Sign in

    Hercules Capital (HTGC)

    HTGC Q2 2024: Record $306M Prepayments Drive Growth, Compress Yields

    Reported on Aug 1, 2024 (After Market Close)
    Pre-Earnings Price$21.31Last close (Aug 1, 2024)
    Post-Earnings Price$20.72Open (Aug 2, 2024)
    Price Change
    $-0.59(-2.77%)

    What went well

    • Favorable rate environment: Expected Fed rate cuts in the second half of 2024 could boost demand for secured debt solutions, potentially increasing deal flow and funding opportunities.
    • Strong credit quality: The management highlighted stable portfolio metrics, including a steady weighted average credit rating and a decline in high-risk grades, suggesting robust credit fundamentals.
    • Robust growth in funding activity: Record funding levels and healthy performance in the private fund business indicate ongoing market demand and an ability to generate strong investment income.

    What went wrong

    • Credit Quality Concerns: The executives acknowledged a write-off and loan impairment—including the recent impairment of a private company’s loan (impaired from a cost basis of $60 million down to about $32 million) and placing loans on nonaccrual—which raises concerns that deteriorating credit conditions could lead to further losses if defaults increase.
    • Margin Pressure from Lower Interest Rates: During Q&A, it was noted that a 25 basis point rate cut could hurt net interest income by about $0.03 per share on an annual basis. This sensitivity suggests that, without sufficient offsetting growth, declining rates might significantly compress profitability.
    • Yield Compression Due to High Prepayments: Heavy prepayment activity—exemplified by $306 million in Q2 prepayments—forces the replacement of higher-yield legacy assets with lower-yield new deals. This dynamic could continue to erode the overall core yield and negatively impact margins over time.

    Q&A Summary

    1. Credit Quality
      Q: Did write-off cause $6M loss?
      A: Management noted a small loan was impaired and taken nonaccrual, resulting in a modest loss while overall credit quality remains strong with stable ratings and fewer high-risk assets.

    2. Nonaccrual Loan
      Q: Explain Chorus nonaccrual status?
      A: The Chorus loan was impaired from $60M to $32M due to significant collateral issues and a shift from cash to PIK, leading to its nonaccrual designation.

    3. Growth Outlook
      Q: What is next quarter growth view?
      A: Management is optimistic about robust future commitments and fundings, with prepayments expected in the $200–$300M range driving further portfolio growth.

    4. Rate Impact
      Q: How will lower rates affect deals?
      A: They expect that as rates decline in the latter half, demand from quality late-stage companies will increase, elevating secured debt activity.

    5. Business Model
      Q: Is HTGC shifting from VC loans?
      A: The firm has transitioned from traditional venture lending to an institutionally backed, hybrid model—with tech investments mainly private and life sciences largely public—to support mature growth.

    6. Core Yield
      Q: What’s behind core yield compression?
      A: A shift from higher-yield legacy assets to new deals with core yields of 13–14% is slightly lowering core yield, though the effective yield still stands at 14.7%.

    7. Interest Expense
      Q: Was the repayment funded via credit?
      A: Yes, the $105M repayment was executed using credit facilities, maintaining strong liquidity and flexibility while eyeing rate improvements.

    8. PIK Income
      Q: Why is the PIK income share rising?
      A: A modest increase in PIK income is driven by later-stage deals offering limited PIK options, with its overall impact remaining insignificant (<1%).

    9. Tech Focus
      Q: Is there a specific tech focus?
      A: The team maintains a broad, quality credit approach with no particular concentration on specific tech sectors, ensuring diverse investment profiles.

    10. Private Funds
      Q: Why higher private fund guidance?
      A: Due to performance exceeding expectations, guidance was nudged upward to $1.25–$1.5M per quarter reflecting robust private fund activity.

    11. NII Impact
      Q: Can growth offset the rate cut effect?
      A: Management indicated that although a 25 bp cut might reduce NII by $0.03 annually, increased investment volumes over time could comfortably make up for it.

    12. Peer Comparison
      Q: How active is SVB relative to HTGC?
      A: SVB remains active but at a reduced pace compared to past years, serving as both a competitor and occasional partner in select transactions.

    Analyst Coverage

    Research analysts covering Hercules Capital.