Rand Capital Corporation 10-Q Summary
Business Context and Reporting Period
Rand Capital Corporation is an externally managed, diversified business development company (BDC) that invests primarily in debt and equity securities of lower middle-market companies. It also has elected regulated investment company (RIC) tax treatment. The filing covers the three and six months ended June 30, 2023, compared with the corresponding 2022 periods; the balance sheet is compared with December 31, 2022.
East owned approximately 64% of Rand’s outstanding common stock at June 30, 2023. Rand’s investment management and administration agreements with Rand Capital Management, LLC are scheduled to expire December 31, 2023, subject to annual renewal requirements.
Key Financial Metrics
| Metric | Q2 2023 / June 30, 2023 | Comparable Period / December 31, 2022 |
|---|---|---|
| Total investment income | $1.815 million | $1.353 million in Q2 2022 |
| Net investment income | $0.493 million; $0.19 per share | $1.418 million; $0.55 per share in Q2 2022 |
| Net realized gains | $3.480 million after tax in Q2; $3.533 million for six months | $1.540 million in Q2; $0.689 million for six months of 2022 |
| Net change in unrealized appreciation | $(1.301) million after tax in Q2; $0.101 million for six months | $(4.855) million in Q2; $(5.186) million for six months of 2022 |
| Net increase in net assets from operations | $2.672 million in Q2; $4.842 million for six months; $1.04 and $1.88 per share, respectively | $(1.896) million in Q2; $(2.307) million for six months of 2022 |
| Total assets | $76.055 million | $63.481 million at December 31, 2022 |
| Net assets | $61.402 million; NAV $23.79 per share | $57.721 million; NAV $22.36 per share |
| Investments at fair value | $66.792 million | $61.504 million at December 31, 2022 |
| Cash | $8.356 million | $1.369 million at December 31, 2022 |
| Debt | $10.650 million drawn under revolving facility; debt/equity ratio 17.34% | $2.550 million drawn at December 31, 2022 |
Cash Flow, Liquidity, and Dividends
- Six-month operating cash flow was $0.049 million, compared with $1.130 million in the first six months of 2022.
- Rand invested $10.260 million in portfolio companies and received $5.907 million from investment sales and $3.511 million from loan repayments.
- Financing activities provided $6.939 million, including $8.100 million of credit facility borrowings, partially offset by $1.161 million of cash dividends.
- Cash increased by $6.987 million during the first six months of 2023.
- The $25 million senior secured revolving facility matures June 27, 2027 and bore interest at 8.59% at June 30, 2023. Management reported $14.350 million of unused borrowing capacity based on the borrowing-base formula.
- Quarterly dividends declared for the first and second quarters were $0.20 and $0.25 per share, respectively. Subsequent to quarter-end, the Board declared another $0.25 per share dividend payable in September 2023.
Material Changes Versus Prior Period
- Six-month investment income increased 48.0% to $3.667 million, primarily from higher interest income generated by new debt investments.
- Six-month net investment income declined to $1.208 million from $2.190 million. Higher investment income was more than offset by a $1.685 million increase in capital gains incentive fee expense and $0.417 million of interest expense on the revolving facility.
- Net realized gains increased substantially, mainly from the sale of DSD Operating, ACV Auctions shares, and other investment exits.
- Unrealized investment results improved significantly from a $5.186 million loss in the first six months of 2022 to a $0.035 million pre-tax gain in the first six months of 2023.
- Portfolio cost increased 9.4% to $60.969 million, while fair value increased 8.6% to $66.792 million.
- New or follow-on investments included Inter-National Electronic Alloys, Pressure Pro, BMP Food Service Supply, ITA Acquisition, and Tilson. Major reductions included DSD, Somerset Gas Transmission, Hilton Displays, and BMP Food Service Supply.
Outlook, Commentary, Risks, and Unusual Items
- Management expects to fund investments and distributions through operating cash flow, sales of publicly traded investments, and borrowings under the revolving credit facility. It expects to continue exiting investments, although the timing of private investment realizations is difficult to predict.
- The filing provides no quantitative earnings or investment guidance.
- A $2.538 million realized gain resulted from the DSD exit, while the Somerset exit produced a $0.449 million realized loss. Q2 also included a $1.719 million realized gain on ACV Auctions shares and a $0.061 million early repayment fee from DSD.
- GAAP requires Rand to accrue capital gains incentive fees based on realized gains and unrealized appreciation. The accrued balance was $2.949 million at June 30, 2023, although the filing states that no capital gains fee was currently payable under the advisory agreement and the final amount is determined annually.
- Approximately 89% of investments were restricted securities and 89% were Level 3 assets valued using significant unobservable inputs. Fair values may differ materially from amounts ultimately realized.
- The five largest portfolio exposures represented approximately 47% of investment fair value: Tilson 16%, Seybert’s 9%, SciAps 8%, BMP Food Service Supply 8%, and Inter-National Electronic Alloys 6%.
- Portfolio concentration was highest in professional services, manufacturing, and consumer products. Private-company credit quality, borrower performance, interest rates, liquidity, valuation estimates, and concentration are material risks.
- All portfolio assets are pledged as collateral for the revolving facility. Rand reported compliance with its tangible net worth, asset coverage, and interest coverage covenants at June 30, 2023.
- No legal proceedings, commitments, off-balance-sheet arrangements, or derivative hedges were reported. The share repurchase plan authorizes up to $1.5 million of repurchases through April 19, 2024; no shares were repurchased during the quarter.
Important Facts for Investors to Verify
- Whether portfolio-company interest and PIK income are ultimately collected in cash, particularly for investments with deferred or capitalized interest.
- The sustainability of net investment income after higher borrowing costs, management fees, incentive fees, and taxes.
- The realizability of the $2.949 million GAAP capital gains incentive fee accrual and the effect of future portfolio valuation changes.
- Fair values and credit performance of the heavily concentrated, predominantly private and Level 3 investment portfolio.
- Borrowing-base availability, variable-rate exposure, and continued compliance with the revolving facility’s financial covenants.
- Renewal of the investment management and administration agreements after December 31, 2023.
- Whether realized gains and current cash resources are sufficient to support future dividends and new investment activity.