FS KKR Capital Corp. Stock Price

FS KKR Capital Corp. (NYSE:FSK) generates a 12.5% yield because it and its markets are not well understood. It had its worst year with loss in 2018. Management has made changes and the stock has stabilized at around $6 per share. The market cap is about $3 billion. FSK is a strong buy.

The Business

FSK, as the business is commonly called, is a private loan company. Its market is companies with an EBITDA between $25 and $50 million, which are mid-market companies. Its businesses diversified lending to about 200 clients in 24 industries. The top 10 clients represented 20 % of the portfolio.

As a business grows, it tends to outgrow FSK because larger companies can get lower cost money from bank syndication. FSK loans come with collateral and covenants. They want secure performance. They are not looking for equity growth. The interest rate is critical.

The following puts the type of loans in perspective with higher risk alternatives.

LOGO

Source: FS KKR

Financial Results

As the following table indicates, 2018 was their worst year. It resulted in the replacement of the advisor, who does the analytical work and makes the recommendations to grant or not grant a loan with specific covenants and collateral. They expect much better results in the future, but that does not mean there will be no losses. In the second quarter, realized and unrealized losses totaled $15 million dollars. However, other gains of $21 million made them put the per share cost at zero.

FSK had a net investment income of about nineteen cents a quarter. Large losses occurred in 2018. In 2019, losses have been incurred after netting out the gains.

Source: FS KKR

Table by Author

The total asset value was increased by double after the problems and the last year. The number of shares were doubled to two five hundred and twenty thousand. There will be a small buy back.

Analysis

The loans come with collateral requirements so that if a client ran into trouble the loan would usually be paid in full. FSK is doing quarterly reviews of the performance of their clients. For example, they looked at the effect of tariffs on Chinese goods on the clients in the second quarter. They found that most of the clients with imports coming in from China were raising as much cash as possible to import before the tariffs hit. The consumer and retail sectors were the type of clients where this problem occurred but FSK does not feel that the stability of the clients would be materially affected.

Typical Collateral Structure

LOGO

Source: FS KKR

In order to keep the risk low, they will monitor performance. If they believe the client in question is too close to the covenants to be comfortable, they will let them know well in advance. They will not be bidding on the renewal of the loan so that the company has plenty of time to make other arrangements. They are more interested in security and safety than they are in market share.

Growth Potential

FSK has authorized an increase of leverage from the current seventy seven percent to two hundred percent. However, that will be a slow action as time goes on. Currently, they have bonds of investment grade at fixed interest. Most of their debt is indexed to LIBOR. Most of the loans are also at variable rates. Therefore, if interest rates drop, the revenue and costs will decline.

Longer term, increasing leverage should increase the stock price as the interest income will be greater. There’s a limit to that because the higher the leverage, the more risk the company has. The decline of earnings as a result of losses in 2018 caused the stock to drop as well as lower the book value. This limited the loan portfolio volume so better earnings results are sure to improve the stock price. However, it probably will be less than a dollar. In the next year, a prudent person would assume no appreciation in stock value.

Conclusion

The banks have limited their exposure to this market. Competition has not been exceptionally heavy and they are able to insist on collateral and covenants. This has left them in the enviable position of having a strong position in this market. This will allow them to continue to have an excellent dividend yield. FSK is a strong buy.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.





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