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HRZN > SEC Filings for HRZN > Form 10-Q on 6-Nov-2012All Recent SEC Filings

Show all filings for HORIZON TECHNOLOGY FINANCE CORP

Form 10-Q for HORIZON TECHNOLOGY FINANCE CORP


6-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

In this section, except where the context suggests otherwise, the terms "we," "us," "our" and "Horizon Technology Finance" refer to Horizon Technology Finance Corporation and its consolidated subsidiaries. The information contained in this section should be read in conjunction with our consolidated financial statements and related notes thereto appearing elsewhere in this quarterly report on Form 10-Q . Amounts are stated in thousands, except shares and per share data and where otherwise noted.

Overview

We are a specialty finance company that lends to and invests in development-stage companies in the technology, life science, healthcare information and services and cleantech industries, which we refer to as our "Target Industries." Our investment objective is to generate current income from the loans we make and capital appreciation from the warrants we receive when making such loans. We make secured loans, which we refer to as "Venture Loans," to companies backed by established venture capital and private equity firms in our Target Industries, which we refer to as "Venture Lending." We also selectively lend to publicly traded companies in our Target Industries.

We are an externally managed, closed-end, non-diversified management investment company that has elected to be regulated as a BDC under the 1940 Act. As a BDC, we are required to comply with regulatory requirements, including limitations on our use of debt. We are permitted to, and expect to, finance our investments through borrowings. However, as a BDC, we are only generally allowed to borrow amounts such that our asset coverage, as defined in the 1940 Act, equals at least 200% after such borrowing. The amount of leverage that we employ depends on our assessment of market conditions and other factors at the time of any proposed borrowing.

Compass Horizon Funding Company LLC ("Compass Horizon") our predecessor company, commenced operations in March 2008. We were formed in March 2010 for the purpose of acquiring Compass Horizon and continuing its business as a public entity.

Portfolio Composition and Investment Activity



The following table shows our portfolio composition by asset class as of
September 30, 2012 and December 31, 2011:



                                           September 30, 2012                               December 31, 2011
                                                                  % of                                            % of
                                   # of            Fair           Total            # of            Fair           Total
                                Investments        Value        Portfolio       Investments        Value        Portfolio
Term loans                                39     $ 191,612            86.7 %              37     $ 172,363            96.8 %
Revolving loans                            4        20,733             9.4 %               -             -             0.0 %
Equipment loans                            1            60             0.1 %               1           923             0.5 %
Total loans                               44       212,405            96.2 %              38       173,286            97.3 %
Warrants                                  58         5,827             2.6 %              47         4,098             2.3 %
Other investments                          1         2,000             0.9 %               -             -             0.0 %
Equity                                     2           677             0.3 %               3           629             0.4 %
Total                                            $ 220,909           100.0 %                     $ 178,013           100.0 %

Total portfolio investment activity for the periods ended September 30, 2012 and 2011 was as follows:

                                           For the three months ended           For the nine months ended
                                                 September 30,                        September 30,
                                             2012               2011             2012               2011
Beginning portfolio                     $      195,600       $   186,029     $     178,013       $   136,810
New loan funding                                48,464             7,000           117,459            86,833
Less refinanced balances                       (12,000 )               -           (30,739 )          (8,677 )
Net new loan funding                            36,464             7,000            86,720            78,156
Principal payments received on
investments                                    (10,607 )          (8,559 )         (28,522 )         (22,666 )
Early pay-offs                                  (1,459 )          (4,315 )         (15,664 )          (9,908 )
Accretion of loan fees                             606               527             1,698             1,356
New loan fees                                     (372 )             (40 )          (1,120 )            (967 )
New equity                                           -                 -                 -               577
Proceeds from sale of investments                    -                 -               (38 )               -
Net realized loss on investments                     -                 -               (61 )               -
Net appreciation (depreciation) on
investments                                        677              (456 )            (117 )          (3,172 )
Ending portfolio                        $      220,909       $   180,186     $     220,909       $   180,186

We receive payments in our loan portfolio based on scheduled amortization of the outstanding balances. In addition, we receive repayments of some of our loans prior to their scheduled maturity date. The frequency or volume of these repayments may fluctuate significantly from period to period.

The following table shows our debt investments by industry sector as of September 30, 2012 and December 31, 2011:

                                             September 30, 2012               December 31, 2011
                                         Loans at        Percentage       Loans at        Percentage
                                           Fair           of Total          Fair           of Total
                                           Value         Portfolio          Value         Portfolio
Life Science
Biotechnology                           $    48,624             22.9 %   $    39,854             23.0 %
Medical Device                               18,812              8.9 %        19,281             11.1 %
Technology
Consumer-Related Technologies                     -                -           1,762              1.0 %
Networking                                       60              0.1 %           923              0.5 %
Software                                     26,529             12.5 %        23,354             13.5 %
Data Storage                                      -                -           3,437              2.0 %
Internet and Media                            9,729              4.6 %             -                -
Communications                                    -                -           5,134              3.0 %
Semiconductors                               19,765              9.3 %        11,765              6.8 %
Power Management                             15,773              7.4 %             -                -
Cleantech
Energy Efficiency                            27,899             13.1 %        23,790             13.7 %
Waste Recycling                               3,602              4.0 %         4,455              2.6 %
Alternative Energy                            8,559              1.7 %             -                -
Healthcare Information and Services
Diagnostics                                  18,282              8.6 %        21,347             12.3 %
Other Healthcare Related Services            14,771              6.9 %        18,184             10.5 %
Total                                   $   212,405            100.0 %   $   173,286            100.0 %

The largest loans may vary from year to year as new loans are recorded and repaid. Our five largest loans represented approximately 25% and 28% of total loans outstanding as of September 30, 2012 and December 31, 2011, respectively. No single loan represented more than 10% of our total loans as of September 30, 2012 and December 31, 2011.

Loan Portfolio Asset Quality

We use a credit rating system which rates each loan on a scale of 4 to 1, with 4 being the highest credit quality rating and 3 being the rating for a standard level of risk. A rating of 2 or 1 represents a deteriorating credit quality and increased risk. The following table shows the classification of our loan portfolio by credit rating as of September 30, 2012 and December 31, 2011:

                     September 30, 2012               December 31, 2011
                 Loans at        Percentage       Loans at       Percentage
                   Fair           of Loan           Fair          of Loan
Credit Rating      Value         Portfolio         Value         Portfolio
4               $    43,562             20.5 %   $   30,108             17.4 %
3                   153,247             72.2 %      119,753             69.1 %
2                    15,596              7.3 %       23,425             13.5 %
1                         -                -              -                -
Total           $   212,405            100.0 %   $  173,286            100.0 %

As of September 30, 2012 and December 31, 2011, our loan portfolio had a weighted average credit rating of 3.2 and 3.1, respectively. There were no loans on non-accrual status as of September 30, 2012 and December 31, 2011. Subsequent to September 30, 2012, one loan with a credit rating of "2" and a cost and fair value of approximately $5.2 million was placed on non-accrual status.

Consolidated Results of Operations for the three months ended September 30, 2012 and 2011

Consolidated operating results for the three months ended September 30, 2012 and 2011 are as follows:

                                                                For the three months ended
                                                                      September 30,
                                                                  2012               2011
Total investment income                                      $        6,619       $     6,441
Total expenses                                                        3,650             3,448
Net investment income                                                 2,969             2,993
Net realized losses                                                       -               (17 )
Net unrealized appreciation (depreciation)                              677              (217 )
Net increase in net assets resulting from operations         $        3,646       $     2,759
Average debt investments, at fair value                      $      195,147       $   180,951
Average borrowings outstanding                               $       59,112       $    80,871

Net increase in net assets resulting from operations can vary substantially from period to period for various reasons, including the recognition of realized gains and losses and unrealized appreciation and depreciation. As a result, quarterly comparisons of net increase in net assets resulting from operations may not be meaningful.

Investment Income

Investment income increased by $0.2 million, or 2.8%, for the three months ended September 30, 2012 as compared to the three months ended September 30, 2011. For the three months ended September 30, 2012, total investment income consisted primarily of $6.4 million in interest income from investments, which included $1.1 million in income from the amortization of origination fees and end-of-term payments on investments. Interest income on investments increased primarily due to the increased average balance of the loan portfolio. Fee income on investments was primarily comprised of prepayment fees from our portfolio companies. For the three months ended September 30, 2011, total investment income consisted primarily of $6.1 million in interest income from investments, which included $0.9 million in income from the amortization of origination fees and end-of-term payments on investments.

For the three months ended September 30, 2012 and 2011, our dollar-weighted average annualized yield on average loans was approximately 13.6% and 14.2%, respectively. Investment income, consisting of interest income and fees on loans, can fluctuate significantly upon repayment of large loans. Interest income from the five largest loans accounted for approximately 23% and 27% of investment income for the three months ended September 30, 2012 and 2011, respectively.

As of September 30, 2012 and December 31, 2011, interest receivable was $4.1 million and $3.0 million, respectively, which represents one month of accrued interest income on substantially all our loans and end of term payments on a portion of our loans.

Expenses

Total expenses increased by $0.2 million, or 5.9%, to $3.7 million for the three months ended September 30, 2012 as compared to the three months ended September 30, 2011. Total operating expenses for each period consisted principally of interest expense, management fees, incentive and administrative fees and, to a lesser degree, professional fees and general and administrative expenses.

Interest expense, which includes the amortization of debt issuance costs, increased for the three months ended September 30, 2012 compared to the three months ended September 30, 2011 primarily due to an increase in borrowings under the Wells Facility and the Fortress Facility, and the issuance of our Senior Notes, offset by continued pay down under the WestLB Facility.

Management fee expense for the three months ended September 30, 2012 remained flat compared to the three months ended September 30, 2011. Performance based incentive fees increased by $0.2 million primarily due to the reversal of an accrual for the incentive fee related to realized gains in the three months ended September 30, 2011, with no such reversal recorded at September 30, 2012.

Professional fees and general and administrative expenses primarily include legal and audit fees and insurance premiums. These expenses were $0.4 million and $0.7 million for the three months ended September 30, 2012 and 2011, respectively.

Net Realized Gains and Net Unrealized Appreciation and Depreciation

Realized gains or losses on investments are measured by the difference between the net proceeds from the repayment or sale and the cost basis of our investments without regard to unrealized appreciation or depreciation previously recognized and includes investments charged off during the period, net of recoveries. The net change in unrealized appreciation or depreciation on investments primarily reflects the change in portfolio investment fair values during the reporting period, including the reversal of previously recorded unrealized appreciation or depreciation when gains or losses are realized.

During the three months ended September 30, 2012, net unrealized appreciation on investments totaled approximately $0.7 million. For the three months ended September 30, 2011, net unrealized depreciation on investments totaled approximately $0.2 million. For both periods the change was primarily due to the change in the fair values of our investment portfolio during each period.

Consolidated Results of Operations for the nine months ended September 30, 2012 and 2011

Consolidated operating results for the nine months ended September 30, 2012 and 2011 are as follows:

                                                         For the nine months ended
                                                               September 30,
                                                           2012               2011
Total investment income                                $      18,726       $   17,871
Total expenses                                                10,146           10,670
Net investment income                                          8,580            7,201
Net realized (losses) gains                                      (61 )          5,544
Net unrealized depreciation                                     (117 )         (2,535 )
Net increase in net assets resulting from operations   $       8,402       $   10,210
Average debt investments, at fair value                $     179,417       $  162,623
Average borrowings outstanding                         $      59,886       $   82,606

Net increase in net assets resulting from operations can vary substantially from period to period for various reasons, including the recognition of realized gains and losses and unrealized appreciation and depreciation. As a result, quarterly comparisons of net increase in net assets resulting from operations may not be meaningful.

Investment Income

Investment income increased by $0.9 million, or 4.8%, for the nine months ended September 30, 2012 as compared to the nine months ended September 30, 2011. For the nine months ended September 30, 2012, total investment income consisted primarily of $17.8 million in interest income from investments, which included $3.1 million in income from the amortization of origination fees and end-of-term payments on investments. Interest income on investments increased primarily due to the increased average balance of the loan portfolio. Fee income on investments for the nine months ended September 30, 2012 was primarily from prepayment fees from our portfolio companies. For the nine months ended September 30, 2011, total investment income consisted primarily of $16.9 million in interest income from investments, which included $2.5 million in income from the amortization of origination fees and end-of-term payments on investments. Fee income on investments for the nine months ended September 30, 2011 was primarily comprised of a one-time success fee received upon the completion of an acquisition of one of our portfolio companies.

For the nine months ended September 30, 2012 and 2011, our dollar-weighted average annualized yield on average loans was approximately 13.9% and 14.6% respectively. Investment income, consisting of interest income and fees on loans, can fluctuate significantly upon repayment of large loans. Interest income from the five largest loans accounted for approximately 23% and 25% of investment income for the nine months ended September 30, 2012 and 2011, respectively.

Expenses

Total expenses decreased by $0.5 million, or 4.9%, to $10.1 million for the nine months ended September 30, 2012 as compared to the nine months ended September 30, 2011. Total operating expenses for each period consisted principally of interest expense, management fees, incentive and administrative fees and, to a lesser degree, professional fees and general and administrative expenses.

Interest expense, which includes the amortization of debt issuance costs, increased for the nine months ended September 30, 2012 compared to the nine months ended September 30, 2011 primarily due to an increase in borrowings under the Wells Facility and the Fortress Facility, and the issuance of our Senior Notes, offset by continued pay down under the WestLB Facility.

Management fee expense for the nine months ended September 30, 2012 decreased compared to the nine months ended September 30, 2011 as a result of a decrease in average gross assets as we deleveraged our portfolio. Performance based incentive fees decreased by $0.7 million primarily due to the recording of an accrual for the incentive fee related to realized gains earned in the nine months ended September 30, 2011, with no such accrual recorded at September 30, 2012.

Professional fees and general and administrative expenses primarily include legal and audit fees and insurance premiums. These expenses were $1.5 million and $1.8 million for the nine months ended September 30, 2012 and 2011, respectively.

Net Realized Gains and Net Unrealized Appreciation and Depreciation

Realized gains or losses on investments are measured by the difference between the net proceeds from the repayment or sale and the cost basis of our investments without regard to unrealized appreciation or depreciation previously recognized and includes investments charged off during the period, net of recoveries. The net change in unrealized appreciation or depreciation on investments primarily reflects the change in portfolio investment fair values during the reporting period, including the reversal of previously recorded unrealized appreciation or depreciation when gains or losses are realized.

During the nine months ended September 30, 2012, we recognized realized losses of approximately $0.1 million primarily due to the charge off of warrants in one portfolio company. During the nine months ended September 30, 2011, we recognized realized gains of approximately $5.5 million primarily due to the sale of warrants in four portfolio companies.

During the nine months ended September 30, 2012, net unrealized depreciation on investments totaled approximately $0.1 million which was primarily due to the change in fair values of our investment portfolio during the period. For the nine months ended September 30, 2011, net unrealized depreciation on investments totaled approximately $2.5 million which was primarily due to the reversal of previously recorded unrealized appreciation on our warrant investments that were realized in the period, offset by a net increase in the fair value of our investments.

Liquidity and Capital Resources

As of September 30, 2012 and December 31, 2011, we had cash and investments in money market funds of $5.7 million and $14.8 million, respectively. These amounts are available to fund new investments, reduce borrowings under the WestLB Facility, Wells Facility, and the Fortress Facility (collectively, the "Credit Facilities"), pay operating expenses and pay dividends. Our primary sources of capital have been from our private and public common stock offerings, use of our Credit Facilities and issuance of our Senior Notes.

The WestLB Facility had a three year initial revolving term which ended on March 3, 2011. The outstanding principal balance under the WestLB Facility was $9.6 million as of September 30, 2012 and is amortizing based on debt investment payments received through March 3, 2015.

As of September 30, 2012, the outstanding principal balance under the Wells Facility was $23.7 million. As of September 30, 2012, we had available borrowing capacity of approximately $51.3 million under our Wells Facility, subject to existing terms and advance rates.

As of September 30, 2012, the outstanding principal balance under the Fortress Facility was $10.0 million. As of September 30, 2012, we had available borrowing capacity of approximately $65.0 million under our Fortress Facility, subject to existing terms and advance rates.

Our operating activities used cash of $25.3 million for the nine months ended September 30, 2012 and our financing activities provided net cash proceeds of $27.3 million for the same period. Our operating activities used cash primarily for investing in portfolio companies. Our financing activities provided cash primarily from the issuance of our Senior Notes of $33.0 million, and the completion of a follow-on public offering of 1.9 million shares of common stock for proceeds of approximately $29.5 million, after deducting offering expenses.

Our operating activities used cash of $22.1 million for the nine months ended September 30, 2011 and our financing activities used cash of $11.8 million for the same period. Our operating activities used cash primarily for investing in portfolio companies and that cash was provided primarily from our initial public offering and draws under the Wells Facility and WestLB Facility.

Our primary use of available funds is to make investments in portfolio companies and for general corporate purposes. We expect to opportunistically raise additional equity and debt capital as needed, and subject to market conditions, to support our future growth through future equity offerings, issuances of senior securities and/or future borrowings, to the extent permitted by the 1940 Act.

In order to satisfy the Code requirements applicable to a RIC, we intend to distribute to our stockholders all or substantially all of our income except for certain net capital gains. In addition, as a BDC, we generally will be required to meet a coverage ratio of 200%. This requirement will limit the amount that we may borrow.

Current Borrowings

We, through our wholly owned subsidiary, Credit I, entered into the WestLB Facility. The base rate borrowings under the WestLB Facility bear interest at one-month LIBOR (0.21% as of September 30, 2012 and 0.30% as of December 31, 2011) plus a spread of 2.50%. The rates were 2.71% and 2.80% as of September 30, 2012 and December 31, 2011, respectively. We were able to request advances under the WestLB Facility through March 4, 2011. We may not request new advances and we must repay the outstanding advances under the WestLB Facility as of such date and at such times and in such amounts as are necessary to maintain compliance with the terms and conditions of the WestLB Facility, particularly the condition that the principal balance of the WestLB Facility does not exceed seventy-five percent (75%) of the aggregate principal balance of our eligible loans to our portfolio companies. All outstanding advances under the WestLB Facility are due and payable on March 4, 2015.

The WestLB Facility is collateralized by all loans and warrants held by Credit I and permits an advance rate of up to 75% of eligible loans held by Credit I. The WestLB Facility contains covenants that, among other things, require the Company to maintain a minimum net worth and to restrict the loans securing the WestLB Facility to certain criteria for qualified loans, and includes portfolio company concentration limits as defined in the related loan agreement.

We, through our wholly owned subsidiary Credit II, entered into the Wells Facility on July 14, 2011. The interest rate on the Wells Facility is based upon the one-month LIBOR plus a spread of 4.00%, with a LIBOR floor of 1.00%. The interest rate was 5.00% as of September 30, 2012 and December 31, 2011.

We may request advances under the Wells Facility through July 14, 2014 (the "Revolving Period"). After the Revolving Period, we may not request new advances and we must repay the outstanding advances under the Wells Facility as of such date, at such times and in such amounts as are necessary to maintain compliance with the terms and conditions of the Wells Facility, particularly the condition that the principal balance of the Wells Facility does not exceed fifty percent (50%) of the aggregate principal balance of our eligible loans to our portfolio companies. All outstanding advances under the Wells Facility are due and payable on July 14, 2017.

The Wells Facility is collateralized by loans held by Credit II and permits an advance rate of up to 50% of eligible loans held by Credit II. The Wells Facility contains covenants that, among other things, require us to maintain a minimum net worth, to restrict the loans securing the Wells Facility to certain criteria for qualified loans and to comply with portfolio company concentration limits as defined in the related loan agreement.

On March 23, 2012, we issued and sold $30 million aggregate principal amount of 7.375% senior unsecured notes due in 2019 and on April 18, 2012, pursuant to the underwriters' 30 day option to purchase additional notes, we sold an additional $3 million of such notes (collectively, the "Senior Notes"). The Senior Notes will mature on March 15, 2019 and may be redeemed in whole or in part at our option at any time or from time to time on or after March 15, 2015 at a redemption price of $25 per security plus accrued and unpaid interest. The . . .

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