Fixed Income On The Horizon

Includes: HRZN
by: Valuematters

In the current market environment it is increasingly difficult to find a good yield. U.S. Treasuries are yielding next to nothing so I have found myself looking for other options. Those options include corporate debt (including investment grade and "junk" bonds), high-dividend paying stocks, preferred shares, business development companies (BDCs), MLPs, and a host of other options.

The current turmoil in Europe can create some excellent buying opportunities in this space. One security I am watching closely is the senior notes due Sept 2019 (HTF) for Horizon Technology Finance Corporate (NASDAQ:HRZN). HRZN (to be clear, HRZN is the symbol for the common stock of this business development company) issued these notes to yield 7.375% at par, coming due in 2019. Per the prospectus, these notes are redeemable at the issuer's option starting in 2015. Since issuance these notes have generally traded pretty close to par, typically ranging between 24.5 and 25.

Investment Thesis

The main thesis for these notes is derived from a review of the underlying common stock, HRZN. The premise here is that between the company's investment income and dividends, there is a decent level of cash cushion to help protect the interest payments on the senior notes. Additionally, BDCs are known to raise capital through equity offerings, which as a debt holder would be a good thing.

While I would like to have a longer historical record to judge (the company only came public in 2010), the recent results are promising. The company recently announced earnings for Q1 2012, which showed net investment income of just under $3.4M USD. In addition, in May the company declared slightly above $3.4M in dividends. I believe as the company puts more of the cash to use (see table below that illustrates cash levels), the net investment income can rise, however that is more of a concern for the common stock holders than the debt holders.

Investment Portfolio Breakdown (at Fair Value)
Mar 2012 Dec 2011
Investment Type $ Value % of Total $ Value % of Total
Money Market 22.9M 12.1% 13.5M 7.1%
Debt Investments 162M 85.2% 173M 90.5%
Warrants 4.6M 2.4% 4.1M 2.1%
Equity Investments .6M .3% .6M .3%
Total 190M 100% 192M 100%

For the full-year 2011 the company had net investment income of $10.5M USD and declared paid of $8.3M USD. Based on the short history the company is in a strong position to service the debt. In addition, while the portfolio companies that HRZN invests in are not investment grade quality, I like the sectors and industry the company typically lends to (see table below). I expect some of these sectors can hold up reasonably well in a poor economic environment (e.g. life sciences), being less tied to the economy than typical economically sensitive sectors.

Debt Portfolio by Sector (at Fair Value)
Mar 2012 Dec 2011
Sector $ Value % of Total $ Value % of Total
Life Sciences 60.7M 36.3% 60.4M 34.0%
Technology 42.1M 25.2% 48.9M 27.5%
Healthcare Information & Services 34.9M 20.8% 40.2M 22.6%
Cleantech 30.0M 17.7% 28.4M 16.0%
Total 167M 100% 178M 100%


All investments carry risks and below I have highlighted what I see as the primary risks. These are not intended to capture all risks and are only the risks most relevant to my analysis.

  • Interest rate risk - As with all fixed income securities, if rates move up the price would need to adjust down to remain competitive in the market.
  • Risk inherent in the BDC structure - Business development companies are somewhat similar to REITs in that they will pay out the bulk of their profits to investors. While this is good from an income standpoint, it does mean that the company doesn't build up much of a cash cushion (even to the extent it does, it is in the business of putting the cash to work). The potential result could be that as these notes come due if the capital markets are in disarray the company could not have the liquidity to pay these notes off and not have the avenues to raise such capital.
  • Risk related to Europe and the capital markets - Anyone reading the news knows that there is a difficult situation in Europe. Should that situation have an outcome similar to the 2008/2009 financial crisis it could put severe pressure on the capital markets. This could cause difficulty for the company to raise capital, difficulty for the portfolio companies to continue paying on their debt, or any combination of these scenarios.
  • Liquidity - This investment is not a very liquid investment, so this could result in the market not being there at the very time you need or want to sell.


At the current price as of the writing of this article ($24.81) I have other places I prefer to put my money, such as Old Republic International (NYSE:ORI), where I can get a high yield with a catalyst for capital appreciation. However, at slightly lower prices I would consider starting a position, with an eye toward weakness created from distress in Europe to potentially pick up more. While the risks are very real, I believe the term of these notes and the structure of the portfolio, offer a good value for the right price. As with any investment, the return expectations and level of price that is acceptable, is very much up to the individual investor. However, with treasury rates being at absurdly low levels, HTF should at least be on the watch list.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Disclaimer: This article should not be taken as investment advice, and is for informational purposes only.