WhiteHorse Finance, Inc. (NASDAQ:WHF) Q1 2024 Earnings Call Transcript May 8, 2024
WhiteHorse Finance, Inc. beats earnings expectations. Reported EPS is $0.4779, expectations were $0.46. WhiteHorse Finance, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good morning. My name is Mike, and I will be your conference operator today. At this time, I would like to welcome everyone to the WhiteHorse Finance First Quarter 2024 Earnings Conference Call. Our host for today’s call are Stuart Aronson, Chief Executive Officer; and Joyson Thomas, Chief Financial Officer. Today’s call is being recorded, and a replay is available through a webcast in the Investor Relations section of our website at whitehorsefinance.com. At this time, all participants have been placed in a listen-only mode, and the floor will be opened for your questions following the presentation. [Operator Instructions] It is now my pleasure to turn the call over to Robert Brinberg of Rose & Company. Please go ahead.
Robert Brinberg: Thank you, Mike, and thank you, everyone for joining us today to discuss WhiteHorse Finance’s first quarter 2024 earnings results. Before we begin, I would like to remind everyone that certain statements, which are not based on historical facts made during this call, including any statements relating to financial guidance, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Because these forward-looking statements involve known and unknown risks and uncertainties, these are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements. WhiteHorse Finance assumes no obligation or responsibility to update any forward-looking statements.
Today’s speakers may refer to material from the WhiteHorse Finance first quarter 2024 earnings presentation which was posted to our website this morning. With that, allow me to introduce WhiteHorse Finance’s CEO, Stuart Aronson. Stuart, you may begin.
Stuart Aronson: Thank you, Rob. Good morning, and thank you for all of you for joining today. As you’re aware, we issued our earnings this morning prior to market open, and I hope you’ve had a chance to review our results for the period ended March 31, 2024, which can also be found on our website. On today’s call, I’ll begin by addressing our first quarter results and current market conditions. Joyson Thomas, our Chief Financial Officer, will then discuss our performance in greater detail, after which we will open the floor for questions. I’m pleased to report continued strong performance for the first quarter of 2024. Q4 GAAP net investment income and core NII was $10.8 million or $0.465 per share, which more than covered our quarterly base dividend of $0.385 per share.
This represents a slight increase from Q4 GAAP and core NII of $10.6 million or $0.45 per share. NAV per share at the end of Q1 was $13.50, representing a 1% decrease from the prior quarter. NAV per share was negatively impacted by net markdowns on our portfolio totaling $5.2 million, the majority of which related to a markdown in equity warrants in Seagate Corporation, which I will discuss shortly. The NAV decrease was partially offset by the excess of core NII over our quarterly dividend. Turning to portfolio activity in Q1. Gross capital deployments totaled $55 million with $44.7 million funding five new originations and the remaining $10.3 million funding add-ons to existing investments as activity remained reasonably strong. In addition to the add-ons, there were $0.8 million in net fundings made for revolver commitments.
Of our five new originations in Q1, two were sponsored deals and three were non-sponsor deals with an average leverage of approximately 3.5 times debt-to-EBITDA. All of these deals were first-lien loans with an average spread of 730 basis points at an average all-in rate of 12.6%. I note that both of these statistics are attractive from a historical and current market perspective. During the quarter, the BDC transferred two of these new deals and one existing investment to the Ohio STRS totaling $8.5 million. At the end of Q1, 99% of our debt portfolio was first-lien senior secured, and our portfolio mix was approximately two-third sponsor and one-third non-sponsor, which is consistent with the prior quarter. In Q1, total repayments and sales were $43.4 million, primarily driven by five complete realizations and one partial realization.
We expect repayment activity to remain relatively high, particularly for credits that are more than two years old, where call protection has expired or is more limited. In some cases, deals will be repriced, and we will evaluate risk and return on a case-by-case basis to determine whether we want to follow credits into the current more aggressive market environment. Thus far in Q2, we’ve had 115 — sorry, we’ve had $15 million in full repayments and sales. With repayments in JV transfers, mostly offsetting our deployment activity, the company’s net effective leverage increased slightly to 1.19 times and remains below the lower end of our target leverage range. So long as our portfolio remains heavily concentrated in first-lien loans, which have lower risk than second-lien loans, we expect to continue to run the BDC and up to 1.35 times leverage.
With that in mind, I’ll now step back to bring our entire investment portfolio into focus. After the effects of net repayments and STRS JV transfers, as well as $0.8 million in net mark-to-market increases and $6.1 million of realized losses. The fair value of our investment portfolio was $ 697.9 million at the end of Q1. This compares to our portfolio of fair value of $696.2 million at the end of the previous quarter. The weighted average effective yield on our income producing debt investments was 13.7% as of the end of Q1, unchanged from the end of last year. We continue to utilize the STRS JV successfully. The JV generated investment income to the BDC of approximately $4.8 million in Q1, up from $4.2 million in Q4. As of March 31, the fair value of the JV’s portfolio was $309.4 million.
And at the end of Q1, the JV’s portfolio had an average unlevered yield of 12.4% consistent with Q4. The JV is currently producing an average annual return on equity in the mid-teens to the BDC. We believe WhiteHorse’s equity investment in the JV provides attractive returns for our shareholders. Transitioning to the BDC’s portfolio more broadly, there were some markdowns in the portfolio during Q1. Most notably, there was a $3.5 million markdown to our equity investment in Seagate Corporation. We exited the Seagate loan several years ago and due to covenant defaults at the time, we were granted warrants equal to at least 17% of the company. I should note that we had no cash basis in these warrants. In any event, Seagate went out of business in Q1, and we therefore mark the warrants down to zero.
There were some other modest markdowns in three other credits, including in new cycle solutions, also known as Naviga, which was placed on non-accrual in the quarter. Markdowns were more than offset by reversals of aggregate prior unrealized losses upon the realization in Crown Brand second-lien investment and the restructuring of Atlas purchaser, which is also known as Aspect Software. We resolved the Crown Brands loan in Q1 by selling it back to the sponsor who is running the company. Although, the loan was sold at a discount, we were able to sell it at a price that it was a premium to where the loan had been valued at the end of Q4. We also participated in the restructuring of our position in Atlas purchaser, also known as Aspect Software, which resulted in a portion of the investment — resulted in a portion of the investment to incur a realized loss.
New cycle was the only credit moved to non-accrual during the quarter. And at the end of Q1, investments on non-accrual totaled 1.3% of our debt portfolio at fair value compared with 2% — 2.5% at the end of Q4. Naviga is in a sale process and values for the company of unexpectedly come in at a modest discount to the value of the debt. We have, therefore, marked the asset to a level that we think is consistent with where the company will be sold. American Crafts and Arcserve remain on non-accrual status. You may recall that we have a controlled position in American Crafts and we along with other lenders took control of Arcserve earlier in Q1. We are continuing to work with our restructuring resources and our private equity resources to turn those companies around to maximize value.
The trends we’re seeing in both these accounts are positive relative to where they were one quarter ago. Across the portfolio, generally, we see balanced activity in terms of credit performance and remain overall pleased with the health and relative stability of our debt portfolio. The cyclical accounts are continuing to be surprisingly strong and the accounts that are having trouble are either facing the consumer market or have idiosyncratic problems that we have discussed in the past. As always, we remain vigilant in monitoring our portfolio of companies. We have not seen demand weakness in other sectors, including general industrial, B2B, health care, TMT or financial services. Additionally, our portfolio includes mostly non-cyclical or like cyclical borrowers.
We hold no direct exposure to oil and gas, auto, new home construction or restaurants. The vast majority of our deals have strong covenant protection, and we are finding that in most cases, the private equity firms we partnered with are supporting their credits with new cash or contingent equity as needed. Turning to the broader lending market. Lenders have gotten significantly more aggressive in terms of credit, documents and price, a continuation of the trend that we saw emerging in Q4. As Q1 progressed, we saw a modest increase in M&A activity coming out of the sponsor market and the non-sponsor market. Despite that modest increase, there is still a significant supply demand imbalance in favor of borrowers since directing lending shops that are coming off of core volume members in 2022 and 2023 are trying to make sure they hit their budgets and again, are willing to be more aggressive to make that happen.
We’ve definitely seen a shift all the way from broadly syndicated market into upper mid-market and also the mid-market and lower mid-market. The degradation of the market has the most severe in the sponsor market, where leverage is up 0.5 turn to 1 turn and loan-to-value is now 55% to 65%. More middle market deals are being done with no financial covenants and pricing has come down 100 basis points to 150 basis points from last quarter. This decline came suddenly, and we have not seen a reversal of that in Q2. The upper mid-market has seen prices decline to where deals are now priced at SOFR 450 to SOFR 525. The mid-market lower mid-market are pricing deals more in the range of SOFR 500 to SOFR 575. The shift in the non-sponsor market has thankfully been less dramatic.
Credits are still at 3 times to 4.5 times leverage and pricing has come down by only about 50 basis points. What we have seen over time is that the non-sponsor market is less volatile than the sponsor market because there’s less competition and it’s harder for lenders to access the non-sponsor market. As I alluded to earlier, the deals that we did in 2022 and 2023, for the most part, still have call protection, and we’re doing a good job of holding on to prices we captured in those years when the markets were much more favorable to lenders with pricing typically at 650 to 750 on both sponsor and non-sponsor deals. In the current market environment, we’re being very cautious in our deal sourcing with on-the-run sponsors and our focus remains on the off-the-run sponsor market and non-sponsor business where market terms remain comparatively more attractive.
Because of our ability to access the off-to-run sponsor market and non-sponsor market, we are still commanding higher prices than what you see in the upper mid-market or mid-market in general. With respect to the broader economy, recent data indicates that inflation will continue at a higher level than what the Fed is targeting. We agree with the current thinking that there will be somewhere between 0 to 2 rate cuts in the balance of the year, probably happening later in the year. As a result, we expect slower economic growth through 2024 and into 2025. The year started out slowly in terms of pipeline, which is normal from the beginning of the year, but we did enter the year with a decent backlog of deals, most of which were non-sponsor. Our pipeline has grown as we move through the first half of the year due in part to our sourcing model, which allows us to source deals in corners of the market where there is less competition, including the off-to-run sponsor market in the non-sponsor market.
Our 3-tier sourcing architecture continues to provide the BDC differentiated capabilities, and we continue to derive significant advantages from the shared resources and affiliation with H.I.G, who is a leader in mid-market and lower mid-market. Whitehorse has approximately 22 origination professionals located in 11 regional markets across North America. The strength of the origination pipeline enables us to be conservative on our deal selection. Following the repayment activity in Q1, the BDC balance sheet has approximately $40 million of capacity for new assets at our target leverage range. The JV has approximately $50 million of capacity supplementing the BDC’s existing capacity with the move in the market deals that are priced below SOFR 600 are targeted to the JV, those prices at 600 or above are largely targeted from the BDC balance sheet.
We’re actively working on 11 new mandates and add-on acquisitions of the new platform mandates, the majority are non-sponsored deals. While there can be no assurance that any of these deals will close, all of these mandates could fit within the BDC or JV should we elect to transact. Subsequent to quarter end, we have closed two new originations and three add-ons to existing portfolio companies with several more pending. Of the new originations, one investment was transferred to the JV during the second quarter. We also transferred two add-on investments to the JV in the second quarter. In short, activity continues to pick up, and we remain cautiously optimistic that the market will remain conducive to Whitehorse. Despite sustained concerns of economic softening, we believe we are well positioned to continue to source attractive opportunities, navigate economic challenges due to our rigorous underwriting standards and continue delivering to our shareholders.
With that, I’ll turn the call over to Joyson for additional performance details and a review of our portfolio composition. Joyson?
Joyson Thomas: Thanks, Stuart, and thank you, everyone for joining today’s call. During the quarter, we recorded GAAP net investment income and core NII of $10.8 million, or $0.465 per share. This compares with Q4 GAAP NII and core NII of $10.6 million or $0.456 per share and our previously declared quarterly distribution of $0.385 per share. Q1 fee income was unchanged quarter-over-quarter at $0.6 million. Q1 amounts were primarily comprised of $0.5 million of amendment fees, the majority of which came from an amendment fee from [indiscernible] (16:52). For the quarter, we reported our net increase in net assets resulting from operations of $6 million. Our risk ratings during the quarter showed at 77.6% of our portfolio positions carried either 1 or 2 rating, slightly lower than the 77.7% in the prior quarter.
As a reminder, our one rating indicates that the company has seen its risk of loss reduced relative to initial expectations and a 2 rating indicates the company is performing according to such initial expectations. Regarding the JV specifically, we continue to grow our investment. As Stuart mentioned earlier, in the first quarter, we transferred two new deals at one existing investment, totaling $8.5 million in exchange for cash proceeds for the same amount. Additionally, during the quarter, two existing portfolio company investments fully realized in the portfolio. And as a result, as of March 31, 2024, JV’s portfolio helped positions in 34 portfolio companies with an aggregate fair value of $309.4 million compared to 34 portfolio companies at an aggregate fair value of $312.2 million, as of December 31, 2023.
Subsequent to the end of the first quarter, the company transferred three investments to the JV, including one new portfolio company. The investment in the JV continues to be accretive to the BDC’s earnings, generating a mid-teens return on equity. During Q1, we did see an elevated amount of income recognized from our JV investment, which aggregated to $4.8 million during the quarter as compared with approximately $4.3 million in Q4 of last year. The approximate $0.5 million increase or $0.024 per share is largely attributable to non-recurring events that occurred in the JV’s portfolio. As we have noted in prior calls, the yield on our investment in the JV may fluctuate period-over-period as a result of a number of factors, including the timing and amount of additional capital investments, the changes in asset yields in the underlying portfolio as well as the overall credit performance of the JV’s investment portfolio.
Turning to our balance sheet. We had cash resources of approximately $20.9 million at the end of Q1, including $10.2 million in restricted cash and approximately $135 million of undrawn capacity available under our revolving credit facility. As of March 31, 2024, the company’s asset coverage ratio for borrowed amounts as defined by the 1940 Act, was 179.5% which was above the minimum asset coverage ratio of 150%. Our Q1 net effective debt to equity ratio after adjusting for cash on hand was 1.19 times compared with 1.16 times for the prior quarter. Before I conclude and open up the call to questions, I’d again like to highlight our distributions. This morning, we announced that our Board declared a second quarter distribution of $0.385 per share, which is consistent with the prior quarter.
The upcoming distribution, the 47th consecutive quarterly distribution paid since our IPO in December 2012, with all distributions at or above a rate of $0.355 per share per quarter will be payable on July 2, 2024, to stockholders of record as of June 18, 2024. As we said previously, we will continue to evaluate our quarterly distribution, both in the near and medium term based on the core earnings power of our portfolio in addition to other relevant factors that may warrant consideration. With that, I’ll now turn the call over to the operator for your questions. Operator?
See also 20 Countries with the Highest Pupil-to-Teacher Ratio in the World and Top 20 Coal Exporting Countries in the World.
To continue reading the Q&A session, please click here.