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TPG Specialty: Secondary Stock Offering.

BDCs:
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NEWS

TPG Specialty (TSLX) on March 21, 2018  issued and priced a secondary offering of 3.75mn shares at a price of $17.45.

The proceeds will be used to initially repay Revolving debt.

See the press release above.


ANALYSIS

The price of TSLX has been as high as $21.74 so the BDC and its advisors cannot claim to have maximized the market price to issue shares.

However, the price of the current offering is above IVQ 2017 book value of $16.09 and above the last secondary offering in 2016 of 5.0mn shares at $16.42.

Anticipation

TSLX has been trending down in price since August 2017 despite posting as-good-as-ever results.


VIEWS

A Good Thing ?

While we’re not impressed with TSLX’s market timing in this instance, we’re positive about this not unexpected capital raise.

[After all, the BDC was pressing up against the low end of its self imposed leverage limits at the end of 2017.

When you have a business formula that generates a double digit return on equity and a stock that seemingly perpetually trades well above book,  issuing more shares is an almost foregone conclusion.

The Investment Advisor has been fiddling with the liability side of its balance sheet for months, raising new unsecured debt and amending its secured borrowings].

We expect the BDC will be able to manage this infusion of new capital without much trouble and with little negative impact on existing shareholders, who often have mixed feelings in these situations.,

Out The Door

We have little doubt that TSLX will deploy the new capital in a New York Minute.

TSLX  tends to take big bites when investing.

The BDC has a portfolio with a value of $1.7bn spread out amongst only 45 companies.

The $65mn or so raised from the secondary amounts to the equivalent of less than 2 average sized deals.

As a result, the impact on earnings per share from the new shares issued should be minimal.

Helping out will be a lower interest expense till the portfolio grows in size from the reduced Revolver balance.

Then there’s $64mn in undistributed Taxable Income which TSLX has held back and which are useful at times like these to ensure the maintenance of the distribution.

Thumbs Up

Judging from the market’s reaction to the news of the secondary – the stock dropped to $17.00 and almost immediately bounced back towards the new issue price – investors are not initially concerned that TSLX will not be able to continue to generate superior returns, even in this ever more competitive environment.

Here’s the price chart for the first few hours of March 21, 2018:

Outlook

Judging from the IVQ 2017 results, the credit outlook for TSLX remains very good.

The BDC’s own risk profile in the 10-K (see page 65) shows that Watch List investment dollars have dropped by two-thirds since the end of 2016.

(Admittedly a small portion of that was due to booking Realized Losses).

At year end 2017, TSLX claims only $60.1mn of assets were under-performing (3.6%) of the total portfolio.

Even those assets were rated 3 in the “Investment Performance Rating” on a scale of 5.

Trust But Verify

The BDC Reporter undertakes its own assessment, and comes out more or less in the same place.

We’ve identified 3 Watch List names out of the 45 companies in portfolio.

One is iHeart Communication (part of iHeartMedia) which has very recently filed for Chapter 11.

However, given where TSLX sits on the balance sheet of the radio conglomerate neither we nor the Investment Advisor expect any loss.

That’s the way the $116mn asset based loan was marked at December 31 2017: almost at par.

IRGSE Holding

Otherwise, there’s IRGSE Holding Corp.

That’s an investment booked in 2015 that almost immediately ran into trouble the next year and had to be restructured.

Management has been changed, acquisitions made and if TSLX is to be believed (the subject was discussed on the last Conference Call) the company is on the mend.

On the call, TSLX said they were optimistic as they’d ever been about the turnaround of this drag race company.

We have a Corporate Credit Rating of 3, our least serious rating on our own 1 to 5 scale.

Still, if income was interrupted due to a default of some sort, the impact on Investment Income would be close to $5.0mn given the LIBOR + 950 bps pricing.

Mississippi Resources

This oil field services company was restructured in early 2017 after being on non-accrual.

Currently – and after booking a partial Realized Loss- TSLX still has $43mn exposure to the company.

Of that $25.2mn is in first lien debt and valued at par.

The rest is in equity and valued at almost nothing.

Despite the oil price rise – which does not necessarily translate into positive results for every energy related company – the valuation trend has been downward.

However, we are not currently assuming any interruption of the $2.8mn of annual interest income, being paid in cash, coming from the company.

Projections

TSLX itself guided investors to expect 2018 Net Investment Income Per Share between $1.69 and $1.85.

We assume the BDC did not figure in any credit-related income losses.

Using the mid-range of potential earnings, this suggests TSLX is being valued at a reasonable enough 9.8x multiple.

That’s substantially below its 2017 high of a 12.3x multiple.

Conclusion

At a time when only  a handful of BDCs are trading above book value and even fewer can accretively access the equity markets, TSLX appears to be one of the few exceptions to the rule.

We don’t expect the new capital to result in higher earnings per share down the road, but nor do we expect much damage in the short run.

If anything, the BDC Reporter expects performance as usual to be maintained, including the current dividend and a Special Dividend at the end of the year.

From our perspective this is an opportunity to invest in an always expensive BDC stock at a relatively decent price.

We expect total distributions to reach as high as $1.80 in 2018, which represents a 10.3% yield.

At a time when there are doubts about leveraged debt due to the length of this economic cycle, we’d rather have our capital in the top performing BDCs.

In this regard, TSLX fits the bill even if this issue is being made at an 8% premium to book.


Investment Disclosure

We were Long TSLX before the equity raise and have added another position in a different portfolio subsequently. 

 

 

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