Business Context and Reporting Period
Company: HMS Income Fund, Inc. (a Business Development Company or BDC)
Reporting Period: Quarterly period ended June 30, 2019 (Six months ended June 30, 2019)
Overview: The Company is an externally managed, non-diversified closed-end management investment company. Its primary objective is to generate current income through debt and equity investments in lower middle market (LMM) and middle market companies. The Company is managed by HMS Adviser LP, with MSC Adviser I, LLC (a subsidiary of Main Street Capital Corporation) serving as the sub-adviser.
Key Financial Metrics
| Metric | Six Months Ended June 30, 2019 | Six Months Ended June 30, 2018 |
|---|---|---|
| Total Investment Income | $57.8 million | $51.0 million |
| Net Investment Income | $27.8 million | $26.5 million |
| Net Realized Gain (Loss) | $(6.9) million | $(7.8) million |
| Net Change in Unrealized Appreciation | $9.7 million | $9.1 million |
| Net Increase in Net Assets from Operations | $30.6 million | $27.8 million |
| Earnings Per Share (Basic & Diluted) | $0.39 | $0.35 |
| Net Asset Value (NAV) per Share | $8.00 | $8.15 |
| Total Portfolio Investments (Fair Value) | $1,068.2 million | $1,106.6 million |
| Weighted Average Effective Yield | 9.4% | 9.5% |
| Cash and Cash Equivalents | $20.7 million | $37.6 million |
| Total Borrowings (Credit Facilities) | $458.0 million | $509.0 million |
| Asset Coverage Ratio | 237% | 223% |
Material Changes vs. Prior Period
- Investment Income Growth: Total investment income increased by approximately $6.8 million (13.3%) compared to the prior year period. This was driven by a $4.9 million increase in interest income and a $2.5 million increase in dividend income, attributed to a higher concentration of higher-yielding Private Loan and LMM debt investments.
- Expense Increases: Total expenses (net of waivers) rose to $29.9 million from $24.3 million. The increase was primarily due to a $2.7 million increase in incentive fees (which were $0 in the prior period) and a $2.5 million increase in interest expense due to higher average borrowings and interest rates.
- Portfolio Composition: The portfolio fair value decreased by approximately $38.3 million (3.5%) from December 31, 2018, due to net repayments and sales exceeding new investments. The number of portfolio investments increased by 5.
- Debt Reduction: The Company reduced its total borrowings under credit facilities by $51.0 million during the six-month period, bringing total outstanding debt to $458.0 million.
- Non-Accrual Status: The number of investments on non-accrual status increased from five (in three companies) at year-end 2018 to seven (in four companies) as of June 30, 2019. These represented 0.9% of the total portfolio at fair value.
Guidance, Outlook, and Risks
- Distributions: The Company declared distributions of $0.18 per share for the quarter ended June 30, 2019. For the six months ended June 30, 2019, total distributions declared were $27.4 million. Approximately 76.2% of these distributions were funded by net realized income from operations, with the remainder funded by other sources (including prior year earnings).
- Future Outlook: Management intends to continue employing leverage to enhance returns, subject to asset coverage restrictions. The Company expects to fund distributions from legally available sources, including net investment income, capital gains, and borrowings.
- Key Risks:
- Interest Rate Risk: Approximately 89.5% of the debt portfolio contains floating interest rates. While floors minimize downside risk, rising rates increase borrowing costs. A 200 basis point increase in rates would increase net investment income by approximately $7.9 million, while a 200 basis point decrease would reduce it by $1.8 million.
- Credit Risk: The portfolio includes investments in lower middle market companies which may be more susceptible to economic downturns. Seven investments are currently on non-accrual status.
- Liquidity: The Company relies on cash flows from operations and borrowings to fund distributions and new investments. Availability under credit facilities is subject to asset coverage ratios.
- Unusual Items: The Company recognized $0.5 million in non-recurring fee income for the six months ended June 30, 2019, compared to $1.1 million in the prior year period. Additionally, the Company completed a merger of its HMS-ORIX subsidiary into a CLO, resulting in the liquidation of that specific portfolio segment.
Important Facts for Investors to Verify
- Distribution Sustainability: Verify the source of distributions, noting that 23.8% of the six-month distributions were funded from sources other than current net realized income (e.g., prior year earnings or capital).
- Fee Structure: Confirm the impact of the subordinated incentive fee, which was $2.7 million for the six months ended June 30, 2019, compared to $0 in the prior year, and its effect on net investment income.
- Non-Accrual Trends: Monitor the increase in non-accrual investments from 0.4% to 0.9% of the portfolio and the specific portfolio companies involved (Datacom, LLC; Guerdon Modular Holdings, Inc.; M.H. Corbin Holding LLC; and others).
- Share Repurchases: Note the Company's active share repurchase program, having repurchased approximately 1.6 million shares for $13.0 million during the six-month period.
- Unfunded Commitments: Verify the $38.4 million in outstanding unfunded loan and capital commitments and the Company's liquidity position to meet these obligations.