Q3 2022 Horizon Technology Finance Corp Earnings Call
Ladies and gentlemen, greetings.
Greetings and welcome to the Horizon Technology Finance Corporation third quarter 2022 earnings call.
At this time all participants are in a listen only mode.
A brief question and answer session will follow the formal presentation.
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As a reminder, this conference is being recorded.
It is now my pleasure to introduce you your host Megan Bacon director of IR and marketing.
Please go ahead.
Thank you and welcome to Horizon Technology Finance Corporation third quarter 2022 conference call, representing the company today are Rob Pomeroy, Chairman and Chief Executive Officer, Jerry Michaud, President and Dan <unk> Chief Financial Officer.
I would like to point out that the Q3 earnings press release and Form 10-Q are available on the company's website at horizon check finance dotcom.
Before we begin our formal remarks I need to remind everyone that during this conference call. The company will make certain forward looking statements.
With regards to the future performance of the company.
Words, such as believe expect anticipate intend or similar expressions are used to identify forward looking statements.
These forward looking statements are subject to the inherent uncertainties in predicting future results and conditions.
Certain factors could cause actual results to differ on a material basis from those projected in these forward looking statements and some of these factors are built and the risk factor discussion in the company's filings with the Securities and Exchange Commission, including the company's Form 10-K for the year ended December 31 22.
Anyone.
The company undertakes no obligation to update or revise any forward looking statements, whether as a result of new information future events or otherwise.
At this time I would like to turn the call over to Rob Pomeroy.
Welcome everyone and thank you for your interest in horizon.
As we always do on our quarterly calls I will update you on our performance and our current overall operating environment Jeremy.
Jeremy will then discuss our business development efforts our portfolio of events in our markets and Dan will detail, our operating performance and financial condition. We will then take some questions.
It was another excellent quarter for horizon, and our advisor Horizon Technology Finance management, despite the challenging macroeconomic environment.
Our earnings exceeded our distributions for the quarter, while we continued to responsibly grow our portfolio improve our credit quality to maintain our capacity to fund future growth through our strong balance sheet.
For the quarter, we generated net investment income of 43 per share well above our distributions of <unk> 30 per share.
Based on our results and outlook, we are very pleased to declare a 10% increase in our monthly distributions to <unk> 11 per share beginning in January 2023.
As well as declare a five cent per share special distributions payable in December .
That this is the third consecutive year, we have made a five cent per share specialties.
We maintained undistributed spillover income 67 per share as of the end of September .
We are confident in our platform's ability to generate NII that covers our distributions over time.
We're very pleased to distribute additional earnings to our shareholders.
We grew the portfolio by $57 million, resulting in a value at quarter end a 635.
The horizon brand continues to resonate in the venture debt community.
Advisor continues to source when high quality venture debt investment.
Finished the quarter with a committed and approved backlog of $252 million.
The pipeline of opportunities of over $1 billion.
As we look to further grow our portfolio in the current environment.
We will remain selective and disciplined when making new investments.
We strengthened our balance sheet through our aftermarket program by raising $19 million of equity capital at a premium to NAV.
As a result, we ended the quarter with $105 million.
We achieved strong portfolio yield on our debt investments was 15, 9% for the quarter.
So our yield benefited from the rising rate environment and profitable.
We ended the quarter with NAV of $11 66 per share a slight reduction from June 32022.
Finally, our credit profile improved during the quarter with 97% of our portfolio rated three or higher as of September 30th and with no loans on non accrual.
As always we are consistently and actively managing our investments to maintain credit quality.
Notwithstanding our strong results for the third quarter, we are cautious as we have seen is that venture debt markets tightened recent months.
Uh huh.
So market is immune from the macro headwind debenture.
The venture capital ecosystem.
Exceptions.
Capital raising by the Vcs, M&A and IPO exits and follow on equity rounds are all impacted by inflation, a looming recession and higher interest rates. We were focused on these macro issues as we manage our existing ports.
And select the right investment opportunity.
For the quarter, our Advisers' platform funded $106 million due debt investments across our targeted industry, including $89 billion funded at HRS Xena.
All of our new loans carry floating rates based on upon crime.
And the recent increases in the prime rate have resulted in higher onboarding yields higher prime rate floors.
The existing portfolio is also a.
The higher rates as evidenced by our strong interest income.
We remain cautious as the venture debt market adjusts to higher interest rates and the prospect for further increases.
The bulk of our portfolio growth and prepayment activity will be tempered by increased rates as well as the current economic environment.
While we have a record high committed backlog many of our commitments required then our portfolio companies achieve performance we're fundraising milestone.
The current economic environment meeting these milestones may be more difficult.
The IPO market has drastically shrunk and M&A activity has significantly slowed we still believe that there will be opportunities for prepayment activity from our portfolio of companies being sold.
Raising significant new rounds of equity are being refinanced by larger debt facilities, we have.
I've seen this in previous choppy markets, and we'll expect some prepayments, but at a lower level than our recent historically high levels.
Summary.
The team has performed well in the current market.
We have the right team with experience from previous periods of market dislocation.
Successfully execute under current conditions.
Accordingly, our outlook for the balance of this year and next guardedly optimistic.
Believe that the innovation that is partially fueled by our capital.
The dynamics of debenture technology market are resilient.
With that I will now turn the call over to Gerry and Dan to give you more detail and color on our performance.
Right.
Thanks, Bob and good morning to everyone.
Macroeconomic headwinds in Q3, we grew our portfolio by $57 million in the quarter and finished the quarter with a portfolio of $635 million.
We funded seven transactions totaling $89 million, including $84 million in debt investments five new portfolio companies, consisting of three new tech investments, while new life Science investment and one new healthcare tech investments, providing further diversification to our portfolio.
Our onboarding yields of 12, 9% during the quarter was well above last quarter's yield and reflects the value of our portfolio is floating rate interest interest rates in a rising rate environment, well as our continued discipline structuring and pricing transactions to produce strong net investment income.
We experienced two loan prepayments during the quarter totaling $22 million prepayments were the result of two of our portfolio companies completing spec transactions prepayment fees and accelerated end of term payments income from those transactions further contributed to our strong debt portfolio yield of 15.
9% and reflects how our predictive pricing strategy generates one of the highest portfolio yields in the BDC industry as.
As we have indicated over the past few quarters, given the current macro environment, we anticipate prepayments in the fourth quarter, maybe lighter than in prior years.
As of September 30, we held warrant and equity positions in 94 portfolio companies with a fair value of $24 million as we've consistently noted structuring investments with warrants equity Reits as a key aspect of our venture debt strategy and an additional value generator.
In the third quarter, we closed a $194 million in new loan commitments and approvals and ended the quarter with a record committed unapproved backlog of $252 million compared to $221 million at the end of the second quarter.
Most of our funding commitments are subject to our portfolio companies meeting certain key milestones, meaning these milestones not only unlocks new debt investments for us and our portfolio companies are positively impacts the credit profile of our existing debt investments, thus de risking our investment portfolio.
With the uncertainty at the macroeconomic outlook over the next few quarters. There is greater than usual uncertainty if milestones will be met and future fundings made from our committed backlog.
As we enter the fourth quarter with a record committed backlog horizon is in a strong position to responsibly continue to grow its portfolio as we closely monitor the performance of our portfolio companies and macroeconomic conditions.
Our portfolio's credit quality remained solid as shown by the fair value of 97% of our debt portfolio consisting of three and four rated loans as of September 30, an improvement from the prior quarter end.
Of note we had no one rated credits at the end of the quarter.
One of our one rated credits at the end of Q2, <unk> was able to raise fresh equity to recapitalize the company and return to a three rate credits.
And our other one rated credits at the end of Q2, <unk> completed a sale of assets through an ABC liquidation sale.
Had three portfolio companies out of a total of 57 with the two rating at the end of Q3.
Mostly we continue to closely follow our portfolio companies are in continual communication with them.
Turning now to the venture capital environment as expected VC investment activity continues to lighten as investors become more hesitant in the current environment.
According to pitch book approximately 43 billion was invested in VC backed companies in the third quarter of 2022.
So a healthy flow, but the lowest quarterly total since the second quarter of 2020.
By the VC fund raising has already surpassed last year's record total of $29 billion raised in the third quarter represented a quarter over quarter decline.
Funds with established managers drove the bulk of the VC fund raising.
While VC backed exit activity remains muted given the current environment and the near shutting of the IPO window.
Total exit value for the quarter was 14 billion just above last quarter's total.
And it's likely that the exit value for the year will fall below a 100 billion for the first time since 2016.
While the economic environment and Investor sentiment remains challenging VC firms continue to maintain record levels of dry investment power nearly 300 billion, which may provide liquidity for new investment opportunities and to support existing portfolio companies demand for venture debt has tightened recently, but we continue to see opportune.
<unk> to invest in growth stage companies.
We're also watching closely to see if the tech oriented banks begin to pull away from debenture debt market should this occur it may create additional opportunity for our advisor to source and originate high quality venture debt loans for us.
Given our advised a strong and active lending platform and the solid investment capacity of Horizon. We believe horizon is well situated to compete for and win opportunistic investments in the current environment.
Subsequent to the end of the third quarter, we funded two new transactions totaling $10 million, our committed approved and awarded backlog as of today stands at $282 million, our advisors pipeline of new opportunities today remains over $1 billion.
Sure Cai.
Looking ahead, we expect the challenging environment to carry into 2023 I believe there is still attractive quality companies that are looking for venture debt solutions. This provides an opportunity to continue to selectively grow our portfolio, our committed backlog and our advisors pipeline we.
We will also continue to squarely focus on credit quality to ensure optimal outcomes. We believe we mean, we remained well positioned to continue to deliver additional long term shareholder value.
With that I will now turn the call over to Dan.
Thanks, Gerry and good morning, everyone.
We continue to enhance our capital resources during the quarter and maintain a strong balance sheet.
Our ATM program, we successfully and Accretively sold over one 5 million shares of stock Opportunistically, raising an additional $19 million and providing us with further capacity to continue to grow the portfolio.
July we received additional proceeds of $7 $3 million from the exercise of the over allotment of our 2027 milk.
Subsequent to quarter end on October 26, we priced the new $100 million securitization, which when closed will lock in a seven 5%, 6% coupon rate re up our keybank credit facility and increased our capacity to make new debt investments.
As of September 30th we had $105 million in available liquidity consisting of $32 million in cash.
$3 million in funds available to be drawn under our existing credit facility.
Mission, It was $68 million outstanding under our $125 million Bank credit facility.
$137 million outstanding on our $200 million in New York Life credit facility, leaving us ample capacity to grow the portfolio.
Our debt to equity ratio stood at 1.18 to one as of September 30.
<unk> <unk> below our targeted leverage of one two to one.
Netting out cash on the balance sheet, our net debt to equity at 1.0 701.
Based on our cash position and our borrowing capacity on our credit facility, our potential new investment capacity at September 30 was $150 million.
For the third quarter, we earned total investment income of $43 3 million, an increase of 42% compared to the prior year period.
Interest income on investments increased primarily as a result of a higher average, earning debt investment portfolio for the quarter and an increase in the base rate on our variable rate debt investments.
Our debt investment portfolio on a net cost basis stood at $612 million as of September 39th.
A 9% increase from June 32022.
<unk>.
For the third quarter of 2002, we achieved onboarding yields of 12, 9% compared to 11, 6% achieved in the second quarter.
Our loan portfolio yield was 15, 9% for the third quarter compared to 16, 2% for last year's third quarter.
Total expenses for the quarter were $12 million.
Compared to $8 3 million in the third.
'twenty one.
Our performance based incentive fee increased to $2 8 million from $2 million for last year's third quarter.
R&D expense increased to $5 3 million and $3 1 million in last year's third quarter due to an increase in average borrowings and higher interest on our borrowings.
Our base management fee of $2 8 million up from $2 million in last year's third quarter due to an increase in the average size of our portfolio.
Net investment income for the third quarter of 2022 with 43 per share compared to <unk> 35 per share in the second quarter two.
<unk> 40 per share for the third quarter of 2021.
The company's undistributed spillover income as of September 30th was 67 a share.
We anticipate that our larger portfolio, along with our predictive pricing strategy will enable us over time to generate NII that covers our distributions.
Summarize our portfolio activity for the third quarter net new originations totaled $89 million, which were partially offset by $5 million of scheduled principal payments and $22 million in principal prepayments.
We ended the quarter with a total investment portfolio of $635 million.
Given the macro environment, we would expect to have limited portfolio growth in the fourth quarter.
At September 30, the portfolio consisted of debt investments in 57 companies with an aggregate fair value of $609 million and a portfolio of warrant equity and other investments 96 companies with an aggregate fair value of $26 million.
Based on our results to date and our outlook for 2023, our board declared a 10% increase in our monthly distributions to <unk> 11 per share for January February and March 2023, as well as a <unk> <unk> per share special distributions payable in December 2022.
We're very pleased to be able to raise our distribution as it reflects the strength of our performance and the confidence we have in our future prospects.
We remain committed to providing our shareholders with distributions that are covered by our net investment income over time.
Our NAV as of September 30th of $11 66 per share compared to $11 69 as of June 32022, and $11 63 as of September 32021.
The recent reduction in NAV on a quarterly basis was primarily due to pay distributions and adjustments to fair value, partially offset by net investment income.
As we've consistently noted 100% of the outstanding principal amount of our debt investments bear interest at floating rates with coupons that are structured to increase as interest rates rise with an interest rate floor.
As of September 30th 98% of our debt portfolio will benefit from additional increases in their applicable base rate.
This concludes our opening remarks, we'll be happy to take questions. You may have at this time.
Thank you.
Ladies and gentlemen, we will be conducting a question and answer session.
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Ladies and gentlemen, we will wait for a moment, while we poll for questions.
Our first question comes from the line of Paul Johnson from K B W. Please go ahead.
Yes, good morning, guys. Thanks for taking my questions.
I was wondering if you could.
Speak to just the kind of I guess.
Any sort of statistics or color you could provide on here.
Companies in terms of like <unk>.
Cash runway or liquidity or what you may have.
Just to support potentially.
Companies.
You guys work with any sort of.
On the theory there in terms of just.
Cash support.
So far from sponsors for those companies in this kind of environment.
Yes.
This is Jerry.
No.
At the very beginning of this year.
Many articles written and certainly what we were hearing in the market as venture capital firms were telling their portfolio companies to focus on cutting costs, reducing burn and getting to profitability versus.
The alternative of growth and so we saw a lot of that in the first half.
2022.
The other part of that was.
Also ask the companies to look for ways to extend runway and that's why in the first half.
2022, I think venture debt became such a.
Tractive product because it allows companies to.
Add capital to their balance sheets.
That was basically non dilutive in a environment, where valuations were relatively low. So we saw that in the first half of this year and what that what we're noticing on what we did notice from that.
Our own portfolio as companies have in fact reduce the burn.
Early considerably and and they have added cash from.
Sure.
Venture debt or other less dilutive.
Our ways of funding the company, but what that really means is that in our own portfolio. For example, runways had been extended.
Without adding a lot of liquidity.
Cost cutting.
And so as what we're seeing in our portfolio is that there is less cash on the balance sheet.
Our portfolio companies, but they are interestingly enough fund.
<unk> raising plans are coming to fruition. So they don't have as much cash, but as they plan out that cash that they will need going forward. They are adding cash through both.
Equity rounds and.
Other sources of capital so.
When I look at our portfolio today compared to say a year ago. When it was more of a growth type of environment.
The liquidity on the Companys balance sheets are still strong.
The runways are a little bit longer.
And but most importantly in this environment, which you want to see is if they are if they have less cash you want to see that the.
Plans their strategic plans for raising equity are actually coming to fruition and we haven't seen that.
With all of our portfolio companies as they need to raise capital they have been raising capital.
In the form of equity and debt.
No.
Overall.
Going into 2023.
We're actually feeling pretty good about where all of our portfolio companies stand relative to liquidity.
Got it I appreciate that Gerry.
And I guess I would ask you as well on that.
Or how do you feel about buyers and sellers.
Mark.
Sure.
Yeah, Eric Hart.
On Friday.
Beginning of the year there is a lot of.
Yes.
The market is still kind of more or less in a recession.
Do you still find that today I mean do you find that the capital.
Alright.
Great.
Sure.
Patients are.
Coming back.
Yes.
Still I guess, the resets are taking place.
Leasing market.
Yes, it's interesting.
We've been through whether cycles before difficult cycles.
Choppy cycles.
Turn that.
But this one is a little bit different we haven't been an interest rate increase environment in a very long time like we're in today, but.
What we are seeing is.
A lot of patients so far.
Of course that helps us vcs have a lot of dry powder, but we're seeing a lot of patience on the part of <unk>.
Capital firms and finding ways to fund their companies, maybe its a smaller equity round.
Maybe it's a flat valuation done by insiders.
As well as raising non dilutive financing, but we're seeing some patients with an understanding that 2023.
Could be.
A pretty difficult period to navigate.
The other thing I would say, though is there a certain sub sectors that are still.
I'm very well funded not just existing companies, but new new portfolio.
D C.
Adam.
Portfolio company.
To there.
The portfolios.
Sub sector. So we're well aware of that we're aware of where the VC money is going versus where it was.
I'll kind of go.
Go to where the puck is going not where it is so we are quite cognizant of that and as we look at transactions in various markets, we know those which one of those sub sectors.
Certainly in favor.
VC community and so having that experience helps us a lot as we evaluate new transactions.
I appreciate the answers there thats very helpful.
My last two questions more questions.
I know you mentioned on the call I just didn't grab all the details you mentioned there were I think.
What I heard right two prepayments in the quarter that sort of drove the end of term payments income.
Income this quarter just wanted to know if I heard that correctly you said the higher obviously you guys had a lower prepayments this quarter. So whenever drove that higher this quarter and that's the only thing I wanted to confirm.
And my last question I'll go ahead and ask it was just on the.
Securitization I was wondering if you guys had provided there was the maturity on the recent securitization that you guys just completed.
Those are my last two questions. Thanks.
Yeah sure. This is Dan on the prepayments Youre correct, we had two prepayments at $22 million this quarter.
And as you know that is a bit on the lower side.
But each prepayment has different features to it and so on average a UC generates around 4% to 5% of additional income between fee income and <unk>.
Acceleration of.
Interest expense and accelerated cost.
This quarter there was one of the <unk>.
Prepaid had a very opportunistic feature in it for us that increased at 6%.
A higher.
Roughly around 10% so that did drive a larger interest.
Income line item because it flowed through towards that that line item versus fee income.
And the securitization, we have not published that maturity, but the seven year securitization has a two year revolving period. There is a buyout feature.
That is in this structure that we can take advantage of it.
Interest rates do go down in next couple of years.
Thank you.
Ladies and gentlemen, if you wish to ask a question. Please press star one.
Yeah.
Okay.
Our next question comes from the line of velocity Abraham from UBS.
Please go ahead.
Hey, everyone. Thanks for taking the question just wanted to ask on documentation in terms and what you guys are seeing now for the.
Incremental investments that you're making and how that's evolving at all.
So in terms of the documents and I'll be talking about covenants and pricing is that your question.
Yes, yes, yes, covenants and pricing exactly yes.
I think as markets tighten the opportunity does exist.
To be a little bit more aggressive on our part for covenants and access to the capital from our commitments but.
But not a quantum leap from where we were before.
Competitive market.
Sure.
We're looking.
To provide as Jerry described.
Growth capital and had runway.
And to do it in a way that matches the companies I believe to stretch its own runway through cost cutting and capital commitment and execution of their business plan. So.
We're using those covenant tools, where we can but not a dramatic shift from where we were a year ago.
Okay, and then just real quick on.
Brad.
As base rate.
To go up fairly quickly what's your outlook on that.
Spread.
Is it going to be biased to compress here.
As hikes keep coming through.
So we price our loans on a floating rate basis off of Prime I think as prime has moved up.
Pretty significantly this year and there is anticipation that it will go up again with further fed actions we.
We are seeing some compression in the initial spread over prime but thats offset by also increasing the prime floors.
Venture debt has traditionally traded in Ulta.
Ultimate cost range that.
We will continue to maintain but we're seeing rates as we said onboarding yields.
This quarter were 12, 9% and we would expect that to be higher but not on a point per point basis with the increase in prime.
Okay. Thank you that's all I had.
Okay.
Thank you.
Ladies and gentlemen, we have reached the end of the question answer session I would now like to turn the conference over to Mr. Rob Pomeroy, Chairman and CEO for closing comments.
Thank you all for joining us. This morning, we appreciate your continued interest and support in Horizon. We hope you and your families continue to remain safe and healthy and we look forward to speaking with you again in the new year.
This will end the call. Thank you.
Thank you.
The conference of Horizon Technology Finance Corporation has now concluded. Thank you for your participation you may now disconnect your lines.
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