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spk00: Good day, and thank you for standing by, and welcome to the LARS Q2 2023 earnings release conference call. At this time, all participants are in listen-only mode. After the speaker's presentation, there'll be a question and answer session. To ask a question during the session, you'll need to press star 1-1 on your telephone. You will then hear an automated message advising your hand is raised. To withdraw your question, please press star 1-1 again. Please be advised that today's conference is being recorded. I would now like to introduce your host for today's call, Amanda Frazier, CFO. Please go ahead.
spk07: Thank you, Justin. We appreciate everyone taking the time to join us this morning as we present our Q2 results. I'm joined on this call by Steve King, President and Chief Executive Officer of Alaris. Before we begin, I would like 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 therefore 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 under the headings Forward-Looking Statements and Risk Factors, copies of which are available on CDAR+, as well as our website. Non-IFRS data is also presented and may differ from the way other companies present such data. As with the forward-looking statements, please refer to last night's press release in MD&A for more clarification regarding non-IFRS measures. Now for the Q2 highlights. Q2 revenue of $36.9 million was down 35% over the prior period, driven largely by $17.2 million of deferred Kimco distributions received upon their redemption in 2022. The remaining Q2 2022 revenue of $39.3 million as compared to the Q2 2023 represents a 6.2% decrease over the prior period. Drivers of this decrease include the deferral of the Q2 LMS distributions, which will be resuming in Q3, and a reduction in BCC distributions as a result of the strategic transaction announced last quarter. Cash generated from operations prior to changes in working capital of $28.3 million, with a decrease of 36% over the $44.4 million in the prior period, again mainly as a result of the deferred distributions received from Kimco's redemption last year. After adjusting the Q2 2022 results for Kimco's distributions, the adjusted change in cash from operations prior to changes in working capital is an increase of 4.2%. Also contributing to the adjusted increase in cash generated from operations prior to changes in working capital for Q2 was a 26% decrease in G&A, and after adjusting for the settlement of the sandbox litigation, which was resolved in the quarter, although accrued in Q1, to six months, 2023 G&A amount is down 19%. With ongoing legal and accounting fees returning to historical levels, With the wrap-up of the sandbox matter and salaries and wages based on more normalized operations as compared to an unusually profitable 2022, we expect G&A to maintain these lower levels and have updated our outlook to reflect an anticipated $15.5 million in go-forward 12-month G&A. Quite a few fair value changes in Q2 on a net basis, including the common units, an increase of $9.9 million. as net changes in market rates had a positive impact on discount rates and strong performance in a number of our partners resulted in increases in fair value. We saw increasing fair values for BCC of 8.5 million U.S., Fleet of 4.9 million U.S., and Ohana Growth Partners, formerly Planet Fitness Growth Partners, of 3.6 million U.S. All of these companies continue to see record highs in their respective businesses with significant growth over prior periods. BCC continues to see impressive year-over-year growth with record high activity the past number of months as they execute on their development plan. Fleet has been able to continue to generate increases in syndications through both new customers and growth in current relationships. With a large backlog, their outlook for the remainder of 2023 and 2024 continues to be very positive. Ohana Partners saw a rebound in fair value after a number of quarters with adjustments related to increasing discount rates as a result of movement in the equity risk premium. This coupled with increasing year-over-year memberships and the expectation of a positive reset on the preferred distributions for 2024 gave growth increase in fair value. Offsetting these increases were declines in Axient of $7.7 million US and SCR of $3.5 million. Axient While the business continues to maintain high levels of revenue, pressure on margins and an investment in corporate supports and structure has impacted EBITDA. While they expect month-over-month improvements in results, these pressures are expected to continue throughout 2023. As a result, the common and preferred equity value decreased further in the quarter. As a result of an adjustment to the timing of SDR's project-based revenue, the cash sweep anticipated for 2022 was decreased. SCR's business can be impacted by the timing of project-related work throughout the year. SCR's distributions were previously adjusted to include a monthly fixed distribution and a cash sweep that varies with the profitability of the business. Expectations for future cash sweep distributions have also been revised to reflect current market conditions and resulted in the fair value decline. Results for the first five months are up compared to last year and we expect the last half of the year to remain consistent. Other less significant movements included DNM, Edgewater, and GWM. As previously announced, during the quarter we invested $36.5 US into a new partner, FMP, a professional services firm that provides workforce and organizational management solutions to the public sector. The investment includes $30.5 million US of preferred equity and $6 million US of common equity. This brings our year-to-date deployment to $49.5 million. Subsequent to the quarter, proceeds from excess cash flow were used to repay debt, bringing the outstanding amount to approximately $184 million, resulting in $266 million of available capacity. Our portfolio continues to perform well and has maintained a weighted average ECR of approximately 1.6. Our current outlook calls for $37.6 million of revenue in Q3 and a 12-month run rate of $157.3 million. I'll turn it over to Steve now for his comments.
spk06: Great. Thanks, Amanda. A quarter of very stable results for our portfolio. And as indicated from the fair value adjustments, the value of our portfolio has increased quarter of a quarter. It's around 21 cents a share of net increase in our book value per share from the fair value rate ups. Specifically, we're pleased to see the recovery from LMS, who have worked very hard through their way of short-term inventory issues and then the port strike in the West Coast over the last couple of months. and expect full distributions to return this month. GWM is another company that's come through some underperformance in the past and is now on a very solid trajectory. Our largest partners, BCC and Planet Fitness, Ohana, continue to be among our strongest performers. And I would point out that the decision that we made as management to trade in our traditional preferred shares with a capped growth rate option for preferred shares that are convertible into common shares without any cap has really started to show its benefits with the large rate up this quarter, which we expect more of. On the negative side, as Amanda said, Axient and SCR have been under pressure for very different reasons, so Alaris Management is digging in and helping those companies as much as we can. Overall, we've seen the portfolio wide earnings coverage remain very stable and I would say the bell curve for our 19 company portfolio is a little higher than what you would expect. With half the year already reported in by our partners, we're starting to get a good sense for what our distribution resets are going to be for 2024 and it's looking like another strong year. Looking forward, we've seen a very productive increase in the deployment opportunities from our advisory community after a relatively slow 18-month period, largely attributable to the private equity markets finding its footing amid rapidly rising interest rates. Activity appears to be higher in Q3, and indications from the M&A advisors in the US is that Q4 will be a very busy quarter. Alaris has several transactions in process that we believe will allow us to meet or exceed our deployment targets that we've set for the year. And along with good opportunities, the other part of our growth is access to appropriately priced capital. While our current share price doesn't make equity offerings economic, we are in a very strong position on our balance sheet by using the $266 million on our credit facility as well as our free cash flow that we generate every month. So, Justin, we'll open it up to questions, if you would, please.
spk00: And thank you. As a reminder, to ask a question, please press star 1-1 on your telephone and wait for your name to be announced. to withdraw your question, please press star 11 again. Please stand by while we compile the Q&A roster.
spk01: And one moment for our first question. And our first question comes from Nick Preby from CIBC Capital Markets. Your line is now open.
spk04: Okay, thanks for the question. For companies like LMS that have experienced temporary headwinds, you've demonstrated a willingness to be accommodating regarding a temporary suspension of distributions until cash flow pressures abate. Have you ever contemplated less conventional workout efforts like a conversion of some component of the preferred equity investment into common? Like, is that an option that could be considered to help layer in more common equity exposure over time?
spk06: Yeah, it definitely could, Nick, and it has been considered in the past. And again, In all of these cases, it really depends on what the situation is. In LMS's case, it really was a very, almost a formulaic issue that they had that wasn't We knew exactly what their backlog of orders were, exactly what the margins were on those contracts, exactly what price their inventory was at. We knew, not to the day, but we knew pretty well when this issue was going to resolve itself. We worked with the company and their lenders at BMO to get through it. It all came out in the wash almost exactly as we had hoped. These guys, you know, we've been partners with LMS for 17 years. They've been running this business for over 30. So a lot of familiarity, a lot of trust in that situation. And again, it was a very kind of formulaic type of situation. In other situations where you may not have as good a handle on the outcome, then, you know, Kind of shifting the capital structure like what you suggested could be a good solution for it, but each one has its own kind of story.
spk04: Yeah, okay. No, that makes sense. And then can we spend a little bit of time on DNM leasing, just revisiting that partner? It sounds like higher interest rates are pushing vehicle leasing rates higher, which in turn is having an impact on demand. Is that business also impacted by the chip shortage and the corresponding curtailment of new vehicle supply? Just be interested to hear a bit more about some of the headwinds impacting that business and maybe your outlook there on a go-forward basis.
spk07: It has been impacted by the chip shortage and just the general supply of new vehicles into the market. What we saw last year with high used vehicle pricing and lower interest rates was that a lot of people were able to get out of and renew leases sooner. and get into newer and maybe a step up level of cars just because of the value that was in the used car that they were returning. And that pulled a lot of their volume forward. So their results, I think, in last year and the year before that were quite a bit higher than we were expecting as they were able to turn over their customers faster. Now that we're getting into a period where interest rates are higher, it's really starting to see a lot of people hold onto their vehicles for a longer period of time. although they've been able to bring in a lot of new customers, fill that gap, which, you know, they churn their customers. They have a lot of repeat business. So in the long term, we see this as a big advantage for them. They have seen, you know, those vehicle access improve in the last year. So that's bearing on them a lot less than it had in the past.
spk04: Okay, that's good color. And then last one for me. It sounds like you're optimistic about the pipeline of transaction activity that you have in front of you. Just on the other side of the coin, as you look across the portfolio today, do you see potential for any redemption activity in the second half of the year?
spk06: We don't have anything that's that's on the radar in terms of redemptions. I guess it's one of the nice things about having an unsteady capital markets out there that most companies, you know, know that this is probably not the right time to get their optimal sale price. So, so no, we don't, we don't anticipate any, any redemptions in the second half.
spk04: Yeah. Okay. Very good. That's it for me. Thank you.
spk00: And thank you. And one moment for our next question. And our next question comes from Gary Ho from Desjardins. Your line is now open.
spk01: Thanks. Good morning.
spk02: Steve, let me just start off here, just going back to your comments on the active deal pipeline for the back half of the year. I'm wondering if you can share kind of what you're looking at, any update on the PE environment in general, valuations, and the type of deals that's coming across your desk here.
spk06: Yeah, it's a good cross-section of deals that we've seen. I would say quality has improved. The same kind of comment I was just saying to Nick about the lack of redemptions expected, it's the same thing on the deployment side where we saw a lot of the best companies just stay away from the market for the last 18 months. That seems to be coming back. And I would say the reason they're coming back is because the PE market has recovered quite a bit in terms of valuations. And it is still a very aggressive, competitive environment. And the amount of capital that is... uninvested in PE overrides the fact that credit is still more expensive and tighter than it used to be a couple of years ago. So the liquidity in the private equity industry is still very, very high. And so multiples really have not come down very much from where they would have been pre-interest rate increases. So it's an interesting phenomenon. different industries are treated differently within that. But overall, that's kind of the environment we're seeing.
spk02: Okay, thanks for the color. And then the second question, I just want to touch on the BCC for a sec here. So decent fair value write-up, $8.5 million. I think you provided some hurdles related to the allocation of profits in the MD&A if certain targets are achieved. Maybe can you just refresh me on the mechanics of that? Is that only recognized upon monetization? And also remind me, is there a catch-up distribution piece at year end at all if the business continues to perform as expected?
spk07: So with regards to the hurdles, those will be realized in the financial statements as they're hit. I think there's a note in there that says we have not hit any of those profit allocation hurdles as of yet. But when we do, it will start to impact the fair value further of BCC as they'll be reported as part of that number we see in the financials. What was the second part of the question?
spk06: Oh, the make-up up.
spk07: So if at the end of the year BCC's common equity declares a dividend in excess, of that 8.5%, we will see a catch-up payment, so it is possible that the BCC return may be higher than that 8.5% for the year, but that isn't something that we're in control of and we'll have to wait and see what the common shareholders decide at the end of the year.
spk06: And we wouldn't expect that this year and the first year of the investment, potentially next year would be the earliest.
spk02: Okay, and then also just going back to the first piece of the answer here, the hurdles, Could that be significant, or is that going to be gradual in the instance that you guys are hitting those hurdles?
spk07: I would expect it to be gradual.
spk02: Okay. Okay, great. And then just my last question. Steve, any update on the managing kind of third-party capital piece outside of BCC here?
spk06: Yeah, we do have one of the things that is in process that we're working on is – would be a similar type of transaction to BCC. We're excited about that. I think that gives a really interesting boost to our return on equity and our earnings possibilities when we can make profits on other people's money as well. You know, capital raise perspective, we're not at a share price, as I mentioned, that we would ever raise equity. So, you know, being able to grow our company and increase our earnings without needing to raise any of our own capital, really effective in this type of environment.
spk02: Okay. Got it. Those are my questions. Thank you. Thanks, Greg.
spk00: And thank you.
spk01: And one moment for our next question. And our next question comes from Jeff Fenwick from Cormac.
spk00: Your line is now open.
spk05: Hi. Good morning, everyone. Maybe we can start with a couple follow-ups on the BCC discussion. And Amanda, could you maybe just give us a quick overview on how the fair value is calculated for that one? It is obviously a bit of a different structure. And as you mentioned, you haven't actually surpass certain hurdles yet. So what is it that takes the fair value higher in the way you're calculating it?
spk07: So right now we have based the fair value with discounted cash flow model based on them achieving the forecast that was and their business plan that was laid out at the time we did the deal and just as time passes we will see as time passes and they hit that forecast we will see a continuous trend of improvement in the fair value In addition, in this quarter, there was a change to the equity risk premium. There was a couple of changes just to those market-driven rates, but the net impact was an additional write-up. So about $5 million is due to the performance of the business, and about another $3 million is due to just some change in the discount rate, driven by external factors.
spk06: And keep in mind, Jeff, that The fair value write-up was just on our own investment as principal, so that has nothing to do with the hurdles on the carry on the Brookfield capital.
spk07: Yes, but it is an indication that the business is trending towards meeting them in the future.
spk05: No, thanks. That's an important clarification. And I guess a follow-up there is, you know, this is obviously continues to be a bit of like a roll-up or roll-out story of new locations and money being invested in the platform. Was that deal structured where they were going to be drawing down on an existing funding package or is there a potential in the future that more capital would be injected here and Alaris might play in something along those lines in terms of putting incremental investment into BCC?
spk06: It's interesting. It's been a phenomenal model in that Every one of their now 100 locations, closing in on 100 locations, has been funded out of free cash flow. They've never had a penny of debt in this company until this transaction, and that was just for some liquidity capital. So their kind of CapEx budget for the year is all financed by free cash flow. And there's going to be probably another strategy layered on to expand their offerings, and that will include some acquisitions. But they'll be small acquisitions and are expected to still be funded out of cash flow. So, you know, if there was ever a larger acquisition, and that's not completely out of the question, if they wanted to get into other areas of cosmetic surgery, I would anticipate that we probably would participate in that along with Brookfield as their kind of investment partners.
spk05: Okay, thanks. That's helpful. I heard your commentary there about the opportunities in front of you guys heading to the back half, but just given where the stock's trading today and the significant distribution associated with that, are you given any thought to ramping up buyback activity? It seems like that might be maybe an accretive use of capital in the short term.
spk06: Yeah, we've certainly considered it and will continue to consider it. But because of the opportunities that we have in front of us and the IRR is expected on those opportunities, we still feel that that is the best place for shareholders' capital. So that's where our focus is going to be. If we're ever in a situation where that equation flip-flops, then we change. But, yeah, right now, you know, we're looking at... Very good opportunities with very high expected IRRs, so that's the focus. Okay.
spk05: And then maybe one quick one just in terms of Q3 partner revenue guidance. Does that include the assumption of the return to the LMS payment there? I'm just trying to get my numbers to square because I think you've got that that would come on and then the first full quarter of the FMP investment.
spk07: Yes, that's correct.
spk05: Great. Thank you very much. Thanks, John.
spk00: And thank you.
spk01: And one moment for our next question.
spk00: And our next question comes from Zachary Evershed from National Bank Financial. Your line is now open.
spk03: Good morning, everyone. Good quarter. Thanks for taking my questions. Hey, Zach. So you mentioned that the quality of deals landing on your desk is higher. can you go through the factors that differentiate a great opportunity for Larus in this type of macro environment?
spk06: Yeah, you're really looking at better kind of quality of earnings type companies. There's always a company that's in demand in private equity and it's the cash cow business. And so, you know, we're looking at companies that, you know, meet our criteria of, you know, low debt, low capex industries that don't have, either obsolescence risk or high volatility management teams that are confident enough in their business where they will do anything to stay in as opposed to wanting to exit. So, yeah, it's a good list of opportunities for us and, you know, they tend to go in, not going to say completely random cycles, but, you know, it's opportunity-based and there's only so many companies out there that fit all of those criteria for us. So, you know, we're lucky enough to have a good list of them right now. And I would say in this environment, our win rate, when we are interested in a company, I would say our win rate is much higher than it has been historically because of the increased cost of capital of those options around us. So we're having success and we just have to execute.
spk03: Great, Colin. Thanks. And then with the, the venture maturity on the horizon, what are your plans thus far for refinancing given, you know, where the stock price and interest rates are?
spk06: Yeah, we've got, um, we've got a lot of room on our, on our balance sheet, uh, to, to take those out just on our revolver if we want to. So really we're going to keep on kind of judging, uh, our deployment opportunities, uh, along with that, um, that take out of, of our converts and, uh, So we can either just use our line, or if we have so much opportunity on the deployment side, then we would probably replace the convert with another convert.
spk07: Given the cost of that capital, it's attractive to hold on to it probably a little longer here.
spk06: Yeah, it's at 5.5%. So needless to say, we can't replace it at 5.5%, so we'll keep it as long as we can.
spk03: No doubt. And on the revolver right now, what's the... With the incremental cost borrowing, is that on a grid?
spk07: So incrementally, I mean, it varies because as we were to move that on there, it would definitely change the, you know, the rating and the premium we're paying to SOFR on that line. But that would be about $8, $7.75 to $8.
spk03: Perfect. Thank you very much. I'll turn it over.
spk00: And thank you. And I am showing no further questions. I would now like to turn the call back over to Steve King for closing remarks.
spk06: Great. Thanks very much, Justin, and thanks, everybody, for tuning in right before a long weekend. So pleased with the quarter. We expect more of the same next quarter, basically, and hope to be back with good deployment news and other things from Alaris. Have a good rest of your summer. We'll talk to you next quarter.
spk00: This concludes today's conference call. Thank you for participating. You may now disconnect.
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