Good day, ladies and gentlemen, and welcome to the Newtek Business Services Q1 2019 Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. [Operator instructions] As a reminder, this call is being recorded. I would now like to turn the call over to Barry Sloane, President and CEO of Newtek Business Services. You may begin.

Good morning, everyone, and welcome to our first quarter 2019 financial results conference call. In welcoming all you to the call this morning I also wanted to introduce Jenny Eddelson, our Chief Accounting Officer, who will help me throughout the call today. I would also like to call all attendees’ attention to PowerPoint presentation that has been hung on our website, newtekone.com. You can go to the Investor Relations section of our website and you'll be able to follow our presentation along this morning. On the presentation slide one is our traditional forward-looking statement. I would love to suggest and want you to make sure that you read it and are familiar with it. Going to slide number two. Newtek always likes to review its historical stock performance over the last five years. Clearly, you see, we've done exceptionally well, almost 100%, which would relate to a 20% annual return year-over-year, despite the fact that we can all recall, last year, particularly the fourth quarter was a tough year for equities. Our one year return last year was 3.5%, which beat most major indices by 500 to a 1,000 basis points. However, the stock has rebounded very nicely, and our total return including dividends year-to-date through April 26 was 22.4%. And even looking at current base and stock has appreciated, it would be higher than that. We're quite proud and always want to talk about our stock performance to the investment community. Moving to slide number three, the financial data from the first quarter. Our net investment loss, and for those of you that are familiar with our Company, gain on sale, which is an important component of our income, is excluded from NII. However, it’s put into adjusted NII. Our net investment loss narrowed significantly. It's an important fact,…

Thank you, Barry, and good morning, everyone. You can find a summary of our first quarter 2019 results on slide 40 as well as the reconciliation of our adjusted net investment income or adjusted NII on slide 42. For the first quarter of 2019, we had a net investment loss of $986,000 or $0.05 per share as compared to net investment loss of $2.8 million or $0.15 per share in the first quarter of 2018, a 67% improvement on a per share basis. Adjusted NII, which is defined on slide 41, was $8.3 million or $0.44 per share in the first quarter of 2019 as compared to $8.1 million or $0.44 per share for the first quarter of 2018, unchanged on a per share basis. Focusing on some of the first quarter 2019 highlights, we recognized $13.8 million in total investment income, a 24.4% increase over the first quarter of 2018. Both interest and dividend income were the primary drivers to the increase with interest income increasing by 36%, resulting from a higher interest rate on our SBA loan investments year-over-year as well as an increase of 21.2% in dividend income quarter-over-quarter from our controlled portfolio companies. Our dividend income in the first quarter of 2019 included $2.9 million from NMS, $150,000 from Sidco and $100,000 from mobile money. Servicing income increased by 17.6% to $2.4 million in the first quarter of 2019, versus $2.1 million in the same quarter last year, which was attributable to the average NSBF originated portfolio earnings servicing income growing from $909 million at March 31, 2019 to $1.1 billion at March 31, 2019. Total expenses increased by $909,000 quarter-over-quarter or 6.6%. Salaries and benefits decreased by 26.4%, primarily due to NSBF employees being hired by Small Business Lending LLC or SBL, one of Newtek’s…

Thank you, Jenny. Operator, we’re ready to take any questions.

[Operator Instructions] Our first question comes from Leslie Vandegrift of Raymond James. Your line is open.

Hi. Good morning. So, my first question is on the SBA loan funding for the quarter. You talked about the government shutdown has an impact there. Back in March, we didn’t think it would be much of an effect. So, was the end of March just little a bit lower as well or what changed between that and the end of the quarter.

Yes. And I definitely appreciate the question. And sometimes we get into the specifics. We were adamant that based upon our annual guidance, which we are -- we have a [indiscernible] that there would be no effect and we still take that position. We indicated that the government shutdown could be problematic but you have a shifting of funding between the first quarter and the second quarter, and that's what we have. So, we stick to our position that there -- the effect has been a reporting effect of what happened in Q1 versus Q2, which is why we haven’t changed our annual guidance. So, for those people that might be focusing on quarterly results and take out the slide, which is what we all do, there was an effect but there was no effect on our annual guidance, our dividend guidance. As a matter of fact, I think we met the guidance of most of the Street analysts. And then, we gave dividend guidance for Q2, that’s up 9.5% quarter-over-quarter. So, we feel very good about our original statements relative to the government shutdown.

Okay. Thank you. And then, just on the -- I guess just the accounting, make sure of the salary and benefits now. You mentioned it or you read it in the statement about the breakout of SBL now and how those employees are doing that. Is that the origination and servicing related party, and then is there an outlook for that on balance sheet, salaries and benefits for the year?.

I think that the way to think about it and look it is SBL is an entity that performs third-party service, both to the BDC and other portfolio companies. And we do believe that SBL is an investment on a schedule of investments. And we feel very constructive about that business on a going forward basis. I think, it’s important to note it will be accounted for, it’s a real expense, and it will receive revenues both from third parties, it currently has over 100 third-party financial institutions as clients, as well as the BDC as a client.

Okay. But, all the new big hires that you went through, those are going to be on-balance sheet for salaries and benefits expense. Correct?

So, the answer is mostly yes. The new person will be at the BDC level, Brent Ciurlino at the BDC level; Frank Bertelle is at CDS Newtek Business Services Corp.; and Mr. and Mrs. X will be at the BDC level.

Got it. Okay. Thank you.

Now, Leslie, one other thing. Some of these hires replaced other people and some of them are new hires. But, we're very comfortable that we have fully loaded all of these expenses into our projections for earnings and dividends.

Okay. All right. Thank you. And then, then JV, you talked about last year, about 1% to 2% of referrals, you saw the $18.7 billion would have qualified as not informing for that. Now, despite the qualification, how much of that would you have that have been a year and what you have the JV ramping? What would be the actual anticipated close rate? And I know it’s an estimation, but just somewhere in that range.

Yes. I’ve got eight people telling me not to answer this question. First of all, I appreciate the questions. So, let me see if I could be somewhat helpful. Number one, I think, it’s really important. We haven't announced this yet to our alliance partners. Even on the initial announcement, I don’t expect a tsunami but I do expect to get a lot of opportunity. So, let's use a $20 billion number, right? We believe that even though we’ve historically funded only 2.5%, it’s not like 97.5% aren’t creditworthy, we just didn’t have a program for it. 7(a) program taps at $5 million. So, this program will enable us if borrowers need 6, 7, 8 or they have used $5 million of their 7(a) and need more, we can do this program for them as well. If you look at the 1% or 2% and you lay it over the $20 billion, you certainly can come up with a number. But also, when we announced it, I think that the growth in this particular segment, as I said in the press release, can be important, can be significant and can be material. I’ve just been advised by all my advisors, as well as other constituents to sit tight, look at it again the end of the second quarter. We will be able to tell you what we funded, what the pipeline looks like. But, right now, this just upside in grade. [Ph] I also tried to give you a little bit of a scent indicating that it wouldn’t make sense for us to do a venture like us, unless we believe that the equity was accretive in some way, shape or form.

Okay. Thank you for that color...

I know it’s not much help right now, but it gives you an ability to start tracking as you do very well.

Thank you. Okay. And then, on the portfolio seasoning, you started tracking that and you actually had a slightly older portfolio over the last years whereas the rest of the SBA 7(a) market talked about increasing prepayment rates, earlier repayments, and that was kind of the impact on the gain on sale, the premium at the end of the year for the market. So, what makes your portfolio different, how were you guys able to age it up a bit when the rest of the market...

Yes. So, also a good insightful question. In that the portfolio that we're referring is the uninsured portfolio that gets seasoned. The government-guaranteed piece is we pretty much sell off routinely as new. So, the seasoning of the uninsured really relates more into portfolio management, risk management and managing what the expected charge-offs might be which affects income and write-downs, which affects the balance sheet.

Okay. And then, I guess, just the last question. You have the slide in there about non-performing loans, you always have been in there. But this quarter, you’ve added a bit about self sub-performing versus the nonperforming but it’s still paying interest, it’s still cash flow. So, that rate jumped. I mean, it picked up materially it looks from fourth quarter to first quarter. Is there a particular industry in which you're seeing those issues in the market? Is this -- do you see another sector. I mean, we had retail couple of years ago that had all those issues, and if you may before that, are you seeing a specific sector hurting or a broad, general, just slight weakening in credit?

We don’t see a weakening of the credit, and the reason why we addressed the seasoning of the uninsured portfolio which is the portion of the portfolio that would relate to delinquencies and defaults. So, when we say that there is a seasoning shift, let’s say 28 months to 29 months, we're into the valley of the default curve. The other thing that happens is we all look at averages but the issues always are the streams. So, at the streams you’ve got very good credits that have taken no loan for a year or two, business has improved, and they can now refinance with a bank at 5.5% or 6% where 6 in the portfolio are borrowers that have to limit the higher rate because they can't refinance out. There was a portfolio of our nature seasons, you are going to get higher or weighted average basis higher levels of delinquencies and you're going to get higher levels of charge-offs. On a positive side, we can clearly support that because what you’re seeing is the gross size of the portfolio growing as we had new loans with higher coupons. So, you have a sort of a barbell shape on the portfolio. And a lot of newer loans, we have a lot of older, and once the borrower tends to get through 36 months or more of seasoning, they’ve gotten through the important humps of being able to support the debt or able to manage their business and then these number should pay for often decline. But as I said previously, we’ve had charge-off years of 25 and 35 basis points. I made it a point to say that’s not just portfolio, it’s not. As a matter of fact when we do our analysis, we use a 20% gross cumulative default and 40% severity, and our business model can stand that and support that. So, we think what is occurring, which are higher than previously forecasted numbers in these categories are totally supportable and sustainable of the income that comes off of our business model.

Okay. So, then, I guess, my question would be on the market side of that then, what is there in industry you're saying that is being aged stronger? So, is there one you’re seeing that’s having trouble? So, it’s not necessarily the credit overall, but the ones that you are seeing that are staying longer, is there a concentration in the industry?

No. It wouldn’t be an industry. So, a couple of things. When you look at the -- what causes a loan to prepay, it’s easier to prepay loan backed commercial real estate because of the commercial real estate appreciates and the prices are still available for cash flow, you could refi into a commercial banking loan with a two to three to five-year paybacks, amortizing principal faster, but you get a lower rate. So that’s the trade off in the loan. If you don’t have the commercial real estate behind it, you’ve got effective a 10-year loan that’s fully amortizing and the borrowers are just going to keep paying.

Okay. All right. Thank you for answering…

It’s not -- yes, it’s more collateral-driven and refi driven; if you can get a lower rate, then real estate; if our rates are higher, the bank [ph] rates. These substitutes what banks don’t do. That’s the nature of it. And by the way, I want to say one other thing, it’s really important. A lot of times from an analysis standpoint, looking at these delinquencies and charge-offs, not you in particular but some of our analysts are bank analysts, looking at credit card portfolios and car loans. When a car loan goes 60 or 90, it’s dead; you could write it off and you’re liquidating the car. On a credit card, it's gone, you are now recovering any pennies. On these loans, you’ve got multiple personal guarantees from business owners with personal assets pledged and business assets pledged. So, sometimes these businesses can have a tough quarter or tough two quarters but all of a sudden they come back. That’s where the sub-performing category is important. We’ve got loans that haven’t missed a payment but the borrower has declared bankruptcy. But the way, I’m not saying that’s a good thing. We do write the loan down that’s still cash flowing and they haven’t done the payment, why they don’t go into bankruptcy? Maybe there is an issue with the divorce, maybe there is an issue where they’re trying to negotiate a real estate lease which we’ve had. But we believe based upon the collateral, on the cash flow of the business and the fact that we’ve got everything tied up, they are going to pay the loan off.

Your next question comes from Casey Alexander of Compass Point. Your line is now open.

First of all, let me ask kind of a strategic question. How come you only bucket prime plus 2.75% SBA 7(a) loans? I mean, is that actually keeping you out of some -- for instance a better quality guy might be able to get a lower rate that that somewhere else but you could -- there are SBA 7(a) loan percentages available. So, why just that one narrow slice and not have a broader menu of SBA 7(a) loan spreads that would allow you to cater to higher and other type quality customers?

Casey, that’s a good question, which lays into the nature of our business model, because we don’t use brokers or brokered loans, and we're dealing directly with borrowers and we don’t go around the borrowers and say we're the 7(a) lender. We're a small, medium sized business lender. We have not cut out rate once since 2009. We’ve been a max prime plus 2.75% lender since 2009. If you go to look at our schedule investments, you might see some differentials, those are typically loans that have been defaulted or bought out pool. So, I’ll save you the question for the next quarter because you're very astute and you do a good job on our financials. But, because we're dealing directly with the borrower and not dealing with the broker, we’re not in competition. And the minute borrower comes in and gets through the underwriting point, we get the SBA guarantee, we're locked. They take an SBA loan anywhere else. So, from our standpoint, number one, we want to know that the borrower can afford prime plus 2.75%; that’s really important. When [Technical Difficulty] prime plus 2.75% and hope the borrowers goes bad, that’s not what we’ve done over 16 years. Number two, we charge a full rate. We’re better than our competitors. We close quicker. The experience is better. And when we don’t think it works, we quickly know and they can go with the rate where they ca. So the prime plus 2.75% rate issue of good quality versus bad quality, it doesn't apply to us. It does apply when you got brokers coaching the borrower and shopping the loan package with three or four SBA people at the same time. It’s a jumbo [ph] and it becomes a jumbo [ph] not just on rate but on credit quality. Because of our model, which is a real retail model where we can fit in shoes between $20 billion worth of opportunities, we're able to get the max rate -- look, I -- maybe an analogy, Casey. If you’re coming into my car dealership, I could probably sell you the car at dealer cost, I could probably sell you a car at issue. My job is to get the highest price I can for the car and give you great service and put you into the car. And by the way, mentor the business and a lot of other things that I could do to help them grow the business which we do as well.

Okay. Thank you for that. Secondly, would you be willing to share with us what a sort of a target range for your leverage ratio that you believe is appropriate for the business? And secondly, and this is one that has always been sort of [indiscernible] to me. If the rollover of loan sales happens every single quarter, then why shouldn’t we just consider 122 your actual leverage ratio?

Actually, I think you should consider 110 as the actual leverage ratio. But that’s just my opinion.

Do you have a target leverage ratio that you think is appropriate for the business?

Yes. It wouldn’t be a BDC leverage ratio before the one and I couldn’t do it. And by the way, we’ve been in the business for over 20 years and been a nonbank lender and we’ve operated at much higher leverage ratios. And I will add that we didn't get a government bailout in ‘08, ‘09 and managed our banking relationships and our defaults very, very well. So, we’re totally underlevered, based on our ability to do this business and manage the risk. The problem that I have is that in many cases the Street looks at the number and they don’t count SBIC debt, they don’t count the leverage that’s inherent in each of these business assets, they don’t count the fact that I under levered one of my bigger assets, my payment processor. But if I do a loan that’s an LBL loan, it’s 5 or 6 times EBITDA, that’s the loan as senior, it’s fine. They have EPGs [ph], they have collateral behind it, but that’s fine. If I do mezzanine debt which has inherent leverage in it, that’s fine. I use CDL equity, that’s fine. We’re unique and we work with each other for many years analyzing it. You can't just look at that absolute number. However what I try to do is not stick my head in the sand, try to be very respectful to the analyst community and investors that do like to look at a single number. And we work pretty hard at trying to make our story as simple as it possibly can. And we're proud of the fact that we traded at 40% premium to NAV and people have understood that. Our dividend is in straight line across four quarters, some people get it, some people don’t. But I will trade our business model into 95% of the other BDCs that are all trading at NAV or below and have SBIC debt and a bunch of other things going on and they are getting -- they are not getting the kind of returns that we get through our shareholders. So, we are unique and we are different. The fact that I have a government-guaranteed floater with a take out from brokered dealer, and that clears in 5 or 10 days, I don’t consider that leverage.

Okay. I don’t think you answered my question. Okay. I understand your fluency about your business model. But the only point at which you addressed my question is that you would run this at 4 to 1 leverage ratio. So, does that mean that you will be willing to take this model right up to the 2 to 1 limit which currently exists at the regulatory level?

Not, because you’ll [indiscernible] at me. And I don’t want that to happen. I’m extremely respectful…

I guess that means 1.9 is the number.

We are paying attention. I actually had -- no, it's not 1.9 and we stated that we take leverage up on a very low methodical basis. And we're also pretty good at using ATMs, which we’ve done successfully; we have been good at not tipping the Street off of what we're doing, both at the debt and equity side. And right now it’s working well for us. But, no, I -- Casey, your questions are totally spot on. It’s the questions I get from some of my investors, not all. So, it’s differently appreciated. But no, we're not going to zoom up there, not going to zoom up there. Because although I tell people to be looking at this differently, I’m not sure I got a 100% of the audience.

Our next question comes from Fred KBW. Your line is now open.

Just a couple of questions. One is the timing relative to the sale of loans because of the government shutdown. I was wondering, did the gain on sale margin affected on? In other words, was there the buildup of either supply or demand on the SBA loans during that kind of period when there wasn’t lot coming through and then there was affect to gain on sale, should we see some volatility on that as a result, between the quarters?

It’s a good question. I don’t believe that the supply and demand imbalance was affected by the 35 days. Because, those participants that had governments pay, they were able to sell them before the end of the quarter. I think that right now the most important issue that’s affecting prices is CPR and CPRs have slowed. Now, it’s funny, if you turn on CNBC, half the world -- maybe not half, I think a quarter of the world thinks rates are going to go higher, 40% thinks they are going to go lower and then you got the rest of the world in the middle. Federal Reserve Chairman, Powell says rates are steady as of this week, it’s probably the best indicator that he doesn't see things heating up much more and he is in a wait and see attitude. So, I think CPRs will remain fairly consistent at 13%, 14%, 15% throughout the course of this year and that prices will migrate to where we currently are or equilibrium.

Only other question was on this new JV that you're doing with the nonconforming loans. Two kind of questions. One is, are those loans going to come on to your balance sheet? And then, number two is, to the extent that -- what kind of disclosure are we going to get? Are we going to get the kind of disclosure we have on the SBA 7(a) loans where we see all of those loans in your disclosures or is it going to be kind of part of a subsidiary where we don’t see the loan breakout?

So, to answer the second question first, it is a JV. Therefore, the JV doesn’t consolidate. The only thing you will be seeing is the equity investment in the JV. We will try to give the market a general feel for how that JV can do. But we're pretty restrictive in doing so because you don’t want that being consolidated onto our balance sheet. So, we do give limited disclosure for the portfolio companies, which is based upon SEC and accounting legs. What was your first question, Fred?

I think, you’ve got out it, Barry. I was really kind of getting at -- I’m just trying to understand that this is a JV between two BDCs about -- does it go on your -- do the loans go on your balance sheet or do they stay in some kind of third-party off balance sheet entity, which it sounds like they say in this JV third-party off balance sheet entity? And then second..

And it is not nonrecourse financing, which is important. So, there is no recourse back to the BDC and it’s funded out of a special purpose vehicle.

Right Okay. And then, for our proposes, for Newtek then it’s just going to be another portfolio company and we will get very limited disclosure?

You’ll get limited disclosure but we will try to be helpful as time goes on and hopefully this get's to be material in size. And then, when it is, we will give more disclosure on it, just like we do in the payments business.

[Operator instructions] Our next question comes from Jeff Sullivan of Raymond James. Your line is now open.

This is Scott. I think that was for me. Congratulations on a great quarter, especially in light of the government shutdown.

Thank you, Scott. I appreciate it.

Question, if you could please drill down a little bit further on the JV, not from a -- I understand, you can’t give guidance, but from a process perspective. Trying to understand how the net interest might bubble up through dividends in terms of -- would you be able to just give us the process and securitizations et cetera that way in terms of the cash flow.

Sure. I think that the nonconforming program 50-50 joint venture dollar of equity from BlackRock TCP, dollar of equity from us that’s $2 get $4 of debt financing from Deutsche Bank, the loans will sit in the leverage facility in the special purpose vehicle, so you get to critical mass and view securitization out of that. So, basically, the recurrence that ultimately will follow up to BDC will be based upon income that comes out of special purpose vehicle. This could be effectively -- in its initial intent this could change which really spread income if you’re looking at the coupon on the loans, that’s the coupon on the leverage vehicle plus the coupon that’s ultimately sold on the bonds. And we try to give, without putting a number on it, no, obviously if we didn’t think this would be accretive, TCP and BlackRock TCP didn’t think it would be accretive, based on that portion of the business, we wouldn’t do it. So, we think from a size standpoint, there is a big appetite for these types of loans in the market. These are much bigger loans in size. Our average, 7(a) loans, 7(a) 100,000 use to be significantly larger, so just dealing with bigger numbers going forward, although the return on equity might not be high to 7(a) business. This should be beneficial because effectively it's going to be giving us reoccurring income, although it’s not going to show up in that format on the BDC, but you're going to get that recurring spread income based upon our interest in the joint venture.

That’s helpful. Thanks. And I got you’re hesitant to give guidance, obviously. But, is there any kind of blue sky, gray sky guesstimates on what kind of spread margins you might be looking at, ballpark goals?

Can’t do -- I appreciate the question, would love to give you our fullest, but can't do at it this point in time.

There are no further questions. I would like to turn the call back to Barry Sloane for any closing remarks.

All right. Well, everyone, thank you so much for attending. And I appreciate your continued interest and investment in the Company. We look forward to reporting great results for the rest of the year and work real hard for all of you. So, thanks very much for your attendance today.

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program and you may all disconnect. Everyone, have a great day.