Horizon Technology Finance Corp (HRZN) 2020 Q4 法說會逐字稿

Greetings, and welcome to Horizon Technology. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host. You may begin. Thank you.

Yes. This is Rob Pomeroy. We're...

Thank you, and welcome to the Horizon Technology Finance Fourth Quarter 2020 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 Q4 earnings press release and Form 10-K 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, Horizon Technology Finance will make certain forward-looking statements, including statements with regard to the future performance of the company. Words such as believes, expects, anticipates, intends 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, 2020. 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 provide an overall perspective on Horizon's performance and its current operating environment, jerry will then discuss our business development efforts and our markets, Dan will detail our operating performance and financial condition, and then we will take some questions. 2020 was an incredibly challenging year, but with the progress of the vaccines, we are hopeful we will soon start to return to a more normal health and economic environment in 2021.

Looking back at 2020, we want to highlight our important accomplishments. We grew our portfolio to $253 million despite a record level of prepayments. We maintained our level of distributions through a challenging time, and our total net investment income has exceeded our total distributions for the past 3 years. After experiencing a low volume of originations in the third quarter, due in large part to the impact of COVID-19, we experienced a high volume of originations in the fourth quarter and entered 2021 with a record committed backlog of $107 million. We achieved an industry-leading portfolio yield on our debt investments of 14.6%. We added new key team members to Horizon in originations, underwriting, portfolio management and accounting.

We improved our forward outlook and credit profile as we resolved several underperforming loans, ending the year with our lowest level of underperforming loans since 2017. By resolving these nonearning assets, we returned cash to the balance sheet to invest in new earning assets. We've generated net investment income of $1.18 per share, which allowed us to maintain our monthly distribution level of $0.10 per share throughout the pandemic. And based on our outlook for 2021, we have declared these distributions through June, marking 54 consecutive months at this level. We are particularly proud of our ability to protect our distributions.

We raised approximately $45 million of equity from our at-the-market program, all at a premium to NAV. We enhanced our ability to leverage our equity through our $100 million amended credit facility with New York Life and ended the year with strong available liquidity and $175 million of capacity to support our portfolio companies and make additional investments.

In addition, we believe over 98% of our portfolio companies have adequate cash or access to cash to execute their business plans and over 70% has runway into late 2021 and beyond. Further, 22 of our portfolio companies raised a total of over $500 million in 2020, again, showing the continued support of the investors and the health of the venture capital ecosystem.

Looking forward into the balance of 2021, we believe we are well positioned to grow our portfolio and generate strong NII for the year. Demand for venture debt within our targeted industries remains robust. Today, we have expanded our record-committed backlog to $137 million after already funding $25 million in the first quarter, and there are a wealth of opportunities in our pipeline for investment in the first half of this year and beyond, and we have ample capacity on our balance sheet to execute on our backlog, pipeline and new opportunities we originate.

Overall, 2020 was the true test of our ability to withstand an unprecedented crisis, and our team and our portfolio remained resilient. The portfolio built together over the years held firm and as a result, we are strongly positioned to grow and succeed into the future. Moving forward, we will remain proactive in managing our portfolio and look to opportunistically fund new investments to further expand and diversify our portfolio and ultimately generate additional long-term value for our shareholders. We're very proud of and thankful for our entire team.

And with that, I will now turn the call over to Jerry.

Thanks, Rob. Good morning, everyone. We continue to hope all of you are healthy and safe. As we evaluated the impact of COVID-19 on our core markets in the second and third quarter of 2020, we identified certain market segments that not only were surviving the pandemic but were thriving. As a result, during the fourth quarter, we were able to focus our market effort on those subsectors of the life science, technology and health care information and services markets. We funded 9 transactions, totaling $76.6 million during the quarter. Our onboarding yield of 12.2% during the quarter reflected our continued disciplined focus of pricing transactions that enhance NII and are an important contribution to our overall predictive pricing strategy. Although we experienced lower-than-expected prepayment activity in the quarter with only 2 loans prepayment totaling $17 million, the prepayment fees and accelerated income from the prepayments increased our debt portfolio yield for the quarter to 13%, which was once again among the top of the BDC industry.

During the quarter, we also received proceeds of $1.3 million from the exercise and sale of warrants. As we've noted, structuring investments with warrants and equity rights is a key aspect of our venture debt strategy and an additional value generator. In 2020, we generated over $9 million in proceeds from warrants and equity. And at the year-end, we held warrant and equity positions in 68 portfolio companies with a fair value of $17 million. In the fourth quarter, we closed $118 million in new loan commitments and approvals, and we ended the quarter with a committed and approved backlog of $107 million compared to $96 million at the end of the third quarter. We continue to see strong demand for venture debt and ended the quarter with a pipeline of new opportunities totaling $532 million.

Turning to our portfolio management activities. We made significant progress during the quarter to resolve 3 of our most challenging investments. In the quarter, we exited our 1-rated investment in Encore Dermatology, a health product company, which had been significantly impacted by COVID-19 during 2020. We received a total of $8.5 million from the sale of the company and the recovery of cash from the company.

We also exited 2 other 1-rated credits, Lantos and Titan, with recoveries equal to or greater than our Q3 fair values. As a result, we ended the fourth quarter with only 1-rated -- one 1-rated credit, NanoSteel, while experiencing our second consecutive quarter with a record level of 4-rated credits, our highest credit rating. Subsequent to year-end, we exited our debt investment in NanoSteel, and our recovery was consistent with the investment's fair value at December 31. Simply put, we have proactively managed recoveries on most of our challenged accounts and our venture debt portfolio is now in a much stronger position to grow and succeed in 2021.

Also subsequent to Q4, we have funded an additional 4 loans totaling $25 million and sold our remaining equity and on track, bringing our total proceeds from warrants and equity sold and on track from last year and this year to $2 million. Our committed backlog at the end of February stood at $137 million, and our pipeline of new opportunities stood at $645 million, again, demonstrating demand for our venture debt products and providing a solid base to continue growing our venture debt portfolio in 2021.

Turning now to the venture capital environment. According to PitchBook, approximately $39 billion was invested in VC-backed companies in the fourth quarter. Amazingly, despite COVID, 2020 was a record year of $156 billion invested in VC-backed companies. In terms of VC fundraising, $17 billion was raised in the fourth quarter, bringing the total raised in 2020 to $74 billion, a record performance. As was the trend in 2020, larger funds have mostly driven the increased fundraising.

Regarding VC-backed exit activity, the IPO window remains wide-opened in the fourth quarter with 35 venture-backed IPOs with a total value of $138 billion and a total exit value of $290 billion for the year, setting another record. Most notably, we have seen a significant number of companies pursue the SPAC route as means to go public in the past 6 to 9 months. In 2020 alone, the number of SPAC vehicles quintupled to 250 while raising $75 billion in capital. The IPO and SPAC windows remained open, providing multiple pass for investment firms and companies to generate additional liquidity.

Turning now to our core markets. We experienced a growing number of investment opportunities during the fourth quarter as our core markets adjusted to the impact of COVID-19. As a result, we made a total of $66 million in debt investments and 7 new portfolio companies. These investments provided solid diversification to our portfolio as we added 3 new life science investments, 3 new technology investments and 1 new health care information and services company. We also funded $11 million to 2 of our existing portfolio companies.

Notably, we are seeing a trend in our core markets towards companies developing products with sustainability as part of their core technology or focus. We believe the companies that can provide innovative products and services that meet market demand and have the added benefit of helping achieve sustainability will continue to attract capital during 2021. We expect to see additional opportunities in 2021 to invest in such companies.

The competitive market has shifted in the second half of 2020 from a cautionary story of COVID-19 risk and uncertainty to a more aggressive approach with both debt and equity available to companies who serve markets that have benefited from the new economic and social environment. In 2020, we carefully navigated through one of the most challenging periods in our 18-year history. We enter 2021 in a position to take advantage of our liquidity and strong pipeline of new investment opportunities and using our predictive pricing strategy to profitably grow our portfolio and deliver additional long-term shareholder value in 2021.

With that, I will now turn the call over to Dan.

Thanks, Jerry, and good morning, everyone. As Rob noted in his remarks, we navigated through a tough 2020 and entered 2021 in a strong position to expand our portfolio and generate additional long-term value for our shareholders. During 2020, we grew the size of our portfolio to $353 million. We enhanced our balance sheet by adding another $100 million in debt capacity through our amended facility with New York Life. And through our ATM program, we successfully and accretively sold 3.7 million shares and raised nearly $45 million, which included receiving net proceeds of approximately $11 million from the program in the fourth quarter, continuing to show our ability to opportunistically access the equity markets.

We're proud of our entire team's efforts throughout 2020, and we are poised to take advantage of even greater opportunities in 2021. As of December 31, Horizon had just under $73 million in available liquidity, consisting of $47 million in cash, $26 million in funds available to be drawn under our existing credit facilities. As of December 31, there was $28 million outstanding under our $125 million KeyBank credit facility and $22 million outstanding on our $100 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 December 31, which was lower than our targeted leverage of 1.2:1. Based on our cash position and our borrowing capacity on our revolving credit facility, our potential new investment capacity at December 31 was $222 million.

For the fourth quarter, Horizon earned total investment income of $10.1 million compared to $13 million in the prior period. The reduction was mainly due to lower interest income on investments, which was primarily a result of lower average earning portfolio for the quarter. Our debt investment portfolio on a net cost basis stood at $340 million as of December 31, a 6.5% increase from September 30, 2020.

For the fourth quarter of 2020, we achieved onboarding yields of 12.2% compared to 11.9% achieved in the third quarter. Our loan portfolio yield was 13% for the fourth quarter versus 17.6% for last year's fourth quarter.

Turning to our expenses. For the fourth quarter, total net expenses were $5.9 million, a 5% reduction compared to $6.3 million in the fourth quarter of '19. Our performance-based incentive fee decreased to $1 million compared to $1.6 million based on lower NII generated in the fourth quarter of 2020. Our interest expense increased to $2.3 million from $2.1 million in the prior fourth quarter due to an increase in average borrowings partially offset by a reduction in our effective cost of debt. Our base management fee increased to $1.6 million from $1.5 million in the prior fourth quarter, driven by an increase in the average size of our portfolio.

Net investment income for the fourth quarter was $0.21 per share compared to $0.34 per share in the third quarter of 2020 and $0.43 per share for the fourth quarter of '19. Our fourth quarter NII was impacted by the timing of new originations and lighter prepayment activity, but we expect a sizable increase in the portfolio by the end of 2020 to generate solid NII during the first quarter of 2021 and beyond. For the full year 2020, we generated NII of $1.18 per share. The company's undistributed spillover income as of December 31 was $0.32 per share.

To summarize our portfolio activity for the fourth quarter, new originations totaled $77 million, which were partially offset by $4 million in scheduled principal payments, $17 million in principal prepayments and $14 million in cash received from settled accounts. We ended 2020 with a total investment portfolio of $353 million. The portfolio consisted of debt investments in 34 companies with an aggregate fair value of $333 million and a portfolio of warrant, equity and other investments in 70 companies with an aggregate fair value of $19 million.

Based upon our outlook for NII for 2021, our liquidity forecast and our spillover income levels, our Board declared monthly distributions of $0.10 per share for April, May and June 2021. We have now declared monthly distributions of $0.10 per share for 54 consecutive months. We remain committed to providing our shareholders with distributions that are covered by our net investment income over time.

Our NAV as of December 31 was $11.02 per share compared to $11.17 as of September 30, 2020, and $11.83 as of year-end 2019. The $0.15 reduction in NAV on a quarterly basis was primarily due to our paid distributions in excess of our net investment income and resolving underperforming loans.

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 December 31, 100% of our portfolio is at their specific floors.

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 Sarkis Sherbetchyan with B. Riley.

Just wanted to touch on the expectation for prepayment activity here as we're sitting in Q1 and heading into 2Q. Any thoughts on the level of prepayment activity? And in light of that, how aggressive would you get in deploying capital to build the portfolio?

So we have a vision on prepayments that we've been told should happen in the first quarter or the second quarter, first half of the year, and so we're able to look forward and see that. We also have very, very strong pipeline and origination volume expectations for the first quarter. So we think that the level of prepayments should be higher in the first quarter than they were in the fourth quarter.

Right. And can you maybe give us some flavor to the level of origination that you'd expect to deploy here in the first half of the year? So for example, if you look at fourth quarter is pretty strong from an origination standpoint. I just wanted to see if it's kind of in line with your historical deployment or you think it will be more aggressive?

Well, this is Jerry. Yes, the demand for venture debt and for equity are both extremely strong going in -- coming out of the fourth quarter and going into the first quarter here. As Rob mentioned, I think our portfolio companies raised -- or 22 of our portfolio companies raised about $500 million in equity alone last year. And we're seeing the same type of financing activity here into the first quarter. And of course, the new entrant to this whole liquidity side of the equation is SPACs, and so we expect all of the equity and debt markets to be very active. When we look at our own portfolio, it's significantly higher than historically it has been going into the beginning of the year. So we're pretty confident about trying to stay on kind of a growth trajectory that we kind of saw in the fourth quarter. Obviously, it's also a competitive market. So we'll be paying attention to that, but we think we're extremely well positioned given our reputation in the marketplace and our ability to fund new transactions. So looking for pretty positive first half of the year.

(Operator Instructions) Our next question comes from Ryan Lynch with KBW.

I wanted to talk about the competitive environment for a minute. Obviously, you guys are venture lenders, but one of the competitors to 2 lenders in the VC space can actually be equity capital. You talked about a significant amount of venture equity capital has been raised in 2020 and has obviously been a huge growth at SPACs out there. So could you just talk about what does the competitive environment look like today to deploy capital as far as term, structures, pricing, quality of deals out there that are available for yourself and other venture lenders?

Yes, that's a great observation, honestly. Because basically, what we're seeing is all of the above strategy. Just as a kind of top line example, I think of the 7 new investments we added in the fourth quarter, 5 of those also included either new equity rounds that came with them or strategic financing. And so companies are really -- and their investors are really looking for companies that are thriving in this new market to grow and grow quickly. And so they're adding a lot of liquidity to the balance sheet, and they're not relying on any specific one way of doing that. But you are correct that more so in the fourth quarter, we saw as part of our competition as being additional equity. We had a couple of our 4-rated credits in our portfolio raised a substantial amount of equity when we were offering debt term sheets. And so that is now a part of our competitive landscape, which historically hasn't been as significant.

So what we're seeing basically is in all of the above. And so the transactions that we are looking at, as I look at our pipeline, when we're talking about new transactions, most of them are coming with new equity involved or just recently raised equity, and they're adding debt as a cushion to that equity to ensure that they can continue to grow and what are pretty interesting markets on the technology and life science side right now.

Okay. That's helpful color on what you guys are kind of seeing in the market from a competitive standpoint. I believe you guys historically have set a targeted leverage range of 0.8 to 1.2x. Obviously, that's a pretty wide range. It probably will fluctuate where you guys intend to operate in there depending on the quality of deal flow you're seeing in the market. And I would also think it could depend on kind of a broad economic macro outlook. Given that we're coming out of a pretty substantial downturn, it feels like the economy is hopefully going to be in a pretty good place going forward and continue some meaningful growth. Within that target leverage range, do you think we could start to see you guys push that up higher to the upper end, maybe above 1:1 and closer to the upper end of that range? Or where do you guys intend to operate in the medium term?

Yes, Ryan, that's a great question. Like you said, our target has been between 0.8 and 1.2:1. And we start each quarter and we plan out the quarter based on the liquidity we have, the strength of the pipeline and then determine where things fall out during that quarter. So our goal is to get up to that 1.2:1. And we model it out throughout the year to get to that. It all depends on what happens in and out of the quarter with prepayments and funding activities and whatnot.

We'd much rather be in the 1 to 1.2 range than 0.8 to 0.9, Ryan.

We have reached the end of the question-and-answer session. At this time, I'd like to turn the call back over to Rob Pomeroy, Chairman and CEO, for closing comments.

Thank you, and 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 very soon. Thank you.

This concludes today's conference. You may disconnect your lines at this time, and we thank you for your participation.