Digging Into The Credit Profile For 10.7% Yielding BlackRock TCP Capital

This article discusses previous portfolio credit issues for one of the higher yielding BDCs.

Also discussed is the potential for additional NAV declines as well as under/overvalued measures for TCPC\'s stock price.

There\'s a good chance that the company will repurchase additional shares if the stock price declines further below its book value, which is now $13.64.

BlackRock TCP Capital Corp (TCPC) has a higher yield due to its previous net asset value ("NAV") declines (discussed later) driving lower stock prices coupled with paying a higher dividend relative to its NAV as shown below:

TCPC consistently over earns its dividend, growing its undistributed taxable income to almost $39 million spillover or $0.66 per share.

Dividend coverage for TCPC is not reliant on fee and dividend income, some of which is amortized over the life of the investment, reducing the potential for “lumpy” earnings results.

Previously, management indicated that the company will likely retain the spillover income and use for reinvestment and growing NAV per share and quarterly NII rather than special dividends. However, management recently mentioned that the shareholder approval to increase leverage will likely drive higher earnings and “will continue to assess our dividend policy going forward”:

For the quarter ended June 30, 2019, TCPC reported between its base and best case projections covering its dividend by 113% that included

$0.05 per share of income related to prepayment premiums

and accelerated original issue discount amortization. However, there was a meaningful increase in the amount payment-in-kind (PIK) income (from 5% to 10% of total income) and needs to be watched.

The non-accrual loans to

(discussed later) were partially taken out of investment income during Q2 2019 and was easily offset by

higher-than-expected portfolio growth

and dividend income during the quarter.

As shown below, TCPC’s portfolio is highly diversified by borrower and sector with only three portfolio companies that contribute 3% or more to dividend coverage:

On August 6, 2019, the Board re-approved its stock repurchase plan to acquire up to $50 million of common stock at prices below NAV per share, “in accordance with the guidelines specified in Rule 10b-18 and Rule 10b5-1.” During Q1 2019, there were only 9,000 shares repurchased, and in 2018, the company repurchased only 73,416 shares for a total cost of $1.0 million. There's a good chance that the company will repurchase additional shares if the stock price declines below NAV again which is now $13.64 (reduced asset coverage ratio and higher leverage can be used for accretive stock repurchases).

On February 8, 2019, shareholders approved the reduced asset coverage ratio allowing higher leverage and reduced management fee to 1.00% on assets financed using leverage over 1.00 debt-to-equity, reduced incentive fees from 20.0% to 17.5% and hurdle rate from 8% to 7% as well as “continue to operate in a manner that will maintain its investment-grade rating.”

TCPC continues to lower its cost of capital, and in May 2019 expanded its credit facilities by $50 million each for a total increase in capacity of $100 million as well as reducing the rate on its SVCP Facility by 0.25% to LIBOR + 2.0% and extended its maturity to May 6, 2023.

As of June 30, 2019, available liquidity was $237 million, including $227 million in available leverage capacity and $22 million in cash and cash equivalents, reduced by approximately $12 million in net outstanding settlements of investments purchased. However, effective August 6, 2019, the company expanded the total capacity of its SVCP Facility by $50.0 million to $270.0 million. On November 7, 2018, Moody's Investors Service initiated an investment grade rating of Baa3, with stable outlook. On November 8, 2018, S&P Global Ratings reaffirmed its investment grade rating of BBB-, with negative outlook. Both ratings

include consideration of the Company's reduced asset coverage requirement

.

Most of the NAV declines have been over the last five quarters and mostly due to five investments discussed in previous articles:

and most recently

.

During

Q2 2018

, NAV per share decreased by $0.29 per share or 1.9% due to net unrealized losses of $20.5 million (or $0.35 per share) from:

During

Q3 2018

, NAV per share decreased by $0.10 per share or 0.7% due to net unrealized losses of around $10 million primarily from three of the same investments as the previous quarter including:

Similar to other BDCs during

Q4 2018

, NAV per share decreased by $0.38 per share or 2.6% mostly due to “market value adjustments across the portfolio, which were primarily non-credit related and a result of the market volatility at year-end” as well as unrealized losses of:

During

Q2 2019

, NAV per share declined by $0.54 or 3.8% mostly due to:

I'm not expecting additional NAV declines related to most of these investments due to:

It should be noted that TCPC now has investments in 104 portfolio companies and that a certain amount of credit issues is to be expected.

However, Fidelis still accounts for around 1.3% of the portfolio and $0.37 per share of NAV and is included in my 'watch list' discussed later.

Management discussed Fidelis on the recent call including

making

changes to management

:

The overall credit quality of the portfolio remains strong, with 92% of the portfolio in senior secured debt (mostly first-lien positions) and low non-accruals and low concentration risk:

Management has been slowly growing the portfolio (or shrinking if needed) and only investing in “the right type of structures with protections including covenants.”

The primary advantages for TCPC investors are its investor-friendly fee structure protecting total returns to shareholders on a cumulative basis by taking into account capital losses when calculating the income incentive fees (“total return hurdle”) and lower cost of capital, which have resulted in superior dividend coverage, previous special dividends and growing undistributed ordinary income.

On August 6, 2019, the board re-approved its stock repurchase plan to acquire up to $50 million of common stock at prices below NAV per share, “in accordance with the guidelines specified in Rule 10b-18 and Rule 10b5-1.” During Q1 2019, there were only 9,000 shares repurchased and in 2018, the company repurchased only 73,416 shares for a total cost of $1.0 million.

The company has the ability to issue shares below NAV but I do not see this as a “red flag” given the quality of management.

I consider TCPC to have higher quality management for many reasons including its updated fee agreement, conservative dividend and accounting practices (recognizing fee income over the life of the investment), insider ownership, strong underwriting standards and measured approach when raising and deploying capital.

Similar to other externally managed BDCs, TCPC previously benefited from having access to a broader credit platform, Tennenbaum Capital Partners. The combination with BlackRock has additional benefits to the overall platform including access to scale, relationships, and expertise which has advantages including incremental fee income and higher investment yields.

As mentioned in "Building A Retirement Portfolio With BDCs Currently Yielding 10.6%," interest rates will likely remain low and investors will continue to need equity investments (stocks) to generate an adequate portfolio yield. BDCs pay higher-than-average yields with the average yield currently near its average of 10.1% over the last seven years as shown below. However, higher quality BDCs typically have lower yields closer to 9.0% due to safer portfolios that are more likely to outperform during an economic slowdown, stable-to-growing book values, excellent dividend coverage and management that is willing to do the right thing, including shareholder-friendly fee agreements. However, patient investors can get higher yields by taking advantage of volatility (and underpriced BDCs).

For the reasons discussed in this article, the previous NAV declines were likely not indicative of future performance and TCPC deserves to trade at a premium to book value with a yield that is historically lower than the average. TCPC's yield is currently 10.7%, which is currently well above the average BDC and its historical average, implying that the stock is

relatively under priced

.

There's a good chance that the company will repurchase additional shares if the stock price declines further below NAV which is now $13.64, especially with the reduced asset coverage ratio for higher leverage that can be used for accretive stock repurchases.

Last week, the stock went ex-div and its relative strength index ("RSI") is currently 45 indicating heading into oversold territory as well and could go lower for additional purchases:

I am/we are long TCPC.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.