We have maintained our long term Neutral recommendation on Hercules Technology Growth Capital (HTGC) on the back of its fourth-quarter results as well as its stable capital and liquidity positions. Also, we believe that the company will continue to gain from the increased market demands for venture capital investments.
However, Hercules’ weak investment and credit management strategies, ongoing capital market disruption and the sluggish economic recovery remain the causes of concern. Moreover, we expect the macroeconomic issues to increase the company’s cost of funding in the near to mid term.
Hercules’ fourth-quarter 2011 earnings surpassed the Zacks Consensus Estimate. Results benefited from a substantial increase in total investment income and better net realized and unrealized gain, partly offset by higher operating expenses.
Hercules’ dividend growth story has been fairly decent. In February 2012, the company hiked its quarterly cash dividend 5% to 23 cents per share. Moreover, effective 2009, the Board of Directors adopted a policy to distribute four quarterly dividends in an amount that approximates 90-100% of the company’s taxable income. Hence, we view Hercules as a sound asset for yield-oriented investors.
Stable liquidity position is another positive at Hercules. As of December 31, 2011, the company’s cash position was $184.3 million and further in January 2012, it raised about $48 million through issuance of equities. The company would deploy these funds for expanding its investment portfolio, which will likely be converted into earnings growth and dividends going forward.
Further, in general, technology-related companies are underserved by traditional lending sources. The venture capital market for the technology-related companies is showing signs of enhanced investment activity. Also, the market for technology-related companies is developing as substantiated by the improved IPO market in 2011 and 2010 as compared with the previous two years. Therefore, a specialty finance company like Hercules can receive attractive returns by providing venture capital to such companies.
However, to comply with the regulatory requirements, Hercules invests primarily in the U.S. based companies and, to a lesser extent, in foreign names. Over the last several years, the U.S. market has been experiencing illiquidity in the debt and capital markets. Though economy is showing signs of recovery, low interest rates and regulatory constraints may lead to increased cost of funding, thereby limiting the access to capital market.
Additionally, insufficient experience seems to be another major setback for Hercules. The company is very young, and as it commenced its investment operations late in 2004, it has few records to offer in support of its investment approach. Further, its business model greatly depends on the client relationships within the venture capital industry and loss of any key personnel may greatly hamper its operations.
Currently, Hercules retains a Zacks #3 Rank, which translates into a short-term Hold rating. However, one of its peers, Main Street Capital Corporation (MAIN) retains a Zacks #1 Rank (short-term Strong Buy rating).
To read this article on Zacks.com click here.
Zacks Investment Research
