Business Context and Reporting Period
Hercules Capital, Inc. (Hercules) is an internally managed, non-diversified closed-end investment company regulated as a Business Development Company (BDC) and a Regulated Investment Company (RIC). The company focuses on providing senior secured loans to high-growth, venture capital-backed companies in technology, life sciences, and sustainable/renewable technology sectors. This summary covers the quarterly period ended June 30, 2016.
Key Financial Metrics
| Metric | Six Months Ended June 30, 2016 | Six Months Ended June 30, 2015 |
|---|---|---|
| Total Investment Income | $82.5 million | $70.6 million |
| Net Investment Income | $43.5 million | $29.8 million |
| Net Realized Gain (Loss) | $(4.4) million | $2.1 million |
| Net Unrealized Depreciation | $(15.2) million | $(7.2) million |
| Net Increase in Net Assets from Operations | $23.8 million | $24.7 million |
| Net Asset Value (NAV) per Share | $9.66 | $10.26 (End of Period 2015) |
| Total Assets | $1.40 billion | $1.32 billion (Dec 31, 2015) |
| Total Liabilities | $677.4 million | $606.9 million (Dec 31, 2015) |
| Cash and Cash Equivalents | $59.7 million | $95.2 million (Dec 31, 2015) |
| Dividends Declared per Share | $0.62 | $0.62 |
Material Changes vs. Prior Period
- Investment Income Growth: Total investment income increased 16.8% year-over-year, driven by portfolio growth and accelerated income from early loan repayments. Interest income rose to $76.1 million from $65.8 million.
- Realized Losses: The company reported a net realized loss of $4.4 million for the six months ended June 30, 2016, compared to a net realized gain of $2.1 million in the prior year. This was primarily due to a $6.2 million loss on the settlement of a non-accrual debt investment (The Neat Company) and write-offs of warrant/equity investments, partially offset by gains from the sale of investments in Celator Pharmaceuticals, Ping Identity, and Box, Inc.
- Unrealized Depreciation: Net unrealized depreciation increased to $15.2 million from $7.2 million. Significant factors included $20.6 million in collateral-based impairments on debt investments and $10.5 million in unrealized depreciation on public equity holdings (notably Box, Inc.).
- Debt Structure: The company issued an additional $141.9 million in aggregate principal of 2024 Notes during the period. Conversely, the Convertible Senior Notes ($17.6 million principal) were fully settled in April 2016. The Wells Facility and Union Bank Facility had no outstanding borrowings at period end.
- Portfolio Composition: The portfolio value grew to $1.30 billion. The largest sectors by fair value were Drug Discovery & Development (23.8%), Sustainable and Renewable Technology (14.5%), and Software (13.9%).
Guidance, Outlook, and Risks
- Liquidity: As of June 30, 2016, the company had $254.7 million in available liquidity, including $59.7 million in cash and $195.0 million in available borrowing capacity under credit facilities (Wells and Union Bank). The company also has $190.2 million in SBA debentures outstanding with no additional capacity remaining under current SBIC licenses.
- Dividend Policy: The Board declared a quarterly dividend of $0.31 per share, payable August 22, 2016. The company aims to distribute approximately 90-100% of taxable income. Management noted that 100% of year-to-date distributions were from current and accumulated earnings and profits.
- Risks and Contingencies:
- Credit Risk: Six debt investments were on non-accrual status with a fair value of $2.8 million. The weighted average investment grading of the debt portfolio improved slightly to 2.11.
- Valuation Risk: Approximately 93.4% of total assets are Level 3 investments valued by the Board of Directors, introducing subjectivity to fair value measurements.
- Portfolio Concentration: The top 10 portfolio companies represented 31.9% of the total fair value of investments.
- Subsequent Events: Post-period, BIND Therapeutics filed for Chapter 11 bankruptcy but was acquired by Pfizer, allowing Hercules to fully recover its obligation. Nuance Communications agreed to acquire TouchCommerce, Inc. for approximately $215 million.
Investor Verification Checklist
- Non-Accrual Status: Verify the specific portfolio companies on non-accrual and the likelihood of recovery given the $2.8 million fair value vs. $34.5 million cost basis.
- Unrealized Depreciation Drivers: Confirm the specific valuation adjustments made to public equity holdings (e.g., Box, Inc.) and the methodology for collateral-based impairments on private debt.
- Debt Maturity Profile: Review the maturity schedule of the $674.8 million in outstanding borrowings, noting the significant concentration in 2024 Notes ($244.9 million) and SBA Debentures ($190.2 million).
- Dividend Sustainability: Assess whether the $0.31 quarterly dividend is fully covered by Net Investment Income ($0.60 per share for the six months) or if it requires a return of capital in future periods.
- Unfunded Commitments: Monitor the $71.2 million in unfunded contractual commitments and the $115.0 million in non-binding term sheets to gauge future capital deployment needs.