thanks, Bill. For the months that Fifth Street does not report quarterly earnings, we release a monthly newsletter. If you'd like to be added to our mailing list and receive those communications directly, you can either call me directly at 914-286-6811 or send your request e-mail to .
Alternatively, e-mail alerts can be set through the shareholder tools link under the investor relations tab on our Web site,
Thank you, everyone, for participating on the call. I will now turn it over the Melissa to open the lines for questions.
Operator: Thank you. The question and answer session will be conducted electronically. If you would like to ask a question, please press star 1 on your touchtone phone at this time. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Once again, that is star 1.
We'll go first to Greg Mason with Stifel Nicolaus.
Greg Mason: Good morning, everyone. First, I wanted to see if you could give us a little more color on the potential expanded credit facility and SBIC facility, any expectations of timing on either of those vehicles?
Leonard Tannenbaum: Wow, I wish – I wish I had a – obviously, they're both very important events should we progress far enough to get them, and I think they would be both – I would like to release both – a press release on both those items if and when we do get them.
I don't think we've reached that point in which we feel comfortable releasing anything, but to say that both of them are moving forward is probably the right comment.
Greg Mason: OK, and could you talk about – you did a charge-off on CPAC and American Hardwoods and this is actually the first time I've seen a BDC do this. You realized a loss but you have not exited those investments, is that correct? And how are you able to do that, given that – I don't think we've seen this before, in the BDC space.
Leonard Tannenbaum: What a charge-off is is when we believe – and we have a very high threshold for this – that it is an uncollectible asset we do this charge-off. Now, this is not done at the end of the quarter, this is done when and if we feel that we've reached that high threshold, in terms of not – uncollectability. So it could have been done in January or February or March, in this case.
When that happens, we charge-off – it's similar to a bank charging off an asset, in fact, it's very similar to it, and we will reduce distributable income by that amount, which we've done, and basically the cost basis of that investment drops by the charge-off amount.
By saying that, basically we're replacing our worst performing assets with cash and so, effectively, we've sold it for cash because, in place of this $12.4 million we, over the course of a couple of quarters, are going to recoup all the cash.
Greg Mason: And then to stay on that topic, if your dividend stays flat at 25 cents, and I believe your 2009 taxable year is actually from January to December, so then we would look at you paying roughly $1 per share dividend in 2009 tax year or about $22.6 million in dividends, and then you just took this $12.4 million in realized losses that offsets taxable income.
So as we kind of look at that, if you add what you expect to pay, $22.6 million, plus the realized loss, you get about $35 million of pre-loss kind of NOI and you said you're targeting the bottom end of the 90% to 100% pay-out ratio.
Is there anything else that we need to add to – or adjust that math by? Or is $35 million kind of a way to reverse engineer what you guys are looking for for the year?
Leonard Tannenbaum: I think you have the taxable year wrong and that's the difference. It's an October to September taxable year.
Greg Mason: OK.
Leonard Tannenbaum: And so a lot of – you know the distribution cycle is different, which is why you know I think I made the comment that, if all – we're targeting the bottom of the range, we've allowed for some future charge-offs, should they occur and right now, we don't see any, but if they occur then we've allowed some room for it and if all goes according to where we see the world right now, we should have an increased dividend by the end of the calendar year.
Greg Mason: All right. And one last question, can you tell me the number of investments that were in categories three and four this quarter?
Leonard Tannenbaum: I don't think we – do we disclose that, on a quarterly basis? I don't know that I want to get into parsing through the different categories so that each one – individual can be – can be figured out, so …
Greg Mason: You had provided it last quarter so I was just looking for it again.
Leonard Tannenbaum: I mean the bottom – as we have said, we have four assets that we've done on PIK nonaccrual and two are non-performing.
I will talk about two notable assets, now that you brought up the question. One of them is you can go to – CPAC was actually written up in the quarter and it is improving; otherwise that's where you get write-ups from.
And as you know that's a consumer focused issue for us and as the consumer seems to be recovering, we've seen more positive results. We've seen that valuation increase. So that's a – I do want to point that out and that is a non-performing asset currently.
Greg Mason: And then it looks like Investment Rating 3, leverage ratios remain flat. Ratings 1 and 2, those leverage ratios improved. Is that from seeing better EBITDA or is that a function of your new investments that you've made?
Leonard Tannenbaum: No, it's a function of better EBITDA. I mean we're seeing – as I keep saying in each monthly newsletter, not only are we seeing EBITDA stabilization, aside from our very worst performing securities, they're improving in general. And you know so we're pretty encouraged and April showed a continuation of that improvement.
Greg Mason: And then my last question, before I hop off, it looks like since the quarterly dividend was declared after the end of the quarter, is it correct to assume that there was kind of a 25 cent positive bump in the quarter where you had no declared distributions?
Leonard Tannenbaum: From an NAV standpoint?
Greg Mason: From an NAV standpoint.
Leonard Tannenbaum: Yes.
Greg Mason: Great, OK, thank you.
Operator: We'll take our next question from Chris Harris with Wachovia.
Christopher Harris: Good morning, thanks for taking my questions. The refinancings you talked about in your prepared remarks, are those refinancings away from Fifth Street? In other words, are those two companies looking to refinance elsewhere, perhaps at one of your competitors?
Leonard Tannenbaum: Yes, they're looking to refinance elsewhere.
Christopher Harris: OK, any particular reason why you wouldn't look to refinance those investments yourself? Are they kind of shopping the rate?
Leonard Tannenbaum: Well, I mean in the case of Elephant & Castle, we've heard a lot from Wall Street and our investors that, look, we're second lien in the restaurant, every time we say that it's doing well and all them are making money, et cetera, nobody seems to believe us.
The equity sponsor has been very supportive of the investment. It happens to be a good investment, the rate happens to be pretty good and because we're no longer going to focus on second liens you know it's not that we don't like the sponsor, we do. We work really well with them. We have a great relationship.
But now that we're no longer focusing on second liens and this is viewed as a more risky security even though we don't believe it is, we've agreed to a refinancing solution with them. That's not going to be refinanced with a competitor.
In the other instance or instances, a number of companies are seeing more demand for private equity and for them this may be a full sale of the company, it may be a partial sale of the company, it could be a refinancing.
So don't take the other second lien ones as a refinancing, these may just be private equity firms exiting and been waiting for an exit opportunity and the window is starting to open again for exit opportunities.