BDC COMMON STOCKS

Up And Down

One week down, one week up for BDC sector prices.

The UBS Exchange Traded Note with the ticker BDCS was up this week – closing at $13.61 – but down the week before.

(Admittedly, that followed the payment of the quarterly dividend).

This week 35 of the 46 BDC stocks were up versus only 8 last week.

Furthermore, individual stock price volatility remained a feature of the landscape.

This week 21 BDCs were up 3.0% or more and 7 were down (3.0%) or more.

Last week – by way of comparison – 25 stocks were off by (3.0%) or more and only 3 were up.

As has been the case repeatedly certain BDC stocks moved by double digit percentages.

Suddenly Popular

Interestingly, one of the previously worst performing BDC stocks : Capitala Finance (CPTA) caught a wave this week.

Shortly after the BDC issued a brief press release about “portfolio investment activity” in the IIQ 2020, the stock shot up like a rocket.

From a close of $2.05 at the close on Bastille Day Day, CPTA increased as much as 54% within the next two days, topping off at $3.16.

However, by Friday’s close the price had dropped back to $2.53.

Most remarkably, the volume of shares trading hands for this now tiny BDC with a market cap of $41mn was 12,262,700.

In the past, CPTA would often trade less than 50,000 shares. 

Misplaced

On July 15, 2020 the BDC Reporter felt compelled – after having read the same press release as everyone else – to question the basis for this flurry of excitement.

In the BDC Reporter’s News Feed and on Twitter we felt compelled to add these words of warning to our readers:

“Not so sure that the $CPTA IIQ investment activity is the Good News the market seems to believe. Seems like a quiet liquidation, with $270mn of assets remaining + $95mn in cash. Have $275mn in debt to repay even with Revolver gone. Best assets sell first.”

Our skepticism is informed by the BDC Credit Reporter’s database of underperforming companies which shows CPTA with 16 poorly performing borrowers with an aggregate value of $109mn.

Half of the underperformers are on non accrual...

Maybe investors believe a buyer is in the wings for the BDC, whose net book value per share was still $6.27 at March 31 2020.

In any case, this was a very strange interlude and may resume in some form next week.

The Small Reveal

CPTA was just one of several BDCs putting out partial “previews” of their IIQ 2020 results.

This approach – although not employed by many but sometimes required when issuing new capital contemporaneously – can feed price volatility.

For every previewed fact released there are many more that are not, leaving investors guessing and often coming to different conclusions.

Owl Rock

Notably Owl Rock Capital (ORCC) – in advance of issuing unsecured debt – divulged some key metrics about its IIQ 2020 results.

The BDC Reporter covered the subject in an article on July 13, 2020 so we won’t rehash the details here.

These revelations did not cause the sort of high drama seen at CPTA but the stock price was up on the week and on July 15 – for reasons unknown – the number of shares traded were 3x normal.

Like everyone else, the BDC Reporter concluded from the preview that ORCC’s overall position looks to be in pretty good shape.

However, as we concluded at the time: “…With the ability of management to pick and choose in communications of this kind what to tell shareholders, we expect we’re being gently guided to that conclusion”.

At week’s end when we wrote another article about ORCC – and finding out that the proceeds of the new unsecured debt would be used to pay down a secured facility not due for a long time and with better pricing – we were a little less sure of what we thought we knew.

Golub Capital

Another large BDC showing some of their cards early was Golub Capital (GBDC), which we discussed on July 15, 2020.

Like ORCC, the BDC indicated NAV Per Share – adjusted for the dilution from its recent Rights Offering – would increase in the second quarter.

Furthermore, GBDC’s press release said positive sounding things about credit performance in the quarter:

“Our portfolio companies —including those in COVID 19-impacted industry sectors—generally performed better than we expected, and credit market conditions have begun to recover.”

Encouraging, but difficult to assess.

Till we learn about non-accruals; valuation write downs and write ups and all the rest no useful, clear cut picture will emerge.

What do do know – from GBDC’s own IQ 2020 10-Q – is that $1.2bn of its investment assets are underforming, or 29% of the total, including 10 companies (out of 257) on non accrual.

That’s nearly triple the amount in the year-end 2019 results.

Understandably enough, the BDC Reporter is going to have to learn a great deal more than what NAV Per Share and Net Investment Income Per Share in the IIQ results might be to assess GBDC – or any other BDC’s – outlook.

In this case, the market does not appear to have been told anything they did not expect with the BDC’s stock price trading basically flat for the last 3 days of the week and closing at $12.00.

Newtek Business

Also offering up selected data points was Newtek Business Services (NEWT)  – which often throws out an update on aspects of its business.

The Payroll Protection Program (PPP) – or at least how many loans NEWT had issued to  date and the end June – was the principal theme of a press release.

The numbers are very impressive and have been a lifesaver for NEWT thanks to the up front fees delivered.

“[NEWT] currently estimates that by August 8, 2020, the final date to apply for the current round of PPP funding, it will have funded and closed between $1.14B and $1.16B of PPP loans”.

Also mentioned – but more of a non sequitur – is that credit card payment processing numbers at the BDC’s portfolio companies are “rebounding”.

“While our portfolio company payment processing volume decreased year over year by 37% in April, 27% in May, and 14% in June, throughout the first 11 days of July, processing volumes are flat to slightly down compared to the same period last year.  We believe this is indicative of robust consumer spending even though many vital northeastern economies, as well as an important geography in Miami-Dade County, Florida, still have limitations on indoor dining and gyms”. 

NEWT ended by projecting record adjusted Net Investment Income Per Share for the IIQ 2020 while still expressing much caution and uncertainty about the economic outlook.

In this case, the press release and selected good news from NEWT did not help its stock price any.

(However, NEWT is one of only 7 BDCs whose price is north of its book value).

But A Dribble

Despite the little morsels of new information investors receive from the revelations made by NEWT and these other BDCs, nothing compares with the full regulatory disclosures that are coming our way.

In this regard – and as we’ve been saying since before we even were privy to the IQ results – the IIQ 2020 reporting season is going to be a critical one.

With more than three months of the impact of Covid-19 on business results baked into the numbers, BDC disclosures will tell us much about what to expect going forward.

That’s much more so than where the first quarter was concerned, most of which consisted of results achieved under conditions that we might not see again for years – a happier, care free time by contrast with today.

The portfolio companies, the BDCs themselves as well as their own lenders have all had sufficient time to take stock of the newest normal, while in the prior quarter they were still scrambling to do so.

This is the quarter we really learn just what sort of damage was caused by the initial Covid-19 earthquake and we truly get to assess how well each BDC has fared.

As before and always, we’ll be looking at liquidity, earnings/dividend and credit to evaluate the financial health of the BDCs – many of whose staff are still working from home.

Different Directions

For some time the BDC Reporter has been dividing all the public companies we track into three clunkily termed categories depending on what the data seems to suggest about their long term outlook.

Those categories – as you’ll see in the BDC: NAV Change Table – are THRIVE, SURVIVE and STRUGGLE.

The Thrivers are expected to be able to eventually grow their balance sheets; make new loans, if any are available, boost NAV Per Share and – most importantly to investors – maintain or increase dividend levels.

The Survivors will be focused principally on managing their existing portfolio; are not expected to grow their balance sheet and may see key metrics continue to weaken, but modestly. Dividends have or will drop.

The Strugglers will see their portfolios shrink as they contend with credit and liquidity problems which will impact earnings and result in long term term reductions in payouts.

This last group of players may not be able to maintain themselves in their current form and could seek any number of alternative solutions for their challenges including liquidation; merger or sale.

At our last count – and we know the constituents of each category are controversial – there were 12 in the THRIVE group, 22 in the SURVIVE and 12 in STRUGGLE.

Quantification

This week we calculated the discount to their December 31, 2019 price each BDC –  and each category – trades at as of July 17, 2020.

The THRIVE group is off (27%) and the SURVIVE (34%).

For reference, BDCS is off (33%).

Worst Hit

The STRUGGLE group – leaving out newly arrived FSKR – is off (52%).

A couple of BDCs (MCC and OFS) have lost more than half their market value but most are off just below -50%.

In a way, the fate of the STRUGGLE group will be one of the most interesting to determine once the IIQ 2020 results are all in.

Not Sitting Still

Already the managers are seeking solutions at several players.

Medley Capital (MCC) is perpetually on the block but with weeks going by without an announcement chances seem high the current manager might seek to hold on.

This week, shareholders – having very little option – agreed to a 20:1 reverse stock split, which will come into effect on July 27.

Portman Ridge Financial (PTMN) has filed a Proxy to begin soliciting shareholder agreement to merge with Garrison Capital (GARS).

The inventive – but fraught – solution here is to combine two struggling BDCs with the hope that one plus one will amount to three.

See the BDC Reporter’s article on the subject from June 24, 2020.

Both Harvest Capital (HCAP) and Capitala Finance (CPTA) have given up their secured lenders, and the latter has suspended its dividend.

Most likely – but not definitively as MCC has shown us – some sort of change is going to have to occur.

THL Credit (TCRD) has swapped out its external manager; raised new capital and now proposes to pay much of that back in a Reverse Dutch Auction.

What happens after that is questionable.

The new manager may be hoping for “business as usual” but that will depend on performance and stopping the seemingly endless drop in the value of TCRD.

The stock price of TCRD has dropped (80%) in the past 7 years, including (48%) in the last 12 months.

Great Elm Corporation (GECC) seemed set this week to undertake a Rights Offering – a very difficult thing to do when your stock is already way down.

We noted as much in the BDC News Feed, but nothing has happened as yet.

Behemoths In Trouble

Even the very large BDCs that are in the STRUGGLE category: Apollo Investment (AINV); FS KKR Capital (FSK) and FS KKR Capital II (FSKR) may be forced into unwanted changes to stay relevant.

Already FSK and FSKR have had to undertake reverse stock splits to boost their prices, as AINV did some years ago.

Otherwise, FSK would trade for $3.7 a share, FSKR for $3.5 and AINV for $3.2. 

When adjusted in this way that places all three BDCs in the lowest rungs of BDCs by stock price, alongside HCAP, TCRD and GARS, amongst others.

FSK and FSKR may – as they’ve indicated previously – take a leaf out of the GARS/PTMN playbook and seek a merger.

We’re less sure about AINV, whose future may depend on how well or how badly its huge bet on aircraft leasing (Merx Aviation) survives this period.

Investors have heard very little from any of the BDCs mentioned above – with the exception of that cryptic CPTA press release – in recent weeks so much new information will be forthcoming with earnings season.

All Knowing ?

The market has been trying to guess the outcome for all the BDC players for weeks now as reflected in these wild price swings up and down.

We’ll be interested to see – as we mentioned last week – how accurate that collective investor and analyst wisdom proves.

If the stock prices of individual BDCs shoot up or down by more than 3 to 5 percentage points, we’ll know that the market was surprised – whether happily or unhappily.

As promised, we’ll be keeping track of the numbers and discussing the subject in these weekly updates.

Re-Think

Furthermore, we’ll provide any update in our assessment of which BDCs fit into which of our three categories.

We expect there will be some swapping out of names as the results come in.

As Keynes famously said: “When the facts change, I change my mind – what do you do, sir?”

The BDC: NAV Change Table will be corrected in real-time.

Till then – and with the bulk of BDC releases three weeks away or more – we expect plenty of individual price volatility as investors place their bets for the most critical earnings season in memory.