Recent market volatility hasn’t been kind to tech stocks, as reflected by the -15.5% return of the Invesco QQQ ETF (QQQ) over the past month. This weakness has apparently spilled over to BDCs, including tech-focused ones as well.
This brings me to Horizon Technology Finance (NASDAQ:HRZN), a BDC that’s seen material share price weakness as of late, pushing its regular dividend yield well past the 8% mark. In this article, I highlight why this may present a good buying opportunity on this high-income stock.
Horizon Technology Finance is an externally-managed BDC that provides secured loans to companies in the growing technology, life science, and healthcare information and services industries.
At present, it holds a portfolio of warrant and equity positions in 77 portfolio companies. About half of HRZN's portfolio is invested in the technology space, and the remainder in life science (~40%) and in healthcare information services (~10%).
Most of HRZN’s investments are in the durable medical device/biotech and consumer-related tech space. As shown below, HRZN’s investments are also well-diversified by geography, with higher exposure to the tech hubs in the western region of the U.S.
Notably, HRZN has held stable credit quality, as reflected by its internal average credit rating of 3.1 (on a scale from 1 to 4, with 4 being the best credit) with 97% of the portfolio rated at three or higher. The experienced management team along with prudent underwriting and lending practices has resulted in a low historical loss rate of just 5 bps, or 0.05%. It’s also getting a rather high 16.2% portfolio yield on debt investments which is at or near the top of the BDC industry, and NAV/share increasing by $0.43 from Q2 to Q3 to $11.63.
HRZN also appears to be hitting on all cylinders, as it’s demonstrated strong originations in its Q4 2021 portfolio update. This includes $80 million of new loans funded by HRZN. As shown below, this is comprised of loans ranging from $1M - $12.M across a wide spectrum of healthcare tech, ag tech, media tech, and e-commerce portfolio companies.
Looking forward, HRZN maintains a robust unfunded pipeline worth $124.5M to 23 companies, comparing favorably to the committed backlog of $100.6M to 21 companies at the end of Q3 2021. HRZN also as a sizeable addressable market in the long-term as one of just a few tech-focused BDCs out there. As shown below, HRZN has a $48B addressable market with healthy participation from Venture Capital firms that provide equity financing.
Plus, management sees a favorable demand environment and sees the Horizon brand gaining traction among marketplace participants, as noted below during the recent conference call:
We believe we remain well positioned to continue growing our portfolio of investments and to continue producing strong net investment income. Our belief is supported by the following: our advisor continues to strengthen the Horizon platform with new hires; demand for venture debt within our target industries remains robust; our committed backlog and pipeline of investments is still strong; our advisors expanded lending platform and the increasing recognition of the Horizon brand is enabling us to access a considerably larger number of investment opportunities and we continue to maintain ample capacity to execute on our backlog of commitments as well as our advisor's pipeline of new opportunities.
Demand for venture debt remains abundant in the life science, technology and sustainability markets. Our advisor remains disciplined in its marketing and underwriting and we expect to onboard new quality investments over time which will continue to grow our portfolio with ample capacity, a deep pipeline and a predictive pricing strategy, we remain well positioned entering Q4 to deliver additional long-term shareholder value.
Meanwhile, HRZN maintains a strong balance sheet with a debt-to-equity ratio of 109% (as of the end of Q3), sitting well below the 200% regulatory limit. Its $0.30 quarterly dividend run rate (paid monthly) is also well covered at a 75% payout ratio (based on $0.40 NII/share generated in Q3).
Risks for HRZN include its external management structure, which may lead to conflicts of interest. In addition, portfolio companies are smaller in size compared to publicly-traded ones, and are therefore more economically sensitive. Lastly, increased competition for deals may lead to yield compression.
I see value in HRZN, especially after the recent drop in price from the $16.50 level to $14.45 at present. As seen below, HRZN now carries an RSI score of 30, indicating that it’s in oversold territory.
Using NII as a proxy for earnings, HRZN now carries a PE ratio of 9.0x (by annualizing Q3’21 NII/share of $0.40). I find this to be reasonable considering the strong demand environment that HRZN currently finds itself in. Sell side analysts have an average price target of $16, implying a potential one-year 19% total return including dividends.
Horizon Technology Finance is one of just a few BDCs to focus on the growing technology and life sciences spaces. It’s demonstrating strong portfolio credit quality, a growing NAV/share, and robust NII/share growth. It’s also seeing strong origination activity and has a long growth runway. Meanwhile, it maintains a strong balance sheet and pays a well-covered dividend. I view the latest share price weakness as presenting a buying opportunity for high income.
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This article was written by
I'm a U.S. based financial writer with a BSc in Economics and an MBA in Finance. I have over 12 years of investment experience, and generally focus on stocks that are more defensive in nature, with a medium to long-term horizon. My goal is to share useful and insightful knowledge and analysis with readers. Contributing author for Hoya Capital Income Builder.
Disclosure: I/we have a beneficial long position in the shares of HRZN either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: This article is for informational purposes and does not constitute as financial advice. Readers are encouraged and expected to perform due diligence and draw their own conclusions prior to making any investment decisions.