HTFC - NYSE

Greetings, and welcome to Horizon Technology Finance Corporation First Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder this conference is being recorded. I would now like to turn this conference over to your host, Ms. Megan Bacon, Director of IR and Marketing. Thank you, ma'am. You may begin your presentation.

Thank you, and welcome to the Horizon Technology Finance Corporation first quarter 2022 conference call. Representing the company today are Rob Pomeroy, Chairman and Chief Executive Officer; Jerry Michaud, President; and Dan Trolio, Chief Financial Officer. I would like to point out that the Q1 earnings press release and Form 10-Q are available on the company's website at horizontechfinance.com. Before we begin our formal remarks, I need to remind everyone that during this conference call, the company will make certain forward-looking statements, including statements with regard to the future performance of the company. Words such as belief, 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 detailed in 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, 2021. 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.

Good morning. Thank you for joining us and for your continued interest in Horizon. Today, I will update you on our performance and our current overall operating environment. Jerry will then discuss our business development efforts, our portfolio events and our markets. Dan will detail our operating performance and financial condition. And then we will take some questions. In the first quarter, we picked up right where we left off in 2021, with substantial growth, which displayed the power of the lending platform of our advisor, Horizon Technology Finance Management. Our portfolio growth resulted in our surpassing the $500 million milestone during the quarter. We also maintained our portfolio's strong credit quality while we made notable strides in strengthening our balance sheet, ensuring we have ample capacity to further grow in the quarters ahead. Our first quarter highlights include: We grew the portfolio by $57 million, a quarterly record for HR

Thanks, Rob, and good morning to everyone. Our lending activity in the first quarter of 2022 resulted in two key milestones for Horizon. First, we grew our portfolio by a record $57 million in the quarter. Second our portfolio topped the $500 million mark for the first time in our history. We funded 16 transactions totaling $73 million in the first quarter, including $47million in debt investments to seven new portfolio companies, consisting of three new technology investments, two new sustainability investments, one new life science investment and one new healthcare tech investment, providing further diversification to our portfolio. We also funded $26 million from our committed backlog to nine of our existing portfolio companies. Our on-boarding yield of 11.4% during the quarter reflected the continued discipline in pricing transactions that we expect to produce strong NII. We experienced two loan prepayments during the quarter totaling $12 million. The prepayment fees and accelerated income from such prepayments, contributing to a debt portfolio yield of 12.4%. As Rob discussed, Q1 historically experiences lower prepayment activity than the remainder of the year. While we do not expect prepayment activity for the year to reach its historic level we experienced in 2021, we do anticipate prepayments for the balance of the year in accordance with our historical averages. As of March 31, we held warrant and equity positions in 84 portfolio companies with a fair value of $23 million. Since the beginning of 2020, we have received approximately $14 million in proceeds of warrant and equity investments. As we've consistently noted, structuring investments with warrants and equity rights is a key aspect of our venture debt strategy and an additional value generator. In the first quarter, we closed $100 million in new loan commitments and approvals and ended the quarter with a record committed and approved backlog of $151 million compared to $127 million at the end of the fourth quarter. While there is no guarantee we will fund all of the transactions in our committed or awarded backlog, we are well positioned to further grow our investment portfolio during the year. Our portfolio's credit quality remains very solid as the fair value of nearly 96% of our debt portfolio consisted of three and four-rated loans as of March 31. During the quarter, one investment was downgraded to a two rating. And at the end of the quarter, we had a total of three credits with a one or two rating, with the remaining47 portfolio credits rated three or better. As always, we are aggressively managing the one and two-rated credits in order to achieve the best possible outcome. Turning now to the venture capital environment, it appears we are beginning to see a trend toward more normalized activity. According to PitchBook, approximately $71 billion was invested in VC-backed companies in the first quarter of 2022, a very healthy amount of investment, but off the torrid pace set in 2021. In terms of VC fundraising, our momentum continued from 2021 as $74 billion was raised in the first quarter, putting 2022 well on pace to surpass last year's record. Larger VC funds continue to drive the bulk of the fundraising, and it will be interesting to see if market volatility has any impact on future fundraising or the number of active investors. VC-backed exit activity, on the other hand, saw a considerable slowdown in the first quarter, unsurprising given the market volatility and underperformance, inflation and geopolitical uncertainty. Total exit value for the quarter was $34 billion, which is closer to pre-pandemic exit levels while we are watching the VC investment environment closely for signs of slowing fundraising, investments and activity. VC firms continue to maintain record levels of dry powder to provide liquidity for new investment opportunities and support for existing portfolio companies. As we noted on our last call, a tightening of the IPO market and significant reduction in SPAC exits is in part driving increased demand for venture debt, a key source of additional liquidity for growth stage companies. With our advisor strong and active lending platform and the solid investment capacity of Horizon, we believe we are well situated to continue competing and winning in the current environment. Subsequent to the end of the first quarter, we continued our strong growth momentum, funding eight transactions totaling $60 million in April. Our committed, approved and awarded backlog as of today has grown to $311 million, which includes several new awards during April. Our advisors' pipeline of new opportunities today is approximately $1.2 billion, again an historic level of opportunities to further grow our venture debt portfolio over the coming quarters. We also experienced a prepayment in April of a $25 million debt investment. Turning now to our lending markets, there is a health - wealth of quality investment opportunities to further fill and enhance our committed backlog and our advisor's pipeline, as noted earlier. We not only quantitatively grew the size of our portfolio during the quarter, but we also qualitatively improved our portfolio by adding new portfolio companies from all of our core markets of technology, life science, health care technology and sustainability, providing further diversification to our portfolio. That said, we continue to keep close tabs on the macro-environment and are mindful of ongoing concerns when underwriting new investments. We also continue to have an active and regular dialogue with each of our portfolio companies and their investors in order to maintain our credit quality as well as help us identify changes in the VC ecosystem. Moving ahead, venture debt as an asset class continues to grow, especially as equity markets tighten. And as a result, opportunities remain attractive in our core markets. We will continue to be disciplined and seek quality investments that allow us to intelligently grow our portfolio. Accordingly, we remain well positioned to continue to deliver additional long-term shareholder value. With that, I will now turn the call over to Dan.

Thanks, Jerry, and good morning, everyone. 'll start with a review of our efforts to strengthen our balance sheet and capital structure in the quarter, and then I'll provide a review of our first quarter results. We took two significant steps to enhance our capital resources in the quarter. First, we increased our lending capacity by $100 million on our New York Life facility while also extending its investment period. In addition, to match the new debt capacity, we completed a successful equity offering, raising $34 million in the quarter. We believe these actions will provide us with the capacity to continue to grow the portfolio. Turning to our operating results. As of March 31, we had $80 million in available liquidity, consisting of $15 million in cash and $65 million of funds available to be drawn under our existing credit facilities. As of March 31, there was $44 million outstanding under our $125 million KeyBanc credit facility and $94 million outstanding on our $200 million New York Life credit facility, leaving us with ample capacity to grow the portfolio. Our debt-to-equity ratio stood at 0.9:1 as of March 31, which is lower than our target leverage of 1.2x. Based on our cash position and our borrowing capacity on our credit facilities, our potential new investment capacity on March 31 was $202 million. As we go towards our target leverage, we would expect that our NII will also increase. For the first quarter, we earned total investment income of $14.2 million, an increase of 7% compared to the prior year period. Interest income on investments increased primarily as a result higher average earning debt investment portfolio for the quarter. Our debt investment portfolio on a net cost basis stood at $500 million as of March 31, a 13% increase from December 31, 2021. For the first quarter of '22, we achieved onboarding yields of 11.4% compared to 11.3% achieved in the fourth quarter. Our loan portfolio yield was 12.4% for the first quarter compared to 15.2% for last year's first quarter. Total expenses for the quarter were $8.4 million compared to $7.2 million in the first quarter of 2021. Our performance-based incentive fee was $1.4 million compared to $1.5 million for last year's first quarter. Our interest expense increased to $3.4 million from $2.7 million in last year's first quarter due to an increase in average borrowings. Our base management fee was $2.2 million, up from $1.8 million in last year's first quarter due to an increase in the average size of our portfolio. Net investment income for the first quarter of '22 was $0.26 per share compared to $0.39 per share in the fourth quarter of '21 and $0.31 per share for the first quarter of '21. The company's undistributed spillover income as of March 31 was $0.47 per share. We anticipate that the larger portfolio, along with our predictive pricing strategy, should enable us over time to generate solid NII that covers our distribution. As we have said in the past, we will experience prepayments throughout the year. However, it is difficult to predict in which quarter they will occur, with the first quarter typically being the lowest. To summarize our portfolio activities for the first quarter. New originations totaled $73 million, which were partially offset by $2 million in scheduled principal payments and $12 million in principal prepayments. We ended the quarter with a total investment portfolio of $515 million. The portfolio consisted of debt investments in 50 companies with an aggregate fair value of $492 million; and a portfolio of warrant, equity and other investments in 86 companies with an aggregate fair value of $23 million. Based upon our outlook for 2022, our Board declared monthly distributions of $0.10 per share for July, August and September '22. We have now declared monthly distributions of $0.10 per share for nearly six years. We remain committed to providing our shareholders with distributions that are covered by our net investment income over time. Our NAV as of March 31 was $11.68 per share compared to $11.56 as of December 31, 2021, and $11.07 as of March 31, 2021. The $0.12 increase in NAV on a quarterly basis was primarily due to the accretion from our successful equity offering and net investment income, partially offset by paid distributions and unrealized losses. 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 interest rate floors. As of March 31, over 80% of our portfolio will benefit from additional increases in the prime rate. In addition, we have a 50 basis point spread in our cost of debt to the current prime rate, providing us with a positive spread when the prime rate rises. This concludes our opening remarks. We'll be happy to take questions you may have at this time.

[Operator Instructions] Our first question comes from the line of Paul Johnson with KBW. You may proceed with your question.

Good morning, guys. Thanks for taking my questions. I'm just curious how - what your guys' expectations are for your unfunded commitments just kind of under this environment with potentially maybe a slowdown in VC equity investments and maybe more of a preference for VC debt and obviously tapping into any sort of unfunded commitment that's available.

Well, I think that's the question for our environment right now, so it's a really good one. As you probably know, most of our committed backlog is subject to companies meeting certain milestones as they move forward that basically would provide additional higher valuations for the company. And in today's environment, of course, meeting those key milestones are key to understanding kind of whether a company is able to strategically adjust both its ability to raise capital, to adjust the strategy based on their own economic outlook for their own markets. And so we pay very close attention to them and we pay very close attention to the milestones that need to be met. In addition, of course, many of our transactions have covenants as well. So we're very focused on that today and I think as are the venture capitalists who are funding these companies. I would say that probably a little bit of a difference in this volatility market compared to other cycles we have had is that the venture capitalist firms themselves have a lot of liquidity on their balance sheets and are able to - certainly through the first quarter have been able to raise additional capital. So there is a lot of dry powder. And we're seeing that in our discussions with the VCs. They're still strongly supportive of their portfolio companies. We are having more conversations more often right now with both our portfolio companies and the investors. And so that's kind of how we are kind of monitoring the market. And we'll continue to do that at a heightened level through certainly the rest of 2022.

I appreciate that. That's great color. I guess when you are looking at your pipeline and you've obviously had a pretty good quarter of net growth this quarter, do you think we're maybe looking at a scenario where net growth is actually relatively high for the BDC just kind of due to lower prepayments over sort of the next few quarters?

Yes. So we spent a fair amount of time looking at that actually. And we certainly don't expect to see prepayment levels like we saw in 2021. Our expectation is we will continue to have prepayments. We're aware of some of the ongoing events within our portfolio companies. Certainly in the near term, of course, prepayments are more difficult to predict, obviously. But there are a couple of, I think, indicators. We don't think that there will be as much refinance of significant existing debt that has been taken on in the last year or 2. During those periods, maybe venture lenders were being a little bit more aggressive in terms of the amount of capital they - and venture banks, by the way, they were willing to provide companies. I don't think you're going to see that kind of level of refinance activity. I know for - certainly for Horizon, where we have a heightened awareness of companies that have taken on a lot of debt are now looking to refinance that, and that's that not going to be a big part of our strategy during the course of 2022. So no reason to think that, that wouldn't be true with other lenders as well. So there will be lesser activity. But there's still going to be some M&A activity, for sure, and we're seeing that and as well as some opportunity for public companies to raise capital in the public markets, albeit not as it has been historically.

Yes, I really appreciate that. It's more great color. And just lastly, just one question on a specific credit. I'm just curious, the only nonaccrual, I guess, MacuLogix, it looks like you made a small additional investment in the company this quarter. Could you maybe just talk about what's going on there? I know it's marked a little bit lower this quarter. Is there a hope or an idea for recovery with an additional investment there? What's the idea of a turnaround with that portfolio of company?

Thanks, Paul. As is the case in a lot of these credits when we get to this level of putting it on nonaccrual, it is in the middle of a process. We have expectations that it can resolve itself in the next quarter or 2. And we're providing small amounts of liquidity to make that happen.

[Operator Instructions] Thank you. There are no further questions at this time. I would like to turn this call back over to Mr. Robert Pomeroy, our 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 soon.