Oxford Square Capital Corp. (OXSQ) Q2 2012 Earnings Report, Transcript and Summary

Good day, and welcome to the TICC Capital Corp. Second Quarter 2012 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Mr. Jonathan Cohen, CEO. Mr. Cohen, the floors is yours, sir.

Thanks very much. Good morning and welcome, everyone, to the TICC Capital Corp. Second Quarter 2012 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 the discussion regarding forward-looking statements?

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 last night. 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 last night regarding forward-looking information. Today's conference call includes forward-looking statements and projections, and we ask that you refer to our most recent filings at 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.

Thanks, Bruce. As we noted in our press release last night, TICC reported core net investment income of approximately $0.37 per share for the second quarter. We reported total investment income of approximately $20.5 million for the second quarter of 2012, representing an increase of approximately $5.7 million over the first quarter of 2012. This increase was driven in part by a onetime fee of approximately $3.4 million or approximately $0.09 per share associated with our investment in American Integration Technologies, LLC or AIT. Excluding that impact of the AIT fee and consistent with recent quarters, our revenue components included the continuation of strong cash flows from our syndicated and bilateral loans, as well as distributions from our investments in the equity tranches of our CLO investments. Our second quarter net investment income was approximately $15 million or $0.40 per share, which includes the impact of a capital gains incentive fee accrual reduction of approximately $1.155 million. Excluding the impact of that accrual reduction, our core net investment income was approximately $13.9 million or that $0.37 per share. We also recorded net unrealized appreciation of approximately $7.3 million and net realized capital gains of approximately $1.5 million for the quarter. As a result of those realized and unrealized gains and losses, we had a net increase in net assets resulting from operations of approximately $9.3 million or approximately $0.25 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 was 2.1 at the end of the second quarter of 2012, which remained the same from the end of the first quarter of 2012. Our Board of Directors has declared a $0.29 per share distribution for the third quarter this year, payable on September 28, 2012, to shareholders of record as of September 14, 2012. I believe that we saw a very strong second quarter, as reflected by our having deployed approximately $62.1 million of capital, consistent with our investment strategy, as well as by our taxable income continuing to equal or exceed our dividend distributions. With regard to our CLO subsidiary, that is our internal financing vehicle, we note that we remain in full compliance with all of the various covenant tests and that the CLO's monthly trustee reports are available on our website. We believe that the market is currently favorably positioned for our type of investing. Opportunities across a wide range of debt investments are available to us with what we believe are attractive risk return characteristics. Those opportunities include direct investments in middle-market and lower middle-market syndicated corporate loans and indirect investments in the same type of assets through CLO BB and equity investments. With that, I'd like to turn the call over to Patrick who will describe our second quarter investment activities and go through some financial highlights from the second quarter.

Thanks, Jonathan. At June 30, net asset value per share was $9.47 compared with net asset value at the end of first quarter of $9.50. As mentioned previously during the second quarter, we deployed approximately $62.1 million in additional investments. For the quarter ended June 30, TICC recorded earned income from our investment portfolio as follows: approximately $12.1 million from our direct investments, including a $3.4 million fee from AIT; approximately $6.4 million from our CLO equity investments; and approximately $2 million from our CLO debt investments. At June 30, the weighted average yield of our debt investments was approximately 11.2% compared with 11.6% at March 31, and I would note that we currently have no investments on nonaccrual. The Board of Directors declared a distribution of $0.29 per share, as previously mentioned, for the third quarter, which will be payable September 28 to stockholders of record as of September 14. Let me give it back to Jonathan now.

Thanks, Patrick. With that, operator, we're happy to poll for any questions.

[Operator Instructions] And the first question we have comes from Mickey Schleien of Ladenburg. Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division: My first question is with respect to investing in -- potentially investing in 2012 into CLOs. I was curious what impact that might have on your yield given that junior debt and those vehicles is running at about LIBOR plus 600, 700, which I don't think maybe is attractive as some of the older CLOs that you've done so well with.

Sure, Mickey. I think it's a great question. It is important to distinguish between the yield on the underlying collateral of various CLO structures and the yield to the residual equity tranche. So what we've seen are yields in CLO structures, collateral base generally at around sort of the same yield that you've mentioned, although there is a fair amount of variability. The yield on the underlying, or I should say, the yield on the actual equity tranche of these various CLO structures tends to bifurcate between the sort of pre-2008 CLOs and the post-2010 CLOs. And so as you mention, the post-2010 CLOs, specifically sort of vintage 2011, 2012 CLO equity structures, do have lower yields than vintage 2005, 2006, 2007 CLO equity tranche structures. However, we're not really looking to make a wholesale shift into later sort of what we'll call the primary CLO structures. To the extent that we do begin to do that, which I think is likely over time, we may see some diminishment at the margin of our equity in tranche structure within the CLO universe. However, we certainly have the ability to do a greater -- to populate the portfolio to a greater extent focused on CLO equity as opposed to BB paper. We're -- right now, we're about 50-50 split between CLO equity and CLO BB paper. Obviously, the BB paper has a much lower yield than the CLO equity tranches. So an interesting question, not one that I think is probably relevant for us over the next year or 2 or so. Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division: Jonathan, if I may, with a follow-up. Some of these older vehicles may be subject to optional redemption by the equity holders. How exposed are you to that phenomenon in your portfolio now?

Well, we've obviously taken pains to review the CLO structures that we invest in, in a fair amount of detail. There is again sort this bifurcation in the economic incentives that you hold between -- that you operate under, between BB investing and equity investing. So to the extent that you own BB equity or BB tranches that you've purchased at discounts to par, which we generally do, you have an economic incentive to see a shorter life of that structured finance vehicle. To the extent that you own equity tranches in structured finance vehicles, you've got an economic interest as a general matter, certainly for the vintage 2005, '06 and '07 structures to see those structures increase their maturities, or I should say, increase their useful lives to the greatest extent possible. So it's something that we are exposed to, both positively and negatively, depending on the deal and depending on the tranche that we own. We do think we're relatively well hedged and we also think that we've done what we think is a pretty good job of decomposing these indenture structures to look at the probabilities associated with optional redemptions.

The only thing I would add, Mickey, it's Saul, is that, that doesn't really become an issue until after the reinvestment period. And as a general matter, the vast majority of our investments still have quite a ways to go during their reinvestment period. So this sort of an issue that we're on top of, we're aware of it, but it's really not something that we're going to have to really focus too much on in the next year or 2. Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division: Fair enough. Just a couple of quick last questions. If you could comment on what drove a fairly high level of repayments or prepayments in the quarter, and when can we expect you to file the 10-Q?

10-Q, Mickey, should be out the latter part of next week.

No, no, end of this week.

I'm sorry, right. Well, it's even better than I thought. With respect to what drove the high rate of reinvestment in the quarter, we've always run, I think, a substantially higher-than-industry average rate of reinvestment. We tend to focus our investment strategy on companies and debt investments that are characterized by things that, in our view, will lead to higher rates of reinvestment, higher rates of repayments and prepayments, because we like a faster turning portfolio, because we think it reduces overall risk to the investment structure. There wasn't any particular dynamic that I can point to that drove the rate of reinvestments. But I would say, it's just a continuation of all the various things that we've seen over the last several years, investing in lower leverage companies that, all things being equal, have a higher propensity to refinance or become merger targets.

The next question we have comes from John Hecht of Stephens.

First one is, just to be clear, where is the AITC (sic) [AIT] fee? Where are you accruing that in the income statement?

Patrick?

The AIT fee investment or fee receipt.

It's a PIK fee basically in the P&L, John.

Is in the control debt investment...

[indiscernible] Fee income of the [indiscernible] at the end of the quarter and paid in early July.

Okay. And it is in the controlled debt investments line?

No, we don't control AIT.

John, are you asking where the fee income shows up in the income statement?

Yes.

Yes, it's in that line that says...

Nonaffiliated, noncontrolled commitment amendment fee income.

Okay. And then, Jonathan, you mentioned consistent credit trends during the quarter. What specific asset classifications drove the unrealized appreciation in the quarter? And what are you seeing in terms of pricing out there right now?

The change in the quarter, John, was a lot of little changes, both up and down. So there was no sort of systemic or thematic change in the portfolio dynamics. It was really, we had lots of small markups, we had lots of small markdowns and that was across the board in the structured finance part of the portfolio, in the syndicated loan book, even on the bilateral side. Again, it was, I think, less than a 1/3 of 1% change in NAV quarter-over-quarter, so it wasn't anything that we view. And again, none of the changes were particularly large. John, just to go back to your prior question, with respect to how the fee income was characterized, it was characterized as PIK income during the quarter because that's how we received it. Following the end of the quarter, in a subsequent event, we've now been paid back that loan in full in cash, so we've -- that PIK income has now been converted into cash income.

John, just to finish up on what Jonathan was saying about the lot of little changes in the portfolio, just add that the LSTA index average bid quarter-over-quarter was down by about 25 bps or so. So just directionally, it's consistent with what happens in the market over the quarter.

Yes. And then final question is, what are -- it sounds like that you're seeing favorable trends in the marketplace. What are -- what can you talk about where bilateral yields have gone or syndicated yields have gone and where maybe in the secondary market rather than the primary market of CLO spreads have gone?

Yes. I think we've seen kind of a flattish quarter-over-quarter dynamic, John. So across each of those 3 asset classes, we haven't seen big moves. There continue to be lots and lots of variability, certainly and especially so in the bilateral corporate loan market. We've seen deals with prospective yields anywhere from sort of the high digit -- high-single digits to well into the mid-teens in the secondary market for CLO paper. Those yields continue to be very strong, both in the equity tranche and the BB side. We see attractive opportunities. That's not going to represent probably a major push for us in the intermediate term by virtue of the fact that we're essentially closed down on our 30% bucket. We just don't have a great deal of room there. On the syndicated loan side again, a fair amount of variability, certainly variability between the middle market space and the broadly syndicated corporate loan market. We like deals that are characterized by all the things that we focused on historically: relatively low levels of leverage, full and comprehensive covenant packages and most importantly, operating companies that are characterized by consistent, persistent and predictable revenues and margin structures. Those are the things that we really look -- continue to look to.

Our next question comes from Boris Pialloux of National Securities.

Just a quick question regarding your gains from your securitization deal. I think you -- quarter-over-quarter, you have a gain of $900,000 – around $1 million. Is that due to your equity piece or your debt -- CLO debt investments?

On our own internal CLO vehicle, Boris, or on our third-party CLO portfolio?

I'm sorry. The distribution from securitization and equity investment. It was $5.5 million in Q1 2012. It's $6.5 million in Q2. So is that...

The equity tranche investments went down -- went up, I'm sorry. The BB investment income stayed more stable.

So you went up, that increased the [ph] income, because you went from $5.5 million...

Boris, there was an additional investment that was added into that category, and there's additional distributions from the existing investments. So the combination of those resulted in the increase you just referenced.

[Operator Instructions] The next question we have comes from Jonathan Bock of Wells Fargo Securities.

This is Ron Yupsco [ph] filling in for John right now. First question is, could you give us a sense of your liquidity position, and what assets would you be looking to sell in this environment in order to generate investment liquidity?

Well, it's an interesting question. I mean, we don't really think of investment liquidity as a positive for our business. To some extent, in fairness, we probably view investment liquidity as something of a pejorative by virtue of the fact that it represents capital that doesn't earn any rate of return for the company or its shareholders. So we have fairly minimal investment liquidity right now, which is a good thing, in our estimation.

Just to be clear, when we say investment liquidity, we're talking about cash on the balance sheet, not the relative liquidity or salability of investments on the balance sheet, to be clear what we're talking about.

Yes, initially, cash on the balance sheet and then a step further, what would you be willing to churn, what investments would you be willing to sell?

Yes, absolutely. Well, I mean without meaning to -- without wanting to identify specific assets that could sort of harm our positions from a trading perspective, we do have some more liquid positions, both syndicated loans and some of our CLO investments have actually become substantially more liquid than they were at the point when we bought them, and they've also -- some of them have also appreciated fairly well in price. So to the extent that we did want to raise liquidity for the purpose of making new investments of any description, we have, in our view, a reasonable ability to do just that. That said, there are no specific investments that I think we're looking to sell today, because we're very happy with the composition of the portfolio as it sits.

The next question we have comes from Donald Gimbel of Carrett Asset Management.

One question about the expenses line. I noticed that both professional fees and general and administrative fees, although they're not huge, have increased quite dramatically. Could you focus on that for a minute, please?

Sure, Don. The single biggest driver on professional fees is -- are audit fees. The kind of the standard for the audit work on any of these illiquid securities has really, really changed over the past year, I would say. It was always with a pretty high standard, but the level of work that the auditors are doing is much more extensive than it used to be. And frankly, to some extent we have some legal fees that are, I would call them one time or no longer to be recurring for some special things we are working on. So I expect that absent audible [ph] continue to be higher than it has in prior years. I expect that some of the other professional fees will come back to normal levels. On the other expenses, you're right, it's not a big number, but we just finished our proxy season, and our proxy process required us to adjourn the meeting, make a lot of phone calls, get the shareholder vote up and frankly, it's a recovery to this side that's a relatively expensive proposition.

This will conclude our question-and-answer session. At this time, I'd like to turn the conference back over to management for any closing remarks. Gentlemen?

Thanks very much. We'd like to thank everyone for their interest and their attention and invite anyone who has any follow-up questions to feel free to contact us directly. Thanks very much and look forward to speaking again next quarter.

And we thank you, gentlemen, for your time. The conference has now concluded. We thank you all for attending today's presentation. At this time, you may disconnect your lines. Thank you and have a good day.