MFIC

Business Context and Reporting Period

Company: Apollo Investment Corporation (AIC)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: December 31, 2011
Business Model: A closed-end, non-diversified management investment company operating as a Business Development Company (BDC) and a Regulated Investment Company (RIC). The company invests primarily in subordinated debt, senior secured loans, and equity of private middle-market companies.

Key Financial Metrics

Material Changes vs. Prior Period

• Net Assets: Total net assets decreased from $1.96 billion (March 31, 2011) to $1.61 billion (December 31, 2011), a decline of approximately 18%. NAV per share dropped from $10.03 to $8.16.
• Realized Losses: The nine-month period saw a significant net realized loss of $341.1 million, compared to $150.5 million in the prior year period. This was primarily driven by the exit of the Grand Prix Holdings investment, which accounted for $274 million of the loss.
• Unrealized Gains: A net unrealized gain of $300.2 million in the quarter ended December 31, 2011, largely offset the realized losses. This gain was primarily due to the reclassification of previously recognized unrealized depreciation on Grand Prix Holdings to a realized loss upon exit.
• Expenses: Total expenses increased year-over-year, driven by higher interest costs (weighted average annual interest cost rose to 4.38% from 3.20%) and higher average debt outstanding.
• Portfolio Composition: The portfolio consisted of 67 companies at period end, with 60% in subordinated debt, 29% in senior secured loans, and 10% in equity/warrants.

Guidance, Outlook, and Risks

• Management Commentary: Management noted that the significant realized losses were due to selective exits of underperforming investments, specifically Grand Prix Holdings, Playpower Holdings, TL Acquisitions, and FSC Holdings. These exits reversed previously reported unrealized losses.
• Liquidity: The company maintains a $1.254 billion senior secured revolving credit facility with $511 million of unused capacity as of December 31, 2011. Cash and cash equivalents were minimal ($0.6 million).
• Dividends: To maintain RIC status, the company must distribute at least 90% of taxable income. Dividends for the nine months ended December 31, 2011, totaled $165.0 million ($0.84 per share).
• Risks and Contingencies:
  • Market Risk: The company is exposed to interest rate fluctuations. A 1% increase in LIBOR would decrease earnings by approximately $0.03 per share.
  • Credit Risk: Significant exposure to private middle-market companies. The company holds commitments of $140 million to purchase secured term loans and unsecured bridge loans, subject to transaction consummation.
  • Subsequent Events: On January 20, 2012, the company entered a forbearance agreement with ATI Acquisition Company regarding a potential restructuring. As of February 8, 2012, $40 million of the $140 million in commitments were terminated.

Investor Verification Checklist

• Grand Prix Holdings Exit: Verify the impact of the $274 million realized loss on the Grand Prix Holdings exit and confirm the reclassification of unrealized losses.
• Debt Covenants: Confirm continued compliance with debt covenants, specifically the asset coverage ratio (2.0:1.0) and minimum stockholders' equity requirements, given the decline in net assets.
• Commitment Funding: Review the status of the $140 million outstanding commitments to purchase loans, noting the $40 million termination reported in subsequent events.
• Valuation Methodology: Assess the fair value determination process for Level 3 assets, which comprise the entire investment portfolio, given the significant volatility in unrealized gains/losses.
• Dividend Sustainability: Evaluate the ability to maintain dividend distributions given the net decrease in net assets and the reliance on Payment-in-Kind (PIK) income, which totaled $13.1 million for the nine-month period.