BlackRock TCP Capital: 9% Dividend Yield, Well Hedged (NASDAQ: TCPC)

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There was a psychological test conducted in 1972 called the “marshmallow test”, in which Stanford professor Walter Mischel offered children a choice between one marshmallow now or two marshmallows after a while. The research purports to show that children who chose to wait tended to have higher SAT scores and better body mass index as adults.

This study, however, was challenged by a later study that was 10 times the sample size, showing only half the effect of the original study, and even Mischel himself challenged the predictive power of its own study in 2020.

This, of course, has parallels with investing, as investors often have to choose between a higher return now or a lower current return with the “promise” of a higher return on the cost line. Both strategies have their merits, but sometimes it can be a good idea to take the “marshmallow” now. This brings me to BlackRock TCP Capital (TCPC), which may make sense for investors who prefer higher yield today.

TCPC: 9% return, get your marshmallow now

BlackRock TCP Capital is an externally managed BDC that was created after renowned asset manager BlackRock (BLK) acquired Tennenbaum Capital Partners LLC. TCPC is managed by BlackRock, which has $155 billion in assets under management across all credit asset classes globally and 241 global credit investment professionals. As such, TCPC benefits from the credit expertise, brand and global reach of big brother BLK.

TCPC currently has a $1.8 billion fair value portfolio that is diversified across 106 portfolio companies. The investment portfolio is managed prudently with 90% senior secured loans, of which 77% are senior. TCPC also emphasizes investing in non-cyclical industries with strong covenants, helping to give it less downside risk.

The investment portfolio is also well diversified, with more than half of the portfolio companies contributing less than 1% of recurring revenue. As shown below, TCPC’s top industries include the growing or generally stable Internet, Financial/Consumer/Business Services and Software sectors, which together account for 53% of the fair value of the portfolio.

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Composition of the TCPC portfolio

Company Website

TCPC also has a good track record of return on capital. This is reflected in its 10.7% annualized return on invested assets since 2011. As shown below, investors since the IPO have experienced a nearly 100% return in the context of an NAV stable and cumulative dividends paid.

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NAV and dividends of TCPC

Company Website

Notably, TCPC currently earns more than its dividend by generating $0.32 in NII/share in the third quarter, more than covering its quarterly dividend rate of $0.30. Non-accruals remain low, representing only 1.0% of the fair value of the portfolio.

Net asset value per share decreased by $0.12 quarter over quarter to $14.09. I’m not overly concerned though, as this was driven by a loss of $6.2 million, or $0.11 per share, associated with the prepayment charge on the early redemption of the 2022 notes.

This can be seen as a prudent move, as interest rates are expected to rise this year, and TCPC took advantage of rates when they were still low in August by issuing $150 million of 2.85% notes due. in 2026. $175 million notes that TCPC repurchased during the third quarter carried a higher interest rate of 4.125%, thus saving interest on the spread.

Going forward, TCPC is well positioned to take advantage of a rising rate environment, as 94% of its debt investments are floating rate and 90% carry interest rate floors, providing as well as downside protection. TCPC also maintains a well-funded balance sheet with a net regulatory leverage ratio of 1.01x, well below the regulatory limit of 2.0x. The CEO and CFO expressed optimism about current market trends, as I highlighted on the recent conference call:

Direct lending and the broader private capital markets have clearly emerged from the global pandemic as a reliable and well-positioned source of funding for a wide range of businesses. As has generally been the case at times, other avenues of funding have been less accessible, but now it appears to be an even more systemic change as more companies turn towards private credit as the main source of capital.

We continue to work with a wide range of companies looking to finance their growth, make acquisitions or simply refinance existing debt. We also believe that our investors benefit from these efforts, as our direct lending investments continue to provide a reliable and resilient source of income.

Tenure has clearly become a differentiator. And from a risk management perspective, these are companies that we already know and understand very well and so we’re comfortable making these follow-on investments. As we analyze new investment opportunities, we continue to emphasize seniority in capital structure, portfolio diversity and transactions where we can act as lead or co-lead manager. file.

Risks to TCPC include macroeconomic pressures, which could disproportionately impact BDC’s portfolio companies due to their small size (compared to publicly traded companies). In addition, increased competition for transactions could lead to yield compression.

In addition, the external management structure may lead to conflicts of interest. That said, I find the base fee structure to be reasonable at 1.5% of gross assets (less cash). Additionally, the base fee is structured to reduce additional fees when the leverage ratio exceeds the 1.0x threshold, as shown below.

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TCPC Fee Structure

Company Website

I see value in TCPC at the current price of $13.65 with a price-to-book ratio of 0.97x. Given TCPC’s track record, I would target a valuation between 1.0 and 1.1x. Analysts have a consensus Buy rating with an average price target of $15.18, implying a potential one-year total return of 20%, including dividends.

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TCPC Price-to-Book

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Key takeaway for investors

BlackRock TCP Capital is a well-managed BDC that is externally advised by a highly respected global asset manager. Its net asset value/share has rebounded solidly since the start of the pandemic, and the dividend is covered by NII. Going forward, TCPC should benefit from favorable demand and presence with existing portfolio companies. I see value in TCPC at the current high income price.

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