Business Context and Reporting Period
Company: CM Finance Inc (CMFN), a closed-end, externally managed Business Development Company (BDC) regulated under the Investment Company Act of 1940.
Reporting Period: Quarterly period ended March 31, 2017 (Nine months ended March 31, 2017).
Investment Strategy: The Company invests primarily in debt and related equity of privately held lower middle-market companies, focusing on unitranche, first lien, and second lien loans. As of March 31, 2017, the portfolio consisted of 21 companies with a fair value of $268.7 million.
Key Financial Metrics
| Metric | Three Months Ended Mar 31, 2017 | Nine Months Ended Mar 31, 2017 | Net Assets (Mar 31, 2017) |
|---|---|---|---|
| Total Investment Income | $7.08 million | $23.82 million | $168.63 million |
| Net Investment Income | $3.42 million | $12.26 million | |
| Net Increase in Net Assets (Operations) | $5.99 million | $18.85 million | |
| Earnings Per Share (Basic/Diluted) | $0.44 | $1.38 | |
| Net Asset Value (NAV) Per Share | $12.32 | N/A | N/A |
| Total Debt Outstanding | $116.33 million | N/A | N/A |
| Cash and Restricted Cash | $22.21 million | N/A | N/A |
| Asset Coverage Ratio | 2.45x | N/A | N/A |
Material Changes vs. Prior Period
- Investment Income: Decreased to $7.08 million for the quarter (from $7.94 million in Q1 2016) and $23.82 million for the nine-month period (from $27.77 million in the prior year). This decline is attributed to the repayment of portfolio companies with higher yields and a reduction in the number of portfolio companies.
- Net Investment Income: Declined to $3.42 million for the quarter (from $4.27 million) and $12.26 million for the nine months (from $15.45 million), tracking the decrease in total investment income.
- Realized Gains/Losses: The Company recorded a net realized loss of $1.11 million for the quarter and $9.10 million for the nine months, primarily due to the restructuring of U.S. Well Services, LLC and AAR Intermediate Holdings, LLC. This contrasts with a nominal realized loss of $18,649 in the prior quarter and a realized gain of $283,275 in the prior nine-month period.
- Unrealized Appreciation: Significant improvement in fair value, with a net unrealized appreciation of $3.68 million for the quarter and $15.68 million for the nine months, reversing the depreciation trends seen in the prior year.
- Debt Structure: The UBS Revolving Financing ($50 million) expired in December 2016. It was replaced by a new $50 million Senior Secured Revolving Credit Facility with Citibank (Citi Revolving Financing). As of March 31, 2017, $14.3 million was outstanding on the Citi facility, compared to $30.5 million on the UBS facility at June 30, 2016.
Guidance, Outlook, and Risks
- Management Commentary: Management noted that the decrease in investment income was driven by portfolio turnover and the repayment of higher-yielding assets. The significant unrealized appreciation was driven by fair value increases across 14 portfolio companies in the quarter and 11 in the nine-month period.
- Distributions: The Company declared a quarterly distribution of $0.2500 per share for the quarter ended March 31, 2017, down from $0.3516 in the prior quarter. The Company intends to distribute between 90% and 100% of annual taxable income to maintain Regulated Investment Company (RIC) status.
- Fee Waivers: The Adviser voluntarily waived incentive fees of $45,829 for the quarter ended March 31, 2017. This waiver does not imply future waivers.
- Risk Factors:
- Industry Concentration: Investments in the business services industry represent 19.77% of the portfolio and face regulatory and competitive challenges.
- Asset Quality: As of March 31, 2017, one investment (2.8% of portfolio) was on non-accrual status, an improvement from two investments (6.2%) at June 30, 2016.
- Interest Rate Sensitivity: 100% of debt investments bear floating rates. A 1.00% increase in interest rates is estimated to increase net interest income by approximately 9.8%.
Investor Verification Checklist
- Portfolio Restructuring Impact: Verify the long-term implications of the realized losses associated with the restructuring of U.S. Well Services, LLC and AAR Intermediate Holdings, LLC.
- Dividend Sustainability: Assess the ability to maintain dividend levels given the reduction in investment income and the recent decrease in the quarterly distribution rate.
- Debt Covenants: Review the terms of the new Citibank Revolving Credit Facility and the impact of the expired UBS Revolver on future liquidity and leverage capacity.
- Valuation Methodology: Confirm the inputs used for Level 3 fair value measurements, which constitute the entire portfolio, particularly regarding the significant unrealized appreciation recorded.
- Non-Qualifying Assets: Monitor the percentage of non-qualifying assets (9.7% as of March 31, 2017) to ensure compliance with the 70% qualifying asset requirement for BDCs.