Alaris Equity Partners Income Trust (ADUN) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Alaris Equity Partners Income Trust First Quarter 2021 Earnings Conference Call. [Operator Instructions] This call is being recorded on Friday, May 7, 2021. I would now like to turn the conference over to Darren Driscoll. Please go ahead.

Thanks, Collin, and good morning, everyone, and welcome to Alaris Equity Partners conference call and webcast to discuss financial results for the 3 months ended March 31, 2021, as well as a brief corporate update. I'm Darren Driscoll, Chief Financial Officer of Alaris, and I'm joined on the call by Steve King, President and CEO of Alaris. After a short presentation from Steve and I, there will be a question-and-answer session. [Operator Instructions] Before we begin, I need to remind our listeners that all amounts given are in Canadian dollars unless otherwise noted. Listeners are cautioned that comments made today may contain forward-looking information. This forward-looking information is based upon a number of important factors and assumptions, and as a result, actual results could differ materially. Additional information concerning the underlying factors, assumptions, and risks is available in last night's press release, and our MD&A for the period under the headings forward-looking statements and risk factors, copies of which are available on SEDAR at sedar.com as well as our website. Our non-IFRS data is also presented and may differ from the way other companies present. As with the forward-looking statements, please refer to last night's press release and our MD&A for the period for more clarification regarding non-IFRS measures. Okay. Now we've got that important stuff out of the way and I'll go through a handful of highlights for the quarter. Q1 revenue of $32.2 million precisely as guided when we published our year end just in early March. For the comparative period Q1 2020 had $9.5 million of SBI revenue that they paid as a part of the 3 year make haul, which inflated the prior year numbers. Back that out and Q1 this year is up approximately 17% on a per unit basis year-over-year. I have comments specifically to revenue. A new revenue in the quarter of $4.8 million from 3E, FNC, Edgewater, and Brown & Settle and off note a full quarter starting in Q2 from those 4 partners will be approximately $6.3 million. Kimco is paying us full distributions and that includes a positive 6% reset effective January 1. Planet Fitness is still paying us that 40% distribution rate and the weighted average aggregate reset of plus 1% is included in those numbers and really an incredible stat given what has transpired over the last 12 months or 15 months. Also included the quarter common dividends of $383,000 from new partner FNC in Q1 as they have continued their practice of paying monthly dividends and that's what we expect going forward. EBITDA of $34.1 million in the quarter does include a $4 million bad debt recovery in the quarter as we have collected $4 million recently from – USD 4 million recently from Kimco. All the accounts receivable and prom notes that were previously provided for on our financial statements. And that's a direct result of Kimco's exceptional financial performance over the last 15 months. Normalized EBITDA of $28.8 million is an increase of 22.5% on a per unit basis compared to the prior year period. The increase is a direct result of record gross employment of $174 million in Q1, all previously announced and now showing up in our revenue. For perspective, Q4 2020 was $142 million and our largest 12-month calendar year ever was $193 million in 2019. Our payout ratio is at its lowest historical level between 65% and 70%. Our Q1, except of course for last year, is generally a quiet quarter for fair value changes given the proximity to our year-end audit. But we still have few modest increases to report for total of USD 4.5 million at March 31. Kimco is up USD 2.2 million, Global wide media up USD 1.3 million, and Federal Resources up just under USD 1 million. All in about $5.5 million or $0.12 per unit and all generally based on an exceptional outlook and start to 2021. As previously disclosed, as a reminder, Q1 once saw big changes on the borrowing front to match our growth. In 1 year, our EBITDA went from $90 million to over $120 million and in Q1 we did increase that facility from $330 million to $400 million while adding a seventh back to our syndicate. Also, I'll remind everyone we have that covenant flexibility over the next 6 months to navigate around future deployment and the potential and expected redemptions of Kimco and Federal Resources. Those 2 amounts could mean upwards of $200 million in the next quarter or 2. Deployment in Q1 included a handful of new deals that include the common shares in FNC, Edgeware and Brown & Settle along with the straight pref deal in 3E. Related to the common, we did update our disclosure MD&A as our expectations for our common dividends is different in each case. But other than Planet Fitness and Brown & Settle in the near term, we do expect cash yield on those common shares over the long term. We assumed a small amount on our run rate but since they're discretionary, it's hard to build in to our -- until we see regular pattern. Of note, we are very different dividend paying habits ranging from FNC being as monthly, Amur twice a year, and Carey and others annually. It will not be in every deal we do and we will continue to have it only being a small portion of our capital deployed. From a partner update standpoint, the portfolio does continue to shine. Weighted average ECR is approaching 1.75x and at its best level historically. Still, 15 of 20 partners at 75% have an ECR of 1.5, and now 8 of those 15 or over 2x. Our Planet Fitness is on track to restart full distributions in July, and nothing assured but membership numbers and EBITDA are ahead of forecast and governance trending towards compliance for the June 30 measurement date and that would improve our payout ratio by about 5% to under 65%. Kimco is maintaining its successful run. Revenue and EBITDA continue at all-time high levels of paying us full distribution and even paid us at USD 4 million, I mentioned earlier. And with our support they're actively looking for sources to take us out. It could be between USD 60 million to USD 80 million and a significant gain over our book value that's just over USD 40 million. We would need to transact to realize that, but they are a few more steps closer to that since we last spoke. Again, nothing is assured, and if nothing transpires we will continue to collect our contracted and growing yield and our distributions would be collected over time rather than the redemption of that. I should also note that the Kimco redemption will have almost no impact on our payout ratio because of all the unlocked value that I just described. Federal Resources, another company that is exploring redemption alternatives, nothing imminent nor assured, but a redemption would be above our book value over $100 million and resulted in above average IRR well above our historical average of 16% over the term of the investment. Federal Resources' redemption impact on the payout ratio is more significant than Kimco, but would largely depend on the timing of other pre-deploying that cash. The common issue of these 2 redemptions would provide over $200 million, as I mentioned that would reduce our debt levels and more importantly provide additional capital for reinvestment into 2021. Just a couple of quick comments on the weaker U.S. dollar and the impact it has on Alaris. As it relates to those expected redemptions I mentioned, it will just be a paper impact. We will simply be paying U.S. denominated debt, so the only impact you will just see and -- is on a non-cash basis in our financials. As for future quarters, softness does impact our revenue but we do have over $30 million in forward contracts over the next 12 months at around $1.33, so you'll see some realized FX gains over the next few quarters that will offset a good chunk of that softness that we're seeing today. Our outlook for Q2. Cost of revenue of $33.89 million, and as we mentioned at year end our G&A did spike in 2020 due to the trust conversion and some additional legal bills, and we do expect a more normal G&A expense a year of $12.5 million and our Q1 total G&A of $2.4 million is well in line with that expectation and down about $0.5 million from the same quarter last year. Those are my comments on the financials, and I'll pass it over to Steve before we go to Q&A.

Great. Thanks very much, Darren, and thanks, everybody, for tuning in. Obviously looking at our portfolio I certainly haven't seen a time in our 17-year history where literally every company in our portfolio is trending positively. It's early in the year but I'll -- in addition to the name that Darren mentioned, I'll also highlight that GWM, Body Contour and FNC are 3 of our larger partners that are all experiencing exceptional growth this year. All 3 companies are well on the way to maximum resets for 2022, and very largely seen the numbers based on current run rates. We're also in an interesting crossroads as it relates to our balance sheet Darren has mentioned along with our capital deployment program. So we spent $355 million over the last 12 months, which is by far a record pace, and we've got $300 million and change drawn on our bank facility. So from the outside it appears that we don't have too much more room without going back to the equity markets, which is not true obviously. And Darren has touched on Kimco and Federal Resources and they're roughly $200 million we expect from those. So that will have a huge impact not only on our book value but also fund the majority of our expected deployment over the next course of this year. So based on transactions that are in progress, we could be in a position over the next few months of less than $200 million drawn on our debt facility and still have a payout ratio below 70%, which is extraordinary. So these redemptions are important to us because DSO continues to come in at a record pace. Multiples being paid by traditional private equity firms at an all-time high and competition is fierce. But we do continue to have success because of the one-of-a-kind structure that we've created specifically for entrepreneurs who don't want to give up control of their business. We expect to remain active through the rest of this year, not just with new partners, but we also have several current partners that are active in current acquisition processes that will require further capital from Alaris. So exciting time for us and our shareholders. And Collin, I'll turn it over to you for questions.

[Operator Instructions] Your first question comes from Nik Priebe from CIBC Capital Markets.

Just a couple of questions on Planet Fitness Growth Partners, in the event that they resume for distributions in July, would there also be a plan to catch up on previously deferred distributions and if so, I assume it will be consistent with your prior treatment where those revenues would only be recognized when they're received, just to comment on that would be helpful.

Yes, Nik, there is a plan. The plan is to get full distributions going starting July and then there is a plan to start catching up of about $200,000 a month starting in January of 2022. They also campaign more if they have more cash to do that, but that's kind of the plan that we've set in place obviously subject to bank covenants and things like that, but that's the plan. And you are correct, we will only record that as it comes in and so that will provide us a little extra boost to the first handful of quarters in 2022.

Okay. Got it. That's helpful. And then I think, you had pointed out that it would improve the payout ratio about 4% that's already building on an all-time low, so I'm just wondering how you're thinking on the longer-term payout ratio has evolved throughout the pandemic like, I presume it's partly a function of the deployment opportunities you have in front of you and you discuss that a little bit, but just interested to see how your thinking has evolved in that front?

I think our strategy is to keep our payout ratio below 70% long term, so we'll plan it coming back on and redeploying that capital that's expected to come in. We'll be in a position, I guess, as a Board to make a decision on whether to increase the dividend later this year or just continue to drive our payout ratio down. So we'll have to consider the impact -- the potential impact on our cost of equity and the impact of having a lower payout ratio. So we'll figure that out probably in Q3 time.

Okay. And then last one for me. Just a point of clarification on Federal Resources and the reset like my understanding was that a top-of-the-collar reset was expected but it looks like the Q1 revenue rate was unchanged on a sequential basis. It's possible I misinterpreted that but I just wanted to get some color on that.

It certainly was a top-of-the-collar reset. There are some small nuances from year-over-year. Some people -- some partners may have to catch up sometimes. I do believe probably related to the prior year quarter being a little higher than it should have been and that their minus 6% wasn't properly set. So they are at a current run rate, Federal Resources of USD 11.3 million and that's their -- that should be their regular quarterly dividend going forward.

Your next question comes from Scott Robinson from -- Robertson, sorry, from RBC Capital Markets.

The first question I have is regarding the valuation ranges for Federal and Kimco. First, on Federal, I guess why is the range -- just get a little color on the premium, I thought it was contractual? The second on Kimco. Darren, I think in your opening remarks you said the bottom range of USD 60 million, the press release it says USD 70 million if you could confirm that, and then also what has developed over the past quarter that has led you to increase the range and also narrow it?

Sure. Okay. I'll start with Kimco, and I misspoke on my comments. We certainly don't expect anything towards that part of that range with Kimco based on what we're seeing. So it will be north of USD 70 million as long as -- again, as long as they transact but based on the indications of interest that we're sitting on, I'm taking us out. We're quite positive on that one. For Federal Resources we did have to make a change in our disclosure. There is a strange nuance in the repurchase calculation. So if it's just flat out redemption where they just buy us out, it is $86 million. If there is a third-party sale there is some consideration of a third-party multiple that can bring that down a little bit. And so the range we had to put in, it should reach $75 million to $86 million and -- but we do -- still do expect the higher end of the range. But there is a possibility we get less if there is -- if the redemption does end up being a third-party sale at a lower multiple than we're expecting. But again that was just something that we thought that it's not 100% for sure at $86 million and so we should provide a range, but certainly, we'll be above our book value.

Got it. Okay. That's helpful. And then, I guess looking at the G&A line this quarter was about $2.5 million in the MD&A, you guys are sort of guiding towards $12.5 million, is there some sort of seasonality that we should be aware of or was this quarter just exceptionally low?

Yes. Included in that in that $12.5 million it would be the performance bonus for management, which doesn't hit till Q4 and that's based on percentage of the increase in distributable cash per share. So there is a $1.5 million, basically a placeholder, which is kind of what we put -- paid last year. That would be in Q4, the rest would be as is. So I think Q1 was a little lighter than expected, I think Q2 will also be a little lighter. Again, our travel expenses are still way, way down. We have a conference where we host all of our partners, so that is usually in Q2, that will definitely not be in Q2, might be in Q3 if we can pull it off. But I think sort of $2.5 million a quarter right now is good with a bump in Q4 with an accrual for the discretionary bonus.

Got it. That's helpful. And I guess my last question, switching gears a bit, I see on your website you guys posted ESG report, so thanks for that. I guess, in terms of managing the ESG at Alaris itself but also like investing through an ESG lens, how do you guys think about the potential benefits to Alaris? Do you think it could help you compete more in these bids and deals if you guys have a track record of being an ESG-friendly company, do you think it can get help attract better talent or potentially garner more favorable credit terms? How should we think about that?

I don't see it would help us too much in bidding for new deals, but certainly in terms of attracting -- continuing to attract good talent is something that more and more people are going to look for, and I think it will have an effect on every company's cost to capital. Not just that, but the equity as well. So those are all considerations in getting with the times and making sure that we're leaders in that.

Your next question comes from Gary Ho from Desjardins.

My first question, can you talk a little bit about the capital deployment pipeline on the new investment side as well in terms of the follow-on, next tranche for BCC, where are they at in meeting the financial threshold and/or other on the radar?

BCC has far surpassed the threshold that we would need to do that next tranche. So that would be one of the perspective with the follow-on deals that I was referring to. And they're also doing essentially an acquisition at this time as well. So yes, very exciting times at BCC, not just with that but their organic growth has been phenomenal. So that's one. There is a couple of other companies that -- in our portfolio that have LOIs that are standing on acquisitions that we're working through. So none of them are large on their own, but you add all those follow-ons up and then I think it will have a meaningful impact on our deployment for this year. And then on the new deals side, as I mentioned, our deal flow is at record levels. I think a lot of the industry took some time off at the start of the pandemic last year. It certainly has come roaring back and then some, so that's a positive but it's also a negative. The multiples being paid are at all-time highs. That doesn't affect us as much as other companies in our industry because of our unique structure, but at the margin there is going to be some impact. But we continue to win deals and it's been quite amazing to see over the last 12 months how we've done in extremely competitive processes where we seem to have a very high win percentage in deals where there is 20, 30 bidders. So we're still optimistic on the deployment. But obviously, we only have so much visibility in terms of when deals are going to land. And we've been around long enough to know that we shouldn't give out higher numbers on deals that are hoping to close over the next few months because anything can happen, and we did have to walk away from a couple of deals this year that didn't make it through due diligence. I don't expect that on the ones that we're working on, they're kind of pass that point, but anything can happen.

But it sounds like overall you're fairly confident in redeploying the roughly $200 million that you mentioned from Federal Resources and Kimco over the balance of the year?

That is the least of my worries. We've got lots of deals and in effect we've already kind of pre-spent that money. We wouldn't normally have our debt levels up where they're at. So knowing that those are coming we've kind of freezed out some of those proceeds.

Got it. And then on the flip side, outside of Kimco and Federal Resources, any other potential redemptions on the horizon from your discussions with portfolio partners?

Nothing material in our portfolio that we'd be looking at. Yes. Fleet is one that we've talked about for a while and that is still looking at something but that -- they've been looking for while, so I think there is nothing imminent there, but nothing on the immediate drive.

Got it. And then Darren, just last question, run rate revenue $135.4 million you included a token $2 million in common dividends, is that a conservative estimate, if so what is the upside to common distributions from your $70 million roughly of common equity investment?

Certainly, we view $2 million as conservative. What's the upside, I really don't know. I mean, we've got a company like Carey Electric, it's small but our common investments only $900,000 but we could see something that is quite significant compared to that size of an investment. FNC is paying us a nice monthly dividend, Amur we expect a couple here in June and December. So maybe a couple of million more but somewhere in 2 to 4 is probably a good range, and I hope to get even more but it depends. If you got a company like Brown & Settle that right now we're focused on and balance sheet repayments, and so I think that one longer-term will be a very good dividend payer. But right now isn't so. Just really too hard to peg and forecast and just because as I mentioned earlier, we have such a wide range of dividend policies as far as timing, so it will be a little lumpy but so we thought we'd sew in $2 million for an annual basis and give us something there to beat.

[Operator Instructions] Your next question comes from Zachary Evershed from National Bank Financial.

You mentioned that Planet Fitness is trending toward bank covenant compliance I'm assuming that they're currently non-compliant, but based on how they're currently trending can you give us an idea of either the level of risk or the cushion, the comfort against a delay in resuming full distributions on the July schedule if we do see some kind of hiccup in the vaccination rollout, for instance?

Yes. I mean I think this is still the one that is without a doubt the most COVID sensitive in our portfolio, so what could get in the way of that I asked that exact question on our update call with Planet Fitness last week and it would be a further lockdown if one of the states that they operate in did revert back. We certainly don't see that in the horizon, so -- but that is something that could get in the way otherwise their membership numbers, their covenant numbers are showing a lots of room. And so we view that as a much small -- the -- really the only --the risk is just a further shutdown or flare up something like that in one of the Washington State, Maryland, Florida or Tennessee.

Yes. They don't need to improve at all from where they're at today, Zac. It's just the bank is just using June 31 as the measurement date. That's all we're waiting for it. And it's one of these times where it is nice to be a Canadian investor in U.S. businesses because we're getting locked down and they're getting opened up. So certainly for our portfolio has meant that we're in a really good place as it comes to COVID kind of input.

Bit of a sneak peek for the reopening.

Yes.

And just one more quick for you maybe on the philosophical side. With the addition of your small common equity investments, obviously your pool of applicants has widened, and do you think that that leads you to be more selective in the quality of your partners or does it really increase the number of deals instead?

Yes. I think I don't know if I'd say more selective. We've always been very selective. But it does require a slightly different lens when you're looking at a deal where because our tests have always been capped on the upside, we've never been too concerned about our company's forecast, huge growth and what not. So we didn't get participate in all that. It's all very nice for the entrepreneur, the common equity owners but we were strictly looking at cash flow stability. Now with a chunk of common on most of these deals. That is a bigger factor for us to evaluate the growth prospects of each of these companies. So still equally selective, but in terms of the overall expected return on investments, you do have to look at it slightly differently now.

Your next question comes from Trevor Reynolds from ACU Capital.

Just a quick one on ccComm. Has there been any change on that front on the back of the T-Mobile and Sprint merger and retail opening up or is that steady as it goes kind of on that front?

Yes. When I mentioned that all of our companies are trending positively that included ccComm, so there their cash flow has improved quite a bit since the merger, and they seem to have kind of made it through the COVID situation and there's been quite a bit of consolidation in the number of stores between T-Mobile and Sprint. There is a kind of a planned closure of a certain percentage of stores and that helps things out as well on an individual store basis, made them more profitable. So yes, we are seeing very good things at ccComm. We're optimistic there.

There are no further questions at this time. I'll turn it back to Steve for closing remarks.

Okay. Thanks, Collin, and thanks again, everybody, for listening in. As always, please contact directly if you have any further questions, but we look forward to coming back in 3 months with more good results. Have a great day.

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating, and ask that you please disconnect your lines.