MFIC

Business Context and Reporting Period

Company: Apollo Investment Corporation (AIC)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: December 31, 2014
Business Overview: AIC is a closed-end, externally managed business development company (BDC) and regulated investment company (RIC). Its investment objective is to generate current income and capital appreciation primarily through debt and equity investments in private middle-market companies. As of December 31, 2014, the company held 109 portfolio companies.

Key Financial Metrics

Material Changes vs. Prior Period

• Investment Income: Total investment income increased 16.4% for the three months ended Dec 31, 2014, compared to the same period in 2013, driven by a larger portfolio size (average cost of $3.63 billion vs. $3.13 billion) and higher prepayment fees. For the nine-month period, income increased 16.3%.
• Expenses: Net expenses increased 18.9% for the quarter and 16.8% for the nine-month period compared to the prior year. This was primarily due to higher interest and debt expenses (driven by a higher average debt balance) and increased management and incentive fees.
• Unrealized Losses: The company reported a significant net change in unrealized losses of $74.7 million for the quarter and $85.6 million for the nine months, contrasting with unrealized gains in the comparable 2013 periods. Major contributors to unrealized losses included Venoco, Inc., Molycorp, Inc., and Magnetation, LLC.
• Realized Gains/Losses: Net realized losses were $1.4 million for the quarter and $3.2 million for the nine months, compared to net realized gains of $3.7 million and losses of $109.5 million in the prior year periods, respectively.

Guidance, Outlook, and Risks

• Dividends: The Board declared a dividend of $0.20 per share for the second quarter of 2015, payable April 6, 2015. For the nine months ended Dec 31, 2014, total dividends paid were $142.0 million ($0.60 per share).
• Debt and Liquidity: As of Dec 31, 2014, the company had $669.8 million outstanding on its Senior Secured Facility with $575.0 million of unused capacity. The facility allows for expansion up to $1.71 billion. The company is in compliance with all debt covenants.
• Portfolio Composition: The portfolio is heavily weighted toward secured debt (61% of fair value). 81% of investments are classified as Level 3 (unobservable inputs), reflecting the private nature of the assets.
• Risks and Contingencies:
  • Legal Proceedings: AIC is a defendant in a lawsuit filed by the bankruptcy trustee of DSI Renal Holdings alleging fraudulent conveyance, seeking approximately $41 million in damages. The company intends to vigorously defend itself.
  • Interest Rate Risk: A significant portion of the portfolio and debt is floating rate. A 100 basis point increase in rates would decrease net investment income by approximately $2.7 million annually, while a 400 basis point increase would increase it by $14.5 million.
  • PIK Income: The company relies on Payment-in-Kind (PIK) interest, which is non-cash income that must be distributed to maintain RIC status. PIK income totaled $24.9 million for the nine months ended Dec 31, 2014.

Key Facts for Investor Verification

• NAV Decline: Verify the impact of the $85.6 million net unrealized loss on the decline in NAV per share from $8.67 (March 31, 2014) to $8.43 (Dec 31, 2014).
• Debt Utilization: Confirm the sustainability of the dividend payout given the high leverage (Total Debt of $1.59 billion vs. Net Assets of $2.00 billion) and the reliance on PIK income.
• Level 3 Valuations: Assess the sensitivity of the portfolio value to changes in unobservable inputs (discount rates, EBITDA multiples) given that 81% of assets are Level 3.
• Legal Exposure: Monitor the status of the DSI Renal Holdings litigation and potential financial impact.
• Fee Waivers: Note that management and incentive fees were waived for certain shares, reducing the expense ratio; verify if these waivers are permanent or temporary.