MFIC

Business Context and Reporting Period

Company: Apollo Investment Corporation (AIC)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2013
Business Overview: AIC is a closed-end, externally managed business development company (BDC) and regulated investment company (RIC). It invests primarily in debt and equity securities of private middle-market companies. As of June 30, 2013, the portfolio consisted of 94 portfolio companies.

Key Financial Metrics

Material Changes vs. Prior Period

• Investment Income Growth: Gross investment income increased by 20.4% year-over-year, driven by a larger portfolio size and non-recurring income (approx. $8 million in prepayment penalties and $3 million in dividends).
• Expense Increases: Net expenses rose to $44.3 million from $41.6 million, primarily due to higher performance-based incentive fees and management fees resulting from the larger asset base, partially offset by fee waivers on incremental equity.
• Realized Losses: Net realized losses widened significantly to $95.9 million from $18.8 million. This was primarily due to the sale of two portfolio companies (Cengage Learning Acquisitions and ATI Acquisition Company) which generated combined realized losses of $99.6 million.
• Unrealized Gains: The portfolio saw a net unrealized appreciation of $62.4 million, a reversal from the $31.5 million depreciation in the prior year. This was largely due to the reversal of previously recognized unrealized depreciation upon the exit of the aforementioned portfolio companies.
• Capital Activity: The company issued 21.85 million shares of common stock in May 2013, raising approximately $181.9 million in net proceeds. Additionally, $150 million in 6.875% Senior Notes due 2043 were issued in June 2013.

Guidance, Outlook, Risks, and Unusual Items

• Management Commentary: Management noted that the portfolio yield on secured debt was 11.4% and unsecured debt was 11.8% as of June 30, 2013. The company remains compliant with all debt covenants.
• Dividends: A dividend of $0.20 per share was declared for the second fiscal quarter of 2014, payable October 4, 2013. The company maintains an "opt-out" dividend reinvestment plan.
• Legal Proceedings: On May 20, 2013, AIC was named as a defendant in a complaint by the bankruptcy trustee of DSI Renal Holdings alleging fraudulent conveyance. The complaint seeks approximately $41 million in damages from AIC. Management intends to vigorously defend the action and has not determined if the matter is material.
• Risk Factors: The company faces standard BDC risks including credit risk, interest rate risk, and liquidity risk. A significant portion of the portfolio (Level 3 assets) relies on unobservable inputs for valuation.
• Unusual Items: The significant realized losses were non-recurring events tied to specific portfolio exits. The company also noted fee waivers totaling $1.974 million for the quarter.

Investor Verification Checklist

• Debt Covenants: Verify continued compliance with the Senior Secured Facility covenants, specifically the asset coverage ratio and minimum stockholders' equity requirements.
• Legal Exposure: Monitor the status of the DSI Renal Holdings litigation and any potential financial impact or settlement discussions.
• Portfolio Valuation: Review the methodology for Level 3 asset valuations, as a significant portion of the portfolio ($1.57 billion) relies on unobservable inputs.
• Dividend Sustainability: Assess the ratio of cash investment income to dividends paid, noting the impact of Payment-in-Kind (PIK) interest which must be distributed for tax purposes but may not be collected in cash.
• Capital Deployment: Track the deployment of the $181.9 million raised from the May 2013 equity offering and the $130.7 million from the June 2013 note issuance.