SWK - Q2 2023

Transcript

Operator (participant)

Good afternoon, and welcome to the SWK Holdings Corporation Second Quarter 2023 Corporate and Financial Results Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal conference specialist by pressing the star key, followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, press star, then one your telephone keypad. To withdraw your question, please press star, then two. Please note, this event is being recorded. I would now like to turn the call over to Jason Rando, with Tiberend Strategic Advisors. Please go ahead.

Jason Rando (COO)

Good evening, thank you for joining SWK Holdings Second Quarter 2023 Financial and Corporate Results Call. Earlier today, SWK Holdings issued a press release detailing its financial results for the three months ended June 30, 2023. The press release can be found in the Investor Relations section of swkhold.com under News Releases. Before beginning today's call, I would like to make the following statement regarding forward-looking statements. Today, we're making certain forward-looking statements about future expectations, plans, events, and circumstances, including statements about our strategy, future operations, and the development of consumer and drug product candidates, plans for future potential product candidates, and studies and expectations regarding our capital allocation and cash resources. These statements are based on our current expectations, you should not place undue reliance on these statements.

Actual results may differ materially due to our risks and uncertainties, including those detailed in the Risk Factors section of SWK Holdings' 10-K filed with the SEC and other filings we make with the SEC from time to time. SWK Holdings disclaims any obligation to update information contained in these forward-looking statements, whether as a result of new information, future events, or otherwise. Joining me from SWK Holdings on today's call are Jody Staggs, President and CEO, and Yvette Heinrichson, Chief Financial Officer. They'll provide an update on SWK's second quarter 2023 corporate and financial results. Jody, go ahead.

Jody Staggs (President and CEO)

Thank you, Jason, thanks everyone for joining our second quarter conference call. During the second quarter, we made progress on several key initiatives, including closing a new $45 million credit facility, continuing the operational and financial turnaround into Enteris, and concluding two long-running workouts. Our financing business remains healthy, and we generated a 15.4% realized yield during the quarter and are working towards multiple new financing closings by year's end. Tangible book value per share increased to $18.95 per share, an 8% year-over-year increase after adjusting for the implementation of CECL. During the quarter, we repurchased $4.6 million of shares at an average price of $16.88, a 23% discount to the GAAP book value of $21.79. There is much to be excited about at SWK.

Second quarter results were largely in line with internal expectations, as financial segment non-GAAP net income totaled $7.6 million, representing a 12% annualized return on tangible book value. While we are pleased with the 12% return, we aim to improve on it through diligent underwriting of life science loans and royalties, coupled with appropriate balance sheet leverage. Our gross investment assets totaled $234 million, compared with $249 million at March 31, 2023, and $175 million at June 30, 2022. The sequential decline is primarily due to the sale of our Acer loan to a third party for approximately $14 million. Our portfolio effective yield was 14.5%, compared with 15.5% in the first quarter of 2023.

The sequential decrease is primarily due to the divesture, divestiture of the Acer loan. Our realized yield in the quarter was 15.4%, compared with 15.3% in the first quarter of 2023. There were no early prepayments during the quarter. Looking ahead, our realized yield should benefit from the recent reference rate increase, as well as pricing discipline on new financing proposals. Turning to the portfolio, during the quarter, we finalized the workout for the Flowonix loan, and after quarter's close, we finalized the workout for the Ideal Royalty. In both situations, we received cash at close, with the majority of recovery expected from future royalties. At this time, we believe the cash received, combined with estimated future royalties, will exceed the carrying value of position, thus, we do not anticipate taking an impairment on either position.

However, both positions will remain on non-accrual. Looking at credit quality, we rate our loans 1 to 5, with 5 being the highest score. During the quarter, we had 1 loan scored as a 2, while the Flowonix loan, which has been a workout for several quarters, with the discussed resolution achieved in late second quarter of 2023, was scored a 1. The remaining loans were rated 3 or better. We rate our royalties green, yellow, and red, and the Ideal Implant and best non-accrual royalties were rated red, while remaining royalties were rated green. Results in Enteris continued to improve and were in line with internal expectations. Revenue increased 55% sequentially, to $200,000, and we expect revenue to accelerate in third quarter and fourth quarter based on work generated from our pharma service partnership, which was signed in late April.

Year-to-date, we have booked $2 million of CDMO projects and are bidding on an additional $9 million projects, which is an increase from $7 million projects we were bidding on last quarter. Second quarter, Enteris operating expense totaled $2.5 million, compared with $1.4 million as of first quarter of 2023. However, the second quarter included a final R&D payment as well as employee retention payments, which cumulatively totaled approximately $1 million. We expect the Enteris quarterly OpEx will be approximately $1.5 million per quarter in the back half of 2023. We are working with an advisor to evaluate strategic alternatives for Enteris and will provide an update when appropriate. During the quarter, we closed a $45 million committed financing with First Horizon Bank, which replaced our prior $35 million facility.

The new facility gives SWK additional liquidity, as well as flexibility to pursue other balance sheet capital options. During the quarter, we repurchased 272,492 shares at an average cost of $16.88. In year-to-date, we have repurchased approximately 327,000 shares for $5.6 million at an average cost of $16.96. We view repurchasing shares at the current level as a highly attractive use of shareholders' capital. To summarize, the second quarter of 2023 was a solid quarter for our financial segment, with a 12% return on tangible equity. We were able to conclude workout process for two of our nonaccrual loans with reasonable outcomes.

We're pursuing multiple core life science financings with attractive returns and expect to close additional transactions by year-end. Our new credit facility provides additional liquidity plus flexibility going forward. With that, I would like to turn the call to our CFO, Yvette Heinrichson, for an update on our financial performance for the quarter. Yvette, the call is yours.

Yvette Heinrichson (CFO)

Thank you, Jody, and good afternoon, everyone. Earlier today, we reported earnings for the second quarter of 2023. We reported GAAP pre-tax net income of $5.4 million, or $0.42 per diluted share. Our reported Q22023 net income of $3.9 million, after income tax expense of $1.4 million, included a $2.5 million increase in finance receivable segment revenue and a $0.1 million increase in our pharmaceutical development segment revenue. The $2.5 million increase in year-over-year finance receivable segment revenue was primarily due to the $2.5 million increase in interest and fees earned due to funding new and existing loans.

A $0.8 million increase in interest income due to an overall increase in reference rates and a net $0.5 million increase in royalty revenue when compared to the same period of the previous year. The increase was partially offset by a $1.3 million decrease in interest, royalties, and fees earned on finance receivables that were paid off in 2022 and 2023. Absent any material unforeseen payoffs, we still anticipate finance receivables revenue over the next two quarters of the year to be comparable to revenue reported in Q22023. As Jody mentioned earlier, overall operating expenses, which include interest, pharmaceutical, manufacturing, research and development expense, as well as general and administrative expense, were $4.9 million during Q22023, compared to $4.6 million in Q22022.

Enteris operating expenses were $2.5 million in Q2 2023, compared to $2.4 million in Q2 2022. Finance receivables segment operating expenses were $2.4 million in Q2 2023, compared to $2.2 million in Q2 2022. The slight increase in finance receivable segment operating expenses was primarily due to a $2.2 million increase in interest expense due to a higher overall average balance on our credit facility. In second quarter 2023, pharmaceutical development segment operating expenses included a $0.1 million expense for employee bonus retention as well as $0.5 million final payment to our CRO vendor. Neither of these expenses are expected to be repeated in the third quarter of 2023. Finally, our finance receivables portfolio decreased by $14.8 million from the first quarter of 2023.

That resulted in a $700,000 benefit to our allowance for credit losses in Q22023. As a reminder, in Q1 of this year, we adopted the accounting standard known as CECL. Going forward, changes to the size of our finance receivables will result in a corresponding percentage change to our allowance for credit losses, as was the case in Q22023. Changes in the underlying assumptions used to establish our initial loss rates will also result in changes to our allowance for credit losses. We did not have any changes to these assumptions during the second quarter of 2023. Any future changes to our allowance for credit losses will run through the income statement. I will now turn the call back over to Jody.

Jody Staggs (President and CEO)

Thank you, Yvette. In summary, the second quarter of 2023 was a solid period, with results in line with our expectations. We made material progress on key initiatives during the first half of the year. For the remainder of 2023, we will pursue our goals with an aim of creating value for our owners. Operator, let's open the call for questions.

Operator (participant)

We will now begin the question-and-answer session. To ask a question, press star then one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first question will come from Jacob Stephan with Lake Street Capital Markets. You may now go ahead.

Jacob Stephan (Senior Research Analyst)

Hey, guys. Thanks for taking my questions. Just wanted to touch on the equity capital markets. We've seen them open up quite modestly over the last quarter here. How does this impact your ability to deploy capital, and your risk tolerance with making loans?

Jody Staggs (President and CEO)

Hey, yeah, thanks. Appreciate the question, and thanks for dialing in. You know, I would say there's sort of two dynamics from that. You know, the first of all is, is for our portfolio companies that are public, you know, the ability to tap those equity markets is, is a positive. You know, most of our borrowers are in, in, in cash burning situation pre-profit, so that's great for them. You know, for, for situations where we're out there trying to pursue a, a new loan, you know, equity is almost always our number one competitor. In some ways, that's a modest negative. I would say the, you know, our pipeline is strong, and most of the companies we're speaking with really don't have access to the capital markets, you know, in any sort of material shape.

There's a few that we're speaking with that are public, and, and they maybe are considering that, but it's, it's still fairly tough for small companies to access those in, in, you know, so sort of any material means.

Jacob Stephan (Senior Research Analyst)

Okay. Maybe just touch on the First Horizon bank deal here. Does that change your lendable capital base, or do you need access to additional facilities? How are you thinking about kind of capacity to grow the loan book here over the next 12 months?

Jody Staggs (President and CEO)

Yeah, absolutely. It increases our, you know, our current capacity by $10 million. You know, we've got $45 million committed by First Horizon now. Our prior facility was $35 million. You know, I think what this facility gives us is, is first of all, the, the terms, our partner, I think it's gonna allow us to syndicate this facility a bit more easily, and that's something we're focused on now. You know, both our partner and SWK are focused on working with potential partner banks to bring them into the facility, and we would love to take this up to, you know, $75 million or $80 million. We're working really hard on that.

I guess, you know, the, the, the challenge right now is the regional bank market is, is, is in, in somewhat of a challenged position. You know, those conversations will take time, but it's, it's a focus. The, the other, you know, I think positive of, of this facility is it does allow us to issue an unsecured bond, and, and that's something we're considering as well. We've got a couple of other ways to bring on capital. The facility at $45 million is, is great and a good starting spot, but, but we believe that this business should support much more leverage than that.

Jacob Stephan (Senior Research Analyst)

Okay, then just last one for me here. Any updated thoughts on the buyback? Are you guys just kind of planning to keep buying shares at discount to book value here, or how are you thinking about that moving forward?

Jody Staggs (President and CEO)

Yeah, absolutely. You know, in May, the board did authorize a new $10 million buyback, which was great, and we appreciate their, their support and their belief that, you know, shares are materially undervalued, you know, management shares that view. We, we have, we have a new broker we're working with, and, and, you know, the new, the new plan is, I would say, a bit more flexible than our old plan. You probably saw that we repurchased, you know, almost $5 million, $4.6 million during the quarter, you know, and we're, we're pushing $6 million year-to-date. The new plan seems to be working quite a bit better, and, you know, we'll, we'll just continue to work the plan, you know, in terms of the stock being at this price.

We've got tiers and, you know, as we get these reporting out, we'll have an open period where we can maybe be more aggressive. Like buying back the stock at the current price, I think the valuation's quite attractive, and, and so that's something that, you know, the board of management will continue to do.

Jacob Stephan (Senior Research Analyst)

Got it. Thanks. Best of luck moving forward here.

Jody Staggs (President and CEO)

Thank you. Appreciate the call and interest.

Operator (participant)

Again, if you have a question, please press star then one. Our next question will come from Scott Jensen, a private investor. You may now go ahead.

Hey, good quarter, Jody, and, and everyone on, on the team. Especially liked the buyback, as was just mentioned, and pleasantly surprised on the two workouts. It's not appearing to be a hit to the bottom line, at least at this point. My question, I guess, is on Enteris. It looks like some good progress being made, and when you say $9 million in, you know, future bids that are out there, what is the kind of metrics that you use to compete on those? Is it price? Is it reputation? Like, how can we kind of get an idea of how that hit ratio might work out?

Jody Staggs (President and CEO)

Yeah, great question. We're, we're still learning a bit about that. The majority of those bids, those proposals stem from our partnership with a large pharma service organization, which, I'm not supposed to name. We've been...

Okay

... working with them since April in a formal arrangement, and we are their preferred provider for certain phase 1 and phase 2 services. They've got customers, they've got, you know, small biotechs, pharmas coming to them for help as they develop their programs and for particular dosing technologies. That partner is referring them to us for certain of these services. These are really warm leads. You know, I would need to check, but we're, you know, picking up the vast majority of that revenue.

The partner is keeping a bit of it, and, and really for them, the benefit is getting these biotechs, you know, quality CDMO services and moving them through the clinical, you know, progression, so they can hopefully use our partner's technology, patented technology, once they get out to market. I, I wish I had some number to tell you, we'll, you know, we'll pick up X%, but, you know, the hit, the rates have been great so far. I mean, we, we, you know, the, the early proposals we put out, we're winning lots of those, and, you know, I think we'll definitely win our fair share of these new ones, particularly given that, that these are coming through warm leads.

At this time, I don't have a great, you know, rubric of the percent, and, you know, I, I'm still kind of working with, Paul and the team at Enteris to, to understand that a bit better myself.

Then just kind of a continuation, as you say, strategic options possibly for Enteris. Clearly, one of the things that you've benefited from over the past number of years has been the paybacks, from some of the Cara royalties, and it seems like they're making good progress, at least to report, this week on their oral program. Would that be something where you'd still maintain some kind of future, royalty access, or would it just depend on the bid or, you know, the options that you're presented with?

Yeah, I, I think we would retain that. You know, it, it's, it's really a financial asset at this point in time. You know, we like royalties. We understand it. We think we understand what the value is, so there's no reason we, we couldn't retain that. I, I tend to think the people that might be interested in the CDMO business are not really that interested in a royalty from a third party. You know, so I would envision that, you know, we would retain that. There, you know, there is another royalty there at Enteris as well. It's, we haven't talked much about it, and it's, it's just a royalty. There are no milestones. That there's a an active program going on there, and then we're, we're actually working, you know, on some, some other proposals as well.

I think all of those types of things, which are really financial assets, SWK would keep. I, I just don't see, you know, CDMO buyer really being that interested in those.

Excellent. Well, thank you. Keep up the good work and, let's hope your broker keeps up, finding back key assets.

Thanks, Scott.

Thank you, Jody. Bye.

Operator (participant)

Our next question will come from Michael Diana with Maxim Group. You may now go ahead.

Michael Diana (Managing Director and Senior Research Analyst)

Hey, Jody.

Jody Staggs (President and CEO)

Hey, hey, good evening.

Michael Diana (Managing Director and Senior Research Analyst)

Now that SVB has been gone for about four months, do you notice any change in the competitive environment?

Jody Staggs (President and CEO)

You know, initially, I think the answer is yes. You know, there for a period of time, capital was really scarce. I think, and actually, we've got one of our, one of our signed term, term sheets is, you know, is, is a refi from SVB, and I think, I think my colleagues are speaking with another situation now, which again, is another SVB situation where they've got an SVB, BB, BB facility. I, I think we have seen those opportunities. Now, I, I mean, SVB, a lot of those professionals now have moved on, and I think, I think they're really active. You know, if you look at First Citizens and some of these people, they're getting back out there.

There definitely has been an opportunity, particularly in the smaller side, where we play a lot in some of the less sponsor-backed channels. I, I gather the new owner of, of SVB and, and some of the places, the banks where those folks are going, they're probably moving up the quality spectrum. Yeah, it, it is an opportunity. I, I think it's not sort of the flood that we thought we might see, you know, when SVB and Signature went under, if that makes sense.

Michael Diana (Managing Director and Senior Research Analyst)

Yeah. Okay, great. Thank you.

Jody Staggs (President and CEO)

Yeah, absolutely. Thanks, Mike.

Operator (participant)

It appears there are no further questions. This concludes our question and answer session. I would like to turn the conference back over to Jody Staggs for any closing remarks.

Jody Staggs (President and CEO)

Appreciate everyone speaking in. You know, hopefully, we've expressed the excitement we feel for what we've achieved so far this year and the opportunities ahead. Again, appreciate your support and dialing in, and feel free to reach out to myself, Yvette, or the Tiberend team if you have any questions. Hope you have a good evening. Bye-bye.

Operator (participant)

The conference is now concluded. Thank You for attending today's presentation. You may now disconnect.