Well, you can say this about Prospect Capital Corporation’s (PSEC) management team: they definitely eat their own cooking.
On Feb. 18, CEO John Barry picked up 1,114,000 shares of PSEC for an estimated $7.5 million. Literally a day earlier, he bought 1,109,000 shares of PSEC worth an estimated $7.4 million. This added to the $7.1 million he dropped on Feb. 16, 6.5 million he dropped on February 12 and the $6 million on Feb. 11.
And he’s not alone. Prospect Capital’s CFO and COO have also been aggressive buyers. Since December, these three gentlemen have dumped just short of a combined $88 million into PSEC stock. Barry accounted for about $85 million of the total. Including past purchases, he now owns over $100 million in PSEC stock.
Now, a cynic might say that this is an ostentatious display designed to wow the investing public. And who knows, maybe it is. With the stock price languishing deep below its net asset value, PSEC lacks the ability to issue new shares to fund growth projects, and issuing new debt in this shaky credit environment is a risky move. Business development companies are required to pay out nearly all of their profits as dividends, so self-funding isn’t an option.
Therefore, for management to grow the company — and grow their annual management fees — they really need a higher stock price.
Prospect Capital Is In It for the Long Haul
OK, let’s say that’s true. Even so, this shows a remarkable level of commitment. After the recent buying spree, management now cannot realistically sell the shares without spooking the market. So it’s safe to assume that Barry and his associates are in this for the long haul. At this point, they are sinking or swimming with the company. I like that. Management has the incentive to grow the business responsibly, which is exactly what we should want as shareholders.
So, what has encouraged PSEC’s management team to dump what we would have to assume is a large chunk of their collective net worth into the stock?
To start, price. PSEC stock is priced at a 28% discount to book value, implying you could buy up the entire company, sell off its portfolio for spare parts, and still walk away with a 28% profit, plus any accumulated dividends along the way.
Now, I realize that book value is something of a moving target. Book value per share dropped from $10.17 to $9.65 last quarter, and some of Prospect’s CLO investments are widely believed to be overvalued. I get that. But if book value is overstated materially, it’s hard to argue it’s overvalued by 28%. Something in the ballpark of 5% would seem a lot more likely.
And remember, these are mark-to-market losses driven by turmoil in the bond market and not realized losses based on non-performing loans. As of the last quarter, non-accruals were only 0.5% of the portfolio. Sure, that will tick up if we have a bona fide recession. But how much, realistically? In 2009, during the pits of the worst recession since the Great Depression, non-accruals rose to less than 6%.
In other words, were things to get really nasty, Prospect’s book value would fall further. But even if it did, we have an enormous margin of safety at the current discount to NAV.
Eventually, this gap will close. But while we’re waiting, we’re being paid handsomely via PSEC’s massive 14% dividend — a dividend that is paid monthly, I might add, and that has already been declared for the next three months.
So that’s where we stand with Prospect Capital. We have a deeply discounted company paying a large dividend. In a market in which the average stock is still quite expensive, PSEC stock seems like a very decent bet to me.
Charles Sizemore is the principal of Sizemore Capital, a wealth management firm in Dallas, Texas. As of this writing, he was long PSEC.
