Business Context and Reporting Period
Company: Rand Capital Corporation (RAND)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2017
Business Overview: Rand Capital is an internally managed Business Development Company (BDC) and Small Business Investment Company (SBIC) that invests in privately-held, early-stage, and emerging growth businesses. The company operates through its primary subsidiary, Rand Capital SBIC, Inc., and is in the process of forming a second SBIC subsidiary, Rand Capital SBIC II, L.P., which received SBA pre-licensing approval and was capitalized with $7.5 million in April 2017.
Key Financial Metrics
| Metric | Three Months Ended Sep 30, 2017 | Nine Months Ended Sep 30, 2017 | Dec 31, 2016 (Balance Sheet) |
|---|---|---|---|
| Total Investment Income | $397,019 | $1,074,795 | N/A |
| Total Expenses | $439,048 | $1,562,620 | N/A |
| Net Investment Loss | ($24,979) | ($298,864) | N/A |
| Net Realized Gain/Loss | $0 | $0 | N/A |
| Net Change in Unrealized Appreciation/Depreciation | $82,910 | ($638,023) | N/A |
| Net Increase/(Decrease) in Net Assets from Operations | $57,931 | ($936,887) | N/A |
| Total Assets | N/A | N/A | $39,830,404 |
| Total Liabilities | N/A | N/A | $8,137,928 |
| Net Assets (Stockholders' Equity) | N/A | N/A | $31,692,476 |
| Cash and Cash Equivalents | N/A | N/A | $6,373,128 |
| Net Asset Value (NAV) per Share | N/A | N/A | $5.01 |
| SBA Debentures (Gross) | N/A | N/A | $8,000,000 |
Material Changes vs. Prior Comparable Period
- Investment Income Growth: Total investment income increased 25.7% for the three months ended September 30, 2017, compared to the same period in 2016, and 47.1% for the nine-month period. This was driven primarily by a 38.3% (quarterly) and 58.8% (nine-month) increase in interest income from portfolio companies due to new debt investments in Genicon, eHealth, and Empire Genomics.
- Expense Reduction: Total expenses decreased 9.8% for the quarter and 46.4% for the nine-month period compared to 2016. The significant nine-month decrease was primarily due to the absence of a $1.41 million profit-sharing bonus expense recorded in 2016 related to the Gemcor II, LLC exit.
- Portfolio Valuation: Total investments at fair value increased 11.6% to $30.7 million from $27.5 million at year-end 2016. However, net unrealized depreciation increased by $987,983 for the nine months ended September 30, 2017, driven by write-downs in City Dining Cards (Loupe), Teleservices Solutions, SciAps, and Mercantile Adjustment Bureau, partially offset by appreciation in Athenex and ACV Auctions.
- Realized Gains: There were no realized gains or losses in the current period, contrasting with the $14.8 million realized gain in the nine months ended September 30, 2016, which was largely attributable to the sale of Gemcor II, LLC.
Guidance, Outlook, Risks, and Unusual Items
- Outlook: Management expects to continue adding new investments and reinvesting in existing portfolio companies. The company is actively pursuing the formation of Rand Capital SBIC II, L.P., which aims to create a $22.5 million fund (combining $7.5 million equity and $15 million SBA leverage).
- Liquidity: As of September 30, 2017, the company held approximately $6.4 million in cash, representing 20% of net assets. Management believes this, combined with portfolio interest payments, is sufficient to meet cash needs for the next 12 months.
- Valuation Risks: 98% of the investment portfolio is classified as Level 3 assets (unobservable inputs), meaning valuations are determined by management and approved by the Board. Significant write-downs occurred in the period for Loupe, Teleservices, and SciAps based on financial condition reviews.
- Non-Accrual Status: Investments in G-TEC Natural Gas Systems, First Wave Products Group, and a portion of Mercantile Adjustment Bureau remain on non-accrual status.
- Share Repurchases: The Board extended a repurchase authorization for up to 1,000,000 shares through October 26, 2018. No shares were repurchased during the nine months ended September 30, 2017.
Key Facts for Investor Verification
- Profit Sharing Liability: Verify the status of the profit-sharing plan; no amounts were earned in the current period, but $1.14 million accrued in the prior year was paid down in the first nine months of 2017.
- SBIC II Licensing: Confirm the status of the SBA application for Rand Capital SBIC II, L.P., which is critical for future leverage and capital deployment.
- Portfolio Concentration: Review the concentration risk where five portfolio companies (Genicon, eHealth, Rheonix, Outmatch, and Social Flow) represented approximately 48% of the fair value of the investment portfolio as of September 30, 2017.
- Valuation Methodology: Scrutinize the Level 3 valuation adjustments, specifically the $500,000 write-down of City Dining Cards (Loupe) and the $395,398 write-down of Teleservices Solutions, to understand the underlying financial deterioration.
- Debt Maturity: Note that the $8 million in SBA debentures begins maturing in 2022, requiring future refinancing or liquidation of assets to meet obligations.