Business Context and Reporting Period
Company: CM Finance Inc. (CMFN)
Filing Type: Form 10-K (Annual Report)
Reporting Period: Fiscal year ended June 30, 2015
Business Overview: CM Finance is an externally managed, non-diversified closed-end management investment company regulated as a Business Development Company (BDC). It invests primarily in the debt (unitranche, first lien, second lien) and related equity of privately held lower middle-market U.S. companies. The company is managed by CM Investment Partners LLC.
Key Financial Metrics
| Metric | 2015 (Year Ended June 30) | 2014 (Year Ended June 30) |
|---|---|---|
| Total Investment Income | $36.92 million | $21.13 million |
| Net Investment Income | $20.22 million | $16.00 million |
| Net Increase in Net Assets from Operations | $15.43 million | $16.18 million |
| Net Asset Value (NAV) per Share | $14.41 | $14.65 |
| Total Assets | $362.79 million | $308.76 million |
| Total Liabilities | $165.84 million | $108.54 million |
| Total Net Assets | $196.95 million | $200.22 million |
| Portfolio Fair Value | $330.32 million | $273.71 million |
| Weighted Average Yield (at cost) | 10.91% | 10.82% |
| Asset Coverage Ratio | 2.31x | 3.34x |
| Debt Outstanding | $150.85 million | $85.59 million |
Liquidity: As of June 30, 2015, the company held $21.54 million in cash and cash equivalents, plus $3.43 million in restricted cash. It had $1.2 million of capacity remaining under its $50.0 million revolving credit facility.
Material Changes vs. Prior Period
- Portfolio Growth: The investment portfolio grew from $273.7 million to $330.3 million, with the number of portfolio companies increasing from 24 to 26. During the year, the company added 18 new investments totaling approximately $198.0 million.
- Increased Leverage: Total debt outstanding increased significantly from $85.6 million to $150.8 million. This was driven by an increase in the Term Financing facility (from $76.5 million to $102.0 million) and higher utilization of the Revolving Financing (from $9.1 million to $48.8 million).
- Unrealized Depreciation: The company recorded a net change in unrealized depreciation of $8.0 million for 2015, compared to unrealized appreciation of $1.0 million in 2014. This decline was primarily attributed to fair value decreases in investments in AAR Intermediate Holdings, LLC, Caelus Energy, and PR Wireless.
- Expense Increase: Total expenses (net of waivers) rose to $16.7 million from $5.1 million, driven by higher management fees, interest expense on increased borrowings, and operating costs associated with public company status.
Guidance, Outlook, and Risks
Management Commentary: Management continues to focus on maximizing total return through current income and capital appreciation. The company maintains a disciplined underwriting process and monitors portfolio companies daily. The weighted average yield remains stable at approximately 10.9%.
Dividend Policy: The company intends to distribute at least 90% of its net investment income to maintain Regulated Investment Company (RIC) status. For 2015, the Adviser waived incentive fees to support a minimum annualized dividend yield of 9.25% based on the IPO price.
Key Risks and Contingencies:
- Concentration Risk: The portfolio has significant exposure to specific industries. As of June 30, 2015, Oil and Gas/Oilfield/Pipelines represented 18.21% of the portfolio, Telecommunications 14.92%, and Healthcare 12.58%.
- Asset Quality: While 93.2% of the portfolio is rated "Investment Rating 2" (performing within expectations), 6.8% is rated "3" or "4" (performing below expectations or in workout). No investments were rated "5" (expected loss of principal).
- Valuation Uncertainty: All investments are classified as Level 3 under ASC 820, meaning they are valued using unobservable inputs determined in good faith by the Board of Directors. This introduces subjectivity to the reported NAV.
- Interest Rate Risk: 87.6% of debt investments bear floating interest rates. A 1.00% increase in rates would decrease net interest income by approximately 0.6% due to the company's financing structure.
Important Facts for Investor Verification
- Fee Waivers: Verify the duration and terms of the Adviser's incentive fee waivers, which are currently in place through 2016 to support specific dividend yields.
- Debt Covenants: Review the asset coverage ratio (currently 2.31x) against the 200% minimum required by the 1940 Act to ensure the company can continue to make distributions and incur debt.
- Portfolio Concentration: Assess the impact of potential downturns in the Oil & Gas and Telecommunications sectors, which collectively comprise nearly 33% of the portfolio.
- Unrealized Losses: Investigate the specific drivers of the $8.0 million unrealized depreciation, particularly regarding the investments in AAR Intermediate Holdings, Caelus Energy, and PR Wireless.
- Financing Facility Terms: Note the recent amendment (August 2015) extending the Term Financing maturity to December 2018 but increasing the all-in cost to LIBOR plus 3.35% for the extended period.