Over the next few months I plan to highlight several defensive funds that should escape the worst the markets have to throw at them. Let’s start with BioPharma Credit (LSE: BPCR).
With a few exceptions, the listed lending funds that have emerged over the past few years have not proved very successful. BioPharma provides credit through loans or royalty payments to cash-strapped biotech and pharmaceutical companies.
You’d be forgiven for having a few heart palpations as the biotech and healthcare sector has crashed over the last year, slashing the share price of some of the companies it invested in.
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Nevertheless, the BioPharma team is experienced and interested in life-science businesses that have actual revenues from real-life drugs but lack the cash to boost production, scale up sales and achieve critical mass. So they turn to debt to fuel growth.
BioPharma charges set-up fees for its loans, but it also charges fees if the underlying business is sold before the loan term is up. Of the $1.3m invested in senior secured loans, 58% is in floating-rate loans and 42% in fixed-rate ones.
That means rising interest rates boost the bottom line. The average yield across the 11 loans is 10.3%, with an average loan life remaining of 3.8 years. The portfolio is 91% invested in senior secured loans and 9% in purchase payments, which are equivalent to royalty payments.
The obvious risk here is default, but to date the fund has avoided this. The bigger challenge has been that a handful of borrowers have paid up early, triggering break fees and leaving the fund with excess cash that needs to be reinvested. BioPharma’s latest deal sums up this challenge.
In November 2019 the fund, alongside other private funds run by the manager, lent $110m to cancer treatment developer Epizyme. The loan was due to mature in November 2024, but Epizyme’s share price collapsed in recent months and it was taken over by leading pharmaceutical company Ipsen. This triggered a payment back to BioPharma, which included a $3m-$7m pre-payment on top of the fees due alongside the loan repayment set for September.
Concentrated portfolio
Note that the fund is highly concentrated on a few big loans to businesses: roughly 55% of the portfolio is lent to just three companies, Sarepta (23.4%), Collegium (21.7%) and LumiraDx (10.0%).
These three businesses could struggle, but the loans are secured against revenue-producing assets, so it seems there is some protection in place.
BioPharma Credit delivers a $0.07 annual dividend, which with the share price at $0.95 for the dollar class (and 77.5p for the sterling class) equates to a dividend yield of around 7.4%. The shares have slipped recently, with the dollar class peaking at $1.04 and trading down to the current $0.95.
At that price the fund is trading at a 5% discount to net asset value (NAV), which might trigger a share buyback – there is a buyback facility in place which could involve buying up to 14.95% of the shares.
The buyback is triggered once the discount averages 5% over a three-month rolling period, with the aim to bring the discount back up to 1%. The average discount for the past 12 months is running at around 1% to 1.5%.
So although BioPharma Credit has not been immune to market turbulence, the upshot is that the trust is conservatively structured and looks an appealing income play for volatile markets.
Sceptics might worry that the doldrums in life sciences could undermine the group’s prospects, but one could argue the opposite: because equity investors are scared of biotech firms, funding for late-stage, revenue-producing businesses might be elusive. That could allow BioPharma to lend out more cash at higher returns.
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