OFS Capital Corp. 10-Q Summary: Period Ended June 30, 2019
Business Context and Reporting Period
OFS Capital Corp. is an externally managed, closed-end, non-diversified management investment company regulated as a Business Development Company (BDC) under the Investment Company Act of 1940. The company also operates through a Small Business Investment Company (SBIC) subsidiary, SBIC I LP. The reporting period covers the three and six months ended June 30, 2019. The company's objective is to provide current income and capital appreciation primarily through debt investments and, to a lesser extent, equity investments in middle-market U.S. companies.
Key Financial Metrics
| Metric | Six Months Ended June 30, 2019 | Six Months Ended June 30, 2018 |
|---|---|---|
| Total Investment Income | $25.2 million | $19.3 million |
| Net Investment Income | $9.7 million | $8.4 million |
| Net Increase in Net Assets from Operations | $7.1 million | $8.5 million |
| Net Asset Value (NAV) per Share | $12.95 | $13.70 |
| Total Assets | $504.9 million | $441.4 million (Dec 31, 2018) |
| Total Investments (Fair Value) | $484.7 million | $396.8 million (Dec 31, 2018) |
| Total Liabilities | $331.7 million | $266.4 million (Dec 31, 2018) |
| Cash and Cash Equivalents | $9.4 million | $38.2 million (Dec 31, 2018) |
| Weighted Average Yield (Performing Debt) | 11.41% | 11.50% (Dec 31, 2018) |
Material Changes vs. Prior Period
- Investment Income Growth: Total investment income increased by approximately $6.0 million (31%) compared to the prior year period, driven by a larger portfolio balance and the addition of Structured Finance Notes.
- Net Income Decline: Despite higher investment income, the net increase in net assets from operations decreased by $1.4 million year-over-year. This was primarily due to a net loss on investments of $2.6 million in 2019 compared to a net gain of $0.1 million in 2018, largely driven by unrealized depreciation on senior secured debt.
- Expense Increases: Total expenses rose to $15.6 million from $10.9 million. Interest and financing expenses more than doubled to $7.1 million due to the issuance of Unsecured Notes in late 2018 and increased utilization of the PWB Credit Facility.
- Portfolio Expansion: The company invested $103.3 million in new and existing portfolio companies during the six months ended June 30, 2019, including $20.9 million in Structured Finance Notes.
Guidance, Outlook, and Risks
Management Commentary: Management noted that the weighted average yield on performing debt investments decreased slightly to 11.41% due to new investments yielding 10.7%. The company established a new $150 million revolving credit facility (BNP Facility) in June 2019 to support growth, though it had no availability at period-end as conditions were not yet satisfied. Subsequent to the period end, the company borrowed $23.6 million under this facility.
Risks and Contingencies:
- Non-Accrual Loans: Loans on non-accrual status totaled $12.4 million (amortized cost) with a fair value of $0.6 million. Notable non-performing assets include Community Intervention Services, Inc. and Master Cutlery, LLC.
- Liquidity: Cash held by the SBIC subsidiary is restricted by SBA regulations. The parent company had $8.5 million available for general corporate activities.
- Asset Coverage: The company operates under a reduced asset coverage ratio of 150% (effective May 3, 2019) under the SBCAA. As of June 30, 2019, the asset coverage ratio was 227%.
- Valuation Uncertainty: Approximately 96% of assets are carried at fair value, with significant reliance on Level 3 inputs (unobservable data), creating potential volatility in reported NAV.
Key Facts for Investor Verification
- NAV Decline: Verify the impact of unrealized depreciation on senior secured debt (specifically Constellis Holdings, LLC) on the decline in NAV per share from $13.10 to $12.95.
- Debt Utilization: Confirm the utilization rates and interest costs associated with the new BNP Facility and the amended PWB Credit Facility, which increased interest expense significantly.
- Non-Accrual Status: Review the specific terms and recovery prospects for the $12.4 million in non-accrual loans, particularly the forbearance agreement with Elgin Fasteners Group.
- Structured Finance Notes: Assess the performance and valuation methodology of the new $21.1 million Structured Finance Notes portfolio, which carries a high effective yield but different risk characteristics than direct loans.
- Distribution Coverage: Monitor the company's ability to maintain its quarterly distribution of $0.34 per share given the increase in non-cash taxable income (PIK interest) and the requirement to distribute 90% of taxable income to maintain RIC status.