Prospect Capital: Price Dropping
The BDC Reporter occasionally comments on individual BDC stock prices increases and declines if over a “normal” level, typically 3% on the day in either direction. Here we briefly discuss what’s happening at retail investor favorite Prospect Capital (PSEC):
We wrote a long piece yesterday (May 10th), after reviewing the latest financial results but before listening to the Conference Call, projecting that PSEC might have to cut its distribution by as much as a third in the year ahead. We try and make these annoying (to the current shareholders) predictions as early as possible because the markets move fast and by the time a dividend cut does happen has usually moved down to close to the new distribution level. Waiting for certainty, unfortunately, can result in absorbing a big stock price drop.
Anyway, the content and tenor of the Conference Call (the BDC Reporter listens carefully to the tone of the remarks, and what management chooses to talk about, and not) did not materially affect our view. Certain remarks by the CFO suggested that some reductions in investment income, which we stated in our article were likely to continue, might be of a shorter term nature and could “come back”. Specifically lower income from CLOs and from First Tower were discussed on the CC, as they were in our review. However, the arguments were not fully convincing. Moreover, the Conference Call also suggested that we may have under-estimated the future impact of loan spread compression on PSEC’s income. The subject was raised several times by the CEO. Overall -and we hope we’re not sub-consciously seeking to validate the thesis of our post- we got the impression that PSEC’s managers were preparing shareholders for the dividend cut we are presuming, probably in the new tax fiscal year beginning in September. Until then undistributed taxable income should be sufficient to make up any shortfall in calendar 2017 Taxable Income over distribution commitments.
Anyway, the market appears to have concerns of its own about PSEC. As the Yahoo Finance chart above shows the stock was still at $9.2 on Tuesday morning, but has fallen to as low as $8.06 this morning. That’s a (12.4%) drop, and five quarters of distributions at the current pay-out level, and even more if we get a cut in 4 months. PSEC’s stock has given up all its 2017 gains and is back at a mid-December 2016 level. If we’re right about a one-third drop in the distribution (and we hope we’re not) the ultimate price is likelier to be near or below $7 than $8 a share. Even that would be better than the panic price of early 2016 of $5.26. Of course, if PSEC can turn around its earnings (even by taking more risk-which investors are mostly indifferent to) the price could easily march up again. The BDC has many loyal retail investors (we’re told PSEC has the greatest individual investor percentage ownership of any major BDC) who will be rooting for reassurance and an improvement in the obvious metrics. We believe the chances are low, but this is a management team who -for good or ill – operates outside the usual BDC box, so a change of fortune (literally and figuratively) is not impossible.