|Shares Out. (in M):||15||P/E||9.3||8.9|
|Market Cap (in $M):||190||P/FCF||9.3||8.9|
|Net Debt (in $M):||174||EBIT||27||29|
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WHF currently trades at 84.5% of NAV ($15.04 per share) and offers an 11.2% dividend yield. This compares to a peer average of 94% price to NAV and 9.5% dividend yield. We believe the discount to NAV is driven by the fact WHF currently does not earn enough NII to cover its dividend. However, we believe this will change within the next 2 quarters (most likely by the end of 1Q2015) as WHF puts additional capital to work at attractive yields (over 11%). In WHF’s October 2014 presentation, they outline the scenarios where they can cover their dividend – which equates to an investment portfolio of $430-$435mm earning an average yield of 11%. As of 2014 year-end, the portfolio was $403mm earning an average yield of 11.3%. Over the last 4 quarters, they have put an average of $66mm of capital to work each quarter with an average balance of $34mm either being sold or repaid – so a net amount of $32mm per quarter of investments put to work. At this rate, they should cover the dividend by 1Q2015 excluding any out of the norm repayments. We have spoken with management and they are confident they can continue to put money to work at north of 11% yields. Furthermore, our channels checks have shown they are putting money to work at a faster rate this quarter given the dislocation in the high yield market caused by oil’s collapse. As for liquidity and access to capital, at 2014 year end they had $16.1mm in cash and $44.5mm available under their $150mm credit facility which can be expanded to $200mm upon lender consent. They are not interested in raising dilutive equity and believe they can continue to cycle out of lower yield names (less than 10%) and into higher yielding names (greater than 10%).
Overview of Portfolio
WHF’s $403mm portfolio is diversified across 25 industries and 31 individual names. The average investment size is $10.9mm representing an average position of 2.7%. The largest exposures are a 1st Lien Sr Secured loan to Coastal Sober Living, LLC (10.5% position) and a 2nd Lien loan to Future Payment Technologies, LP (8.8% position). Because these companies are private, it’s tough to get a sense for specific details of the businesses but Coastal Sober Living is clearly in the business of offering sober living and therapy to those with addictions. Future Payment Technologies provides transaction processing for small and medium sized businesses. They provide card terminals to customers for free and then charge transaction processing fees for credit, debit and gift cards. They also offer check readers to process checks electronically and provide cash advances to their clients. Below is a picture of one of their terminals – I’m pretty sure everyone has seen a machine like this in their lifetime:
Investments by industry are listed below but the 10-K lists every investment for those who want to take a look. It’s worth pointing out again that 60% of the portfolio is in 1st Lien loans while the remaining 40% is in 2nd Lien loans. I’ll also take this opportunity to point out again that no loan is currently, nor has any loan ever been on non-accrual status.
Concern would obviously come from exposure to Oil & Gas names which make up 6% of the total portfolio. Below I have included the quoted markets for these loans – take this with a grain of salt as the market for small cap bank deals is not very liquid but at least we know WHF’s marks are not wildly inaccurate. Furthermore, if you want to assume these are all doughnuts (arguably too bearish) then NAV is still $13.44 per share, about 106% of the current trading price.
Also topical is the fact that 94% of WHF’s loans are floating rate with LIBOR floors – so this investment will actually benefit from a rising interest rate environment. Within the 10-K, WHF explains what impact rising rates will have on NIM as some liabilities are also floating rate. While most loans have 1.0% LIBOR floors, the first 100bps increase in rates will have a negative impact on NIM as interest expense grows while interest income stays flat until LIBOR goes above 1.0%. However, this impact is minimal, equating to a $709k impact on 2014 NIM of $31.7mm. While we don’t put a high likelihood on this, a 500bps increase in rates would increase WHF’s NIM by $7.2mm vs. the 2014 NIM of $31.7mm. Taking into account fees, G&A, etc. this rate increase would add about $0.32 to NII, which coincidentally would allow them to cover their dividend without putting any additional money to work. Below is a snapshot from the 10-K:
What are the negatives?
I’ve already addressed the Oil & Gas concern so the next industry overhang would be increased competition driving down NIM. While I can’t provide any information that proves this concern completely unfounded, the numbers at WHF don’t support this concern. The average yield on WHF’s portfolio and NIM hasn’t fluctuated much over the past year:
WHF management has stated they continue to see a pipeline of potential investments yielding over 11%, which is no doubt helped by their affiliation with H.I.G. They have arguably been somewhat slow with putting capital to work which has been a reason for the stock overhang (not covering their dividend) however, it makes sense to point out these guys are extremely patient and haven’t chased bad deals to put money to work.
Leverage is also a potential concern – as pointed out in their October 2014 presentation, in order to cover their dividend they will need to have net leverage of 0.87x – 0.90x vs. the regulatory cap of 1:1 and average BDC of 0.79x. While this looks somewhat high in comparison to peers, the leverage is a function of WHF’s focus on 1st and 2nd Lien securities. While all other peers have been dipping into sub debt and the equity slivers of structured securities, WHF has not. Personally, I will take this higher leverage if I can avoid having 15-20% of a portfolio in sub debt and CDO equity.
Lastly, WHF has put $20mm (5% of investment portfolio) in NMFC Senior Loan Program I LLC which is a loan pool managed by New Mountain Finance Corporation (ticker NMFC). The downside to this is WHF is having someone else put their capital to work and paying fees – so equity holders of WHF get hit with fees on top of fees. The mitigating factors here are WHF entered the investment at a 12% yield, the portfolio is 1st Lien securities, and WHF’s capital commitment is capped at the current $20mm – so we will not see this part of the portfolio grow. WHF’s base management fee is 2.0% of gross assets including cash payable quarterly in arrears – however, they have consistently waived the fee on un-invested cash until capital is put to work. Incentive fee has a 7% annualized hurdle rate followed by 100% catch-up paid to the adviser between 7.0% - 8.75% return and 20% of everything above 8.75%. This fee is capped if the cumulative incentive fees over the previous 12 quarters are greater than 20% of the pre-incentive fee income.
In summary, while WHF probably isn’t the most wildly entertaining pitch you may have read recently, it also does not hold a significant level of risk either. Here we have a book of 1st and 2nd lien loans without heavy exposure to oil & gas trading at a larger discount to NAV than peers, and offering a higher yield than peers who have dipped into sub debt and CDO equity to boost returns. Interest rate risk is not a factor and the current overhang of not covering their dividend should be lifted when they report 1Q results.
1Q2015 earnings results which shows management has put additional capital to work which on a run-rate basis will cover the quarterly dividend of $0.355 per share.
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