Last quarter investors learned of a rapidly developing non-accrual problem at Triangle Capital Corporation (NYSE: TCAP). It put four investments on non-accrual in a single calendar quarter, raising doubts about the company's ability to sustain its current dividend of $0.54 per quarter. That inevitably put the spotlight on its fourth quarter results.
With the release of its fourth quarter earnings, Triangle Capital reported net investment income of $0.55 per share, covering its current dividend. Analysts expected net investment income of $0.51 per share.
Some nuances in the company's income
Net investment income is what's left over after costs (interest on debt, compensation, general overhead, etc.) are deducted from total investment income. It tends to be a good indicator of how much a BDC could reasonably pay in dividends to investors -- and dividends are what BDCs are all about.
In the fourth quarter, Triangle Capital had some "unusual" contributors to total investment income, namely a larger than normal amount of dividend income.
On the conference call, management suggested that as much as $0.08 per share in dividend income would be classified as "unusual." That is, income that it wouldn't expect to earn on a recurring basis. Pull that out and you'd get something in the neighborhood of $0.48 to $0.49 per share (rounding by the management team) in what could be considered relatively steady-state earnings power.
So, net of unusual dividend activity, the company's steady-state earnings are in the range $0.48 to $0.49 per share. Some relatively significant improvements need to happen to get back to earning more in net investment income than it pays out in dividends.
Checking in on non-accruals
I highlighted four non-accrual assets last quarter. With the annual report in hand, it's a good time to check up on how these investments evolved since Sept. 30, 2014.
|
Asset |
Changes? |
Notes |
|---|---|---|
|
PartsNow! |
New $4 million equity investment, which was immediately marked to $0. |
Marked down by $734,000 during the quarter for a net unrealized change of $4.7 million when the $4 million investment is added back in, or about $0.14 per share. |
|
Tomich Brothers |
Gone |
Carried at 21% of its cost in the third quarter, Triangle recovered about 15% of its cost basis in the fourth quarter. |
|
PowerDirect Marketing |
Slight increase in its mark from 48% of cost to 52.4% |
No change in cost of investments this quarter. Management indicated that this investment hinged on legislation, which is unlikely to change. |
|
CRS Reprocessing |
Added $2.28 million to the investment. |
Marked down by $3.09 million this quarter. Including the new debt investment, net unrealized depreciation came to $5.37 million, or about $0.16 per share. |
Source: Annual report.
Supporting its poor performers
Last quarter, Triangle management indicated that it planned to support some of its non-accruals with additional investment capital. PartsNow! was identified as one it intended to support and it did so in the fourth quarter.
Triangle tossed in another $4 million via an equity investment and, within the quarter, reduced the equity's fair value to $0. The conference call yielded some insight that the mark might be a little conservative as it doesn't necessarily account for the "optionality" of upside with equity investments. But either way you slice it, it is a little concerning to see Triangle add $4 million to the investment then value it at a $734,000 discount to its value from last quarter. It's as if the $4 million (and then some!) fell into a black hole of investment capital.
Remember, PartsNow!, like many of its portfolio companies, was private equity-sponsored. If the buyout firm didn't want to throw money at it, why would Triangle? There's a big hurdle to overcome here.
New non-accruals and poor performers
In addition to the company's existing non-accruals, it also added one more asset to the list of PIK non-accruals. It is no longer recognizing PIK interest from a loan to Capital Contractors, but it is currently recognizing cash interest. (The loan pays 12% in cash plus 2% paid-in-kind.) Given that the debt investment is now carried at $6.7 million compared to a cost of $9.5 million, this investment may be further impaired in future quarters and go on full non-accrual.
Another portfolio company, Eckler's Holdings, rounds out the list of needle-moving credit fluctuations. After valuing the equity at $0 previously, Triangle took the debt down to 77% of cost compared to 100% last quarter. It isn't on non-accrual, and management sees it improving already in the current quarter, but it will be one to put on the credit watch list.
All in all, non-accrual and PIK non-accrual assets make up 4.1% of the portfolio at fair value and 6.6% at cost.
Going into 2015...
The topical story is that Triangle Capital covered its dividend with net investment income and all is well. But when you break down its fourth quarter report, it becomes clear that 2015 is going to have to be a rebuilding year.
The company will likely fail to earn its dividend with net investment income in the first quarter of 2015; its management team basically admitted that on the conference call.
But that doesn't mean there isn't reason to be optimistic. At this point, its lingering non-accruals have probably -- hopefully -- been marked to as low as they'll go. In addition, the company ended the quarter leveraged at about 0.85 to 1, so investors should expect it to expand its balance sheet in 2015, make new investments, and begin to make up the deficit between its dividends and steady-state earnings power.
The company made sure to point out on the call that roughly half of its investment portfolio was originated in the last year -- it'll take time for these investments to "season" before capital gains and losses can be tallied. If there is any consolation, though, it's that the company's below-average expense ratio and above-average investment yield allows it to make a few mistakes in underwriting and still deliver an industry-beating return.
