Business Context and Reporting Period
Company: Apollo Investment Corporation (AIC), a closed-end, non-diversified business development company (BDC) and regulated investment company (RIC).
Reporting Period: Quarterly Report (Form 10-Q) for the quarter and nine months ended December 31, 2010.
Investment Strategy: Generates current income and capital appreciation through debt (senior secured loans, mezzanine debt) and equity investments in middle-market companies.
Key Financial Metrics
| Metric | 9 Months Ended Dec 31, 2010 | 9 Months Ended Dec 31, 2009 |
|---|---|---|
| Total Investment Income | $264.1 million | $252.6 million |
| Total Expenses | $122.9 million | $100.5 million |
| Net Investment Income | $141.1 million | $150.9 million |
| Net Realized Loss | ($150.5 million) | ($253.4 million) |
| Net Change in Unrealized Gain | $77.7 million | $375.6 million |
| Net Increase in Net Assets from Operations | $68.4 million | $273.2 million |
| Earnings Per Share (Diluted) | $0.36 | $1.78 |
| Net Asset Value (NAV) Per Share | $9.73 | $10.06 (Mar 31, 2010) |
| Total Debt Outstanding | $999.9 million | $1,060.6 million (Mar 31, 2010) |
| Cash and Cash Equivalents | $210.7 million | $456.9 million (Mar 31, 2010) |
Material Changes vs. Prior Period
- Operating Performance: Net increase in net assets from operations decreased significantly to $68.4 million for the nine months ended Dec 31, 2010, compared to $273.2 million in the prior year period. This decline was driven by a substantial reduction in net unrealized appreciation ($77.7 million vs. $375.6 million) and higher realized losses, despite a slight increase in gross investment income.
- Expense Growth: Total expenses increased by approximately 22% year-over-year. This was primarily due to higher interest and debt expenses ($34.1 million vs. $14.5 million) resulting from the amendment of the revolving credit facility and the issuance of senior secured notes in late 2009 and 2010.
- Portfolio Composition: The portfolio consists of 69 companies. As of Dec 31, 2010, the allocation was 29% senior secured loans, 62% subordinated debt, 1% preferred equity, and 8% common equity/warrants. The weighted average yield on the total debt portfolio was 11.5%.
- Capital Activity: The Company raised approximately $204 million in net proceeds from a follow-on equity offering in May 2010 and issued $225 million in senior secured notes in October 2010.
Guidance, Outlook, Risks, and Unusual Items
- Subsequent Financing: On January 25, 2011, the Company closed a private offering of $200 million in senior unsecured convertible notes at 5.75% interest, maturing in 2016. Proceeds are intended for new investments and debt reduction.
- Portfolio Company Distress: Grand Prix Holdings, LLC (Innkeepers USA), a controlled portfolio company, filed for Chapter 11 bankruptcy protection in July 2010. The Company's investments in this entity are currently valued at $0 (preferred equity) and $0 (common equity) due to the bankruptcy proceedings, though the Company holds significant debt exposure.
- Legal Proceedings: A complaint filed by Midland Loan Services regarding Innkeepers was dismissed without prejudice in November 2010.
- Market Risk: The Company is exposed to interest rate risk, with 37% of its income-bearing portfolio on a floating rate basis. A hypothetical 1% change in LIBOR would impact earnings by approximately one cent per share.
- Valuation: The majority of the portfolio (Level 3 assets) is valued using unobservable inputs determined in good faith by the Board of Directors, involving significant judgment.
Investor Verification Checklist
- Debt Covenants: Verify continued compliance with the 2.0:1.0 asset coverage ratio and minimum liquidity requirements under the $1.58 billion revolving credit facility.
- Innkeepers Restructuring: Monitor the Chapter 11 reorganization progress of Grand Prix Holdings, LLC, as it represents a material concentration of risk and potential loss.
- Dividend Sustainability: Assess the ability to maintain quarterly distributions given the decline in net investment income and the requirement to distribute 90% of taxable income to maintain RIC status.
- Convertible Note Dilution: Evaluate the potential dilution impact of the $200 million convertible notes issued in January 2011, with an initial conversion price of ~$13.75.
- Level 3 Valuations: Review the specific valuation methodologies and inputs used for the $2.9 billion in Level 3 assets, particularly for distressed or non-traded securities.