Duke Capital plc (LON:DUKE) Chief Executive Officer Neil Johnson caught up with DirectorsTalk for an exclusive interview to discuss what the company does, FY24 performance, dividend yield, buyouts each year, and the operating leverage for the business.
Q1: Neil, for those who are not yet familiar with Duke Capital, could you just tell us a little about what the company does?
A1: Duke Capital is one of the leading providers of a unique hybrid capital solution to businesses and these are lower mid-market, private and profitable businesses, and we’ve been operating since 2017.
We have an invested capital of over £200 million and 15 companies that we’ve invested in.
Q2: You’ve recently published FY24 results, how did the company perform in that period?
A2: Well, I’m happy to say we had record results across all our major KPIs. We had total cash revenue of over £30 million and recurring cash revenue, and recurring cash revenue is our recurring monthly cash flow from those companies that we enjoy with our investment product.
I can get into our investment product in detail but the free cash flow was almost £18 million, and that was up over 30%, as well as our cash revenue so a great set of numbers.
Q3: FY24 dividend yield is currently around 9%, could you just tell us how well that’s covered?
A3: Our dividend yield is well covered from not only the free cash flow, but actually the recurring free cash flow. So, our recurring free cash flow is 3.5p, our dividend was 2.8p. Our total free cash flow was 4.34 pence per share and so perhaps it would be a good time for us, for me, just to tell your listeners the difference between how we invest.
As I said, there is a hybrid, and what we are is really a hybrid between a private credit product, which is like direct lending to private companies, and a private equity type business model. So why we call it a hybrid is because we have four components of our investment:
Number one is what we call the corporate mortgage. It’s a 30-year long amortization, but very low amortization, so that a business owner can pay every month all obligations of that corporate mortgage, just like your home. You have a home mortgage and you pay monthly and at the end of the 30 years, you paid off your mortgage. It’s the exact same thing that we do. Because we’re a public company, we have permanent capital, we have that unique ability to give a 30-year loan.
Now, just like your house, you’re not required to stay with the mortgage for 30 years, you can buy out the mortgage and very much like that, Duke Capital can be refinanced by the business owner, and we can get our money back. When you buy out our product, our hybrid capital product, not only do we get our money back, but we get exit fees and those typically are 20% of the initial capital. So they’re big fees to pay, which is critically in the hands of the business owner so we don’t force the exit, they are happy to pay us because they keep control of their business and that’s our tagline, you receive capital and retain control.
The other two components are really a variable rate. So, we actually participate in the revenue increase or decrease of the company and we do have some minority equity stakes in our company, and we have a long-term relationship with our business owners.
So, those four components, the fixed rate corporate mortgage, the variable rate, which is cash paying, and then upon an exit, we have those two other components, which are exit fees, and then a realisation of minority equity stakes.
That is the difference between our total revenue and our recurring revenue.
Our recurring revenue is just the mortgage and the variable rate up and down for the revenue, that’s our credit product. Then when we get an exit, of which we had three last year, we get exit fees, which is cash and then we get a realisation on equity stakes. That increases our revenue, but our recurring revenue was also going up.
Q4: How many buyouts does the company expect each year?
A4: Just to expand on that, we have had three in the last 12 months, but we actually think that we’ll have one or two buyouts in our portfolio every year.
So, we do a number of deals and like a private equity firm, you have realisations on our investments. I’m happy to say that our private credit plus our private equity has given us internal rate of return, IRRs, of between 20% and 30%. That’s the average that we have.
We’ve had one very big IRR and one that actually we got out at a minus 1%, but that was riverboats. For people who know us and our portfolio, the first deal we did was a riverboat cruise company in Central Europe, and through COVID, we had to exit that investment, realise our security, and then sell those boats. We got our money back, but that could have been something that no one had foreseen.
That’s the secret of the Duke Capital model.
We have senior secured loans, those corporate mortgages are the senior loans of the company and we take out banks so we are top of the tree. We have a recurring cash flow for 30 years that increases our average annual reset is up over 3%. So, there’s some growth in the portfolio as it matures and then those exits are realised when the company decides to refinance Duke.
Q4: As revenue grows each year, what’s Duke Capital’s operating leverage for the business?
A4: That’s a very good question because Duke is an investment company, not a fund so our operating cash costs have stayed relatively constant through our growth. Whereas in 2000 and the fiscal 22, our operating costs were 22% of our recurring revenue, they’re now down to 12% and that’s the operating leverage that we enjoy, because our costs are relatively fixed. With more and more deployments, we have that operating leverage down to about 10% of our cash costs.
Another way to think about it is that all our costs for the entire year are paid by February, so we’re happy about that.
