September 18, 2011: What was that all about ? In a rare move, the Small Business Investment Corporation (or SBIC) declined to proceed ( that’s the same as reject) with Horizon Technology Finance’s (HRZN) application for a license to operate a subsidiary partly financed by long term, relatively low cost government debt.
This does not happen every day. There have been over a dozen licenses granted or expanded to various BDCs over the years, including to HRZN’s look-alike Hercules Technology (ticker: HTGC) .
Why the rebuff ? Actually the press release,which we quote in full below, is relatively explicit. Apparently the SBIC was disturbed by the fact that Joe Massoud is a minority investor at the Company’s external manager. Mr Massoud is the most mysterious man in the BDC and related companies world right now. His name is well known to investors in Compass Diversified (ticker :CODI), a mini conglomerate which the BDC Reporter has been following and writing about for years.
Mr Massoud recently had to resign as the CEO of said Compass Diversified because of an ongoing “regulatory” investigation into the man (but not the company) in question. He has been replaced at Compass but is said to be still around. Months have passed since the Compass resignation happened, and there has been no news of any kind.
For Horizon, though, being brushed off by the SBIC is undeniably a set-back. We are only aware of one other BDC that has been told no before. The SBIC license is much prized for the ability to borrow 2x the equity capital contributed into the special purpose subsidiary. Moreover, most BDCs which get this extra leverage are usually able to get “exemptive relief” and don’t have to count the debt involved against their total debt when regulatory leverage limits come into play. Then there’s the benefit of being able to borrow at rates of 4-5% on 10 year bonds with a bullet repayment schedule. Technically Horizon could have been borrowing $150mn on a first license and putting $225mn in assets through this special subsidiary. Given that total investment assets of Horizon are currently only $185mn, that’s a material capital opportunity missed.
The Company points to the existing two Revolving lines of credit with West LB and Wells Fargo as the source of debt liquidity to look at now the SBIC opportunity has been shelved. However, there are issues there which deserve to be noted. First, the West LB $74mn advance at June is in liquidation mode, and as the assets underpinning that facility the loan balance will reduce. Horizon’s own estimate is that West LB will be paid off in 24 months. It’s a shame because the facility had a generous advance rate and low pricing: LIBOR + 2.5%.
The $75mn loan facility with Wells Fargo is more recent and less generous all around. The advance rate is just 1:1, and pricing LIBOR + 4.0%. We like the 3 year revolving nature of the facility , followed by up to 3 years of self liquidating amortization because the liability matches the typical life cycle of Horizon ‘s loans.However, we doubt will be able to tap the additional $75mn of this accordion facility that Wells has promised without an additional equity raise. That suggests Horizon, with $20mn of cash, may see it’s investment asset base top out at $200mn and debt to equity ( when all is said and done) just over 0.5 to 1.0. We see that projected earnings for the year ended 2012 are $1.75 per share, not including any contribution from potential realized equity gains. That within a few cents of our own best case projection. At today’s stock price of $15.65 HRZN is trading at a forward multiple of 8.9x. The dividend appears to have room to run beyond it’s recently increased $1.60 a year, but not too far.
HRZN is trading at a discount to Net Asset Value, which was pegged at $17.4 as of June. Good value or topped out? We will let our readers be the judge. Still, both Horizon and it’s investors will be missing the opportunity that the SBIC debt seemed to represent.
Text of press release: Horizon Technology Finance Corporation (Nasdaq:HRZN – News) (the “Company” or “Horizon”), a leading specialty finance company that provides secured loans to venture capital and private equity backed development-stage companies in the technology, life science, healthcare information and services, and clean-tech industries, today announced it has withdrawn its application for a license from the Small Business Administration (“SBA”) to operate a subsidiary as a small business investment company (“SBIC”).
The Company previously announced on May 10, 2011 that the SBA had requested additional information in support of the application and that the application process was suspended until such time as the information was provided. Horizon provided all of the information that it possessed with respect to such request and attempted to obtain additional information to satisfy such request. The SBA has now informed Horizon that the information provided with respect to such request is not sufficient for the SBA to proceed with the application process. The SBA has indicated that Horizon may petition the SBA for permission to file a new application for an SBIC license should further information for disclosure to the SBA become available to Horizon.
The additional information that Horizon was unable to provide the SBA relates to specific details concerning a regulatory inquiry that I. Joseph Massoud received. Mr. Massoud is not a current or former employee, officer or board member of Horizon or of the Company’s investment advisor (the “Advisor”). Mr. Massoud is an indirect minority owner of the Advisor. The Company has been advised by Mr. Massoud that the regulatory inquiry is unrelated to Horizon or the Advisor, and neither the Company nor the Advisor has had any involvement in that regulatory inquiry.
Robert D. Pomeroy, Jr., Chairman and Chief Executive Officer, commented, “Although we are unable to complete the SBIC application process at this time, it is important to note that our decision to withdraw our application does not in any way result from Horizon’s business operations, financial position or future prospects. We believe that Horizon’s two existing credit facilities will meet our current leverage needs based on our existing level of equity capital. Management remains focused on the ongoing execution of our investment strategy.”
We are Long Horizon and Compass Diversified and have no position in Hercules Technology
