Business Context and Reporting Period
Company: HMS Income Fund, Inc. (a Business Development Company and Regulated Investment Company)
Reporting Period: Quarter ended March 31, 2017
Business Overview: The Company invests primarily in illiquid debt and equity securities of lower middle market and middle market companies. It is externally managed by HMS Adviser LP and MSC Adviser I, LLC (a subsidiary of Main Street Capital Corporation). As of March 31, 2017, the Company held 178 investments in 124 companies with a portfolio fair value of $959.1 million.
Key Financial Metrics
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Net Investment Income | $15.14 million | $12.24 million |
| Net Realized Gain (Loss) | $2.64 million | ($0.65 million) |
| Net Unrealized Appreciation (Depreciation) | ($4.52 million) | ($14.26 million) |
| Net Increase in Net Assets from Operations | $13.27 million | ($2.67 million) |
| Net Asset Value (NAV) per Share | $8.16 | $7.67 |
| Total Portfolio Investments (Fair Value) | $959.1 million | $857.8 million |
| Cash and Cash Equivalents | $41.4 million | $20.5 million |
| Total Borrowings (Notes Payable) | $386.0 million | $413.0 million |
| Weighted Average Effective Yield | 8.9% | 8.2% |
Material Changes vs. Prior Period
- Investment Income Growth: Total investment income increased to $25.4 million from $21.3 million year-over-year, driven by portfolio growth and accretion of original issue discounts.
- Expense Increases: Total expenses (net of waivers) rose to $10.2 million from $9.0 million, primarily due to higher base management fees, increased amortization of offering costs, and higher interest expense on borrowings.
- Realized Gains: The Company recorded a net realized gain of $2.64 million, a significant improvement from a $0.65 million loss in the prior year, largely due to the exit of a private loan equity investment.
- Unrealized Depreciation: Net unrealized depreciation improved significantly to $4.52 million compared to $14.26 million in Q1 2016.
- Debt Reduction: Total borrowings decreased by $27.0 million to $386.0 million, despite an increase in average borrowings during the period compared to the prior year.
Guidance, Outlook, and Risks
- Offering Status: The Company's continuous public offering was extended to September 30, 2017. As of March 31, 2017, approximately $131.2 million had been raised in the current offering.
- Fee Waivers: The Advisers waived approximately $1.5 million in subordinated incentive fees and $0.66 million in administrative services expenses for the quarter. These waivers are subject to potential reimbursement within three years if operating expense ratios and distribution rates meet specific thresholds.
- Portfolio Quality: Four investments in three portfolio companies were on non-accrual status, representing approximately 1.1% of the total portfolio at fair value. The weighted average rating of the LMM portfolio was 2.7 (on a 1-5 scale).
- Subsequent Events:
- Entered a joint venture with ORIX Funds Corp. to invest in broadly-syndicated loans, committing $30 million of equity.
- Filed a tender offer to repurchase approximately 1.4 million shares at NAV.
- Risks: The Company is exposed to interest rate risk, though most debt investments have floating rates with floors. Liquidity depends on the ability to raise capital and access credit facilities. Distributions may exceed earnings, potentially resulting in a return of capital.
Investor Verification Checklist
- Fee Waiver Sustainability: Verify the conditions under which the $2.15 million in waived fees (incentive and administrative) could be clawed back in future periods.
- Non-Accrual Exposure: Review the specific credit deterioration details of the four investments on non-accrual status and their impact on future cash flows.
- Leverage Utilization: Confirm the Company's ability to maintain the required 200% asset coverage ratio under the 1940 Act while utilizing its $94.0 million in remaining credit facility capacity.
- Distribution Sources: Analyze the tax characteristics of distributions to determine the portion derived from net investment income versus return of capital or capital gains.
- Joint Venture Terms: Assess the risk profile and capital commitment requirements of the new HMS-ORIX SLF LLC joint venture.