Business Context and Reporting Period
Company: New Mountain Finance Corporation (NMFC)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2018
Business Model: NMFC is a closed-end, non-diversified management investment company regulated as a Business Development Company (BDC) and a Regulated Investment Company (RIC). It targets current income and capital appreciation by investing in debt securities (first and second lien, mezzanine) and equity of U.S. middle-market "defensive growth" companies.
Key Financial Metrics
| Metric | 2018 | 2017 |
|---|---|---|
| Total Investment Income | $231.5 million | $197.8 million |
| Net Investment Income | $106.0 million | $102.2 million |
| Net Realized Gains (Losses) | ($9.7 million) | ($39.7 million) |
| Net Change in Unrealized Appreciation (Depreciation) | ($22.2 million) | $50.8 million |
| Net Increase in Net Assets from Operations | $72.4 million | $109.4 million |
| Total Assets | $2,448.7 million | $1,928.0 million |
| Total Borrowings (Net) | $1,384.1 million | $869.5 million |
| Total Net Assets | $1,006.3 million | $1,035.0 million |
| Net Asset Value (NAV) per Share | $13.22 | $13.63 |
| Portfolio Fair Value | $2,342.0 million | $1,825.7 million |
| Weighted Average Yield to Maturity (YTM) at Cost | 10.4% | 10.9% |
| Number of Portfolio Companies | 92 | 84 |
Material Changes vs. Prior Period
- Portfolio Growth: The portfolio fair value increased by approximately $516.3 million (28.3%) from 2017 to 2018, driven by $1.32 billion in new investments across 67 portfolio companies.
- Income Growth: Total investment income rose 17% to $231.5 million, primarily due to larger invested balances and rising LIBOR rates. Dividend income increased significantly due to distributions from joint ventures (SLP III) and PIK dividends.
- Expense Increase: Net operating expenses increased by $29.8 million to $125.4 million. This was driven by higher interest and financing expenses ($57.1 million vs. $37.1 million) due to new debt issuances (Convertible and Unsecured Notes) and higher drawn balances on credit facilities.
- Unrealized Depreciation: Unlike 2017, which saw $50.8 million in unrealized appreciation, 2018 recorded $22.2 million in unrealized depreciation, largely due to overall market price decreases and specific realized losses on investments in American Tire Distributors and National HME.
- Leverage: Total borrowings increased significantly to $1.4 billion (net of deferred financing costs) compared to $869.5 million in 2017, reflecting the issuance of $115.0 million in Convertible Notes and $191.8 million in Unsecured Notes during 2018.
Guidance, Outlook, and Risks
- Management Commentary: Management noted that the net loss in realized and unrealized gains/losses for 2018 was driven by market price decreases and specific portfolio company issues (ATD, NHME). The company continues to focus on defensive growth companies with sustainable secular growth drivers.
- Recent Developments: In early 2019, the company completed a public offering of 4.3 million shares for net proceeds of approximately $59.3 million and added new lenders to its Holdings Credit Facility, increasing aggregate commitments to $675.0 million.
- Distributions: The company declared a quarterly distribution of $0.34 per share for Q1 2019. For 2018, total distributions were $1.36 per share, with approximately 83.7% classified as ordinary income and 16.3% as a return of capital.
- Key Risks:
- Market Disruption: Global capital market instability could impact liquidity and the value of investments.
- Credit Risk: Investments in middle-market businesses carry a high degree of credit risk, particularly during economic downturns.
- Leverage: The company utilizes significant leverage (asset coverage ratio of 181.37% as of Dec 31, 2018), which magnifies potential losses.
- Valuation Uncertainty: A significant portion of the portfolio (Level III assets) relies on fair value determinations by the Board, which involves management judgment.
- Regulatory: Compliance with BDC and RIC requirements (including asset coverage and distribution requirements) is critical to maintaining tax status and operating flexibility.
Investor Verification Checklist
- Asset Coverage Ratio: Verify the current asset coverage ratio remains above the 150% minimum required by the 1940 Act to ensure the ability to issue senior securities and pay distributions.
- Debt Maturities: Review the maturity schedule of the $1.4 billion in debt, specifically the 2014 Convertible Notes maturing in June 2019 and the NMNLC Credit Facility maturing in September 2019.
- Portfolio Concentration: Assess exposure to the top five industries (Business Services, Software, Healthcare Services, Education, Investment Funds), which comprised 91.7% of total assets.
- Non-Accrual Status: Monitor the status of investments placed on non-accrual, specifically the Education Management Corporation (EDMC) position and the restructured National HME (NHME) position.
- Fee Waivers: Note that the Investment Adviser waived approximately $6.7 million in management fees for 2018; verify if this practice continues to support net investment income.