Third Time Is A Charm

Hercules Capital (HTGC) revealed in press release on October 28, 2020 that the SBA has given its final approval for a third SBIC license. See the press release attached.  The key numbers: HTGC puts up $87.5mn in new equity capital in an SBIC subsidiary and the SBA allows – over time – the issuance of $175mn of new long term debentures at what are highly favorable rates and on highly favorable terms (ten year interest only and no fair market accounting).

Speedy

This news is noteworthy for a couple of reasons. SBA watchers will note how quickly the agency moved from giving HTGC a “green light” letter – which is only the promise to consider a new license – to actually providing a final approval. The former was issued as recently as June of this year. In the past – and under different senior management at the SBA – many months, or even years, could pass before the final nod was received. That’s obviously good news for HTGC, but also for the many BDCs mulling SBIC licenses as a significant source of debt capital.

Let Us Count The Ways

Shareholders of said BDCs should also be chuffed because however inexpensive private unsecured debt is becoming (see the most recent WhiteHorse Finance – WHF – debt raise) the SBA monies are even cheaper , longer in maturity and with very flexible terms and adjustable drawdown schedules. That’s even before mentioning that the SBIC debt does not count against regulatory leverage for BDCs. In the right hands, SBA financing is a promise of superior ROE and for a long period – typically twice as long as the average Baby Bond. In the wrong hands – as with all credit instruments – SBA debt can be a “weapon of mass destruction” if too many mistakes are made. Even then, though, the SBA – while intent on protecting its interests – has a record of working with the BDCs involved far in excess of any flexibility offered by secured lenders.

Cavalry

For HTGC, the new commitment comes just in time as long issued existing SBIC debentures are reaching maturity. As the IIQ 2020 10-Q shows, $110mn of debentures are maturing between now and March 2023 (just round the corner in borrowing terms). $25mn is due by September 2021. ($38.7mn was already paid down in the IQ 2020). The remaining $110mn in debentures outstanding will wind down as portfolio companies pay off obligations or – if necessary – are refinanced by HTGC from other funds.

Further Discussion

We expect to hear more about the new license – and the BDC’s plans – when IIIQ 2020 results are discussed on its conference call today (October 29) at 5 p.m. EST.