Whitehorse Finance, Inc. quarterly report, Q2 FY2022

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WhiteHorse Finance, Inc. — Q2 2022 Form 10-Q

Reporting period: Three and six months ended June 30, 2022. WhiteHorse is an externally managed business development company (BDC) and regulated investment company that primarily lends to lower middle-market businesses. Amounts below are in millions of dollars unless otherwise noted.

Financial results and position

  • Investment income: Q2 was $20.0 million, up from $17.3 million a year earlier; first-half income was $40.0 million, up from $35.3 million. The company attributed growth mainly to a larger portfolio and increased income from its STRS Ohio joint venture.
  • Net investment income: Q2 was $7.9 million versus $6.1 million; first-half was $16.4 million versus $13.7 million. Higher interest expense and management fees partly offset income growth.
  • Net change from operations: Q2 was $7.3 million, down from $10.5 million; first-half was $13.1 million, down from $18.7 million. First-half results included $16.1 million of net realized losses, partly offset by $12.8 million of net unrealized appreciation.
  • Per-share results and distributions: Earnings per share were $0.32 for Q2 and $0.56 for the first half, compared with $0.51 and $0.91, respectively, in 2021. Distributions declared were $0.36 per share for Q2 and $0.71 for the first half.
  • Net assets and NAV: Net assets were $347.4 million and NAV was $14.95 per share at June 30, versus $349.8 million and $15.10 per share at year-end 2021.
  • Portfolio: Investments at fair value totaled $766.5 million, down from $819.2 million at year-end. The portfolio comprised 105 positions in 68 companies; nearly all performing debt investments were floating-rate. Weighted-average effective yield was 9.9%, versus 9.0% at year-end.
  • Credit quality: No company loans were on non-accrual at June 30; non-accrual loans had fair value of $10.0 million at year-end. The share of portfolio fair value rated 3 increased to 14.0% from 8.9%; rating 4 was 1.2% versus 1.0%.
  • Debt and leverage: Debt carrying value was $423.2 million; principal outstanding was $428.7 million. Debt was down from $476.0 million carrying value at year-end, chiefly reflecting lower credit-facility borrowings. Asset coverage was 181.0%, above the 150% statutory minimum. The JPMorgan facility had $238.7 million drawn and $96.3 million available, subject to collateral and portfolio requirements.
  • Liquidity and cash flow: Cash, cash equivalents and restricted cash totaled $18.6 million at June 30, including $9.2 million unrestricted cash. First-half operating cash flow was $64.2 million, compared with $40.6 million in 2021; financing used $68.4 million, compared with $38.8 million.
  • Interest costs: First-half interest expense rose to $9.7 million from $7.6 million, reflecting higher average borrowings and interest rates. The credit facility rate in effect at quarter-end was 4.03%.

Material changes versus comparable periods

  • First-half investment income and net investment income increased, but net results from operations declined because of realized losses and period-to-period changes in unrealized investment values.
  • Investment fair value fell by $52.7 million from December 31, 2021. Debt investments at fair value declined, while equity investments and the company’s STRS JV interest increased.
  • The company increased its STRS JV commitment by $25.0 million in February; its economic ownership rose from 60% to approximately 66.67%. Its investment in the JV was $100.0 million at June 30, comprising $80.0 million in subordinated notes and $20.0 million in equity.
  • The company amended and expanded its credit facility during the first half; facility availability reached $335.0 million, with an accordion feature up to $375.0 million subject to conditions.

Outlook, commentary, risks and unusual items

  • The filing provides no specific earnings or distribution guidance. Management noted uncertainty about COVID-19 effects on portfolio companies, inflation, interest rates, Russia’s war against Ukraine, and market and economic conditions.
  • Management said it monitors borrowers and market conditions and may work with borrowers on restructuring or flexible terms. It warned that borrower distress could reduce interest income, lower investment values, increase non-accruals, and impair distributions and debt service.
  • Interest-rate sensitivity analysis estimated that a 100-basis-point increase would raise annualized net interest income by approximately $5.0 million, while a 100-basis-point decrease would reduce it by approximately $1.7 million, assuming the balance sheet remained constant and no mitigating actions were taken.
  • Most investments are Level 3 fair-value measurements based on significant unobservable inputs; actual realizable values may differ materially. Credit, liquidity, leverage, covenant and benchmark-transition risks are also material.
  • Unusual items included a January restructuring of PlayMonster loans into a new loan and equity securities, a $1.7 million Q2 recovery gain on an RCS Capital-related equity investment, and a $16.1 million first-half net realized investment loss. The filing attributes a substantial loss to Grupo HIMA San Pablo.
  • Unfunded portfolio-company commitments were $34.5 million, down from $53.1 million at year-end; these may expire undrawn but can require funding. The company reported compliance with credit-facility covenants and no material legal proceedings.
  • Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting.

Important facts for investors to verify

  • Whether the increased share of lower-rated investments and borrower-specific exposures signals further credit deterioration, despite no loans being on non-accrual at quarter-end.
  • How Level 3 valuation assumptions and recent market conditions affect portfolio marks and NAV, particularly for investments with significant unrealized losses.
  • Whether investment income and cash collections can sustain distributions, given Q2 earnings per share of $0.32 versus a $0.36 distribution.
  • Available borrowing capacity, collateral eligibility, covenant compliance and the 181.0% asset-coverage cushion relative to the 150% minimum.
  • Exposure to floating-rate borrowing costs, LIBOR transition, PIK interest and unfunded commitments, and the effect of these items on cash income and liquidity.