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Prospect Capital Corporation Earnings: Numbers Fail to Impress

It wasn't an impressive quarter from Prospect Capital Corporation (NASDAQ: PSEC  ) .

The business development company reported net investment income of $0.25 per share for the quarter ended in June, missing analyst expectations by $0.07 per share. Net investment income also failed to cover the company's monthly dividend, which tallies to roughly $0.33 per share, per quarter.

What happened?
The biggest impact to net investment income came from a decline in new originations. Prospect Capital previously said it would suspend its at-the-market stock sales, which left the company with little firepower to make new investments.

Structuring fee revenue, which closely follows origination volume, fell to $5.2 million from $24.5 million in the previous quarter. The $19.3 million swing amounts to about $0.055 per share in net investment income.

A portfolio company bankruptcy also negatively affected earnings. In the annual report filed on Monday, the company explained that its second-lien debt investment in New Century Transportation was written down to zero, as it does not "expect liquidation proceeds to exceed the first lien liability."

Because of writedowns and dividends in excess of investment income, Prospect Capital's net asset value per share stood at $10.56 on June 30, down from $10.68 on March 31.

Are other problems brewing?
Notably, terms on some of Prospect's biggest portfolio companies have changed dramatically. First Tower Holdings, a subprime personal lender and a significant part of the Prospect Capital balance sheet, may be showing signs of trouble.

First Tower refinanced its line of credit into a new subordinated loan at 17% interest, of which 10% is cash, and 7% is paid in kind. Previously, First Tower paid Prospect 20% in cash on its line of credit. Approximately $23.7 million of the refinanced debt was converted into equity during the quarter.

Typically, paid-in-kind loans are seen as riskier to the creditor, because they don't require cash interest to be paid. Rather, the borrower can "pay" the interest by rolling it into the loan balance. Likewise, a debt-for-equity swap has historically preceded future writedowns for some of its largest portfolio companies.

And finally, in what isn't at all a new story for business development companies, Prospect Capital's underlying investment yields fell to an average of 12.1%, down from 15.3% at the same time last year. Virtually every BDC has struggled with declining yields in middle-market lending.

Wait for the conference call
The company has planned a conference call on Tuesday, Aug. 26, at 11 a.m. ET. The call should provide some insight into the losses at New Century Transportation, changes to First Tower's financing terms, and the company's plan to use its at-the-market stock sales to drive origination income.

Investors were clearly unhappy following earnings. Shares dropped 3% in after-hours trading, a big move for a BDC like Prospect, which has typically traded within a relatively tight band to its last-reported net asset value per share. 

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9/2/2015 4:00 PM
PSEC $7.57 Down +0.00 +0.00%
Prospect Capital C… CAPS Rating: ****