VPC Specialty Lending Investments 11 October 2019

VPC Specialty Lending Investments (LON:VSL) lends to sponsor-backed alternative lending companies, using its specialist knowledge of the sector to generate an average coupon of 11.84% from asset-backed loans, with low impairment rates and strong performance in stress-tests. The 8p a year dividend, paid quarterly, is now almost 100% covered by interest income and fully covered by NAV total returns. The yield is 10.2% on the current share price, with the trust trading on a 14.8% discount.

VSL acts as a ‘lender to lenders’, with its loans secured against the loans made by the portfolio companies and with significant first loss protection provided by the borrowers. These are primarily consumer loans, to US, UK and Latin American borrowers. There are also loans made to SMEs, but these make up only 15% of the portfolio. The loans are structured in such a way that VSL monitors the health of the investee’s balance sheet on a monthly basis, and can demand further capitalisation if impairments rise, or take control of the loan book to pay back their investment in extreme circumstances.

The company is something of a turnaround story. When launched, it invested in unsecured marketplace loans and securitisation in addition to a portfolio of balance sheet loans, but after impairments in this new field were higher than expected refocused the company to a balance-sheet only model more in line with the expertise of the manager, Victory Park Capital.

VPC is a specialist lender to sponsor backed companies, in particular fintech. It operates at scale, with VPC having committed and invested more than $7bn across more than 50 companies in the financial services sector. VSL, at £297m net assets, can therefore participate in much larger deals negotiated by the manager, which are allocated largely pro rata across its various funds and accounts.

The portfolio is concentrated, with 43% in the top four positions, although underlying the 22 total debt investments are over 1.8 million individual loans. On a look-through basis, the total gearing is 43%, with the company having drawn down a facility worth roughly 16% to lever up its largest investment, in Elevate Credit. Elevate Credit is now a public company having IPO’d on the NYSE in 2018 and is the manager’s longest standing portfolio company, with a lending relationship of nearly a decade and consistently strong performance.

VSL is a very different animal from when it was first launched in 2015. Having exited the securitisation and marketplace loans in favour of more tightly controlled balance sheet lending, the portfolio displays attractive risk/reward characteristics, in our view. The current yield of 10.2% is normally only available on investments where a dividend cut is expected, but as we discuss below, the look-through portfolio has attractive downside characteristics, in our view, and is generating an 8p dividend covered by NAV total returns and is almost fully covered by income. The discount is not warranted by the fundamentals, we believe, although the alternative lending space has been suffering from poor sentiment and headlines for some time now, irrespective of the quality of the underlying assets. The concentrated nature of the portfolio clearly raises the risk profile of the investment.