Good day, and thank you for standing by. Welcome to the Hercules Capital Q1 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. [Operator Instructions] I would now like to hand the conference over to your speaker today, Mr. Michael Hara. Mr. Hara, the floor is yours.

Thank you, Chris. Good afternoon, everyone, and welcome to Hercules’ conference call for the first quarter 2022. With us on the call today from Hercules are Scott Bluestein, CEO and Chief Investment Officer; and Seth Meyer, CFO. Hercules first quarter 2022 financial results were released just after today’s market close and can be accessed from Hercules Investor Relations section at htgc.com. We have arranged for a replay of the call at Hercules web page or by using the telephone number and a pass code provided in today’s earnings release. During this call, we may make forward-looking statements based on current expectations. Actual financial results filed with the Securities and Exchange Commission may differ from those contained herein due to timing delays between the date of this release and in the confirmation and final audit results. In addition, the statements contained in this release that are not purely historical are forward-looking statements. These forward-looking statements are not guarantees of future performance and are subject to uncertainties and other factors that could cause actual results to differ materially from those expressed in the forward-looking statements, including, without limitation, the risks and uncertainties, including the uncertainty surrounding the current market turbulence caused by the ongoing pandemic and geopolitical crisis, and other factors we identified from time to time in our filings with the SEC. Although, we believe that the assumptions on which these forward-looking statements are reasonable, any of those assumptions can prove to be inaccurate, and as a result, the forward-looking statements based on those assumptions also can be incorrect. You should not place undue reliance on these forward-looking statements. The forward-looking statements contained in this release are made as of the date hereof, and Hercules assumes no obligation to update the forward-looking statements or subsequent events. To obtain copies of related SEC filings, please visit our website. And with that, I’ll turn the call over to Scott.

Thank you, Michael, and thank you all for joining us today. The momentum that we experienced in our business throughout 2021 continued in Q1, where we originated record Q1 gross new debt and equity commitments of over $615 million and gross fundings of over $351 million. More importantly with early payoffs abating even more than expected, we achieved record net debt investment portfolio growth of over $190 million during the first quarter. The substantial investments that we have made in our team, infrastructure and platform have positioned us well to be able to take advantage of what we continue to view as a favorable market environment for our business. Given our strong performance in Q1 and our activity quarter-to-date in Q2, we believe that the company is well-positioned to be able to deliver strong net investment income growth over the remainder of the year. This will be further bolstered by our dramatically reduced cost of debt of 4% in Q1 2022 from 5.5% in Q1 2021. And the fact that Hercules debt portfolio is highly asset sensitive with 94.7% of our loans being variable rate with floors. Our liabilities are fixed with the exception of our credit facilities. As the FOMC raises interest rates each 25 basis point increase generates an additional approximately $0.04 of earnings annually. Let me recap some of the key highlights of our performance for Q1. Our record Q1 originations activity was once again driven by both our technology and life sciences teams delivering strong performance during the quarter. Our commitments and funding activity demonstrated balance between our two core verticals. Although, our investments during the quarter were waited towards technology. We funded capital to 26 different companies in Q1 of which 10 were new borrower relationships. In addition to strong funding activity for new portfolio…

Thank you, Scott, and good afternoon, ladies and gentlemen. As Scott just outlined, we believe that Hercules Capital is extremely well positioned in the current market. And there are several key themes that give us confidence with respect to our outlook for 2022. Strong momentum on the originations is continuing, prepayments are slowing, driving net portfolio growth, which is expected to translate to near term increase of net investment income. Further, with approximately 95% of our debt investment portfolio floating the majority of which being prime based. This positions us well in a rising rate environment for additional net investment income growth. Credit is stable and our balance sheet remains strong. Given the market volatility, we are also monitoring the macro environment closely and maintain the ability to quickly adapt to any changes that we see. Our goal from a balance sheet perspective is to remain long liquidity and flexibility. And we have taken several steps year-to-date in this regard. With that in mind, let’s review the following areas. The income statement performance and highlights, the NAV unrealized and realized activity, leverage and liquidity, and finally, the financial outlook. Turning our attention to the income statement performance and highlights, net investment income was $35.8 million or $0.30 per share in Q1, a decrease compared to the prior quarter, driven by a reduction in early repayments. The reduction in early repayments caused total fee income during the quarter to decline to $2.9 million from $7.5 million in Q4 2021. Total investment income was $65.2 million, a decrease compared to the prior quarter, again, driven by a reduction in early repayments. Our effective and core yields in the first quarter were 11.5% and 11.1% respectively compared to 13% and 11.2% in the fourth quarter. The slight decline in the core yield was…

Thank you. [Operator Instructions] Our first question comes from Crispin Love of Piper Sander. Your line is open.

Thank you, and good afternoon, everyone. So as you said, you seem pretty well positioned for NII growth for the rest of the year. But Seth just building on your comments just now, how are you thinking of the ramp of core yields through the rest of the year, if the forward curve plays out with the numerous rate hikes that are expected from the fed and then the few that we’ve already had. And then also what could that mean for what core yields could be as we exit 2022?

Yes, sure. A couple of things on that, Crispin, thanks for the question. One is, when I think about it from a Q2 perspective, we should note that the majority of our originations occurred in the first quarter towards the back end of the quarter, as well as the rate increase by the fed of the 25 basis points was only effective as of March 17. So we would expect to see a benefit upswing in Q2. We even without the recent 50 basis point increase as of yesterday effective today. So what we would expect to see is a portfolio that is benefiting almost one for one, as you can see when we do the graph associated with the increase and what it translates to an earnings per share, it’s fairly linear. In that a 25 basis point increase, we estimate is a $0.04 annually increase on the earnings side. And then it ratchet up 50 basis points is $0.08 cents et cetera, et cetera. So it’s fairly linearly driven, noting that the majority of our portfolio is prime based. And of course, LIBOR and SOFR move a little bit different. So on the yield side, you would also expect it to be fairly linear and the way that I would mathematically do it, if I was going to model it out, Crispin, is I would assume anywhere from a 65% to 70% direct effective yield impact, because not all of it is going to increase at the same rate as those rate increases, but that’s how I’d model it.

Thanks, that’s very helpful. And then just looking at your tech and life sciences exposure, are you inching one way or another for new fundings? I know, it’s been a tough environment for tech with higher rates, at least in the public equity markets. And I know I think Scott mentioned earlier in the call that you had more tech fundings in the first quarter. So I’m just curious how you’re thinking about future fundings and the waiting between tech and life sciences and what could drive you one way or the other.

Sure. Thanks, Crispin. The key operative word for us is balance and diversification. We’ve often said publicly and in some of our private conversations that in periods of volatility, the focus for us is on maintaining balance and diversification. And that’s exactly what we’re trying to do now. Our target exposure right now is approximately 50-50. So we want to be weighted 50% tech, 50% life sciences that may toggle quarter-to-quarter, because it’s difficult to control like the exact timing of when these fundings will close. In Q4, we were slightly weighted towards life sciences. In Q1, we were slightly weighted towards tech. If you look at the business over the last six months, it’s almost 50-50 on the notes and that will continue to be our target allocation, certainly, short to medium term here.

Thanks, Scott. Thank you for taking my questions.

Sure.

Thank you. Next question comes from Kevin F of JMP. Your line is open.

Hi, good afternoon and thank you for taking my questions. In your prepared remarks, you mentioned that only one debt investment is on non-accrual, which is great. But could you provide some insight on the two debt investments that came up non-accrual during the quarter?

Sure. One was the legacy Sungevity/Solar Spectrum investment and that may be a name that rings a bell for some of those that are on this call. That was a company that went through an insolvency proceeding several years ago. We restructured that debt. We ended up funding the NewCo coming out of it, and that company has had substantial progress over the course of the last six months. The company, which is now named Pineapple Energy completed a reverse merger and did a pretty significant capital raise in the first quarter. So that loan has come off, non-accrual. They are current pay with all obligations to Hercules. And the other one was the one small legacy loan that Seth mentioned. We had a small realized loss. We ended up selling that loan back to the investors in Q1. We took a small realized loss on that, but that also came off non-accrual during the quarter.

Okay, appreciate the color there, Scott. And then last quarter, I believe you mentioned targeting regulatory leverage north of 1 times. As a quarter end, you’re well below that at 0.88 times. Just curious if your target leverage range has shifted at all given the current backdrop.

No change in it. We remain at a target ceiling of 1.25 to equity on a GAAP basis. And we do have the ambition. It should prepayments continue to remain low of continuing to drive that ratio up a little bit closer on a regulatory basis to one to one.

Okay, got it. That’s it for me. And thank you for taking my questions.

Thanks, Kevin.

Thank you. And next we have Finian O’Shea of Wells Fargo. Your line is open. Finian O’Shea: Hey, everyone. Good afternoon. First question on the Advisor, are you considering or undertaking more than one multiple fund lines and what – if so what strategies would the new ones be in?

So we currently are managing two distinct parallel funds in the private fund business. We are certainly beginning now to think about what’s next in terms of potential funds down the road, but there’s nothing imminent and there’s nothing near term to discuss the two private funds now very consistent with the strategy that we’ve laid out historically. And those funds continue to ramp up ahead of expectations and they’re doing exactly what we expected them to do in terms of helping us not only increase the total addressable market for us, but also helping us do larger later stage transactions and stay with our borrowers for longer periods of time, which is extending out duration and increasing the earnings power of the business. Finian O’Shea: Sure. That’s helpful. Thank you. And is there any – I think that you’re hit a lot on your commentary, which is helpful, but sounds like, everything’s pretty healthy holding up well in terms in yields and all that. Is anything or is it comparatively more interesting to you anywhere in the public stock markets, where a lot of the, I think, companies you would work with have sold off pretty drastically understanding there’d be exposure limitations on that kind of thing. But I think you’ve done a little of that in the past. And wondering if that’s interesting to you today.

In terms of equity purchases or debt transactions for those companies. Finian O’Shea: Equity.

Yes. So not on the equity side, we continue to have about 6% to 7% of our investment portfolio in equity securities. That has obviously come down proportionally as the markets have declined over the course of the last six months. We will opportunistically make direct equity investments in some of our public borrowers, it’s just case specific. So we’ve had several companies over the course of the last several quarters that have completed some fairly large in our view, attractively priced equity transactions. And we have participated in those. That’s typically done through our RTI, which is the right to invest that we get in the majority of deals that we do. But those – on an overall basis, those are a pretty small part of what we do on a quarterly basis. Those tend to be somewhere in the range of $1 million to $5 million on the high end purview. Finian O’Shea: Okay. That’s helpful. Thanks so much.

Sure. Thanks, Fin.

Thank you. Our next question comes from John Hecht of Jefferies. Your line is open.

Hey guys, apologize. If you comment on this, I did miss the front end of the call just because it got, we’re juggling earnings. But in terms of timing of you had a lot of deployments in the quarter, but were they back weighted or anything you can comment in terms of the timing of the deployments.

They were very strong investment activity in the quarter $650 million of commitments, $352 million of fundings, approximately 55% of the fundings in the quarter occurred in the month of March. So very heavily weighted towards the backend, which obviously will provide some significant power for Q2 and the go forward periods.

Okay. Helpful. And then understand how rates will affect revenues and earnings. How do you think rates up a couple percent from here, does that start to slow repayments, do you think or early payments or is there you can’t – it’s really unpredictable in terms of behavior there.

I think the prepayments are just very difficult for us to predict and we’ve talked about that on a pretty consistent basis. I think the one theme that we absolutely can speak to is that over the course of the last several months, we’ve seen a significant change just in terms of sort of the mentality of Boards and companies. Whereas last year refinancings were sort of a priority for a lot of these companies and as liquidity built up, they were using that excess liquidity to pay off debt and that’s why we saw nearly – actually over $1 billion of prepayments last year. The messaging that we’re hearing from Boards and from companies in this market environment is just different. So even the companies that are still very strong and long liquidity, the Boards are just taking a little bit of a different approach and given some of the volatility choosing not to pay off the debt, which again for given our the quality of our credit book, we’re perfectly happy with those deals staying on the books for longer periods of time.

Okay. And just any changes in kind of your emphasis or focus on different sub sectors given inflationary trends and how that might impact, how industries work?

Sure. We tend not to want to talk about moves that we’re making. Just given that we only want to be kind of cognizant of what others are doing. What I would tell you is that and we spoke about this in our prepared remarks. We have absolutely over the course of the last two quarters begun to position the portfolio into more later stage, more established scaled companies, both on the tech side and on the life sciences side. If you look at the majority of deals that we booked in Q4 and the majority of deals that we booked in Q1, you would see those two themes pretty meaningfully in terms of later stage, more established scaled tech companies and then larger public borrowers on the biotech side, diversified drug discovery, drug development platform companies that are very strong from a liquidity perspective. Those two general themes are going to continue. Right now, we think the risk adjusted return profile in those areas is it’s just much better than what we’re seeing in some of the earlier stage type opportunities where we think the risk curve is up pretty materially. There are absolutely sectors that we are rotating away from and that we’re not investing into, but I’d rather not comment on specifically what those are.

Okay. Thanks very much. Very helpful.

Sure. Thanks, John.

Thank you. [Operator Instructions] Our next question comes from Ryan Lynch of KBW. Your line is open.

Good afternoon. First question, I just wanted to focus on was just the core yields are spread that, that you guys are anticipating throughout the year. You obviously talked about a lot of volatility in the marketplaces today. I think increasing the attractiveness of potential borrowers to access venture debt, which I think would allow you to maybe have a little more pricing pressure or pricing power, excuse me from a spread standpoint, but then at the same time, you have rising rates, which I would think at times can put some pressure on spread. So I’m just curious, how do you see those two interplay playing out.

Sure. In terms of the core yield, the guidance that we gave for Q2 is consistent with the guidance that we delivered for Q1, which is that 11% to 11.5% core yield target. We didn’t mention this, but towards the backend of 2022, we certainly would expect to be on the higher end of that yield guidance from a core yield perspective, largely driven by what the Fed has already done and what we expect the Fed to continue to do. In terms of overall theme, I’d say a couple of things with respect to yield. So we are seeing some opportunities for increased yield in the market. It’s on a deal by deal basis. It is not across the Board. It’s very company specific. And I would also say that, there are a number of opportunities that we’ve seen over the course of the last several months in the market where there are opportunities for substantially increased yield, but those deals and that increased yield is being driven by increased risk. And you’ve got companies right now that are willing to pay up from a yield perspective to get increased leverage, to get looser structured deals and those are just two things that historically we’ve been very hesitant to chase. And so you should not expect us to chase those on a go forward basis. So I think from an overall perspective, we do expect there to be some core yield accretion over the course of the next several quarters, but I would not expect it to be material given that we’re going to continue to chase quality and not chase yield and increased risk.

Okay. That’s helpful commentary. One thing I also noticed in your press release, you guys have the debt portfolio composition breakdown and it looks like your first lien senior secured loans have dropped from about 83% of your portfolio a year ago to about 73% today. Can you just talk about what’s kind of the driving factor behind that, that mix shift? It’s obviously still significantly weighted towards first lien senior secured, but a little bit less so from a year ago.

Yes. So, yes, as you pointed out right now about 73% of the portfolio is in true senior secured first lien debt that is down slightly from where it was over the last several quarters. And that is directly correlated to what we talked about in our prepared remarks in terms of what we’ve been intentionally doing over the course of the last few quarters. As we’ve moved more aggressively into some of the later stage, more established companies, those companies tend to be a little bit more mature, a little bit more scaled from a growth perspective. And in many cases, those companies have relatively cheap, small, inexpensive, revolving credit facilities in place. And so when we do some of those larger later stage structured transactions, in some cases, we are going behind small formula based revolving credit facilities that are provided from commercial banks at Prime, Prime minus one, Prime plus one. And so that’s what’s causing that number to decrease slightly, but it’s certainly not a material move from our perspective and those companies tend to be a much better credit quality in our opinion.

Okay. That makes sense. And then just one last one that I had, you kind of lay out on Slide 40 of your deck, the venture capital fundraising and investment activity. And it was interesting to see that that venture capital investment activity was down for at least on pace to be a down year relative to 2021, which is not surprising. But then when you look at investment venture capital fundraising, it’s up significantly and on pace at least to significantly eclipse what we saw in 2021. I’m just curious if you – if there’s anything that, that you can read into that on any sort of impact that could potentially have later in the year to just see so much capital raise, but yet so little deployed in Q1.

Yes. I think it’s all from our perspective very positive and very much expected. And it speaks to a very healthy and vibrant VC ecosystem. Fundraising continues to not only be strong, but actually to exceed what we saw in 2020 and 2021, $74 billion of venture capital funds raised in Q1 relative to $132 billion raised in all of 2021. So on pace to significantly exceed what we saw last year, that speaks, I think very nicely to our expectation that VC inflows into venture capital growth stage companies will continue. On the investment side, you did see a little bit of a pullback in Q1. It was certainly not material when you look at it in sort of the grand scheme of things. In Q4, VC firms invested $90 billion in Q3, they invested $83 billion and in Q1, they invested $71 billion. So it did come down slightly, which was not a surprise to us just given some of the volatility in the market and some of the rationalization that you’re seeing from evaluation perspective. But the fact that fundraising is remaining so healthy and so strong. I think from our perspective speaks very well to what we expect to be a continued strong environment for the remainder of 2022, in terms of companies being able to raise capital.

Okay. Understood. I appreciate the time this afternoon.

Sure. Thanks, Ryan.

Thank you. And speakers, I see – I do not see any more questions in the queue. I will turn the conference back over to Scott Bluestein for closing remarks.

Thank you, Chris, and thanks to everyone for joining our call today. We look forward to reporting our progress on our next earnings call. Thank you.

This concludes today’s conference call. Thank you all for participating. You may now disconnect and have a pleasant day.