MCG Capital Corporation Reports Third Quarter 2012 Results and Distribution of $0.125 Per Share
MCG Capital Corporation Reports Third Quarter 2012 Results and Distribution of $0.125 Per Share
As outlined in further detail in this earnings release and in our Quarterly Report on Form 10-Q, for the quarter ended September 30, 2012, the following highlights occurred during the three months ended September 30, 2012:
- Net operating income, or NOI, was $4.1 million, or $0.06 per share;
- Net income was $4.3 million, or $0.06 per share;
- We incurred approximately $0.2 million of costs associated with our transition plan;
- We funded $30.3 million of advances and originations, including $28.0 million to two new portfolio companies;
- We monetized $38.9 million of our debt portfolio;
- At September 30, 2012, we had $173.6 million of cash on-hand to make new investments using unrestricted cash and restricted cash from our SBIC. In addition, we had $10.5 million in securitization accounts and other restricted cash accounts; and
- Under our stock repurchase program, we repurchased and retired 1,252,410 shares of our common stock at a total cost of $5.6 million, or an average of $4.49 per share.
On October 26, 2012, the MCG board of directors declared a distribution of $0.125 per share. The distribution is payable as follows:
Record date: November 16, 2012
Payable date: November 30, 2012
If we determined the tax attributes of our 2012 distributions as of September 30, 2012, 5% would be from ordinary income and 95% would be a return of capital. However, actual determinations of the tax attributes of our distributions, including determinations of return of capital, are made annually as of the end of the fiscal year based upon our taxable income and distributions paid for the full year and will be reported to each stockholder on a Form 1099.
- Board and Management Changes — On October 29, 2012, we announced the election on October 26, 2012 of B. Hagen Saville as our new President and Chief Executive Officer, effective as of November 1, 2012. Mr. Saville succeeds Richard W. Neu, who will remain as Chair of the Company's Board of Directors. Mr. Saville has been the Company's President and Chief Operating Officer since October 2011, before which he was Executive Vice President of Business Development from March 1998 to October 2011. Mr. Saville co-founded the Company in March 1998 and earlier in his career worked in both commercial and investment banking. He became a member of the Board in 2006. In addition, Board members A. Hugh Ewing, III and Wallace B. Millner, III have tendered their resignations effective December 31, 2012, at which point the Board will be reduced from seven members to five.
- Equity Monetizations — For the three and nine month periods ended September 30, 2012, we received $0.3 million and $64.4 million, respectively, in proceeds from the sale of equity investments, principally the sale of securities in each of Orbitel Holdings, LLC, Stratford School Holdings, Inc., GSDM Holdings, LLC and Jenzabar, Inc.
- Loan Monetizations — For the three and nine month periods ended September 30, 2012, we received $38.9 million and $266.9 million, respectively, in loan payoffs and amortization payments.
- Originations and Advances — For the three and nine month periods ended September 30, 2012, we made $30.3 million and $48.1 million, respectively, in originations and advances to new and existing portfolio companies.
- Open-Market Purchases of Our Stock — During the three months ended September 30, 2012, we repurchased 1,252,410 shares of our common stock at a weighted average purchase price of $4.49 per share. During the nine months ended September 30, 2012, we repurchased 5,119,886 shares of our common stock at a weighted average purchase price of $4.38 per share. We acquired these shares from sellers in open market transactions. We retire these shares upon settlement, thereby reducing the number of shares issued and outstanding.
- Operational Realignment — During the three months ended September 30, 2012, we incurred costs associated with our transition plan of $0.2 million, consisting of $0.1 million in retention and inducement payments that we recorded as salaries and benefits and $0.1 million in severance related expenses that we recorded as general and administrative expense. For the nine months ended September 30, 2012, we incurred $7.2 million, or $0.10 per share, of costs associated with our transition plan. Upon completion of the transition service periods for several of our employees, we anticipate completing our staff realignment such that we will have approximately 20 full-time employees. As of October 15, 2012, we had 23 full-time employees and one part-time employee.
- Liquidity and De-Leveraging Actions —In the third quarter, we continued to reduce our leverage by using $90.7 million of securitized cash to repay borrowings under our Commercial Loan Trust 2006-1. As of September 30, 2012, our debt to equity ratio was less than 0.7x and our asset coverage ratio was 481% excluding our small business investment company, or SBIC, debt which is exempt from the asset coverage ratio requirements under an SEC exemptive order.
As previously announced, we anticipate being substantially complete with our transition by the end of 2012, including moving to our new corporate office in November 2012. We are also evaluating a change to our internal investment software systems that we believe will help us further simplify our back office function and reduce the associated long-term carrying cost.
Excluding any residual transition costs and the costs that may be associated with running two information technology systems in parallel for part of 2013, we have finalized and reconfirmed our previous targets to operate with future annual base compensation and benefits levels within our expected targeted range of approximately $4.0 million to $5.0 million and we have identified specific cost reductions that we expect will result in an embedded annual non-compensation cost structure of approximately $5.0 million to $5.5 million.
In the next six months, we anticipate potentially recording approximately $1.8 million, or $0.03 per share, in additional charges related to the final stage of our realignment process, comprised of an estimated $0.3 million related to the termination of our existing corporate lease, $0.6 million to write-off leasehold improvements and other abandoned or obsolete fixed assets, $0.5 million related to the possible termination of a software contract and $0.4 million for staff realignment decisions.
Driven by a pickup in origination activity relative to the level of monetizations projected throughout 2013, combined with the full deployment of liquidity, we continue to anticipate a 2013 NOI earnings level of $0.45 to $0.55 per share. Furthermore, in the third quarter ended September 30, 2012, we submitted documentation to the SBA in support of a potential SBIC license for Solutions Capital II, L.P. There is no assurance that the SBA will grant the additional license in any specified time period or at all.
ACCESS TO CAPITAL AND LIQUIDITY
At September 30, 2012, we had $65.9 million of cash and cash equivalents available for general corporate purposes, as well as $107.7 million of cash in restricted accounts related to our SBIC that we could use to fund new investments in the SBIC and $5.9 million of restricted cash held in escrow. In addition, we had $3.7 million of cash in securitization accounts, that may only be used to make interest and principal payments on our securitized borrowings or distributions to MCG in accordance with the indenture agreement.
At September 30, 2012, cash in securitization accounts included $0.8 million in the principal collections account of our Commercial Loan Trust 2006-1. In October 2012, we used $1.0 million of securitized cash, including $0.2 million collected in October 2012, to repay borrowings of our Commercial Loan Trust 2006-1. The reinvestment period for this facility ended on July 20, 2011 and all subsequent principal collections received have been, and will be, used to repay the securitized debt.
At September 30, 2012, $150.0 million of United States Small Business Administration, or SBA, borrowings were outstanding, the maximum available under our current SBIC license.
RESULTS OF OPERATIONS
The following section compares our results of operations for the three months ended September 30, 2012 to the three months ended September 30, 2011.
COMPARISON OF THE THREE MONTHS ENDED SEPTEMBER 30, 2012 AND 2011
The following table summarizes the components of our net income (loss) for the three months ended September 30, 2012 and 2011:
|Three months ended|
|September 30, 2012||Variance|
(dollars in thousands)
|Interest and dividend income|
|Total interest and dividend income||11,835||19,780||(7,945||)||(40.2||)|
|Advisory fees and other income||234||930||(696||)||(74.8||)|
|Salaries and benefits||2,018||2,683||(665||)||(24.8||)|
|Amortization of employee restricted stock||505||348||157||45.1|
|Total employee compensation||2,523||3,031||(508||)||(16.8||)|
|General and administrative expense||2,504||3,657||(1,153||)||(31.5||)|
|Total operating expense||8,013||14,757||(6,744||)||(45.7||)|
|Net operating income before net investment gain (loss) and income tax provision||4,056||5,953||(1,897||)||(31.9||)|
|Net investment gain (loss) before income tax provision||228||(31,052||)||31,280||NM|
|Income tax provision||18||10||8||80.0|
|Net income (loss)||$||4,266||$||(25,109||)||$||29,375||NM|
Total revenue includes interest and dividend income, loan fees, advisory fees and other income. The following sections describe the reasons for the variances in each major component of our revenue during the three months ended September 30, 2012 from the three months ended September 30, 2011.
The level of interest income that we earn depends upon the level of interest-bearing investments outstanding during the period, as well as the weighted-average yield on these investments. During the three months ended September 30, 2012, the total yield on our average debt portfolio at fair value was 11.1% compared to 10.9% during the three months ended September 30, 2011. The weighted-average yield varies each period because of changes in the composition of our portfolio of debt investments, changes in stated interest rates, fee accelerations of unearned fees on paid-off/restructured loans and the balance of loans on non-accrual status for which we are not accruing interest.
The following table shows the various components of the total yield on our average debt portfolio at fair value for the three months ended September 30, 2012 and 2011:
|Three months ended|
|September 30, 2012|
|Average 90-day LIBOR||0.4||%||0.3||%|
|Spread to average LIBOR on average loan portfolio||10.9||10.8|
|Impact of fee accelerations of unearned fees on paid/restructured loans||0.3||0.6|
|Impact of non-accrual loans||(0.5||)||(0.8||)|
|Total yield on average loan portfolio||11.1||%||10.9||%|
During the three months ended September 30, 2012, interest income was $10.3 million, compared to $17.1 million during the three months ended September 30, 2011, which represented a $6.8 million, or 39.7%, decrease. This decrease reflected a $7.4 million decrease resulting from a 41.8% decrease in our average loan balance, a $0.6 million decrease resulting from the net impact of loans that were on non-accrual status during the three months ended September 30, 2012 that were accruing interest during the three months ended September 30, 2011 and a decrease of $0.3 million due to interest rate floors. These decreases were partially offset by a $1.3 million increase in interest income resulting from a 0.4% increase in our net spread to LIBOR and a $0.2 million increase in interest income related to the increase in LIBOR.
Interest income includes certain amounts that we have not received in cash, such as PIK interest. PIK interest represents contractually deferred interest that is added to the principal balance of the loan and compounded if not paid on a current basis. PIK may be prepaid by either contract or the portfolio company's choice, but generally is paid at the end of the loan term. The following table shows the PIK-related activity for the three months ended September 30, 2012 and 2011, at cost:
|Three months ended,|
|Beginning PIK loan balance||$||5,625||$||15,279|
|PIK interest earned during the period||1,112||2,365|
|Interest receivable converted to PIK||—||230|
|Payments received from PIK loans||(623||)||(2,366||)|
|Ending PIK loan balance||$||6,114||$||15,508|
As of September 30, 2012 and 2011, we were not accruing interest on $1.4 million and $6.2 million, respectively, of the PIK loans, at cost, shown in the preceding table. During the three months ended September 30, 2012, we received payments on PIK loans from five investments. The payments received from PIK loans during the three months ended September 30, 2011, included $1.7 million collected in conjunction with the partial repayment of our investment in Sagamore Hill Broadcasting, LLC, as well as PIK collected from seven other portfolio investments.
We accrete dividends on equity investments with stated dividend rates as they are earned, to the extent that we believe the dividends will be paid ultimately and the associated portfolio company has sufficient value to support the accretion. We recognize dividends on our other equity investments when we receive the dividend payment. Our dividend income varies from period to period because of changes in the size and composition of our equity investments, the yield from the investments in our equity portfolio and the ability of the portfolio companies to declare and pay dividends. During the three months ended September 30, 2012 and 2011, we recognized dividend income of $0.9 million and $1.2 million, respectively. In addition, during each of the three months ended September 30, 2012 and 2011, we received payments on accrued dividends of $0.3 million.
ADVISORY FEES AND OTHER INCOME
Advisory fees and other income primarily include fees related to prepayment, advisory and management services, equity structuring, syndication, bank interest and other income. Generally, advisory fees and other income relate to specific transactions or services and, therefore, may vary from period to period depending on the level and types of services provided. During the three months ended September 30, 2012, we earned $0.2 million of advisory fees and other income, which represented a $0.7 million, or 74.8%, decrease from the three months ended September 30, 2011. This decrease resulted from a decrease of $0.7 million in advisory fees due to our lower investment activity in the third quarter of 2012 compared to the third quarter of 2011.
TOTAL OPERATING EXPENSES
Total operating expenses include interest, employee compensation and general and administrative expenses. The reasons for these variances are discussed in more detail below.
During the three months ended September 30, 2012, we incurred $3.0 million of interest expense, which represented a $1.0 million, or 24.9%, decrease from the same period in 2011. Interest expense for the three months ended September 30, 2012 decreased $1.8 million due to a lower average borrowing balance in the third quarter of 2012 offset by a $0.8 million increase due to an increase in the average spread to LIBOR in the third quarter of 2012.
Employee compensation expense includes base salaries and benefits, variable annual incentive compensation and amortization of employee stock awards. During the three months ended September 30, 2012, our employee compensation expense was $2.5 million, which represented a $0.5 million, or 16.8%, decrease from the same period in 2011. Our salaries and benefits decreased by $0.7 million, or 24.8%, due to a $1.0 million decrease in salaries and benefits primarily resulting from a 42% reduction in our workforce that occurred as part of the corporate restructuring that we implemented during 2011 offset by an increase in incentive compensation of $0.3 million.
GENERAL AND ADMINISTRATIVE
During the three months ended September 30, 2012, general and administrative expense was $2.5 million, which represented a $1.2 million, or 31.5%, decrease compared to the same period in 2011. General and administrative expense for third quarter of 2011 included professional fees paid for portfolio related litigation and other corporate initiatives that did not occur in the third quarter of 2012.
NET INVESTMENT GAIN BEFORE INCOME TAX PROVISION
During the three months ended September 30, 2012, we incurred $0.2 million of net investment gains before income tax provision, compared to $31.1 million during the same period in 2011. These amounts represent the total of net realized gains and losses, net unrealized appreciation (depreciation), and reversals of unrealized (appreciation) depreciation. We reverse unrealized (appreciation) depreciation at the time that we realize the gain or loss. The following table summarizes our realized and unrealized gain and (loss) on investments and changes in our unrealized appreciation and depreciation on investments for the three months ended September 30, 2012:
|Three months ended September 30, 2012|
|Advanced Sleep Concepts, Inc.||Home Furnishings||Affiliate||$||—||$||(2,618||)||$||—||$||(2,618||)|
|Cruz Bay Publishing, Inc.||Publishing||Non-Affiliate||—||1,987||—||1,987|
|PremierGarage Holdings, LLC||Home Furnishings||Control||(5,371||)||—||5,371||—|
|Other (< $1 million net gain (loss))||(23||)||1,017||(135||)||859|
- In the third quarter of 2012, we recorded $2.6 million of unrealized depreciation on our investment in Advanced Sleep Concepts, Inc., to reflect a decrease in that portfolio company's operating performance.
- We also recorded $2.0 million of unrealized appreciation on our investment in Cruz Bay Publishing, Inc., to reflect an improvement in that portfolio company's operating performance.
- In addition, during the three months ended September 30, 2012, we wrote off our preferred and common equity investments in PremierGarage Holdings, LLC resulting in a realized loss of $5.4 million and a reversal of previously recorded unrealized depreciation of $5.4 million.
The remaining unrealized depreciation and appreciation shown in the above table resulted predominantly from a change in the performance of certain of our portfolio companies and the multiples used to value certain of our investments.
The following table summarizes our realized and unrealized (loss) and gain on investments and changes in our unrealized appreciation and depreciation on investments for the three months ended September 30, 2011:
|Three months ended September 30, 2011|
|Broadview Networks Holdings, Inc.||Communications||Control||$||—||$||(24,697||)||$||—||$||(24,697||)|
|Jet Plastica Investors, LLC||Plastic Products||Control||—||(5,637||)||—||(5,637||)|
|Intran Media, LLC||Other Media||Control||—||(1,959||)||—||(1,959||)|
|Total Sleep Holdings, Inc.||Healthcare||Control||(38,081||)||—||38,054||(27||)|
|Stratford School Holdings, Inc.||Education||Affiliate||—||2,217||—||2,217|
|GSDM Holdings, Corp.||Healthcare||Non-Affiliate||—||1,857||—||1,857|
|NDSSI Holdings, LLC||Electronics||Non-Affiliate||—||1,277||
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