GECC

Business Context and Reporting Period

Company: Great Elm Capital Corp. (GECC)
Filing Type: Form 10-Q (Unaudited)
Period Ended: March 31, 2022
Business Model: GECC is a closed-end, externally managed Business Development Company (BDC) and Regulated Investment Company (RIC). It seeks current income and capital appreciation through debt and income-generating equity investments in middle-market companies and specialty finance businesses.

Key Financial Metrics

Material Changes vs. Prior Period

• Net Investment Income Surge: Net investment income increased significantly to $5.95 million from $1.50 million in Q1 2021. This was primarily driven by a $4.85 million incentive fee waiver by the investment adviser (GECM), which reversed previously accrued fees.
• Realized Losses: Net realized losses widened to $19.93 million compared to $3.28 million in the prior year. This was largely due to sales of Tru (UK) Asia Limited (Tru Taj) and California Pizza Kitchen, Inc. (CPK) common stock, resulting in realized losses of $15.9 million and $4.2 million, respectively.
• Unrealized Appreciation: Net unrealized appreciation was $8.87 million, down from $14.32 million in Q1 2021. Gross unrealized depreciation included $7.7 million in write-downs on Avanti Communications Group, plc debt positions.
• NAV Decline: NAV per share decreased from $16.63 at the beginning of the period to $15.06 at period end, reflecting the net decrease in net assets from operations and distributions.
• Asset Coverage Ratio Breach: The asset coverage ratio fell to 147.5%, below the 150% minimum required by the Investment Company Act. This restricts the company's ability to incur additional debt or make certain distributions until the ratio is restored.

Guidance, Outlook, Risks, and Unusual Items

• Capital Raising: On April 19, 2022, GECC filed an amendment for a non-transferable rights offering to purchase shares of common stock. The offering is subject to market conditions and SEC effectiveness.
• Distributions: The Board authorized a distribution of $0.45 per share for the quarter ending September 30, 2022.
• Avanti Communications Restructuring: In April 2022, Avanti announced restructuring transactions where certain creditors contributed senior debt, and GECC's 2nd lien bond and 1.5 lien loan were converted to equity. Several Avanti debt positions remain on non-accrual status.
• Acquisition: On February 3, 2022, GECC acquired a majority ownership interest in Sterling Commercial Credit, LLC for approximately $7.54 million (cash and stock).
• Risks:
  • Asset Coverage: Falling below the 150% asset coverage ratio limits leverage and distribution capabilities.
  • Interest Rate Sensitivity: Approximately $85.8 million of debt investments bear variable rates. A 1% increase in reference rates would increase net investment income by approximately $0.62 million.
  • COVID-19: Continued economic disruption may impact portfolio company performance and valuations.

Investor Verification Checklist

• Asset Coverage Ratio: Verify the plan and timeline to restore the asset coverage ratio above 150% to lift borrowing and distribution restrictions.
• Incentive Fee Waiver: Confirm the sustainability of the $4.85 million fee waiver and its impact on future expense ratios.
• Avanti Exposure: Assess the impact of the Avanti Communications restructuring and the conversion of debt to equity on future recovery values.
• Realized Losses: Review the specific details of the Tru Taj and CPK sales to understand the magnitude of capital erosion.
• Rights Offering: Monitor the status of the rights offering registration and market conditions for its completion.