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BlackRock Capital Investment Corp (NASDAQ:BKCC)
Q4 2019 Earnings Call
Mar 5, 2020, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning. My name is Kathy, and I'll be your conference facilitator today for the BlackRock Capital Investment Corporation Fourth Quarter 2019 Earnings Call.

Hosting the call will be Chairman and Interim Chief Executive Officer, James Keenan, Interim Chief Financial Officer and Treasurer, Michael Pungello, General Counsel and Corporate Secretary of the Company, Laurence D Paredes, Marshall Merriman, Head of the Portfolio Management for BlackRock's US Private Capital Group, Jason Mehring, Chairman of the US Private Capital Group's Investment Committee and Nik Singhal, Head of Investor Relations and Business Strategy.

[Operator Instructions]

Thank you. Mr. Paredes, you may begin your conference call.

Laurence D. Paredes -- General Counsel and Corporate Secretary

Good morning and welcome to BlackRock Capital Investment Corporation's fourth quarter 2019 earnings conference call.

Before we begin our remarks today, I would like to point out that certain comments made during the conference call and within corresponding documents contain forward-looking statements subject to risks and uncertainties. Many of these forward-looking statements can be identified by the use of words such as anticipates, believes, expects, intends, will, should, may, and similar expressions. We call to your attention the fact that BlackRock Capital Investment Corporation's actual results may differ from these statements. As you know, BlackRock Capital Investment Corporation has filed with the SEC reports, which lists some of the factors, which may cause BlackRock Capital Investment Corporation's results to differ materially from these statements. BlackRock Capital Investment Corporation assumes no duty to and does not undertake to update any forward-looking statements.

Additionally, certain information discussed and presented may have been derived from third-party sources and have not been independently verified. Accordingly, BlackRock Capital Investment Corporation makes no representation or warranty with respect to such information. Please note, we've posted to our website an investor presentation that complements this call. Shortly, Jim will highlight some of the information contained in the presentation. The presentation can be accessed by going to our website at www.blackrockbkcc.com and clicking the March 2020 Investor Presentation link in the Presentations section of the Investors page. I would now like to turn the call over to Jim.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Thank you, Larry. Good morning and thank you for joining our fourth quarter earnings call.

I will start with an overview of the meaningful progress we have made on our core strategy and give an overview of the performance during the fourth quarter. I will then turn it over to Mike Pungello, our Interim CFO, to discuss the financial results in more detail before providing some closing remarks and opening the call to questions.

To reiterate, our goal continues to be to optimize our NII and reshape the portfolio to provide a stable stream of income with little volatility. Our strategy involves exiting non-core positions, redeploying into core income producing senior secured investments, and increase our target leverage to create a diversified stable portfolio. We achieved significant progress on these strategic objectives in 2019. Our net leverage ratio increased from 0.36 times to 0.70 times, bringing it closer to our desired leverage levels. During the year, we had gross deployments of $304 million including first or second lien loans to 25 new portfolio companies. At the same time, portfolio composition improved meaningfully with increased diversity and increased income producing secured investments.

The number of portfolio companies increased from 27 to 47. First lien investments increased from 24% to 34% by fair market value, and secured investments increased from 47% to 57%. We accomplished this, as the non-core exposure declined to 16% of fair market value, compared to 33% at the beginning of 2019. As we announced last quarter, the company's Board of Directors approved a reduction of the company's minimum asset coverage requirement from 200% to 150%, after careful consideration of the progress made in achieving our strategic goals of the exiting non-core assets and improving portfolio mix. With the support of the Board, we intend to also seek shareholder approval for the same at the annual meeting of stockholders to be held on May 1, 2020. Additional information will be provided in our proxy statements, which we expect to file shortly.

If shareholder approval is obtained, then the reduced asset coverage shall become effective the day after such approval. We believe that the added leverage flexibility will allow the company to continue to pursue its goal of improving return on equity while creating a more diversified portfolio of secured income producing investments. As we achieve further progress with non-core exits, we will endeavor to prudently increase leverage from current levels with a steady state leverage target of 0.95 times to 1.25 times. With the added flexibility, we will continue to increase diversity in the portfolio with a target portfolio account 65 to 75 names and increasing the percentage of first lien investments in our book to greater than 50%, although other factors may impact the portfolio composition at any given time.

At the time that the reduced asset coverage becomes effective, we intend to lower the base management fee rate for the company from 1.75% to 1.50%, with an additional reduction to 1.00% on assets that exceed 200% of NAV. Additionally, at the same time, we intend to reduce the rates for incentive fees based on income and capital gains from 20% to 17.5%. The company has benefited from the significant investments made by the advisor across our platform and sourcing channel including the integration of Tennenbaum Capital Partners, along with other resources within BlackRock. The advisor now has over 50 investment professionals dedicated to our US middle market direct lending strategy. It is our intention to continue to invest in additional sourcing and underwriting capabilities. Additionally, our ability to co-invest with certain affiliates under our co-investment order is enabling the company to construct a more diversified portfolio with reduced idiosyncratic risk, and we expect this trend to continue.

We remain confident in the continuation of our strategy of creating shareholder value through a more stable income oriented book. We believe that this strategy will result in improved return on equity and bring the earnings power of the company in mind with the sector, while driving enhanced shareholder returns.

Turning to the fourth quarter results. The net investment income for the quarter was $0.14 per share. We deployed $73 million during the quarter, which was offset by repayments and other exits totaling $38 million for an approximately $35 million net increase in the portfolio due to investment activity. During this quarter, we added a total of five new names to the portfolio, which are detailed along with repayments in our earnings press release. With the net deployment activity this quarter, the portfolio now has a fair market value of $750 million, across 47 companies. The weighted average yield of income producing securities at fair market value was 10.9% as of December 31, down 5 basis points since last quarter.

Quarter-end leverage was 0.70 times, increased from 0.61 times from the prior quarter. We have ample liquidity of $187 million to support new investment activity and we have no debt maturing until 2022. Net asset value decreased 2.5% from $6.49 per share last quarter to to $6.33 per share as of December 31, driven by net unrealized and realized losses of $11 million. These markdowns were largely related to non-core legacy investments in the portfolio, including $9 million related to the company's legacy investment in AGY Holding Corp. AGY's markdown was in part driven by reduced profitability due to a significant and atypical spike in one of the metals used in their production process.

I will now discuss our progress on rotating out of the legacy non-core portfolio, which as of December 31 reduced to 16% of the portfolio by fair market value, down from 18% last quarter. This part of the book is comprised of, first, performing debt and income producing securities at 13% by fair value with AGY first lien, Sur La Table and Red Apple stores being the three largest holders, second, non-earning equities at approximately 1% by fair value primarily consisting of US Well equity, and third, investments on non-accrual at 2% by fair value including AGY, second lien and preferred stock, Advantage Insurance preferred stock and Advanced Lighting second lien.

During the fourth quarter, $1.6 million of proceeds were realized from the partial redemption of Advantage Insurance preferred stock. Since BlackRock began managing the company in March of 2015, our team has deployed approximately $1.3 billion into new investments, $421 million of which has been exited with a realized IRR of 14.1%. As of December 31, over 84% of the company's investment portfolio by fair market value constitutes investments made by BlackRock.

Before I turn the call over to Mike Pungello, I'd like to emphasize the company's continued transformation and progress toward the strategic objective. As evidenced by the strong deployments in 2019, increased diversity in the portfolio and improved portfolio composition, each of which is a trend that we expect to continue.

Over to you, Mike.

Michael Pungello -- Interim Chief Financial Officer and Treasurer

Thank you, Jimmy. I will take a few minutes to review additional financial and portfolio information for the fourth quarter of 2019.

GAAP net investment income, NII, was $9.6 million or $0.14 per share for the three months ended December 31, 2019. Relative to distributions declared of $0.14 per share, our NII distribution coverage was 100% for the quarter. Total investment income decreased $1.5 million or 7.4% as compared to the fourth quarter a year ago. Excluding fee income and other income, total investment income decreased by approximately 5.9% primarily attributable to a decrease in dividend income from BCIC Senior Loan Partners, and a decrease in interest income from AGY second lien notes as a result of its non-accrual status. At quarter end, there were four non-accrual investments representing 2.4% and 6.9% of total debt preferred stock investments at fair value and cost respectively. This compares to non-accrual investments of approximately 1.6% and 7.1% of total debt and preferred stock investments in fair value and cost respectively at December 31, 2018.

Our average internal investment rating at fair market value at December 31, 2019 was 1.39, as compared to 1.38 as of the prior quarter-end. Total expenses increased $0.6 million or 7% for the three months ended December 31, 2019 from the comparable period in 2018, primarily due to increases in net incentive fees based on income and interest in credit facility fees. During the quarter, there was no accrual for incentive management fees based on gain.

In the fourth quarter we voluntarily and partially waived incentive fees of $1.1 million, bringing our cumulative incentive fees waived since March 2017 to $23.4 million. In the fourth quarter, net realized and unrealized losses were $11.2 million, primarily due to depreciation and non-core legacy investments in portfolio valuation during the quarter. During the fourth quarter of 2019, no shares were repurchased. As of December 31, 2019, 5 million shares remained available for repurchase under the current program. We closed the quarter with a strong liquidity position to fund our robust pipeline of new investment opportunities, including approximately $187 million of availability under our credit facility adding cash and cash equivalents.

With that, I would like to turn the call back to Jimmy.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Thank you, Mike.

Before we conclude, I'd like to comment on the uncertainties in the economy created by the impact of the COVID-19, or coronavirus, as well as its potential impact on our portfolio. A wide range of outcomes are possible regarding the speed of the virus contagion as well as its harmfulness. Irrespective, we believe that near-term disruptions are likely in several industries with first order impact, such as those where the supply chain or manufacturing is impacted and those where demand will likely suffer such as travel, leisure, live events or conferences.

We believe that our portfolio has relatively less exposure to businesses with first order impact, with potentially only one portfolio company in the transportation and logistics sector reporting tangible decline in business activity reportedly due to COVID-19. We are monitoring each of our investments closely and expect that the impact will become clearer to businesses over the course of the next several weeks as more data becomes available regarding the virus as well as its impact.

We get comfort in, one, the underlying diversity of our portfolio, and two, the fact that the majority of the portfolio investments are secured. The underlying portfolios of the largest unsecured and equity exposures, such as BCIC Senior Loan Partners and Gordon Brothers Finance Company are also diversified secured debt position.

In closing, I would like to take a moment to thank our shareholders for their continued support as we make progress on the company's strategy, and recognize our team for the continued hard work toward achieving our portfolio objectives. This concludes our prepared remarks. Operator, we would like to open the call for questions.

Questions and Answers:

Operator

[Operator Instructions]

And we'll go over first to Rick Shane of JP Morgan.

Richard Shane -- JP Morgan -- Analyst

Hey guys, thanks for taking my questions this morning. Really, two things. The strategy and portfolio location in part is -- the way you guys describe it is to reduce idiosyncratic risk. And subsequently that suggests that you are shifting sort of from an alpha strategy to a beta strategy. Is that a good way to characterize it? And does that make sense sort of more of an indexed approach given the fee structure?

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Thanks. Rick, it's Jim. I wouldn't describe it as trying to move toward the beta strategy. I think when we looked at the legacy portfolio or the historical style, it has taken far more concentrated positions into more equity oriented or distressed risk in a portfolio that was trying to produce a more stable or income stream. So, we've seen that in the experience with regards to the legacy book and the volatility that has and marks that the volatility may have on the NII stream and the potential risk of impairments associated to that. When you look at our team and our structure, and what we are trying to rotate into, I would say our conversion rate of the deal flow that we see is probably around between 5% and 7% at any one period of time. And there's a significant amount of work that gets done. So, I wouldn't look at any one of the positions as being beta-oriented. There's a fair amount of diligence and structuring and protections that are built-in.

That being said, relative to reducing some of the vulnerability that exists in the kind of the broad market and the economy over a period of time relative to these liquidity investments, we're trying to get more diversification associated to that. Right. And remember that we are co-investing a long side a variety of different strategies within the advisor. So, we are taking significant positions within any one of these assets, but we are translating that from a portfolio construction to having a more diversified -- heavy selection, but a more diversified portfolio to reduce any kind of outside risk that we've seen happen to anyone that we've experienced in some of the legacy books. And I think that will lead to a more consistent NII and dividend stream in the future.

Richard Shane -- JP Morgan -- Analyst

Got it. And presumably the other aspect of that, I think the challenge has been -- you guys have been fair about waiving fees in order to support the dividend out of NII. But I think there is a challenge that's being -- is on the math side. And presumably, the other part of this strategy is to reduce that downward pressure that we've seen on that over time.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Absolutely. Yes, we have waived just north of $23 million in fees over the last several years. And the intent there is to continue to work through that transition of that legacy book. And yeah, if you look at all the new investments that have been made since March of 2015, they've been far more stable, a lot less risk of impairment. And the impairment of the NAV volatility as well as the NAV destruction has come from legacy assets that were bought by the prior advisor. So I don't -- our goal is to reduce that experience and limit that experience on a go forward basis.

Richard Shane -- JP Morgan -- Analyst

Got it. So that's my one question and follow up. Thank you, guys.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Thanks, Rick.

Operator

And now, we will go to Fin O'Shea of Wells Fargo Securities.

Finian O'Shea -- Wells Fargo -- Analyst

Hi, good morning. Thanks for taking my question. Could you guys give us some background on the added investment in Gordon Brothers this quarter?

Jason A. Mehring -- Managing Director

Sure. Hey, it's Jason. As it relates to our incremental investment in Gordon Brothers is they continue to make incremental investments in their own diversified portfolio. We fund incremental capital to support said investments. So, I think what you would see from quarter-to-quarter is you may see some fluctuation as that portfolio either increases in size or decreases in size.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

[Indecipherable] The nature of that portfolio inside of Gordon Brothers is a more shorter duration secured portfolio. So we tend to have -- and you'll see this quarter-by-quarter, a frequency of both deployments and repayments into that vehicle, because the duration of those assets are shorter tenure than what we see in our profit earning book.

Finian O'Shea -- Wells Fargo -- Analyst

And did that come with any contribution from third-party investors, or were you just...?

Jason A. Mehring -- Managing Director

We have a partnership with the other shareholder in that business whereby when we make incremental investments to support their growth, it's made alongside that investor. But we have not added new investors to the mix.

Finian O'Shea -- Wells Fargo -- Analyst

Okay, thank you. And on the -- Jim, you mentioned one of your distribution related companies post quarter has felt a direct impact from slowdown in that sort of activity. Can you give us any guidance as to what may expect, what might be the unrealized impact in real-time today?

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Thanks, Fin. Obviously, I think we along with everyone are trying to assess the true and potential impact of the coronavirus as it rolls into the United States and more globally. And I would say the range of outcomes is pretty broad based on the potential spread and the impact that we see, but even more so from an economic standpoint, it is the level that which the response to that or the means of which governments, corporates and local municipalities are trying to go into prevention mode from the overall spread. So, obviously we're trying to assess all of our companies, we try to highlight some of the areas where I think we have generally minimal exposure at the overall portfolio level. But things that are -- I think whether it's more congregation of human beings, obviously the airlines and the lodging spaces and convention centers are all more at risk. There's going to be some volatility associated to supply chains, which I think will be more temporal. And everything that will be -- an area where there'll be some dispersion between industries.

So, what we are looking at right now is some of our portfolio complex will actually see some benefits based on probably a pull forward in demand. And then, there are other areas that we think are a little bit more vulnerable. And I wouldn't say, we've necessarily seen that all come to fruition yet, but we do think that over the next couple of quarters, as we start to assess the data around that prevention, there could be some volatility around some of the earnings of certain industries that we have. It's tough to call the magnitude now at this point in time.

Finian O'Shea -- Wells Fargo -- Analyst

Okay. Thank you. And just one final question. You renewed the buyback program. Can you give us some color on how you are viewing that lever today and context of where you are in legacy, rotation, leverage, evaluation and so forth?

Nik Singhal -- Managing Director

Yes. Hi Fin, it's Nik. So our share repurchases are conducted under a 10b5-1 plan with pre-established terms, which are set by the Board. So last quarter, the plan was in effect. However, the repurchases are not triggered based on the terms of the plan. That's the plan we reevaluate every quarter and the Board does. And the goal of our plan is really twofold. One is to provide stability in the stock price in the event of market dislocation and also to buy back stock at attractive yields. So, that continues to be a part of our strategy. We are -- the other key components of our strategy are, one, reducing non-core assets, which over the last three quarters we've made significant progress and exiting Vertellus and de-risking Sur La Table, and reducing our exposure to Advantage Insurance, etc., and also redeploying and increasing leverage more at current target levels and really diversified senior secured income producing investments.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Fin, this is Jim. At a high level, again to the specifics, obviously, we are seeing the pace of deployment start to pick up as we've been reducing that legacy book. And it's now down around 50% [Phonetic] concentrated in those three positions. And the junior parts of those positions tend to be the ones that have the most volatility on a quarter-to-quarter basis from valuation standpoint. So with that, our current leverage is now operating at 0.70 times and that's kind of our comfort level at this point. As we continue to reduce and focus that reduction of that legacy book, obviously, I think we'll take that that leverage up. And we expect, as mentioned earlier, to go to the -- for the 2:1 leverage vote in May of this year. And those -- I would say the deployments would be very similar with regards to the style over the last several quarters. And we would increase that leverage as we reduce that legacy volatility.

Finian O'Shea -- Wells Fargo -- Analyst

Okay. Thanks so much. That's all from me.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Thank you.

Operator

And with that, that does conclude today's question and answer session. I'd like to turn the conference back to our presenters for closing comments.

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Great. And thank you, everyone for all who continue support, as we continue to transition this portfolio. We look forward to the continued progress that we see here. And hopefully everyone stays healthy. And speak to you next quarter. Thank you.

Operator

[Operator Closing Remarks]

Duration: 29 minutes

Call participants:

Laurence D. Paredes -- General Counsel and Corporate Secretary

James E. Keenan -- Interim Chief Executive Officer and Chairman of the Board

Michael Pungello -- Interim Chief Financial Officer and Treasurer

Jason A. Mehring -- Managing Director

Nik Singhal -- Managing Director

Richard Shane -- JP Morgan -- Analyst

Finian O'Shea -- Wells Fargo -- Analyst

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