KBRA Affirms Ratings for Preston Hollow Capital, LLC

KBRA affirms BBB issuer ratings for Preston Hollow Capital, LLC (“PHC”) and its a wholly-owned subsidiary, PHCC LLC d/b/a Preston Hollow Community Capital (“PHCC”, together with PHC, “Preston Hollow”, “PH” or “the company”). KBRA also affirms a senior unsecured debt rating of BBB for PHCC. The Outlook for the ratings is Stable. Preston Hollow is a private investment company founded in 2014 and headquartered in Dallas Texas, specializing in direct and secondary market investments in municipal securities.

Key Credit Considerations

Preston Hollow’s ratings reflect the company’s deep and experienced management team with decades of municipal finance and real estate lending experience, a primarily senior secured, well-collateralized and covenant-heavy investment portfolio diversified by region and sector and acceptable leverage with a long-term target of up to 2x total debt-to-equity and approximately 1x recourse debt-to-equity (excluding non-recourse secured funding). The ratings are also supported by PH's strong underwriting and risk management, stable earnings metrics driven by stable net interest income and low impairments, permanent equity capital from established institutional investors, and an adequate funding and liquidity profile including significant unencumbered assets. At September 30, 2024 (3Q24), the company maintained adequate liquidity comprised of $162 million of unrestricted cash and $271 million committed undrawn credit facilities. In addition, PH had $1.4 billion of unencumbered assets.

The company’s long-term funding strategy is focused primarily on non-recourse term matched trusts (TMTs) and Tax-Exempt Pooled Securities (TEPS) which provide a long-term source of borrowing. KBRA views this funding as relatively stable given maturities are long-term and generally matched with the maturities of the collateral, there is no mark to-market collateral posting required, and TMTs/TEPS are fully non-recourse to PH. In addition, the ratings consider PH’s demonstrated strong underwriting with low losses and successful workouts of distressed credits to-date. These strengths are counterbalanced by the risks related to the business of investing in illiquid non-investment grade or unrated municipal debt, relatively high single credit concentration with the top 5 credits comprising approximately 33% of the portfolio at 3Q24, high dividend payouts, and a largely secured funding profile although funding sources include unsecured debt with staggered maturities.

The issuer rating of PHCC is the same as PHC’s given PHCC is the wholly-owned operating subsidiary of PHC and holds substantially all assets and liabilities of the company. The rating for the senior unsecured notes is equalized with the issuer rating reflecting the company’s acceptable target leverage and significant unencumbered assets which support potential recovery prospects. The notes include a covenant requiring the ratio of unencumbered assets to unsecured debt to be greater than 1.50x (4.7x coverage as of 3Q24).

The Stable Outlook reflects the company’s stable performance, low leverage (<1x debt-to-equity at 3Q24), manageable level of non-accruals, low historical credit losses, and minimal impairments expected in the near-term, as well as adequate liquidity with significant unencumbered assets.

Rating Sensitivities

The rating Outlook is Stable, therefore, a rating upgrade is not expected in the near-term. Over time, significant market share and portfolio growth, significant improvement in single credit diversification, increased portfolio exposure to higher-rated credits and increased diversity of funding sources while maintaining leverage at or below target levels (and well-below covenant levels) and stable asset quality metrics could lead to consideration for an upgrade.

The Outlook could be revised to Negative or the rating could be downgraded if PH experiences significant credit losses and/or portfolio concentrations increase materially, or if leverage increases materially above target levels which could cause performance volatility. KBRA notes that higher leverage would increase the sensitivity of the rating to a deterioration in asset quality. A material weakening in the stability of funding, including weakening of TMT/TEPS terms that increases refinancing and liquidity risk for PH or a shift in investment strategy, investment process and/or risk management could also lead to a downgrade. The senior unsecured notes rating could be impacted if unencumbered assets coverage of outstanding unsecured notes deteriorates, approaching or below 1.5x.

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