Oxford Square Capital Corp.
Q1 2014 Earnings Call Transcript

Published:

  • Operator:
    Good morning and welcome to the TICC Capital Q1 2014 Earnings Conference Call. (Operator instructions.) Please note this event is being recorded. I would now like to turn the conference over to Jonathan Cohen, CEO. Please go ahead.
  • Jonathan Cohen:
    Thank you. Good morning, everyone, and welcome to the TICC Capital Corp’s Q1 2014 Earnings Conference Call. I’m joined today by Saul Rosenthal our President and Chief Operating Officer; Patrick Conroy, our Chief Financial Officer; and Bruce Rubin, our Controller and Treasurer. Bruce, could you open the call today with a discussion regarding forward-looking statements?
  • Bruce Rubin:
    Sure, Jonathan. Today’s call is being recorded. An audio replay of the conference call will be available for 30 days. Replay information is included in our press release that was released earlier this morning. Please note that this call is the property of TICC Capital Corp. Any unauthorized rebroadcast of this call in any form is strictly prohibited. I’d also like to call your attention to the customary disclosure in our press release this morning regarding forward-looking information. Today’s conference call contains 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 to do so by law. To obtain copies of our latest SEC filings please visit our website at www.ticc.com. With that I’ll turn the presentation back to Jonathan.
  • Jonathan Cohen:
    Thanks, Bruce. As we noted in our press release this morning, TICC reported core net investment income of approximately $0.29 per share for Q1 2014. We reported total investment income of approximately $28.7 million for the quarter, representing a decrease of approximately $1.8 million from Q4. That decrease was largely due to lower interest income and some larger inaugural payments from our CLO Equity Investments during Q4. Our Q1 GAAP net investment income was approximately $17.8 million or $0.33 per share which includes the impact of the capital gains incentive fee accrual reversal of approximately $2.2 million. Excluding the impact of that fee accrual reversal our core net investment income was approximately $15.6 million or $0.29 per share. We also reported net unrealized depreciation of approximately $3.6 million and net realized capital losses of approximately $900,000 for the quarter. As a result of those unrealized and realized gains and losses we had a net increase in net assets resulting from operation of approximately $13.3 million for the quarter or approximately $0.24 per share. At the same time we believe that the credit quality of our portfolio remains stable. Our weighted average credit rating on a fair value basis (inaudible) at 2.2 at the end of Q1 2014 compared to 2.1 at the end of Q4 2013. At March 31, 2014, our net asset value per share stood at $9.78 compared with a net asset value at the end of Q4 of $9.85. During Q1 2014 we made additional investments totaling approximately $87.0 million. The additional investments consisted of approximately $58.6 million in corporate securities and $28.4 million in CLO equity. For Q1 we received proceeds of approximately $55.4 million from repayments, sales, and amortization payments on our debt investments. For the quarter ending March 31, 2014, TICC recorded income from our investment portfolio as follows
  • Operator:
    At this time we will begin the question-and-answer session. (Operator instructions.) And our first question today comes from Mickey Schleien of Ladenburg.
  • Mickey Schleien:
    Good morning, Jonathan and Saul. Just a couple of questions. Previously as the CLO 1.0 positions were approaching the end of their reinvestment period you rotated into CLO 2.0. So now we’re not there yet but we’re getting closer to the day when CLO 2.0 will end its reinvestment period, so I was curious what your thoughts are as to what you’ll do with those positions as you get closer.
  • Saul Rosenthal:
    Sure. Our general view at this moment is we are focusing on rotating out of older vintage CLO equity. Now the 1.0, 2.0 line of demarcation was a clear and easy one because the credit crisis essentially afforded us a clear distinction between pre- and post-credit crisis transactions. There isn’t quite such a clear line of distinction or demarcation in the context of 2.0 CLO transactions; however that aging of these transactions and our view as to when might be an appropriate moment to rotate out of certain 2.0 positions is consistent with that theme – that we have historically looked as you said to take advantage of market opportunities to rotate out of older vintage paper in the CLO market and into new primary transactions. And that has continued.
  • Jonathan Cohen:
    Mickey, there may or may not be such a thing as CLO 3.0. Nobody uses that terminology yet. It may come online at some future point but whether they are officially called 3.0 or not they’re obviously hundreds of millions and millions of dollars of new CLO issuance this year and for the foreseeable future. And we’ll continue to [staff out] of the market.
  • Mickey Schleien:
    Okay, I understand. And my next question’s more straightforward – I’m assuming the nonaccrual is [NextTag], am I correct?
  • Saul Rosenthal:
    Correct, Mickey, yes.
  • Mickey Schleien:
    And can you give us any update on its outlook?
  • Saul Rosenthal:
    We can’t, Mickey, no.
  • Mickey Schleien:
    Okay, thanks for your time this morning.
  • Jonathan Cohen:
    Alright, Mickey, thanks very much.
  • Operator:
    And the next question comes from John Hecht of Stephens.
  • John Hecht:
    Good morning, thanks for taking my questions. Just within the CLO structures, can you remind us what the composition of investments you’re making or excuse me, that are in those structures? Are these floating rate or fixed rate investments?
  • Jonathan Cohen:
    They are floating rate investments, John.
  • John Hecht:
    Floating rate investments. And then also remind me are these fully distributing to equity in all of the vehicles right now?
  • Jonathan Cohen:
    They are, yes.
  • John Hecht:
    Great, thanks very much guys.
  • Jonathan Cohen:
    Sure, our pleasure. And just by way, I’m sorry, Operator – just by way of clarification, Mr. Hecht’s question referred to the lack of, the absence of any blockage in the operations of the CLO structure by virtue of having failed some indenture tests that would result in the diversion of interest away from the equity tranche to repay the debt from the top of the equity stack down. We are not experiencing any such diversion or blockage at this moment. So just by way of expansion, clarification to Mr. Hecht’s question.
  • Operator:
    And our next question will come from Ryan Lynch of KBW.
  • Ryan Lynch:
    Thanks for taking my questions, guys. First one
  • Jonathan Cohen:
    I wouldn’t characterize anything within the remainder of that basket you referenced as being of an unusual magnitude or something that’s the subject of particular focus by us at the moment.
  • Ryan Lynch:
    Okay. And then over the last years we’ve seen a lot of [BDCs] start getting into the CLO equity market, purchasing a lot of investments. Has that affected, that increased competition, has that affected the pricing you guys are seeing on any CLO equity investments or is the market just big enough where other BDC competitors aren’t really affecting the pricing or anything?
  • Saul Rosenthal:
    It’s not just BDCs. I mean there’s a market of buyers and sellers.
  • Jonathan Cohen:
    Right. The answer to your specific question is yes. The incursion of additional BDC and non-BDC participants into the CLO equity market has resulted in increased competition; and all else held equal higher prices. The corollary of that though is that we believe the market is large enough that we are still being provided with interesting and appropriate opportunities.
  • Ryan Lynch:
    What kinds of yields are you guys hoping to get on the CLO equities?
  • Jonathan Cohen:
    It really varies widely as a function of the structure of that particular transaction, the nature of the indenture, the nature of the underlying collateral; the assumptions that we and the market are making about the forward three-month LIBOR curve, the assumptions that we and the market are making about default rates and recovery rates. We have historically generated what we consider to be very good returns in the CLO strategy. We hope and expect that strong returns will continue for us in this strategy but we haven’t enumerated a specific yield target for the strategy broadly because each deal is different and because we negotiate price based on a wide array of factors – most of which, or many of which put back to the quantum of risk we perceive that we’re taking in any particular deal.
  • Ryan Lynch:
    So I understand each deal’s different but in general are we thinking about 10% yields, 13% yields, 15% yields in that kind of area?
  • Jonathan Cohen:
    Each of those would be acceptable depending on the level of risk that we perceive that we’re taking.
  • Ryan Lynch:
    Okay, and then one more
  • Jonathan Cohen:
    Right. That was the cash position as of March 31. It would certainly be reasonable to expect that we’re putting cash to work on a weekly basis, on a real time basis essentially and that is a higher level of cash than we’d look to maintain on a run rate basis. So it would be reasonable to assume that we’re working to put cash to work and that that was the number as of March 31st.
  • Ryan Lynch:
    Okay, thanks.
  • Jonathan Cohen:
    Thank you very much.
  • Operator:
    And the next question comes from Chris York of JMP Securities.
  • Chris York:
    Good morning, guys, thanks for taking my questions. Did your internal expectations about the credit quality of an investment change in Q1? It appears that the weighted average internal credit rating of grade three investments increased during the quarter.
  • Jonathan Cohen:
    The answer to your question is yes. There were I believe two changes, both of which went from 2 to 3 – nothing went to a 4 or a 5. And the magnitude of the overall change is not something we would consider to be particularly material.
  • Chris York:
    Got it, that’s helpful. And then lastly from me, do any of your CLO 1.0 equity investments possess collateral exposure to energy future holdings?
  • Jonathan Cohen:
    The answer is yes, they do.
  • Chris York:
    And then is there, how should we think about the effect or the expectation of changes in distribution for any of your CLO equity investments there?
  • Jonathan Cohen:
    The position that we were just referencing has already been priced into our models and into the fair value calculations that are evidenced on our March 31st disclosures.
  • Chris York:
    Got it, okay. That’s it for me, thanks.
  • Jonathan Cohen:
    Thanks, Chris, very much.
  • Operator:
    And this concludes our question-and-answer session. I would like to turn the conference back over to Mr. Cohen for any closing remarks.
  • Jonathan Cohen:
    Sorry, I think there might be one more question, Operator.
  • Operator:
    Yes, he just queued up while I was giving the closing, but that is Jonathan Bock from Wells Fargo.
  • Jonathan Bock:
    Good morning, I apologize and thank you for taking my question at the last minute. So just getting back, I was interested in Chris’ question as it relates to TXU. You mentioned it’s reflected in the fair value – does that default in any way, shape or form reflect the cash flow that will come off your CLO 1.0 investments where that credit is in that portfolio?
  • Jonathan Cohen:
    Well, the answer is that it’s already been incorporated into our expectation for forward cash flows and into the fair value assessment that we’ve done at March 31st. So we don’t see any material change relative to those two elements.
  • Saul Rosenthal:
    And don’t forget that it’s a typical, without commenting on just one CLO in particular but the typical one has a hundred plus to maybe two hundred different positions. So even as it’s contained in there it’s just going to be a very small position and at least thus far has not materially affected anything we’ve seen.
  • Jonathan Bock:
    That’s fair. Maybe diving into the CLO specifics a little bit, Jonathan, Saul, give us a sense in the roughly $285 million, just looking here at your CLO portfolio, something that you own – of the collateral, how much of that collateral contains a LIBOR floor?
  • Jonathan Cohen:
    The substantial majority, Jonathan – somewhere in the range of maybe 80% or 90% order of magnitude.
  • Jonathan Bock:
    Got it. So let’s walk through a situation where LIBOR goes to 100 basis points and stays there. What does that look like for both your equity value and the cash flow distributions off the CLO equity securities that you own?
  • Jonathan Cohen:
    Both would diminish. I think we’ve attempted to quantify the magnitude of that diminishment in our public disclosure documents we’ve included historically and will continue to include calculations around increases in LIBOR and how those increases would affect our cash flows.
  • Jonathan Bock:
    Makes sense, but I’m also, Jonathan, understanding that if you were buying something at a set IRR of 13% etc. and that IRR goes to 9% people will no longer be willing to pay par for the asset. So if a third of the book has more mark-to-market risk, and if you’re running at 0.80 or 0.85 times leverage how should people typically think about that? Now granted you’ve been very conservative in your funding and I’m not trying to answer my own question – I’m just trying to understand what happens in the event of the CLO securities end up going down substantially in the event of a LIBOR rise?
  • Jonathan Cohen:
    It’s a very good question, Jonathan, and the answer I think is that we would suffer a dminishment in the values of those equity positions commensurate or at least related to the diminishments in the cash flows that those investments were producing – exactly as you suggest.
  • Jonathan Bock:
    But we haven’t quantified the [mass hit] because we don’t know?
  • Jonathan Cohen:
    I think that’s a calculation that’s very difficult to do. We have not undertaken to try to estimate how the market would value a series of cash flows in an environment that was very different than the environment we’re operating in today – meaning a much higher LIBOR rate context.
  • Jonathan Bock:
    Got it. And then now with the stock trading where it is in line with of course the group which has seen some substantial outflows in the last two weeks, walk us through the investment – I’d say your leverage level of comfort in the current environment in light of the fact that the stock is below booked value and how one should look at forward CLO equity investment in the future considering your nonqualified asset bucket is substantially utilized?
  • Jonathan Cohen:
    I’m sorry, Jonathan, can you just rephrase the question?
  • Jonathan Bock:
    Will you plan on investing in CLO equity securities today in light of the fact that the stock’s below booked value?
  • Saul Rosenthal:
    We don’t have much room to anyway.
  • Jonathan Cohen:
    Right. As you say, the 30% basket is essentially full so at the margin we don’t have much ability to increase our exposure to the asset class.
  • Jonathan Bock:
    And so the only CLO trades that we’ll see will be moving from 1.0 to 2.0 securities?
  • Jonathan Cohen:
    Or from more mature vintage 2.0 into more recently issued or primary 2.0 transactions.
  • Jonathan Bock:
    I guess the one thing that we’re trying to understand is that with recently issued CLOs we’re looking at low LIBOR, historic lows in credit quality and maybe what some people believe to be a relatively frothy time in credit. Can you walk us through the relative value proposition of an 8x or 10x leveraged security in this environment that’s exposed to interest rate risk in the event LIBOR rises?
  • Jonathan Cohen:
    Well, I think that the deals and the structures that we’re investing in right now, by virtue of their diversifications, by virtue of the cost of capital that they enjoy the benefit of, by virtue of a very low default and high recovery rate environment that we’re operating in currently, and by the optionality afforded these vehicles in the event of a less benign credit environment – meaning a credit environment where we see a widening in corporate spreads – all of those things together combine to make us believe that this remains an attractive risk-adjusted opportunity for us.
  • Jonathan Bock:
    Fair enough, thank you so much.
  • Jonathan Cohen:
    Thank you, Jonathan, very much for the questions. Operator?
  • Operator:
    Yes, that will conclude the question-and-answer session. Please go ahead with any closing remarks.
  • Jonathan Cohen:
    I’d like to thank everyone for their interest and for their participation. We look forward to speaking with everybody during the quarter and at the next call. Thank you all very much.
  • Operator:
    The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.

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