June 20, 2011: Horizon Technology Finance (NASDAQ:HRZN), one of the most recent Business Development Companies to go public, has taken a step towards getting its capital structure in order. Recently, the specialty BDC, which lends and invests in the technology sector, announced a $150mn "Accordion Credit Facility" with Wells Fargo Capital Finance. The press release provides some details and not others. We know that the initial debt committed by Wells is $75mn, with room for other lenders to be added later. We also know the Revolver will be relatively expensive [which is par for the course for technology BDCs-see the comparable borrowing costs of Hercules Technology (NASDAQ:HTGC)]. Pricing is LIBOR + 4.0%, with a floor of 5.0%.
CAPITAL STRUCTURE: A WORK IN PROGRESS
We were a little surprised when HRZN went public that management had not sorted out long term sources of debt financing to complement the near $80mn of cash raised from its IPO in October 2010. The company had and has a Revolver with WestLB, a European bank, dating back to 2008, on good terms and with inexpensive pricing. However, the WestLB facility went into its amortization period in March 2011, with all collections from investment repayments and pre-payments going to pay down the lender. Clearly WestLB is a lender on the way out (we don't know the details), so Horizon was in need of additional financing. The company has been applying for an SBIC license, which might result in being able to borrow up to $150mn of 10 year money on excellent terms (cheaper than the new Revolver!), but that's still up in the air. Here's what the latest 10-Q said:
"We are currently seeking qualification as a small business investment company ("SBIC") for Longview SBIC LP ("Longview SBIC"), a subsidiary, which will be licensed, leveraged and regulated by the U. S. Small Business Administration ("SBA"). The company, on behalf of Longview SBIC, submitted an application to the SBA on December 6, 2010 for a license to operate as an SBIC (the "SBIC Application") and the SBA accepted the SBIC Application for processing on December 21, 2010. On April 21, 2011, the SBA advised us that it required additional information in order to process the SBIC Application and provided the company up to 90 days to provide the information. During the period of time that the company takes to provide the requested information the application process is suspended. We cannot be certain that the license to operate as an SBIC will be granted, and the failure to receive the license and SBA leverage could have a materially adverse impact on our business, results of operations and financial results."
WE GUESS ABOUT HOW THE NEW DEBT WILL WORK
Unfortunately, the press release about the new debt facility is short on key details. Most notably, we are not told how many years the new accordion facility has been committed for, and no color about whether there are any prospective additional banks waiting in the wings. We don't know if Horizon will use the proceeds and some of the near $70mn in cash on the balance sheet to repay WestLB, or will operate with one growing Revolver and one shrinking one. We don't know how much debt the company could borrow under its new arrangement. The press release tells us that the advance rate on "eligible assets" is 50%, but not what is allowed and what not. Our guess, using the data in the latest 10-Q, is that the pro-forma maximum borrowing base should be around the initial amount of the Wells Fargo commitment. Interestingly, that's less than the current amount of debt outstanding (due to the generous 75% advance rate West LB was providing Horizon), which was $93mn at March 31 2011 on total investments assets of around $150mn.
BALANCE SHEET, EARNINGS AND MULTIPLE PROJECTIONS
Once all the dust settles and WestLB is paid off by the natural amortization of investment repayments and cash pay-downs, Horizon (which is in growth mode) should end up with $200mn of investment assets, $75mn in debt and net debt to equity of about 0.50 to 1.00. On a pro-forma basis, and assuming HRZN can continue to make loans at 15% per annum and keep its clean credit record, that should allow earnings to continue to ramp up sharply. The analysts certainly seem to think so. 2011 earnings per share are pegged at $1.40 and 2012 at $1.71. That suggests Horizon, whose stock today is trading at $15.25, which suggests the 2012 forward PE is 8.9X.
Of course, that would only be a way station for Horizon Financial. If and when additional bank lenders are added, or SBIC monies are raised, the company may need to raise additional equity capital in the second half of the year. This news suggests Horizon Financial is getting on the right track, but we won't have a full picture until the next conference call, which is still weeks away.
Disclosure: I am long HRZN, HTGC.