MFIC

Business Context and Reporting Period

Company: Apollo Investment Corporation (AIC)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2014
Business Overview: AIC is a closed-end, externally managed business development company (BDC) and regulated investment company (RIC). Its investment objective is to generate current income and capital appreciation primarily through debt investments (secured and unsecured loans) and equity interests in private middle-market companies.

Key Financial Metrics

Material Changes vs. Prior Period

• Investment Income Growth: Total investment income increased by approximately 6.1% year-over-year, driven by an increase in the average portfolio cost basis from $3.09 billion to $3.53 billion. This was partially offset by a decrease in yield from debt investments (11.1% vs. 11.6%) and lower income from original issue discounts and prepayment fees.
• Expense Increases: Net expenses rose to $49.0 million from $44.3 million. The increase was primarily due to higher interest and debt expenses ($18.9 million vs. $15.8 million) resulting from a higher average debt balance ($1.55 billion vs. $1.18 billion), and increased management and incentive fees due to portfolio growth.
• Realized Losses: Net realized losses improved significantly to $(13.3) million compared to $(95.9) million in the prior year. The current quarter's losses were primarily attributed to the sale of Altegrity, Inc. and inVentiv Health, Inc. The prior year's losses were driven by the sale of Cengage Learning Acquisitions and ATI Acquisition Company.
• Unrealized Gains: Net change in unrealized gain was $24.4 million, a decrease from $62.4 million in the prior year. This was largely due to the reversal of previously recognized unrealized losses upon the exit of specific portfolio companies.

Guidance, Outlook, and Risks

• Dividend Declaration: On August 5, 2014, the Board declared a dividend of $0.20 per share for the first fiscal quarter of 2015, payable October 6, 2014.
• Liquidity and Capital Resources: The Company maintains a Senior Secured Facility with $1.27 billion in aggregate commitments. As of June 30, 2014, $801.0 million was outstanding with $443.7 million of unused capacity. The facility allows for expansion up to $1.71 billion.
• Fee Waivers: The Investment Adviser (AIM) has agreed to waive base management and incentive fees on common shares issued in April 2012 and May 2013 through March 31, 2015. Additionally, fees on PIK income are deferred until cash is received.
• Legal Proceedings: AIC is named as a defendant in a complaint by the bankruptcy trustee of DSI Renal Holdings alleging fraudulent conveyance. The complaint seeks approximately $41 million in damages from AIC. The Company intends to vigorously defend itself and has filed a motion to dismiss.
• Market Risk: The Company is exposed to interest rate risk. A 100 basis point increase in interest rates would result in a decrease in net investment income of approximately $3.6 million, while a 400 basis point increase would increase net investment income by $11.2 million.

Investor Verification Checklist

• Debt Covenants: Verify continued compliance with the Senior Secured Facility covenants, specifically the asset coverage ratio (minimum 2.0:1.0) and minimum stockholders' equity requirements.
• PIK Income Sustainability: Assess the collectability of Payment-in-Kind (PIK) interest, which totaled $6.8 million for the quarter, as this non-cash income must be distributed to maintain RIC status.
• Legal Exposure: Monitor the status of the DSI Renal Holdings litigation and potential financial impact of the $41 million claim.
• Portfolio Concentration: Review the top 10 portfolio companies, which represent a significant portion of the portfolio, including Merx Aviation Finance Holdings II, LLC (Controlled Investment).
• Fee Waiver Expiration: Note that voluntary fee waivers on specific equity tranches expire on March 31, 2015, which may impact future expense ratios.