UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
☒ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 2019
OR
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 814-00736
PENNANTPARK INVESTMENT CORPORATION
(Exact name of registrant as specified in its charter)
MARYLAND
(State or other jurisdiction of incorporation or organization)
590 Madison Avenue, 15th Floor
New York, N.Y.
(Address of principal executive offices)
20-8250744
(I.R.S. Employer Identification No.)
10022
(Zip Code)
(212) 905-1000
(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Common Stock, par value $0.001 per share
5.50% Notes due 2024
Trading Symbol(s)
PNNT
PNNTG
Name of Each Exchange on Which Registered
The Nasdaq Stock Market LLC
The Nasdaq Stock Market LLC
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒.
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒.
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐.
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☐ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the
definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Non-accelerated filer
Emerging growth company
☐
☐
☐
Accelerated filer
Smaller reporting company
☒
☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting
standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒.
The aggregate market value of common stock held by non-affiliates of the Registrant on March 31, 2019 based on the closing price on that date of $6.91 on The Nasdaq Global Select
Market was approximately $453 million. For the purposes of calculating the aggregate market value of common stock held by non-affiliates, all directors and executive officers of the Registrant
have been treated as affiliates. There were 67,045,105 shares of the Registrant’s common stock outstanding as of November 21, 2019.
Documents Incorporated by Reference: Portions of the Registrant’s Proxy Statement relating to the Registrant’s 2020 Annual Meeting of Stockholders to be filed not later than 120 days
after the end of the fiscal year covered by this Annual Report on Form 10-K are incorporated by reference into Part III of this Report.
PENNANTPARK INVESTMENT CORPORATION
FORM 10-K
FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 2019
TABLE OF CONTENTS
PART I
PART II
Item 1.
Business
Item 1A.
Risk Factors
Item 1B.
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
Item 7.
Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Selected Financial Data
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Item 9.
Consolidated Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures
Item 9B.
Other Information
PART III
Item 10.
Directors, Executive Officers and Corporate Governance
Item 11.
Executive Compensation
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Item 13.
Certain Relationships and Related Transactions, and Director Independence
Item 14.
Principal Accountant Fees and Services
PART IV
Item 15.
Exhibits and Financial Statement Schedules
Signatures
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46
47
74
74
74
75
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PART I
In this annual report on Form 10-K, or the Report, except where context suggest otherwise, the terms “Company,” “we,” “our” or “us” refer to PennantPark Investment Corporation
and its consolidated subsidiaries; “PennantPark Investment” refers to only PennantPark Investment Corporation; “our SBIC Funds” refers collectively to our consolidated subsidiaries,
PennantPark SBIC LP, or SBIC I, and its general partner, PennantPark SBIC GP, LLC, prior to dissolution and PennantPark SBIC II LP, or SBIC II, and its general partner, PennantPark
SBIC GP II, LLC; “Funding I” refers to PennantPark Investment Funding I, LLC; “Taxable Subsidiaries” refers to PNNT Cascade Environmental Holdings, LLC, PNNT CI (Galls) Prime
Investment Holdings, LLC, PNNT ecoserve, LLC, PNNT Investment Holdings, LLC and PNNT New Gulf Resources, LLC; “PennantPark Investment Advisers” or “Investment Adviser”
refers to PennantPark Investment Advisers, LLC; “PennantPark Investment Administration” or “Administrator” refers to PennantPark Investment Administration, LLC; “SBA” refers to
the Small Business Administration; “SBIC” refers to a small business investment company under the Small Business Investment Act of 1958, as amended, or the “1958 Act”; “BNP Credit
Facility” refers to our revolving credit facility with BNP Paribas; “SunTrust Credit Facility” refers to our multi-currency, senior secured revolving credit facility with SunTrust Bank, as
amended and restated; “Credit Facilities” refers to the BNP Credit Facility and SunTrust Credit Facility collectively; “2019 Notes” refers to our 4.50% notes due 2019, which we redeemed
in March 2019; “2024 Notes” refers to our 5.50% Notes due 2024; “BDC” refers to a business development company under the Investment Company Act of 1940, as amended, or the “1940
Act”; “SBCAA” refers to the Small Business Credit Availability Act; “Code” refers to the Internal Revenue Code of 1986, as amended; and “RIC” refers to a regulated investment company
under the Code. References to our portfolio, our investments and our business include investments we make through our SBIC Funds and other consolidated subsidiaries. Some of the
statements in this annual report constitute forward-looking statements, which apply to us and relate to future events, future performance or future financial condition. The forward-looking
statements involve risks and uncertainties for us and actual results could differ materially from those projected in the forward-looking statements for any reason, including those factors
discussed in “Risk Factors” and elsewhere in this Report.
Item 1.
Business
General Business of PennantPark Investment Corporation
PennantPark Investment Corporation is a BDC whose objectives are to generate both current income and capital appreciation while seeking to preserve capital through debt and equity
investments primarily made to U.S. middle-market companies in the form of first lien secured debt, second lien secured debt and subordinated debt and equity investments.
We believe U.S. middle-market companies offer attractive risk-reward to investors due to a limited amount of capital available for such companies. We seek to create a diversified
portfolio that includes first lien secured debt, second lien secured debt, subordinated debt and equity investments by investing approximately $10 million to $50 million of capital, on average, in
the securities of middle-market companies. We expect this investment size to vary proportionately with the size of our capital base. We use the term “middle-market” to refer to companies with
annual revenues between $50 million and $1 billion. The companies in which we invest are typically highly leveraged, and, in most cases, are not rated by national rating agencies. If such
companies were rated, we believe that they would typically receive a rating below investment grade (between BB and CCC under the Standard & Poor’s system) from the national rating
agencies. Securities rated below investment grade are often referred to as “leveraged loans” or “high yield” securities or “junk bonds” and are often higher risk compared to debt instruments that
are rated above investment grade and have speculative characteristics. Our debt investments may generally range in maturity from three to ten years and are made to U.S. and, to a limited extent,
non-U.S. corporations, partnerships and other business entities which operate in various industries and geographical regions.
Our investment activity depends on many factors, including the amount of debt and equity capital available to middle-market companies, the level of merger and acquisition activity for
such companies, the general economic environment and the competitive environment for the types of investments we make. We have used, and expect to continue to use, our debt capital,
proceeds from the rotation of our portfolio and proceeds from public and private offerings of securities to finance our investment objectives.
Organization and Structure of PennantPark Investment Corporation
PennantPark Investment Corporation, a Maryland corporation organized in January 2007, is a closed-end, externally managed, non-diversified investment company that has elected to be
treated as a BDC under the 1940 Act. In addition, for federal income tax purposes we have elected to be treated, and intend to qualify annually, as a RIC under the Code.
SBIC II, our wholly owned subsidiary, was organized in Delaware as a limited partnership in July 2012. SBIC II received a license from the SBA to operate as a SBIC under
Section 301(c) of the 1958 Act in 2013. SBIC II’s objectives are to generate both current income and capital appreciation through debt and equity investments generally by investing with us in
SBA-eligible businesses that meet the investment selection criteria used by PennantPark Investment. During the year ended September 30, 2019, we liquidated and dissolved SBIC I.
Funding I, our wholly owned subsidiary and a special purpose entity, was organized in Delaware as a limited liability company in February 2019. We formed Funding I in order to
establish the BNP Credit Facility. The Investment Adviser serves as the servicer to Funding I and has irrevocably directed that the management fee owed to it with respect to such services be paid
to us so long as the Investment Adviser remains the servicer. This arrangement does not increase our consolidated management fee. The BNP Credit Facility allows Funding I to borrow up to
$250 million at LIBOR plus 260 basis points during the reinvestment period. The BNP Credit Facility is secured by all of the assets held by Funding I.
Our Investment Adviser and Administrator
We utilize the investing experience and contacts of PennantPark Investment Advisers in developing what we believe is an attractive and diversified portfolio. The senior investment
professionals of the Investment Adviser have worked together for many years and average over 25 years of experience in the senior lending, mezzanine lending, leveraged finance, distressed debt
and private equity businesses. In addition, our senior investment professionals have been involved in originating, structuring, negotiating, managing and monitoring investments in each of these
businesses across changing economic and market cycles. We believe this experience and history has resulted in a strong reputation with financial sponsors, management teams, investment
bankers, attorneys and accountants, which provides us with access to substantial investment opportunities across the capital markets. Our Investment Adviser has a rigorous investment approach,
which is based upon intensive financial analysis with a focus on capital preservation, diversification and active management. Since our Investment Adviser’s inception in 2007, it has invested
through its managed funds $10 billion in 526 companies with approximately 185 different financial sponsors.
Our Administrator has experienced professionals with substantial backgrounds in finance and administration of registered investment companies. In addition to furnishing us with clerical,
bookkeeping and record keeping services, the Administrator also oversees our financial records as well as the preparation of our reports to stockholders and reports filed with the Securities and
Exchange Commission, or the SEC, and the SBA. The Administrator assists in the determination and publication of our net asset value, or NAV, oversees the preparation and filing of our tax
returns, and monitors the payment of our expenses as well as the performance of administrative and professional services rendered to us by others. Furthermore, our Administrator offers, on our
behalf, significant managerial assistance to those portfolio companies to which we are required to offer such assistance. See “Risk Factors—Risks Relating to our Business and Structure—There
are significant potential conflicts of interest which could impact our investment returns” for more information.
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Market Opportunity
We believe that the limited amount of capital available to middle-market companies, coupled with the desire of these companies for flexible sources of capital, creates an attractive
investment environment for us.
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We believe middle-market companies have faced difficulty raising debt in private markets. From time to time, banks, finance companies, hedge funds and collateralized loan
obligation, or CLO, funds have withdrawn, and may again withdraw, capital from the middle-market, resulting in opportunities for alternative funding sources.
We believe middle-market companies have faced difficulty in raising debt through the capital markets. Many middle-market companies look to raise funds by issuing high-
yield bonds and broadly syndicated loans. We believe this approach to financing becomes difficult at times when institutional investors seek to invest in larger, more liquid
offerings. We believe this has made it harder for middle-market companies to raise funds by issuing high-yield securities from time to time.
We believe that credit market dislocation for middle-market companies improves the risk-reward on our investments. From time to time, market participants have reduced
lending to middle-market and non-investment grade borrowers. As a result, we believe there is less competition in our market, more conservative capital structures, higher yields
and stronger covenants.
We believe there is a large pool of uninvested private equity capital likely to seek to combine their capital with sources of debt capital to complete private investments.
We expect that private equity firms will continue to be active investors in middle-market companies. These private equity funds generally seek to leverage their investments by
combining their capital with loans provided by other sources, and we believe that we are well-positioned to partner with such equity investors.
We believe there is substantial supply of opportunities resulting from maturing loans that seek refinancing. A high volume of financings will come due in the next few
years. Additionally, we believe that demand for debt financing from middle-market companies will remain strong because these companies will continue to require credit to
refinance existing debt, to support growth initiatives and to finance acquisitions. We believe the combination of strong demand by middle-market companies and from time to time
the reduced supply of credit described above should increase lending opportunities for us. We believe this supply of opportunities coupled with a lack of demand offers attractive
risk-reward to investors.
Competitive Advantages
We believe that we have the following competitive advantages over other capital providers to middle-market companies:
a)
Experienced Management Team
The senior investment professionals of our Investment Adviser have worked together for many years and average over 25 years of experience in senior lending, mezzanine lending,
leveraged finance, distressed debt and private equity businesses. These senior investment professionals have been involved in originating, structuring, negotiating, managing and monitoring
investments in each of these businesses across changing economic and market cycles. We believe this extensive experience and history has resulted in a strong reputation across the capital
markets.
Lending to middle-market companies requires in-depth diligence, credit expertise, restructuring experience and active portfolio management. For example, lending to middle-market
companies in the United States is generally more labor intensive than lending to larger companies due to the smaller size of each investment and the fragmented nature of the information
available with respect to such companies. We are able to provide value-added customized financial solutions to middle-market companies as a result of specialized due diligence, underwriting
capabilities and more extensive ongoing monitoring required as lenders.
b)
Disciplined Investment Approach with Strong Value Orientation
We employ a disciplined approach in selecting investments that meet the long-standing, consistent value-oriented investment selection criteria employed by our Investment Adviser. Our
value-oriented investment philosophy focuses on preserving capital and ensuring that our investments have an appropriate return profile in relation to risk. When market conditions make it
difficult for us to invest according to our criteria, we are highly selective in deploying our capital. We believe this approach continues to enable us to build an attractive investment portfolio that
meets our return and value criteria over the long-term.
We believe it is critical to conduct extensive due diligence on investment targets. In evaluating new investments we, through our Investment Adviser, conduct a rigorous due diligence
process that draws from our Investment Adviser’s experience, industry expertise and network of contacts. Among other things, our due diligence is designed to ensure that each prospective
portfolio company will be able to meet its debt service obligations. See “Investment Selection Criteria” for more information.
In addition to engaging in extensive due diligence, our Investment Adviser seeks to reduce risk by focusing on businesses with:
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strong competitive positions;
positive cash flow that is steady and stable;
experienced management teams with strong track records;
potential for growth and viable exit strategies; and
capital structures offering appropriate risk-adjusted terms and covenants.
c)
Ability to Source and Evaluate Transactions through our Investment Adviser’s Proactive, Research Capability and Established Network
The management team of our Investment Adviser has long-term relationships with financial sponsors, management consultants and management teams that we believe enable us to
evaluate investment opportunities effectively in numerous industries, as well as provide us access to substantial information concerning those industries. We identify potential investments both
through active origination and through dialogue with numerous financial sponsors, management teams, members of the financial community and corporate partners with whom the professionals
of our Investment Adviser have long-term relationships.
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d)
Flexible Transaction Structuring
We are flexible in structuring investments and tailor investments to meet the needs of a portfolio company while also generating attractive risk-adjusted returns. We can invest in all parts
of a capital structure and our Investment Adviser has extensive experience in a wide variety of securities for leveraged companies throughout economic and market cycles.
Our Investment Adviser seeks to minimize the risk of capital loss without foregoing potential for capital appreciation. In making investment decisions, we seek to invest in companies that
we believe can generate consistent positive risk-adjusted returns.
We believe that the in-depth experience of our Investment Adviser will enable us to invest throughout various stages of the economic and market cycles and to provide us with ongoing
market insights in addition to a significant investment opportunity.
Competition
Our primary competitors provide financing to middle-market companies and include other BDCs, commercial and investment banks, commercial finance companies, CLO funds, private
direct lending funds, and, to the extent they provide an alternative form of financing, private equity funds. Additionally, alternative investment vehicles, such as hedge funds, frequently invest in
middle-market companies. As a result, competition for investment opportunities in middle-market companies can be intense. However, we believe that from time to time there has been a
reduction in the amount of debt capital available to middle-market companies, which we believe has resulted in a less competitive environment for making new investments.
Many of our competitors are substantially larger and have considerably greater financial, technical and marketing resources than we do. For example, we believe some competitors have a
lower cost of funds and access to funding sources that are not available to us. In addition, some of our competitors have higher risk tolerances or different risk assessments, which could allow
them to consider a wider variety of investments and establish more relationships than us. Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act
imposes on us as a BDC. See “Risk Factors—Risks Relating to our Business and Structure—We operate in a highly competitive market for investment opportunities” for more information.
Leverage
On February 22, 2019, Funding I closed the BNP Credit Facility for up to $250.0 million in borrowings with certain lenders and BNP Paribas, as administrative agent, and The Bank of
New York Mellon Trust Company, N.A., as collateral agent. As of September 30, 2019, Funding I had $171.0 million in outstanding borrowings under the BNP Credit Facility. The BNP Credit
Facility had a weighted average interest rate of 4.6%, exclusive of the fee on undrawn commitment, as of September 30, 2019. The BNP Credit Facility is a five-year revolving facility with a
stated maturity date of February 22, 2024 and pricing set at 260 basis points over LIBOR. As of September 30, 2019, Funding I had $79.0 million of unused borrowing capacity under the BNP
Credit Facility, subject to the regulatory restrictions. The BNP Credit Facility is secured by all of our assets held by Funding I. We own 100% of the equity interest in Funding I and treat the
indebtedness of Funding I as our leverage. Our Investment Adviser serves as the servicer to Funding I in connection with the BNP Credit Facility. As of September 30, 2019, we were in
compliance with the terms of the BNP Credit Facility.
As of September 30, 2019, we had the multi-currency SunTrust Credit Facility for up to $475.0 million in borrowings with certain lenders and SunTrust Bank, acting as administrative
agent, and JPMorgan Chase Bank, N.A., acting as syndication agent for the lenders. As of September 30, 2019 and 2018, we had $301.6 million and $80.5 million (including a $2.0 million
temporary draw), respectively, in outstanding borrowings under the SunTrust Credit Facility. The SunTrust Credit Facility had a weighted average interest rate of 4.2% and 3.8%, respectively,
exclusive of the fee on undrawn commitment, as of September 30, 2019 and 2018. The SunTrust Credit Facility is a revolving facility with a stated maturity date of September 4, 2024, a one-year
term-out period on September 4, 2023 and pricing set at 225 basis points over LIBOR. As of September 30, 2019 and 2018, we had $173.4 million and $364.5 million of unused borrowing
capacity under the SunTrust Credit Facility, respectively, subject to the regulatory restrictions. The SunTrust Credit Facility is secured by substantially all of our assets excluding assets held by
Funding I and SBIC II. As of September 30, 2019, we were in compliance with the terms of the SunTrust Credit Facility.
As of September 30, 2019 and 2018, our SBIC Funds had $150.0 million and $300.0 million in debt commitments, respectively, of which $150.0 million and $180.0 million was drawn,
with a weighted average interest rate of 3.1% and 3.2%, respectively, exclusive of the 3.4% of upfront fees. As of September 30, 2019 and 2018, our SBA debentures mature between March 2026
to March 2028 and September 2021 to March 2028, respectively. SBA debentures offer competitive terms such as being non-recourse to us, a 10-year maturity, semi-annual interest payments, not
requiring principal payments prior to maturity and may be prepaid at any time without penalty. During the year ended September 30, 2019, we liquidated and dissolved SBIC I. The SBA
debentures are secured by all the investment portfolio assets of SBIC II and have a priority claim over such assets relative to all other creditors. See “Regulation” for more information.
As of September 30, 2019, we had $75.0 million in aggregate principal amount of 2024 Notes outstanding. Interest on the 2024 Notes is paid quarterly on January 15, April 15, July 15
and October 15, at a rate of 5.50% per year, commencing January 15, 2020. The 2024 Notes mature on October 15, 2024. The 2024 Notes are direct unsecured obligations and rank pari passu in
right of payment with future unsecured unsubordinated indebtedness. The 2024 Notes are structurally subordinated to all existing and future indebtedness and other obligations of any of our
subsidiaries, financing vehicles, or similar facilities. The 2024 Notes may be redeemed in whole or in part at our option on or after October 15, 2021 at a redemption price of 100% of the
outstanding principal amount of the 2024 Notes plus accrued and unpaid interest.
As of September 30, 2018, we had $250.0 million in aggregate principal amount of 2019 Notes outstanding. Interest on the 2019 Notes was paid at a rate of 4.50% per year and was paid
semi-annually. On March 4, 2019, the 2019 Notes were redeemed in full and no amounts were outstanding as of September 30, 2019. Interest on the 2019 Notes was paid at a rate of 4.50% per
year and was paid semi-annually. The 2019 Notes had been scheduled to mature on October 1, 2019. See “Management’s Discussion and Analysis of Financial Condition and Results of
Operations” for more information.
On February 5, 2019, our stockholders approved the application of the modified asset coverage requirements set forth in Section 61(a)(2) of the 1940 Act, as amended by the Consolidated
Appropriations Act of 2018 (which includes the SBCAA) as approved by our board of directors on November 13, 2018. As a result, the asset coverage requirement applicable to us for senior
securities was reduced from 200% (i.e., $1 of debt outstanding for each $1 of equity) to 150% (i.e., $2 of debt outstanding for each $1 of equity), subject to compliance with certain disclosure
requirements. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for more information.
Investment Policy Overview
We seek to create a diversified portfolio that includes first lien secured debt, second lien secured debt, subordinated debt and, to a lesser extent, equity by targeting an investment size of
$10 million to $50 million in securities, on average, of middle-market companies. We expect this investment size to vary proportionately with the size of our capital base. The companies in which
we invest are typically highly leveraged, and, in most cases, are not rated by national rating agencies. If such unrated companies were rated, we believe that they would typically receive a rating
below investment grade (between BB and CCC under the Standard & Poor’s system) from the national rating agencies. Securities rated below investment grade are often referred to as “leveraged
loans”, “high yield” securities or “junk bonds” and are often higher risk compared to debt instruments that are rated above investment grade and have speculative characteristics. In addition, we
expect our debt investments to range in maturity from three to ten years.
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Over time, we expect that our portfolio will continue to consist primarily of first lien secured debt, second lien secured debt, subordinated debt and, to a lesser extent, equity investments in
qualifying assets such as private, or thinly traded or small market-capitalization, U.S. middle-market public companies. In addition, we may invest up to 30% of our portfolio in non-qualifying
assets. These non-qualifying assets may include investments in public companies whose securities are not thinly traded or have a market capitalization of greater than $250 million, securities of
middle-market companies located outside of the United States and investment companies as defined in the 1940 Act. We may acquire investments in the secondary markets. See “Regulation—
Qualifying Assets” and “Investment Selection Criteria” for more information.
Our board of directors has the authority to modify or waive certain of our operating policies and strategies without prior notice and without stockholder approval (except as required by the
1940 Act). However, absent stockholder approval, under the 1940 Act we may not change the nature of our business so as to cease to be, or withdraw our election as, a BDC. We cannot predict
the effect any changes to our current operating policies and strategies would have on our business, operating results and value of our common stock. Nevertheless, the effects of changes to our
operating policies and strategies may adversely affect our business, our ability to make distributions and the value of our common stock.
First Lien Secured Debt
Structurally, first lien secured debt ranks senior in priority of payment to second lien secured debt, subordinated debt and equity, and benefits from a senior security interest in the assets of
the borrower. As such, other creditors rank junior to our investments in these securities in the event of insolvency. Due to its lower risk profile and often more restrictive covenants as compared to
second lien secured debt and subordinated debt, first lien secured debt generally earns a lower return than second lien secured debt and subordinated debt. In some cases first lien secured debt
lenders receive opportunities to invest directly in the equity securities of borrowers and from time to time may also receive warrants to purchase equity securities. We evaluate these investment
opportunities on a case-by-case basis.
Second Lien Secured Debt
Second lien secured debt usually ranks junior in priority of payment to first lien secured debt. Second lien secured debt holds a second priority with regard to right of payment in the event
of insolvency. Second lien secured debt ranks senior to subordinated debt and common and preferred equity in borrowers’ capital structures. Due to its higher risk profile and often less restrictive
covenants as compared to first lien secured debt, second lien secured debt generally earns a higher return than first lien secured debt. In many cases, second lien secured debt investors receive
opportunities to invest directly in the equity securities of borrowers and from time to time may also receive warrants to purchase equity securities. We evaluate these investment opportunities on a
case-by-case basis.
Subordinated Debt
Structurally, subordinated debt usually ranks junior in priority of payment to first lien secured debt and second lien secured debt, and are often unsecured. As such, other creditors may
rank senior to us in the event of insolvency. Subordinated debt ranks senior to common and preferred equity in borrowers’ capital structures. Due to its higher risk profile and often less restrictive
covenants as compared to first lien secured debt and second lien secured debt, subordinated debt generally earns a higher return than first lien secured debt and second lien secured debt. In many
cases, subordinated debt investors receive opportunities to invest directly in the equity securities of borrowers, and from time to time, may also receive warrants to purchase equity securities. We
evaluate these investment opportunities on a case-by-case basis.
Investment Selection Criteria
We are committed to a value-oriented philosophy used by the senior investment professionals who manage our portfolio and seek to minimize the risk of capital loss without foregoing
potential for capital appreciation.
We have identified several criteria, discussed below, that we believe are important in identifying and investing in prospective portfolio companies. These criteria provide general
guidelines for our investment decisions. However, we caution that not all of these criteria will be met by each prospective portfolio company in which we choose to invest. Generally, we seek to
use our experience and access to market information to identify investment opportunities and to structure investments efficiently and effectively.
a)
Leading and defensible competitive market positions
The Investment Adviser invests in portfolio companies that it believes have developed strong positions within their markets. The Investment Adviser also seeks to invest in portfolio
companies that it believes possess competitive advantages, for example, in scale, scope, customer loyalty, product pricing or product quality as compared to their competitors to protect their
market position.
b)
Investing in stable borrowers with positive cash flow
Our investment philosophy places a premium on fundamental analysis and has a distinct value-orientation. The Investment Adviser invests in portfolio companies it believes to be stable
and well-established, with strong cash flows and profitability. The Investment Adviser believes these attributes indicate portfolio companies that may be well-positioned to maintain consistent
cash flow to service and repay their liabilities and maintain growth in their businesses or their relative market share. The Investment Adviser currently does not expect to invest significantly in
start-up companies, companies in turnaround situations or companies with speculative business plans, although we are permitted to do so.
c)
Proven management teams
The Investment Adviser focuses on investments in which the portfolio company has an experienced management team with an established track record of success. The Investment Adviser
typically requires that portfolio companies have in place proper incentives to align management’s goals with our goals, including having equity interests.
d)
Financial sponsorship
The Investment Adviser may seek to cause us to participate in transactions sponsored by what it believes to be trusted financial sponsors. The Investment Adviser believes that a financial
sponsor’s willingness to invest significant equity capital in a portfolio company is an implicit endorsement of the quality of that portfolio company. Further, financial sponsors of portfolio
companies with significant investments at risk may have the ability, and a strong incentive, to contribute additional capital in difficult economic times should financial or operational issues arise
so as to maintain their ownership position.
e)
Investments in different borrowers, industries and geographies
The Investment Adviser seeks to invest our assets broadly among portfolio companies, across industries and geographical regions. The Investment Adviser believes that this approach may
reduce the risk that a downturn in any one portfolio company, industry or geographical region will have a disproportionate impact on the value of our portfolio, although we are permitted to be
non-diversified under the 1940 Act.
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f)
Viable exit strategy
The Investment Adviser seeks to invest in portfolio companies that it believes will provide a steady stream of cash flow to repay our loans while also reinvesting in their respective
businesses. The Investment Adviser expects that such internally generated cash flow, leading to the payment of interest on, and the repayment of the principal of, our investments in portfolio
companies to be a key means by which we will exit from our investments over time. In addition, the Investment Adviser also seeks to invest in portfolio companies whose business models and
expected future cash flows offer attractive exit possibilities. These companies include candidates for strategic acquisition by other industry participants and companies that may repay our
investments through an initial public offering of common stock, refinancing or other capital markets transaction.
Due Diligence
We believe it is critical to conduct extensive due diligence in evaluating new investment targets. Our Investment Adviser conducts a rigorous due diligence process that is applied to
prospective portfolio companies and draws from our Investment Adviser’s experience, industry expertise and network of contacts. In conducting due diligence, our Investment Adviser uses
information provided by companies, financial sponsors and publicly available information as well as information from relationships with former and current management teams, consultants,
competitors and investment bankers.
Our due diligence may include:
•
•
•
•
•
•
review of historical and prospective financial information;
research relating to the portfolio company’s management, industry, markets, products and services and competitors;
interviews with management, employees, customers and vendors of the potential portfolio company;
on-site visits;
review of loan documents; and
background checks.
Additional due diligence with respect to any investment may be conducted on our behalf by attorneys and accountants prior to the closing of the investment, as well as other outside
advisers, as appropriate.
Upon the completion of due diligence on a portfolio company, the team leading the investment presents the investment opportunity to our Investment Adviser’s investment committee.
This committee determines whether to pursue the potential investment. All new investments are required to be reviewed by the investment committee of our Investment Adviser. The members of
the investment committee receive no compensation from us. Rather, they are employees of and receive compensation from our Investment Adviser.
Investment Structure
Once we determine that a prospective portfolio company is suitable for investment, we work with the management of that portfolio company and its other capital providers, including
senior, junior and equity capital providers, to structure an investment. We negotiate with these parties to agree on how our investment is structured relative to the other capital in the portfolio
company’s capital structure.
We expect our first lien secured debt to have terms of three to ten years. We generally obtain security interests in the assets of our portfolio companies that will serve as collateral in
support of the repayment of these loans. This collateral may take the form of first priority liens on the assets of a portfolio company.
Typically, our second lien secured debt and subordinated debt investments have maturities of three to ten years. Second lien secured debt and subordinated debt may take the form of a
second priority lien on the assets of a portfolio company and have interest-only payments in the early years with cash or payment-in-kind, or PIK, payments with amortization of principal
deferred to the later years. In some cases, we may invest in debt securities that, by their terms, convert into equity or additional debt securities or defer payments of interest for the first few years
after our investment. Also, in some cases, our second lien secured debt and subordinated debt may be collateralized by a subordinated lien on some or all of the assets of the borrower.
We seek to tailor the terms of the investment to the facts and circumstances of the transaction and the prospective portfolio company, negotiating a structure that protects our rights and
manages our risk while creating incentives for the portfolio company to achieve its business plan and improve its profitability. For example, in addition to seeking a senior position in the capital
structure of our portfolio companies, we seek to limit the downside potential of our investments by:
•
•
•
requiring a total return on our investments (including both interest in the form of a floor and potential equity appreciation) that compensates us for credit risk;
incorporating “put” rights and call protection into the investment structure; and
negotiating covenants in connection with our investments that afford our portfolio companies as much flexibility in managing their businesses as possible, consistent with our
focus of preserving capital. Such restrictions may include affirmative and negative covenants, default penalties, lien protection, change of control provisions and board rights,
including either observation or participation rights.
Our investments may include equity features, such as direct investments in the equity securities of borrowers or warrants or options to buy a minority interest in a portfolio company. Any
warrants we may receive with our debt securities generally require only a nominal cost to exercise, so as a portfolio company appreciates in value, we may achieve additional investment return
from these equity investments. We may structure the warrants to provide provisions protecting our rights as a minority-interest holder, as well as puts, or rights to sell such securities back to the
portfolio company, upon the occurrence of specified events. In many cases, we may also obtain registration rights in connection with these equity investments, which may include demand and
“piggyback” registration rights.
We expect to hold most of our investments to maturity or repayment, but we may exit certain investments earlier when a liquidity event, such as the sale or refinancing of a portfolio
company, takes place. We also may turn over investments to better position the portfolio in light of market conditions.
7
Ongoing Relationships with Portfolio Companies
Monitoring
The Investment Adviser monitors our portfolio companies on an ongoing basis. The Investment Adviser also monitors the financial trends of each portfolio company to determine if it is
meeting its respective business plans and to assess the appropriate course of action for each portfolio company.
The Investment Adviser has several methods of evaluating and monitoring the performance and fair value of our investments, which may include the following:
•
•
•
•
•
assessment of success in adhering to a portfolio company’s business plan and compliance with covenants;
periodic or regular contact with portfolio company management and, if appropriate, the financial or strategic sponsor, to discuss financial position, requirements and
accomplishments;
comparisons to other portfolio companies in the industry, if any;
attendance at and participation in board meetings or presentations by portfolio companies; and
review of periodic financial statements and financial projections for portfolio companies.
The Investment Adviser monitors credit risk of each portfolio company regularly with a goal toward identifying early, and when able and appropriate, exiting investments with potential
credit problems. This monitoring process may include reviewing: (1) a portfolio company’s financial resources and operating history; (2) comparing a portfolio company’s current operating
results with the Investment Adviser’s initial thesis for the investment and its expectations for the performance of the investment; (3) a portfolio company’s sensitivity to economic conditions;
(4) the performance of a portfolio company’s management; (5) a portfolio company’s debt maturities and capital requirements; (6) a portfolio company’s interest and asset coverage; and (7) the
relative value of an investment based on a portfolio company’s anticipated cash flow.
Managerial Assistance
We offer significant managerial assistance to our portfolio companies. As a BDC, we are required to make available such significant managerial assistance within the meaning of
Section 2(a)(47) of the 1940 Act. See “Regulation” for more information.
Staffing
We do not currently have any employees. Our Investment Adviser and Administrator have hired and expect to continue to hire professionals with skills applicable to our business plan,
including experience in middle-market investing, senior lending, mezzanine lending, leveraged finance, distressed debt and private equity businesses.
Our Corporate Information
Our administrative and principal executive offices are located at 590 Madison Avenue, 15th Floor, New York, NY 10022. Our common stock and 2024 Notes are quoted on The Nasdaq
Global Select Market under the symbols “PNNT” and “PNNTG”, respectively. Our phone number is (212) 905-1000, and our Internet website address is www.pennantpark.com. Information
contained on our website is not incorporated by reference into this Report and you should not consider information contained on our website to be part of this Report. We file periodic reports,
proxy statements and other information with the SEC and make such reports available on our website free of charge as soon as reasonably practicable. In addition, the SEC maintains an Internet
site at www.sec.gov that contains material that we file with the SEC on the EDGAR Database.
Our Portfolio
Our principal investment focus is to provide first lien secured debt, second lien secured debt and subordinated debt to U.S. middle-market companies in a variety of industries. We
generally seek to target companies that generate positive cash flows from the broad variety of industries in which our Investment Adviser has direct expertise. The following is an illustrative list
of the industries in which the Investment Adviser has invested:
• Aerospace and Defense
• Auto Sector
• Beverage, Food and Tobacco
• Broadcasting and Entertainment
• Buildings and Real Estate
• Building Materials
• Business Services
• Cable Television
• Capital Equipment
• Cargo Transportation
• Chemicals, Plastics and Rubber
• Communications
• Consumer Products
• Consumer Services
• Containers Packaging & Glass
• Distribution
• Diversified/Conglomerate Manufacturing
• Diversified/Conglomerate Services
• Diversified Natural Resources, Precious Metals and Minerals
• Education
• Electronics
• Energy and Utilities
• Environmental Services
• Financial Services
• Grocery
• Healthcare, Education and Childcare
• High Tech Industries
• Home & Office Furnishings, Housewares & Durable Consumer Products
• Hotels, Motels, Inns and Gaming
• Insurance
• Leisure, Amusement, Motion Picture, Entertainment
• Logistics
• Manufacturing/Basic Industries
• Media
• Mining, Steel, Iron and Non-Precious Metals
• Oil and Gas
• Other Media
• Personal, Food and Miscellaneous Services
• Printing and Publishing
• Retail
• Wholesale
8
Listed below are our top ten portfolio companies and industries represented as a percentage of our consolidated portfolio assets (excluding cash and cash equivalents) as of September 30:
Portfolio Company
RAM Energy Holdings LLC
PT Network, LLC
Cascade Environmental LLC
Winter Park Intermediate, Inc.
AKW Holdings Limited
American Insulated Glass, LLC
Cano Health, LLC
Halo Buyer, Inc.
MailSouth, Inc.
TVC Enterprises, LLC
Industry
Healthcare, Education and Childcare
Energy and Utilities
Media
Consumer Products
Building Materials
Aerospace and Defense
Auto Sector
Business Services
Chemicals, Plastics and Rubber
Environmental Services
2019
Portfolio Company
2018
10% Parq Holdings Limited Partnership
RAM Energy Holdings LLC
6
AKW Holdings Limited
4
Halo Buyer, Inc.
4
3
MailSouth, Inc.
3
3
3
3
3
PT Network, LLC
Cano Health, LLC
Cascade Environmental LLC
Winter Park Intermediate, Inc.
Shift4 Payments, LLC
2019
Industry
2018
Consumer Products
Energy and Utilities
Hotels, Motels, Inns and Gaming
Media
16% Healthcare, Education and Childcare
10
8
6
5
4
4
4
4
4
Printing and Publishing
Financial Services
Oil and Gas
Business Services
Personal, Food and Miscellaneous Services
7%
7
4
4
4
4
3
3
3
3
15%
10
7
7
6
6
5
5
4
3
Our executive officers and directors, as well as the senior investment professionals of the Investment Adviser and Administrator, may serve as officers, directors or principals of entities
that operate in the same or a related line of business as we do. Currently, the executive officers and directors, as well as certain of the current senior investment professionals of the Investment
Adviser and Administrator, serve as officers and directors of PennantPark Floating Rate Capital Ltd., a publicly traded BDC, and other managed funds, as applicable. Accordingly, they may have
obligations to investors in those entities, the fulfillment of which obligations might not be in the best interest of us or our stockholders. In addition, we note that any affiliated investment vehicle
currently existing, or formed in the future, and managed by the Investment Adviser and or its affiliates may, notwithstanding different stated investment objectives, have overlapping investment
objectives with our own and, accordingly, may invest in asset classes similar to those targeted by us. As a result, the Investment Adviser may face conflicts in allocating investment opportunities
among us and such other entities. The Investment Adviser will allocate investment opportunities in a fair and equitable manner consistent with our allocation policy, and we have received
exemptive relief with respect to certain co-investment transactions. Where co-investment is unavailable or inappropriate, the Investment Adviser will choose which investment fund should
receive the allocation. See “Risk Factors—Risks Relating to our Business and Structure—There are significant potential conflicts of interest which could impact our investment returns” for more
information.
We may invest, to the extent permitted by law, in the securities and instruments of other investment companies and companies that would be investment companies but are excluded from
the definition of an investment company provided in Section 3(c) of the 1940 Act. We may also co-invest in the future on a concurrent basis with our affiliates, subject to compliance with
applicable regulations, our trade allocation procedures and, if applicable, the terms of our exemptive relief.
Investment Management Agreement
We have entered into an agreement with the Investment Adviser, or the Investment Management Agreement, under which the Investment Adviser, subject to the overall supervision of our
board of directors, manages the day-to-day operations of, and provides investment advisory services to, us. Mr. Penn, our Chairman and Chief Executive Officer, is the managing member and a
senior investment professional of, and has a financial and controlling interest in, PennantPark Investment Advisers. PennantPark Investment, through the Investment Adviser, provides similar
services to SBIC II under its respective investment management agreement. Such investment management agreement does not affect the management or incentive fees that we pay to the
Investment Adviser on a consolidated basis. Under the terms of our Investment Management Agreement, the Investment Adviser:
•
•
•
•
determines the composition of our portfolio, the nature and timing of the changes to our portfolio and the manner of implementing such changes;
identifies, evaluates and negotiates the structure of the investments we make (including performing due diligence on our prospective portfolio companies);
closes and monitors the investments we make; and
provides us with such other investment advisory, research and related services, as we may need from time to time.
PennantPark Investment Advisers’ services under our Investment Management Agreement are not exclusive, and it is free to furnish similar services, without the prior approval of our
stockholders or our board of directors, to other entities so long as its services to us are not impaired. Our board of directors monitors for any potential conflicts that may arise upon such a
development. For providing these services, the Investment Adviser receives a fee from us, consisting of two components—a base management fee and an incentive fee or, collectively,
Management Fees.
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Management Fees
Effective January 1, 2018, the base management fee is calculated at an annual rate of 1.50% of our “average adjusted gross assets,” which equals our gross assets (exclusive of U.S. Treasury
Bills, temporary draws under any credit facility, cash and cash equivalents, repurchase agreements or other balance sheet transactions undertaken at the end of a fiscal quarter for purposes of preserving
investment flexibility for the next quarter and unfunded commitments, if any) and is payable quarterly in arrears. In addition, on November 13, 2018, in connection with our board of directors’ approval
of the application of the modified asset coverage requirement under the 1940 Act to the Company, our board of directors also approved an amendment to the Investment Advisory Agreement reducing
the Investment Adviser’s annual base management fee from 1.50% to 1.00% on gross assets that exceed 200% of the Company’s total net assets as of the immediately preceding quarter-end. This
amendment became effective on February 5, 2019 with the amendment and restatement of the Investment Management Agreement on April 12, 2019. The base management fee is calculated based on
the average adjusted gross assets at the end of the two most recently completed calendar quarters, and appropriately adjusted for any share issuances or repurchases during the current calendar quarter.
For example, if we sold shares on the 45th day of a quarter and did not use the proceeds from the sale to repay outstanding indebtedness, our gross assets for such quarter would give effect to the net
proceeds of the issuance for only 45 days of the quarter during which the additional shares were outstanding. For periods prior to January 1, 2018, the base management fee was calculated at an annual
rate of 2.00% of our “average adjusted gross assets”. From December 31, 2015 through December 31, 2017, the Investment Adviser voluntarily agreed, in consultation with the board of directors, to
irrevocably waive 16% of base management fees, correlated to our 16% energy exposure (oil & gas and energy & utilities industries) at cost as of December 31, 2015. For the years ended September
30, 2019, 2018 and 2017, the Investment Adviser earned base management fees of $18.2 million, $16.5 million (after a waiver of $0.9 million) and $20.3 million (after a waiver of $3.9 million),
respectively, from us.
The following is a hypothetical example of the calculation of average adjusted gross assets:
Gross assets as of December 31, 20XX = $160 million
U.S. Treasury bills and temporary draws on credit facilities as of December 31, 20XX = $10 million
Adjusted gross assets as of December 31, 20XX = $150 million
Gross assets as of March 31, 20XX = $200 million
U.S. Treasury bills and temporary draws on credit facilities as of March 31, 20XX = $20 million
Adjusted gross assets as of March 31, 20XX = $180 million
Average value of adjusted gross assets as of March 31, 20XX and December 31, 20XX, which are the two immediately preceding calendar quarters, and appropriately adjusted for any
share issuances or repurchases during the current calendar quarter equals ($150 million + $180 million) / 2 = $165 million.
The incentive fee has two parts, as follows:
One part is calculated and payable quarterly in arrears based on our Pre-Incentive Fee Net Investment Income for the immediately preceding calendar quarter. For this purpose, Pre-
Incentive Fee Net Investment Income means interest income, dividend income and any other income, including any other fees (other than fees for providing managerial assistance), such as
amendment, commitment, origination, prepayment penalties, structuring, diligence and consulting fees or other fees received from portfolio companies, accrued during the calendar quarter, minus
our operating expenses for the quarter (including the base management fee, any expenses payable under the Administration Agreement (as defined below), and any interest expense or amendment
fees under any credit facilities and distribution paid on any issued and outstanding preferred stock, but excluding the incentive fee). Pre-Incentive Fee Net Investment Income includes, in the case
of investments with a deferred interest feature (such as original issue discount, or OID, debt instruments with PIK interest and zero coupon securities), accrued income not yet received in cash.
Pre-Incentive Fee Net Investment Income does not include any realized capital gains, computed net of all realized capital losses or unrealized capital appreciation or depreciation. Pre-Incentive
Fee Net Investment Income, expressed as a percentage of the value of our net assets at the end of the immediately preceding calendar quarter, is compared to the hurdle rate of 1.75% per quarter
(7.00% annualized). Effective January 1, 2018, we pay the Investment Adviser an incentive fee with respect to our Pre-Incentive Fee Net Investment Income in each calendar quarter as follows:
(1) no incentive fee in any calendar quarter in which our Pre-Incentive Fee Net Investment Income does not exceed the hurdle rate of 1.75%, (2) 100% of our Pre-Incentive Fee Net Investment
Income with respect to that portion of such Pre-Incentive Fee Net Investment Income, if any, that exceeds the hurdle rate but is less than 2.1212% in any calendar quarter (8.4848% annualized),
and (3) 17.5% of the amount of our Pre-Incentive Fee Net Investment Income, if any, that exceeds 2.1212% in any calendar quarter. These calculations are pro-rated for any share issuances or
repurchases during the relevant quarter, if applicable. For periods prior to January 1, 2018, we paid the Investment Adviser an incentive fee with respect to our Pre-Incentive Fee Net Investment
Income in each calendar quarter as follows: (1) no incentive fee in any calendar quarter in which our Pre-Incentive Fee Net Investment Income did not exceed the hurdle rate of 1.75%, (2) 100%
of our Pre-Incentive Fee Net Investment Income with respect to that portion of such Pre-Incentive Fee Net Investment Income, if any, that exceeded the hurdle rate but was less than 2.1875% in
any calendar quarter (8.75% annualized), and (3) 20% of the amount of our Pre-Incentive Fee Net Investment Income, if any, that exceeded 2.1875% in any calendar quarter. From December 31,
2015 through December 31, 2017, the Investment Adviser voluntarily agreed, in consultation with the board of directors, to irrevocably waive 16% of incentive fees, correlated to our 16% energy
cost exposure (oil & gas and energy & utilities industries) at cost as of December 31, 2015. For the years ended September 30, 2019, 2018 and 2017, the Investment Adviser earned $5.1 million,
$11.0 million (after a waiver of $0.5 million) and $9.3 million (after a waiver of $1.8 million), respectively, in incentive fees on net investment income from us.
The following is a graphical representation of the calculation of quarterly incentive fee based on Pre-Incentive Fee Net Investment Income:
Pre-Incentive Fee Net Investment Income
(expressed as a percentage of the value of net assets)
Percentage of Pre-Incentive Fee Net Investment Income
allocated to income-related portion of incentive fee
The second part of the incentive fee is determined and payable in arrears as of the end of each calendar year (or upon termination of the Investment Management Agreement, as of the
termination date) and, effective January 1, 2018, equals 17.5% of our realized capital gains (20.0% for periods prior to January 1, 2018), if any, on a cumulative basis from inception through the
end of each calendar year, computed net of all realized capital losses and unrealized capital depreciation on a cumulative basis, less the aggregate amount of any previously paid capital gain
incentive fees. For the years ended September 30, 2019, 2018 and 2017, the Investment Adviser did not accrue an incentive fee on capital gains as calculated under the Investment Management
Agreement (as described above).
10
Under U.S. generally accepted accounting principles, or GAAP, we are required to accrue a capital gains incentive fee based upon net realized capital gains and net unrealized capital
appreciation and depreciation on investments held at the end of each period. In calculating the capital gains incentive fee accrual, we considered the cumulative aggregate unrealized capital
appreciation in the calculation, as a capital gains incentive fee would be payable if such unrealized capital appreciation were realized, even though such unrealized capital appreciation is not
permitted to be considered in calculating the fee actually payable under the Investment Management Agreement. This accrual is calculated using the aggregate cumulative realized capital gains
and losses and cumulative unrealized capital appreciation or depreciation. If such amount is positive at the end of a period, then we record a capital gains incentive fee equal to 17.5% of such
amount (20.0% for periods prior to January 1, 2018), less the aggregate amount of actual capital gains related to incentive fees paid in all prior years. If such amount is negative, then there is no
accrual for such year. There can be no assurance that such unrealized capital appreciation will be realized in the future. For the years ended September 30, 2019, 2018 and 2017, the Investment
Adviser did not accrue an incentive fee on capital gains as calculated under GAAP.
Examples of Quarterly Incentive Fee Calculation
Example 1: Income Related Portion of Incentive Fee (*):
Alternative 1:
Assumptions
Investment income (including interest, dividends, fees, etc.) = 1.25%
Hurdle (1) = 1.75%
Base management fee (2) = 0.375%
Other expenses (legal, accounting, custodian, transfer agent, etc.) = 0.20%
Pre-Incentive Fee Net Investment Income
(investment income—(base management fee + other expenses)) = 0.675%
Pre-Incentive Fee Net Investment Income does not exceed the hurdle; therefore, there is no incentive fee.
Alternative 2:
Assumptions
Investment income (including interest, dividends, fees, etc.) = 2.70%
Hurdle (1) = 1.75%
Base management fee (2) = 0.375%
Other expenses (legal, accounting, custodian, transfer agent, etc.) = 0.20%
Pre-Incentive Fee Net Investment Income
(investment income—(base management fee + other expenses)) = 2.125%
Incentive fee
= 17.5% x Pre-Incentive Fee Net Investment Income, subject to “catch-up”
= 2.125% - 1.75%
= 0.375%
= 100% x 0.375%
= 0.375%
Alternative 3:
Assumptions
Investment income (including interest, dividends, fees, etc.) = 3.00%
Hurdle (1) = 1.75%
Base management fee (2) = 0.375%
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Other expenses (legal, accounting, custodian, transfer agent, etc.) = 0.20%
Pre-Incentive Fee Net Investment Income
(investment income—(base management fee + other expenses)) = 2.425%
Incentive fee
Incentive fee
Catch-up
= 17.5% x Pre-Incentive Fee Net Investment Income, subject to “catch-up” (3)
= 100% x “catch-up” + (17.5% x (Pre-Incentive Fee Net Investment Income - 2.1212%))
= 2.1212% - 1.75%
= 0.3712%
= (100% x 0.3712%) + (17.5% x (2.425% - 2.1212%))
= 0.3712% + (17.5% x 0.3038%)
= 0.3712% + 0.053165%
= 0.424365%
*
(1)
(2)
(3)
The hypothetical amount of Pre-Incentive Fee Net Investment Income shown is based on a percentage of total net assets.
Represents 7.0% annualized hurdle.
Represents 1.5% annualized base management fee.
The “catch-up” provision is intended to provide the Investment Adviser with an incentive fee of 17.5% on all of our Pre-Incentive Fee Net Investment Income as if a hurdle rate did not
apply when our net investment income exceeds 2.1212% in any calendar quarter.
Example 2: Capital Gains Portion of Incentive Fee:
Assumptions
Year 1 = no net realized capital gains or losses
Year 2 = 6% realized capital gains and 1% realized capital losses and unrealized capital depreciation, capital gain incentive fee = 17.5% x (realized capital gains for year computed net of all
realized capital losses and unrealized capital depreciation at year end)
Year 1 incentive fee = 17.5% x (0)
= 0
= no incentive fee
Year 2 incentive fee = 17.5% x (6% - 1%)
= 17.5% x 5%
= 0.875%
Organization of the Investment Adviser
PennantPark Investment Advisers is a registered investment adviser under the Investment Advisers Act of 1940, as amended, or the Advisers Act. The principal executive office of
PennantPark Investment Advisers is located at 590 Madison Avenue, 15th Floor, New York, NY 10022.
Duration and Termination of Investment Management Agreement
The Investment Management Agreement was reapproved by our board of directors, including a majority of our directors who are not interested persons of us or the Investment Adviser, in
February 2019 and subsequently amended and restated in April 2019, as approved by our board of directors, including a majority of our directors who are not interested persons of us or our
Investment Adviser. Unless terminated earlier as described below, the Investment Management Agreement will continue in effect for a period of one year through February 2020. It will remain in
effect if approved annually by our board of directors, or by the affirmative vote of the holders of a majority of our outstanding voting securities, including, in either case, approval by a majority of
our directors who are not interested persons of us or the Investment Adviser. In determining to reapprove the Investment Management Agreement, our board of directors requested information
from the Investment Adviser that enabled it to evaluate a number of factors relevant to its determination. These factors included the nature, quality and extent of services performed by the
Investment Adviser, the Investment Adviser’s ability to manage conflicts of interest effectively, our short and long-term performance, our costs, including as compared to comparable externally
and internally managed publicly traded BDCs that engage in similar investing activities, the Investment Adviser’s profitability, any economies of scale, and any other benefits of the relationship
for the Investment Adviser. Based on the information reviewed and the considerations detailed above, our board of directors, including all of our directors who are not interested persons of us or
the Investment Adviser, concluded that the investment advisory fee rates and terms are fair and reasonable in relation to the services provided and reapproved the Investment Management
Agreement as being in the best interests of our stockholders.
The Investment Management Agreement will automatically terminate in the event of its assignment. The Investment Management Agreement may be terminated by either party without
penalty upon 60 days’ written notice to the other. See “Risk Factors—Risks Relating to our Business and Structure—We are dependent upon our Investment Adviser’s key personnel for our
future success, and if our Investment Adviser is unable to hire and retain qualified personnel or if our Investment Adviser loses any member of its management team, our ability to achieve our
investment objectives could be significantly harmed” for more information.
Administration Agreement
We have entered into an agreement, or the Administration Agreement, with the Administrator, under which the Administrator furnishes us with office facilities, equipment and clerical,
bookkeeping and record keeping services. Under our Administration Agreement, the Administrator performs, or oversees the performance of, our required administrative services, which include,
among other activities, being responsible for the financial records we are required to maintain and preparing reports to our stockholders and reports filed with the SEC. In addition, the
Administrator assists us in determining and publishing our NAV, oversees the preparation and filing of our tax returns and generally oversees the payment of our expenses and the performance of
administrative and professional services rendered to us by others. PennantPark Investment, through the Administrator, provides similar services to SBIC II under its administration agreement
with us. For providing these services, facilities and personnel, we have agreed to reimburse the Administrator for its allocable portion of overhead and other expenses incurred by the
Administrator in performing its obligations under the Administration Agreement, including rent, technology systems, insurance and our allocable portion of the cost of compensation and related
expenses of our Chief Compliance Officer, Chief Financial Officer and their respective staffs. The Administrator also offers on our behalf, significant managerial assistance to portfolio
companies to which we are required to offer such assistance. To the extent that our Administrator outsources any of its functions, we will pay the fees associated with such functions on a direct
basis without profit to the Administrator. Reimbursement for certain of these costs is included in administrative services expenses in the Consolidated Statements of Operations. For the years
ended September 30, 2019, 2018 and 2017, we reimbursed the Investment Adviser approximately $1.8 million, $2.0 million and $2.5 million, respectively, including expenses the Investment
Adviser incurred on behalf of the Administrator for services described above.
12
Duration and Termination of Administration Agreement
The Administration Agreement was reapproved by our board of directors, including a majority of our directors who are not interested persons of us, in February 2019. Unless terminated
earlier as described below, our Administration Agreement will continue in effect for a period of one year through February 2020. It will remain in effect if approved annually by our board of
directors, or by the affirmative vote of the holders of a majority of our outstanding voting securities, including, in either case, approval by a majority of our directors who are not interested
persons of us. The Administration Agreement may not be assigned by either party without the consent of the other party. The Administration Agreement may be terminated by either party
without penalty upon 60 days’ written notice to the other.
Indemnification
Our Investment Management Agreement and Administration Agreement provide that, absent willful misfeasance, bad faith or gross negligence in the performance of their duties or by
reason of the reckless disregard of their duties and obligations, PennantPark Investment Advisers and PennantPark Investment Administration and their officers, managers, partners, agents,
employees, controlling persons, members and any other person or entity affiliated with them are entitled to indemnification from us for any damages, liabilities, costs and expenses (including
reasonable attorneys’ fees and amounts reasonably paid in settlement) arising from the rendering of PennantPark Investment Advisers’ and PennantPark Investment Administration’s services
under our Investment Management Agreement or Administration Agreement or otherwise as Investment Adviser or Administrator for us.
License Agreement
We have entered into a license agreement, or the License Agreement, with PennantPark Investment Advisers pursuant to which PennantPark Investment Advisers has granted us a royalty-
free, non-exclusive license to use the name “PennantPark.” Under this agreement, we have a right to use the PennantPark name, for so long as PennantPark Investment Advisers or one of its
affiliates remains our Investment Adviser. Other than with respect to this limited license, we have no legal right to the “PennantPark” name.
REGULATION
Business Development Company, Regulated Investment Company Regulations and Small Business Investment Company Regulations
We are a BDC under the 1940 Act, which has qualified and intends to continue to qualify to maintain an election to be treated as a RIC under Subchapter M of the Code. The 1940 Act
contains prohibitions and restrictions relating to transactions between a BDC and its affiliates (including any investment advisers or sub-advisers), principal underwriters and affiliates of those
affiliates or underwriters and requires that a majority of the directors be persons other than “interested persons,” as that term is defined in the 1940 Act. In addition, the 1940 Act provides that we
may not change the nature of our business so as to cease to be, or to withdraw our election as, a BDC unless approved by holders of a majority of our outstanding voting securities.
We may invest up to 100% of our assets in securities acquired directly from issuers in privately negotiated transactions. With respect to such securities, we may, for the purpose of public
resale, be deemed an “underwriter” as that term is defined in the Securities Act of 1933, as amended, or the Securities Act. We may purchase or otherwise receive warrants to purchase the
common stock of our portfolio companies in connection with acquisition financing or other investments. Similarly, in connection with an acquisition, we may acquire rights to require the issuers
of securities we own or their affiliates to repurchase them under certain circumstances. We do not intend to acquire securities issued by any registered investment company that exceed the limits
imposed by the 1940 Act. Under these limits, we generally cannot acquire more than 3% of the voting stock of any registered investment company, invest more than 5% of the value of our total
assets in the securities of one registered investment company or invest more than 10% of the value of our total assets in the securities of more than one registered investment company. With
regard to that portion of our portfolio invested in securities issued by investment companies, it should be noted that such investments might subject our stockholders to additional expenses. We
may enter into hedging transactions to manage the risks associated with interest rate and currency fluctuations. None of these policies are fundamental and they may be changed without
stockholder approval.
Qualifying Assets
Under the 1940 Act, a BDC may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act, which are referred to as qualifying assets, unless, at the time the
acquisition is made, qualifying assets represent at least 70% of the BDC’s total assets. The principal categories of qualifying assets relevant to our business are the following:
(1)
Securities purchased in transactions not involving any public offering from the issuer of such securities, which issuer (subject to certain limited exceptions) is an eligible portfolio
company, or from any person who is, or has been during the preceding 13 months, an affiliated person of an eligible portfolio company, or from any other person, subject to such
rules as may be prescribed by the SEC. An eligible portfolio company is defined under the 1940 Act to include any issuer which:
(a)
(b)
is organized under the laws of, and has its principal place of business in, the United States;
is not an investment company (other than a small business investment company wholly-owned by the BDC) or a company that would be an investment company but is
excluded from the definition of an investment company by Section 3(c) of the 1940 Act; and
(c)
satisfies any of the following:
(i)
does not have any class of securities listed on a national securities exchange;
(ii)
has any class of securities listed on a national securities exchange subject to a maximum market capitalization of $250.0 million; or
(iii)
is controlled by a BDC, either alone or as part of a group acting together, and such BDC in fact exercises a controlling influence over the management or
policies of such eligible portfolio company and, as a result of such control, has an affiliated person who is a director of such eligible portfolio company.
(2)
(3)
(4)
(5)
Securities of any eligible portfolio company which we control.
Securities purchased in a private transaction from a U.S. operating company or from an affiliated person of the issuer, or in transactions incidental thereto, if such issuer is in
bankruptcy and subject to reorganization or if the issuer, immediately prior to the purchase of its securities was unable to meet its obligations as they came due without material
assistance other than conventional lending or financing arrangements.
Securities of an eligible portfolio company purchased from any person in a private transaction if there is no ready market for such securities and we already own 60% of the
outstanding equity of the eligible portfolio company.
Securities received in exchange for or distributed on or with respect to securities described in (1) through (4) above, or pursuant to the exercise of warrants or rights relating to
such securities.
(6)
Cash, cash equivalents, U.S. government securities or high-quality debt securities maturing in one year or less from the time of investment.
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In addition, a BDC must have been organized and have its principal place of business in the United States and must be operated for the purpose of making investments in the types of
securities described in (1), (2) or (3) above.
Managerial Assistance to Portfolio Companies
As a BDC, we are required to make available significant managerial assistance to our portfolio companies that constitute a qualifying asset within the meaning of Section 2(a)(47) of the
1940 Act. However, if a BDC purchases securities in conjunction with one or more other persons acting together, one of the other persons in the group may make available such significant
managerial assistance. Making available significant managerial assistance means any arrangement whereby the BDC, through its directors, officers or employees, offers to provide, and, if
accepted, does provide, significant guidance and counsel concerning the management, operations or business objectives and policies of a portfolio company. Our Administrator may provide such
assistance on our behalf to portfolio companies that request such assistance. Officers of our Investment Adviser and Administrator may provide assistance to controlled affiliates.
Temporary Investments
Pending investments in other types of qualifying assets, as described above, may consist of cash, cash equivalents, U.S. government securities or high-quality debt securities maturing in
one year or less from the time of investment, which we refer to, collectively, as temporary investments, so that 70% of our assets are qualifying assets. We may invest in U.S. Treasury bills or in
repurchase agreements, provided that such agreements are fully collateralized by cash or securities issued by the U.S. government or its agencies. A repurchase agreement involves the purchase
by an investor, such as us, of a specified security and the simultaneous agreement by the seller to repurchase it at an agreed-upon future date and at a price which is greater than the purchase price
by an amount that reflects an agreed-upon interest rate. There is no percentage restriction on the proportion of our assets that may be invested in such repurchase agreements. However, if more
than 25% of our total assets constitute repurchase agreements from a single counterparty, we would not meet the Diversification Tests, as defined below under “Regulation—Election to be
Treated as a RIC,” in order to qualify as a RIC for federal income tax purposes. Thus, we do not intend to enter into repurchase agreements with a single counterparty in excess of this limit. Our
Investment Adviser will monitor the creditworthiness of the counterparties with which we may enter into repurchase agreement transactions.
Senior Securities
We are permitted, under specified conditions, to issue multiple classes of indebtedness and one class of stock senior to our common stock if our asset coverage, as defined in the 1940 Act
and referred to as the asset coverage ratio, is compliant with the 1940 Act, immediately after each such issuance. In addition, while any senior securities remain outstanding, we must make
provisions to prohibit any distribution to our stockholders or the repurchase of such securities or shares unless we meet the applicable asset coverage requirement at the time of the distribution or
repurchase. We may also borrow amounts up to 5% of the value of our total assets for temporary or emergency purposes without regard to our asset coverage ratio. We received exemptive relief
from the SEC allowing us to modify the asset coverage requirement to exclude the SBA debentures from the calculation. For a discussion of the risks associated with leverage, see “Risk Factors
—Risks Relating to our Business and Structure—Regulations governing our operation as a BDC will affect our ability to, and the way in which we, raise additional capital” for more information.
Joint Code of Ethics and Code of Conduct
We and PennantPark Investment Advisers have adopted a joint code of ethics pursuant to Rule 17j-1 under the 1940 Act and a code of conduct that establish procedures for personal
investments and restricts certain personal securities transactions. Personnel subject to each code may invest in securities for their personal investment accounts, including securities that may be
purchased or held by us, so long as such investments are made in accordance with the codes’ requirements. Our joint code of ethics and code of conduct are available, free of charge, on our
website at www.pennantpark.com. In addition, the joint code of ethics is attached as an exhibit to this Report and is available on the EDGAR Database on the SEC’s Internet site at www.sec.gov.
You may also obtain a copy of our joint code of ethics, after paying a duplicating fee, by electronic request at the following email address: publicinfo@sec.gov.
Proxy Voting Policies and Procedures
We have delegated our proxy voting responsibility to our Investment Adviser. The Proxy Voting Policies and Procedures of our Investment Adviser are set forth below. The guidelines are
reviewed periodically by our Investment Adviser and our non-interested directors, and, accordingly, are subject to change. For purposes of these Proxy Voting Policies and Procedures described
below, “we,” “our” and “us” refer to our Investment Adviser.
Introduction
As an investment adviser registered under the Advisers Act, we have a fiduciary duty to act solely in the best interests of our clients. As part of this duty, we recognize that we must vote
client securities in a timely manner free of conflicts of interest and in the best interests of our clients.
These policies and procedures for voting proxies for our investment advisory clients are intended to comply with Section 206 of, and Rule 206(4)-6 under, the Advisers Act.
Proxy Policies
We vote proxies relating to our portfolio securities in what we perceive to be the best interests of our stockholders. We review on a case-by-case basis each proposal submitted to a
stockholder vote to determine its impact on the portfolio securities held by our clients. Although we will generally vote against proposals that may have a negative impact on our clients’ portfolio
securities, we may vote for such a proposal if there exists compelling long-term reasons to do so.
Our proxy voting decisions are made by the senior investment professionals who are responsible for monitoring each of our clients’ investments. To ensure that our vote is not the product
of a conflict of interest, we require that: (1) anyone involved in the decision making process disclose to our Chief Compliance Officer any potential conflict that he or she is aware of and any
contact that he or she has had with any interested party regarding a proxy vote; and (2) employees involved in the decision making process or vote administration are prohibited from revealing
how we intend to vote on a proposal in order to reduce any attempted influence from interested parties.
Proxy Voting Records
You may obtain information about how we voted proxies, free of charge, by calling us collect at (212) 905-1000 or by making a written request for proxy voting information to: Aviv
Efrat, Chief Financial Officer and Treasurer, 590 Madison Avenue, 15th Floor, New York, New York 10022.
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Privacy Protection Principles
We are committed to maintaining the privacy of our stockholders and to safeguarding their non-public personal information. The following information is provided to help you understand
what personal information we collect, how we protect that information and why, in certain cases, we may share information with select other parties.
Generally, we do not receive any non-public personal information relating to our stockholders, although certain non-public personal information of our stockholders may become available
to us. We do not disclose any non-public personal information about our stockholders or former stockholders to anyone, except as permitted by law or as is necessary in order to service
stockholder accounts (for example, to a transfer agent or third party administrator).
We restrict access to non-public personal information about our stockholders to employees of our Investment Adviser and its affiliates with a legitimate business need for the information.
We maintain physical, electronic and procedural safeguards designed to protect the non-public personal information of our stockholders.
Our privacy protection policies are available, free of charge, on our website at www.pennantpark.com. In addition, the privacy policy is available on the EDGAR Database on the SEC’s
Internet site at www.sec.gov, filed as an exhibit to our annual report on Form 10-K (File No. 814-00736, filed on November 16, 2011).
Other
We may also be prohibited under the 1940 Act from knowingly participating in certain transactions with our affiliates without the prior approval of our board of directors, including a
majority of our directors who are not interested persons of us, and, in some cases, prior approval by the SEC.
We will be periodically examined by the SEC and SBA for compliance with the 1940 Act and 1958 Act, respectively.
We are required by law to provide and maintain a bond issued by a reputable fidelity insurance company to protect us against larceny and embezzlement. Furthermore, as a BDC, we are
prohibited from protecting any director or officer against any liability to us or our stockholders arising from willful misfeasance, bad faith, gross negligence or reckless disregard of the duties
involved in the conduct of such person’s office.
We and PennantPark Investment Advisers have each adopted and implemented written policies and procedures reasonably designed to prevent violation of the federal securities laws. We
review these policies and procedures annually for their adequacy and the effectiveness of their implementation, and we designate a Chief Compliance Officer to be responsible for administering
the policies and procedures.
Sarbanes-Oxley Act of 2002
The Sarbanes-Oxley Act of 2002, as amended, or the Sarbanes-Oxley Act, imposes several regulatory requirements on publicly held companies and their insiders. Many of these
requirements affect us.
For example:
•
•
•
•
pursuant to Rule 13a-14 of the Securities Exchange Act of 1934, as amended, or the Exchange Act, our Chief Executive Officer and Chief Financial Officer must certify the
accuracy of the financial statements contained in our periodic reports;
pursuant to Item 307 of Regulation S-K, our periodic reports must disclose our conclusions about the effectiveness of our disclosure controls and procedures;
pursuant to Rule 13a-15 of the Exchange Act, our management must prepare an annual report regarding its assessment of our internal controls over financial reporting; and
pursuant to Item 308 of Regulation S-K and Rule 13a-15 of the Exchange Act, our periodic reports must disclose whether there were significant changes in our internal controls
over financial reporting or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
The Sarbanes-Oxley Act requires us to review our current policies and procedures to determine whether we comply with the Sarbanes-Oxley Act and the regulations promulgated there-
under. We continue to monitor our compliance with all regulations that are adopted under the Sarbanes-Oxley Act and continue to take actions necessary to ensure that we are in compliance with
that act.
Election to be Treated as a RIC
We have elected to be treated, and intend to qualify annually to maintain our election to be treated, as a RIC under Subchapter M of the Code. To maintain our RIC tax election, we must,
among other requirements, meet certain annual source-of-income and quarterly asset diversification requirements (as described below). We also must annually distribute dividends for U.S.
federal income tax purposes to our stockholders of an amount generally at least equal to 90% of the sum of our ordinary income and realized net short-term capital gains in excess of realized net
long-term capital losses, or investment company taxable income, and determined without regard to any deduction for dividends paid out of the assets legally available for distribution, or the
Annual Distribution Requirement.
In order to qualify as a RIC for federal income tax purposes, we must:
•
•
•
maintain an election to be treated as a BDC under the 1940 Act at all times during each taxable year;
derive in each taxable year at least 90% of our gross income from dividends, interest, payments with respect to certain securities loans, gains from the sale of stock or other
securities, net income from certain qualified publicly traded partnerships or other income derived with respect to our business of investing in such stock or securities, or the 90%
Income Test; and
diversify our holdings, or the Diversification Tests, so that at the end of each quarter of the taxable year:
1)
2)
at least 50% of the value of our assets consists of cash, cash equivalents, U.S. government securities, securities of other RICs, and other securities if such other securities
of any one issuer neither represents more than 5% of the value of our assets nor more than 10% of the outstanding voting securities of the issuer; and
no more than 25% of the value of our assets is invested in the securities, other than U.S. government securities or securities of other RICs, of one issuer or of two or
more issuers that are controlled, as determined under applicable tax rules, by us and that are engaged in the same or similar or related trades or businesses or in certain
qualified publicly traded partnerships.
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Although not required for us to maintain our RIC tax status, in order to preclude the imposition of a 4% nondeductible federal excise tax imposed on RICs, we must distribute in respect of
each calendar year dividends to our stockholders of an amount at least equal to the sum of (1) 98% of our net ordinary income (subject to certain deferrals and elections) for the calendar year,
(2) 98.2% of our capital gain net income (i.e., the excess, if any, of our capital gains over capital losses), adjusted for certain ordinary losses, generally for the one-year period ending on
October 31 of the calendar year plus (3) any net ordinary income or capital gain net income for the preceding years that was not distributed during such years on which we did not incur any
corporate income tax, or the Excise Tax Avoidance Requirement. Although we may distribute realized net capital gains (i.e., net long-term capital gains in excess of net short-term capital losses),
if any, at least annually, out of the assets legally available for such distributions in the manner described above, we may retain and incur tax on such net capital gains or investment company
taxable income, subject to maintaining our ability to be treated as a RIC for federal income tax purposes, in order to provide us with additional liquidity.
While we intend to make sufficient distributions each taxable year to avoid incurring any material U.S. federal excise tax on our earnings, we may not be able to, or may choose not to,
distribute amounts sufficient to avoid the imposition of the tax entirely. In that event, we generally will be liable for the excise tax only on the amount by which we do not meet the Excise Tax
Avoidance Requirement. Under certain circumstances, however, we may, in our sole discretion, determine that it is in our best interests to retain a portion of our income or capital gains rather
than distribute such amount as dividends and accordingly cause us to bear the excise tax burden associated therewith.
We may invest in partnerships which may result in our being subject to additional state, local or foreign income, franchise or other tax liabilities. In addition, some of the income and fees
that we may recognize will not satisfy the 90% Income Test. In order to mitigate the risk that such income and fees would disqualify us as a RIC as a result of a failure to satisfy the 90% Income
Test, we may be required to recognize such income and fees indirectly through the Taxable Subsidiaries, which are classified as corporations for U.S. federal income tax purposes. The Taxable
Subsidiaries generally will be subject to corporate income taxes on their earnings, which ultimately will reduce our return on such income and fees.
Taxation as a RIC
If we qualify as a RIC, and satisfy the Annual Distribution Requirement, then we will not be subject to federal income tax on the portion of our investment company taxable income and
net capital gains, determined without regard to any deduction for dividends paid, we distribute (or are deemed to distribute) as dividends for U.S. federal income tax purposes to stockholders.
Additionally, upon satisfying these requirements, we will be subject to U.S. federal income tax at the regular corporate rates on any investment company taxable income or net capital gains,
determined without regard to any deduction for dividends paid, that is not distributed (or not deemed to have been distributed) as dividends for U.S. federal income tax purposes to our
stockholders.
We may be required to recognize taxable income in circumstances in which we do not receive cash. For example, if we hold a debt instrument that is treated under applicable tax rules as
having OID (such as debt instruments with PIK interest or, in certain cases, increasing interest rates or issued with warrants), we must include in income each taxable year a portion of the OID
that accrues over the life of the debt instrument, regardless of whether cash representing such income is received by us in the same taxable year. Because any OID accrued will be included in our
investment company taxable income in the taxable year of accrual, we may be required to make a distribution to our stockholders in order to satisfy the Annual Distribution Requirement, even
though we will not have received any corresponding cash amount.
We invest in below investment grade instruments. Investments in these types of instruments may present special tax issues for us. U.S. federal income tax rules are not entirely clear about
issues such as when we may cease to accrue interest, OID or market discount, when and to what extent deductions may be taken for bad debts or worthless debt instruments, how payments
received on obligations in default should be allocated between principal and income and whether exchanges of debt instruments in a bankruptcy or workout context are taxable. We will address
these and other issues to the extent necessary in order to continue to maintain our qualification to be subject to tax as a RIC.
Gain or loss realized by us from equity securities and warrants acquired by us, as well as any loss attributable to the lapse of such warrants, generally will be treated as capital gain or loss.
Such gain or loss generally will be long-term or short-term, depending on how long we held a particular warrant.
We are authorized to borrow funds and to sell assets in order to satisfy our Annual Distribution Requirement or the Excise Tax Avoidance Requirement. However, under the 1940 Act, we
are not permitted to make distributions to our stockholders while our debt instruments and other senior securities are outstanding unless certain asset coverage requirements are met. Moreover,
our ability to dispose of assets to meet our distribution requirements may be limited by (1) the illiquid nature of our portfolio and/or (2) other requirements relating to our status as a RIC,
including the Diversification Tests. If we dispose of assets in order to meet the Annual Distribution Requirement or the Excise Tax Avoidance Requirement, we may make such dispositions at
times that, from an investment standpoint, are not advantageous.
We may distribute our common stock as a dividend from our taxable income and a stockholder could receive a portion of such distributions declared and distributed by us in shares of our
common stock with the remaining amount in cash. A stockholder will be considered to have recognized dividend income generally equal to the fair market value of the stock paid by us plus cash
received with respect to such dividend. The total dividend declared and distributed by us would be taxable income to a stockholder even though only a small portion of the dividend was paid in
cash to pay any taxes due on the total dividend. We have not yet elected to distribute stock as a dividend but reserve the right to do so.
Failure to Qualify as a RIC
If we fail to satisfy the Annual Distribution Requirement or fail to qualify as a RIC in any taxable year, unless certain cure provisions of the Code apply, we will be subject to tax in that
taxable year on all of our taxable income at regular corporate rates, regardless of whether we make any dividend distributions to our stockholders. In that case, all of our income will be subject to
corporate-level federal income tax, reducing the amount available to be distributed to our stockholders. In contrast, assuming we qualify as a RIC, our corporate-level federal income tax should
be substantially reduced or eliminated. See “Election to be Treated as a RIC” above for more information.
If we are unable to maintain our status as a RIC, we also would not be able to deduct distributions to stockholders, nor would distributions be required to be made. Distributions would
generally be taxable as dividends to our stockholders as ordinary dividend income to the extent of our current and accumulated earnings and profits. Subject to certain limitations under the Code,
U.S. non-corporate stockholders generally would be eligible to treat such dividends as “qualified dividend income,” which generally would be subject to reduced rates of U.S. federal income tax,
and dividends paid by us to certain U.S. corporate stockholders would be eligible for the dividends received deduction. Distributions in excess of our current and accumulated earnings and profits
would be treated first as a return of capital to the extent of the stockholder’s tax basis in our common stock, and any remaining distributions would be treated as a capital gain. Moreover, if we fail
to qualify as a RIC in any taxable year, to qualify again to be treated as a RIC for federal income tax purposes in a subsequent taxable year, we would be required to distribute our earnings and
profits attributable to any of our non-RIC taxable years as dividends to our stockholders. In addition, if we fail to qualify as a RIC for a period greater than two consecutive taxable years, to
qualify as a RIC in a subsequent taxable year we may be subject to regular corporate tax on any net built-in gains with respect to certain of our assets (that is, the excess of the aggregate gains,
including items of income, over aggregate losses that would have been realized with respect to such assets if we had sold the property at fair market value at the end of the taxable year) that we
elect to recognize on requalification or when recognized over the next five taxable years.
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SBA Regulations
SBIC II is licensed under the SBA as a SBIC under Section 301(c) of the 1958 Act and received its license in 2013. During the year ended September 30, 2019, we liquidated and
dissolved SBIC I.
SBICs are designed to stimulate the flow of capital to businesses that meet specified eligibility requirements discussed below. Under SBA regulations, SBIC II is subject to regulatory
requirements including making investments in SBA eligible businesses, investing at least 25% of regulatory capital in eligible smaller businesses, placing certain limitations on the financing
terms of investments, prohibiting investing in certain industries, and required capitalization thresholds among other regulations. Furthermore, SBIC II is subject to periodic audits and
examinations of their financial statements that are prepared on a basis of accounting other than GAAP pursuant to SBA accounting standards and financial reporting requirements for SBICs. For
example, SBIC II does not use fair value accounting on its assets or liabilities under SBA valuation guidelines. If SBIC II fails to comply with applicable SBA regulations, the SBA could,
depending on the severity of the violation, limit or prohibit use of debentures, declare outstanding debentures immediately due and payable, and/or limit SBIC II from making new investments. In
addition, the SBA can revoke or suspend a license for willful or repeated violation of, or willful or repeated failure to observe, any provision of the 1958 Act or any rule or regulation promulgated
thereunder. These actions by the SBA would, in turn, negatively affect us.
Eligible Small and Smaller Businesses
Under present SBA regulations, eligible small business include businesses that (together with their affiliates) have tangible net worth not exceeding $19.5 million and have average annual
net income of $6.5 million for the two most recent fiscal years. In addition, SBIC II must invest at least 25% of investments in “smaller” concerns. A smaller concern is a business that has
tangible net worth not exceeding $6.0 million and has average annual net income not exceeding $2.0 million for the two most recent fiscal years or, as an alternative to the aforementioned
requirement, meet the size requirements based on either the number of employees or gross revenue, which is based on the industry in which the smaller concern operates. Once an SBIC has
invested in a company, it may continue to make follow-on investments in the company, regardless of the size of the business, up and until the time a business offers its securities in a public
market.
Financing Limitations, Terms and Changes in Control
The SBA prohibits an SBIC from financing small businesses in certain industries such as relending, gambling, oil and gas exploration and other passive businesses. Additional SBA
prohibitions include investing outside the United States, investing more than 30% of regulatory capital in one company and lending money to any officer, director or employee or to invest in any
affiliate thereof. The SBA places certain limits on the financing terms of investments by SBIC II in portfolio companies such as limiting the interest rate on debt securities and loans provided to
portfolio companies. The SBA also limits fees, prepayment terms and other economic arrangements that are typically charged in lending arrangements.
The SBA also prohibits, without prior written approval, a “change in control” of SBIC II or transfers that would result in any person or group owning 10% or more of a class of capital
stock (or its equivalent in the case of a partnership) of a licensed SBIC. A “change of control” is any event which would result in the transfer of power, direct or indirect, to direct management
and policies of an SBIC, whether through ownership, contractual arrangements or otherwise.
Idle Funds Limitation
The SBA limits an SBIC to investing idle funds in the following types of securities:
•
•
•
•
direct obligations of, or obligations guaranteed as to principal and interest by, the U.S. Government, which mature within 15 months from the date of the investment;
repurchase agreements with federally insured institutions with a maturity of seven days or less (and the securities underlying the repurchase obligations must be direct obligations
of or guaranteed by the federal government);
certificates of deposit with a maturity of one year or less, issued by a federally insured institution; or
a deposit account in a federally insured institution that is subject to withdrawal restriction of one year or less.
SBA Leverage or Debentures
SBA-guaranteed debentures are non-recourse to us, have a 10-year maturity, and may be prepaid at any time without penalty. The interest rate of SBA-guaranteed debentures is fixed at
the time of issuance at a market-driven spread over 10-year U.S. Treasury Notes. Leverage through SBA-guaranteed debentures is subject to required capitalization thresholds. SBA current
regulations limit the amount that an SBIC may borrow to a maximum of $175.0 million, which is up to twice its regulatory capital, and a maximum of $350.0 million as part of a group of SBICs
under common control.
Item 1A.
Risk Factors
Before you invest in our securities, you should be aware of various risks, including those described below. You should carefully consider these risk factors, together with all of the other
information included in this Report, before you decide whether to make an investment in our securities. The risks set out below are not the only risks we face. Additional risks and uncertainties
not currently known to us or that we currently deem to be immaterial also may have a material adverse effect on our business, financial condition and/or operating results. If any of the following
events occur, our business, financial condition and results of operations could be materially adversely affected. In such case, our NAV, the trading price of our common stock, our 2024 Notes, or
any securities we may issue, may decline, and you may lose all or part of your investment.
RISKS RELATING TO OUR BUSINESS AND STRUCTURE
Global capital markets could enter a period of severe disruption and instability. These market conditions have historically and could again have a materially adverse effect on debt and equity
capital markets in the United States, which could have a materially negative impact on our business, financial condition and results of operations.
The U.S. and global capital markets have, from time to time, experienced periods of disruption characterized by the freezing of available credit, a lack of liquidity in the debt capital
markets, significant losses in the principal value of investments, the re-pricing of credit risk in the broadly syndicated credit market, the failure of major financial institutions and general volatility
in the financial markets. During these periods of disruption, general economic conditions deteriorated with material and adverse consequences for the broader financial and credit markets, and the
availability of debt and equity capital for the market as a whole, and financial services firms in particular, was reduced significantly. These conditions may reoccur for a prolonged period of time
or materially worsen in the future. In addition, continuing uncertainty arising from the United Kingdom’s decision to leave the European Union (the so called “Brexit”) could lead to further
market disruptions and currency volatility, potentially weakening consumer, corporate and financial confidence and resulting in lower economic growth for companies that rely significantly on
Europe for their business activities and revenues. Furthermore, uncertainty between the United States and other countries with respect to trade policies, treaties and tariffs, among other factors,
have caused disruptions in the global markets, including markets in which we participate, and we cannot assure you that these market conditions will not continue or worsen in the future. We may
in the future have difficulty accessing debt and equity capital markets, and a severe disruption in the global financial markets, deterioration in credit and financing conditions or uncertainty
regarding U.S. government spending and deficit levels, Brexit or other global economic conditions could have a material adverse effect on our business, financial condition and results of
operations.
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Volatility or a prolonged disruption in the credit markets could materially damage our business.
We are required to record our assets at fair value, as determined in good faith by our board of directors, in accordance with our valuation policy. As a result, volatility in the capital markets
may have a material adverse effect on our valuations and our NAV, even if we hold investments to maturity. Volatility or dislocation in the capital markets may depress our stock price below our
NAV per share and create a challenging environment in which to raise equity and debt capital. As a BDC, we are generally not able to issue additional shares of our common stock at a price less
than our NAV without first obtaining approval for such issuance from our stockholders and our independent directors. Additionally, our ability to incur indebtedness is limited by the asset
coverage ratio requirements for a BDC, as defined under the 1940 Act, exclusive of the SBA debentures pursuant to our SEC exemptive relief. Declining portfolio values negatively impact our
ability to borrow additional funds under our Credit Facilities because our NAV is reduced for purposes of the asset coverage ratio. If the fair value of our assets declines substantially, we may fail
to maintain the asset coverage ratio stipulated by the 1940 Act, which could, in turn, cause us to lose our status as a BDC and materially impair our business operations. A lengthy disruption in
the credit markets could also materially decrease demand for our investments and could materially damage our business, financial condition and results of operations.
The significant disruptions in the capital markets experienced in the past has had, and may in the future have, a negative effect on the valuations of our investments and on the potential for
liquidity events involving our investments. The debt capital that may be available to us in the future may be at a higher cost and have less favorable terms and conditions than those currently in
effect. If our financing costs increase and we have no increase in interest income, then our net investment income will decrease. A prolonged inability to raise capital may require us to reduce the
volume of investments we originate and could have a material adverse impact on our business, financial condition and results of operations. This may also increase the probability that other
structural risks negatively impact us. These situations may arise due to circumstances that we may be unable to control, such as a lengthy disruption in the credit markets, a severe decline in the
value of the U.S. dollar, a sharp economic downturn or recession or an operational problem that affects third parties or us, and could materially damage our business, financial condition and
results of operations.
Economic sanction laws in the United States and other jurisdictions may prohibit us and our affiliates from transacting with certain countries, individuals and companies.
Economic sanction laws in the United States and other jurisdictions may prohibit us or our affiliates from transacting with certain countries, individuals and companies. In the United
States, the U.S. Department of the Treasury’s Office of Foreign Assets Control administers and enforces laws, executive orders and regulations establishing U.S. economic and trade sanctions,
which prohibit, among other things, transactions with, and the provision of services to, certain non-U.S. countries, territories, entities and individuals. These types of sanctions may significantly
restrict or completely prohibit investment activities in certain jurisdictions, and if we, our portfolio companies or other issuers in which we invest were to violate any such laws or regulations, we
may face significant legal and monetary penalties.
The Foreign Corrupt Practices Act, or FCPA, and other anti-corruption laws and regulations, as well as anti-boycott regulations, may also apply to and restrict our activities, our portfolio
companies and other issuers of our investments. If an issuer or we were to violate any such laws or regulations, such issuer or we may face significant legal and monetary penalties. The U.S.
government has indicated that it is particularly focused on FCPA enforcement, which may increase the risk that an issuer or us becomes the subject of such actual or threatened enforcement. In
addition, certain commentators have suggested that private investment firms and the funds that they manage may face increased scrutiny and/or liability with respect to the activities of their
underlying portfolio companies. As such, a violation of the FCPA or other applicable regulations by us or an issuer of our portfolio investments could have a material adverse effect on us. We are
committed to complying with the FCPA and other anti-corruption laws and regulations, as well as anti-boycott regulations, to which it is subject. As a result, we may be adversely affected
because of our unwillingness to enter into transactions that violate any such laws or regulations.
We could be subject to reduced availability and/or mandatory prepayments under our Credit Facilities and SBA debentures.
In addition to the asset coverage ratio requirements, our Credit Facilities contain various covenants which, if not complied with, could accelerate repayment under the Credit Facilities.
This could have a material adverse effect on our business, financial condition and results of operations. Our borrowings under our Credit Facilities are collateralized by the assets in our
investment portfolio, excluding those portfolio investments held by SBIC II. The agreements governing the Credit Facilities require us to comply with certain financial and operational covenants.
These covenants include:
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A requirement to retain our status as a RIC;
A requirement to maintain a minimum amount of stockholder’s equity; and
A requirement that our outstanding borrowings under the Credit Facilities not exceed a certain percentage of the value of our portfolio.
In addition to the Credit Facilities, SBIC II has issued SBA debentures that require us and SBIC II to generate sufficient cash flow to make required interest payments. Further, SBIC II
must maintain a minimum capitalization that, if impaired, could materially and adversely affect our liquidity, financial condition and results of operations by accelerating repayment under the
SBA debentures. Our borrowings under the SBA debentures are secured by the assets of SBIC II.
Our continued compliance with these covenants depends on many factors, some of which are beyond our control. A material decrease in our NAV in connection with additional
borrowings could result in an inability to comply with our obligation to restrict the level of indebtedness that we are able to incur in relation to the value of our assets or to maintain a minimum
level of stockholders’ equity. This could have a material adverse effect on our operations, as it would reduce availability under the Credit Facilities and could trigger mandatory prepayment
obligations under the terms of the Credit Facilities.
We operate in a highly competitive market for investment opportunities.
A number of entities compete with us to make the types of investments that we make in middle-market companies. We compete with public and private funds, including other BDCs,
commercial and investment banks, commercial financing companies, CLO funds and, to the extent they provide an alternative form of financing, private equity funds. Additionally, alternative
investment vehicles, such as hedge funds, also invest in middle-market companies. As a result, competition for investment opportunities at middle-market companies can be intense. Many of our
potential competitors are substantially larger and have considerably greater financial, technical and marketing resources than we do. For example, we believe some competitors have a lower cost
of funds and access to funding sources that are not available to us. In addition, some of our competitors have higher risk tolerances or different risk assessments, which could allow them to
consider a wider variety of investments and establish more relationships than us. Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act imposes on
us as a BDC. We cannot assure you that the competitive pressures we face will not have a material adverse effect on our business, financial condition and results of operations. Also, as a result of
this competition, we may not be able to take advantage of attractive investment opportunities from time to time, and we can offer no assurance that we will be able to identify and make
investments that are consistent with our investment objectives.
Participants in our industry compete on several factors, including price, flexibility in transaction structuring, customer service, reputation, market knowledge and speed in decision-
making. We do not seek to compete primarily based on the interest rates we offer, and we believe that some of our competitors may make loans with interest rates that are lower than the rates we
offer. We may lose investment opportunities if we do not match our competitors’ pricing, terms and structure. However, if we match our competitors’ pricing, terms and structure, we may
experience decreased net interest income and increased risk of credit loss.
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Our borrowers may default on their payments, which may have a materially negative effect on our financial performance.
Our primary business exposes us to credit risk, and the quality of our portfolio has a significant impact on our earnings. Credit risk is a component of our fair valuation of our portfolio
companies. Negative credit events will lead to a decrease in the fair value of our portfolio companies.
In addition, market conditions have affected consumer confidence levels, which may harm the business of our portfolio companies and result in adverse changes in payment patterns.
Increased delinquencies and default rates would negatively impact our results of operations. Deterioration in the credit quality of our portfolio could have a material adverse effect on our
business, financial condition and results of operations. If interest rates rise, some of our portfolio companies may not be able to pay the escalating interest on our loans and may default.
We make long-term loans and debt investments, which may involve a high degree of repayment risk. Our investments with a deferred interest feature, such as OID income and PIK
interest, could represent a higher credit risk than investments that must pay interest in full in cash on a regular basis. We invest in companies that may have limited financial resources, typically
are highly leveraged and may be unable to obtain financing from traditional sources. Accordingly, a general economic downturn or severe tightening in the credit markets could materially impact
the ability of our borrowers to repay their loans, which could significantly damage our business. Numerous other factors may affect a borrower’s ability to repay its loan, including the failure to
meet its business plan or a downturn in its industry. A portfolio company’s failure to satisfy financial or operating covenants imposed by us or other lenders could lead to defaults and, potentially,
termination of its loans or foreclosure on the secured assets. This could trigger cross-defaults under other agreements and jeopardize our portfolio company’s ability to meet its obligations under
the loans or debt securities that we hold. In addition, our portfolio companies may have, or may be permitted to incur, other debt that ranks senior to or equally with our securities. This means that
payments on such senior-ranking securities may have to be made before we receive any payments on our subordinated loans or debt securities. Deterioration in a borrower’s financial condition
and prospects may be accompanied by deterioration in any related collateral and may have a material adverse effect on our financial condition and results of operations.
Any unrealized losses we experience on our investment portfolio may be an indication of future realized losses, which could reduce our income available for distribution.
As a BDC, we are required to carry our investments at fair value, which is derived from a market value or, if no market value is ascertainable or if market value does not reflect the fair
value of such investment in the bona fide determination of our board of directors, then we would carry our investments at fair value, as determined in good faith by or under the direction of our
board of directors. Decreases in the market values or fair values of our investments are recorded as unrealized depreciation or loss. Unrealized losses of any given portfolio company could be an
indication of such company’s inability in the future to meet its repayment obligations to us.
If the fair value of our portfolio companies reflects unrealized losses that are subsequently realized, we could experience reductions of our income available for distribution in future
periods that could materially harm our results of operations and cause a material decline in the value of our publicly traded common stock.
We may be the target of litigation.
We may be the target of securities litigation in the future, particularly if the trading price of our common stock and our 2024 Notes fluctuates significantly. We could also generally be
subject to litigation, including derivative actions by our stockholders. Any litigation could result in substantial costs and divert management’s attention and resources from our business and cause
a material adverse effect on our business, financial condition and results of operations.
We are dependent upon our Investment Adviser’s key personnel for our future success, and if our Investment Adviser is unable to hire and retain qualified personnel or if our Investment
Adviser loses any member of its management team, our ability to achieve our investment objectives could be significantly harmed.
We depend on the diligence, skill and network of business contacts of the senior investment professionals of our Investment Adviser for our future success. We also depend, to a
significant extent, on PennantPark Investment Advisers’ access to the investment information and deal flow generated by these senior investment professionals and any others that may be hired
by PennantPark Investment Advisers. Subject to the overall supervision of our board of directors, the managers of our Investment Adviser evaluate, negotiate, structure, close and monitor our
investments. Our future success depends on the continued service of management personnel of our Investment Adviser. The departure of managers of PennantPark Investment Advisers could
have a material adverse effect on our ability to achieve our investment objectives. In addition, we can offer no assurance that PennantPark Investment Advisers will remain our Investment
Adviser. The Investment Adviser has the right, under the Investment Management Agreement, to resign at any time upon 60 days’ written notice, whether we have found a replacement or not.
If our Investment Management Agreement is terminated, our costs under new agreements that we enter into may increase. In addition, we will likely incur significant time and expense in
locating alternative parties to provide the services we expect to receive under our Investment Management Agreement. Any new investment management agreement would also be subject to
approval by our stockholders.
We are exposed to risks associated with changes in interest rates that may affect our cost of capital and net investment income.
Since we borrow money to make investments, our net investment income depends, in part, upon the difference between the rate at which we borrow funds and the rate at which we invest
those funds. As a result, we can offer no assurance that a significant change in market interest rates will not have a material adverse effect on our net investment income. In periods of rising
interest rates, our cost of funds will increase and the interest rate on investments with an interest rate floor will not increase until interest rates exceed the applicable floor, which will reduce our
net investment income. We may use interest rate risk management techniques, such as total return swaps and interest rate swaps, in an effort to limit our exposure to interest rate fluctuations.
These techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act and applicable commodities laws. These activities may limit our ability to participate
in the benefits of lower interest rates with respect to the hedged portfolio. Adverse developments resulting from changes in interest rates or hedging transactions could have a material adverse
effect on our business, financial condition and results of operations. Also, we have limited experience in entering into hedging transactions and we will initially have to purchase or develop such
expertise, which may diminish the actual benefits of any hedging strategy we employ. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—
Quantitative and Qualitative Disclosures about Market Risk” for more information.
A rise in the general level of interest rates can be expected to lead to higher interest rates applicable to our debt investments once the interest rate exceeds the applicable floor.
Accordingly, an increase in interest rates would make it easier for us to meet or exceed the incentive fee hurdle and may result in a substantial increase of the amount of incentive fees payable to
our Investment Adviser with respect to Pre-Incentive Fee Net Investment Income.
General interest rate fluctuations may have a substantial negative impact on our investments, the value of our common stock and our rate of return on invested capital. A reduction in
interest rates may result in both lower interest rates on new investments and higher repayments on current investments with higher interest rates, which may have an adverse impact on our net
investment income. An increase in interest rates could decrease the value of any investments we hold which earn fixed interest rates or are subject to interest rate floors and also could increase
our interest expense on our Credit Facilities, thereby decreasing our net investment income. Also, an increase in interest rates available to investors could make an investment in our common
stock less attractive if we are not able to increase our dividend rate, which could reduce the value of our common stock.
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If general interest rates rise, there is a risk that the portfolio companies in which we hold floating rate securities will be unable to pay escalating interest amounts, which could result in a
default under their loan documents with us. Rising interest rates could also cause portfolio companies to shift cash from other productive uses to the payment of interest, which may have a
material adverse effect on their business and operations and could, over time, lead to increased defaults. In addition, rising interest rates may increase pressure on us to provide fixed rate loans to
our portfolio companies, which could adversely affect our net investment income, as increases in our cost of borrowed funds would not be accompanied by increased interest income from such
fixed-rate investments.
In July 2017, the head of the United Kingdom Financial Conduct Authority announced the desire to phase out the use of LIBOR by the end of 2021. Because the statements made by the
head of the United Kingdom Financial Conduct Authority are recent in nature, there is no definitive information regarding the future utilization of LIBOR or of any particular replacement rate.
As such, the potential effect of any such event on our cost of capital and net investment income cannot yet be determined. If LIBOR ceases to exist, we may need to renegotiate any credit or
similar agreements extending beyond 2021 with our portfolio companies that utilize LIBOR as a factor in determining the interest rate and our Credit Facilities to replace LIBOR with the new
standard that is established. If the agreements with our portfolio companies are unable to be renegotiated, our investments may bear interest at a lower rate, which would decrease investment
income and potentially the value of such investments. If we are unable to renegotiate our Credit Facilities, amounts drawn under our Credit Facilities may bear interest at a higher rate, which
would increase the cost of our borrowings and, in turn, affect our results of operations.
Our financial condition and results of operation depend on our ability to manage future growth effectively.
Our ability to achieve our investment objectives depends on our ability to grow, which depends, in turn, on our Investment Adviser’s ability to identify, invest in and monitor companies
that meet our investment selection criteria. Accomplishing this result on a cost-effective basis is largely a function of our Investment Adviser’s structuring of the investment process, its ability to
provide competent, attentive and efficient services to us and our access to financing on acceptable terms. The management team of PennantPark Investment Advisers has substantial
responsibilities under our Investment Management Agreement. In order for us to grow, our Investment Adviser will need to hire, train, supervise and manage new employees. However, we can
offer no assurance that any current or future employees will contribute effectively to the work of, or remain associated with, the Investment Adviser. We caution you that the principals of our
Investment Adviser or Administrator may also be called upon to provide and currently do provide significant managerial assistance to portfolio companies and other investment vehicles,
including other BDCs, which are managed by the Investment Adviser. Such demands on their time may distract them or slow our rate of investment. Any failure to manage our future growth
effectively could have a material adverse effect on our business, financial condition and results of operations.
We are highly dependent on information systems and systems failures could have a material adverse effect on our business, financial condition and results of operations.
Our business depends on the communications and information systems, including financial and accounting systems, of the Investment Adviser, the Administrator and our sub-
administrator. Any failure or interruption of such systems could cause delays or other problems in our activities. This, in turn, could have a material adverse effect on our business, financial
condition and results of operations.
We may not replicate the historical performance of other investment companies and funds with which our senior and other investment professionals have been affiliated.
The 1940 Act imposes numerous constraints on the investment activities of BDCs. For example, BDCs are required to invest at least 70% of their total assets primarily in securities of
U.S. private companies or thinly traded public companies (public companies with a market capitalization of less than $250 million), cash, cash equivalents, U.S. government securities and high-
quality debt investments that mature in one year or less. These constraints may hinder the Investment Adviser’s ability to take advantage of attractive investment opportunities and to achieve our
investment objectives. In addition, the investment philosophy and techniques used by the Investment Adviser may differ from those used by other investment companies and funds advised by the
Investment Adviser. Accordingly, we can offer no assurance that we will replicate the historical performance of other investment companies and funds with which our senior and other investment
professionals have been affiliated, and we caution that our investment returns could be substantially lower than the returns achieved by such other companies.
Any failure on our part to maintain our status as a BDC would reduce our operating flexibility.
If we do not remain a BDC, we might be regulated as a closed-end investment company under the 1940 Act, which would subject us to substantially more regulatory restrictions under the
1940 Act and correspondingly decrease our operating flexibility, which could have a material adverse effect on our business, financial condition and results of operations.
Loss of RIC tax status would substantially reduce our net assets and income available for debt service and distributions.
We have operated and continue to operate so as to maintain our election to be treated as a RIC under Subchapter M of the Code. If we meet the 90% Income Test, the Diversification Tests,
and the Annual Distribution Requirement, we generally will not be subject to corporate-level income taxation on income we timely distribute, or deem to distribute, as dividends for U.S. federal
income tax purposes to our stockholders. We would cease to qualify for such tax treatment if we were unable to comply with these requirements. In addition, we may have difficulty meeting our
Annual Distribution Requirement to our stockholders because, in certain cases, we may recognize income before or without receiving cash representing such income. If we fail to qualify as a
RIC, we will have to pay corporate-level taxes on all of our income whether or not we distribute it, which would substantially reduce the amount of income available for debt service as well as
reduce and/or affect the character and amount of our distributions to our stockholders. Even if we qualify as a RIC, we generally will be subject to a 4% nondeductible excise tax if we do not
distribute to our stockholders in respect of each calendar year of an amount at least equal to the Excise Tax Avoidance Requirement.
We may have difficulty paying our Annual Distribution Requirement if we recognize income before or without receiving cash representing such income.
For federal income tax purposes, we include in income certain amounts that we have not yet received in cash, such as OID and PIK interest, which represents interest added to the loan
balance and due at the end of the loan term. OID, which could be significant relative to our overall investment assets, and increases in loan balances as a result of PIK interest will be included in
income before we receive any corresponding cash payments. We also may be required to include in income certain other amounts that we will not receive in cash, such as amounts attributable to
foreign currency transactions. Our investments with a deferred interest feature, such as PIK interest, may represent a higher credit risk than loans for which interest must be paid in full in cash on
a regular basis. For example, even if the accounting conditions for income accrual are met, the borrower could still default when our actual collection is scheduled to occur upon maturity of the
obligation.
The part of the incentive fee payable by us that relates to our net investment income is computed and paid on income that may include interest that has been accrued but not yet received in
cash. If a portfolio company defaults on a loan that is structured to provide PIK or OID interest, it is possible that accrued interest previously used in the calculation of the incentive fee will
become uncollectible.
If we are unable to satisfy the Annual Distribution Requirement, we may have to sell some of our investments at times or prices we would not consider advantageous, or raise additional
debt or equity capital or reduce new investment originations to meet these distribution requirements, which could have a material adverse effect on our business, financial condition and results of
operations. If we are not able to obtain cash from other sources, we may lose our ability to be subject to tax as a RIC and thus be subject to corporate-level income tax.
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Legislation enacted in 2018 allows us to incur additional leverage.
A BDC has historically been able to issue “senior securities,” including borrowing money from banks or other financial institutions, only in amounts such that its asset coverage, as
defined in Section 61(a)(2) of the 1940 Act, equals at least 200% after such incurrence or issuance. In March 2018, the Consolidated Appropriations Act of 2018 (which includes the SBCAA)
was enacted which amended the 1940 Act to decrease this percentage from 200% (i.e., $1 of debt outstanding for each $1 of equity) to 150% (i.e., $2 of debt outstanding for each $1 of equity) for
a BDC that has received either stockholder approval or approval of a “required majority” (as defined in Section 57(o) of the 1940 Act) of its board of directors of the application of such lower
asset coverage ratio to the BDC. On February 5, 2019, our stockholders approved such reduction, as approved by our board of directors on November 13, 2018. As of February 5, 2019, we are
able to incur additional indebtedness so long as we comply with the applicable disclosure requirements, which may increase the risk of investing in us. Under the 200% minimum asset coverage
ratio, we were permitted to borrow up to one dollar for investment purposes for every one dollar of investor equity and, under the 150% minimum asset coverage ratio, we are permitted to borrow
up to two dollars for investment purposes for every one dollar of investor equity. In other words, Section 61(a)(2) of the 1940 Act permits BDCs to potentially increase their debt-to-equity ratio
from a maximum of 1-to-1 to a maximum of 2-to-1. In addition, since our base management fee is determined and payable based upon our average adjusted gross assets, which includes any
borrowings for investment purposes, our base management fee expense may increase if we incur additional leverage. Effective February 5, 2019, base management fees were reduced from 1.50%
to 1.00% on gross assets that exceed 200% of our total net assets as of the immediately preceding quarter-end.
Because we intend to distribute substantially all of our income to our stockholders to maintain our ability to be subject to tax as a RIC, we may need to raise additional capital to finance our
growth. If funds are not available to us, we may need to curtail new investments, and our common stock value could decline.
In connection with satisfying the requirements to be subject to tax as a RIC, we intend to distribute to our stockholders substantially all of our investment company taxable income and net
capital gains each taxable year. However, we may retain all or a portion of our net capital gains and incur applicable income taxes with respect thereto and elect to treat such retained net capital
gains as deemed dividend distributions to our stockholders.
As noted above, on November 13, 2018 and February 5, 2019, our board of directors, including a “required majority” (as such term is defined in Section 57(o) of the 1940 Act), and our
stockholders, respectively, approved a reduction of our asset coverage ratio from 200% to 150%. As a result, as of February 6, 2019, the asset coverage requirement applicable to us for senior
securities was reduced from 200% (i.e., $1 of debt outstanding for each $1 of equity) to 150% (i.e., $2 of debt outstanding for each $1 of equity). If we incur additional indebtedness under this
provision, the risk of investing in us will increase. If the value of our assets declines, we may be unable to satisfy this asset coverage test. If that happens, we may be required to sell a portion of
our investments or sell additional common stock and, depending on the nature of our leverage, to repay a portion of our indebtedness at a time when such sales and repayments may be
disadvantageous. In addition, the issuance of additional securities could dilute the percentage ownership of our current stockholders in us.
We depend in part on SBIC II for cash distributions to enable us to meet the distribution requirements to be subject to tax as a RIC. In this regard, SBIC II is limited by the SBA
regulations governing SBICs from making certain distributions to us that may be necessary to satisfy the requirements to be subject to tax as a RIC. In such a case, we would need to request a
waiver of the SBA’s restrictions for SBIC II to make certain distributions to enable us to be subject to tax as a RIC. We cannot assure you that the SBA will grant such waiver, and if SBIC II is
unable to obtain a waiver, compliance with the SBA regulations may cause us to incur a corporate-level income tax.
Regulations governing our operation as a BDC will affect our ability to, and the way in which we, raise additional capital.
Our business requires a substantial amount of capital. We may acquire additional capital from the issuance of additional senior securities or other indebtedness, the issuance of additional
shares of our common stock, the issuance of warrants or subscription rights to purchase certain of our securities, or from securitization transactions or through SBA debentures. However, we may
not be able to raise additional capital in the future on favorable terms or at all. We may issue debt securities or preferred securities, which we refer to collectively as “senior securities,” and we
may borrow money from banks, through the SBA debenture program or other financial institutions, up to the maximum amount permitted by the 1940 Act. Under the 1940 Act, the asset coverage
ratio requirements permit us to issue senior securities or incur indebtedness subject to certain limitations, exclusive of the SBA debentures pursuant to our SEC exemptive relief. Our ability to pay
distributions or issue additional senior securities would be restricted if our asset coverage ratio was not met. If the value of our assets declines, we may be unable to satisfy the asset coverage
ratio. If that happens, we may be required to liquidate a portion of our investments and repay a portion of our indebtedness at a time when such sales may be disadvantageous, which could
materially damage our business, financial condition and results of operations.
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Senior Securities. As a result of issuing senior securities, we are exposed to typical risks associated with leverage, including an increased risk of loss. If we issue preferred
securities, they would rank “senior” to common stock in our capital structure. Preferred stockholders would have separate voting rights and may have rights, preferences or
privileges more favorable than those of holders of our common stock. Furthermore, the issuance of preferred securities could have the adverse effect of delaying, deferring or
preventing a transaction or a change of control that might involve a premium price for our common stockholders or otherwise be in your best interest. Our senior securities may
include conversion features that cause them to bear risks more closely associated with an investment in our common stock.
Additional Common Stock. Our board of directors may decide to issue common stock to finance our operations rather than issuing debt or other senior securities. As a BDC, we
are generally not able to issue our common stock at a price below NAV per share without first obtaining certain approvals from our stockholders and our board of directors. Also,
subject to the requirements of the 1940 Act, we may issue rights to acquire our common stock at a price below the current NAV per share of the common stock if our board of
directors determines that such sale is in our best interests and the best interests of our common stockholders. In any such case, the price at which our securities are to be issued and
sold may not be less than a price, that in the determination of our board of directors, closely approximates the market value of such securities. However, when required to be
undertaken, the procedures used by the board of directors to determine the NAV per share of our common stock within 48 hours of each offering of our common stock may differ
materially from and will necessarily be more abbreviated than the procedures used by the board of directors to determine the NAV per share of our common stock at the end of
each quarter because there is a an extensive process each quarter to determine the NAV per share of our common stock which cannot be completed in 48 hours. The quarterly
process includes preliminary valuation conclusions, engagement of independent valuation firms and review by those firms of preliminary valuation conclusions. By contrast, the
procedures in connection with an offering may yield a NAV that is less precise than the NAV determined at the end of each quarter. We will not offer transferable subscription
rights to our stockholders at a price equivalent to less than the then current NAV per share of common stock, excluding underwriting commissions, unless we first file a post-
effective amendment that is declared effective by the SEC with respect to such issuance and the common stock to be purchased in connection with such rights represents no more
than one-third of our outstanding common stock at the time such rights are issued. In addition, for us to file a post-effective amendment to a registration statement on Form N-2,
we must then be qualified to register our securities under the requirements of Form S-3. We may actually issue shares above or below a future NAV. If we raise additional funds by
issuing more common stock or warrants or senior securities convertible into, or exchangeable for, our common stock, the percentage ownership of our common stockholders at
that time would decrease, and our common stockholders would experience voting dilution.
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Securitization. In addition to issuing securities to raise capital as described above, we anticipate that in the future, as market conditions and the rules and regulations of the SEC
permit, we may securitize our loans to generate cash for funding new investments. To securitize loans, we may create a wholly-owned subsidiary, contribute a pool of loans to the
subsidiary and have the subsidiary issue primarily investment grade debt securities to purchasers who we would expect to be willing to accept a substantially lower interest rate
than the loans earn. Even though we expect the pool of loans that we contribute to any such securitization vehicle to be rated below investment grade, because the securitization
vehicle’s portfolio of loans would secure all of the debt issued by such vehicle, a portion of such debt may be rated investment grade, subject in each case to market conditions that
may require such portion of the debt to be over collateralized and various other restrictions. If applicable accounting pronouncements or SEC staff guidance require us to
consolidate the securitization vehicle’s financial statements with our financial statements, any debt issued by it would be generally treated as if it were issued by us for purposes of
the asset coverage ratio applicable to us. In such case, we would expect to retain all or a portion of the equity and/or subordinated notes in the securitization vehicle. Our retained
equity would be exposed to any losses on the portfolio of loans before any of the debt securities would be exposed to such losses. Accordingly, if the pool of loans experienced a
low level of losses due to defaults, we would earn an incremental amount of income on our retained equity but we would be exposed, up to the amount of equity we retained, to
that proportion of any losses we would have experienced if we had continued to hold the loans in our portfolio. We may hold subordinated debentures in any such securitization
vehicle and, if so, we would not consider such securities to be senior securities. An inability to successfully securitize our loan portfolio could limit our ability to grow our
business and fully execute our business strategy and adversely affect our earnings, if any. Moreover, the successful securitization of a portion of our loan portfolio might expose us
to losses as the residual loans in which we do not sell interests will tend to be those that are riskier and less liquid.
SBA Debentures. In addition to issuing securities and using securitizations to raise capital as described above, we have issued and may in the future issue, as permitted under SBA
regulations and through our wholly owned subsidiary, SBIC II, and any future SBIC subsidiary, SBA debentures to generate cash for funding new investments. To issue SBA
debentures, we may request commitments for debt capital from the SBA. SBIC II is, and any future SBIC subsidiary may be, exposed to any losses on its portfolio of loans,
however, such debentures are non-recourse to us.
SBIC II may be unable to make distributions to us that will enable us to meet or maintain RIC tax status.
In order for us to continue to qualify for RIC tax treatment and to minimize corporate-level income taxes, we will be required to distribute substantially all of our consolidated investment
company taxable income and capital gains net income, including income from SBIC II, each taxable year as dividends to our stockholders. As noted above, we depend in part on SBIC II for cash
distributions to enable us to meet the RIC distribution requirements. SBIC II may be limited by SBA regulations governing SBICs from making certain distributions to us that may be necessary to
maintain our status as a RIC. We may have to request a waiver of the SBA’s restrictions for SBIC II to make certain distributions to maintain our RIC tax status. We cannot assure you that the
SBA will grant such waiver and if SBIC II is unable to obtain a waiver, compliance with the SBA regulations may result in corporate level income tax on us.
SBIC II is licensed by the SBA and is subject to SBA regulations.
SBIC II, our wholly owned subsidiary, received a license to operate as a SBIC under the 1958 Act and is regulated by the SBA. The SBA places certain limitations on the financing terms
of investments by SBICs in portfolio companies and regulates the types of financings and prohibits investing in certain industries. Compliance with SBIC requirements may cause SBIC II to
make investments at lower rates in order to qualify investments under the SBA regulations.
Further, SBA regulations require that a licensed SBIC be periodically examined and audited by the SBA to determine its compliance with the relevant regulations. If SBIC II fails to
comply with applicable regulations, the SBA could, depending on the severity of the violation, limit or prohibit its use of debentures, declare outstanding debentures immediately due and
payable, and/or limit it from making new investments. In addition, the SBA could revoke or suspend SBIC II’s license for willful or repeated violation of, or willful or repeated failure to observe,
any provision of the 1958 Act or any rule or regulation promulgated thereunder. These actions by the SBA would, in turn, negatively affect us because SBIC II is our wholly owned subsidiary.
SBA-guaranteed debentures are non-recourse to us, have a 10-year maturity, and may be prepaid at any time without penalty. The interest rate of SBA-guaranteed debentures is fixed at
the time of issuance at a market-driven spread over 10-year U.S. Treasury Notes. Leverage through SBA-guaranteed debentures is subject to required capitalization thresholds. Current SBA
regulations limit the amount that any single SBIC may borrow to a maximum of $175.0 million, which is up to twice its regulatory capital, and a maximum of $350.0 million as part of a group of
SBICs under common control.
We currently use borrowed funds to make investments and are exposed to the typical risks associated with leverage.
Because we borrow funds to make investments, we are exposed to increased risk of loss due to our use of debt to make investments. A decrease in the value of our investments will have a
greater negative impact on the NAV attributable to our common stock than it would if we did not use debt. Our ability to pay distributions may be restricted when our asset coverage ratio is not
met, exclusive of the SBA debentures pursuant to SEC exemptive relief, and any cash that we use to service our indebtedness is not available for distribution to our common stockholders.
Our current debt is governed by the terms of our Credit Facilities, 2024 Notes and SBA debentures and future debt may be governed by an indenture or other instrument containing
covenants restricting our operating flexibility. We, and indirectly our stockholders, bear the cost of issuing and servicing debt. Any convertible or exchangeable securities that we issue in the
future may have rights, preferences and privileges more favorable than those of our common stock and may also carry leverage related risks. Leverage magnifies the potential risks for loss and
the risks of investing in us, both as detailed below.
Additionally, SBIC II has received borrowed funds and may in the future receive funds from the SBA through its debenture program. In connection with the filing of its initial SBA license
application, PennantPark Investment received exemptive relief, in 2011, from the SEC to permit us to exclude the debt of our SBICs from our consolidated asset coverage ratio. Our ratio of total
assets on a consolidated basis to outstanding indebtedness may be less than the applicable asset coverage ratio, which while providing increased investment flexibility, would also increase our
exposure to risks associated with leverage.
If we incur additional debt, it could increase the risk of investing in our shares.
We have indebtedness outstanding pursuant to our Credit Facilities, 2024 Notes and SBA debentures and expect in the future to borrow additional amounts under our Credit Facilities or
other debt securities, subject to market availability, and, may increase the size of our Credit Facilities. We cannot assure you that our leverage will remain at current levels. The amount of
leverage that we employ will depend upon our assessment of the market and other factors at the time of any proposed borrowing. Lenders have fixed dollar claims on our assets that are superior
to the claims of our common stockholders or preferred stockholders, if any, and we have granted a security interest in our assets, excluding those of SBIC II, in connection with borrowings under
our Credit Facilities. In the case of a liquidation event, those lenders would receive proceeds before our stockholders. Additionally, the SBA, as a lender and an administrative agent, has a
superior claim over the assets of SBIC II in relation to our other creditors. Any future debt issuance will increase our leverage and may be subordinate to our Credit Facilities and SBA
debentures. In addition, borrowings or debt issuances and SBA debentures, also known as leverage, magnify the potential for loss or gain on amounts invested and, therefore, increase the risks
associated with investing in our securities. Leverage is generally considered a speculative investment technique. If the value of our assets decreases, then leveraging would cause the NAV
attributable to our common stock to decline more than it otherwise would have had we not utilized leverage. Similarly, any decrease in our revenue would cause our net income to decline more
than it would have had we not borrowed funds and could negatively affect our ability to make distributions on our common or preferred stock. Our ability to service any debt that we incur
depends largely on our financial performance and is subject to prevailing economic conditions and competitive pressures.
22
As noted above, on November 13, 2018 and February 5, 2019, our board of directors, including a “required majority” (as such term is defined in Section 57(o) of the 1940 Act), and our
stockholders, respectively, approved a reduction of our asset coverage ratio. As a result, as of February 6, 2019, the asset coverage requirement applicable to us for senior securities was reduced
from 200% to 150%. As of such date, we are able to incur additional indebtedness so long as we comply with the applicable disclosure requirements, which may increase the risk of investing in
us.
As of September 30, 2019 and 2018, our asset coverage ratio, as computed in accordance with the 1940 Act, was 207% and 292%, respectively. Since our leverage, including SBA
debentures outstanding, was 120% and 81% of our net assets as of September 30, 2019 and 2018, respectively, we would have to receive an annual return of at least 2.3% and 1.8%, respectively,
to cover annual interest payments.
As of September 30, 2019, we had outstanding borrowings of $472.6 million under our Credit Facilities, $150.0 million outstanding under the SBA debentures and $75 million of 2024
Notes outstanding. Our consolidated debt outstanding was $697.6 million and had a weighted average annual interest rate at the time of 4.2%, exclusive of the fee on undrawn commitment on our
Credit Facilities and upfront fees on the SBA debentures. This example is for illustrative purposes only, and actual interest rates on our Credit Facilities or any future borrowings are likely to
fluctuate. The costs associated with our borrowings, including any increase in the management fee or incentive fee payable to our Investment Adviser, are and will be borne by our common
stockholders.
The following table is designed to illustrate the effect on the return to a holder of our common stock of the leverage created by our use of borrowing as of September 30, 2019 of 53% of
total assets (including such borrowed funds), at the current interest rate at the time of 4.2%, and assumes hypothetical annual returns on our portfolio of minus 10 to plus 10 percent. The table also
assumes that we will maintain a constant level of leverage and weighted average interest rate. The amount of leverage and cost of borrowing that we use will vary from time to time. As can be
seen, leverage generally increases the return to stockholders when the portfolio return is positive and decreases return when the portfolio return is negative. Actual returns may be greater or less
than those appearing in the table.
Assumed return on portfolio (net of expenses) (1)
Corresponding return to common stockholders (2)
(10.0)%
(27.1)%
(5.0)%
(16.1)%
—%
(5.0)%
5.0%
6.0%
10.0%
17.1%
(1)
(2)
The assumed portfolio return is required by regulation of the SEC and is not a prediction of, and does not represent, our projected or actual performance.
In order to compute the “corresponding return to common stockholders,” the “assumed return on portfolio” is multiplied by the total value of our assets at the beginning of the period to
obtain an assumed return to us. From this amount, all interest expense expected to be accrued during the period is subtracted to determine the return available to stockholders. The return
available to stockholders is then divided by the total value of our net assets as of the beginning of the period to determine the “corresponding return to common stockholders.”
We may in the future determine to fund a portion of our investments with preferred stock, which is another form of leverage and would magnify the potential for loss and the risks of
investing in us.
Preferred stock, which is another form of leverage, has the same risks to our common stockholders as borrowings because the distributions on any preferred stock we issue must be
cumulative. If we issue preferred securities they would rank “senior” to common stock in our capital structure. Payment of distributions on, and repayment of the liquidation preference of, such
preferred stock would typically take preference over any distributions or other payments to our common stockholders. Also, preferred stockholders are not typically subject to any of our expenses
or losses and are not entitled to participate in any income or appreciation in excess of their stated preference. Furthermore, preferred stockholders would have separate voting rights and may have
rights, preferences or privileges more favorable than those of our common stockholders. Also, the issuance of preferred securities could have the adverse effect of delaying, deferring or
preventing a transaction or a change of control that might involve a premium price for our common stockholders or otherwise be in the best interest of stockholders.
We may in the future determine to fund a portion of our investments with debt securities, which would magnify the potential for loss and the risks of investing in us.
As a result of the issuance of our SBA debentures and borrowings under our Credit Facilities, we are exposed to typical risks associated with leverage, including an increased risk of loss
and an increase in expenses, which are ultimately borne by our common stockholders. Payment of interest on such debt securities must take preference over any other distributions or other
payments to our common stockholders. If we issue additional debt securities in the future, it is likely that such securities will be governed by an indenture or other instrument containing
covenants restricting our operating flexibility. In addition, such securities may be rated by rating agencies, and in obtaining a rating for such securities, we may be required to abide by operating
and investment guidelines that could further restrict our operating flexibility. Furthermore, any cash that we use to service our indebtedness would not be available for the payment of distributions
to our common stockholders.
Our credit ratings may not reflect all risks of an investment in our debt securities.
Our credit ratings, if any, are an assessment of our ability to pay our obligations. Consequently, real or anticipated changes in our credit ratings will generally affect the market value of
any publicly issued debt securities. Our credit ratings may not reflect the potential impact of risks related to market conditions or other factors discussed above on the market value of, or trading
market for, any publicly issued debt securities. Rating agencies have reviewed, and may continue to review, our credit ratings and those of other business development companies in light of the
SBCAA as well as any corresponding changes to asset coverage ratios and, in certain cases, downgrade such ratings. Such a downgrade in our credit ratings may adversely affect our securities.
A downgrade, suspension or withdrawal of the credit rating assigned by a rating agency to us or our 2024 Notes, if any, or change in the debt markets could cause the liquidity or market
value of our 2024 Notes to decline significantly.
Our credit ratings are an assessment by rating agencies of our ability to pay our debts when due. Consequently, real or anticipated changes in our credit ratings will generally affect the
market value of our 2024 Notes. Our credit ratings may not reflect the potential impact of risks relating to the structure or marketing of our 2024 Notes. Credit ratings are not a recommendation to
buy, sell or hold any security, and may be revised or withdrawn at any time by the issuing organization in its sole discretion. Neither we nor any underwriter undertakes any obligation to maintain
our credit ratings or to advise holders of our 2024 Notes of any changes in our credit ratings. There can be no assurance that our credit ratings will remain for any given period of time or that such
credit ratings will not be lowered or withdrawn entirely by any of the rating agencies if in their respective judgments future circumstances relating to the basis of the credit rating, such as adverse
changes in our Company, so warrant. The conditions of the financial markets and prevailing interest rates have fluctuated in the past and are likely to fluctuate in the future.
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Market conditions may make it difficult to extend the maturity of or refinance our existing indebtedness and any failure to do so could have a material adverse effect on our business.
Our Credit Facilities mature in May 2022 and September 2024, respectively, and our 2024 Notes mature in October 2024. Additionally, our SBA debentures mature between March 2026
and March 2028. We utilize proceeds from the Credit Facilities, our 2024 Notes and our SBA debentures to make investments in our portfolio companies. The duration of many of our
investments exceeds the duration of our indebtedness under our Credit Facilities, our 2024 Notes and certain of our SBA debentures. This means that we will have to extend the maturity of our
Credit Facilities or refinance our indebtedness in order to avoid selling investments at maturity of any of our debt investments, at which time such sales may be at prices that are disadvantageous
to us, which could materially damage our business. In addition, future market conditions may affect our ability to renew or refinance our Credit Facilities, our 2024 Notes and our SBA debentures
on terms as favorable as those in our existing indebtedness. If we fail to extend or refinance the indebtedness by the time it becomes due and payable, holders of the debt and/or the administrative
agent may elect to exercise various remedies, including the sale of all or a portion of the collateral securing such indebtedness, subject to certain restrictions, any of which could have a material
adverse effect on our business, financial condition and results of operations. The illiquidity of our investments may make it difficult for us to sell such investments. If we are required to sell our
investments on short-term notice, we may not receive the value that we have recorded for such investments, and this could materially affect our results of operations.
There are significant potential conflicts of interest which could impact our investment returns.
The professionals of the Investment Adviser and Administrator may serve as officers, directors or principals of entities that operate in the same or a related line of business as we do or of
investment funds managed by affiliates of us that currently exist or may be formed in the future. The Investment Adviser and Administrator may be engaged by such funds at any time and
without the prior approval of our stockholders or our board of directors. Our board of directors monitors any potential conflict that may arise upon such a development. Accordingly, if this
occurs, they may have obligations to investors in those entities, the fulfillment of which might not be in the best interests of us or our stockholders. Currently, the executive officers and directors,
as well as the current senior investment professionals of the Investment Adviser, may serve as officers and directors of our controlled affiliates and affiliated funds. In addition, we note that any
affiliated investment vehicles currently formed or formed in the future and managed by the Investment Adviser or its affiliates may have overlapping investment objectives with our own and,
accordingly, may invest in asset classes similar to those targeted by us. As a result, the Investment Adviser may face conflicts in allocating investment opportunities between us and such other
entities. Although the Investment Adviser will endeavor to allocate investment opportunities in a fair and equitable manner, it is possible that, in the future, we may not be given the opportunity
to participate in investments made by investment funds managed by the Investment Adviser or an investment manager affiliated with the Investment Adviser. In any such case, when the
Investment Adviser identifies an investment, it is forced to choose which investment fund should make the investment. We may co-invest on a concurrent basis with any other affiliates that the
Investment Adviser currently has or forms in the future, subject to compliance with applicable regulations and regulatory guidance, our exemptive relief and our allocation procedures.
In the ordinary course of our investing activities, we pay investment advisory and incentive fees to the Investment Adviser, and reimburse the Investment Adviser for certain expenses it
incurs. As a result, investors in our common stock invest on a “gross” basis and receive distributions on a “net” basis after expenses, resulting in a lower rate of return than an investor might
achieve through direct investments. Accordingly, there may be times when the management team of the Investment Adviser has interests that differ from those of our stockholders, giving rise to a
conflict. For example, the Investment Adviser may seek to invest in more speculative investments in order to increase its incentive fee, which practice could result in higher investment losses,
particularly during economic downturns.
We have entered into the License Agreement with PennantPark Investment Advisers, pursuant to which the Investment Adviser has agreed to grant us a royalty-free non-exclusive license
to use the name “PennantPark.” The License Agreement will expire (i) upon expiration or termination of the Investment Management Agreement, (ii) if the Investment Adviser ceases to serve as
our investment adviser, (iii) by either party upon 60 days’ written notice or (iv) by the Investment Adviser at any time in the event we assign or attempt to assign or sublicense the License
Agreement or any of our rights or duties thereunder without the prior written consent of the Investment Adviser. Other than with respect to this limited license, we have no legal right to the
“PennantPark” name.
In addition, we pay PennantPark Investment Administration, an affiliate of the Investment Adviser, our allocable portion of overhead and other expenses incurred by PennantPark
Investment Administration in performing its obligations under the Administration Agreement, including rent and our allocable portion of the cost of our Chief Financial Officer and Chief
Compliance Officer and their respective staffs. These arrangements may create conflicts of interest that our board of directors must monitor.
We are subject to risks associated with cybersecurity and cyber incidents.
Our business relies on secure information technology systems. These systems are subject to potential attacks, including through adverse events that threaten the confidentiality, integrity or
availability of our information resources (i.e., cyber incidents). These attacks could involve gaining unauthorized access to our information systems for purposes of misappropriating assets,
stealing confidential information, corrupting data or causing operational disruption and result in disrupted operations, misstated or unreliable financial data, liability for stolen assets or
information, increased cybersecurity protection and insurance costs, litigation and damage to our business relationships, any of which could have a material adverse effect on our business,
financial condition and results of operations. As our reliance on technology has increased, so have the risks posed to our information systems, both internal and those provided by the Investment
Adviser and third-party service providers. We, along with our Investment Adviser, have implemented processes, procedures and internal controls to help mitigate cybersecurity risks and cyber
intrusions, but these measures, as well as our increased awareness of the nature and extent of the risk of a cyber incident, may be ineffective and do not guarantee that a cyber incident will not
occur or that our financial results, operations or confidential information will not be negatively impacted by such an incident. In addition, the costs related to cyber or other security threats or
disruptions may not be fully insured or indemnified by other means. Furthermore, cybersecurity has become a top priority for regulators around the world, and some jurisdictions have enacted
laws requiring companies to notify individuals of data security breaches involving certain types of personal data. If we fail to comply with the relevant laws and regulations, we could suffer
financial losses, a disruption of our businesses, liability to investors, regulatory intervention or reputational damage.
We may experience fluctuations in our quarterly results.
We could experience fluctuations in our quarterly operating results due to a number of factors, including the interest rate payable on the debt securities we acquire, the default rate on such
securities, the level of our expenses, variations in, and the timing of the recognition of, realized and unrealized gains or losses, the degree to which we encounter competition in our markets and
general economic conditions. However, as a result of our irrevocable election to apply the fair value option to our Credit Facilities, future decreases of fair value of our debt is expected to have a
corresponding increase to our NAV. Similarly, future increases in the fair value of our debt may have a corresponding decrease to our NAV. Any future indebtedness that we elect the fair value
option for may have similar effects on our NAV as our Credit Facilities. This is expected to mitigate volatility in our earnings and NAV. As a result of these factors, results for any period should
not be relied upon as being indicative of performance in future periods.
Holders of any preferred stock that we may issue will have the right to elect members of the board of directors and have class voting rights on certain matters.
The 1940 Act requires that holders of shares of preferred stock must be entitled as a class to elect two directors at all times and to elect a majority of the directors if distributions on such
preferred stock are in arrears by two years or more, until such arrearage is eliminated. In addition, certain matters under the 1940 Act require the separate vote of the holders of any issued and
outstanding preferred stock, including conversion to open-end status and, accordingly, preferred stockholders could veto any such changes in addition to any ability of common and preferred
stockholders, voting together as a single class, to veto such matters. Restrictions imposed on the declarations and payment of distributions to the holders of our common stock and preferred stock,
both by the 1940 Act and by requirements imposed by rating agencies, might impair our ability to maintain our qualification as a RIC for U.S. federal income tax purposes, which could have a
material adverse effect on our business, financial condition and results of operations.
24
We may in the future issue securities for which there is no public market and for which we expect no public market to develop.
In order to raise additional capital, we may issue debt, or other securities for which no public market exists, and for which no public market is expected to develop. If we issue shares of
our common stock as a component of a unit security, we would expect the common stock to separate from the other securities in such unit after a period of time or upon occurrence of an event
and to trade publicly on The Nasdaq Global Select Market, which may cause volatility in our publicly traded common stock. To the extent we issue securities for which no public market exists
and for which no public market develops, a purchaser of such securities may not be able to liquidate the investment without considerable delay, if at all. If a market should develop for our debt
and other securities, the price may be highly volatile, and our debt and other securities may lose value.
If we issue preferred stock, debt securities or convertible debt securities, the NAV and market value of our common stock may become more volatile.
We cannot assure you that the issuance of preferred stock and/or debt securities would result in a higher yield or return to the holders of our common stock. The issuance of preferred
stock, debt securities and/or convertible debt would likely cause the NAV and market value of our common stock to become more volatile. If the dividend rate on the preferred stock, or the
interest rate on the debt securities, were to approach the net rate of return on our investment portfolio, the benefit of leverage to the holders of our common stock would be reduced or entirely
eliminated. If the dividend rate on the preferred stock, or the interest rate on the debt securities, were to exceed the net rate of return on our portfolio, the use of leverage would result in a lower
rate of return to the holders of common stock than if we had not issued the preferred stock or debt securities. Any decline in the NAV of our investment would be borne entirely by the holders of
our common stock. Therefore, if the market value of our portfolio were to decline, the leverage would result in a greater decrease in NAV to the holders of our common stock than if we were not
leveraged through the issuance of preferred stock, debt securities or convertible debt. This decline in NAV would also tend to cause a greater decline in the market price for our common stock.
There is also a risk that, in the event of a sharp decline in the value of our net assets, we would be in danger of failing to maintain required asset coverage ratios or other covenants which
may be required by the preferred stock, debt securities and/or convertible debt or risk a downgrade in the ratings of the preferred stock, debt securities and/or convertible debt or our current
investment income might not be sufficient to meet the dividend requirements on the preferred stock or the interest payments on the debt securities. In order to counteract such an event, we might
need to liquidate investments in order to fund redemption of some or all of the preferred stock, debt securities or convertible debt. In addition, we would pay (and the holders of our common
stock would bear) all costs and expenses relating to the issuance and ongoing maintenance of the preferred stock, debt securities, convertible debt or any combination of these securities. Holders
of preferred stock, debt securities, convertible debt or any combination of these securities may have different interests than holders of common stock and may at times have disproportionate
influence over our business.
The trading market or market value of any publicly issued debt or convertible debt securities may be volatile.
If we publicly issue debt or convertible debt securities, they initially will not have an established trading market. We cannot assure investors that a trading market for our publicly issued
debt or convertible debt securities would develop or be maintained if developed. In addition to our creditworthiness, many factors may have a material adverse effect on the trading market for,
and market value of, our publicly issued debt or convertible debt securities.
These factors include the following:
•
•
•
•
•
•
the time remaining to the maturity of these debt securities;
the outstanding principal amount of debt securities with terms identical or similar to these debt securities;
the supply of debt securities trading in the secondary market, if any;
the redemption, repayment or convertible features, if any, of these debt securities;
the level, direction and volatility of market interest rates; and
market rates of interest higher or lower than rates borne by the debt securities.
There also may be a limited number of buyers for our debt securities. This too may have a material adverse effect on the market value of the debt securities or the trading market for the
debt securities. Our debt securities may include convertible features that cause them to more closely bear risks associated with an investment in our common stock.
Terms relating to debt redemption may have a material adverse effect on the return on any debt securities.
If we issue debt securities that are redeemable at our option, we may choose to redeem the debt securities at times when prevailing interest rates are lower than the interest rate paid on the
debt securities. In addition, if the debt securities are subject to mandatory redemption, we may be required to redeem the debt securities at times when prevailing interest rates are lower than the
interest rate paid on the debt securities. In this circumstance, a holder of our debt securities may not be able to reinvest the redemption proceeds in a comparable security at an effective interest
rate as high as the debt securities being redeemed.
If we issue subscription rights or warrants for our common stock, your interest in us may be diluted as a result of such rights or warrants offering.
Stockholders who do not fully exercise rights or warrants issued to them in an offering of subscription rights or warrants to purchase our common stock should expect that they will, at the
completion of an offering, own a smaller proportional interest in us than would otherwise be the case if they fully exercised their rights or warrants. We cannot state precisely the amount of any
such dilution in share ownership because we do not know what proportion of the common stock would be purchased as a result of any such offering.
In addition, if the subscription price or warrant exercise price is less than our NAV per share of common stock at the time of an offering, then our stockholders would experience an
immediate dilution of the aggregate NAV of their shares as a result of the offering. The amount of any such decrease in NAV is not predictable because it is not known at this time what the
subscription price, warrant exercise price or NAV per share will be on the expiration date of such rights offering or what proportion of our common stock will be purchased as a result of any such
offering.
The impact of recent financial reform legislation on us is uncertain.
In light of current conditions in the U.S. and global financial markets and the U.S. and global economy, legislators, the presidential administration and regulators have increased their focus
on the regulation of the financial services industry. The Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, institutes a wide range of reforms that will have an
impact on financial institutions. However, the current presidential administration has announced its intention to repeal, amend or replace certain portions of the Dodd-Frank Act and the
regulations implemented thereunder, and has implemented certain appeals. Given the uncertainty associated with the manner in which and whether the provisions of the Dodd-Frank Act might be
implemented, repealed, amended or replaced, the full impact such requirements will have on our business, results of operations or financial condition is unclear. While we cannot predict what
effect any changes in the laws or regulations or their interpretations would have on us as a result of recent financial reform legislation, these changes could be materially adverse to us and our
stockholders. Accordingly, we are continuing to evaluate the effect the Dodd-Frank Act or implementing its regulations or any repeal or revision thereto will have on our business, financial
condition and results of operations.
25
Changes in laws or regulations governing our operations or those of our portfolio companies may adversely affect our business.
We and our portfolio companies are subject to laws and regulation at the local, state and federal levels. These laws and regulations, as well as their interpretation, may be changed from
time to time. Accordingly, any change in these laws or regulations that govern our operations or those of our portfolio companies could have a material adverse effect on our business, financial
condition and results of operations. In particular, on December 22, 2017, the Tax Cuts and Jobs Act was signed into law. This tax legislation lowers the general corporate income tax rate from
35 percent to 21 percent, makes changes regarding the use of net operating losses, repeals the corporate alternative minimum tax and makes significant changes with respect to the U.S.
international tax rules. In addition, the legislation generally requires a holder that uses the accrual method of accounting for U.S. tax purposes to include certain amounts in income no later than
the time such amounts are reflected on certain financial statements, which therefore if applicable would require us to accrue income earlier than under prior law, although the precise application
of this rule is un-clear at this time. The legislation also limits the amount or value of interest deductions of borrowers and in that way may potentially affect the loan market and our and our
portfolio companies’ use of leverage. For individual taxpayers, the legislation reduces the maximum individual income tax rate and eliminates the deductibility of miscellaneous itemized
deductions for taxable years 2018 through 2025. The impact of this new legislation is uncertain. See “Business—Regulation” for more information.
Uncertainty about presidential administration initiatives could negatively impact our business, financial condition and results of operations.
The current administration has called for significant changes to U.S. trade, healthcare, immigration, foreign and government regulatory policy. In this regard, there is significant
uncertainty with respect to legislation, regulation and government policy at the federal level, as well as the state and local levels. Recent events have created a climate of heightened uncertainty
and introduced new and difficult-to-quantify macroeconomic and political risks with potentially far-reaching implications. There has been a corresponding meaningful increase in the uncertainty
surrounding interest rates, inflation, foreign exchange rates, trade volumes and fiscal and monetary policy. To the extent the U.S. Congress or the current administration implements changes to
U.S. policy, those changes may impact, among other things, the U.S. and global economy, international trade and relations, unemployment, immigration, corporate taxes, healthcare, the U.S.
regulatory environment, inflation and other areas. Although we cannot predict the impact, if any, of these changes to our business, they could adversely affect our business, financial condition,
operating results and cash flows. Until we know what policy changes are made and how those changes impact our business and the business of our competitors over the long term, we will not
know if, overall, we will benefit from them or be negatively affected by them.
Our board of directors may change our investment objectives, operating policies and strategies without prior notice or stockholder approval.
Our board of directors has the authority to modify or waive certain of our operating policies and strategies without prior notice and without stockholder approval (except as required by the
1940 Act). However, absent stockholder approval, under the 1940 Act, we may not change the nature of our business so as to cease to be, or withdraw our election as, a BDC. We cannot predict
the effect any changes to our current operating policies and strategies would have on our business, operating results and value of our common stock. Nevertheless, the effects may adversely affect
our business and impact our ability to make distributions.
Our business and operations could be negatively affected if we become subject to stockholder activism, which could cause us to incur significant expense, hinder the execution of our
investment strategy or impact our stock price.
Stockholder activism, which could take many forms, including making public demands that we consider certain strategic alternatives, engaging in public campaigns to attempt to influence
our corporate governance and/or our management, and commencing proxy contests to attempt to elect the activists’ representatives or others to our board of directors, or arise in a variety of
situations, has been increasing in the BDC space recently. While we are currently not subject to any stockholder activism, due to the potential volatility of our stock price and for a variety of other
reasons, we may in the future become the target of stockholder activism. Stockholder activism could result in substantial costs and divert management’s and our board of directors’ attention and
resources from our business. Additionally, such stockholder activism could give rise to perceived uncertainties as to our future and adversely affect our relationships with service providers and
our portfolio companies. Also, we may be required to incur significant legal and other expenses related to any activist stockholder matters. Further, our stock price could be subject to significant
fluctuation or otherwise be adversely affected by the events, risks and uncertainties of any stockholder activism.
RISKS RELATING TO THE ILLIQUID NATURE OF OUR PORTFOLIO ASSETS
We invest in illiquid assets, and our valuation procedures with respect to such assets may result in recording values that are materially different than the values we ultimately receive upon
disposition of such assets.
All of our investments are recorded using broker or dealer quotes, if available, or at fair value as determined in good faith by our board of directors. We expect that most, if not all, of our
investments (other than cash and cash equivalents) and the fair value of the Credit Facilities will be classified as Level 3 under the Financial Accounting Standards Board, or FASB, Accounting
Standards Codification, or ASC, Topic 820, Fair Value Measurements and Disclosures, or ASC 820. This means that the portfolio valuations will be based on unobservable inputs and our own
assumptions about how market participants would price the asset or liability. We expect that inputs into the determination of fair values of our portfolio investments and borrowings under our
Credit Facilities will require significant management judgment or estimation. Even if observable market data are available, such information may be the result of consensus pricing information or
broker quotes, which include a disclaimer that the broker would not be held to such a price in an actual transaction. The non-binding nature of consensus pricing and/or quotes accompanied by
such a disclaimer materially reduces the reliability of such information. As a result, there will be uncertainty as to the value of our portfolio investments.
Determining fair value requires that judgment be applied to the specific facts and circumstances of each portfolio investment while employing a consistently applied valuation process for
the types of investments we make. In determining fair value in good faith, we generally obtain financial and other information from portfolio companies, which may represent unaudited,
projected or pro forma financial information. Unlike banks, we are not permitted to provide a general reserve for anticipated loan losses; we are instead required by the 1940 Act to specifically
fair value each individual investment on a quarterly basis. We record unrealized appreciation if we believe that our investment has appreciated in value. Likewise, we record unrealized
depreciation if we believe that our investment has depreciated in value. We adjust quarterly the valuation of our portfolio to reflect our board of directors’ determination of the fair value of each
investment in our portfolio. Any changes in fair value are recorded on our Consolidated Statements of Operations as net change in unrealized appreciation or depreciation.
All of our investments are recorded at fair value as determined in good faith by our board of directors. Our board of directors uses the services of nationally recognized independent
valuation firms to aid it in determining the fair value of our investments. The factors that may be considered in fair value pricing of our investments include the nature and realizable value of any
collateral, the portfolio company’s ability to make payments and its earnings and cash flows, the markets in which the portfolio company does business, comparison to publicly traded companies
and other relevant factors. Because valuations may fluctuate over short periods of time and may be based on estimates, our determinations of fair value may differ materially from the value
received in an actual transaction. Additionally, valuations of private securities and private companies are inherently uncertain. Our NAV could be adversely affected if our determinations
regarding the fair value of our investments were materially lower than the values that we ultimately realize upon the disposal of such investments.
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The lack of liquidity in our investments may adversely affect our business.
We may acquire our investments directly from the issuer in privately negotiated transactions. Substantially all of these securities are subject to legal and other restrictions on resale or are
otherwise less liquid than publicly traded securities. We typically exit our investments when the portfolio company has a liquidity event such as a sale, refinancing, or initial public offering of the
company, but we are generally not required to do so.
The illiquidity of our investments may make it difficult or impossible for us to sell such investments if the need arises, particularly at times when the market for illiquid securities is
substantially diminished. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the value at which we have previously recorded
our investments, which could have a material adverse effect on our business, financial condition and results of operations. In addition, we may face other restrictions on our ability to liquidate an
investment in a portfolio company to the extent that we have material non-public information regarding such portfolio company.
Investments purchased by us that are liquid at the time of purchase may subsequently become illiquid due to events relating to the issuer of the investments, market events, economic
conditions or investor perceptions. Domestic and foreign markets are complex and interrelated, so that events in one sector of the world markets or economy, or in one geographical region, can
reverberate and have materially negative consequences for other market, economic or regional sectors in a manner that may not be foreseen and which may materially harm our business.
A general disruption in the credit markets could materially damage our business.
We are susceptible to the risk of significant loss if we are forced to discount the value of our investments in order to provide liquidity to meet our debt maturities. Our borrowings under
our Credit Facilities are collateralized by the assets in our investment portfolio (excluding assets held by SBIC II). A general disruption in the credit markets could result in diminished demand
for our securities. In addition, with respect to over-the-counter traded securities, the continued viability of any over-the-counter secondary market depends on the continued willingness of dealers
and other participants to purchase the securities.
If the fair value of our assets declines substantially, we may fail to maintain the asset coverage ratio stipulated by the 1940 Act, which could, in turn, cause us to lose our status as a BDC
and materially impair our business operations. Our liquidity could be impaired further by an inability to access the capital markets or to draw down our Credit Facilities. These situations may
arise due to circumstances that we may be unable to control, such as a general disruption in the credit markets, a severe decline in the value of the U.S. dollar, a sharp economic downturn or an
operational problem that affects our counterparties or us, and could materially damage our business.
We may invest in over-the-counter securities, which have and may continue to face liquidity constraints, to provide us with liquidity.
The market for over-the-counter traded securities has and may continue to experience limited liquidity and other weakness as the viability of any over-the-counter secondary market
depends on the continued willingness of dealers and other participants to purchase the securities.
RISKS RELATED TO OUR INVESTMENTS
Our investments in prospective portfolio companies may be risky, and you could lose all or part of your investment.
We intend to invest primarily in first lien secured debt, second lien secured debt, subordinated debt and selected equity investments issued by U.S. and foreign middle-market companies.
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First Lien Secured Debt: When we extend first lien secured debt, we will generally take a security interest in the available assets of these portfolio companies, including the
equity interests of their subsidiaries, although this may not always be the case. We expect this security interest, if any, to help mitigate the risk that we will not be repaid. However,
there is a risk that the collateral securing our loans may decrease in value over time, may be difficult to sell in a timely manner, may be difficult to appraise and may fluctuate in
value based upon the success of the business and market conditions, including as a result of the inability of the portfolio company to raise additional capital. Also, in some
circumstances, our lien could be subordinated to claims of other creditors. In addition, deterioration in a portfolio company’s financial condition and prospects, including its
inability to raise additional capital, may be accompanied by deterioration in the value of the collateral for the loan. Consequently, the fact that a first lien secured debt investment
is secured does not guarantee that we will receive principal and interest payments according to the loan’s terms, or at all, or that we will be able to collect on the loan should we be
forced to enforce our remedies.
Second Lien Secured Debt: Our second lien secured debt usually ranks junior in priority of payment to first lien secured debt. Second lien secured debt holds a second priority
with regard to right of payment in the event of insolvency. Second lien secured debt ranks senior to subordinated debt and common and preferred equity in borrowers’ capital
structures. This may result in an above average amount of risk and volatility or a loss of principal. These investments may involve additional risks that could adversely affect our
investment returns. To the extent interest payments associated with such debt are deferred, such debt may be subject to greater fluctuations in valuations, and such debt could
subject us and our stockholders to non-cash income. Since we may not receive cash interest or principal prior to the maturity of some of our second lien secured debt investments,
such investments may be of greater risk than cash paying loans.
Subordinated Debt: Our subordinated debt usually ranks junior in priority of payment to first lien secured debt and second lien secured debt, and are often unsecured. As such,
other creditors may rank senior to us in the event of insolvency. Subordinated debt ranks senior to common and preferred equity in borrowers’ capital structures. This may result in
an above average amount of risk and volatility or a loss of principal. These investments may involve additional risks that could adversely affect our investment returns. To the
extent interest payments associated with such debt are deferred, such debt may be subject to greater fluctuations in valuations, and such debt could subject us and our stockholders
to non-cash income. Since we may not receive cash interest or principal prior to the maturity of some of our subordinated debt investments, such investments may be of greater
risk than cash paying loans.
Equity Investments: We have made and expect to continue to make select equity investments, all of which are subordinated to debt investments. In addition, when we invest in
first lien secured debt, second lien secured debt or subordinated debt, we may acquire warrants to purchase equity investments from time to time. Our goal is ultimately to dispose
of these equity investments and realize gains upon our disposition of such interests. However, the equity investments we receive may not appreciate in value and, in fact, may
decline in value. Accordingly, we may not be able to realize gains from our equity investments, and any gains that we do realize on the disposition of any equity investments may
not be sufficient to offset any other losses we experience. In addition, many of the equity securities in which we invest may not pay dividends on a regular basis, if at all.
Furthermore, we may hold equity investments in partnerships through a taxable subsidiary for federal income tax purposes. Upon sale or exit of such investment, we may pay
taxes at regular corporate tax rates, which will reduce the amount of gains or dividends available for distributions to our stockholders.
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In addition, investing in middle-market companies involves a number of significant risks, including:
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companies may be highly leveraged, have limited financial resources and may be unable to meet their obligations under their debt securities that we hold, which may be
accompanied by a deterioration in the value of any collateral and a reduction in the likelihood of us realizing any guarantees we may have obtained in connection with our
investment;
they typically have shorter operating histories, more limited publicly available information, narrower product lines, more concentration of revenues from customers and smaller
market shares than larger businesses, which tend to render them more vulnerable to competitors’ actions and changing market conditions, as well as general economic downturns;
they are more likely to depend on the management talents and efforts of a small group of persons; therefore, the death, disability, resignation or termination of one or more of
these persons could have a material adverse impact on our portfolio company and, in turn, on us;
they generally have less predictable operating results, may from time to time be parties to litigation, may be engaged in rapidly changing businesses with products subject to a
substantial risk of obsolescence, and may require substantial additional capital to support their operations, finance expansion or maintain their competitive position. In addition,
our executive officers, directors and our Investment Adviser may be named as defendants in litigation arising from our investments in the portfolio companies; and
they may have difficulty accessing the capital markets to meet future capital needs, which may limit their ability to grow or to refinance their outstanding indebtedness upon
maturity.
Under the 1940 Act we may invest up to 30% of our assets in investments that are not qualifying assets for BDCs. If we do not invest a sufficient portion of our assets in qualifying assets, we
could be precluded from investing in assets that we deem to be attractive.
As a BDC, we may not acquire any asset other than qualifying assets, as defined under the 1940 Act, unless at the time the acquisition is made such qualifying assets represent at least
70% of the value of our total assets. Qualifying assets include investments in U.S. operating companies whose securities are not listed on a national securities exchange and companies listed on a
national securities exchange subject to a maximum market capitalization of $250 million. Qualifying assets also include cash, cash equivalents, government securities and high quality debt
securities maturing in one year or less from the time of investment.
We believe that most of our debt and equity investments do and will constitute qualifying assets. However, we may be precluded from investing in what we believe are attractive
investments if such investments are not qualifying assets for purposes of the 1940 Act. If we have not invested a sufficient portion of our assets in qualifying assets at the time of a proposed
investment, we will be prohibited from making any additional investment that is not a qualifying asset and could be forced to forgo attractive investment opportunities. Similarly, these rules could
prevent us from making follow-on investments in existing portfolio companies (which could result in the dilution of our position) or could require us to dispose of investments at inappropriate
times in order to comply with the 1940 Act. If we need to dispose of such investments quickly, it would be difficult to dispose of such investments on favorable terms. For example, we may have
difficulty in finding a buyer and, even if we do find a buyer, we may have to sell the investments at a substantial loss.
We are a non-diversified investment company within the meaning of the 1940 Act, and therefore we generally are not limited with respect to the proportion of our assets that may be invested
in securities of a single issuer.
We are classified as a non-diversified investment company within the meaning of the 1940 Act, which means that we are not limited by the 1940 Act with respect to the proportion of our
assets that we may invest in securities of a single issuer, excluding limitations on investments in other investment companies and compliance with the RIC tax regulations. To the extent that we
assume large positions in the securities of a small number of issuers, our NAV may fluctuate to a greater extent than that of a diversified investment company as a result of changes in the financial
condition or the market’s assessment of the issuer. We may also be more susceptible to any single economic or regulatory occurrence than a diversified investment company. Beyond the
Diversification Requirements, we do not have fixed guidelines for portfolio diversification, and our investments could be concentrated in relatively few portfolio companies or industries.
Although we are classified as a non-diversified investment company within the meaning of the 1940 Act, we maintain the flexibility to operate as a diversified investment company and have done
so for an extended period of time. To the extent that we operate as a non-diversified investment company in the future, we may be subject to greater risk.
Economic recessions or downturns could impair our portfolio companies and harm our operating results.
Many of our portfolio companies are susceptible to economic or industry centric slowdowns or recessions and may be unable to repay debt from us during these periods. Therefore, our
non-performing assets are likely to increase, and the value of our portfolio is likely to decrease during these periods. Adverse economic conditions also may decrease the value of collateral
securing some of our debt investments and the value of our equity investments. Economic slowdowns or recessions could lead to financial losses in our portfolio and a material decrease in
revenues, net income and assets. Unfavorable economic conditions also could increase our funding costs, limit our access to the capital markets or result in a decision by lenders not to extend
credit to us. These events could prevent us from increasing investments and materially harm our operating results.
A portfolio company’s failure to satisfy financial or operating covenants imposed by us or other lenders could lead to defaults and potential termination of its debt and foreclosure on its
secured assets, which could trigger cross-defaults under other agreements and jeopardize our portfolio company’s ability to meet its obligations under the debt securities that we hold. We may
incur expenses to the extent necessary to seek recovery upon default or to negotiate new terms with a defaulting portfolio company, and any restructuring could further cause adverse effects on
our business. Depending on the facts and circumstances of our investments and the extent of our involvement in the management of a portfolio company, upon the bankruptcy of a portfolio
company, a bankruptcy court may recharacterize our debt investments as equity investments and subordinate all or a portion of our claim to that of other creditors. This could occur regardless of
how we may have structured our investment. In addition, we cannot assure you that a bankruptcy court would not take actions contrary to our interests.
If we fail to make follow-on investments in our portfolio companies, this could materially impair the value of our portfolio.
Following an initial investment in a portfolio company, we may make additional investments in that portfolio company as “follow-on” investments, in order to:
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increase or maintain in whole or in part our equity ownership percentage;
exercise warrants, options or convertible securities that were acquired in the original or subsequent financing; or
attempt to preserve or enhance the value of our investment.
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We have the discretion to make any follow-on investments, subject to the availability of capital resources and regulatory considerations. We may elect not to make follow-on investments
or otherwise lack sufficient funds to make those investments. Any failure to make follow-on investments may, in some circumstances, jeopardize the continued viability of a portfolio company
and our initial investment, or may result in a missed opportunity for us to increase our participation in a successful transaction or business. Even if we have sufficient capital to make a desired
follow-on investment, we may elect not to make a follow-on investment because we may not want to increase our concentration of risk, because we prefer other opportunities, or because we are
inhibited by compliance with BDC requirements or the desire to maintain our RIC tax status.
Because we do not generally hold controlling equity interests in our portfolio companies, we are not in a position to exercise control over our portfolio companies or to prevent decisions by
management of our portfolio companies that could decrease the value of our investments.
Because we do not generally have controlling equity positions in our portfolio companies, we are subject to the risk that a portfolio company may make business decisions with which we
disagree, and the stockholders and management of a portfolio company may take risks or otherwise act in ways that are adverse to our interests. Due to the lack of liquidity for the debt and equity
investments that we typically hold in our portfolio companies, we may not be able to dispose of our investments in the event we disagree with the actions of a portfolio company, and may
therefore suffer a decrease in the market value of our investments.
An investment strategy focused primarily on privately held companies, including controlling equity interests, presents certain challenges, including the lack of available or comparable
information about these companies, a dependence on the talents and efforts of only a few key portfolio company personnel and a greater vulnerability to economic downturns.
We have invested and intend to continue to invest primarily in privately held companies. Generally, little public information exists about these companies, and we rely on the ability of our
Investment Adviser’s investment professionals to obtain adequate information to evaluate the potential returns from investing in these companies. If they are unable to uncover all material
information about these companies, we may not make a fully informed investment decision, and we may lose value on our investments. Also, privately held companies frequently have less
diverse product lines and smaller market presence than larger competitors. These factors could have a material adverse impact on our investment returns as compared to companies investing
primarily in the securities of public companies.
Our portfolio companies may incur debt that ranks equally with, or senior to, our investments in such companies and our portfolio companies may be highly leveraged.
We invest primarily in first lien secured debt, second lien secured debt and subordinated debt and equity investments issued by our portfolio companies. The portfolio companies usually
will have, or may be permitted to incur, other debt that ranks equally with, or senior to, our investments, and they may be highly leveraged. By their terms, such debt instruments may provide that
the holders are entitled to receive payment of interest or principal on or before the dates on which we are entitled to receive payments with respect to our debt investments. Also, in the event of
insolvency, liquidation, dissolution, reorganization or bankruptcy of a portfolio company, holders of debt instruments ranking senior to our investment in that portfolio company would typically
be entitled to receive payment in full before we receive any distribution in respect of our investment. After repaying such senior creditors, the portfolio company may not have any remaining
assets to use for repaying its obligation to us. In the case of debt ranking equally with debt securities in which we invest, we would have to share on an equal basis any distributions with other
creditors holding such debt in the event of an insolvency, liquidation, dissolution, reorganization or bankruptcy of the relevant portfolio company.
Our incentive fee may induce the Investment Adviser to make speculative investments.
The incentive fee payable by us to PennantPark Investment Advisers may create an incentive for PennantPark Investment Advisers to make investments on our behalf that are risky or
more speculative than would be the case in the absence of such compensation arrangement. The incentive fee payable to our Investment Adviser is calculated based on a percentage of our NAV.
This may encourage our Investment Adviser to use leverage to increase the return on our investments. Under certain circumstances, the use of leverage may increase the likelihood of default,
which would disfavor the holders of our common stock. In addition, our Investment Adviser will receive the incentive fee based, in part, upon net capital gains realized on our investments.
Unlike that portion of the incentive fee based on income, there is no hurdle applicable to the portion of the incentive fee based on net capital gains. As a result, the Investment Adviser may have a
tendency to invest more capital in investments that are likely to result in capital gains as compared to income producing securities. Such a practice could result in our investing in more
speculative securities than would otherwise be the case, which could result in higher investment losses, particularly during economic downturns.
The part of our incentive fee payable by us to PennantPark Investment Advisers that relates to net investment income is computed and paid on income that has been accrued but that has
not been received in cash. PennantPark Investment Advisers is not obligated to reimburse us for any such incentive fees even if we subsequently incur losses or never receive in cash the deferred
income that was previously accrued. As a result, there is a risk that we will pay incentive fees with respect to income that we never receive in cash.
Any investments in distressed debt may not produce income and may require us to bear large expenses in order to protect and recover our investment.
Distressed debt investments may not produce income and may require us to bear certain additional expenses in order to protect and recover our investment. Therefore, to the extent we
invest in distressed debt, our ability to achieve current income for our stockholders may be diminished. We also will be subject to significant uncertainty as to when and in what manner and for
what value the distressed debt in which we invest will eventually be satisfied (e.g., through liquidation of the obligor’s assets, an exchange offer or plan of reorganization involving the distressed
debt securities or a payment of some amount in satisfaction of the obligation). In addition, even if an exchange offer is made or plan of reorganization is adopted with respect to distressed debt we
hold, there can be no assurance that the securities or other assets received by us in connection with such exchange offer or plan of reorganization will not have a lower value or income potential
than may have been anticipated when the investment was made. Moreover, any securities received by us upon completion of an exchange offer or plan of reorganization may be restricted as to
resale. If we participate in negotiations with respect to any exchange offer or plan of reorganization with respect to an issuer of distressed debt, we may be restricted from disposing of such
securities.
Our investments in foreign securities may involve significant risks in addition to the risks inherent in U.S. investments.
Our investment strategy contemplates potential investments in securities of companies located outside of the United States. Investments in securities of companies located outside of the
United States would not be qualifying assets under Section 55(a) of the 1940 Act. Investing in companies located outside of the United States may expose us to additional risks not typically
associated with investing in U.S. companies. These risks include changes in exchange control regulations, political, economic and social instability, expropriation, imposition of foreign taxes, less
liquid markets and less available information than is generally the case in the United States, higher transaction costs, less government supervision of exchanges, brokers and issuers, less
developed bankruptcy laws, difficulty in enforcing contractual obligations, lack of uniform accounting and auditing standards and greater price volatility.
Although most of our investments will be U.S. dollar-denominated, any investments denominated in a foreign currency will be subject to the risk that the value of a particular currency
will change in relation to one or more other currencies. Among the factors that may affect currency values are trade balances, the level of interest rates, differences in relative values of similar
assets in different currencies, long-term opportunities for investment and capital appreciation, economic and political developments. We may employ hedging techniques such as using our Credit
Facilities’ multicurrency capability to minimize these risks, but we can offer no assurance that we will, in fact, hedge currency risk or, that if we do, such strategies will be effective.
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We may make investments that cause our stockholders to bear investment advisory fees and other expenses on such investments in addition to our management fees and expenses.
We may invest, to the extent permitted by law, in the securities and instruments of other investment companies and companies that would be investment companies but are excluded from
the definition of an investment company provided in Section 3(c) of the 1940 Act. To the extent we so invest, we will bear our ratable share of any such investment company’s expenses,
including management and performance fees. We will also remain obligated to pay investment advisory fees, consisting of a base management fee and an incentive fee, to PennantPark
Investment Advisers with respect to investments in the securities and instruments of other investment companies under our Investment Management Agreement. With respect to any such
investments, each of our stockholders will bear his or her share of the investment advisory fees of PennantPark Investment Advisers as well as indirectly bearing the investment advisory fees and
other expenses of any investment companies in which we invest.
We may be obligated to pay our Investment Adviser incentive compensation even if we incur a loss.
Our Investment Adviser is entitled to incentive compensation for each fiscal quarter in an amount equal to a percentage of the excess of our investment income for that quarter (before
deducting incentive compensation, net operating losses and certain other items) above a threshold return for that quarter. Our Pre-Incentive Fee Net Investment Income for incentive compensation
purposes excludes realized and unrealized capital losses that we may incur in the fiscal quarter, even if such capital losses result in a net loss on our Consolidated Statements of Operations for that
quarter. Thus, we may be required to pay the Investment Adviser incentive compensation for a fiscal quarter even if there is a decline in the value of our portfolio, NAV or we incur a net loss for
that quarter. In addition, increases in interest rates may increase the amount of incentive fees we pay to the Investment Adviser even though our performance relative to the market has not
increased.
We may expose ourselves to risks if we engage in hedging transactions.
If we engage in hedging transactions, we may expose ourselves to risks associated with such transactions. We may borrow under a multicurrency credit facility in currencies selected to
minimize our foreign currency exposure or, to the extent permitted by the 1940 Act and applicable commodities laws, use instruments such as forward contracts, currency options and interest rate
swaps, caps, collars and floors to seek to hedge against fluctuations in the relative values of our portfolio positions from changes in currency exchange rates and market interest rates. Hedging
against a decline in the values of our interest rate or currency positions does not eliminate the possibility of fluctuations in the values of such positions or prevent losses if the values of such
positions decline. However, such hedging designed to gain from those changes in interest rates or foreign currency exposures, for instance, may also limit the opportunity for gain if the changes
in the underlying positions should move against such hedges. Moreover, it may not be possible to hedge against an exchange rate or interest rate fluctuation that is so generally anticipated that we
are not able to enter into a hedging transaction at an acceptable price.
While we may enter into such transactions to seek to reduce currency exchange rate and interest rate risks, unanticipated changes in currency exchange rates or interest rates may result in
worse overall investment performance than if we had not engaged in any such hedging transactions. In addition, the degree of correlation between price movements of the instruments used in a
hedging strategy and price movements in the portfolio positions being hedged may vary. Moreover, for a variety of reasons, we may not seek to establish a perfect correlation between such
hedging instruments and the portfolio holdings being hedged. Any such imperfect correlation may prevent us from achieving the intended hedge and expose us to risk of loss. In addition, it may
not be possible to hedge fully or perfectly against currency fluctuations affecting the value of securities denominated in non-U.S. currencies because the value of those securities is likely to
fluctuate as a result of factors not related to currency fluctuations. Our ability to engage in hedging transactions may also be adversely affected by the rules of the Commodity Futures Trading
Commission.
The effect of global climate change may impact the operations of our portfolio companies.
There may be evidence of global climate change. Climate change creates physical and financial risk and some of our portfolio companies may be adversely affected by climate change.
For example, the needs of customers of energy companies vary with weather conditions, primarily temperature and humidity. To the extent weather conditions are affected by climate change,
energy use could increase or decrease depending on the duration and magnitude of any changes. Increases in the cost of energy could adversely affect the cost of operations of our portfolio
companies if the use of energy products or services is material to their business. A decrease in energy use due to weather changes may affect some of our portfolio companies’ financial condition,
through decreased revenues. Extreme weather conditions in general require more system backup, adding to costs, and can contribute to increased system stresses, including service interruptions.
RISKS RELATING TO AN INVESTMENT IN OUR COMMON STOCK
We may obtain the approval of our stockholders to issue shares of our common stock at prices below the then current NAV per share of our common stock. If we receive such approval from
stockholders in the future, we may issue shares of our common stock at a price below the then current NAV per share of common stock. Any such issuance could materially dilute your
interest in our common stock and reduce our NAV per share.
We may seek to obtain from our stockholders and they may approve a proposal that authorizes us to issue shares of our common stock at prices below the then current NAV per share of
our common stock in one or more offerings for a 12-month period. Such approval would allow us to access the capital markets in a way that we were previously unable to do as a result of
restrictions that, absent stockholder approval, apply to BDCs under the 1940 Act.
Any sale or other issuance of shares of our common stock at a price below NAV per share will result in an immediate dilution to your interest in our common stock and a reduction of our
NAV per share. This dilution would occur as a result of a proportionately greater decrease in a stockholder’s interest in our earnings and assets and voting interest in us than the increase in our
assets resulting from such issuance. Because the number of future shares of common stock that may be issued below our NAV per share and the price and timing of such issuances are not
currently known, we cannot predict the actual dilutive effect of any such issuance. We also cannot determine the resulting reduction in our NAV per share of any such issuance at this time. We
caution you that such effects may be material, and we undertake to describe all the material risks and dilutive effects of any offerings we make at a price below our then current NAV in the future
in a prospectus supplement issued in connection with any such offering.
The determination of NAV in connection with an offering of shares of common stock will involve the determination by our board of directors or a committee thereof that we are not selling
shares of our common stock at a price below the then current NAV of our common stock at the time at which the sale is made or otherwise in violation of the 1940 Act unless we have previously
received the consent of the majority of our common stockholders to do so and the board of directors decides such an offering is in the best interests of our common stockholders. Whenever we do
not have current stockholder approval to issue shares of our common stock at a price per share below our then current NAV per share, the offering price per share (after any distributing
commission or discount) will equal or exceed our then current NAV per share, based on the value of our portfolio securities and other assets determined in good faith by our board of directors as
of a time within 48 hours (excluding Sundays and holidays) of the sale.
There is a risk that our stockholders may not receive distributions or that our distributions may not grow over time.
We intend to make distributions on a quarterly basis to our stockholders out of assets legally available for distribution. We cannot assure you that we will achieve investment results that
will allow us to make a specified level of cash distributions or year-to-year increases in cash distributions. In addition, due to the asset coverage ratio requirements applicable to us as a BDC, we
may be limited in our ability to make distributions. Further, if more stockholders opt to receive cash distributions rather than participate in our dividend reinvestment plan, we may be forced to
liquidate some of our investments and raise cash in order to make distribution payments, which could materially harm our business. Finally, to the extent we make distributions to stockholders
which include a return of capital, that portion of the distribution essentially constitutes a return of the stockholders’ investment. Although such return of capital may not be taxable, such
distributions may increase an investor’s tax liability for capital gains upon the future sale of our common stock.
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Investing in our shares may involve an above average degree of risk.
The investments we make in accordance with our investment objectives may result in a higher amount of risk and volatility than alternative investment options or loss of principal. Our
investments in portfolio companies may be highly speculative and aggressive and therefore, an investment in our shares may not be suitable for someone with lower risk tolerance.
Sales of substantial amounts of our securities may have an adverse effect on the market price of our securities.
Sales of substantial amounts of our securities, or the availability of such securities for sale, could adversely affect the prevailing market prices for our securities. If this occurs and
continues it could impair our ability to raise additional capital through the sale of securities should we desire to do so.
We may allocate the net proceeds from any offering of our securities in ways with which you may not agree.
We have significant flexibility in investing the net proceeds of any offering of our securities and may use the net proceeds from an offering in ways with which you may not agree or for
purposes other than those contemplated at the time of the offering.
Our shares may trade at discounts from NAV or at premiums that are unsustainable over the long term.
Shares of BDCs may trade at a market price that is less than the NAV that is attributable to those shares. Our shares have traded above and below our NAV. Our shares closed on The
Nasdaq Global Select Market at $6.27 and $7.46 on September 30, 2019 and 2018, respectively. Our NAV per share was $8.68 and $9.11 as of the same dates. The possibility that our shares of
common stock will trade at a discount from NAV or at a premium that is unsustainable over the long term is separate and distinct from the risk that our NAV will decrease. It is not possible to
predict whether our shares will trade at, above or below NAV in the future.
The market price of our common stock may fluctuate significantly.
The market price and liquidity of the market for shares of our common stock may be significantly affected by numerous factors, some of which are beyond our control and may not be
directly related to our operating performance. These factors include:
•
•
•
•
•
•
•
•
•
•
•
•
•
significant volatility in the market price and trading volume of securities of BDCs or other companies in our sector, which are not necessarily related to the operating performance
of these companies;
changes in regulatory policies or tax guidelines, particularly with respect to RICs, BDCs or SBICs;
any loss of our BDC or RIC status or any loss of our subsidiaries’ SBIC licenses;
changes in earnings or variations in operating results;
changes in prevailing interest rates;
changes in the value of our portfolio of investments;
any shortfall in revenue or net income or any increase in losses from levels expected by investors or securities analysts;
the inability of our Investment Adviser to employ additional experienced investment professionals or the departure of any of the Investment Adviser’s key personnel;
operating performance of companies comparable to us;
general national and international economic trends and other external factors;
general price and volume fluctuations in the stock markets, including as a result of short sales;
conversion features of subscription rights, warrants or convertible debt; and
loss of a major funding source.
Since our initial listing on The Nasdaq Global Select Market, our shares of common stock have traded at a wide range of prices. We can offer no assurance that our shares of common
stock will not display similar volatility in future periods.
We may be unable to invest the net proceeds raised from offerings on acceptable terms, which would harm our financial condition and operating results.
Until we identify new investment opportunities, we intend to either invest the net proceeds of future offerings in cash equivalents, U.S. government securities and other high-quality debt
investments that mature in one year or less or use the net proceeds from such offerings to reduce then-outstanding obligations under our Credit Facilities or any future credit facility. We cannot
assure you that we will be able to find enough appropriate investments that meet our investment selection criteria or that any investment we complete using the proceeds from an offering will
produce a sufficient return.
The SBA also limits an SBIC’s choices to invest idle funds to the following types of securities:
•
•
•
•
direct obligations of, or obligations guaranteed as to principal and interest by, the U.S. government, which mature within 15 months from the date of the investment;
repurchase agreements with federally insured institutions with a maturity of seven days or less (and the securities underlying the repurchase obligations must be direct obligations
of or guaranteed by the federal government);
certificates of deposit with a maturity of one year or less, issued by a federally insured institution; or
a deposit account in a federally insured institution that is subject to a withdrawal restriction of one year or less.
31
You may have current tax liabilities on distributions you reinvest in our common stock.
Under the dividend reinvestment plan, if you own shares of our common stock registered in your own name, you will have all cash distributions automatically reinvested in additional
shares of our common stock unless you opt out of the dividend reinvestment plan by delivering a written notice to the plan administrator prior to the record date of the next dividend or
distribution. If you have not “opted out” of the dividend reinvestment plan, you will be deemed to have received, and for federal income tax purposes will be taxed on, the amount reinvested in
our common stock to the extent the amount reinvested was not a tax-free return of capital. As a result, you may have to use funds from other sources to pay your income tax liabilities on the value
of the common stock received. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Distributions” for more
information.
There is a risk that our common stockholders may receive our stock as distributions in which case they may be required to pay taxes in excess of the cash they receive.
We may distribute our common stock as a dividend of our taxable income and a stockholder could receive a portion of the dividends declared and distributed by us in shares of our
common stock with the remaining amount in cash. A stockholder will be considered to have recognized dividend income generally equal to the fair market value of the stock paid by us plus cash
received with respect to such dividend. The total dividend declared would be taxable income to a stockholder even though he or she may only receive a relatively small portion of the dividend in
cash to pay any taxes due on the dividend. We have not elected to distribute stock as a dividend but reserve the right to do so.
We incur significant costs as a result of being a publicly traded company.
As a publicly traded company, we incur legal, accounting and other expenses, including costs associated with the periodic reporting requirements applicable to a company whose securities
are registered under the Exchange Act, as well as additional corporate governance requirements, including requirements under the Sarbanes-Oxley Act, and other rules implemented by the SEC
and the listing standards of The Nasdaq Stock Market LLC.
Provisions of the Maryland General Corporation Law and of our charter and bylaws could deter takeover attempts and have an adverse impact on the price of our common stock.
The Maryland General Corporation Law, our charter and our bylaws contain provisions that may discourage, delay or make more difficult a change in control of us or the removal of our
directors. We are subject to the Maryland Business Combination Act, or the Business Combination Act, the application of which is subject to any applicable requirements of the 1940 Act. Our
board of directors has adopted a resolution exempting from the Business Combination Act any business combination between us and any other person, subject to prior approval of such business
combination by our board, including approval by a majority of our disinterested directors. If the resolution exempting business combinations is repealed or our board does not approve a business
combination, the Business Combination Act may discourage third parties from trying to acquire control of us and increase the difficulty of consummating such an offer.
In addition, our bylaws exempt from the Maryland Control Share Acquisition Act acquisitions of our common stock by any person. If we amend our bylaws to repeal the exemption from
such act, it may make it more difficult for a third party to obtain control of us and increase the difficulty of consummating such an offer. Our bylaws require us to consult with the SEC staff before
we repeal such exemption. Also, our charter provides for classifying our board of directors in three classes serving staggered three-year terms, and provisions of our charter authorize our board of
directors to classify or reclassify shares of our stock in one or more classes or series, to cause the issuance of additional shares of our stock, and to amend our charter, without stockholder
approval, to increase or decrease the number of shares of stock that we have authority to issue.
These anti-takeover provisions may inhibit a change of control in circumstances that could give our stockholders the opportunity to realize a premium over the market price for our
common stock.
RISKS RELATING TO AN INVESTMENT IN OUR DEBT SECURITIES
The 2024 Notes are unsecured and therefore are effectively subordinated to any secured indebtedness we have currently incurred or may incur in the future.
The 2024 Notes are not secured by any of our assets or any of the assets of our subsidiaries. As a result, the 2024 Notes are effectively subordinated to any secured indebtedness we or our
subsidiaries have currently incurred and may incur in the future (or any indebtedness that is initially unsecured to which we subsequently grant security) to the extent of the value of the assets
securing such indebtedness. In any liquidation, dissolution, bankruptcy or other similar proceeding, the holders of any of our existing or future secured indebtedness and the secured indebtedness
of our subsidiaries may assert rights against the assets pledged to secure that indebtedness in order to receive full payment of their indebtedness before the assets may be used to pay other
creditors, including the holders of the 2024 Notes. As of September 30, 2019 and 2018, we had $301.6 million and $80.5 million (including a $2.0 million temporary draw), respectively, in
outstanding borrowings under the SunTrust Credit Facility. The SunTrust Credit Facility is secured by substantially all of our assets excluding assets held by Funding I and SBIC II. As of
September 30, 2019, Funding I had $171.0 million in outstanding borrowings under the BNP Credit Facility. The BNP Credit Facility is secured by all of our assets held by Funding I. The
indebtedness under the Credit Facilities is therefore effectively senior in right of payment to our 2024 Notes to the extent of the value of such assets.
The 2024 Notes are structurally subordinated to the indebtedness and other liabilities of our subsidiaries.
The 2024 Notes are obligations exclusively of PennantPark Investment Corporation and not of any of our subsidiaries. None of our subsidiaries is or acts as a guarantor of the 2024 Notes
and the 2024 Notes are not required to be guaranteed by any subsidiaries we may acquire or create in the future. Our secured indebtedness with respect to the SBA debentures is held through
SBIC II. The assets of any such subsidiaries are not directly available to satisfy the claims of our creditors, including holders of our 2024 Notes.
Except to the extent we are a creditor with recognized claims against our subsidiaries, all claims of creditors (including holders of preferred stock, if any, of our subsidiaries) will have
priority over our equity interests in such subsidiaries (and therefore the claims of our creditors, including holders of the 2024 Notes) with respect to the assets of such subsidiaries. Even if we are
recognized as a creditor of one or more of our subsidiaries, our claims would still be effectively subordinated to any security interests in the assets of any such subsidiary and to any indebtedness
or other liabilities of any such subsidiary senior to our claims. Consequently, the 2024 Notes are structurally subordinated to all indebtedness and other liabilities (including trade payables) of our
subsidiaries and any subsidiaries that we may in the future acquire or establish as financing vehicles or otherwise. As of September 30, 2019 and 2018, our SBIC Funds had $150 million and
$300.0 million in debt commitments, respectively, of which $150.0 million and $180.0 million was drawn. As of September 30, 2019, Funding I had $171.0 million in outstanding borrowings
under the BNP Credit Facility. All of such indebtedness is structurally senior to the 2024 Notes. In addition, our subsidiaries may incur substantial additional indebtedness in the future, all of
which would be structurally senior to the 2024 Notes.
32
The indenture under which the 2024 Notes were issued contains limited protection for their respective holders.
The indenture under which the 2024 Notes were issued offers limited protection to holders. The terms of the indenture and the 2024 Notes do not restrict our or any of our subsidiaries’
ability to engage in, or otherwise be a party to, a variety of corporate transactions, circumstances or events that could have an adverse impact on each holder’s investment in the 2024 Notes. In
particular, the terms of the indenture and the 2024 Notes will not place any restrictions on our or our subsidiaries’ ability to:
•
•
•
•
•
•
•
issue securities or otherwise incur additional indebtedness or other obligations, including (1) any indebtedness or other obligations that would be equal in right of payment to the
2024 Notes, (2) any indebtedness or other obligations that would be secured and therefore rank effectively senior in right of payment to the 2024 Notes to the extent of the values
of the assets securing such debt, (3) indebtedness of ours that is guaranteed by one or more of our subsidiaries and which therefore would rank structurally senior to the 2024
Notes and (4) securities, indebtedness or other obligations issued or incurred by our subsidiaries that would be senior in right of payment to our equity interests in our subsidiaries
and therefore would rank structurally senior in right of payment to the 2024 Notes with respect to the assets of our subsidiaries, in each case other than an incurrence of
indebtedness or other obligation that would cause a violation of Section 18(a)(1)(A) of the 1940 Act as modified by Section 61(a)(1) and (2) of the 1940 Act or any successor
provisions, as such obligations may be amended or superseded, giving effect to any exemptive relief granted to us by the SEC;
pay dividends on, or purchase or redeem or make any payments in respect of, capital stock or other securities ranking junior in right of payment to the 2024 Notes;
sell assets (other than certain limited restrictions on our ability to consolidate, merge or sell all or substantially all of our assets);
enter into transactions with affiliates;
create liens (including liens on the shares of our subsidiaries) or enter into sale and leaseback transactions;
make investments; or
create restrictions on the payment of dividends or other amounts to us from our subsidiaries.
In addition, the indenture will not require us to offer to purchase the Notes in connection with a change of control or any other event.
Furthermore, the terms of the indenture and the 2024 Notes do not protect their respective holders in the event that we experience changes (including significant adverse changes) in our
financial condition, results of operations or credit ratings, as they do not require that we or our subsidiaries adhere to any financial tests or ratios or specified levels of net worth, revenues, income,
cash flow or liquidity, except as required under the 1940 Act.
Our ability to recapitalize, incur additional debt and take a number of other actions that are not limited by the terms of the 2024 Notes may have important consequences for their holders,
including making it more difficult for us to satisfy our obligations with respect to the 2024 Notes or negatively affecting their trading value.
Certain of our current debt instruments include more protections for their respective holders than the indenture and the 2024 Notes. In addition, other debt we issue or incur in the future
could contain more protections for its holders than the indenture and the 2024 Notes, including additional covenants and events of default. The issuance or incurrence of any such debt with
incremental protections could affect the market for and trading levels and prices of the 2024 Notes.
The optional redemption provision may materially adversely affect your return on the 2024 Notes.
The 2024 Notes will be redeemable in whole or in part upon certain conditions at any time, or from time to time, at our option on or after October 15, 2021. We may choose to redeem the
2024 Notes at times when prevailing interest rates are lower than the interest rate paid on the Notes. In this circumstance, you may not be able to reinvest the redemption proceeds in a comparable
security at an effective interest rate as high as the 2024 Notes being redeemed.
An active trading market for the 2024 Notes may not develop or be maintained, which could limit their market price or the ability of their respective holders to sell them. If a rating agency
assigns the 2024 Notes a non-investment grade rating, they may be subject to greater price volatility than similar securities without such a rating.
Although the 2024 Notes are listed on The Nasdaq Global Select Market under the symbol “PNNTG,” we cannot provide any assurances that an active trading market will develop for the
2024 Notes or that their holders will be able to sell them. The 2024 Notes may trade at a discount from their initial offering price depending on prevailing interest rates, the market for similar
securities, our credit ratings, general economic conditions, our financial condition, performance and prospects and other factors. If a rating agency assigns the 2024 Notes a non-investment grade
rating, they may be subject to greater price volatility than securities of similar maturity without such a non-investment grade rating. We cannot assure holders of the 2024 Notes that a liquid
trading market will develop for them, that holders will be able to sell their 2024 Notes at a particular time or that the price holders receive upon such sale will be favorable. To the extent an active
trading market does not develop, the liquidity and trading price for our 2024 Notes may be harmed. Accordingly, holders of the 2024 Notes may be required to bear the financial risk for an
indefinite period of time.
If we default on our obligations to pay our other indebtedness, we may not be able to make payments on the 2024 Notes.
Any default under the agreements governing our indebtedness, including a default under our Credit Facilities or under other indebtedness to which we may be a party that is not waived by
the required lenders or holders, and the remedies sought by the holders of such indebtedness could make us unable to pay principal, premium, if any, and interest on the 2024 Notes and
substantially decrease the market value of the 2024 Notes. If we are unable to generate sufficient cash flow and are otherwise unable to obtain funds necessary to meet required payments of
principal, premium, if any, and interest on our indebtedness, or if we otherwise fail to comply with the various covenants, including financial and operating covenants, in the instruments
governing our indebtedness, we could be in default under the terms of the agreements governing such indebtedness. In the event of such default, the holders of such indebtedness could elect to
declare all the funds borrowed thereunder to be due and payable, together with accrued and unpaid interest, the lenders under our Credit Facilities or other debt we may incur in the future could
elect to terminate their commitments, cease making further loans and institute foreclosure proceedings against our assets, and we could be forced into bankruptcy or liquidation. If our operating
performance declines, we may in the future need to seek to obtain waivers from the required lenders under the agreements relating to our Credit Facilities or other debt that we may incur in the
future to avoid being in default. If we breach our covenants under our Credit Facilities or other debt and seek a waiver, we may not be able to obtain a waiver from the required lenders or holders.
If this occurs, we would be in default and our lenders or debt holders could exercise their rights as described above, and we could be forced into bankruptcy or liquidation. If we are unable to
repay debt, lenders having secured obligations, including the lenders under our Credit Facilities, could proceed against the collateral securing the debt. Because our Credit Facilities have, and any
future debt will likely have, customary cross-default provisions, if the indebtedness thereunder or under any future credit facility is accelerated, we may be unable to repay or finance the amounts
due.
33
FATCA withholding may apply to payments to certain foreign entities.
Payments made under the 2024 Notes to a foreign financial institution or non-financial foreign entity (including such an institution or entity acting as an intermediary) may be subject to a
U.S. withholding tax of 30% under the Foreign Account Tax Compliance Act (commonly known as “FATCA”) provisions of the Code. This U.S. withholding tax may apply to certain payments
of interest on the 2024 Notes as well as scheduled payments of principal, early redemption, or sale of the 2024 Notes, unless the foreign financial institution or non-financial foreign entity
complies with certain information reporting, withholding, identification, certification and related requirements imposed by FATCA. Depending upon the status of a holder and the status of an
intermediary through which any notes are held, the holder could be subject to this 30% U.S. withholding tax in respect of any interest paid on the notes as well as any proceeds from the sale or
other disposition of the notes. Holders of the 2024 Notes should consult their own tax advisors regarding FATCA and how it may affect their investment in the notes.
Item 1B.
Unresolved Staff Comments
None.
Item 2.
Properties
As of September 30, 2019, we did not own any real estate or other physical properties materially important to our operation. We believe that the office facilities of the Investment Adviser
and Administrator are suitable and adequate for our business as it is contemplated to be conducted.
Item 3.
Legal Proceedings
None of us, our Investment Adviser or our Administrator, is currently subject to any material legal proceedings, nor, to our knowledge, is any material legal proceeding threatened against
us, or against our Investment Adviser or Administrator. From time to time, we, our Investment Adviser or Administrator may be a party to certain legal proceedings, including proceedings
relating to the enforcement of our rights under contracts with our portfolio companies. While the outcome of these legal proceedings cannot be predicted with certainty, we do not expect that
these proceedings will have a material effect upon our financial condition or results of operations.
Item 4.
Mine Safety Disclosures
Not applicable.
34
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common stock is traded on The Nasdaq Global Select Market under the symbol “PNNT.”
PRICE RANGE OF COMMON STOCK
PART II
Shares of BDCs may trade at a market price both above and below the NAV that is attributable to those shares. Our shares have traded above and below our NAV. Our shares closed on
The Nasdaq Global Select Market at $6.27 and $7.46 as of September 30, 2019 and 2018, respectively. Our NAV per share was $8.68 and $9.11 as of the same dates. The possibility that our
shares of common stock will trade at a discount from NAV or at a premium that is unsustainable over the long term is separate and distinct from the risk that our NAV will decrease. It is not
possible to predict whether our shares will trade at, above or below our NAV in the future. As of November 21, 2019, we had 10 stockholders of record.
Sale of Unregistered Securities
We did not engage in any sales of unregistered securities during the year ended September 30, 2019.
Issuer Purchases of Equity Securities
Repurchases of our common stock under our share repurchase program during the year ended September 30, 2019 were as follows:
Period
October 1, 2018 through October 31, 2018
November 1, 2018 through November 30, 2018
December 1, 2018 through December 31, 2018
January 1, 2019 through January 31, 2019
February 1, 2019 through February 28, 2019
March 1, 2019 through March 31, 2019
April 1, 2019 through April 30, 2019
May 1, 2019 through May 9, 2019
Total
Total Number
of Shares
Purchased
—
464,543
561,878
—
712,432
270,000
—
—
2,008,853
Average Price
per Share
$
N/A
7.33
7.28
—
7.15
6.98
N/A
N/A
Total Number of Shares
Purchased as Part of
Publicly Announced Plans
or Programs (1)
Approximate Dollar Value
of Shares that May Yet Be
Purchased Under the Plans
or Programs (in millions)
—
464,543
561,878
—
712,432
270,000
—
—
2,008,853
15.0
11.6
7.5
—
2.4
0.5
0.5
—
(1)
On May 9, 2018, we announced a share repurchase program which allowed us to repurchase up to $30.0 million of our outstanding common stock. The program expired on May 9, 2019
and we repurchased 4.0 million shares of our common stock in open market transactions while the program was in effect for an aggregate cost (including transaction costs) of $29.5 million.
35
DISTRIBUTIONS
We intend to continue making quarterly distributions to our stockholders. The timing and amount of our quarterly distributions, if any, is determined by our board of directors. Any
distributions to our stockholders are declared out of assets legally available for distribution. We monitor available net investment income to determine if a tax return of capital may occur for the
fiscal year. To the extent our taxable earnings fall below the total amount of our distributions for any given fiscal year, a portion of those distributions may be deemed to be a tax return of capital
to our common stockholders.
In January 2020, a Form 1099-DIV will be sent to stockholders subject to information reporting that will state the amount and composition of distributions and provide information with
respect to appropriate tax treatment of our distributions.
The tax characteristics of distributions declared, in accordance with Section 19(a) of the 1940 Act, during the years ended September 30, 2019 and 2018 from ordinary income (including
short-term gains), if any, totaled $48.4 million and $50.6 million, or $0.72 and $0.72 per share, respectively, based on the weighted average shares outstanding for the respective periods.
We maintain an “opt out” dividend reinvestment plan for our common stockholders. As a result, if we declare a dividend or other distribution, then stockholders’ cash distributions will be
automatically reinvested in additional shares of our common stock, unless they specifically “opt out” of the dividend reinvestment plan so as to receive cash distributions.
We may not be able to achieve operating results that will allow us to make distributions at a specific level or to increase the amount of these distributions from time to time. In addition, we
may be limited in our ability to make distributions due to the asset coverage ratio for borrowings when applicable to us as a BDC under the 1940 Act and due to provisions in future credit
facilities. If we do not distribute a certain minimum percentage of our income annually, we will suffer adverse tax consequences, including possible loss of our ability to be subject to tax as a
RIC. We cannot assure stockholders that they will receive any distributions or distributions at a particular level.
Stock Performance Graph
This graph compares the return on our common stock with that of the Standard & Poor’s 500 Stock Index and the Russell 2000 Financial Services Index, for the last five fiscal years. The
graph assumes that, on September 30, 2014, a person invested $100 in each of our common stock, the S&P 500 Index, and the Russell 2000 Financial Services Index. The graph measures total
stockholder return, which takes into account both changes in stock price and distributions. It assumes that distributions paid are invested in like securities.
The graph and other information furnished under this Part II Item 5 of this Report shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation
14A or 14C, or to the liabilities of Section 18 of the Exchange Act. The stock price performance included in the above graph is not necessarily indicative of future stock price performance.
36
Item 6.
Selected Financial Data
We have derived the data below from our audited and unaudited financial data. The Consolidated Statements of Operations data, per share data and Consolidated Statements of Assets and
Liabilities data presented are derived from our audited Consolidated Financial Statements. These selected financial data should be read in conjunction with our Consolidated Financial Statements
and related notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
2019
For the years ended September 30,
2017
2018
2016
2015
(Dollar amounts in thousands, except per share data)
Consolidated Statements of Operations data:
Total investment income
Total expenses
Net investment income
Net realized and change in unrealized (loss) gain
Net increase (decrease) in net assets resulting from operations
Per share data:
Net asset value
Net investment income (2)
Net realized and unrealized (loss) gain (2)
Net increase (decrease) in net assets resulting from operations (2)
Distributions declared (2), (3)
Consolidated Statements of Assets and Liabilities data:
Total assets
Total investment portfolio
Borrowings outstanding (4)
Total net asset value
Other data:
Total return (5)
Number of portfolio companies (6)
Yield on debt portfolio (6)
$
112,107
67,510
44,597
(28,672)
15,925
8.68
0.66
(0.42)
0.24
0.72
1,285,838
1,219,433
683,758
581,906
(6.28)%
67
9.8%
$
$
(1)
108,278
54,944
53,334
(5,621)
47,713
$
(1)
124,534
68,096
56,438
5,273
61,712
$
(1)
142,071
71,456
70,615
(51,878)
18,737
9.11
0.75
(0.07)
0.68
0.72
1,160,119
1,132,085
504,342
628,902
9.70%
53
11.2%
9.10
0.79
0.08
0.87
0.82
1,202,196
1,153,578
526,067
646,808
10.80%
55
11.5%
9.05
0.99
(0.73)
0.26
1.11
1,238,936
1,153,680
559,589
643,367
36.64%
56
11.9%
161,629
79,371
82,258
(92,504)
(10,246)
9.82
1.10
(1.24)
(0.14)
1.11
1,368,778
1,299,048
602,865
716,591
(32.51)%
61
12.1%
(1)
(2)
(3)
(4)
(5)
(6)
Expenses before base management fee and incentive fee waivers were zero, $56,371 and $73,743 for the years ended September 30, 2019, 2018 and 2017, respectively.
Based on the weighted average shares outstanding for the respective years.
The tax status of our distributions is calculated in accordance with income tax regulations, which may differ from amounts determined under GAAP and is reported on Form 1099-DIV
each calendar year to stockholders subject to such information reporting.
At fair value, excluding our SBA debentures and our 2024 Notes.
Based on the change in market price per share during the periods and takes into account distributions, if any, reinvested at the closing price on the payment date.
Unaudited, at year end.
37
Item 7.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This Report, including Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains statements that constitute forward-looking statements, which
relate to us and our consolidated subsidiaries regarding future events or our future performance or future financial condition. These forward-looking statements are not historical facts, but rather
are based on current expectations, estimates and projections about our Company, our industry, our beliefs and our assumptions. The forward-looking statements contained in this Report involve
risks and uncertainties, including statements as to:
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
our future operating results;
our business prospects and the prospects of our prospective portfolio companies;
the dependence of our future success on the general economy and its impact on the industries in which we invest;
the impact of a protracted decline in the liquidity of credit markets on our business;
the impact of investments that we expect to make;
the impact of fluctuations in interest rates and foreign exchange rates on our business and our portfolio companies;
our contractual arrangements and relationships with third parties;
the valuation of our investments in portfolio companies, particularly those having no liquid trading market;
the ability of our prospective portfolio companies to achieve their objectives;
our expected financings and investments;
the adequacy of our cash resources and working capital;
the timing of cash flows, if any, from the operations of our prospective portfolio companies;
the impact of price and volume fluctuations in the stock market;
the ability of our Investment Adviser to locate suitable investments for us and to monitor and administer our investments;
the impact of future legislation and regulation on our business and our portfolio companies; and
the impact of Brexit and other world economic and political issues.
We use words such as “anticipates,” “believes,” “expects,” “intends,” “seeks,” “plans,” “estimates” and similar expressions to identify forward-looking statements. You should not place
undue influence on the forward-looking statements as our actual results could differ materially from those projected in the forward-looking statements for any reason, including the factors in
“Risk Factors” and elsewhere in this Report.
Although we believe that the assumptions on which these forward-looking statements are based are reasonable, any of those assumptions could prove to be inaccurate, and, as a result, the
forward-looking statements based on those assumptions also could be inaccurate. Important assumptions include our ability to originate new loans and investments, certain margins and levels of
profitability and the availability of additional capital. In light of these and other uncertainties, the inclusion of a projection or forward- looking statement in this Report should not be regarded as a
representation by us that our plans and objectives will be achieved.
We have based the forward-looking statements included in this Report on information available to us on the date of this Report, and we assume no obligation to update any such forward-
looking statements. Although we undertake no obligation to revise or update any forward-looking statements in this Report, whether as a result of new information, future events or otherwise,
you are advised to consult any additional disclosures that we may make directly to you or through reports that we in the future may file with the SEC, including reports on Form 10-Q/K and
current reports on Form 8-K.
You should understand that under Section 27A(b)(2)(B) of the Securities Act and Section 21E(b)(2)(B) of the Exchange Act, the “safe harbor” provisions of the Private Securities
Litigation Reform Act of 1995 do not apply to forward-looking statements made in periodic reports we file under the Exchange Act.
The following analysis of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and the related notes thereto
contained elsewhere in this Report.
Overview
PennantPark Investment Corporation is a BDC whose objectives are to generate both current income and capital appreciation while seeking to preserve capital through debt and equity
investments primarily made to U.S. middle-market companies in the form of first lien secured debt, second lien secured debt and subordinated debt and equity investments.
We believe middle-market companies offer attractive risk-reward to investors due to a limited amount of capital available for such companies. We seek to create a diversified portfolio that
includes first lien secured debt, second lien secured debt, subordinated debt and equity investments by investing approximately $10 million to $50 million of capital, on average, in the securities
of middle-market companies. We expect this investment size to vary proportionately with the size of our capital base. We use the term “middle-market” to refer to companies with annual
revenues between $50 million and $1 billion. The companies in which we invest are typically highly leveraged, and, in most cases, are not rated by national rating agencies. If such companies
were rated, we believe that they would typically receive a rating below investment grade (between BB and CCC under the Standard & Poor’s system) from the national rating agencies. Securities
rated below investment grade are often referred to as “leveraged loans” or “high yield” securities or “junk bonds” and are often higher risk compared to debt instruments that are rated above
investment grade and have speculative characteristics. Our debt investments may generally range in maturity from three to ten years and are made to U.S. and, to a limited extent, non-U.S.
corporations, partnerships and other business entities which operate in various industries and geographical regions.
Our investment activity depends on many factors, including the amount of debt and equity capital available to middle-market companies, the level of merger and acquisition activity for
such companies, the general economic environment and the competitive environment for the types of investments we make. We have used, and expect to continue to use, our debt capital,
proceeds from the rotation of our portfolio and proceeds from public and private offerings of securities to finance our investment objectives.
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Organization and Structure of PennantPark Investment Corporation
PennantPark Investment Corporation, a Maryland corporation organized in January 2007, is a closed-end, externally managed, non-diversified investment company that has elected to be
treated as a BDC under the 1940 Act. In addition, for federal income tax purposes we have elected to be treated, and intend to qualify annually, as a RIC under the Code.
SBIC II, our wholly owned subsidiary, was organized as a Delaware limited partnership in 2012. SBIC II received a license from the SBA to operate as a SBIC under Section 301(c) of the
1958 Act. SBIC II’s objectives are to generate both current income and capital appreciation through debt and equity investments generally by investing with us in SBA eligible businesses that
meet the investment selection criteria used by PennantPark Investment. During the year ended September 30, 2019, we liquidated and dissolved SBIC I.
Funding I, our wholly owned subsidiary and a special purpose entity, was organized in Delaware as a limited liability company in February 2019. We formed Funding I in order to
establish the BNP Credit Facility. The Investment Adviser serves as the servicer to Funding I and has irrevocably directed that the management fee owed to it with respect to such services be paid
to us so long as the Investment Adviser remains the servicer. This arrangement does not increase our consolidated management fee. The BNP Credit Facility allows Funding I to borrow up to
$250 million at LIBOR plus 260 basis points during the reinvestment period. The BNP Credit Facility is secured by all of the assets held by Funding I.
Our investment activities are managed by the Investment Adviser. Under our Investment Management Agreement, we have agreed to pay our Investment Adviser an annual base
management fee based on our average adjusted gross assets as well as an incentive fee based on our investment performance. PennantPark Investment, through the Investment Adviser, provides
similar services to SBIC II under its investment management agreement. SBIC II’s investment management agreement does not affect the management and incentive fees on a consolidated basis.
We have also entered into an Administration Agreement with the Administrator. Under our Administration Agreement, we have agreed to reimburse the Administrator for our allocable portion of
overhead and other expenses incurred by the Administrator in performing its obligations under our Administration Agreement, including rent and our allocable portion of the costs of
compensation and related expenses of our Chief Compliance Officer, Chief Financial Officer and their respective staffs. PennantPark Investment, through the Administrator, provides similar
services to SBIC II under its administration agreement with us. Our board of directors, a majority of whom are independent of us, provides overall supervision of our activities, and the
Investment Adviser supervises our day-to-day activities.
Revenues
We generate revenue in the form of interest income on the debt securities we hold and capital gains and dividends, if any, on investment securities that we may acquire in portfolio
companies. Our debt investments, whether in the form of first lien secured debt, second lien secured debt or subordinated debt, typically have a term of three to ten years and bear interest at a
fixed or a floating rate. Interest on debt securities is generally payable quarterly or semiannually. In some cases, our investments provide for deferred interest payments and PIK interest. The
principal amount of the debt securities and any accrued but unpaid interest generally becomes due at the maturity date. In addition, we may generate revenue in the form of amendment,
commitment, origination, structuring or diligence fees, fees for providing significant managerial assistance and possibly consulting fees. Loan origination fees, OID and market discount or
premium and deferred financing costs on liabilities, which we do not fair value, are capitalized and accreted or amortized using the effective interest method as interest income or, in the case of
deferred financing costs, as interest expense. Dividend income, if any, is recognized on an accrual basis on the ex-dividend date to the extent that we expect to collect such amounts. From time to
time, the Company receives certain fees from portfolio companies, which are non-recurring in nature. Such fees include loan prepayment penalties, structuring fees and amendment fees, and are
recorded as other investment income when earned.
Expenses
Our primary operating expenses include the payment of a management fee and the payment of an incentive fee to our Investment Adviser, if any, our allocable portion of overhead under
our Administration Agreement and other operating costs as detailed below. Our management fee compensates our Investment Adviser for its work in identifying, evaluating, negotiating,
consummating and monitoring our investments. Additionally, we pay interest expense on the outstanding debt and unused commitment fees on undrawn amounts, under our various debt facilities.
We bear all other direct or indirect costs and expenses of our operations and transactions, including:
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the cost of calculating our NAV, including the cost of any third-party valuation services;
the cost of effecting sales and repurchases of shares of our common stock and other securities;
fees payable to third parties relating to, or associated with, making investments, including fees and expenses associated with performing due diligence and reviews of prospective
investments or complementary businesses;
expenses incurred by the Investment Adviser in performing due diligence and reviews of investments;
transfer agent and custodial fees;
fees and expenses associated with marketing efforts;
federal and state registration fees and any exchange listing fees;
federal, state, local and foreign taxes;
independent directors’ fees and expenses;
brokerage commissions;
fidelity bond, directors and officers, errors and omissions liability insurance and other insurance premiums;
direct costs such as printing, mailing, long distance telephone and staff;
fees and expenses associated with independent audits and outside legal costs;
costs associated with our reporting and compliance obligations under the 1940 Act, the 1958 Act and applicable federal and state securities laws; and
all other expenses incurred by either the Administrator or us in connection with administering our business, including payments under our Administration Agreement that will be
based upon our allocable portion of overhead, and other expenses incurred by the Administrator in performing its obligations under our Administration Agreement, including rent
and our allocable portion of the costs of compensation and related expenses of our Chief Compliance Officer, Chief Financial Officer and their respective staffs.
Generally, during periods of asset growth, we expect our general and administrative expenses to be relatively stable or to decline as a percentage of total assets and increase during periods
of asset declines. Incentive fees, interest expense and costs relating to future offerings of securities would be additive to the expenses described above.
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PORTFOLIO AND INVESTMENT ACTIVITY
As of September 30, 2019, our portfolio totaled $1,219.4 million and consisted of $695.3 million of first lien secured debt, $269.3 million of second lien secured debt, $61.2 million of
subordinated debt and $193.7 million of preferred and common equity. Our debt portfolio consisted of 87% variable-rate investments and 13% fixed-rate investments. As of September 30, 2019,
we had no portfolio companies on non-accrual. Overall, the portfolio had net unrealized depreciation of $37.6 million as of September 30, 2019. Our overall portfolio consisted of 67 companies
with an average investment size of $18.2 million, had a weighted average yield on interest bearing debt investments of 9.8% and was invested 57% in first lien secured debt, 22% in second lien
secured debt, 5% in subordinated debt and 16% in preferred and common equity.
As of September 30, 2018, our portfolio totaled $1,132.1 million and consisted of $531.4 million of first lien secured debt, $391.1 million of second lien secured debt, $48.1 million of
subordinated debt and $161.5 million of preferred and common equity. Our debt portfolio consisted of 90% variable-rate investments and 10% fixed-rate investments. As of September 30, 2018,
we had no portfolio companies on non-accrual. Overall, the portfolio had net unrealized depreciation of $111.8 million as of September 30, 2018. Our overall portfolio consisted of 53 companies
with an average investment size of $21.4 million, had a weighted average yield on interest bearing debt investments of 11.2% and was invested 47% in first lien secured debt, 35% in second lien
secured debt, 4% in subordinated debt and 14% in preferred and common equity.
For the year ended September 30, 2019, we invested $533.6 million of investments in 24 new and 49 existing portfolio companies with a weighted average yield on debt investments of
9.4%. Sales and repayments of investments for the same period totaled $426.5 million.
For the year ended September 30, 2018, we invested $604.7 million of investments in 17 new and 33 existing portfolio companies with a weighted average yield on debt investments of
10.2%. Sales and repayments of investments for the same period totaled $630.5 million.
CRITICAL ACCOUNTING POLICIES
The preparation of our Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amount of our assets
and liabilities at the date of the Consolidated Financial Statements and the reported amounts of income and expenses during the reported periods. In the opinion of management, all adjustments,
which are of a normal recurring nature, considered necessary for the fair presentation of financial statements have been included. Actual results could differ from these estimates due to changes in
the economic and regulatory environment, financial markets and any other parameters used in determining such estimates and assumptions. We may reclassify certain prior period amounts to
conform to the current period presentation. We have eliminated all intercompany balances and transactions. References to ASC serve as a single source of accounting literature. Subsequent events
are evaluated and disclosed as appropriate for events occurring through the date the Consolidated Financial Statements are issued. In addition to the discussion below, we describe our critical
accounting policies in the notes to our Consolidated Financial Statements.
Investment Valuations
We expect that there may not be readily available market values for many of the investments which are or will be in our portfolio, and we value such investments at fair value as
determined in good faith by or under the direction of our board of directors using a documented valuation policy and a consistently applied valuation process, as described in this Report. With
respect to investments for which there is no readily available market value, the factors that the board of directors may take into account in pricing our investments at fair value include, as relevant,
the nature and realizable value of any collateral, the portfolio company’s ability to make payments and its earnings and discounted cash flow, the markets in which the portfolio company does
business, comparison to publicly traded securities and other relevant factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, we consider
the pricing indicated by the external event to corroborate or revise our valuation. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available
market value, the price used in an actual transaction may be different than our valuation and the difference may be material.
Our portfolio generally consists of illiquid securities, including debt and equity investments. With respect to investments for which market quotations are not readily available, or for
which market quotations are deemed not reflective of the fair value, our board of directors undertakes a multi-step valuation process each quarter, as described below:
(1) Our quarterly valuation process begins with each portfolio company or investment being initially valued by the investment professionals of our Investment Adviser responsible for
the portfolio investment;
(2)
Preliminary valuation conclusions are then documented and discussed with the management of our Investment Adviser;
(3) Our board of directors also engages independent valuation firms to conduct independent appraisals of our investments for which market quotations are not readily available or are
readily available but deemed not reflective of the fair value of the investment. The independent valuation firms review management’s preliminary valuations in light of their own
independent assessment and also in light of any market quotations obtained from an independent pricing service, broker, dealer or market maker;
(4)
The audit committee of our board of directors reviews the preliminary valuations of our Investment Adviser and those of the independent valuation firms on a quarterly basis,
periodically assesses the valuation methodologies of the independent valuation firms, and responds to and supplements the valuation recommendations of the independent
valuation firms to reflect any comments; and
(5) Our board of directors discusses these valuations and determines the fair value of each investment in our portfolio in good faith, based on the input of our Investment Adviser, the
respective independent valuation firms and the audit committee.
Our board of directors generally uses market quotations to assess the value of our investments for which market quotations are readily available. We obtain these market values from
independent pricing services or at the bid prices obtained from at least two brokers or dealers, if available, or otherwise from a principal market maker or a primary market dealer. The Investment
Adviser assesses the source and reliability of bids from brokers or dealers. If the board of directors has a bona fide reason to believe any such market quote does not reflect the fair value of an
investment, it may independently value such investments by using the valuation procedure that it uses with respect to assets for which market quotations are not readily available.
Fair value, as defined under ASC 820, is the price that we would receive upon selling an investment or pay to transfer a liability in an orderly transaction to a market participant in the
principal or most advantageous market for the investment or liability. ASC 820 emphasizes that valuation techniques maximize the use of observable market inputs and minimize the use of
unobservable inputs. Inputs refer broadly to the assumptions that market participants would use in pricing an asset or liability, including assumptions about risk. Inputs may be observable or
unobservable. Observable inputs reflect the assumptions market participants would use in pricing an asset or liability based on market data obtained from sources independent of us. Unobservable
inputs reflect the assumptions market participants would use in pricing an asset or liability based on the best information available to us on the reporting period date.
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ASC 820 classifies the inputs used to measure these fair values into the following hierarchies:
Level 1:
Inputs that are quoted prices (unadjusted) in active markets for identical assets or liabilities, accessible by us at the measurement date.
Level 2:
Inputs that are quoted prices for similar assets or liabilities in active markets, or that are quoted prices for identical or similar assets or liabilities in markets that are not
active and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term, if applicable, of the financial instrument.
Level 3:
Inputs that are unobservable for an asset or liability because they are based on our own assumptions about how market participants would price the asset or liability.
A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. Generally, most of our
investments, our Credit Facilities and our SBA debentures are classified as Level 3. Our 2019 Notes were, and our 2024 Notes are, classified as Level 2 as they are financial instruments with
readily observable market inputs. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the price used in an actual
transaction may be different than our valuation and those differences may be material.
In addition to using the above inputs to value cash equivalents, investments, our 2019 Notes, our SBA debentures, our 2024 Notes and our Credit Facilities valuations, we employ the
valuation policy approved by our board of directors that is consistent with ASC 820. Consistent with our valuation policy, we evaluate the source of inputs, including any markets in which our
investments are trading, in determining fair value.
The carrying value of our consolidated financial liabilities approximates fair value. We have adopted the principles under ASC Subtopic 825-10, Financial Instruments, or ASC 825-10,
which provides companies with an option to report selected financial assets and liabilities at fair value, and made an irrevocable election to apply ASC 825-10 to our Credit Facilities and, prior to
their redemption, the 2019 Notes and 2025 Notes. We elected to use the fair value option for the Credit Facilities and, prior to their redemption, the 2019 Notes and 2025 Notes to align the
measurement attributes of both our assets and liabilities while mitigating volatility in earnings from using different measurement attributes. Due to that election and in accordance with GAAP, we
incurred expenses of $7.1 million, zero and $3.9 million relating to amendment costs on the Credit Facilities during the years ended September 30, 2019, 2018 and 2017, respectively. ASC 825-
10 establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and
liabilities and to more easily understand the effect on earnings of a company’s choice to use fair value. ASC 825-10 also requires entities to display the fair value of the selected assets and
liabilities on the face of the Consolidated Statements of Assets and Liabilities and changes in fair value of the Credit Facilities and, prior to their redemption, the 2019 Notes and 2025 Notes are
reported in our Consolidated Statements of Operations. We did not elect to apply ASC 825-10 to any other financial assets or liabilities, including the 2024 Notes and SBA debentures. For the
years ended September 30, 2019 and 2018, the Credit Facilities and the 2019 Notes had a net change in unrealized depreciation of $5.7 million and $3.9 million, respectively. For the year ended
September 30, 2017, our SunTrust Credit Facility, the 2019 Notes and, prior to their redemption, the 2025 Notes had a net change in unrealized appreciation of $7.6 million. As of September 30,
2019, the net unrealized depreciation on our Credit Facilities totaled $7.2 million. As of September 30, 2018, the net unrealized depreciation on our Credit Facilities and the 2019 Notes totaled
$1.6 million. We use a nationally recognized independent valuation service to measure the fair value of our Credit Facilities and, prior to their redemption, the 2019 Notes in a manner consistent
with the valuation process that the board of directors uses to value our investments.
Revenue Recognition
We record interest income on an accrual basis to the extent that we expect to collect such amounts. For loans and debt investments with contractual PIK interest, which represents interest
accrued and added to the loan balance that generally becomes due at maturity, we will generally not accrue PIK interest when the portfolio company valuation indicates that such PIK interest is
not collectable. We do not accrue as a receivable interest on loans and debt investments if we have reason to doubt our ability to collect such interest. Loan origination fees, OID, market discount
or premium and deferred financing costs on liabilities, which we do not fair value, are capitalized and then accreted or amortized using the effective interest method as interest income or, in the
case of deferred financing costs, as interest expense. We record prepayment penalties on loans and debt investments as income. Dividend income, if any, is recognized on an accrual basis on the
ex-dividend date to the extent that we expect to collect such amounts. From time to time, the Company receives certain fees from portfolio companies, which are non-recurring in nature. Such
fees include loan prepayment penalties, structuring fees and amendment fees, and are recorded as other investment income when earned.
Net Realized Gains or Losses and Net Change in Unrealized Appreciation or Depreciation
We measure realized gains or losses by the difference between the net proceeds from the repayment or sale and the amortized cost basis of the investment, using the specific identification
method, without regard to unrealized appreciation or depreciation previously recognized, but considering unamortized upfront fees and prepayment penalties. Net change in unrealized
appreciation or depreciation reflects the change in the fair value of our portfolio investments, our Credit Facilities and, prior to their redemption, the 2019 and 2025 Notes during the reporting
period, including any reversal of previously recorded unrealized appreciation or depreciation, when gains or losses are realized.
Foreign Currency Translation
Our books and records are maintained in U.S. dollars. Any foreign currency amounts are translated into U.S. dollars on the following basis:
1.
2.
Fair value of investment securities, other assets and liabilities – at the exchange rates prevailing at the end of the applicable period; and
Purchases and sales of investment securities, income and expenses – at the exchange rates prevailing on the respective dates of such transactions.
Although net assets and fair values are presented based on the applicable foreign exchange rates described above, we do not isolate that portion of the results of operations due to changes
in foreign exchange rates on investments, other assets and debt from the fluctuations arising from changes in fair value of investments and liabilities held. Such fluctuations are included with the
net realized and unrealized gain or loss from investments and liabilities.
Payment-in-Kind, or, PIK Interest
We have investments in our portfolio which contain a PIK interest provision. PIK interest is added to the principal balance of the investment and is recorded as income. In order for us to
maintain our ability to be subject to tax as a RIC, substantially all of this income must be paid out to stockholders in the form of dividends for U.S. federal income tax purposes, even though we
may not have collected any cash with respect to interest on PIK securities.
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Federal Income Taxes
We have elected to be treated, and intend to qualify annually to maintain our election to be treated, as a RIC under Subchapter M of the Code. To maintain our RIC tax election, we must,
among other requirements, meet certain annual source-of-income and quarterly asset diversification requirements. We also must annually distribute dividends for U.S. federal income tax purposes
to our stockholders out of the assets legally available for distribution of an amount generally at least equal to 90% of the sum of our net ordinary income and realized net short-term capital gains
in excess of realized net long-term capital losses, or investment company taxable income, determined without regard to any deduction for dividends paid.
Although not required for us to maintain our RIC tax status, in order to preclude the imposition of a 4% nondeductible federal excise tax imposed on RICs, we must distribute dividends
for U.S. federal income tax purposes to our stockholders in respect of each calendar year of an amount at least equal to the Excise Tax Avoidance Requirement. In addition, although we may
distribute realized net capital gains (i.e., net long-term capital gains in excess of net short-term capital losses), if any, at least annually, out of the assets legally available for such distributions in
the manner described above, we have retained and may continue to retain such net capital gains or investment company taxable income, subject to maintaining our ability to be taxed as a RIC, in
order to provide us with additional liquidity.
Because federal income tax regulations differ from GAAP, distributions in accordance with tax regulations may differ from net investment income and net realized gain recognized for
financial reporting purposes. Differences between tax regulations and GAAP may be permanent or temporary. Permanent differences are reclassified among capital accounts in the Consolidated
Financial Statements to reflect their appropriate tax character. Temporary differences arise when certain items of income, expense, gain or loss are recognized at some time in the future.
We have formed and expect to continue to form certain taxable subsidiaries, including the Taxable Subsidiaries, which are taxed as corporations. These taxable subsidiaries allow us to
hold equity securities of certain portfolio companies treated as pass-through entities for U.S. federal income tax purposes while facilitating our ability to qualify as a RIC under the Code.
RESULTS OF OPERATIONS
Set forth below are the results of operations for the years ended September 30, 2019 and 2018. For information regarding results of operations for the year ended September 30, 2017, see
the Company's Form 10-K for the fiscal year ended September 30, 2018, as filed with the SEC on November 15, 2018.
Investment Income
Investment income for the year ended September 30, 2019 was $112.1 million and was attributable to $62.6 million from first lien secured debt, $41.4 million from second lien secured
debt and $8.1 million from subordinated debt and preferred and common equity. The increase in investment income over the prior year was primarily due to an increase in our portfolio at cost.
Investment income for the year ended September 30, 2018 was $108.3 million and was attributable to $49.5 million from first lien secured debt, $49.8 million from second lien secured
debt and $9.0 million from subordinated debt and preferred and common equity. The decrease in investment income over the prior year was primarily due to a reduction of our portfolio at cost.
Expenses
Net expenses for the year ended September 30, 2019 totaled $67.5 million. Base management fee for the same period totaled $18.2 million, incentive fee totaled $5.1 million, debt related
interest and expenses totaled $38.2 million (including one-time debt related cost of $9.2 million) and general and administrative expenses totaled $4.7 million. The increase in expenses over the
prior year was primarily due to an increase in debt related expenses and base management fees, partially offset by smaller incentive fees.
Net expenses for the year ended September 30, 2018 totaled $54.9 million. Base management fee for the same period totaled $16.5 million (after a base management fee waiver of $0.9
million), incentive fee totaled $11.0 million (after an incentive fee waiver of $0.5 million), debt related interest and expenses totaled $22.8 million and general and administrative expenses totaled
$4.6 million. The decrease in expenses over the prior year was primarily due to a decrease in debt related expenses and base management fees.
Net Investment Income
Net investment income totaled $44.6 million or $0.66 per share and $53.3 million or $0.75 per share for the years ended September 30, 2019 and 2018, respectively. The decrease in net
investment income per share compared to the prior year was primarily due to an increase in debt related expenses associated with the retirement of our 2019 Notes and amendments made to our
BNP and SunTrust Credit Facilities.
Net Realized Gains or Losses
Sales and repayments of investments for the years ended September 30, 2019 and 2018 totaled $426.5 million and $630.5 million, respectively, and net realized (losses) gains totaled
($108.5) million and $45.9 million, respectively. The change in realized gains/losses was primarily due to changes in the market conditions of our investments and the values at which they were
realized including the net realized loss on Superior Digital Displays, LLC during the year ended September 30, 2019.
Unrealized Appreciation or Depreciation on Investments, Credit Facilities, the 2019 Notes and the 2025 Notes
For the years ended September 30, 2019 and 2018, we reported net change in unrealized appreciation (depreciation) on investments of $74.1 million and $(55.3) million, respectively. As
of September 30, 2019 and 2018, our net unrealized depreciation on investments totaled $37.6 million and $111.8 million, respectively. The net change in unrealized appreciation/depreciation on
our investments for the year ended September 30, 2019 compared to the prior year was primarily due to changes in the capital market conditions, the financial performance of certain portfolio
companies (including certain of our controlled and non-controlled affiliated portfolio companies) and the reversal of unrealized appreciation/depreciation on investments that were realized.
For the years ended September 30, 2019 and 2018, our Credit Facilities and the 2019 Notes had a net change in unrealized depreciation of $5.7 million and $3.9 million, respectively. As
of September 30, 2019 and 2018, our net unrealized depreciation (appreciation) on our Credit Facilities and, prior to their redemption, the 2019 Notes totaled $7.2 million and $1.6 million,
respectively. The net change in unrealized depreciation for the year ended September 30, 2019 compared to the prior year was primarily due to changes in the capital markets.
Net Change in Net Assets Resulting From Operations
Net change in net assets resulting from operations totaled $15.9 million or $0.24 per share and $47.7 million or $0.68 per share for the years ended September 30, 2019 and 2018,
respectively. The decrease in the net change in net assets from operations for year ended September 30, 2019 compared to the prior year was primarily due to a lower yielding portfolio,
depreciation and net realized losses on our investments and credit facility amendment and debt issuance costs.
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LIQUIDITY AND CAPITAL RESOURCES
Our liquidity and capital resources are derived primarily from proceeds of securities offerings, debt capital and cash flows from operations, including investment sales and repayments, and
income earned. Our primary use of funds from operations includes investments in portfolio companies and payments of fees and other operating expenses we incur. We have used, and expect to
continue to use, our debt capital, proceeds from the rotation of our portfolio and proceeds from public and private offerings of securities to finance our investment objectives. As of September 30,
2019, in accordance with the 1940 Act, with certain limited exceptions, we are only allowed to borrow amounts such that we are in compliance with a 150% asset coverage ratio requirement after
such borrowing, excluding SBA debentures pursuant to exemptive relief from the SEC received in June 2011. For information regarding liquidity and capital resources for the year ended
September 30, 2017, see the Company's Form 10-K for the fiscal year ended September 30, 2018, as filed with the SEC on November 15, 2018.
On February 5, 2019, our stockholders approved the application of the modified asset coverage requirements set forth in Section 61(a)(2) of the 1940 Act, as amended by the Consolidated
Appropriations Act of 2018 (which includes the SBCAA) as approved by our board of directors on November 13, 2018. As a result, the asset coverage requirement applicable to us for senior
securities was reduced from 200% (i.e., $1 of debt outstanding for each $1 of equity) to 150% (i.e., $2 of debt outstanding for each $1 of equity), subject to compliance with certain disclosure
requirements.
As of September 30, 2019 and 2018, our asset coverage ratio, as computed in accordance with the 1940 Act, was 207% and 292%, respectively.
The annualized weighted average cost of debt for the years ended September 30, 2019 and 2018, inclusive of the fee on the undrawn commitment and amendment costs on the Credit
Facilities, amortized upfront fees on SBA debentures and debt retirement and issuance costs, was 6.0% and 4.5%, respectively.
On February 22, 2019, Funding I closed the BNP Credit Facility for up to $250.0 million in borrowings with certain lenders and BNP Paribas, as administrative agent, and The Bank of
New York Mellon Trust Company, N.A., as collateral agent. As of September 30, 2019, Funding I had $171.0 million in outstanding borrowings under the BNP Credit Facility. The BNP Credit
Facility had a weighted average interest rate of 4.6% as of September 30, 2019. The BNP Credit Facility is a five-year revolving facility with a stated maturity date of February 22, 2024 and
pricing set at 260 basis points over LIBOR. As of September 30, 2019, Funding I had $79.0 million of unused borrowing capacity under the BNP Credit Facility, subject to the regulatory
restrictions. The BNP Credit Facility is secured by all of our assets held by Funding I. As of September 30, 2019, we were in compliance with the terms of the BNP Credit Facility.
As of September 30, 2019, we had the multi-currency SunTrust Credit Facility for up to $475.0 million in borrowings with certain lenders and SunTrust Bank, acting as administrative
agent, and JPMorgan Chase Bank, N.A., acting as syndication agent for the lenders. As of September 30, 2019 and 2018, we had $301.6 million and $80.5 million (including a $2.0 million
temporary draw), respectively, in outstanding borrowings under the SunTrust Credit Facility. The SunTrust Credit Facility had a weighted average interest rate of 4.2% and 3.8%, respectively,
exclusive of the fee on undrawn commitments, as of September 30, 2019 and 2018. The SunTrust Credit Facility is a five-year revolving facility with a stated maturity date of September 4, 2024,
a one-year term-out period on September 4, 2023 and pricing set at 225 basis points over LIBOR. As of September 30, 2019 and 2018, we had $173.4 million and $364.5 million of unused
borrowing capacity under the SunTrust Credit Facility, respectively, subject to the regulatory restrictions. The SunTrust Credit Facility is secured by substantially all of our assets excluding assets
held by Funding I and our SBIC Fund. As of September 30, 2019, we were in compliance with the terms of the SunTrust Credit Facility.
In September 2019, we issued $75.0 million in aggregate principal amount of 2024 Notes, for net proceeds of $72.3 million after deducting underwriting discounts and offering costs.
Interest on the 2024 Notes is paid quarterly on January 15, April 15, July 15 and October 15, at a rate of 5.50% per year, commencing January 15, 2020. The 2024 Notes mature on October 15,
2024. The 2024 Notes are direct unsecured obligations and rank pari passu in right of payment with our existing and future unsecured unsubordinated indebtedness. The 2024 Notes are
structurally subordinated to all existing and future indebtedness and other obligations of any of our subsidiaries, financing vehicles, or similar facilities. The 2024 Notes may be redeemed in
whole or in part at our option on or after October 15, 2021 at a redemption price of 100% of the outstanding principal amount of the 2024 Notes plus accrued and unpaid interest.
In September 2014, we issued $250.0 million in aggregate principal amount of 2019 Notes, for net proceeds of $245.5 million after underwriting discounts and offering costs. Interest on
the 2019 Notes was paid semi-annually on April 1 and October 1, at a rate of 4.50% per year. On March 4, 2019 the 2019 Notes were redeemed in full and no amounts were outstanding as of
September 30, 2019. The 2019 Notes were redeemed on March 4, 2019 at a redemption price equal to $1,008.65 for each $1,000.00 of principal of notes outstanding, plus accrued and unpaid
interest to March 4, 2019, pursuant to the indenture governing the 2019 Notes. Please refer to our indenture agreement filed as Exhibit (d)(8) to our post-effective amendment filed on January 22,
2013 and the supplemental indenture agreement filed as Exhibit (d)(11) to our post-effective amendment filed on September 23, 2014 for more information.
We may raise additional equity or debt capital through both registered offerings off our shelf registration statement and private offerings of securities, by securitizing a portion of our
investments or borrowing from the SBA, among other sources. Any future additional debt capital we incur, to the extent it is available, may be issued at a higher cost and on less favorable terms
and conditions than our current Credit Facilities or SBA debentures. Furthermore, our Credit Facilities availability depends on various covenants and restrictions. The primary use of existing
funds and any funds raised in the future is expected to be for repayment of indebtedness, investments in portfolio companies, cash distributions to our stockholders or for other general corporate
or strategic purposes such as our stock repurchase program.
On May 9, 2018, we announced a share repurchase program which allowed us to repurchase up to $30 million of our outstanding common stock in the open market at prices below our
NAV as reported in our then most recently published consolidated financial statements. The program expired on May 9, 2019. During the years ended September 30, 2019 and 2018, we
repurchased 2.0 million and 2.0 million shares of common stock, respectively, in open market transactions for an aggregate cost (including transaction costs) of $14.5 million and $15.0 million,
respectively. From May 9, 2018 through the program’s expiration, we purchased 4.0 million shares of common stock in open market transactions for an aggregate cost (including transaction
costs) of $29.5 million.
SBIC II is able to borrow funds from the SBA against regulatory capital (which approximates equity capital) that is paid-in and is subject to customary regulatory requirements including an
examination by the SBA. During the year ended September 30, 2019 we liquidated and dissolved SBIC I. We have funded SBIC II with $75.0 million of equity capital and it had SBA debentures
outstanding of $150.0 million as of September 30, 2019. SBA debentures are non-recourse to us and may be prepaid at any time without penalty. The interest rate of SBA debentures is fixed at the time
of issuance, often referred to as pooling, at a market-driven spread over 10-year U.S. Treasury Notes. Under current SBA regulations, a SBIC may individually borrow to a maximum of $175.0 million,
which is up to twice its potential regulatory capital, and as part of a group of SBICs under common control may borrow a maximum of $350.0 million in the aggregate.
As of September 30, 2019 and 2018, our SBIC Funds had $150.0 million and $300.0 million in debt commitments, respectively, of which $150.0 million and $180.0 million was drawn,
respectively. As of September 30, 2019 and 2018, the unamortized fees on the SBA debentures were $3.9 million and $4.6 million, respectively. The SBA debentures’ upfront fees of 3.4% consist of a
commitment fee of 1.0% and an issuance discount of 2.4%, which are being amortized.
43
Our fixed-rate SBA debentures were as follows:
Issuance Dates
Maturity
Fixed All-in Coupon Rate (1)
March 23, 2016
September 21, 2016
September 20, 2017
March 21, 2018
Weighted Average Rate / Total
March 1, 2026
September 1, 2026
September 1, 2027
March 1, 2028
2.9%
2.4
2.9
3.5
3.1%
Issuance Dates
Maturity
Fixed All-in Coupon Rate (1)
September 21, 2011
March 23, 2016
September 21, 2016
September 20, 2017
March 21, 2018
Weighted Average Rate / Total
(1)
Excluding 3.4% of upfront fees.
September 1, 2021
March 1, 2026
September 1, 2026
September 1, 2027
March 1, 2028
3.4%
2.9
2.4
2.9
3.5
3.2%
As of September 30, 2019
Principal Balance
22,500,000
25,000,000
31,500,000
71,000,000
150,000,000
As of September 30, 2018
Principal Balance
30,000,000
22,500,000
25,000,000
31,500,000
71,000,000
180,000,000
$
$
$
The SBIC program is designed to stimulate the flow of capital into eligible businesses. Under SBA regulations, SBIC II is subject to regulatory requirements, including making
investments in SBA eligible businesses, investing at least 25% of regulatory capital in eligible smaller businesses, as defined under the 1958 Act, placing certain limitations on the financing terms
of investments, prohibiting investment in certain industries and requiring capitalization thresholds that limit distributions to us, and are subject to periodic audits and examinations of their
financial statements that are prepared on a basis of accounting other than GAAP (for example, fair value, as defined under ASC 820, is not required to be used for assets or liabilities for such
compliance reporting). As of September 30, 2019, SBIC II was in compliance with their regulatory requirements.
In accordance with the 1940 Act, with certain limited exceptions, PennantPark Investment is only allowed to borrow amounts such that our required 150% asset coverage ratio is met after such
borrowing. As of September 30, 2019 and 2018, we excluded the principal amounts of our SBA debentures from our asset coverage ratio pursuant to SEC exemptive relief. In 2011, we received
exemptive relief from the SEC allowing us to modify the asset coverage ratio requirement to exclude the SBA debentures from the calculation. Accordingly, our ratio of total assets on a consolidated
basis to outstanding indebtedness may be less than 150% which, while providing increased investment flexibility, also increases our exposure to risks associated with leverage.
As of September 30, 2019 and 2018, we had cash and cash equivalents of $59.5 million and $19.5 million, respectively, available for investing and general corporate purposes. We believe
our liquidity and capital resources are sufficient to take advantage of market opportunities.
Our operating activities used cash of $81.1 million for the year ended September 30, 2019, and our financing activities provided cash of $121.1 million for the same period. Our operating
activities provided cash from sales and repayments on our investments and our financing activities provided cash primarily for net borrowings under our credit facilities as well as the issuance of
the 2024 Notes, partially offset by cash used by our stock repurchase program.
Our operating activities provided cash of $66.9 million for the year ended September 30, 2018, and our financing activities used cash of $85.6 million for the same period. Our operating
activities provided cash from sales and repayments on our investments and our financing activities used cash primarily for net repayments of the SBA debentures and our stock repurchase
program.
For more information regarding our borrowing arrangements, see “Business—Leverage” above.
Contractual Obligations
A summary of our significant contractual payment obligations at cost as of September 30, 2019, including borrowings under our various debt facilities and other contractual obligations, is
as follows:
BNP Credit Facility
SunTrust Credit Facility
SBA debentures
2024 Notes
Total debt outstanding (1)
Unfunded investments (2)
Total contractual obligations
Total
Less than 1 year
Payments due by period (in millions)
1-3 years
3-5 years
$
$
171.0
301.6
150.0
75.0
697.6
30.4
728.0
$
$
—
—
—
—
—
—
—
$
$
—
—
—
—
—
2.0
2.0
$
$
More than 5 years
—
$
—
150.0
75.0
225.0
8.5
233.5
$
171.0
301.6
—
—
472.6
19.9
492.6
(1)
(2)
The annualized weighted average cost of debt as of September 30, 2019, excluding debt issuance and retirement costs, was 4.2% exclusive of the fee on the undrawn commitment on the
Credit Facilities and of upfront fees on SBA debentures.
Unfunded debt and equity investments are disclosed in the Consolidated Schedule of Investments and Note 12 of our Consolidated Financial Statements.
We have entered into certain contracts under which we have material future commitments. Under our Investment Management Agreement, which was reapproved by our board of
directors, including a majority of our directors who are not interested persons of us or the Investment Adviser, in February 2019, and subsequently amended and restated in April 2019, as
approved by our board of directors, including a majority of our directors who are not interested persons of us or our Investment Adviser, PennantPark Investment Advisers serves as our
investment adviser. PennantPark Investment, through the Investment Adviser, provides similar services to SBIC II under its investment management agreement with us. SBIC II’s investment
management agreement does not affect the management or incentive fees that we pay to the Investment Adviser on a consolidated basis. Payments under our Investment Management Agreement
in each reporting period are equal to (1) a management fee equal to a percentage of the value of our average adjusted gross assets and (2) an incentive fee based on our performance.
44
Under our Administration Agreement, which was most recently reapproved by our board of directors, including a majority of our directors who are not interested persons of us, in
February 2019, the Administrator furnishes us with office facilities and administrative services necessary to conduct our day-to-day operations. PennantPark Investment, through the
Administrator, provides similar services to SBIC II under its administration agreements, which are intended to have no effect on the consolidated administration fee. If requested to provide
significant managerial assistance to our portfolio companies, we or the Administrator will be paid an additional amount based on the services provided. Payment under our Administration
Agreement is based upon our allocable portion of the Administrator’s overhead in performing its obligations under our Administration Agreement, including rent and our allocable portion of the
costs of our Chief Compliance Officer, Chief Financial Officer and their respective staffs.
If any of our contractual obligations discussed above are terminated, our costs under new agreements that we enter into may increase. In addition, we will likely incur significant time and
expense in locating alternative parties to provide the services we expect to receive under our Investment Management Agreement and our Administration Agreement. Any new investment
management agreement would also be subject to approval by our stockholders.
Recent Developments
Subsequent to year end, we issued an additional $11.3 million in aggregate principal of the 2024 Notes at par value, generating net proceeds of $10.9 million after underwriting discounts and
offering expenses payable by us, as a result of the underwriters’ full exercise of the option to purchase additional 2024 Notes we granted to them in connection with the offering that closed in September
2019. In total, the Company has issued $86.3 of 2024 Notes at par value, generating net proceeds of $83.2 million.
Subsequent to year end, the SBA issued a "green light" or "go forth" letter inviting the Company to file an application to obtain a license to form and operate a third Small Business Investment
Company ("SBIC") subsidiary. Receipt of a green light letter from the SBA does not assure an applicant that the SBA will ultimately issue an SBIC license or of the timeframe in which it would
receive a license, should one ultimately be granted.
Subsequent to year end, we have invested approximately $70 million.
Off-Balance Sheet Arrangements
We currently engage in no off-balance sheet arrangements other than our funding requirements for the unfunded investments described above.
Distributions
In order to be treated as a RIC for federal income tax purposes and to not be subject to corporate-level tax on undistributed income or gains, we are required, under Subchapter M of the
Code, to annually distribute dividends for U.S. federal income tax purposes to our stockholders out of the assets legally available for distribution of an amount generally at least equal to 90% of
our investment company taxable income, determined without regard to any deduction for dividends paid.
Although not required for us to maintain our RIC tax status, in order to preclude the imposition of a 4% nondeductible federal excise tax imposed on RICs, we must distribute dividends
for U.S. federal income tax purposes to our stockholders in respect of each calendar year of an amount at least equal to the Excise Tax Avoidance Requirement. In addition, although we may
distribute realized net capital gains (i.e., net long-term capital gains in excess of net short-term capital losses), if any, at least annually, out of the assets legally available for such distributions in
the manner described above, we have retained and may continue to retain such net capital gains or investment company taxable income, contingent on our ability to be subject to tax as a RIC, in
order to provide us with additional liquidity.
During the years ended September 30, 2019 and 2018, we declared distributions of $0.72 per share and $0.72 per share, respectively, for total distributions of $48.4 million and $50.6
million. We monitor available net investment income to determine if a return of capital for tax purposes may occur for the fiscal year. To the extent our taxable earnings fall below the total
amount of our distributions for any given fiscal year, stockholders will be notified of the portion of those distributions deemed to be a tax return of capital. Tax characteristics of all distributions
will be reported to stockholders subject to information reporting on Form 1099-DIV after the end of each calendar year and in our periodic reports filed with the SEC.
We intend to continue to make quarterly distributions to our stockholders. Our quarterly distributions, if any, are determined by our board of directors.
We maintain an “opt out” dividend reinvestment plan for our common stockholders. As a result, if we declare a distribution, then stockholders’ cash distributions will be automatically
reinvested in additional shares of our common stock, unless they specifically “opt out” of the dividend reinvestment plan so as to receive cash distributions.
We may not be able to achieve operating results that will allow us to make distributions at a specific level or to increase the amount of these distributions from time to time. In addition, we
may be limited in our ability to make distributions due to the asset coverage ratio for borrowings applicable to us as a BDC under the 1940 Act and/or due to provisions in future credit facilities.
If we do not distribute at least a certain percentage of our income annually, we could suffer adverse tax consequences, including possible loss of our ability to be subject to tax as a RIC. We
cannot assure stockholders that they will receive any distributions at a particular level.
Recent Accounting Pronouncements
In August 2018, the FASB issued ASU 2018-13, which changed the fair value measurement disclosure requirements of ASC 820. The key provisions include new, eliminated and
modified disclosure requirements. The new guidance is effective for fiscal years beginning after December 15, 2019, including interim periods therein. Early application is permitted. The
Company is currently evaluating the impact the adoption of this new accounting standard will have on its consolidated financial statements, but the impact of the adoption is not expected to be
material.
In August 2018, the SEC issued Securities Act Release No. 33-10532, Disclosure Update and Simplification, or the Final Rule Release, amending certain disclosure requirements that
were redundant, duplicative, overlapping, outdated or superseded. The amendments are intended to facilitate the disclosure of information to investors and simplify compliance. The Final Rule
Release became effective for all filings on or after November 5, 2018. We adopted these amendments as currently required and they are reflected in the Company’s consolidated financial
statements and related disclosures. Certain prior year information has been adjusted to conform to these amendments.
In March 2019, the SEC issued the Final Rule Release No. 33-10618, FAST Act Modernization and Simplification of Regulation S-K, which amends certain SEC disclosure requirements.
The amendments are intended to simplify certain disclosure requirements and to provide for a consistent set of rules to govern incorporating information by reference and hyperlinking, improve
readability and navigability of disclosure documents, and discourage repetition and disclosure of immaterial information. The amendments are effective for all filings submitted on or after May 2,
2019. We adopted these amendments as currently required and they are reflected in the Company’s consolidated financial statements and related disclosures. Certain prior year information has
been adjusted to conform to these amendments.
45
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
We are subject to financial market risks, including changes in interest rates. As of September 30, 2019, our debt portfolio consisted of 87% variable-rate investments and 13% fixed-rate
investments. The variable-rate loans are usually based on a LIBOR rate and typically have durations of three months after which they reset to current market interest rates. Variable-rate
investments subject to a floor generally reset by reference to the current market index after one to nine months only if the index exceeds the floor. In regards to variable-rate instruments with a
floor, we do not benefit from increases in interest rates until such rates exceed the floor and thereafter benefit from market rates above any such floor. In contrast, our cost of funds, to the extent it
is not fixed, will fluctuate with changes in interest rates since it has no floor.
Assuming that the most recent Consolidated Statements of Assets and Liabilities was to remain constant, and no actions were taken to alter the interest rate sensitivity, the following table
shows the annualized impact of hypothetical base rate changes in interest rates:
Change in Interest Rates
Down 1%
Up 1%
Up 2%
Up 3%
Up 4%
$
$
$
$
$
Change in Interest Income,
Net of Interest Expense
(in thousands)
Change in Interest Income,
Net of Interest
Expense Per Share
(4,220)
4,220
8,439
12,659
16,908
$
$
$
$
$
(0.06)
0.06
0.13
0.19
0.25
Although management believes that this measure is indicative of our sensitivity to interest rate changes, it does not adjust for potential changes in the credit market, credit quality, size and
composition of the assets on the Consolidated Statements of Assets and Liabilities and other business developments that could affect net increase in net assets resulting from operations, or net
investment income. Accordingly, no assurances can be given that actual results would not differ materially from those shown above.
Because we borrow money to make investments, our net investment income is dependent upon the difference between the rate at which we borrow funds and the rate at which we invest
these funds as well as our level of leverage. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our net investment
income or net assets.
We may hedge against interest rate and foreign currency fluctuations by using standard hedging instruments such as futures, options and forward contracts or our Credit Facilities subject
to the requirements of the 1940 Act and applicable commodities laws. While hedging activities may insulate us against adverse changes in interest rates and foreign currencies, they may also
limit our ability to participate in benefits of lower interest rates or higher exchange rates with respect to our portfolio of investments with fixed interest rates or investments denominated in
foreign currencies. During the periods covered by this Report, we did not engage in interest rate hedging activities or foreign currency derivatives hedging activities.
46
Item 8.
Consolidated Financial Statements and Supplementary Data
Management’s Report on Internal Control over Financial Reporting
Report of Independent Registered Public Accounting Firm
Report of Independent Registered Public Accounting Firm On Internal Control Over Financial Reporting
Consolidated Statements of Assets and Liabilities as of September 30, 2019 and 2018
Consolidated Statements of Operations for the years ended September 30, 2019, 2018 and 2017
Consolidated Statements of Changes in Net Assets for the years ended September 30, 2019, 2018 and 2017
Consolidated Statements of Cash Flows for the years ended September 30, 2019, 2018 and 2017
Consolidated Schedules of Investments as of September 30, 2019 and 2018
Notes to the Consolidated Financial Statements
47
Page
48
49
50
51
52
53
54
55
61
Management’s Report on Internal Control Over Financial Reporting
The management of PennantPark Investment Corporation (except where the context suggests otherwise, the terms “we,” “us,” “our” and “PennantPark Investment” refer to PennantPark
Investment Corporation and its Subsidiaries) is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-
15(f), and for performing an assessment of the effectiveness of internal control over financial reporting as of September 30, 2019. Our internal control system is a process designed to provide
reasonable assurance to our management and board of directors regarding the preparation and fair presentation of published financial statements.
PennantPark Investment’s internal control over financial reporting includes policies and procedures that pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect transactions recorded necessary to permit the preparation of financial statements in accordance with U.S. generally accepted accounting principles. Our policies and procedures also
provide reasonable assurance that receipts and expenditures are being made only in accordance with authorizations of management and the directors of PennantPark Investment, and provide
reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.
All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with
respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of PennantPark Investment’s internal control over financial reporting as of September 30, 2019. In making this assessment, we used the criteria set
forth by the Committee of Sponsoring Organizations of the Treadway Commission in 2013 Internal Control—Integrated Framework. Based on the assessment management believes that, as of
September 30, 2019, our internal control over financial reporting is effective based on those criteria.
PennantPark Investment’s independent registered public accounting firm has issued an audit report on the effectiveness of our internal control over financial reporting as of September 30,
2019. This report appears on page 50.
48
To the Stockholders and the Board of Directors of
PennantPark Investment Corporation and its Subsidiaries
Opinion on the Financial Statements
Report of Independent Registered Public Accounting Firm
We have audited the accompanying consolidated statements of assets and liabilities, including the consolidated schedules of investments, of PennantPark Investment Corporation and its
Subsidiaries (collectively referred to as the Company) as of September 30, 2019 and 2018, and the related consolidated statements of operations, changes in net assets and cash flows for each of
the three years in the period ended September 30, 2019, and the related notes to the consolidated financial statements of the Company (collectively, the financial statements). In our opinion, the
financial statements present fairly, in all material respects, the financial position of the Company as of September 30, 2019 and 2018, and the results of its operations and its cash flows for each of
the three years in the period ended September 30, 2019, in conformity with accounting principles generally accepted in the United States of America, and in our opinion, the related financial
statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), PennantPark Investment Corporation and its
Subsidiaries’ internal control over financial reporting as of September 30, 2019, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission in 2013, and our report dated November 21, 2019, expressed an unqualified opinion on the effectiveness of the Company’s internal control over
financial reporting.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We
are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules
and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial
statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and
disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall
presentation of the financial statements. Our procedures included confirmation of investments owned as of September 30, 2019, by correspondence with the custodians and brokers or by other
appropriate auditing procedures where replies from brokers were not received. We believe that our audits provide a reasonable basis for our opinion.
/s/ RSM US LLP
We have served as the Company's auditor since 2013.
New York, New York
November 21, 2019
49
To the Stockholders and the Board of Directors of
PennantPark Investment Corporation and its Subsidiaries
Opinion on the Internal Control Over Financial Reporting
Report of Independent Registered Public Accounting Firm
We have audited PennantPark Investment Corporation and its Subsidiaries' (collectively referred to as the “Company”) internal control over financial reporting as of September 30, 2019,
based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013. In our opinion, the
Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2019, based on criteria established in Internal Control — Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission in 2013.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated statements of assets and liabilities,
including the consolidated schedules of investments as of September 30, 2019 and 2018, the related consolidated statements of operations, changes in net assets and cash flows for each of the
three years in the period ended September 30, 2019, and the related notes to the consolidated financial statements (collectively, the financial statements) of the Company and our report dated
November 21, 2019 expressed an unqualified opinion.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial
reporting in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial
reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with U.S. federal
securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether
effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the
risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other
procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the
company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods
are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ RSM US LLP
New York, New York
November 21, 2019
50
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES
Assets
Investments at fair value
Non-controlled, non-affiliated investments (cost—$922,304,099 and $896,720,950, respectively)
Non-controlled, affiliated investments (cost—$77,600,816 and $91,520,908, respectively)
Controlled, affiliated investments (cost—$257,117,800 and $255,574,317, respectively)
Total of investments (cost—$1,257,022,715 and $1,243,816,175, respectively)
Cash and cash equivalents (cost—$59,546,438 and $19,543,625, respectively)
Interest receivable
Prepaid expenses and other assets
Total assets
Liabilities
Distributions payable
BNP Credit Facility payable, at fair value (cost—$171,000,000 and zero, respectively) (See Notes 5 and 11)
SunTrust Credit Facility payable, at fair value (cost—$301,636,000 and $80,520,000, respectively)
(See Notes 5 and 11)
2024 Notes payable, net (par—$75,000,000 and zero, respectively) (See Notes 5 and 11)
2019 Notes payable, at fair value (par—zero and $250,000,000, respectively) (See Notes 5 and 11)
SBA debentures payable, net (par—$150,000,000 and $180,000,000, respectively) (See Notes 5 and 11)
Base management fee payable, net (See Note 3)
Performance-based incentive fee payable, net (See Note 3)
Interest payable on debt
Accrued other expenses
Total liabilities
Commitments and contingencies (See Note 12)
Net assets
Common stock, 67,045,105 and 69,053,958 shares issued and outstanding, respectively.
Par value $0.001 per share and 100,000,000 shares authorized
Paid-in capital in excess of par value
Accumulated distributable loss
Total net assets
Total liabilities and net assets
Net asset value per share
September 30, 2019
September 30, 2018
$
$
936,632,099
49,349,338
233,451,359
1,219,432,796
59,516,236
6,226,539
662,442
1,285,838,013
12,068,119
170,145,000
295,245,214
72,256,607
—
146,111,055
4,641,480
—
2,895,695
569,175
703,932,345
67,045
788,192,159
(206,353,536)
581,905,668
1,285,838,013
8.68
$
$
$
$
$
$
905,271,258
78,078,331
148,735,885
1,132,085,474
19,506,154
7,606,964
920,235
1,160,118,827
12,429,712
—
77,645,830
—
251,322,500
175,373,229
4,086,831
2,964,265
6,576,393
818,172
531,216,932
69,054
803,729,220
(174,896,379)
628,901,895
1,160,118,827
9.11
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
51
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
2019
Years Ended September 30,
2018
2017
Investment income:
From non-controlled, non-affiliated investments:
Interest
Payment in kind
Other income
From non-controlled, affiliated investments:
Interest
Payment in kind
Other income
From controlled, affiliated investments:
Interest
Payment in kind
Other income
Total investment income
Expenses:
Base management fee (See Note 3)
Performance-based incentive fee (See Note 3)
Interest and expenses on debt (See Note 11)
Administrative services expenses (See Note 3)
Other general and administrative expenses
Expenses before management fee waiver, provision for taxes and financing costs
Management Fees waiver (See Note 3)
Provision for taxes
Make-whole premium (See Notes 5 and 11)
Credit facility amendment and debt issuance costs (See Notes 5 and 11)
Net expenses
Net investment income
Realized and change in unrealized (loss) gain on investments and debt:
Net realized (loss) gain on investments on:
Non-controlled, non-affiliated investments
Non-controlled and controlled, affiliated investments
Net realized (loss) gain on investments
Net change in change in unrealized appreciation (depreciation) on:
Non-controlled, non-affiliated investments
Non-controlled and controlled, affiliated investments
Debt depreciation (appreciation) (See Notes 5 and 11)
Net change in unrealized appreciation (depreciation) on investments and debt
Net realized and change in unrealized (loss) gain from investments and debt
Net increase in net assets resulting from operations
Net increase in net assets resulting from operations per common share (See Note 7)
Net investment income per common share
$
$
88,060,418
6,445,122
3,122,988
$
83,255,593
5,645,535
6,981,507
—
—
—
9,381,881
4,319,300
776,945
112,106,654
18,225,229
5,146,696
28,943,312
2,113,895
2,637,820
57,066,952
—
1,200,000
2,162,526
7,080,205
67,509,683
44,596,971
(51,940,526)
(56,575,132)
(108,515,658)
22,788,117
51,361,260
5,694,116
79,843,493
(28,672,165)
15,924,806
0.24
0.66
$
$
$
$
$
$
3,013,976
2,031,589
—
4,499,350
2,850,498
—
108,278,048
17,468,376
11,492,928
22,818,492
2,086,500
2,504,853
56,371,149
(1,427,253)
—
—
—
54,943,896
53,334,152
34,813,876
11,042,330
45,856,206
(16,751,386)
(38,586,621)
3,861,111
(51,476,896)
(5,620,690)
47,713,462
0.68
0.75
$
$
$
84,685,961
3,819,996
7,079,034
10,339,444
5,475,491
1,609,935
734,163
10,790,300
—
124,534,324
24,218,029
11,077,956
26,642,113
3,576,000
2,662,640
68,176,738
(5,647,358)
1,700,000
—
3,866,633
68,096,013
56,438,311
2,567,041
(33,594,078)
(31,027,037)
16,950,900
26,904,281
(7,554,954)
36,300,227
5,273,190
61,711,501
0.87
0.79
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
52
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS
Net increase in net assets resulting from operations:
Net investment income
Net realized (loss) gain on investments
Net change in unrealized appreciation (depreciation) on investments
Net change in unrealized depreciation (appreciation) on debt
Net increase in net assets resulting from operations
Distributions to stockholders:
Distribution of net investment income
Distribution of realized gains
Total distributions to stockholders
Capital transactions:
Repurchase of common stock
Net (decrease) increase in net assets
Net assets:
Beginning of year
End of year
Capital share activity:
Shares of common stock repurchased
2019
Years Ended September 30,
2018
2017
$
$
44,596,971
(108,515,658)
74,149,377
5,694,116
15,924,806
$
53,334,152
45,856,206
(55,338,007)
3,861,111
47,713,462
(48,449,313)
(50,609,467)
—
—
(48,449,313)
(50,609,467)
(14,471,720)
(46,996,227)
(15,010,571)
(17,906,576)
56,438,311
(31,027,037)
43,855,181
(7,554,954)
61,711,501
(58,269,886)
—
(58,269,886)
—
3,441,615
$
628,901,895
581,905,668
$
646,808,471
628,901,895
$
643,366,856
646,808,471
(2,008,853)
(2,006,878)
—
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
53
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STEATEMENTS OF CASH FLOWS
Cash flows from operating activities:
Net increase in net assets resulting from operations
Adjustments to reconcile net increase in net assets resulting from
operations to net cash (used in) provided by operating activities:
Net change in net unrealized (appreciation) appreciation on investments
Net change in unrealized (depreciation) appreciation on debt
Net realized loss (gain) on investments
Net accretion of discount and amortization of premium
Purchases of investments
Payment-in-kind income
Proceeds from dispositions of investments
Amortization of deferred financing costs
Decrease (increase) in interest receivable
Decrease (increase) in prepaid expenses and other assets
(Decrease) increase in payable for investments purchased
Decrease in interest payable on debt
Increase (decrease) in base management fee payable, net
(Decrease) increase in performance-based incentive fee payable, net
(Decrease) increase in accrued other expenses
Net cash (used in) provided by operating activities
Cash flows from financing activities:
Repurchase of common stock
Distributions paid to stockholders
Borrowings under SBA debentures
Proceeds from 2024 Notes issuance
Repayments of SBA debentures
Repayments of 2019 Notes
Repayments of 2025 Notes
Capitalized borrowing costs
Borrowings under BNP Credit Facility
Repayments under BNP Credit Facility
Borrowings under SunTrust Credit Facility
Repayments under SunTrust Credit Facility
Net cash provided by (used in) financing activities
Net increase (decrease) in cash and cash equivalents
Effect of exchange rate changes on cash
Cash and cash equivalents, beginning of year
Cash and cash equivalents, end of year
Supplemental disclosure of cash flow information:
Interest paid
Taxes paid
Non-cash exchanges and conversions
2019
Years Ended September 30,
2018
2017
$
15,924,806
$
47,713,462
$
61,711,501
(74,149,377)
(5,694,116)
108,515,658
(2,631,213)
(533,619,983)
(12,011,137)
426,498,436
744,433
1,380,425
257,593
—
(3,680,698)
554,649
(2,964,265)
(248,997)
(81,123,786)
(14,471,720)
(48,810,906)
—
75,000,000
(30,000,000)
(250,000,000)
—
(2,750,000)
194,000,000
(23,000,000)
697,000,000
(475,884,000)
121,083,374
39,959,588
50,494
19,506,154
59,516,236
55,338,007
(3,861,111)
(45,856,206)
(2,285,720)
(604,740,676)
(11,404,966)
630,502,386
1,730,326
(1,699,988)
3,589,054
(1,014,000)
(300,363)
(758,406)
694,257
(705,253)
66,940,803
(15,010,571)
(50,970,704)
71,000,000
—
(90,000,000)
—
—
(1,721,750)
—
—
235,520,000
(234,392,900)
(85,575,925)
(18,635,122)
(60,792)
$
$
$
$
$
38,202,068
19,506,154
$
31,879,577
1,143,380
14,823,909
$
$
$
21,388,530
327,253
31,942,605
$
$
$
(43,855,181)
7,554,954
31,027,037
(2,514,784)
(508,261,736)
(21,200,913)
543,975,791
1,133,994
1,125,882
(1,894,057)
1,014,000
(643,357)
(229,593)
(595,436)
900,545
69,248,647
—
(65,375,968)
31,500,000
—
(30,000,000)
—
(71,250,000)
(1,513,875)
—
—
363,760,000
(334,706,800)
(107,586,643)
(38,337,996)
931,951
75,608,113
38,202,068
26,151,475
1,267,064
93,152,647
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
54
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2019
Maturity /
Expiration
07/24/2025
07/24/2025
12/21/2023
12/21/2023
02/01/2024
02/13/2023
12/02/2022
12/23/2021
03/03/2022
10/31/2023
10/31/2022
12/10/2024
12/10/2024
12/10/2024
06/27/2023
12/22/2021
12/20/2023
12/20/2023
12/20/2023
03/07/2025
03/07/2025
04/13/2023
04/13/2023
04/13/2023
05/23/2024
05/23/2024
02/27/2023
02/27/2023
02/27/2023
11/13/2024
06/01/2023
05/08/2026
08/08/2022
08/08/2022
03/11/2024
09/04/24
09/09/2024
09/09/2024
03/31/2025
03/31/2025
03/31/2025
06/28/2022
Issuer Name
Investments in Non-Controlled, Non-Affiliated Portfolio Companies—161.0 (1), (2)
First Lien Secured Debt—100.7%
Altamira Technologies, LLC (5)
Altamira Technologies, LLC (Revolver) (7)
American Insulated Glass, LLC (5)
American Insulated Glass, LLC (7)
Bazaarvoice, Inc. (5)
Bottom Line Systems, LLC (5)
Broder Bros., Co.
Cano Health, LLC (5)
DermaRite Industries LLC
Deva Holdings, Inc. (5)
Deva Holdings, Inc. (7)
HW Holdco, LLC (5)
HW Holdco, LLC (Revolver)
HW Holdco, LLC (Revolver) (7)
Impact Group, LLC (5)
Juniper Landscaping of Florida, LLC
K2 Pure Solutions NoCal, L.P. (5)
K2 Pure Solutions NoCal, L.P. (Revolver)
K2 Pure Solutions NoCal, L.P. (Revolver) (7)
Kentucky Downs, LLC (5)
Kentucky Downs, LLC (7)
Lombart Brothers, Inc. (5)
Lombart Brothers, Inc. (Revolver)
Lombart Brothers, Inc. (Revolver) (7)
MeritDirect, LLC (5)
MeritDirect, LLC (Revolver) (7)
Ox Two, LLC
Ox Two, LLC (Revolver)
Ox Two, LLC (Revolver) (7)
Peninsula Pacific Entertainment LLC
Pestell Minerals and Ingredients Inc. (5), (8), (11)
PlayPower, Inc. (5)
PRA Events, Inc.
PRA Events, Inc. (Revolver) (7)
Provation Medical, Inc.
Quantum Spatial, Inc. (5)
Questex, LLC
Questex, LLC (Revolver) (7)
Radius Aerospace, Inc. (5)
Radius Aerospace, Inc. (Revolver)
Radius Aerospace, Inc. (Revolver) (7)
Research Horizons, LLC
Research Now Group, Inc. and Survey
Sampling International LLC (5)
Riverpoint Medical, LLC (5)
Riverpoint Medical, LLC (Revolver) (7)
Schlesinger Global, Inc.
Schlesinger Global, Inc. (7)
Schlesinger Global, Inc. (Revolver)
Schlesinger Global, Inc. (Revolver) (7)
Signature Systems Holding Company (5)
Signature Systems Holding Company (Revolver) (7)
Solutionreach, Inc. (5)
Solutionreach, Inc. (Revolver) (7)
Triad Manufacturing, Inc.
TVC Enterprises, LLC (5)
TVC Enterprises, LLC (7)
TVC Enterprises, LLC (Revolver)
TVC Enterprises, LLC (Revolver) (7)
TWS Acquisition Corporation (5)
TWS Acquisition Corporation (Revolver)
TWS Acquisition Corporation (Revolver) (7)
Tyto Athene, LLC
UBEO, LLC (5)
US Med Acquisition, Inc.
Vision Purchaser Corporation (5)
Walker Edison Furniture Company LLC
Whitney, Bradley & Brown, Inc. (5)
Total First Lien Secured Debt
12/20/2024
06/20/2025
06/20/2025
07/14/2025
07/14/2025
07/14/2025
07/14/2025
05/03/2024
05/03/2024
01/17/2024
01/17/2024
12/28/2020
01/18/2024
01/18/2024
01/18/2024
01/18/2024
06/16/2025
06/16/2025
06/16/2025
08/27/2024
04/03/2024
08/13/2021
06/10/2025
09/26/2024
10/18/2022
Industry
Aerospace and Defense
Aerospace and Defense
Building Materials
Building Materials
Printing and Publishing
Healthcare, Education and Childcare
Consumer Products
Healthcare, Education and Childcare
Manufacturing / Basic Industries
Consumer Products
Consumer Products
Media
Media
Media
Personal, Food and Miscellaneous Services
Personal, Food and Miscellaneous Services
Chemicals, Plastics and Rubber
Chemicals, Plastics and Rubber
Chemicals, Plastics and Rubber
Hotels, Motels, Inns and Gaming
Hotels, Motels, Inns and Gaming
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Media
Media
Building Materials
Building Materials
Building Materials
Hotels, Motels, Inns and Gaming
Beverage, Food and Tobacco
Consumer Products
Business Services
Business Services
Electronics
Aerospace and Defense
Media
Media
Aerospace and Defense
Aerospace and Defense
Aerospace and Defense
Media
Business Services
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Business Services
Business Services
Business Services
Business Services
Chemicals, Plastics and Rubber
Chemicals, Plastics and Rubber
Communications
Communications
Manufacturing / Basic Industries
Transportation
Transportation
Transportation
Transportation
Education
Education
Education
Aerospace and Defense
Printing and Publishing
Healthcare, Education and Childcare
Media
Home and Office Furnishings
Aerospace and Defense
Current
Coupon
Basis Point
Spread
Above
Index (4)
Par /
Shares
Cost
Fair Value (3)
8.28 %
—
8.10 %
—
7.79 %
8.04 %
10.60 %
8.36 %
9.04 %
7.54 %
—
8.39 %
8.39 %
—
8.72 %
10.61 %
7.33 %
7.30 %
—
10.60 %
—
8.35 %
10.00 %
—
8.06 %
—
8.29 %
12.25 %
—
9.35 %
7.57 %
7.60 %
9.11 %
—
9.34 %
7.32 %
7.11 %
—
7.85 %
8.61 %
—
8.36 %
7.75 %
7.39 %
—
7.10 %
—
7.82 %
—
8.60 %
—
7.79 %
—
13.29 %
7.55 %
—
7.61 %
—
8.28 %
8.28 %
—
7.80 %
6.78 %
11.10 %
8.30 %
8.83 %
9.55 %
3M L+600
—
3M L+550
—
1M L+575
1M L+600
3M L+850
1M L+625
1M L+700
3M L+550
—
3M L+625
3M L+625
—
1M L+650
1M L+850
1M L+475
1M L+525
—
1M L+850
—
3M L+625
P+500
—
3M L + 550
—
1M L+625
P+725
—
3M L+725
3M L+525
3M L+550
3M L+700
—
3M L+700
1M L+525
3M L+500
—
3M L+575
3M L+575
—
1M L+625
3M L+550
3M L+500
—
3M L+500
—
3M L+500
—
P+650
—
3M L+575
—
3M L+1,125
1M L+550
—
1M L+550
—
1M L+625
1M L+625
—
1M L+575
3M L+450
1M L+900
1M L+625
3M L+650
1M L+750
1,000,000
187,500
31,044,000
1,350,649
14,775,844
21,722,525
27,218,672
29,073,557
9,750,000
4,486,071
385,000
17,480,806
487,742
2,899,355
20,101,907
14,627,202
26,929,833
678,333
1,259,762
10,024,046
2,482,759
17,093,818
624,675
1,145,237
19,539,663
2,518,345
21,785,448
2,288,000
212,000
8,495,190
5,458,750
4,189,500
19,380,021
2,000,000
26,797,500
15,000,000
22,275,000
3,590,426
8,528,572
428,571
1,000,000
31,036,318
9,924,242
1,995,000
363,636
371,318
81,514
13,586
24,454
14,906,271
2,016,129
13,253,400
1,665,000
21,589,610
32,960,373
4,053,227
967,902
1,734,249
8,850,000
505,714
1,137,857
6,203,031
2,300,400
8,389,063
3,440,998
22,078,125
10,204,866
$
985,250
—
30,504,462
—
14,652,557
21,510,208
27,219,280
28,790,688
9,663,494
4,421,743
—
17,317,655
487,742
—
20,001,084
14,463,765
26,577,555
678,333
—
9,831,274
—
16,900,562
624,675
—
19,263,565
—
21,461,501
2,288,000
—
8,480,683
5,411,313
4,148,451
19,137,807
—
26,265,386
14,777,156
21,892,186
—
8,408,418
428,571
—
30,707,239
9,782,674
1,975,739
—
365,869
—
13,586
—
14,699,927
—
13,015,745
—
21,447,963
32,378,623
—
967,902
—
8,640,294
505,714
—
6,175,004
2,279,160
8,389,063
3,374,373
21,695,009
10,061,266
583,068,514
$
1,000,000
—
30,578,340
(20,260 )
14,628,085
21,718,181
27,218,672
29,073,557
9,255,675
4,486,071
—
17,480,806
487,742
—
19,900,888
14,627,202
26,603,982
670,125
(15,243 )
10,024,046
—
16,922,880
621,551
(5,726 )
19,246,568
(37,775 )
21,785,448
2,288,000
—
8,495,190
5,404,163
4,184,263
19,380,021
—
26,422,335
14,775,000
22,052,250
(35,904 )
8,464,608
425,358
(7,498 )
30,415,591
9,939,724
1,984,626
(1,891 )
371,318
—
13,586
—
14,906,271
—
13,082,432
(21,478 )
21,373,714
32,960,373
—
967,902
—
8,673,000
495,600
(22,757 )
6,018,180
2,277,396
8,389,063
3,406,588
22,243,711
10,204,866
585,776,415
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
55
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS—(Continued)
SEPTEMBER 30, 2019
Issuer Name
Second Lien Secured Debt—38.4%
Condor Borrower, LLC
Confie Seguros Holding Co.
DecoPac, Inc.
Halo Buyer, Inc.
Infogroup, Inc.
MailSouth, Inc.
MBS Holdings, Inc.
Shift4 Payments, LLC
VT Topco, Inc.
Winter Park Intermediate, Inc.
Total Second Lien Secured Debt
Subordinated Debt/Corporate Notes—10.5%
Blackhawk Industrial Distribution, Inc.
Maturity /
Expiration
04/25/2025
10/31/2025
03/31/2025
07/06/2026
04/03/2024
10/23/2024
01/02/2024
11/28/2025
08/24/2026
04/06/2026
Industry
Business Services
Insurance
Beverage, Food and Tobacco
Consumer Products
Other Media
Printing and Publishing
Telecommunications
Financial Services
Business Services
Auto Sector
03/17/2025
Distribution
Cascade Environmental LLC
08/20/2021
Environmental Services
Total Subordinated Debt/Corporate Notes
Preferred Equity/Partnership Interests—0.5% (6)
AH Holdings, Inc.
Condor Holdings Limited (8), (11)
Condor Top Holdco Limited (8), (11)
MeritDirect Holdings, LP
NXOF Holdings, Inc. (Tyto Athene, LLC)
Signature CR Intermediate Holdco, Inc.
Total Preferred Equity/Partnership Interests
Common Equity/Partnership Interests/Warrants—10.9% (6)
Affinion Group Holdings, Inc. (Warrants)
AG Investco LP (9)
AG Investco LP (7), (9)
AH Holdings, Inc. (Warrants)
Altamira Intermediate Company II, Inc.
ASP LCG Holdings, Inc. (Warrants)
Autumn Games, LLC
Cascade Environmental LLC (9)
CI (Allied) Investment Holdings, LLC
—
—
—
—
—
—
04/10/2024
—
—
03/23/2021
—
05/05/2026
—
—
—
(PRA Events, Inc.) (9)
CI (Summit) Investment Holdings LLC
(SFP Holdings, Inc.)
Cowboy Parent LLC
(Blackhawk Industrial Distribution, Inc.)
DecoPac Holdings Inc.
eCommission Holding Corporation (11)
Faraday Holdings, LLC
Gauge Schlesinger Coinvest, LLC
Gauge TVC Coinvest, LLC
(TVC Enterprises, LLC)
Go Dawgs Capital III, LP
(American Insulated Glass, LLC) (9)
Green Veracity Holdings, LP - Class A
(VT Topco, Inc.)
Infogroup Parent Holdings, Inc.
ITC Rumba, LLC (Cano Health, LLC) (9)
JWC-WE Holdings, L.P.
(Walker Edison Furniture Company LLC)
Kadmon Holdings, Inc. (12)
Kentucky Racing Holdco, LLC (Warrants) (9)
Lariat ecoserv Co-Invest Holdings, LLC (9)
MeritDirect Holdings, LP
NXOF Holdings, Inc.
(Tyto Athene, LLC)
Signature CR Intermediate Holdco, Inc.
SSC Dominion Holdings, LLC
Class A (US Dominion, Inc.)
SSC Dominion Holdings, LLC
Class B (US Dominion, Inc.)
U.S. Well Services, Inc. - Class A (11), (12)
USWS Holdings, LLC (9), (11)
WBB Equity, LLC
(Whitney, Bradley & Brown, Inc.) (9)
Wheel Pros Holdings, L.P.
(Winter Park Intermediate, Inc.)
ZS Juniper L.P.
(Juniper Landscaping of Florida, LLC) (9)
Total Common Equity/Partnership Interests/Warrants
Total Investments in Non-Controlled, Non-Affiliated Portfolio Companies
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Healthcare, Education and Childcare
Business Services
Business Services
Media
Aerospace and Defense
Chemicals, Plastics and Rubber
Consumer Products
Business Services
Business Services
Healthcare, Education and Childcare
Aerospace and Defense
Education
Broadcasting and Entertainment
Environmental Services
Business Services
Buildings and Real Estate
Distribution
Beverage, Food and Tobacco
Financial Services
Building Materials
Business Services
Transportation
Building Materials
Business Services
Other Media
Healthcare, Education and Childcare
Home and Office Furnishings
Healthcare, Education and Childcare
Hotels, Motels, Inns and Gaming
Environmental Services
Media
Aerospace and Defense
Chemicals, Plastics and Rubber
Electronics
Electronics
Oil and Gas
Oil and Gas
Aerospace and Defense
Auto Sector
Personal, Food and Miscellaneous Services
Current
Coupon
11.01 %
11.02 %
10.35 %
10.29 %
11.35 %
12.00 %
10.60 %
10.76 %
9.10 %
10.54 %
12.00 %
(PIK 2.00 %)
15.00 %
(PIK 15.00 %)
6.00 %
—
—
—
—
12.00 %
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Basis Point
Spread
Above
Index (4)
3M L+875
3M L+850
3M L+825
1M L+825
3M L+925
12M L+925
1M L+850
3M L+850
3M L+700
1M L+850
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Par /
Shares
10,344,828
14,500,000
19,627,143
32,500,000
20,400,000
36,828,975
19,623,649
27,000,000
10,000,000
35,300,000
Cost
Fair Value (3)
$
10,176,236
14,244,005
19,345,304
32,034,317
20,103,563
36,207,203
19,288,817
26,945,207
9,953,252
34,742,373
223,040,278
$
10,241,379
13,593,750
19,627,143
32,012,500
20,094,000
35,724,106
19,623,649
27,000,000
9,950,000
35,300,000
223,166,527
13,773,533
13,529,203
13,773,533
48,381,773
47,992,863
47,414,137
61,522,066
61,187,670
211
556,000
556,000
540
107
1,347
77,190
714,652
285,348
753
125,000
933
1,333,330
33,901
120,962
500,000
64,277
491,723
540,000
106,823
1,346,530
3,049,353
2,126,399
714,652
—
—
125,000
586,975
3,000,000
2,852,080
1,243,217
322,850
71,556
547,406
563,657
79,190
1,413,300
2,997,959
817,028
714,652
—
—
125,000
2,260,044
—
469,430
1,260,269
114,646
1,171,206
1,504,587
22,500
2,250,000
2,278,089
3,449
80
4,277
8
810,645
3,448,658
1,004,625
217,635
8,197
810,645
6,651,822
1,481,743
1,243,208
8,197
828,333
675,325
675,325
688,831
15,000
1,500,000
2,367,746
181,495
252,176
1,906,433
252,014
161,252
363,656
540
2,180
71
1,500
1,500
2,040,000
2,993,665
1,906,433
2,265,639
—
363,656
—
2,180
70,870
1,500,000
2,119,257
7,110,734
4,961,006
635,075
307,888
451,341
55,482
—
34,484
1,620,000
—
2,185,803
72,833
1,188,368
628,571
728,330
11,883,680
628,571
159,504
2,472,400
2,193,714
3,778,704
4,450,000
14,655,027
1,056
1,056,250
1,842,833
51,623,889
922,304,099
63,503,528
936,632,099
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
56
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS—(Continued)
SEPTEMBER 30, 2019
Maturity /
Expiration
—
—
Issuer Name
Investments in Non-Controlled, Affiliated Portfolio Companies—8.5% (1), (2)
Preferred Equity/Partnership Interests—8.1% (6)
ETX Energy, LLC
MidOcean JF Holdings Corp.
Total Preferred Equity/Partnership Interests
Common Equity/Partnership Interests/Warrants—0.4% (6)
ETX Energy, LLC (9)
ETX Energy Management Company, LLC
MidOcean JF Holdings Corp.
Total Common Equity/Partnership Interests/Warrants
Total Investments in Non-Controlled, Affiliated Portfolio Companies
Investments in Controlled, Affiliated Portfolio Companies—40.1% (1), (2)
First Lien Secured Debt—18.8%
AKW Holdings Limited (8), (10), (11)
RAM Energy LLC
RAM Energy LLC (Revolver)
Total First Lien Secured Debt
Second Lien Secured Debt—7.9%
PT Network Intermediate Holdings, LLC
03/13/2024
07/01/2022
07/01/2022
—
—
—
11/30/2024
Industry
Oil and Gas
Distribution
Oil and Gas
Oil and Gas
Distribution
Current
Coupon
Basis Point
Spread
Above
Index (4)
Par /
Shares
Cost
Fair Value (3)
—
—
—
—
—
—
—
—
—
—
61,732
153,922
1,658,389
1,754,104
65,933
6,173,200
15,392,188
21,565,388
29,711,576
1,562,020
24,761,831
56,035,427
77,600,816
22,717,376
24,549,408
47,266,784
—
—
2,082,554
2,082,554
49,349,338
39,051,600
35,000,000
40,000,000
114,051,600
34,504,400
35,000,000
40,000,000
109,504,400
Healthcare, Education and Childcare
Energy and Utilities
Energy and Utilities
6.54 %
8.00 %
8.00 %
£
3M L+575
—
—
28,000,000
35,000,000
40,000,000
Total Second Lien Secured Debt
Preferred Equity—1.6% (6)
CI (PTN) Investment Holdings II, LLC
(PT Network, LLC) (9)
PT Network Intermediate Holdings, LLC (9)
Total Preferred Equity
Common Equity—11.8% (6)
AKW Holdings Limited (8), (10), (11)
CI (PTN) Investment Holdings II, LLC
(PT Network, LLC) (9)
PT Network Intermediate Holdings, LLC (9)
RAM Energy Holdings LLC
Total Common Equity
Total Investments in Controlled, Affiliated Portfolio Companies
Total Investments—209.6%
Cash and Cash Equivalents—10.2%
BlackRock Federal FD Institutional 30
BNY Mellon Cash Reserve and Cash
Total Cash and Cash Equivalents
Total Investments and Cash Equivalents—219.8%
Liabilities in Excess of Other Assets—(119.8%)
Net Assets—100.0%
Healthcare, Education and Childcare
12.30 %
(PIK 12.30 %)
3M L+1,000
46,610,223
46,163,881
46,144,120
46,163,881
46,144,120
—
Healthcare, Education and Childcare
—
—
36,450
546,750
11,251
Healthcare, Education and Childcare
12.14 %
3M L+1,000
833
—
—
—
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Energy and Utilities
—
—
—
—
—
—
—
—
£
950
333,333
621
84,747
8,975,000
9,521,750
132,497
5,000,000
9,264,347
9,275,598
2,554,804
—
5,983,333
76,264,739
87,380,569
257,117,800
1,257,022,715
17,014,720
48,957,717
68,527,241
233,451,359
1,219,432,796
47,640,291
11,906,147
59,546,438
$ 1,316,569,153
47,640,291.72
11,875,944
59,516,236
$ 1,278,949,032
(697,043,364 )
581,905,668
$
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
(12)
(13)
The provisions of the 1940 Act classify investments based on the level of control that we maintain in a particular portfolio company. As defined in the 1940 Act, a company is generally presumed to be “non-controlled” when we own
25% or less of the portfolio company’s voting securities and “controlled” when we own more than 25% of the portfolio company’s voting securities.
The provisions of the 1940 Act classify investments further based on the level of ownership that we maintain in a particular portfolio company. As defined in the 1940 Act, a company is generally deemed as “non-affiliated” when we
own less than 5% of a portfolio company’s voting securities and “affiliated” when we own 5% or more of a portfolio company’s voting securities (See Note 6).
Valued based on our accounting policy (See Note 2).
Represents floating rate instruments that accrue interest at a predetermined spread relative to an index, typically the applicable London Interbank Offered Rate, or LIBOR or “L,” the Euro Interbank Offered Rate, or EURIBOR or
“E,” or Prime rate, or “P.” The spread may change based on the type of rate used. The terms in the Schedule of Investments disclose the actual interest rate in effect as of the reporting period. LIBOR loans are typically indexed to a
30-day, 90-day or 180-day LIBOR rate (1M L, 3M L, or 6M L, respectively), and EURIBOR loans are typically indexed to a 90-day EURIBOR rate (3M E), at the borrower’s option. All securities are subject to a LIBOR or Prime
rate floor where a spread is provided, unless noted. The spread provided includes PIK interest and other fee rates, if any.
The securities, or a portion thereof, are pledged as collateral under the BNP Credit Facility and held through Funding I.
Non-income producing securities.
Represents the purchase of a security with delayed settlement or a revolving line of credit that is currently an unfunded investment. This security does not earn a basis point spread above an index while it is unfunded.
Non-U.S. company or principal place of business outside the United States.
Investment is held through our Taxable Subsidiaries (See Note 1).
Par / Shares amount is denominated in British Pounds (£) or in Euros (€) as denoted.
The investment is treated as a non-qualifying asset under Section 55(a) of the 1940 Act. Under the 1940 Act, we may not acquire any non-qualifying asset unless, at the time the acquisition is made, qualifying assets represent at least
70% of our total assets. As of September 30, 2019, qualifying assets represent 96% of the Company’s total assets and non-qualifying assets represent 4% of the Company’s total assets.
The security was not valued using significant unobservable inputs. The value of all other securities was determined using significant unobservable inputs (See Note 5).
Share amount is 70,443,882,243.
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
57
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS—(Continued)
SEPTEMBER 30, 2018
Industry
Current
Coupon
Basis Point
Spread
Above
Index (4)
Par /
Shares
Cost
Fair Value (3)
Maturity /
Expiration
Issuer Name
Investments in Non-Controlled, Non-Affiliated Portfolio Companies—144.0% (1), (2)
First Lien Secured Debt—66.9%
Allied America, Inc.
Allied America, Inc. (Revolver) (7)
Bazaarvoice, Inc.
Bottom Line Systems, LLC
Broder Bros., Co.
Cano Health, LLC
Cano Health, LLC (Revolver)
DermaRite Industries LLC
Deva Holdings, Inc.
Deva Holdings, Inc. (7)
eCommission Financial Services, Inc. (11)
eCommission Financial Services, Inc. (7), (11)
eCommission Financial Services, Inc. (Revolver) (7), (11)
Hollander Sleep Products, LLC
Impact Group, LLC
Impact Group, LLC (7)
Juniper Landscaping of Florida, LLC
K2 Pure Solutions NoCal, L.P.
Ox Two, LLC
Ox Two, LLC (Revolver)
Ox Two, LLC (Revolver) (7)
Questex, LLC
Questex, LLC (Revolver)
Questex, LLC (Revolver) (7)
Research Horizons, LLC
Research Horizons, LLC (7)
Research Horizons, LLC (Revolver)
Research Horizons, LLC (Revolver) (7)
SFP Holding, Inc.
SFP Holding, Inc. (7)
SFP Holding, Inc. (Revolver) (7)
Triad Manufacturing, Inc.
US Dominion, Inc.
US Dominion, Inc. (Revolver) (7)
US Med Acquisition, Inc.
Walker Edison Furniture Company LLC
Whitney, Bradley & Brown, Inc.
Total First Lien Secured Debt
Second Lien Secured Debt—62.2%
Condor Borrower, LLC
DecoPac, Inc.
Halo Buyer, Inc.
Infogroup, Inc.
Integrity Marketing Partners, LLC
Intermediate Transportation 100, LLC (5)
08/08/2022
08/08/2022
02/01/2024
02/13/2023
12/02/2022
12/23/2021
11/05/2018
03/03/2022
10/31/2023
10/31/2022
08/29/2022
08/29/2022
08/29/2022
06/09/2023
06/27/2023
06/27/2023
12/22/2021
02/19/2021
02/27/2023
02/27/2023
02/27/2023
09/09/2024
09/09/2024
09/09/2024
06/28/2022
06/28/2022
06/28/2022
06/28/2022
09/01/2022
09/01/2022
09/01/2022
12/28/2020
07/15/2024
07/15/2024
08/13/2021
09/26/2024
10/18/2022
04/25/2025
03/31/2025
07/06/2026
04/03/2024
01/02/2023
03/01/2019
Business Services
Business Services
Printing and Publishing
Healthcare, Education and Childcare
Consumer Products
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Manufacturing / Basic Industries
Consumer Products
Consumer Products
Financial Services
Financial Services
Financial Services
Consumer Products
Personal, Food and Miscellaneous Services
Personal, Food and Miscellaneous Services
Personal, Food and Miscellaneous Services
Chemicals, Plastics and Rubber
Building Materials
Building Materials
Building Materials
Media
Media
Media
Media
Media
Media
Media
Buildings and Real Estate
Buildings and Real Estate
Buildings and Real Estate
Manufacturing / Basic Industries
Electronics
Electronics
Healthcare, Education and Childcare
Home and Office Furnishings
Aerospace and Defense
Business Services
Beverage, Food and Tobacco
Consumer Products
Other Media
Banking, Finance, Insurance and Real Estate
Cargo Transport
MailSouth, Inc.
MBS Holdings, Inc.
Parq Holdings Limited Partnership (8), (11)
Pathway Partners Vet Management LLC
Pathway Partners Vet Management LLC (7)
PT Network, LLC
Shift4 Payments, LLC
VT Topco, Inc.
Winter Park Intermediate, Inc.
Total Second Lien Secured Debt
Subordinated Debt/Corporate Notes—7.7%
Blackhawk Industrial Distribution, Inc.
10/23/2024
01/02/2024
12/17/2021
10/10/2025
10/10/2025
04/12/2023
11/28/2025
08/24/2026
04/03/2026
Printing and Publishing
Telecommunications
Hotels, Motels, Inns and Gaming
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Financial Services
Business Services
Auto Sector
03/17/2025
Distribution
Cascade Environmental LLC
08/20/2021
Environmental Services
Preferred Equity/Partnership Interests—0.2% (6)
AH Holdings, Inc.
CI (PTN) Investment Holdings II, LLC
(PT Network, LLC) (9)
Condor Holdings Limited (8), (11)
Condor Top Holdco Limited (8), (11)
HW Holdco, LLC
Total Preferred Equity/Partnership Interests
—
—
—
—
—
Healthcare, Education and Childcare
Healthcare, Education and Childcare
Business Services
Business Services
Other Media
9.39 %
—
10.24 %
9.74 %
10.33 %
10.61 %
10.68 %
9.24 %
7.74 %
—
9.74 %
—
—
10.39 %
8.64 %
—
11.61 %
11.24 %
8.49 %
12.50 %
—
8.57 %
8.57 %
—
8.36 %
—
8.36 %
—
8.59 %
—
—
15.49 %
9.14 %
—
11.39 %
8.88 %
11.25 %
11.09 %
10.64 %
10.49 %
11.64 %
11.17 %
11.00 %
(PIK 11.00 %)
12.00 %
10.60 %
14.39 %
10.24 %
—
12.34 %
10.84 %
9.34 %
10.62 %
12.00 %
(PIK 2.00 %)
15.00 %
(PIK 13.00 %)
6.00 %
—
—
—
8.00 %
3M L+700
—
1M L+800
1M L+750
3M L+800
1M L+850
1M L+850
1M L+700
3M L+550
—
1M L+750
—
—
3M L+800
1M L+625
—
1M L+950
1M L+900
1M L+625
P+725
—
3M L+625
3M L+625
—
1M L+625
—
1M L+625
—
3M L+625
—
—
1M L+1,325
3M L+675
—
1M L+900
3M L+650
1M L+900
3M L+875
3M L+825
1M L+825
3M L+925
1M L+900
—
3M L+925
1M L+850
3M L+1,200
1M L+800
—
3M L+1,000
3M L+850
3M L+700
1M L+850
21,435,548
2,000,000
14,925,000
19,583,330
31,676,768
32,813,941
3,150,000
9,850,000
4,962,500
385,000
19,800,000
4,000,000
4,000,000
19,713,838
22,457,923
12,491,009
14,350,500
14,243,249
22,218,750
750,000
1,750,000
22,500,000
598,404
2,992,021
22,500,000
9,121,622
1,783,784
2,270,270
20,925,313
1,375,000
2,500,000
23,718,379
29,925,000
7,500,000
8,476,563
22,500,000
19,305,000
12,500,000
23,024,259
45,000,000
20,400,000
6,000,000
481,052
48,425,000
15,000,000
76,500,000
19,300,700
4,699,300
41,666,667
37,000,000
12,500,000
32,000,000
$
21,116,138
—
14,783,825
19,345,650
31,678,078
32,240,776
3,150,000
9,738,431
4,877,212
—
19,475,599
—
—
19,386,443
22,225,155
—
14,140,360
14,033,015
21,819,701
750,000
—
22,054,120
598,404
—
22,071,351
—
1,783,784
—
20,642,473
—
—
23,464,517
29,415,076
—
8,476,563
22,050,866
18,977,907
418,295,444
$
21,478,419
—
14,925,000
19,583,330
31,676,768
32,813,941
3,150,000
9,683,465
4,962,500
—
19,800,000
—
—
19,516,699
22,345,634
(62,455 )
14,350,500
14,243,249
22,218,750
750,000
—
22,050,000
586,436
(59,840 )
22,050,000
(182,432 )
1,748,108
(45,405 )
20,925,313
—
—
23,006,827
29,925,000
—
8,052,732
22,050,000
19,305,000
420,847,539
12,271,734
22,607,675
44,338,109
20,056,087
5,913,341
447,988
12,500,000
23,024,259
44,325,000
20,400,000
5,987,443
481,052
47,496,549
14,710,035
76,500,000
19,246,644
—
40,959,198
36,835,458
12,437,500
31,380,959
385,201,277
47,456,500
14,700,000
80,904,325
19,107,693
(46,993 )
41,250,000
36,768,750
12,500,000
31,680,000
391,038,029
—
13,500,000
13,230,411
13,230,000
—
35,792,396
35,386,702
48,617,113
34,897,586
48,127,586
—
—
—
—
—
211
36,450
556,000
556,000
3,591
500,000
546,750
64,277
491,723
—
1,602,750
396,898
565,339
64,277
491,723
25,771
1,544,008
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
58
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS—(Continued)
SEPTEMBER 30, 2018
Maturity /
Expiration
Industry
Current
Coupon
Basis Point
Spread
Above
Index (4)
Issuer Name
Common Equity/Partnership Interests/Warrants—7.0% (6)
AH Holdings, Inc. (Warrants)
ASP LCG Holdings, Inc. (Warrants)
Autumn Games, LLC
Cardinal Logistics Holdings LLC
03/23/2021
05/05/2026
—
—
Healthcare, Education and Childcare
Education
Broadcasting and Entertainment
Cargo Transport
(Intermediate Transportation 100, LLC) (9)
Cascade Environmental LLC (9)
CI (Allied) Investment Holdings, LLC
(Allied America, Inc.) (9)
CI (PTN) Investment Holdings II, LLC
(PT Network, LLC) (9)
CI (Summit) Investment Holdings LLC
(SFP Holdings, Inc.)
Cowboy Parent LLC
(Blackhawk Industrial Distribution, Inc.)
DecoPac Holdings Inc.
eCommission Holding Corporation (11)
Faraday Holdings, LLC
Green Veracity Holdings, LP - Class A (VT Topco, Inc.)
HW Holdco, LLC
Infogroup Parent Holdings, Inc.
ITC Rumba, LLC (Cano Health, LLC) (9)
JWC-WE Holdings, L.P.
(Walker Edison Furniture Company LLC)
Kadmon Holdings, Inc. (12)
LaMi Acquisition, LLC (9)
Lariat ecoserv Co-Invest Holdings, LLC (9)
SSC Dominion Holdings, LLC
Class A (US Dominion, Inc.)
SSC Dominion Holdings, LLC
Class B (US Dominion, Inc.)
WBB Equity, LLC
(Whitney, Bradley & Brown, Inc.) (9)
Wheel Pros Holdings, L.P.
(Winter Park Intermediate, Inc.)
ZS Juniper L.P.
(Juniper Landscaping of Florida, LLC) (9)
—
—
Environmental Services
Business Services
—
Healthcare, Education and Childcare
—
Buildings and Real Estate
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Distribution
Beverage, Food and Tobacco
Financial Services
Building Materials
Business Services
Other Media
Other Media
Healthcare, Education and Childcare
Home and Office Furnishings
Healthcare, Education and Childcare
Distribution
Environmental Services
Electronics
Electronics
Aerospace and Defense
Auto Sector
—
Personal, Food and Miscellaneous Services
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
Par /
Shares
Cost
Fair Value (3)
753
933
1,333,330
—
$
(13)
33,901
84,000
$
—
586,975
3,000,000
5,411,024
2,852,080
840,004
—
1,651,653
—
2,776,777
1,186,539
957,866
333,333
5,000,000
5,000,000
100,000
1,000,000
1,245,827
2,250,000
2,250,000
2,250,000
3,449
80
4,277
15,000
388,378
181,495
204,985
1,906,433
252,014
19
1,148,703
1,500
3,448,658
800,000
217,635
1,500,000
—
2,040,000
2,049,849
1,906,433
2,265,639
493,280
1,158,703
1,500,000
4,165,759
1,049,378
1,147,011
1,500,000
2,787,265
2,167,874
3,654,472
1,906,433
841,727
522,889
672,195
1,500,000
1,500
—
—
628,571
628,571
1,181,714
3,200,000
3,200,000
4,513,118
856
855,515
1,035,599
43,004,366
896,720,950
43,714,096
905,271,258
Total Common Equity/Partnership Interests/Warrants
Total Investments in Non-Controlled, Non-Affiliated Portfolio Companies
Investments in Non-Controlled, Affiliated Portfolio Companies—12.4% (1), (2)
First Lien Secured Debt—1.9%
U.S. Well Services, LLC
02/02/2022
02/02/2022
02/02/2022
U.S. Well Services, LLC (Revolver)
U.S. Well Services, LLC (Revolver) (7)
Total First Lien Secured Debt
Common Equity/Partnership Interests/Warrants—10.5% (6)
Affinion Group Holdings, Inc.
Affinion Group Holdings, Inc., Series C and Series D
Big Run, Inc.
ETX Energy, LLC (9)
ETX Energy Management Company, LLC
USWS Holdings, LLC - Class A and Class B (9)
Total Common Equity/Partnership Interests/Warrants
Total Investments in Non-Controlled, Affiliated Portfolio Companies
—
—
—
—
—
—
Oil and Gas
Oil and Gas
Oil and Gas
13.08 %
(PIK 13.08 %)
8.08 %
—
Consumer Products
Consumer Products
Environmental Services
Oil and Gas
Oil and Gas
Oil and Gas
—
—
—
—
—
—
1M L+1,100
10,160,537
10,098,625
10,160,537
1M L+600
—
1,680,528
511,893
—
—
—
—
—
—
859,496
37,181
143,668
1,658,389
1,754,104
8,190,817
1,680,528
—
11,779,153
30,503,493
10,265,973
674,943
29,711,576
1,562,020
7,023,750
79,741,755
91,520,908
1,680,528
—
11,841,065
18,137,081
29,841
397,025
33,040,294
1,761,079
12,871,946
66,237,266
78,078,331
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
59
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED SCHEDULE OF INVESTMENTS—(Continued)
SEPTEMBER 30, 2018
Maturity /
Expiration
Issuer Name
Investments in Controlled, Affiliated Portfolio Companies—23.6% (1), (2)
First Lien Secured Debt—15.7%
AKW Holdings Limited (8), (10), (11)
RAM Energy LLC
RAM Energy LLC (Revolver)
RAM Energy LLC (Revolver) (7)
Superior Digital Displays, LLC
03/13/2024
07/01/2022
07/01/2022
07/01/2022
12/31/2018
Total First Lien Secured Debt
Preferred Equity—1.9% (6)
MidOcean JF Holdings Corp.
Superior Digital Displays Holdings, Inc.
Total Preferred Equity
Common Equity—6.0% (6)
AKW Holdings Limited (8), (10), (11)
MidOcean JF Holdings Corp.
RAM Energy Holdings LLC
Superior Digital Displays Holdings, Inc.
Total Common Equity
Total Investments in Controlled, Affiliated Portfolio Companies
Total Investments—180.0%
Cash and Cash Equivalents—3.1%
BlackRock Federal FD Institutional 30
BNY Mellon Cash Reserve and Cash
Total Cash and Cash Equivalents
Total Investments and Cash Equivalents—183.1%
—
—
—
—
—
—
Liabilities in Excess of Other Assets—(83.1%)
Net Assets—100.0%
Industry
Current
Coupon
Basis Point
Spread
Above
Index (4)
Par /
Shares
Cost
Fair Value (3)
Healthcare, Education and Childcare
Energy and Utilities
Energy and Utilities
Energy and Utilities
Media
Distribution
Media
Healthcare, Education and Childcare
Distribution
Energy and Utilities
Media
6.55 %
8.00 %
8.00 %
—
7.84 %
(PIK 7.84 %)
—
15.00 %
—
—
—
—
$
3M L+575
—
—
—
3M L+550
£ 28,000,000
35,000,000
10,000,000
5,000,000
23,208,601
$
39,051,600
35,000,000
10,000,000
—
22,749,435
36,513,484
35,000,000
10,000,000
—
17,220,000
—
—
—
—
—
—
153,922
873,289
950
65,933
84,747
11,100
106,801,035
98,733,484
15,392,189
30,011,026
45,403,215
12,099,647
—
12,099,647
132,497
24,761,831
76,264,739
2,211,000
103,370,067
255,574,317
1,243,816,175
531,379
19,012,246
19,543,625
$ 1,263,359,800
3,987,794
—
33,914,960
—
37,902,754
148,735,885
1,132,085,474
531,379
18,974,775
19,506,154
$ 1,151,591,628
(522,689,733 )
628,901,895
$
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
(12)
(13)
(14)
The provisions of the 1940 Act classify investments based on the level of control that we maintain in a particular portfolio company. As defined in the 1940 Act, a company is generally presumed to be “non-controlled” when we own
25% or less of the portfolio company’s voting securities and “controlled” when we own more than 25% of the portfolio company’s voting securities.
The provisions of the 1940 Act classify investments further based on the level of ownership that we maintain in a particular portfolio company. As defined in the 1940 Act, a company is generally deemed as “non-affiliated” when we
own less than 5% of a portfolio company’s voting securities and “affiliated” when we own 5% or more of a portfolio company’s voting securities (See Note 6).
Valued based on our accounting policy (See Note 2).
Represents floating rate instruments that accrue interest at a predetermined spread relative to an index, typically the applicable LIBOR, or “L,” or Prime rate, or “P.” All securities are subject to a LIBOR or Prime rate floor where a
spread is provided, unless noted. The spread provided includes PIK interest and other fee rates, if any.
Security is exempt from registration under Rule 144A promulgated under the Securities Act. The security may be resold in transactions that are exempt from registration, normally to qualified institutional buyers.
Non-income producing securities.
Coupon is not subject to a LIBOR or Prime rate floor.
Represents the purchase of a security with delayed settlement or a revolving line of credit that is currently an unfunded investment. This security does not earn a basis point spread above an index while it is unfunded.
Non-U.S. company or principal place of business outside the United States.
Investment is held through our Taxable Subsidiaries (See Note 1).
Par denominated in British Pounds (£) or in Euros (€) as denoted.
The investment is treated as a non-qualifying asset under Section 55(a) of the 1940 Act. Under the 1940 Act, we may not acquire any non-qualifying asset unless, at the time the acquisition is made, qualifying assets represent at least
70% of our total assets. As of September 30, 2018, qualifying assets represent 88% of the Company’s total assets and non-qualifying assets represent 12% of the Company’s total assets.
The security was not valued using significant unobservable inputs. The value of all other securities was determined using significant unobservable inputs (see Note 5).
Share amount is 70,443,882,243.
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
60
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2019
1. ORGANIZATION
PennantPark Investment Corporation was organized as a Maryland corporation in January 2007. We are a closed-end, externally managed, non-diversified investment company that has
elected to be treated as a BDC under the 1940 Act. PennantPark Investment’s objective is to generate both current income and capital appreciation while seeking to preserve capital through debt
and equity investments. We invest primarily in U.S. middle-market companies in the form of first lien secured debt, second lien secured debt and subordinated debt and, to a lesser extent, equity
investments. On April 24, 2007, we closed our initial public offering and our common stock trades on The Nasdaq Global Select Market under the symbol “PNNT.”
We have entered into the Investment Management Agreement with the Investment Adviser, an external adviser that manages our day-to-day operations. PennantPark Investment, through
the Investment Adviser, manages day-to-day operations of and provides investment advisory services to SBIC II under a separate investment management agreement. We have also entered into
the Administration Agreement with the Administrator, which provides the administrative services necessary for us to operate. PennantPark Investment, through the Administrator, also provides
similar services to SBIC II under a separate administration agreement. See Note 3.
SBIC II, our wholly owned subsidiary, was organized as a Delaware limited partnership in 2012. SBIC II received a license from the SBA to operate as a SBIC under Section 301(c) of the
1958 Act. SBIC II’s objectives are to generate both current income and capital appreciation through debt and equity investments generally by investing with us in SBA eligible businesses that
meet the investment selection criteria used by PennantPark Investment. During the year ended September 30, 2019, we liquidated and dissolved SBIC I.
Funding I, our wholly owned subsidiary and a special purpose entity, was organized in Delaware as a limited liability company in February 2019. We formed Funding I in order to
establish the BNP Credit Facility. The Investment Adviser serves as the servicer to Funding I and has irrevocably directed that the management fee owed to it with respect to such services be paid
to us so long as the Investment Adviser remains the servicer. This arrangement does not increase our consolidated management fee. The BNP Credit Facility allows Funding I to borrow up to
$250 million at LIBOR plus 260 basis points during the reinvestment period. The BNP Credit Facility is secured by all of the assets held by Funding I. See Note 11.
We have formed and expect to continue to form certain taxable subsidiaries, including the Taxable Subsidiaries, which are subject to tax as corporations. These taxable subsidiaries allow
us to hold equity securities of certain portfolio companies treated as pass-through entities for U.S. federal income tax purposes while facilitating our ability to qualify as a RIC under the Code.
2. SIGNIFICANT ACCOUNTING POLICIES
The preparation of our Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amount of our assets
and liabilities at the date of the Consolidated Financial Statements and the reported amounts of income and expenses during the reported periods. In the opinion of management, all adjustments,
which are of a normal recurring nature, considered necessary for the fair presentation of financial statements have been included. Actual results could differ from these estimates due to changes in
the economic and regulatory environment, financial markets and any other parameters used in determining such estimates and assumptions. We may reclassify certain prior period amounts to
conform to the current period presentation. We have eliminated all intercompany balances and transactions. References to ASC serve as a single source of accounting literature. Subsequent events
are evaluated and disclosed as appropriate for events occurring through the date the Consolidated Financial Statements are issued.
Our Consolidated Financial Statements are prepared in accordance with GAAP, consistent with ASC Topic 946, Financial Services – Investment Companies, and pursuant to the
requirements for reporting on Form 10-K/Q and Articles 6, 10 and 12 of Regulation S-X, as appropriate. In accordance with Article 6-09 of Regulation S-X, we have provided a Consolidated
Statement of Changes in Net Assets in lieu of a Consolidated Statement of Changes in Stockholders’ Equity.
Our significant accounting policies consistently applied are as follows:
(a)
Investment Valuations
We expect that there may not be readily available market values for many of the investments, which are or will be in our portfolio, and we value such investments at fair value as
determined in good faith by or under the direction of our board of directors using a documented valuation policy and a consistently applied valuation process, as described in this Report. With
respect to investments for which there is no readily available market value, the factors that the board of directors may take into account in pricing our investments at fair value include, as relevant,
the nature and realizable value of any collateral, the portfolio company’s ability to make payments and its earnings and discounted cash flow, the markets in which the portfolio company does
business, comparison to publicly traded securities and other relevant factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, we consider
the pricing indicated by the external event to corroborate or revise our valuation. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available
market value, the price used in an actual transaction may be different than our valuation and the difference may be material. See Note 5.
Our portfolio generally consists of illiquid securities, including debt and equity investments. With respect to investments for which market quotations are not readily available, or for
which market quotations are deemed not reflective of the fair value, our board of directors undertakes a multi-step valuation process each quarter, as described below:
(1) Our quarterly valuation process begins with each portfolio company or investment being initially valued by the investment professionals of our Investment Adviser responsible for
the portfolio investment;
(2)
Preliminary valuation conclusions are then documented and discussed with the management of the Investment Adviser;
(3) Our board of directors also engages independent valuation firms to conduct independent appraisals of our investments for which market quotations are not readily available or are
readily available but deemed not reflective of the fair value of the investment. The independent valuation firms review management's preliminary valuations in light of their own
independent assessment and also in light of any market quotations obtained from an independent pricing service, broker, dealer or market maker;
(4)
The audit committee of our board of directors reviews the preliminary valuations of the Investment Adviser and those of the independent valuation firms on a quarterly basis,
periodically assesses the valuation methodologies of the independent valuation firms, and responds to and supplements the valuation recommendations of the independent
valuation firms to reflect any comments; and
(5) Our board of directors discusses these valuations and determines the fair value of each investment in our portfolio in good faith, based on the input of our Investment Adviser, the
respective independent valuation firms and the audit committee.
61
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
Our board of directors generally uses market quotations to assess the value of our investments for which market quotations are readily available. We obtain these market values from
independent pricing services or at the bid prices obtained from at least two brokers or dealers, if available, or otherwise from a principal market maker or a primary market dealer. The Investment
Adviser assesses the source and reliability of bids from brokers or dealers. If the board of directors has a bona fide reason to believe any such market quote does not reflect the fair value of an
investment, it may independently value such investments by using the valuation procedure that it uses with respect to assets for which market quotations are not readily available.
(b)
Security Transactions, Revenue Recognition, and Realized/Unrealized Gains or Losses
Security transactions are recorded on a trade-date basis. We measure realized gains or losses by the difference between the net proceeds from the repayment or sale and the amortized cost
basis of the investment, using the specific identification method, without regard to unrealized appreciation or depreciation previously recognized, but considering prepayment penalties. Net
change in unrealized appreciation or depreciation reflects, as applicable, the change in the fair values of our portfolio investments, the Credit Facilities and, prior to their redemption, the 2019
Notes during the reporting period, including any reversal of previously recorded unrealized appreciation or depreciation, when gains or losses are realized.
We record interest income on an accrual basis to the extent that we expect to collect such amounts. For loans and debt investments with contractual PIK interest, which represents interest
accrued and added to the loan balance that generally becomes due at maturity, we will generally not accrue PIK interest when the portfolio company valuation indicates that such PIK interest is
not collectable. We do not accrue as a receivable interest on loans and debt investments if we have reason to doubt our ability to collect such interest. Loan origination fees, OID, market discount
or premium and deferred financing costs on liabilities, which we do not fair value, are capitalized and then accreted or amortized using the effective interest method as interest income or, in the
case of deferred financing costs, as interest expense. We record prepayment penalties earned on loans and debt investments as income. Dividend income, if any, is recognized on an accrual basis
on the ex-dividend date to the extent that we expect to collect such amounts. From time to time, the Company receives certain fees from portfolio companies, which are non-recurring in nature.
Such fees include loan prepayment penalties, structuring fees and amendment fees, and are recorded as other investment income when earned.
Loans are placed on non-accrual status when principal or interest payments are past due 30 days or more and/or if there is reasonable doubt that principal or interest will be collected.
Accrued interest is generally reversed when a loan is placed on non-accrual status. Interest payments received on non-accrual loans may be recognized as income or applied to principal
depending upon management’s judgment. Non-accrual loans are restored to accrual status when past due principal and interest is paid and, in management’s judgment, are likely to remain
current. As of September 30, 2019 and 2018, we had no portfolio companies on non-accrual.
(c)
Income Taxes
We have complied with the requirements of Subchapter M of the Code and have qualified to be treated as a RIC for federal income tax purposes. In this regard, we account for income
taxes using the asset and liability method prescribed by ASC Topic 740, Income Taxes, or ASC 740. Under this method, income taxes are provided for amounts currently payable and for amounts
deferred as tax assets and liabilities based on differences between the financial statement carrying amounts and the tax basis of existing assets and liabilities. Based upon our qualification and
election to be treated as a RIC, we do not anticipate incurring any material federal income taxes. However, we may choose to retain a portion of our calendar year income, which may result in the
imposition of an excise tax. Additionally, certain of the Company’s consolidated subsidiaries are subject to U.S. federal and state income taxes. For the years ended September 30, 2019, 2018 and
2017, we recorded a provision for taxes of $1.2 million ($0.6 million of excise tax and $0.6 million of U.S. federal and state income taxes related to Taxable Subsidiaries), zero and $1.7 million
($0.5 million of excise tax and $1.2 million of U.S. federal and state income taxes related to Taxable Subsidiaries), respectively.
We recognize the effect of a tax position in our Consolidated Financial Statements in accordance with ASC 740 when it is more likely than not, based on the technical merits, that the
position will be sustained upon examination by the applicable tax authority. Tax positions not considered to satisfy the “more-likely-than-not” threshold would be recorded as a tax expense or
benefit. Penalties or interest, if applicable, that may be assessed relating to income taxes would be classified as other operating expenses in the financial statements. As of September 30, 2019,
there were no tax accruals relating to uncertain tax positions and no amounts accrued for any related interest or penalties with respect to the periods presented herein. The Company’s
determinations regarding ASC 740 may be subject to review and adjustment at a later date based upon factors including, but not limited to, an on-going analysis of tax laws, regulations and
interpretations thereof. Although the Company files both federal and state income tax returns, the Company’s major tax jurisdiction is federal.
Because federal income tax regulations differ from GAAP, distributions in accordance with tax regulations may differ from net investment income and net realized gains recognized for
financial reporting purposes. Differences between tax regulations and GAAP may be permanent or temporary. Permanent differences are reclassified among capital accounts in the Consolidated
Financial Statements to reflect their tax character. Temporary differences arise when certain items of income, expense, gain or loss are recognized at some time in the future.
(d) Distributions and Capital Transactions
Distributions to common stockholders are recorded on the ex-dividend date. The amount to be paid, if any, as a distribution is determined by the board of directors each quarter and is
generally based upon the earnings estimated by management. Net realized capital gains, if any, are distributed at least annually. The tax attributes for distributions will generally include ordinary
income and capital gains, but may also include certain tax-qualified dividends and/or return of capital.
Capital transactions, in connection with our dividend reinvestment plan or through offerings of our common stock, are recorded when issued and offering costs are charged as a reduction
of capital upon issuance of our common stock.
(e)
Foreign Currency Translation
Our books and records are maintained in U.S. dollars. Any foreign currency amounts are translated into U.S. dollars on the following basis:
1.
2.
Fair value of investment securities, other assets and liabilities – at the exchange rates prevailing at the end of the applicable period; and
Purchases and sales of investment securities, income and expenses – at the exchange rates prevailing on the respective dates of such transactions.
Although net assets and fair values are presented based on the applicable foreign exchange rates described above, we do not isolate that portion of the results of operations due to changes
in foreign exchange rates on investments, other assets and debt from the fluctuations arising from changes in fair value of investments and liabilities held. Such fluctuations are included with the
net realized and unrealized gain or loss from investments and liabilities.
62
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
Foreign security and currency translations may involve certain considerations and risks not typically associated with investing in U.S. companies and U.S. government securities. These
risks include, but are not limited to, currency fluctuations and revaluations and future adverse political, social and economic developments, which could cause investments in foreign markets to
be less liquid and prices to be more volatile than those of comparable U.S. companies or U.S. government securities.
(f)
Consolidation
As permitted under Regulation S-X and as explained by ASC paragraph 946-810-45-3, PennantPark Investment will generally not consolidate its investment in a company other than an
investment company subsidiary or a controlled operating company whose business consists of providing services to us. Accordingly, we have consolidated the results of our SBIC Funds, Funding
I and our Taxable Subsidiaries in our Consolidated Financial Statements.
(g)
Recent Accounting Pronouncements
In August 2018, the FASB issued Accounting Standards Update, or ASU, 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure
Requirements for Fair Value Measurement, or ASU 2018-13, which changed the fair value measurement disclosure requirements of ASC Topic 820, Fair Value Measurements and Disclosures, or
ASC 820. The key provisions include new, eliminated and modified disclosure requirements. The new guidance is effective for fiscal years beginning after December 15, 2019, including interim
periods therein. Early application is permitted. The Company is currently evaluating the impact the adoption of this new accounting standard will have on its consolidated financial statements, but
the impact of the adoption is not expected to be material.
In August 2018, the SEC issued Securities Act Release No. 33-10532, Disclosure Update and Simplification, or the Final Rule Release, amending certain disclosure requirements that
were redundant, duplicative, overlapping, outdated or superseded. The amendments are intended to facilitate the disclosure of information to investors and simplify compliance. The Final Rule
Release became effective for all filings on or after November 5, 2018. We adopted these amendments as currently required and they are reflected in the Company’s consolidated financial
statements and related disclosures. Certain prior year information has been adjusted to conform to these amendments.
In March 2019, the SEC issued the Final Rule Release No. 33-10618, FAST Act Modernization and Simplification of Regulation S-K, which amends certain SEC disclosure requirements.
The amendments are intended to simplify certain disclosure requirements and to provide for a consistent set of rules to govern incorporating information by reference and hyperlinking, improve
readability and navigability of disclosure documents, and discourage repetition and disclosure of immaterial information. The amendments are effective for all filings submitted on or after May 2,
2019. We adopted these amendments as currently required and they are reflected in the Company’s consolidated financial statements and related disclosures. Certain prior year information has
been adjusted to conform to these amendments.
3. AGREEMENTS AND RELATED PARTY TRANSACTIONS
Under the Investment Management Agreement, we implemented the previously announced permanent reductions in base management and incentive fees, effective January 1, 2018. The
Investment Management Agreement with the Investment Adviser was reapproved by our board of directors, including a majority of our directors who are not interested persons of us or the Investment
Adviser, in February 2019. Under the Investment Management Agreement, the Investment Adviser, subject to the overall supervision of our board of directors, manages the day-to-day operations of
and provides investment advisory services to us. The Investment Adviser serves as the servicer to Funding I and has irrevocably directed that the management fee owed to it with respect to such
services be paid to the Company so long as the Investment Adviser remains the servicer. SBIC II’s investment management agreement does not affect the management or incentive fees that we pay
to the Investment Adviser on a consolidated basis. For providing these services, the Investment Adviser receives a fee from us, consisting of two components— a base management fee and an incentive
fee or, collectively, Management Fees.
Effective January 1, 2018, the base management fee is calculated at an annual rate of 1.50% of our “average adjusted gross assets,” which equals our gross assets (exclusive of U.S. Treasury
Bills, temporary draws under any credit facility, cash and cash equivalents, repurchase agreements or other balance sheet transactions undertaken at the end of a fiscal quarter for purposes of preserving
investment flexibility for the next quarter and unfunded commitments, if any) and is payable quarterly in arrears. In addition, on November 13, 2018, in connection with our board of directors’ approval
of the application of the modified asset coverage requirement under the 1940 Act to the Company, our board of directors also approved an amendment to the Investment Advisory Agreement reducing
the Investment Adviser’s annual base management fee from 1.50% to 1.00% on gross assets that exceed 200% of the Company’s total net assets as of the immediately preceding quarter-end. This
amendment became effective on February 5, 2019 with the amendment and restatement of the Investment Management Agreement on April 12, 2019. The base management fee is calculated based on
the average adjusted gross assets at the end of the two most recently completed calendar quarters, and appropriately adjusted for any share issuances or repurchases during the current calendar quarter.
For example, if we sold shares on the 45th day of a quarter and did not use the proceeds from the sale to repay outstanding indebtedness, our gross assets for such quarter would give effect to the net
proceeds of the issuance for only 45 days of the quarter during which the additional shares were outstanding. For periods prior to January 1, 2018, the base management fee was calculated at an annual
rate of 2.00% of our “average adjusted gross assets.” From December 31, 2015 through December 31, 2017, the Investment Adviser voluntarily agreed, in consultation with the board of directors, to
irrevocably waive 16% of base management fees, correlated to our 16% energy exposure (oil & gas and energy & utilities industries) at cost as of December 31, 2015. For the years ended September
30, 2019, 2018 and 2017, the Investment Adviser earned base management fees of $18.2 million, $16.5 million (after a waiver of $0.9 million) and $20.3 million (after a waiver of $3.9 million),
respectively, from us.
The incentive fee has two parts, as follows:
One part is calculated and payable quarterly in arrears based on our Pre-Incentive Fee Net Investment Income for the immediately preceding calendar quarter. For this purpose, Pre-
Incentive Fee Net Investment Income means interest income, dividend income and any other income, including any other fees (other than fees for providing managerial assistance), such as
amendment, commitment, origination, prepayment penalties, structuring, diligence and consulting fees or other fees received from portfolio companies, accrued during the calendar quarter, minus
our operating expenses for the quarter (including the base management fee, any expenses payable under the Administration Agreement and any interest expense or amendment fees under any
credit facility and distribution paid on any issued and outstanding preferred stock, but excluding the incentive fee). Pre-Incentive Fee Net Investment Income includes, in the case of investments
with a deferred interest feature (such as OID, debt instruments with PIK interest and zero coupon securities), accrued income not yet received in cash. Pre-Incentive Fee Net Investment Income
does not include any realized capital gains, computed net of all realized capital losses or unrealized capital appreciation or depreciation. Pre-Incentive Fee Net Investment Income, expressed as a
percentage of the value of our net assets at the end of the immediately preceding calendar quarter, is compared to the hurdle rate of 1.75% per quarter (7.00% annualized). Effective January 1,
2018, we pay the Investment Adviser an incentive fee with respect to our Pre- Incentive Fee Net Investment Income in each calendar quarter as follows: (1) no incentive fee in any calendar
quarter in which our Pre-Incentive Fee Net Investment Income does not exceed the hurdle rate of 1.75%, (2) 100% of our Pre-Incentive Fee Net Investment Income with respect to that portion of
such Pre-Incentive Fee Net Investment Income, if any, that exceeds the hurdle rate but is less than 2.1212% in any calendar quarter (8.4848% annualized), and (3) 17.5% of the amount of our Pre-
Incentive Fee Net Investment Income, if any, that exceeds 2.1212% in any calendar quarter. These calculations are pro-rated for any share issuances or repurchases during the relevant quarter, if
applicable. For periods prior to January 1, 2018, we paid the Investment Adviser an incentive fee with respect to our Pre-Incentive Fee Net Investment Income in each calendar quarter as follows:
(1) no incentive fee in any calendar quarter in which our Pre-Incentive Fee Net Investment Income did not exceed the hurdle rate of 1.75%, (2) 100% of our Pre-Incentive Fee Net Investment
Income with respect to that portion of such Pre-Incentive Fee Net Investment Income, if any, that exceeded the hurdle rate but was less than 2.1875% in any calendar quarter (8.75% annualized),
and (3) 20% of the amount of our Pre-Incentive Fee Net Investment Income, if any, that exceeded 2.1875% in any calendar quarter. From December 31, 2015 through December 31, 2017, the
Investment
63
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
Adviser voluntarily agreed, in consultation with the board of directors, to irrevocably waive 16% of incentive fees, correlated to our 16% energy cost exposure (oil & gas and energy & utilities
industries) at cost as of December 31, 2015. For the years ended September 30, 2019, 2018 and 2017, the Investment Adviser earned $5.1 million, $11.0 million (after a waiver of $0.5 million)
and $9.3 million (after a waiver of $1.8 million), respectively, in incentive fees on net investment income from us.
The second part of the incentive fee is determined and payable in arrears as of the end of each calendar year (or upon termination of the Investment Management Agreement, as of the
termination date) and, effective January 1, 2018, equals 17.5% of our realized capital gains (20.0% for periods prior to January 1, 2018), if any, on a cumulative basis from inception through the
end of each calendar year, computed net of all realized capital losses and unrealized capital depreciation on a cumulative basis, less the aggregate amount of any previously paid capital gain
incentive fees. For the years ended September 30, 2019, 2018 and 2017, the Investment Adviser did not accrue an incentive fee on capital gains as calculated under the Investment Management
Agreement (as described above).
Under GAAP, we are required to accrue a capital gains incentive fee based upon net realized capital gains and net unrealized capital appreciation and depreciation on investments held at
the end of each period. In calculating the capital gains incentive fee accrual, we considered the cumulative aggregate unrealized capital appreciation in the calculation, as a capital gains incentive
fee would be payable if such unrealized capital appreciation were realized, even though such unrealized capital appreciation is not permitted to be considered in calculating the fee actually
payable under the Investment Management Agreement. This accrual is calculated using the aggregate cumulative realized capital gains and losses and cumulative unrealized capital appreciation
or depreciation. If such amount is positive at the end of a period, then we record a capital gains incentive fee equal to 17.5% of such amount (20.0% for periods prior to January 1, 2018), less the
aggregate amount of actual capital gains related to incentive fees paid in all prior years. If such amount is negative, then there is no accrual for such year. There can be no assurance that such
unrealized capital appreciation will be realized in the future. For the years ended September 30, 2019, 2018 and 2017, the Investment Adviser did not accrue an incentive fee on capital gains as
calculated under GAAP.
The Administration Agreement with the Administrator was reapproved by our board of directors, including a majority of our directors who are not interested persons of us, in February
2019. Under the Administration Agreement, the Administrator provides administrative services and office facilities to us. The Administrator provides similar services to SBIC II under its
administration agreement with PennantPark Investment. For providing these services, facilities and personnel, we have agreed to reimburse the Administrator for its allocable portion of overhead
and other expenses incurred by the Administrator in performing its obligations under the Administration Agreement, including rent and our allocable portion of the costs of compensation and
related expenses of our Chief Compliance Officer, Chief Financial Officer and their respective staffs. The Administrator also offers, on our behalf, significant managerial assistance to portfolio
companies to which we are required to offer such assistance. Reimbursement for certain of these costs is included in administrative services expenses in the Consolidated Statements of
Operations. For the years ended September 30, 2019, 2018 and 2017, we reimbursed the Investment Adviser approximately $1.8 million, $2.0 million and $2.5 million, respectively, including
expenses the Investment Adviser incurred on behalf of the Administrator, for services described above.
There were no transactions in accordance with Rule 17a-7 of the 1940 Act during the years ended September 30, 2019 and 2018. For the year ended September 30, 2017, the Company
purchased $5.0 million from and sold $45.6 million in total investments to affiliated funds managed by our Investment Adviser in accordance with, and pursuant to procedures adopted under,
Rule 17a-7 of the 1940 Act. Realized gains on those sales amounted to $1.1 million.
4. INVESTMENTS
Purchases of investments, including PIK interest, for the years ended September 30, 2019, 2018 and 2017 totaled $545.6 million, $616.1 million and $529.5 million, respectively. Sales
and repayments of investments for the same periods totaled $426.5 million, $630.5 million and $544.0 million, respectively.
Investments and cash and cash equivalents consisted of the following:
Investment Classification
First lien
Second lien
Subordinated debt / corporate notes
Equity
Total investments
Cash and cash equivalents
Total investments and cash and cash equivalents
September 30, 2019
September 30, 2018
Cost
697,120,114
269,204,159
61,522,066
229,176,376
1,257,022,715
59,546,438
1,316,569,153
$
$
Fair Value
695,280,815
269,310,647
61,187,670
193,653,664
1,219,432,796
59,516,236
1,278,949,032
$
$
Cost
536,875,632
385,201,277
48,617,113
273,122,153
1,243,816,175
19,543,625
1,263,359,800
$
$
Fair Value
531,422,088
391,038,029
48,127,586
161,497,771
1,132,085,474
19,506,154
1,151,591,628
$
$
64
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
The table below describes investments by industry classification and enumerates the percentage, by fair value, of the total portfolio assets (excluding cash and cash equivalents) in such
industries as of:
Industry Classification
Healthcare, Education and Childcare
Energy and Utilities
Media
Consumer Products
Building Materials
Aerospace and Defense
Auto Sector
Business Services
Chemicals, Plastics and Rubber
Environmental Services
Printing and Publishing
Beverage, Food and Tobacco
Distribution
Manufacturing / Basic Industries
Personal, Food and Miscellaneous Services
Transportation
Electronics
Financial Services
Home and Office Furnishings
Hotels, Motels, Inns and Gaming
Oil and Gas
Other Media
Telecommunications
Other
Total
September 30, 2019
September 30, 2018
16%
10
8
6
5
4
4
4
4
4
4
3
3
3
3
3
2
2
2
2
2
2
2
2
100%
15%
7
6
10
2
2
3
4
1
3
6
2
2
3
3
—
3
5
2
7
5
2
1
6
100%
5. FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair value, as defined under ASC 820, is the price that we would receive upon selling an investment or pay to transfer a liability in an orderly transaction to a market participant in the
principal or most advantageous market for the investment or liability. ASC 820 emphasizes that valuation techniques maximize the use of observable market inputs and minimize the use of
unobservable inputs. Inputs refer broadly to the assumptions that market participants would use in pricing an asset or liability, including assumptions about risk. Inputs may be observable or
unobservable. Observable inputs reflect the assumptions market participants would use in pricing an asset or liability based on market data obtained from sources independent of us. Unobservable
inputs reflect the assumptions market participants would use in pricing an asset or liability based on the best information available to us on the reporting period date.
ASC 820 classifies the inputs used to measure these fair values into the following hierarchies:
Level 1:
Inputs that are quoted prices (unadjusted) in active markets for identical assets or liabilities, accessible by us at the measurement date.
Level 2:
Inputs that are quoted prices for similar assets or liabilities in active markets, or that are quoted prices for identical or similar assets or liabilities in markets that are not
active and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term, if applicable, of the financial instrument.
Level 3:
Inputs that are unobservable for an asset or liability because they are based on our own assumptions about how market participants would price the asset or liability.
A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. Generally, most of our
investments, our Credit Facilities and our SBA debentures are classified as Level 3. Our 2019 Notes were, and our 2024 Notes are, classified as Level 2, as they are financial instruments with
readily observable market inputs. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the price used in an actual
transaction may be different than our valuation and those differences may be material.
The inputs into the determination of fair value may require significant management judgment or estimation. Even if observable market data are available, such information may be the
result of consensus pricing information, disorderly transactions or broker quotes which include a disclaimer that the broker would not be held to such a price in an actual transaction. The non-
binding nature of consensus pricing and/or quotes accompanied by disclaimer would result in classification as Level 3 information, assuming no additional corroborating evidence were available.
Corroborating evidence that would result in classifying these non-binding broker/dealer bids as a Level 2 asset includes observable orderly market-based transactions for the same or similar
assets or other relevant observable market-based inputs that may be used in pricing an asset.
Our investments are generally structured as debt and equity investments in the form of first lien secured debt, second lien secured debt, subordinated debt and equity co-investments. The
transaction price, excluding transaction costs, is typically the best estimate of fair value at inception. Ongoing reviews by our Investment Adviser and independent valuation firms are based on an
assessment of each underlying investment, incorporating valuations that consider the evaluation of financing and sale transactions with third parties, expected cash flows and market-based
information including comparable transactions, performance multiples and yields, among other factors. These non-public investments valued using unobservable inputs are included in Level 3 of
the fair value hierarchy.
A review of fair value hierarchy classifications is conducted on a quarterly basis. Changes in our ability to observe valuation inputs may result in a reclassification for certain financial
assets or liabilities. Reclassifications impacting Level 3 of the fair value hierarchy are reported as transfers in or out of the Level 3 category as of the end of the quarter in which the
reclassifications occur. Our ability to observe valuation inputs resulted in no reclassifications during the years ended September 30, 2019, 2018 and 2017.
65
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
In addition to using the above inputs to value cash equivalents, investments, our 2019 Notes, our SBA debentures, our 2024 Notes and our Credit Facilities valuations, we employ the
valuation policy approved by our board of directors that is consistent with ASC 820. Consistent with our valuation policy, we evaluate the source of inputs, including any markets in which our
investments are trading, in determining fair value. See Note 2.
As outlined in the table below, some of our Level 3 investments using a market approach valuation technique are valued using the average of the bids from brokers or dealers. The bids
include a disclaimer, have no corroborating evidence, may be the result of a disorderly transaction and may be the result of consensus pricing. The Investment Adviser assesses the source and
reliability of bids from brokers or dealers. If the board of directors has a bona fide reason to believe any such bids do not reflect the fair value on an investment, it may independently value such
investment by using the valuation procedure that it uses with respect to assets for which market quotations are not readily available.
The remainder of our investment portfolio and our long-term Credit Facilities are valued using a market comparable or an enterprise market value technique. With respect to investments
for which there is no readily available market value, the factors that the board of directors may take into account in pricing our investments at fair value include, as relevant, the nature and
realizable value of any collateral, the portfolio company’s ability to make payments, its earnings and discounted cash flow, the markets in which the portfolio company does business, comparison
to publicly traded securities and other relevant factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, the pricing indicated by the
external event, excluding transaction costs, is used to corroborate the valuation. When using earnings multiples to value a portfolio company, the multiple used requires the use of judgment and
estimates in determining how a market participant would price such an asset. These non-public investments using unobservable inputs are included in Level 3 of the fair value hierarchy.
Generally, the sensitivity of unobservable inputs or combination of inputs such as industry comparable companies, market outlook, consistency, discount rates and reliability of earnings and
prospects for growth, or lack thereof, affects the multiple used in pricing an investment. As a result, any change in any one of those factors may have a significant impact on the valuation of an
investment. Generally, an increase in a market yield will result in a decrease in the valuation of a debt investment, while a decrease in a market yield will have the opposite effect. Generally, an
increase in an earnings before interest, taxes, depreciation and amortization, or EBITDA, multiple will result in an increase in the valuation of an investment, while a decrease in an EBITDA
multiple will have the opposite effect.
Our Level 3 valuation techniques, unobservable inputs and ranges were categorized as follows for ASC 820 purposes:
Asset Category
First lien
Second lien
First lien
Second lien
Subordinated debt / corporate notes
Equity
Total Level 3 investments
Long-Term Credit Facilities
Asset Category
Second lien
First lien
Second lien
Subordinated debt / corporate notes
Equity
Total Level 3 investments
Long-Term Credit Facility
Fair value at
September 30, 2019
30,300,736
55,556,250
664,980,079
213,754,397
61,187,670
192,859,084
1,218,638,216
465,390,214
Fair value at
September 30, 2018
164,734,450
531,422,088
226,303,579
48,127,586
160,656,044
1,131,243,747
77,645,830
$
$
$
$
$
$
Valuation Technique
Market Comparable
Market Comparable
Market Comparable
Market Comparable
Market Comparable
Enterprise Market Value
Unobservable Input
Broker/Dealer bids or quotes
Broker/Dealer bids or quotes
Market Yield
Market Yield
Market Yield
EBITDA multiple
Range of Input
(Weighted Average)
N/A
N/A
6.7% – 15.8% (8.7%)
10.3% – 12.7% (11.4%)
12.0% – 16.1% (15.2%)
0.6x – 17.3x (12.1x)
Market Comparable
Market Yield
3.9% – 4.2% (4.1%)
Valuation Technique
Market Comparable
Market Comparable
Market Comparable
Market Comparable
Enterprise Market Value
Unobservable Input
Broker/Dealer bids or quotes
Market Yield
Market Yield
Market Yield
EBITDA multiple
Range of Input
(Weighted Average)
N/A
7.4% – 17.5% (10.1%)
10.7% – 14.1% (13.3%)
12.5% – 15.3% (14.5%)
3.9x – 13.8x (8.2x)
Market Comparable
Market Yield
5.5%
Our investments, cash and cash equivalents, Credit Facilities, SBA debentures and 2024 Notes were categorized as follows in the fair value hierarchy for ASC 820 purposes:
Description
Debt investments
Equity investments
Total investments
Cash and cash equivalents
Total investments and cash and cash equivalents
BNP Credit Facility
SunTrust Credit Facility
SBA Debentures(1)
2024 Notes(1)
Total debt
Fair Value
Level 1
Level 2
Level 3
Fair Value at September 30, 2019
$
$
$
$
1,025,779,132
193,653,664
1,219,432,796
59,516,236
1,278,949,032
170,145,000
295,245,214
146,111,055
72,256,607
683,757,876
$
$
$
$
—
794,580
794,580
59,516,236
60,310,816
—
—
—
—
—
$
$
$
$
—
—
—
—
—
—
—
—
72,256,607
72,256,607
$
$
$
$
1,025,779,132
192,859,084
1,218,638,216
—
1,218,638,216
170,145,000
295,245,214
146,111,055
—
611,501,269
(1) We elected not to apply ASC 825-10 to the SBA debentures or the 2024 Notes and thus the balance reported in the Consolidated Statement of Assets and Liabilities represents the carrying
value, which approximates the fair value.
66
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
Description
Debt investments
Equity investments
Total investments
Cash and cash equivalents
Total investments and cash and cash equivalents
Long-Term Credit Facility
SBA Debentures(1)
2019 Notes
Total debt
$
$
$
$
Fair Value
970,587,703
161,497,771
1,132,085,474
19,506,154
1,151,591,628
77,645,830
175,373,229
251,322,500
504,341,559
$
$
$
$
$
Fair Value at September 30, 2018
Level 2
Level 1
—
841,727
841,727
19,506,154
20,347,881
—
—
—
—
$
$
$
$
$
—
—
—
—
—
—
—
251,322,500
251,322,500
$
$
$
$
$
Level 3
970,587,703
160,656,044
1,131,243,747
—
1,131,243,747
77,645,830
175,373,229
—
253,019,059
(1) We elected not to apply ASC 825-10 to the SBA debentures and thus the balance reported in the Consolidated Statement of Assets and Liabilities represents the carrying value, which
approximates the fair value.
The table below shows a reconciliation of the beginning and ending balances for liabilities recognized at fair value and measured using significant unobservable inputs (Level 3):
Description
Beginning Balance
Net realized losses
Net change in unrealized appreciation (depreciation)
Purchases, PIK interest, net discount accretion and non-cash exchanges
Sales, repayments and non-cash exchanges
Transfers in/out of Level 3
Ending Balance
Net change in unrealized depreciation reported within the net change in unrealized
(depreciation) appreciation on investments in our Consolidated Statements of Operations
attributable to our Level 3 assets still held at the reporting date.
Description
Beginning Balance
Net realized gains
Net change unrealized depreciation
Purchases, PIK interest, net discount accretion and non-cash exchanges
Sales, repayments and non-cash exchanges
Transfers in/out of Level 3
Ending Balance
Net change in unrealized depreciation reported within the net change in unrealized
(depreciation) appreciation on investments in our Consolidated Statements of Operations
attributable to our Level 3 assets still held at the reporting date.
Year Ended September 30, 2019
Debt
investments
Equity
investments
$
970,587,703
(20,338,793)
(1,960,888)
494,678,346
(417,187,234)
—
1,025,779,134
$
$
160,656,044
(88,205,089)
76,877,129
52,772,604
(9,241,606)
—
192,859,082
$
Totals
1,131,243,747
(108,543,882)
74,916,241
547,450,950
(426,428,840)
—
1,218,638,216
(2,204,826) $
27,758,106
$
25,553,280
Year Ended September 30, 2018
Debt
investments
Equity
investments
$
986,328,498
2,847,904
(15,266,479)
556,756,457
(560,078,677)
—
970,587,703
$
$
166,268,568
43,250,660
(40,114,380)
61,674,905
(70,423,709)
—
160,656,044
$
Totals
1,152,597,066
46,098,564
(55,380,859)
618,431,362
(630,502,386)
—
1,131,243,747
(5,468,175) $
(10,447,877) $
(15,916,052)
$
$
$
$
$
$
The table below shows a reconciliation of the beginning and ending balances for liabilities recognized at fair value and measured using significant unobservable inputs (Level 3):
Long-Term Credit Facility
Beginning Balance (cost – $78,520,000 and $79,392,900, respectively)
Net change in unrealized (depreciation) appreciation included in earnings
Borrowings (1)
Repayments (1)
Transfers in and/or out of Level 3
Ending Balance (cost – $472,636,000 and $78,520,000, respectively)
Temporary draws outstanding, at cost
Ending Balance (cost – $472,636,000 and $80,520,000, respectively)
(2)
Excludes temporary draws.
67
Years Ended September 30,
2019
2018
$
$
$
75,645,830
(4,371,616)
$
743,000,000
(348,884,000)
—
465,390,214
—
465,390,214
$
$
76,037,341
481,389
161,520,000
(162,392,900)
—
75,645,830
2,000,000
77,645,830
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
As of September 30, 2019, we had outstanding non-U.S. dollar borrowings on our Credit Facilities. Net change in fair value on foreign currency translation on outstanding borrowings is
listed below:
Foreign Currency
British Pound
Amount Borrowed
Borrowing Cost
Current Value
£
29,000,000
$
40,136,000
$
35,736,700
Reset Date
December 13, 2019
Change in Fair Value
$
(4,399,300)
As of September 30, 2018, we had outstanding non-U.S. dollar borrowings on our SunTrust Credit Facility. Net change in fair value on foreign currency translation on outstanding
borrowings is listed below:
Foreign Currency
British Pound
Amount Borrowed
Borrowing Cost
Current Value
£
30,000,000
$
41,520,000
$
39,121,590
Reset Date
December 14, 2018
Change in Fair Value
$
(2,398,410)
The carrying value of our consolidated financial liabilities approximates fair value. We have adopted the principles under ASC Subtopic 825-10, Financial Instruments, or ASC 825-10,
which provides companies with an option to report selected financial assets and liabilities at fair value, and made an irrevocable election to apply ASC 825-10 to our Credit Facilities and, prior to
their redemption, the 2019 Notes and 2025 Notes. We elected to use the fair value option for the Credit Facilities and, prior to their redemption, the 2019 Notes and 2025 Notes to align the
measurement attributes of both our assets and liabilities while mitigating volatility in earnings from using different measurement attributes. Due to that election and in accordance with GAAP, we
incurred expenses of $7.1, zero and $3.9 million relating to amendment costs on the Credit Facilities during the years ended September 30, 2019, 2018 and 2017, respectively. ASC 825-10
establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities
and to more easily understand the effect on earnings of a company’s choice to use fair value. ASC 825-10 also requires entities to display the fair value of the selected assets and liabilities on the
face of the Consolidated Statements of Assets and Liabilities and changes in fair value of the Credit Facilities and, prior to their redemption, the 2019 Notes and 2025 Notes are reported in our
Consolidated Statements of Operations. We did not elect to apply ASC 825-10 to any other financial assets or liabilities, including the 2024 Notes and the SBA debentures. For the years ended
September 30, 2019 and 2018, the Credit Facilities and the 2019 Notes had a net change in unrealized depreciation of $5.7 and $3.9 million, respectively. For the year ended September 30, 2017,
our SunTrust Credit Facility, the 2019 Notes and, prior to their redemption, the 2025 Notes had a net change in unrealized appreciation of $(7.6) million. As of September 30, 2019, the net
unrealized depreciation on our Credit Facilities totaled $7.2 million. As of September 30, 2018, the net unrealized depreciation on our Credit Facilities and the 2019 Notes totaled $1.6 million.
We use a nationally recognized independent valuation service to measure the fair value of our Credit Facilities and, prior to their redemption, the 2019 Notes in a manner consistent with the
valuation process that the board of directors uses to value our investments.
6. TRANSACTIONS WITH AFFILIATED COMPANIES
An affiliated portfolio company is a company in which we have ownership of 5% or more of its voting securities. A portfolio company is generally presumed to be a non-controlled
affiliate when we own at least 5% but 25% or less of its voting securities and a controlled affiliate when we own more than 25% of its voting securities. Transactions related to our funded
investments with both controlled and non-controlled affiliates for the year ended September 30, 2019 were as follows:
Fair Value at
September 30, 2018
Gross
Additions(1)
Gross
Reductions
Net Change
in
Appreciation
/
(Depreciation)
Fair Value at
September 30, 2019
Interest
Income
PIK
Income
Other
Income
Net Realized
Gains
(Losses)
$
40,501,278 $
—
46,815,339 24,907,391
78,914,960 30,000,000
$
—
$
(4,744,374)
—
(3,442,074) $
5,456,082
15,042,757
37,059,204
72,434,438
123,957,717
$ 2,342,595
1,409,093
5,204,444
$
—
4,260,184
—
$
—
776,945
—
$
—
165,755
—
17,220,000 24,210,894
(79,182,353)
37,751,459
—
425,749
59,116
—
(56,513,788)
183,451,577 $ 79,118,285
$ (83,926,727) $
54,808,224
$
233,451,359
$ 9,381,881
$ 4,319,300
$ 776,945
$ (56,348,033)
397,025 $
34,801,373
—
6,173,200
$
(674,943) $
—
277,918
$
(18,257,197)
—
22,717,376
$
12,099,647
—
—
14,532,315
26,631,962
47,298,045
6,173,200
(674,943)
(3,446,964)
49,349,338
$
—
—
—
—
$
—
—
—
—
—
—
—
—
$
(227,099)
—
—
(227,099)
Name of Investment
Controlled Affiliates
AKW Holdings Limited
PT Networks, LLC
RAM Energy LLC
Superior Digital Displays
Holdings, Inc. (2)
Total Controlled
Affiliates
$
Non-Controlled Affiliates
Big Run, Inc.
$
ETX Energy, LLC
MidOcean JF Holdings
Corp.
Total Non-Controlled
Affiliates
Total Controlled and
Non-Controlled
Affiliates
$
230,749,622 $ 85,291,485
$ (84,601,670) $
51,361,260
$
282,800,697
$ 9,381,881
$ 4,319,300
$ 776,945
$ (56,575,132)
(1)
(2)
Includes PIK.
On June 14, 2019 Superior Digital Displays, LLC filed for bankruptcy protection under Chapter 7 of the U.S. Bankruptcy Code with the U.S. Bankruptcy Court for the Southern District of
New York. As such, our investment in Superior Digital Displays, LLC is no longer reflected on the Consolidated Schedule of Investments.
7. CHANGE IN NET ASSETS FROM OPERATIONS PER COMMON SHARE
The following information sets forth the computation of basic and diluted per share net increase in net assets resulting from operations:
Numerator for net increase in net assets resulting from operations
Denominator for basic and diluted weighted average shares
Basic and diluted net increase in net assets per share resulting from operations
Years Ended September 30,
2019
2018
$
$
15,924,806
67,708,683
0.24
$
$
47,713,462
70,686,354
0.68
$
$
2017
61,711,501
71,060,836
0.87
68
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
8. TAXES AND DISTRIBUTIONS
Distributions from net investment income and net realized capital gains are determined in accordance with U.S. federal tax regulations, which may materially differ from amounts
determined in accordance with GAAP. These book-to-tax differences are either temporary or permanent in nature. To the extent these differences are permanent, they are reclassified to
undistributed net investment income, accumulated net realized gain or paid-in-capital, as appropriate. Distributions from net realized capital gains, if any, are normally declared and paid annually,
but the Company may make distributions on a more frequent basis to comply with the distribution requirements for RICs under the Code.
As of September 30, 2019 and 2018, the cost of investments for federal income tax purposes approximates the amortized cost reported in the Consolidated Schedule of Investments.
The following amounts were reclassified for tax purposes:
Decrease in paid-in capital
(Decrease) increase in accumulated net realized gain
Increase (decrease) in undistributed net investment income
2019
Years Ended September 30,
2018
$
(1,067,350) $
(2,136,670)
3,204,020
$
—
54,520
(54,520)
2017
(1,245,892)
(799,498)
2,045,390
The following reconciles net increase (decrease) in net assets resulting from operations to taxable income:
Net increase in net assets resulting from operations
Net realized loss (gain) on investments
Net change in unrealized (appreciation) depreciation on investments and debt
Other book-to-tax differences
Other non-deductible expenses
Taxable income before dividends paid deduction
$
$
2019
Years Ended September 30,
2018
$
15,924,806
108,515,658
(79,843,493)
2,985,657
2,874,707
50,457,335
$
$
47,713,462
(45,856,206)
51,476,896
(722,661)
343,083
52,954,574
$
The components of undistributed taxable income on a tax basis and reconciliation to accumulated deficit on a book basis are as follows:
2017
61,711,501
31,027,037
(36,300,227)
(6,838,039)
3,026,409
52,626,681
2017
18,388,023
(113,198,158)
(18,455,025)
(58,735,214)
(172,000,374)
2019
$
22,848,424
(180,338,571)
(18,494,772)
(30,368,617)
(206,353,536) $
As of September 30,
2018
$
20,714,977
(68,819,477)
(16,579,769)
(110,212,110)
(174,896,379) $
2019
Years Ended September 30,
2018
$
$
$
—
—
0.72
50,609,467
—
50,609,467
0.72
$
$
$
2017
58,269,886
—
58,269,886
0.82
Undistributed net investment income – tax basis
Realized loss carried forward
Distributions payable and other book to tax differences
Net unrealized depreciation of investments and debt
Total accumulated deficit – book basis
The tax characteristics of distributions declared are as follows:
Ordinary income (including short-term gains, if any)
Long-term capital gain
Total distributions
Total distributions declared per share
9. CASH AND CASH EQUIVALENTS
$
$
$
$
Cash equivalents represent cash in money market funds pending investment in longer-term portfolio holdings. Our portfolio may consist of temporary investments in U.S. Treasury Bills
(of varying maturities), repurchase agreements, money market funds or repurchase agreement-like treasury securities. These temporary investments with original maturities of 90 days or less are
deemed cash equivalents and are included in the Consolidated Schedule of Investments. At the end of each fiscal quarter, we may take proactive steps to preserve investment flexibility for the
next quarter by investing in cash equivalents, which is dependent upon the composition of our total assets at quarter-end. We may accomplish this in several ways, including purchasing U.S.
Treasury Bills and closing out positions on a net cash basis after quarter-end, temporarily drawing down on the Credit Facilities, or utilizing repurchase agreements or other balance sheet
transactions as are deemed appropriate for this purpose. These amounts are excluded from average adjusted gross assets for purposes of computing the Investment Adviser’s management fee.
U.S. Treasury Bills with maturities greater than 60 days from the time of purchase are valued consistent with our valuation policy. As of September 30, 2019 and 2018, cash and cash equivalents
consisted of money market funds in the amounts of $59.5 million and $19.5 million at fair value, respectively.
69
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
10. FINANCIAL HIGHLIGHTS
Below are the financial highlights for each of the years ended September 30:
Per Share Data:
Net asset value, beginning of year
Net investment income (1)
Net realized and unrealized (loss) gain (1)
Net increase (decrease) in net assets resulting from operations (1)
Distributions to stockholders (1), (2)
Distribution of net investment income
Distribution of realized gains
Total distributions to stockholders
Repurchase of common stock (1)
Net asset value, end of year
Per share market value, end of year
Total return (3)
Shares outstanding at end of year
Ratios / Supplemental Data:
Ratio of operating expenses to average net assets (4), (5)
Ratio of interest and expenses on debt to average net assets
Ratio of total expenses to average net assets (5)
Ratio of net investment income to average net assets
Net assets at end of year
Weighted average debt outstanding (6)
Weighted average debt per share (1), (6)
Asset coverage per unit (7)
Average market value per unit (8), (9)
Portfolio turnover ratio
2019
2018
2017
2016
2015
$
$
$
$
9.11
0.66
(0.42)
0.24
(0.72)
—
(0.72)
0.05
8.68
6.27
(6.28)%
$
$
$
9.10
0.75
(0.07)
0.68
(0.72)
—
(0.72)
0.05
9.11
7.46
9.70%
$
$
$
9.05
0.79
0.08
0.87
(0.82)
—
(0.82)
—
9.10
7.51
10.80%
$
$
$
9.82
0.99
(0.73)
0.26
(0.81)
(0.30)
(1.11)
0.08
9.05
7.52
36.64%
$
$
11.03
1.10
(1.24)
(0.14)
(1.11)
—
(1.11)
0.04
9.82
6.47
(32.51)%
67,045,105
69,053,958
71,060,836
71,060,836
72,966,043
4.83%
6.29%
11.12%
7.35%
4.99%
3.54%
8.53%
8.28%
5.78%
4.69%
10.47%
8.67%
6.65%
4.18%
10.83%
10.70%
6.81%
3.39%
10.20%
10.57%
$
$
$
$
$
581,905,668
638,424,193
9.43
2,066
24.87
35.44%
$
$
$
$
$
628,901,895
504,963,762
7.14
2,919
—
56.51%
$
$
$
$
$
646,808,471
605,661,674
8.52
2,998
—
43.60%
$
$
$
$
$
643,366,856
634,769,508
8.86
2,794
24.68
26.50%
$
$
$
$
$
716,590,542
580,367,750
7.76
2,586
25.13
30.17%
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
Based on the weighted average shares outstanding for the respective periods.
The tax status of distributions is calculated in accordance with income tax regulations, which may differ from amounts determined under GAAP, and reported on Form 1099-DIV each
calendar year.
Based on the change in market price per share during the period and takes into account distributions, if any, reinvested in accordance with our dividend reinvestment plan.
Excludes debt related costs.
For the years ended September 30, 2018, 2017 and 2016, the ratio of operating expenses to average net assets before the waiver of certain Management Fees to average net assets was
5.21%, 6.65% and 7.64%, respectively, and the ratio of total expenses to average net assets before the waiver of certain Management Fees to average net assets was 8.75%, 11.33% and
11.82%, respectively.
Includes SBA debentures outstanding.
The asset coverage ratio for a class of senior securities representing indebtedness is calculated on our consolidated total assets, less all liabilities and indebtedness not represented by senior
securities, divided by the senior securities representing indebtedness at par (changed from fair value). This asset coverage ratio is multiplied by $1,000 to determine the asset coverage per
unit. These amounts exclude SBA debentures from our asset coverage per unit computation pursuant to exemptive relief received from the SEC in June 2011.
The average market value per unit is derived based on the monthly average closing price of the 2025 Notes trading on NYSE under the symbol “PNTA,” which were issued in increments of
$25 per unit. On June 29, 2017, the 2025 Notes were redeemed in full and no amounts were outstanding as of September 30, 2019 or 2018.
The average market value per unit is derived based on the daily closing price of the 2024 Notes trading on The Nasdaq Global Select Market under the symbol “PNNTG,” which were
issued in increments of $25 per unit and commenced trading on September 30, 2019.
11. DEBT
The annualized weighted average cost of debt for the years ended September 30, 2019, 2018 and 2017, inclusive of the fee on the undrawn commitment and amendment costs on the
SunTrust Credit Facility, debt issuance costs on the BNP Credit Facility and amortized upfront fees on SBA debentures and 2024 Notes, was 6.0%, 4.5% and 5.0%, respectively. As of September
30, 2019, in accordance with the 1940 Act, with certain limited exceptions, we are only allowed to borrow amounts such that we are in compliance with the 150% asset coverage ratio
requirement after such borrowing, excluding SBA debentures, pursuant to exemptive relief from the SEC received in June 2011.
On February 5, 2019, our stockholders approved the application of the modified asset coverage requirement set forth in Section 61(a)(2) of the 1940 Act, as amended by the Consolidated
Appropriations Act of 2018 (which includes the Small Business Credit Availability Act, or SBCAA) as approved by our board of directors on November 13, 2018. As a result, the asset coverage
requirement applicable to us for senior securities was reduced from 200% (i.e., $1 of debt outstanding for each $1 of equity) to 150% (i.e., $2 of debt outstanding for each $1 of equity), subject to
compliance with certain disclosure requirements. As of September 30, 2019 and 2018, our asset coverage ratio, as computed in accordance with the 1940 Act, was 207% and 292%, respectively.
BNP Credit Facility
On February 22, 2019, Funding I closed the BNP Credit Facility for up to $250.0 million in borrowings with certain lenders and BNP Paribas, as administrative agent, and The Bank of
New York Mellon Trust Company, N.A., as collateral agent. As of September 30, 2019, Funding I had $171.0 million in outstanding borrowings under the BNP Credit Facility. The BNP Credit
Facility had a weighted average interest rate of 4.6% as of September 30, 2019. The BNP Credit Facility is a five-year revolving facility with a stated maturity date of February 22, 2024 and
pricing set at 260 basis points over LIBOR. The BNP Credit Facility is secured by all of the assets of Funding I. We own 100% of the equity interest in Funding I and treat the indebtedness of
Funding I as our leverage. Our Investment Adviser serves as the servicer to Funding I in connection with the BNP Credit Facility.
70
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
SunTrust Credit Facility
As of September 30, 2019, we had the multi-currency SunTrust Credit Facility for up to $475.0 million in borrowings with certain lenders and SunTrust Bank, acting as administrative
agent, and JPMorgan Chase Bank, N.A., acting as syndication agent for the lenders. As of September 30, 2019 and 2018, we had $301.6 million and $80.5 million (including a $2.0 million
temporary draw), respectively, in outstanding borrowings under the SunTrust Credit Facility. The SunTrust Credit Facility had a weighted average interest rate of 4.2% and 3.8%, respectively,
exclusive of the fee on undrawn commitment, as of September 30, 2019 and 2018. The SunTrust Credit Facility is a revolving facility with a stated maturity date of September 4, 2024 ($55.0
million of the $475 million commitment will mature May 25, 2022), a one-year term-out period on September 4, 2023 ($55.0 million of the $475 million commitment has a one year term-out
period on May 25, 2021) and pricing set at 225 basis points over LIBOR. The SunTrust Credit Facility is secured by substantially all of our assets excluding assets held by Funding I and SBIC II.
SBA Debentures
SBIC II is able to borrow funds from the SBA against regulatory capital (which approximates equity capital) that is paid-in and is subject to customary regulatory requirements including
an examination by the SBA. During the year ended September 30, 2019 we liquidated and dissolved SBIC I. We have funded SBIC II with $75.0 million of equity capital and it had SBA
debentures outstanding of $150.0 million as of September 30, 2019. SBA debentures are non-recourse to us and may be prepaid at any time without penalty. The interest rate of SBA debentures is
fixed at the time of issuance, often referred to as pooling, at a market-driven spread over 10-year U.S. Treasury Notes. Under current SBA regulations, a SBIC may individually borrow to a
maximum of $175.0 million, which is up to twice its potential regulatory capital. Under current SBA regulations, a SBIC may individually borrow to a maximum of $175.0 million, which is up to
twice its potential regulatory capital, and as part of a group of SBICs under common control may borrow a maximum of $350 million in the aggregate.
As of September 30, 2019 and 2018, our SBIC Funds had $150.0 million and $300.0 million in debt commitments, respectively, of which $150.0 million and $180.0 million was drawn,
respectively. As of September 30, 2019 and 2018, the unamortized fees on the SBA debentures were $3.9 million and $4.6 million, respectively. The SBA debentures’ upfront fees of 3.4%
consist of a commitment fee of 1.0% and an issuance discount of 2.4%, which are being amortized.
Our fixed-rate SBA debentures were as follows:
Issuance Dates
Maturity
Fixed All-in Coupon Rate (1)
March 23, 2016
September 21, 2016
September 20, 2017
March 21, 2018
Weighted Average Rate / Total
March 1, 2026
September 1, 2026
September 1, 2027
March 1, 2028
2.9%
2.4
2.9
3.5
3.1%
Issuance Dates
Maturity
Fixed All-in Coupon Rate (1)
September 21, 2011
March 23, 2016
September 21, 2016
September 20, 2017
March 21, 2018
Weighted Average Rate / Total
(1)
Excluding 3.4% of upfront fees.
September 1, 2021
March 1, 2026
September 1, 2026
September 1, 2027
March 1, 2028
3.4%
2.9
2.4
2.9
3.5
3.2%
As of September 30, 2019
Principal Balance
22,500,000
25,000,000
31,500,000
71,000,000
150,000,000
As of September 30, 2018
Principal Balance
30,000,000
22,500,000
25,000,000
31,500,000
71,000,000
180,000,000
$
$
$
The SBIC program is designed to stimulate the flow of capital into eligible businesses. Under SBA regulations, SBIC II is subject to regulatory requirements, including making
investments in SBA eligible businesses, investing at least 25% of regulatory capital in eligible smaller businesses, as defined under the 1958 Act, placing certain limitations on the financing terms
of investments, prohibiting investment in certain industries and requiring capitalization thresholds that limit distributions to us, and are subject to periodic audits and examinations of their
financial statements that are prepared on a basis of accounting other than GAAP (for example, fair value, as defined under ASC 820, is not required to be used for assets or liabilities for such
compliance reporting).
2019 Notes
The 2019 Notes were redeemed on March 4, 2019 at a redemption price equal to $1,008.65 for each $1,000.00 of principal of notes outstanding, plus accrued and unpaid interest to March 4,
2019, pursuant to the indenture governing the 2019 Notes. Interest on the 2019 Notes was paid semi-annually on April 1 and October 1, at a rate of 4.50% per year. The 2019 Notes were scheduled to
mature on October 1, 2019. The 2019 Notes were general, unsecured obligations and ranked equal in right of payment with all of our existing and future senior unsecured indebtedness. The 2019 Notes
were structurally subordinated to our SBA debentures and the assets pledged or secured under our Credit Facilities.
2025 Notes
On June 29, 2017,the 2025 Notes, were redeemed in full and no amounts were outstanding as of September 30, 2018 or 2017. Interest on the 2025 Notes was paid quarterly on February 1,
May 1, August 1 and November 1, at a rate of 6.25% per year. The 2025 Notes had been scheduled to mature on February 1, 2025. The 2025 Notes were general, unsecured obligations and
ranked equal in right of payment with all of our senior unsecured indebtedness. The 2025 Notes were structurally subordinated to our SBA debentures and the assets pledged or secured under our
SunTrust Credit Facility.
2024 Notes
As of September 30, 2019 and 2018, we had $75.0 million and zero in aggregate principal amount of 2024 Notes outstanding, respectively. Interest on the 2024 Notes is paid quarterly on
January 15, April 15, July 15 and October 15, at a rate of 5.50% per year. The 2024 Notes mature on October 15, 2024. The 2024 Notes are general, unsecured obligations and rank equal in right
of payment with all of our existing and future senior unsecured indebtedness. The 2024 Notes are structurally subordinated to our SBA debentures and the assets pledged or secured under our
Credit Facility. The 2024 Notes may be repurchased from time to time in open market purchases and privately-negotiated transactions.
71
PENNANTPARK INVESTMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
SEPTEMBER 30, 2019
12. COMMITMENTS AND CONTINGENCIES
From time to time, we, the Investment Adviser or the Administrator may be a party to legal proceedings, including proceedings relating to the enforcement of our rights under contracts with our
portfolio companies. While the outcome of these legal proceedings cannot be predicted with certainty, we do not expect that these proceedings will have a material effect upon our financial condition or
results of operations. Unfunded debt and equity investments, if any, are disclosed in the Consolidated Schedules of Investments. Under these arrangements, we may be required to supply a letter of
credit to a third party if the portfolio company were to request a letter of credit. As of September 30, 2019 and 2018, we had $30.4 million and $60.6 million, respectively, in commitments to fund
investments. For the same periods, there were no letters of credit issued.
13. UNCONSOLIDATED SIGNIFICANT SUBSIDIARIES
We must determine which, if any, of our unconsolidated controlled portfolio companies is a "significant subsidiary" within the meaning of Regulation S-X. We have determined that, as of
September 30, 2019, PT Networks, LLC and RAM Energy Holdings LLC triggered at least one of the significance tests. As a result and in accordance with Rule 3-09 of Regulation S-X, presented
below is summarized unaudited financial information for PT Networks, LLC as of September 30, 2019 and 2018 as well as for the years ended September 30, 2019, 2018 and 2017. In accordance with
Rule 3-09, separate audited financial statements of RAM Energy Holdings LLC for the year ended September 30, 2019 are being filed herewith as Exhibit 99.2 and separate unaudited financial
statements for the years ending September 30, 2018 and 2017 are being filed herewith as Exhibit 99.3. In addition, audited financial statements will be filed for PT Networks, LLC.
PT Networks, LLC:
Balance Sheet (1)
Current assets
Noncurrent assets
Current liabilities
Noncurrent liabilities
Income Statement (1)
Total revenue
Total expenses
Net loss
(1)
All amounts are in thousands.
14. STOCK REPURCHASE PROGRAM
$
$
$
$
2019
September 30, 2019
September 30, 2018
33,149
167,068
24,636
181,322
$
$
$
$
Years Ended September 30,
2018
2017
$
$
$
196,543
267,234
(70,691)
$
$
$
201,364
252,958
(51,593)
$
$
$
52,911
217,848
29,923
177,132
141,269
171,697
(30,428)
On May 9, 2018, we announced a share repurchase program which allowed us to repurchase up to $30 million of our outstanding common stock in the open market at prices below our NAV as
reported in our then most recently published consolidated financial statements. The program expired on May 9, 2019. For the years ended September 30, 2019, 2018 and 2017, we repurchased 2.0
million, 2.0 million and zero shares of common stock in open market transactions for an aggregate cost (including transaction costs) of $14.5 million, $15.0 million and zero, respectively.
15. SUBSEQUENT EVENTS
Subsequent to year end, we issued an additional $11.3 million in aggregate principal of the 2024 Notes at par value, generating net proceeds of $10.9 million after underwriting discounts and
offering expenses payable by us, as a result of the underwriters’ full exercise of the option to purchase additional 2024 Notes we granted to them in connection with the offering that closed in September
2019. In total, the Company has issued $86.3 of 2024 Notes at par value, generating net proceeds of $83.2 million.
Subsequent to year end, the SBA issued a "green light" or "go forth" letter inviting the Company to file an application to obtain a license to form and operate a third Small Business Investment
Company ("SBIC") subsidiary. Receipt of a green light letter from the SBA does not assure an applicant that the SBA will ultimately issue an SBIC license or of the timeframe in which it would
receive a license, should one ultimately be granted.
Subsequent to year end, we have invested approximately $70 million.
72
SUPPLEMENTARY DATA
Selected Quarterly Data (Unaudited)
(dollar amounts in thousands, except per share data)
Total investment income
Net investment income
Net realized and change in unrealized loss
Net increase (decrease) in net assets resulting from operations
Net increase (decrease) in net assets resulting from operations per common share *
Net asset value per share at the end of the quarter
Market value per share at the end of the quarter
Total investment income
Net investment income
Net realized and unrealized (loss) gain
Net increase in net assets resulting from operations
Net increase in net assets resulting from operations per common share *
Net asset value per share at the end of the quarter
Market value per share at the end of the quarter
Total investment income
Net investment income
Net realized and unrealized gain (loss)
Net increase (decrease) in net assets resulting from operations
Net increase (decrease) in net assets resulting from operations per common share *
Net asset value per share at the end of the quarter
Market value per share at the end of the quarter
*
Based on the weighted average shares outstanding for the respective periods.
Q4
Q3
Q2
Q1
2019
$
27,926
$
9,619
(1,356) $
$
8,264
$
0.13
$
8.68
$
6.27
$
28,113
$
11,650
(6,021) $
$
5,629
$
0.08
$
8.74
$
6.32
2018
$
28,688
$
10,753
(15,499) $
(4,746) $
(0.07) $
$
8.83
$
6.91
Q4
Q3
Q2
Q1
$
27,624
13,975
$
(1,502) $
$
12,473
$
0.18
$
9.11
$
7.46
24,760
11,776
5,134
16,910
0.24
9.09
7.01
$
$
$
$
$
$
$
2017
$
27,226
13,415
$
(7,380) $
$
6,035
$
0.08
$
9.00
$
6.68
Q4
Q3
Q2
Q1
$
27,866
12,768
$
(5,344) $
$
7,424
$
0.10
$
9.10
$
7.51
31,084
12,460
6,319
18,779
0.26
9.18
7.39
$
$
$
$
$
$
$
$
33,715
16,169
$
(4,709) $
$
11,460
$
0.16
$
9.09
$
8.14
27,380
12,575
(5,796)
6,778
0.10
9.05
6.37
28,668
14,168
(1,873)
12,295
0.18
9.10
6.91
31,869
15,041
9,008
24,049
0.34
9.11
7.66
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
$
73
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures
As of September 30, 2019, we, including our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and
procedures (as defined in Rule 13a-15(e) of the Exchange Act). Based on that evaluation, our management, including the Chief Executive Officer and Chief Financial Officer, concluded that our
disclosure controls and procedures were effective and provided reasonable assurance that information required to be disclosed in our periodic SEC filings is recorded, processed, summarized and
reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer
and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. However, in evaluating the disclosure controls and procedures, management recognized that
any controls and procedures, no matter how well designed and operated can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of such possible controls and procedures.
(b) Management’s Report on Internal Control Over Financial Reporting
Management’s Report on Internal Control Over Financial Reporting, which appears on page 48 of this Form 10-K, is incorporated by reference herein.
(c) Changes in Internal Controls Over Financial Reporting
There have been no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) during our most recently completed fiscal
quarter, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Item 9B.
Other Information
None.
74
We will file a definitive Proxy Statement for our 2020 Annual Meeting of Stockholders with the SEC, pursuant to Regulation 14A, not later than 120 days after the end of our fiscal year.
Accordingly, certain information required by Part III has been omitted under General Instruction G (3) to Form 10-K. Only those sections of our definitive Proxy Statement that specifically
address the items set forth herein are incorporated by reference.
Item 10.
Directors, Executive Officers and Corporate Governance
The information required by Item 10 is hereby incorporated by reference from our definitive Proxy Statement relating to our 2020 Annual Meeting of Stockholders, to be filed with the
PART III
SEC within 120 days following the end of our fiscal year.
Item 11.
Executive Compensation
The information required by Item 11 is hereby incorporated by reference from our definitive Proxy Statement relating to our 2020 Annual Meeting of Stockholders, to be filed with the
SEC within 120 days following the end of our fiscal year.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required by Item 12 is hereby incorporated by reference from our definitive Proxy Statement relating to our 2020 Annual Meeting of Stockholders, to be filed with the
SEC within 120 days following the end of our fiscal year.
Item 13.
Certain Relationships and Related Transactions, and Director Independence
The information required by Item 13 is hereby incorporated by reference from our definitive Proxy Statement relating to our 2020 Annual Meeting of Stockholders, to be filed with the
SEC within 120 days following the end of our fiscal year.
Item 14.
Principal Accountant Fees and Services
The information required by Item 14 is hereby incorporated by reference from our definitive Proxy Statement relating to our 2020 Annual Meeting of Stockholders, to be filed with the
SEC within 120 days following the end of our fiscal year.
75
Item 15.
Exhibits and Financial Statement Schedules
The following documents are filed as part of this Annual Report:
(1)
(2)
(3)
Financial Statements—Refer to Item 8 starting on page 47.
Financial Statement Schedules—None.
Exhibits
PART IV
3.1
3.2
4.1
4.2
4.3
4.4
4.5
Articles of Incorporation (Incorporated by reference to Exhibit 99(a) to the Registrant’s Pre-Effective Amendment No. 3 to the Registration Statement on Form N-2/A (File No. 333-
140092), filed on April 5, 2007).
Amended and Restated Bylaws of the Registrant (Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00736), filed on December
2, 2015).
Form of Share Certificate (Incorporated by reference to Exhibit 99(d)(1) to the Registrant’s Registration Statement on Form N-2 (File No. 333-150033), filed on April 2, 2008).
Base Indenture, dated as of January 22, 2013, relating to the 6.25% Senior Notes due 2025, between the Registrant and American Stock Transfer & Trust Company, LLC, as trustee
(Incorporated by reference to Exhibit 99(d)(8) to the Registrant’s Post-Effective Amendment No.4 to the Registration Statement on Form N-2/A (File No.333-172524), filed on
January 22, 2013).
Second Supplemental Indenture, dated as of September 23, 2014, relating to the 4.50% Notes due 2019, between the Registrant and American Stock Transfer & Trust Company,
LLC, as trustee (Incorporated by reference to Exhibit 99 (d)(11) to the Registrant’s Post-Effective Amendment No. 2 to Form N-2 (File No. 333-192782), filed on September 23,
2014.
Form of 4.50% Notes due 2019 (included as part of Exhibit 4.3).
Third Supplemental Indenture, dated as of September 27, 2019, by and between the Company and American Stock Transfer & Trust Company, LLC, as trustee (Incorporated by
reference to Exhibit 4.1 to the Registrant’s Form 8-K (File No. 814-00736), filed September 27, 2019).
4.6
Form of 5.50% Notes due 2024 (included as part of Exhibit 4.5).
4.7*
Description of Securities
10.1
10.2
10.3
10.4
10.5
10.6
10.7
10.8
10.9
10.10
Form of Administration Agreement between the Registrant and PennantPark Investment Administration LLC (Incorporated by reference to Exhibit 99(k)(1) to the Registrant’s
Registration Statement on Form N-2 (File No. 333-150033), filed on April 2, 2008).
Dividend Reinvestment Plan (Incorporated by reference to Exhibit 99(e) to the Registrant’s Registration Statement on Form N-2 (File No. 333-150033), filed on April 2, 2008).
First Omnibus Amendment to Second Amended and Restated Senior Secured Revolving Credit Agreement and Second Amended and Restated Guarantee and Security Agreement,
dated as of May 25, 2017, among the Registrant, the lenders party thereto and SunTrust Bank, as administrative agent for the lenders (Incorporated by reference to Exhibit 10.1 to the
Registrant’s Quarterly Report on Form 10-Q (File No. 814-00736), filed on August 7, 2017).
Indemnification Agreement, dated as of November 15, 2016, between PennantPark Investment Corporation and each of the directors and officers listed on Schedule A attached
thereto (Incorporated by reference to Exhibit 10.5 to the Registrant’s Annual Report on Form 10-K (File No. 814-00736) filed on November 21, 2016).
Revolving Credit and Security Agreement by and among PennantPark Investment Funding I, LLC, as borrower, the lenders from time to time parties thereto, BNP Paribas, as
administrative agent, PennantPark Investment Corporation, as equityholder, PennantPark Investment Advisers, LLC, as servicer, and The Bank of New York Mellon Trust Company,
National Association, as collateral agent, dated as of February 22, 2019 (Incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No. 814-
00736), filed on February 26, 2019).
Account Control Agreement by and among PennantPark Investment Funding I, LLC, as pledgor, The Bank of New York Mellon Trust Company, National Association, as secured
party, PennantPark Investment Advisers, LLC, as servicer, and The Bank of New York Mellon Trust Company, National Association, as securities intermediary, dated as of February
22, 2019 (Incorporated by reference to Exhibit 10.2 to the Registrant’s Current Report on Form 8-K (File No. 814-00736), filed on February 26, 2019).
Custodian Agreement by and among PennantPark Investment Funding I, LLC, The Bank of New York Mellon Trust Company, National Association, as custodian, and The Bank of
New York Mellon Trust Company, National Association, as collateral agent, dated as of February 22, 2019 (Incorporated by reference to Exhibit 10.3 to the Registrant’s Current
Report on Form 8-K (File No. 814-00736), filed on February 26, 2019).
Purchase and Sale Agreement by and between PennantPark Investment Funding I, LLC, as the purchaser, and PennantPark Investment Corporation, as the seller, dated as of February
22, 2019 (Incorporated by reference to Exhibit 10.4 to the Registrant’s Current Report on Form 8-K (File No. 814-00736), filed on February 26, 2019).
Third Amended and Restated Investment Advisory Management Agreement, dated as of April 12, 2019, between the Registrant and PennantPark Investment Advisers, LLC
(Incorporated by reference to Exhibit (g)(3) to the Registrant’s Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-230014), filed on April 12,
2019).
Second Amendment to Second Amended and Restated Senior Secured Revolving Credit Agreement, dated as of September 4, 2019, by and among PennantPark Investment
Corporation, as borrower, the lenders party thereto, SunTrust Bank, as administrative agent and collateral agent, and solely with respect to Section 4.9, PNNT CI (GALLS) Prime
Investment Holdings, LLC, PNNT Investment Holdings, LLC, PNNT New Gulf Resources, LLC, PNNT ecoserve, LLC and PNNT Cascade Environmental Holdings, LLC
(Incorporated by reference to Exhibit 10.1 to the Registrant’s Form 8-K (File No.
814-00736), filed on September 4, 2019).
76
14.1*
Joint Code of Ethics of the Registrant.
21.1*
Subsidiaries of the Registrant.
31.1*
Certification of Chief Executive Officer pursuant to Rule 13a-14 of the Securities Exchange Act of 1934, as amended.
31.2*
Certification of Chief Financial Officer pursuant to Rule 13a-14 of the Securities Exchange Act of 1934, as amended.
32.1*
Certification of Chief Executive Officer pursuant to section 906 of the Sarbanes-Oxley Act of 2002.
32.2*
Certification of Chief Financial Officer pursuant to section 906 of the Sarbanes-Oxley Act of 2002.
99.1
Privacy Policy of the Registrant (Incorporated by reference to Exhibit 99.1 to the Registrant’s Annual Report on Form 10-K (File No. 814-00736), filed on November 16, 2011).
99.2*
Audited Consolidated Financial Statements of RAM Energy Holdings LLC and Subsidiaries for the Year Ended September 30, 2019.
99.3*
Unaudited Consolidated Financial Statements of RAM Energy Holdings LLC and Subsidiaries for the Year Ended September 30, 2018 and 2017.
*
Filed herewith
77
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned,
SIGNATURES
thereunto duly authorized on November 21, 2019.
By:
Name:
Title:
/s/ ARTHUR H. PENN
Arthur H. Penn
Chief Executive Officer and Chairman of the Board of
Directors
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the
dates indicated.
Signature
/s/ ARTHUR H. PENN
Arthur H. Penn
/s/ AVIV EFRAT
Aviv Efrat
/s/ ADAM K. BERNSTEIN
Adam K. Bernstein
/s/ JEFFREY FLUG
Jeffrey Flug
/s/ MARSHALL BROZOST
Marshall Brozost
/s/ SAMUEL L. KATZ
Samuel L. Katz
Title
Chief Executive Officer and Chairman of the Board of Directors
(Principal Executive Officer)
Chief Financial Officer and Treasurer
(Principal Financial and Accounting Officer)
Director
Director
Director
Director
78
Date
November 21, 2019
November 21, 2019
November 21, 2019
November 21, 2019
November 21, 2019
November 21, 2019
JOINT CODE OF ETHICS
FOR
PENNANTPARK INVESTMENT CORPORATION
PENNANTPARK FLOATING RATE CAPITAL LTD.
PENNANTPARK INVESTMENT ADVISERS, LLC
EXHIBIT 14.1
Section I Statement of General Fiduciary Principles
This Joint Code of Ethics (the “Code”) has been adopted by each of PennantPark Investment Corporation, PennantPark Floating Rate Capital, Ltd. (each individually, the “Corporation”),
and PennantPark Investment Advisers, LLC, the Corporations’ investment adviser (the “Adviser”), in compliance with Rule 17j-1 under the Investment Company Act of 1940 (the “Act”) and
Section 204A of the Investment Advisers Act of 1940 (the “Advisers Act”). The purpose of the Code is to establish standards and procedures for the detection and prevention of activities by
which persons having knowledge of the investments and investment intentions of the Corporations may abuse their fiduciary duty to the Corporations, and otherwise to deal with the types of
conflict of interest situations to which Rule 17j-1 is addressed. As it relates to Section 204A of the Advisers Act, the purpose of this Code is to establish procedures that, taking into consideration
the nature of the Adviser’s business, are reasonably designed to prevent misuse of material non-public information in violation of the federal securities laws by persons associated with the
Adviser.
The Code is based on the principle that the directors and officers of the Corporations, and the managers, partners, officers and employees of the Adviser, who provide services to the
Corporations, owe a fiduciary duty to the Corporations to conduct their personal securities transactions in a manner that does not interfere with the Corporations’ transactions or otherwise take
unfair advantage of their relationship with the Corporations. All directors, managers, partners, officers and employees of the Corporations, and the Adviser (“Covered Personnel”) are expected to
adhere to this general principle as well as to comply with all of the specific provisions of this Code that are applicable to them. Any Covered Personnel who is affiliated with another entity that is
a registered investment adviser is, in addition, expected to comply with the provisions of the code of ethics that has been adopted by such other investment adviser.
Technical compliance with the Code will not automatically insulate any Covered Personnel from scrutiny of transactions that show a pattern of compromise or abuse of the individual’s
fiduciary duty to the Corporation. Accordingly, all Covered Personnel must seek to avoid any actual or potential conflicts between their personal interests and the interests of the Corporation and
its shareholders. In sum, all Covered Personnel shall place the interests of the Corporation before their own personal interests.
All Covered Personnel must read and retain this Code.
Section II Definitions
(A)
(B)
(C)
(D)
(E)
(F)
(G)
(H)
(I)
“Access Person” means any director, officer, general partner or Advisory Person (as defined below) of the Corporations or the Adviser.
An “Advisory Person” of the Corporation or the Adviser means: (i) any employee of the Corporation or the Adviser, or any company in a Control (as defined below) relationship
to the Corporation or the Adviser, who in connection with his or her regular functions or duties makes, participates in, or obtains information regarding the purchase or sale of
any Covered Security (as defined below) by the Corporation, or whose functions relate to the making of any recommendation with respect to such purchases or sales; and (ii) any
natural person in a Control relationship to the Corporation or the Adviser, who obtains information concerning recommendations made to the Corporation with regard to the
purchase or sale of any Covered Security by the Corporation.
“Beneficial Ownership” is interpreted in the same manner as it would be under Rule 16a-1(a)(2) under the Securities Exchange Act of 1934 (the “1934 Act”) in determining
whether a person is a beneficial owner of a security for purposes of Section 16 of the 1934 Act and the rules and regulations thereunder.
“Chief Compliance Officer” means the Chief Compliance Officer of the Corporation (who also may serve as the compliance officer of the Adviser and/or one or more affiliates
of the Adviser).
“Control” shall have the same meaning as that set forth in Section 2(a)(9) of the Act.
“Covered Security” means a security as defined in Section 2(a)(36) of the Act, which includes: any note, stock, treasury stock, security future, bond, debenture, evidence of
indebtedness, certificate of interest or participation in any profit-sharing agreement, collateral-trust certificate, pre-organization certificate or subscription, transferable share,
investment contract, voting-trust certificate, certificate of deposit for a security, fractional undivided interest in oil, gas, or other mineral rights, any put, call, straddle, option, or
privilege on any security (including a certificate of deposit) or on any group or index of securities (including any interest therein or based on the value thereof), or any put, call,
straddle, option, or privilege entered into on a national securities exchange relating to foreign currency, or, in general, any interest or instrument commonly known as a “security,”
or any certificate of interest or participation in, temporary or interim certificate for, receipt for, guarantee of, or warrant or right to subscribe to or purchase, any of the foregoing.
Except that “Covered Security” does not include: (i) direct obligations of the Government of the United States; (ii) bankers’ acceptances, bank certificates of deposit, commercial
paper and high quality short-term debt instruments, including repurchase agreements; and (iii) shares issued by open-end investment companies registered under the Act.
References to a Covered Security in this Code (e.g., a prohibition or requirement applicable to the purchase or sale of a Covered Security) shall be deemed to refer to and to
include any warrant for, option in, or security immediately convertible into that Covered Security, and shall also include any instrument that has an investment return or value
that is based, in whole or in part, on that Covered Security (collectively, “Derivatives”). Therefore, except as otherwise specifically provided by this Code: (i) any prohibition or
requirement of this Code applicable to the purchase or sale of a Covered Security shall also be applicable to the purchase or sale of a Derivative relating to that Covered Security;
and (ii) any prohibition or requirement of this Code applicable to the purchase or sale of a Derivative shall also be applicable to the purchase or sale of a Covered Security
relating to that Derivative.
“Independent Director” means a director of the Corporation who is not an “interested person” of the Corporation within the meaning of Section 2(a)(19) of the Act.
“Initial Public Offering” means an offering of securities registered under the Securities Act of 1933 (the “1933 Act”), the issuer of which, immediately before the registration,
was not subject to the reporting requirements of Sections 13 or 15(d) of the 1934 Act.
“Limited Offering” means an offering that is exempt from registration under the 1933 Act pursuant to Section 4(2) or Section 4(6) thereof or pursuant to Rule 504, Rule 505, or
Rule 506 thereunder.
1
(J)
(K)
“Restricted List” means the “Pipeline” report of potential investments combined with the current holdings of the clients. PennantPark Access Persons are restricted from trading
any security on the Restricted List.
“Security Held or to be Acquired” by the Corporation means: (i) any Covered Security which, within the most recent 15 days: (A) is or has been held by the Corporation; or
(B) is being or has been considered by the Corporation or the Adviser for purchase by the Corporation; and (ii) any option to purchase or sell, and any security convertible into or
exchangeable for, a Covered Security described in Section II (K)(i).
(L)
“17j-1 Organization” means the Corporation or the Adviser, as the context requires.
Section III Objective and General Prohibitions
Covered Personnel may not engage in any investment transaction under circumstances in which the Covered Personnel benefits from or interferes with the purchase or sale of
investments by the Corporation. In addition, Covered Personnel may not use information concerning the investments or investment intentions of the Corporation, or their ability to influence such
investment intentions, for personal gain or in a manner detrimental to the interests of the Corporation.
Covered Personnel may not engage in conduct that is deceitful, fraudulent or manipulative, or that involves false or misleading statements, in connection with the purchase or sale of
investments by the Corporation. In this regard, Covered Personnel should recognize that Rule 17j-1 makes it unlawful for any affiliated person of the Corporation, or any affiliated person of an
investment adviser for the Corporation, in connection with the purchase or sale, directly or indirectly, by the person of a Security Held or to be Acquired by the Corporation to:
(i)
(ii)
(iii)
(iv)
employ any device, scheme or artifice to defraud the Corporation;
make any untrue statement of a material fact to the Corporation or omit to state to the Corporation a material fact necessary in order to make the statements made, in light of the
circumstances under which they are made, not misleading;
engage in any act, practice or course of business that operates or would operate as a fraud or deceit upon the Corporation; or
engage in any manipulative practice with respect to the Corporation.
Covered Personnel should also recognize that a violation of this Code or of Rule 17j-1 may result in the imposition of: (1) sanctions as provided by Section VIII below; or
(2) administrative, civil and, in certain cases, criminal fines, sanctions or penalties.
Section IV Pre-Clearance of Personal Account Transactions; Window Period to Trade PennantPark shares
Except as noted below, all Access Persons must obtain the prior written approval of the Managing Member (or such person as the Managing Member may designate) (“Approving
Officer”) before engaging in any transaction in his or her Personal Account. The Approving Officer may approve the transaction if he concludes that the transaction would comply with the
provisions of this Code of Ethics and is not likely to have any adverse economic impact on clients. A request for preclearance must be made by email, with a copy to the Compliance Officer, in
advance of the contemplated transaction. No particular form is required, but the email must include sufficient detail for the Approving Officer to decide if a trade is permissible.
Any approval given under this paragraph will be provided by email and will remain in effect for 72 hours.
Exceptions to the Pre-Clearance Requirement Policy,
Access Persons will be allowed to trade securities of the Corporations during a “window period” that may be announced following the release of Corporations’ earnings release. If the
window is opened for trading, it will begin no earlier than the second business day after a Corporation publicly releases quarterly or annual financial results and extends no later than 30 calendar
days after the release of results (29 calendar days in all). Note that the ability of an officer, director or other Access Person to engage in transactions in the securities of a Corporation during a
window period is not automatic or absolute because no trades may be made even during a window period by an individual who possesses material, nonpublic information. Further, the window
period may not open in a particular quarter, and it may be closed prior to the expiration of 30 days, as events require.
Additionally, Independent Directors are not required to seek preapproval for any transactions other than those which would trigger reporting requirements as set forth in Section VI (C) of
this Code below.
Section V Prohibited Transactions
(A)
(B)
(C)
An Access Person may not purchase or otherwise acquire direct or indirect Beneficial Ownership of any Covered Security on the Restricted List, and may not sell or otherwise
dispose of any Covered Security on the Restricted List in which he or she has direct or indirect Beneficial Ownership, if he or she knows or should know at the time of entering
into the transaction that: (1) the Corporation has purchased or sold the Covered Security within the last 15 calendar days, or is purchasing or selling or intends to purchase or sell
the Covered Security in the next 15 calendar days; or (2) the Adviser has within the last 15 calendar days considered purchasing or selling the Covered Security for the
Corporation or within the next 15 calendar days intend to consider purchasing or selling the Covered Security for the Corporation.
Every Advisory Person of the Corporation or the Adviser must obtain approval from the Corporation or the Adviser, as the case may be, before directly or indirectly acquiring
Beneficial Ownership in any securities in an Initial Public Offering or in a Limited Offering. Such approval must be obtained from the Chief Compliance Officer, unless he is the
person seeking such approval, in which case it must be obtained from the President of the 17j-1 Organization.
No Access Person shall recommend any transaction in any Covered Securities by the Corporation without having disclosed to the Chief Compliance Officer his or her interest, if
any, in such Covered Securities or the issuer thereof, including: the Access Person’s Beneficial Ownership of any Covered Securities of such issuer; any contemplated transaction
by the Access Person in such Covered Securities; any position the Access Person has with such issuer; and any present or proposed business relationship between such issuer and
the Access Person (or a party which the Access Person has a significant interest).
Section VI Reports by Access Persons
(A)
Personal Securities Holdings Reports.
All Access Persons shall within 10 days of the date on which they become Access Persons, and thereafter, within 30 days after the end of each calendar year, disclose the title, number of
shares and principal amount of all Covered Securities in which they have a Beneficial Ownership as of the date the person became an Access
2
Person, in the case of such person’s initial report, and as of the last day of the year, as to annual reports. A form of such report, which is hereinafter called a “Personal Securities Holdings Report,”
is attached as Schedule A. Each Personal Securities Holdings Report must also disclose the name of any broker, dealer or bank with whom the Access Person maintained an account in which any
securities were held for the direct or indirect benefit of the Access Person as of the date the person became an Access Person or as of the last day of the year, as the case may be. Each Personal
Securities Holdings Report shall state the date it is being submitted.
(B)
Quarterly Transaction Reports.
Within 30 days after the end of each calendar quarter, each Access Person shall make a written report to the Chief Compliance Officer of all transactions occurring in the quarter in a
Covered Security in which he or she had any Beneficial Ownership. A form of such report, which is hereinafter called a “Quarterly Securities Transaction Report,” is attached as Schedule B.
A Quarterly Securities Transaction Report shall be in the form of Schedule B or such other form approved by the Chief Compliance Officer and must contain the following information
with respect to each reportable transaction:
(1)
(2)
(3)
(4)
(C)
Date and nature of the transaction (purchase, sale or any other type of acquisition or disposition);
Title, interest rate and maturity date (if applicable), number of shares and principal amount of each Covered Security involved and the price of the Covered Security at which the
transaction was effected;
Name of the broker, dealer or bank with or through whom the transaction was effected; and
The date the report is submitted by the Access Person.
Independent Directors.
Notwithstanding the reporting requirements set forth in this Section V, an Independent Director who would be required to make a report under this Section V solely by reason of being a
director of the Corporation is not required to file a Personal Securities Holding Report upon becoming a director of the Corporation or an annual Personal Securities Holding Report. Such an
Independent Director also need not file a Quarterly Securities Transaction Report unless such director knew or, in the ordinary course of fulfilling his or her official duties as a director of the
Corporation, should have known that during the 15-day period immediately preceding or after the date of the transaction in a Covered Security by the director such Covered Security is or was
purchased or sold by the Corporation or the Corporation or the Adviser considered purchasing or selling such Covered Security.
(D)
Access Persons of the Adviser.
An Access Person of the Adviser need not make a Quarterly Transaction Report if all of the information in the report would duplicate information required to be recorded pursuant to
Rules 204-2(a)(12) or (13) under the Investment Advisers Act of 1940, as amended.
(E)
Brokerage Accounts and Statements.
Access Persons, except Independent Directors, shall:
(1)
(2)
(3)
(F)
within 10 days after the end of each calendar quarter, identify the name of the broker, dealer or bank with whom the Access Person established an account in which any securities
were held during the quarter for the direct or indirect benefit of the Access Person and identify any new account(s) and the date the account(s) were established. This information
shall be included on the appropriate Quarterly Securities Transaction Report.
instruct the brokers, dealers or banks with whom they maintain such an account to provide duplicate account statements to the Chief Compliance Officer.
on an annual basis, certify that they have complied with the requirements of (1) and (2) above.
Form of Reports.
A Quarterly Securities Transaction Report may consist of broker statements or other statements that provide a list of all personal Covered Securities holdings and transactions in the time
period covered by the report and contain the information required in a Quarterly Securities Transaction Report.
(G)
Responsibility to Report.
It is the responsibility of each Access Person to take the initiative to comply with the requirements of this Section V. Any effort by the Corporation, or by the Adviser and its affiliates, to
facilitate the reporting process does not change or alter that responsibility. A person need not make a report hereunder with respect to transactions effected for, and Covered Securities held in, any
account over which the person has no direct or indirect influence or control.
(H)
Where to File Reports.
All Quarterly Securities Transaction Reports and Personal Securities Holdings Reports must be filed with the Chief Compliance Officer.
(I)
Disclaimers.
Any report required by this Section V may contain a statement that the report will not be construed as an admission that the person making the report has any direct or indirect Beneficial
Ownership in the Covered, Security to which the report relates.
(J)
Exceptions from Reporting Requirements.
Reports are not required: (1) with respect to securities held in accounts over which the access person has no direct or indirect influence or control as determined by the CCO in
accordance with applicable guidance, a “Third Party Managed Account”; (2) with respect to transactions effected pursuant to an automatic investment plan; or (3) which would duplicate
information contained in broker trade confirmations or account statements provided the adviser receives such confirmations or statements within 30 days after the end of the applicable calendar
quarter and holds them in its books and records. PennantPark allows, but does not require, Access Persons to direct their brokers to provide duplicate statements and confirmations for this
purpose.
3
(K)
Blind Trusts and other Third Party Managed Accounts.
Rule 204A-1(b)(3)(i) provides that an access person is not required “to submit . . . any report [(i.e., initial and annual holdings reports and quarterly transaction reports)] with respect to
securities held in accounts over which the access person has no direct or indirect influence or control.” Examples of such accounts include “Blind Trusts” where the access person has no
knowledge of specific actions taken by the Trustee with respect to Trust investments and no right to intervene in the trustee’s management. Additionally, accounts with similar features that limit
the access person’s involvement, including other types of trusts and accounts managed by an unaffiliated manager with discretionary authority. However, the mere retention of a trustee or
manager to advise an access person’s account on a discretionary basis is not, by itself, sufficient to allow for a conclusion that the access person has no direct or indirect influence or control.
Rather, under the Guidance, the adviser must make a reasonable determination, based on reasonably designed policies and procedures, whether “the access person actually had direct or indirect
influence or control over the trust or account, rather than whether the third-party manager had discretionary or non-discretionary investment authority.”
Access persons who wish to rely on this exception with respect to any account which otherwise would be reportable must register the account with the CCO who will determine, based on
relevant facts and circumstances (including the terms of the account), whether the access person has direct or indirect influence or control over the account. An access person would have direct or
indirect influence or control over an account where the access person (i) has the ability to suggest or direct purchases or sales; (ii) consults with the trustee or manager as to the particular
allocation of investments to be made in the account; or (iii) engages in regular and substantive discussions with the trustee or manager with respect to account holdings. However, the following
activities would not preclude the CCO from determining that an account is a Third Party Managed Account: (i) the access person provides information about his or her investment objectives and
reasonable restrictions; (ii) the trustee or manager provides summary descriptions or explanations (whether written or oral) regarding account activity to the access person, provided that the
access person does not provide suggestions or directions to the trustee or manager; and (iii) the access person is able to make contributions to and withdrawals from the account, provided that the
access person may not instruct the trustee or manager as to specific securities or types of securities which should be purchased or liquidated in connection with the contribution or withdrawal.
No account shall be treated as a Third Party Managed Account until the CCO determines and informs the access person that the account meets the relevant requirements. In making a
determination that an account meets the requirements to be treated as a Third Party Managed Account, the CCO may consider, as he or she determines relevant under the circumstances:
(1)
(2)
(3)
(4)
The terms of the account or trust documentation, including the advisory agreement;
Information obtained from the access person as to the nature of the access person’s relationship with the trustee or manager (e.g., whether the trustee or manager is a friend or
relative of the access person; whether the advisory firm is affiliated with PennantPark);
Specific periodic certifications from the access person, trustee and/or manager, as to the nature of the account and whether the access person has sought to exercise influence or
control over the trustee or manager;
Certification or representation from the access person that he or she has reviewed the Code, including this section defining the exception and describing the relevant
determinative factors as to concluding that the access person does not exercise direct or indirect influence or control; and
(5)
Any other information that the CCO believes necessary or appropriate to determine whether the account meets the standards set forth herein.
The CCO will document, in writing, his or her conclusion as to whether the account meets the requirements to be treated as a Third Party Managed Account to rely on the reporting
exception and will periodically review such determination with the access person. The CCO may require that the access person (and, where appropriate, the manager/trustee) provide additional or
renewed certifications or information about the account. Additionally, the CCO may require that the access person provide reports on a sample basis as to account holdings and/or transactions.
The CCO will review any such reports to determine whether transactions in the account would have been inconsistent with this Code absent reliance on the reporting exception. The CCO will
keep relevant records to document these reviews and support his or her conclusions as to the status of the relevant account(s).
Section VII Additional Prohibitions
(A)
Confidentiality of the Corporation’s Transactions.
Until disclosed in a public report to shareholders or to the Securities and Exchange Commission in the normal course, all information concerning the securities “being considered for
purchase or sale” by the Corporation shall be kept confidential by all Covered Personnel and disclosed by them only on a “need to know” basis. It shall be the responsibility of the Chief
Compliance Officer to report any inadequacy found in this regard to the directors of the Corporation.
(B)
Outside Business Activities and Directorships.
Access Persons may not engage in any outside business activities that may give rise to conflicts of interest or jeopardize the integrity or reputation of the Corporation. Similarly, no such
outside business activities may be inconsistent with the interests of the Corporation. All directorships of public or private companies held by Access Persons shall be reported to the Chief
Compliance Officer.
(C)
Gratuities.
Covered Personnel shall not, directly or indirectly, take, accept or receive gifts or other consideration in merchandise, services or otherwise of more than nominal value from any person,
firm, corporation, association or other entity other than such person’s employer that does business, or proposes to do business, with the Corporation.
4
Section VIII Prohibition Against Insider Trading
This Section is intended to satisfy the requirements of Section 204A of the Advisers Act, which is applicable to the Adviser and requires that the Adviser establish and enforce procedures
designed to prevent the misuse of material, non-public information by its associated persons. It applies to all Advisory Persons. Trading securities while in possession of material, non-public
information, or improperly communicating that information to others, may expose an Advisory Person to severe penalties. Criminal sanctions may include a fine of up to $1,000,000 and/or ten
years imprisonment. The SEC can recover the profits gained or losses avoided through the violative trading, a penalty of up to three times the illicit windfall, and an order permanently barring an
Advisory Person from the securities industry. Finally, an Advisory Person may be sued by investors seeking to recover damages for insider trading violations.
(A)
(B)
(C)
(D)
No Advisory Person may trade a security, either personally or on behalf of any other person or account (including any fund), while in possession of material, non-public
information concerning that security or the issuer thereof, nor may any Advisory Person communicate material, non-public information to others in violation of the law.
Information is “material” where there is a substantial likelihood that a reasonable investor would consider it important in making his or her investment decisions. Generally, this
includes any information the disclosure of which will have a substantial effect on the price of a security. No simple test exists to determine when information is material;
assessments of materiality involve a highly fact specific inquiry. For this reason, an Advisory Person should direct any questions about whether information is material to the
Chief Compliance Officer. Material information often relates to a company’s results and operations, including, for example, dividend changes, earnings results, changes in
previously released earnings estimates, significant merger or acquisition proposals or agreements, major litigation, liquidation problems, and extraordinary management
developments. Material information may also relate to the market for a company’s securities. Information about a significant order to purchase or sell Securities may, in some
contexts, be material. Pre-publication information regarding reports in the financial press may also be material.
Information is “public” when it has been disseminated broadly to investors in the marketplace. For example, information is public after it has become available to the general
public through a public filing with the SEC or some other government agency, the Dow Jones “tape” or The Wall Street Journal or some other publication of general circulation,
and after sufficient time has passed so that the information has been disseminated widely.
An Advisory Person, before executing any trade for himself or herself, or others, including the Corporation or other accounts managed by the Adviser or by a stockholder of the
Adviser, or any affiliate of the stockholder (“Client Accounts”), must determine whether he or she has material, non-public information. Any Advisory Person who believes he or
she is in possession of material, non-public information must take the following steps:
(1)
(2)
(3)
Report the information and proposed trade immediately to the Chief Compliance Officer.
Do not purchase or sell the securities on behalf of anyone, including Client Accounts.
Do not communicate the information to any person, other than to the Chief Compliance Officer.
After the Chief Compliance Officer has reviewed the issue, the Chief Compliance Officer will determine whether the information is material and non-public and, if so, what action the
Advisory Person should take. An Advisory Person must consult with the Chief Compliance Officer before taking any further action. This degree of caution will protect the Advisory Person and
the Adviser.
(E)
(F)
To prevent and detect insider trading from occurring, the Chief Compliance Officer shall prepare and maintain a “Restricted List” in order to monitor and prevent the occurrence
of insider trading in certain securities that Access Persons are prohibited or restricted from trading. The Chief Compliance Officer manages, maintains and updates the Restricted
List to actually restrict trading (no buying, no selling, no shorting, no trading, etc.) in the securities of specific issuers for personal accounts and on behalf Adviser’s clients.
Before executing any trade for himself or herself, Advisory Persons are required to determine whether the transaction involves a security on the Restricted List. Advisory Persons
are prohibited from trading any security which appears on the Restricted List, except that, with prior approval, an Advisory Person may sell securities which were not on the
Restricted List when acquired (or which were acquired at a time when the Advisory Person was not subject to such restrictions). The Restricted List must be maintained strictly
confidential and not disclosed to anyone outside of the Adviser and the Corporation.
Contacts with public companies will sometimes be a part of an Adviser’s research efforts. Persons providing investment advisory services to the Corporation may make
investment decisions on the basis of conclusions formed through such contacts and analysis of publicly available information. Difficult legal issues arise, however, when, in the
course of these contacts, an Advisory Person becomes aware of material, non-public information. This could happen, for example, if a company’s chief financial officer
prematurely discloses quarterly results to an analyst, or an investor relations representative makes selective disclosure of adverse news to a handful of investors. In such
situations, the Adviser must make a judgment as to its further conduct. To protect yourself, clients and the Adviser, you should contact the Chief Compliance Officer immediately
if you believe that you may have received material, non-public information.
Section IX Annual Certification
(A)
Access Persons.
Access Persons who are directors, managers, officers or employees of the Corporation or the Adviser shall be required to certify annually that they have read this Code and that they
understand it and recognize that they are subject to it. Further, such Access Persons shall be required to certify annually that they have complied with the requirements of this Code.
(B)
Board Review.
No less frequently than annually, the Corporation and the Adviser must furnish to the Corporation’s board of directors, and the board must consider, a written report that: (A) describes
any issues arising under this Code or procedures since the last report to the board, including, but not limited to, information about material violations of the Code or procedures and sanctions
imposed in response to material violations; and (B) certifies that the Corporation or the Adviser, as applicable, has adopted procedures reasonably necessary to prevent Access Persons from
violating the Code.
5
Section X Sanctions
Any violation of this Code shall be subject to the imposition of such sanctions by the 17j-1 Organization as may be deemed appropriate under the circumstances to achieve the purposes
of Rule 17j-1 and this Code. The sanctions to be imposed shall be determined by the board of directors, including a majority of the Independent Directors, provided, however, that with respect to
violations by persons who are directors, managers, officers or employees of the Adviser (or of a company that controls the Adviser), the sanctions to be imposed shall be determined by the
Adviser (or the controlling person thereof). Sanctions may include, but are not limited to, suspension or termination of employment, a letter of censure and/or restitution of an amount equal to the
difference between the price paid or received by the Corporation and the more advantageous price paid or received by the offending person.
Section XI Administration and Construction
(A)
(B)
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(C)
(1)
(2)
(3)
(4)
(5)
(6)
(7)
The administration of this Code shall be the responsibility of the Chief Compliance Officer.
The duties of the Chief Compliance Officer are as follows:
Continuous maintenance of a current list of the names of all Access Persons with an appropriate description of their title or employment, including a notation of any directorships
held by Access Persons who are officers or employees of the Adviser or of any company that controls the Adviser, and informing all Access Persons of their reporting obligations
hereunder;
On an annual basis, providing all Covered Personnel a copy of this Code and informing such persons of their duties and obligations hereunder including any supplemental
training that may be required from time to time;
Maintaining or supervising the maintenance of all records and reports required by this Code;
Preparing listings of all transactions effected by Access Persons who are subject to the requirement to file Quarterly Securities Transaction Reports and reviewing such
transactions against a listing of all transactions effected by the Corporation;
Issuance either personally or with the assistance of counsel as may be appropriate, of any interpretation of this Code that may appear consistent with the objectives of Rule 17j-1
and this Code;
Conduct such inspections or investigations as shall reasonably be required to detect and report, with recommendations, any apparent violations of this Code to the board of
directors of the Corporation;
Submission of a report to the board of directors of the Corporation, no less frequently than annually, a written report that describes any issues arising under the Code since the last
such report, including but not limited to the information described in Section VII (B); and
The Chief Financial Officer shall maintain and cause to be maintained in an easily accessible place at the principal place of business of the 17j-1 Organization, the following
records:
A copy of all codes of ethics adopted by the Corporation or the Adviser and its affiliates, as the case may be, pursuant to Rule 17j-1 that have been in effect at any time during the
past five (5) years;
A record of each violation of such codes of ethics and of any action taken as a result of such violation for at least five (5) years after the end of the fiscal year in which the
violation occurs;
A copy of each report made by an Access Person for at least two (2) years after the end of the fiscal year in which the report is made, and for an additional three (3) years in a
place that need not be easily accessible;
A copy of each report made by the Chief Compliance Officer to the board of directors for two (2) years from the end of the fiscal year of the Corporation in which such report is
made or issued and for an additional three (3) years in a place that need not be easily accessible;
A list of all persons who are, or within the past five (5) years have been, required to make reports pursuant to the Rule and this Code of Ethics, or who are or were responsible for
reviewing such reports;
A copy of each report required by Section VII (B) for at least two (2) years after the end of the fiscal year in which it is made, and for an additional three (3) years in a place that
need not be easily accessible; and
A record of any decision, and the reasons supporting the decision, to approve the acquisition by an Advisory Person of securities in an Initial Public Offering or Limited Offering
for at least five (5) years after the end of the fiscal year in which the approval is granted.
(D)
This Code may not be amended or modified except in a written form that is specifically approved by majority vote of the Independent Directors.
This Joint Code of Ethics, originally adopted December 12, 2007, is annually reviewed and approved by the Board of Directors of the Corporation, including a majority of the
Independent Directors.
6
Subsidiaries of the Registrant
Name of entity and place of jurisdiction
PennantPark Investment Funding I, LLC (Delaware)
PennantPark SBIC GP II, LLC (Delaware)
PennantPark SBIC II LP (Delaware)
PNNT Alabama Holdings Inc. (Delaware)
PNNT Cascade Environmental Holdings, LLC (Delaware)
PNNT CI (GALLS) Prime Investment Holdings, LLC (Delaware)
PNNT ecoserve, LLC (Delaware)
PNNT Investment Holdings, LLC (Delaware)
PNNT New Gulf Resources, LLC (Delaware)
RAM Energy Holdings LLC (Delaware)
AKW Holdings Limited (Isle of Man)
PT Network Intermediate Holdings, LLC (Delaware)
(1)
(2)
(3)
The entity is directly owned 99% by us and 1% by PennantPark SBIC GP II, LLC, which is effectively wholly-owned by us.
This entity is not operational.
This is a controlled affiliated investment.
EXHIBIT 21.1
Voting Securities
Owned Percentage
100%
100%
100% (1)
100% (2)
100%
100%
100%
100%
100%
100% (3)
84% (3)
62% (3)
EXHIBIT 31.1
I, Arthur H. Penn, Chief Executive Officer and Chairman of the Board of Directors of PennantPark Investment Corporation, certify that:
1. I have reviewed this Annual Report on Form 10-K of PennantPark Investment Corporation;
CERTIFICATION PURSUANT TO SECTION 302
CHIEF EXECUTIVE OFFICER CERTIFICATION
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations
and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-
15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; and
b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; and
c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth
fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit
committee of the registrant’s board of directors (or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s
ability to record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
Date: November 21, 2019
/s/ Arthur H. Penn
Name:
Title:
Arthur H. Penn
Chief Executive Officer
EXHIBIT 31.2
I, Aviv Efrat, Chief Financial Officer of PennantPark Investment Corporation, certify that:
1. I have reviewed this Annual Report on Form 10-K of PennantPark Investment Corporation;
CERTIFICATION PURSUANT TO SECTION 302
CHIEF FINANCIAL OFFICER CERTIFICATION
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the
circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations
and cash flows of the registrant as of, and for, the periods presented in this report;
4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-
15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; and
b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; and
c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth
fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit
committee of the registrant’s board of directors (or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s
ability to record, process, summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
Date: November 21, 2019
/s/ Aviv Efrat
Name:
Title:
Aviv Efrat
Chief Financial Officer
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350)
EXHIBIT 32.1
In connection with the Annual Report on Form 10-K of PennantPark Investment Corporation for the annual period ended September 30, 2019 as filed with the Securities and Exchange
Commission on the date hereof (the “Report”), I, Arthur H. Penn, as Chief Executive Officer of the Registrant hereby certify, to the best of my knowledge that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant.
/s/ Arthur H. Penn
Name: Arthur H. Penn
Title:
Date:
Chief Executive Officer
November 21, 2019
CERTIFICATION OF CHIEF FINANCIAL OFFICER
Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350)
EXHIBIT 32.2
In connection with the Annual Report on Form 10-K of PennantPark Investment Corporation for the annual period ended September 30, 2019 as filed with the Securities and Exchange
Commission on the date hereof (the “Report”), I, Aviv Efrat, as Chief Financial Officer of the Registrant hereby certify, to the best of my knowledge that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant.
/s/ Aviv Efrat
Name: Aviv Efrat
Title:
Date:
Chief Financial Officer
November 21, 2019
Exhibit 4.7
A. Common Stock, $0.001 par value per share
DESCRIPTION OF SECURITIES
As of September 30, 2019, the authorized capital stock of PennantPark Investment Corporation (the “Company,” “we,” “our” or
“us”) consisted of 100,000,000 shares of stock, par value $0.001 per share, all of which is classified as common stock. Our
common stock is quoted on The Nasdaq Global Select Market under the ticker symbol “PNNT.” There are no outstanding options
or warrants to purchase our stock. No stock has been authorized for issuance under any equity compensation plans. Under
Maryland law, our stockholders generally are not personally liable for our debts or obligations.
Under our charter, our board of directors is authorized to classify and reclassify any unissued shares of stock into other classes or
series of stock and authorize the issuance of shares of stock without obtaining stockholder approval. As permitted by the
Maryland General Corporation Law, our charter provides that the board of directors, without any action by our stockholders, may
amend the charter from time to time to increase or decrease the aggregate number of shares of stock or the number of shares of
stock of any class or series that we have authority to issue.
All shares of our common stock have equal rights as to earnings, assets, distributions and voting and, when they are issued, will
be duly authorized, validly issued, fully paid and nonassessable. Distributions may be paid to the holders of our common stock if,
as and when authorized by our board of directors and declared by us out of assets legally available. Shares of our common stock
have no preemptive, exchange, conversion or redemption rights and are freely transferable, except where their transfer is
restricted by federal and state securities laws or by contract. In the event of a liquidation, dissolution or winding up of the
Company and its consolidated subsidiaries, each share of our common stock would be entitled to share ratably in all of our assets
that are legally available for distribution after we pay all debts and other liabilities and subject to any preferential rights of
holders of our preferred stock, if any preferred stock is outstanding at such time. Each share of our common stock is entitled to
one vote on all matters submitted to a vote of stockholders, including the election of directors. Except as provided with respect to
any other class or series of stock, the holders of our common stock will possess exclusive voting power. There is no cumulative
voting in the election of directors, which means that holders of a majority of the outstanding shares of common stock can elect all
of our directors, and holders of less than a majority of such shares will be unable to elect any director.
Provisions of the Maryland General Corporation Law and our Charter and Bylaws
The Maryland General Corporation Law and our charter and bylaws contain provisions that could make it more difficult for a
potential acquirer to acquire us by means of a tender offer, proxy contest or otherwise. These provisions are expected to
discourage certain coercive takeover practices and inadequate takeover bids and to encourage persons seeking to acquire control
of us to negotiate first with our board of directors. We believe that the benefits of these provisions outweigh the potential
disadvantages of discouraging any such acquisition proposals because, among other things, the negotiation of such proposals may
improve their terms.
Classified board of directors
Our board of directors is divided into three classes of directors serving staggered three-year terms. The terms of the first, second
and third classes will expire at the annual meeting of stockholders held in 2020, 2021 and 2022, respectively, and in each case,
those directors will serve until their successors are duly elected and qualify. Upon expiration of their current terms, directors of
each class will be elected to serve for a term expiring at the annual meeting of stockholders held in the third year following the
year of their election and until their successors are duly elected and qualify and each year one class of directors will be elected by
the stockholders. A classified board may render a change in control of us or removal of our incumbent management more
difficult. We believe, however, that the longer time required to elect a majority of a classified board of directors will help to
ensure the continuity and stability of our management and policies.
Election of directors
Our charter and bylaws provide that the affirmative vote of the holders of a majority of the outstanding shares of stock entitled to
vote in the election of directors will be required to elect a director. Pursuant to the charter, our board of directors may amend the
bylaws to alter the vote required to elect directors.
Number of directors; vacancies; removal
Our charter provides that the number of directors will be set only by the board of directors in accordance with our bylaws. Our
bylaws provide that a majority of our entire board of directors may at any time increase or decrease the number of directors.
However, unless our bylaws are amended, the number of directors may never be less than four nor more than eight. We have
elected to be subject to the provision of Subtitle 8 of Title 3 of the Maryland General Corporation Law regarding the filling of
vacancies on the board of directors. Accordingly, except as may be provided by the board of directors in setting the terms of any
class or series of preferred stock, any and all vacancies on the board of directors may be filled only by the affirmative vote of a
majority of the remaining directors in office, even if the remaining directors do not constitute a quorum, and any director elected
to fill a vacancy will serve for the remainder of the full term of the directorship in which the vacancy occurred and until a
successor is elected and qualifies, subject to any applicable requirements of the Investment Company Act of 1940, as amended
(the “1940 Act”).
Our charter provides that a director may be removed only for cause, as defined in our charter, and then only by the affirmative
vote of at least two-thirds of the votes entitled to be cast generally in the election of directors.
Action by stockholders
Under the Maryland General Corporation Law, stockholder action can be taken only at an annual or special meeting of
stockholders or by unanimous written consent in lieu of a meeting (unless the charter provides for stockholder action by less than
unanimous consent, which our charter does not). These provisions, combined with the requirements of our bylaws regarding the
calling of a stockholder-requested special meeting of stockholders discussed below, may have the effect of delaying consideration
of a stockholder proposal until the next annual meeting.
Advance notice provisions for stockholder nominations and stockholder proposals
Our bylaws provide that with respect to an annual meeting of stockholders, nominations of persons for election to the board of
directors and the proposal of business to be considered by stockholders may be made only (1) pursuant to our notice of the
meeting, (2) by or at the direction of the board of directors or (3) by a stockholder who was a stockholder of record at the time of
provision of notice and at the time of the meeting, who is entitled to vote at the meeting and who has complied with the advance
notice procedures of the bylaws. With respect to special meetings of stockholders, only the business specified in our notice of the
meeting may be brought before the meeting. Nominations of persons for election to the board of directors at a special meeting
may be made only (1) by or at the direction of the board of directors or (2) provided that the special meeting has been called in
accordance with our bylaws for the purposes of electing directors by a stockholder who was a stockholder of record at the time of
provision of notice and at the time of the meeting, who is entitled to vote at the meeting and who has complied with the advance
notice provisions of the bylaws.
The purpose of requiring stockholders to give us advance notice of nominations and other business is to afford our board of
directors a meaningful opportunity to consider the qualifications of the proposed nominees and the advisability of any other
proposed business and, to the extent deemed necessary or desirable by our board of directors, to inform stockholders and make
recommendations about such qualifications or business, as well as to provide a more orderly procedure for conducting meetings
of stockholders. Although our bylaws do not give our board of directors any power to disapprove stockholder nominations for the
election of directors or proposals recommending certain action, they may have the effect of precluding a contest for the election
of directors or the consideration of stockholder proposals if proper procedures are not followed and of discouraging or deterring a
third party from conducting a solicitation of proxies to elect its own slate of directors or to approve its own proposal without
regard to whether consideration of such nominees or proposals might be harmful or beneficial to us and our stockholders.
Calling of special meetings of stockholders
Our bylaws provide that special meetings of stockholders may be called by our board of directors and certain of our officers.
Additionally, our bylaws provide that, subject to the satisfaction of certain procedural and informational requirements by the
stockholders requesting the meeting, a special meeting of stockholders will be called by the secretary of the corporation upon the
written request of stockholders entitled to cast not less than a majority of all the votes entitled to be cast at such meeting.
Approval of extraordinary corporate action; amendment of charter and bylaws
Under Maryland law, a Maryland corporation generally cannot dissolve, amend its charter, merge, convert, sell all or substantially
all of its assets, engage in a share exchange or engage in similar transactions outside the ordinary course of business, unless
approved by the affirmative vote of stockholders entitled to cast at least two-thirds of the votes entitled to be cast on the matter.
However, a Maryland corporation may provide in its charter for approval of these matters by a
lesser percentage, but not less than a majority of all of the votes entitled to be cast on the matter. Our charter generally provides
for approval of charter amendments and extraordinary transactions by the stockholders entitled to cast at least a majority of the
votes entitled to be cast on the matter. Our charter also provides that certain charter amendments and any proposal for our
conversion, whether by merger or otherwise, from a closed-end company to an open-end company or any proposal for our
liquidation or dissolution requires the approval of the stockholders entitled to cast at least 80 percent of the votes entitled to be
cast on such matter. However, if such amendment or proposal is approved by at least two-thirds of our continuing directors (in
addition to approval by our board of directors), such amendment or proposal may be approved by a majority of the votes entitled
to be cast on such a matter. The “continuing directors” are defined in our charter as our current directors as well as those directors
whose nomination for election by the stockholders or whose election by the directors to fill vacancies is approved by a majority
of the continuing directors then on the board of directors.
Our charter and bylaws provide that the board of directors will have the exclusive power to adopt, alter or repeal any provision of
our bylaws and to make new bylaws.
No appraisal rights
Except with respect to appraisal rights arising in connection with the Control Share Acquisition Act discussed below, as
permitted by the Maryland General Corporation Law, our charter provides that stockholders will not be entitled to exercise
appraisal rights.
Control share acquisitions
Our bylaws contain a provision exempting from the Control Share Acquisition Act any and all acquisitions by any person of
shares of our stock. There can be no assurance that such provision will not be amended or eliminated at any time in the future to
the extent permitted by the 1940 Act.
The Control Share Acquisition Act provides that control shares of a Maryland corporation acquired in a control share acquisition
have no voting rights except to the extent approved by a vote of two-thirds of the votes entitled to be cast on the matter. Shares
owned by the acquirer, by officers or by directors who are employees of the corporation are excluded from shares entitled to vote
on the matter. Control shares are voting shares of stock which, if aggregated with all other shares of stock owned by the acquirer
or in respect of which the acquirer is able to exercise or direct the exercise of voting power (except solely by virtue of a revocable
proxy), would entitle the acquirer to exercise voting power in electing directors within one of the following ranges of voting
power:
• one-tenth or more but less than one-third;
• one-third or more but less than a majority; or
• a majority or more of all voting power.
The requisite stockholder approval must be obtained each time an acquirer crosses one of the thresholds of voting power set forth
above. Control shares do not include shares the acquiring person is then entitled to vote as a result of having previously obtained
stockholder approval or shares acquired directly from the corporation. A control share acquisition means the acquisition of
control shares, subject to certain exceptions.
A person who has made or proposes to make a control share acquisition may compel the board of directors of the corporation to
call a special meeting of stockholders to be held within 50 days of demand to consider the voting rights of the shares. The right to
compel the calling of a special meeting is subject to the satisfaction of certain conditions, including an undertaking to pay the
expenses of the meeting. If no request for a meeting is made, the corporation may itself present the question at any stockholders
meeting.
If voting rights are not approved at the meeting or if the acquiring person does not deliver an acquiring person statement as
required by the statute, then the corporation may repurchase for fair value any or all of the control shares, except those for which
voting rights have previously been approved. The right of the corporation to repurchase control shares is subject to certain
conditions and limitations, including, as provided in our bylaws, compliance with the 1940 Act. Fair value is determined, without
regard to the absence of voting rights for the control shares, as of the date of any meeting of stockholders at which the voting
rights of the shares are considered and not approved or, if no such meeting is held, as of the date of the last control share
acquisition by the acquirer. If voting rights for control shares are approved at a stockholders meeting and the acquirer becomes
entitled to vote a majority of the shares entitled to vote, all other stockholders may exercise appraisal rights. The fair value of the
shares as determined for purposes of appraisal rights may not be less than the highest price per share paid by the acquirer in the
control share acquisition.
The Control Share Acquisition Act does not apply (a) to shares acquired in a merger, consolidation or share exchange if the
corporation is a party to the transaction or (b) to acquisitions approved or exempted by the charter or bylaws of the corporation.
Business combinations
Under Maryland law, “business combinations” between a Maryland corporation and an interested stockholder or an affiliate of an
interested stockholder are prohibited for five years after the most recent date on which the interested stockholder becomes an
interested stockholder. These business combinations include a merger, consolidation, share exchange or, in circumstances
specified in the statute, an asset transfer or issuance or reclassification of equity securities. An interested stockholder is defined
as:
• any person who beneficially owns, directly or indirectly, 10% or more of the voting power of the corporation’s shares;
or
• an affiliate or associate of the corporation who, at any time within the two-year period prior to the date in question, was
the beneficial owner, directly or indirectly, of 10% or more of the voting power of the then outstanding voting stock of
the corporation.
A person is not an interested stockholder under this statute if the board of directors approved in advance the transaction by which
he otherwise would have become an interested stockholder. However, in approving a transaction, the board of directors may
provide that its approval is subject to compliance, at or after the time of approval, with any terms and conditions determined by
the board.
After the five-year prohibition, any business combination between the corporation and an interested stockholder generally must
be recommended by the board of directors of the corporation and approved by the affirmative vote of at least:
• 80% of the votes entitled to be cast by holders of outstanding shares of voting stock of the corporation; and
• two-thirds of the votes entitled to be cast by holders of voting stock of the corporation other than shares held by the
interested stockholder with whom or with whose affiliate the business combination is to be effected or held by an
affiliate or associate of the interested stockholder.
These super-majority vote requirements do not apply if the corporation’s common stockholders receive a minimum price, as
defined under Maryland law, for their shares in the form of cash or other consideration in the same form as previously paid by the
interested stockholder for its shares. The statute permits various exemptions from its provisions, including business combinations
that are exempted by the board of directors before the time that the interested stockholder becomes an interested stockholder. Our
board of directors has adopted a resolution that any business combination between us and any other person is exempted from the
provisions of the Business Combination Act, provided that the business combination is first approved by the board of directors,
including a majority of the directors who are not interested persons as defined in the 1940 Act. This resolution, however, may be
altered or repealed in whole or in part at any time. If this resolution is repealed, or the board of directors does not otherwise
approve a business combination, the statute may discourage others from trying to acquire control of us and increase the difficulty
of consummating any offer.
Conflict with 1940 Act
Our bylaws provide that, if and to the extent that any provision of the Maryland General Corporation Law, including the Control
Share Acquisition Act (if we amend our bylaws to be subject to such Act) and the Business Combination Act, or any provision of
our charter or bylaws conflicts with any provision of the 1940 Act, the applicable provision of the 1940 Act will control.
B. Debt Securities – 5.50% Notes Due 2024
In September 2019, we issued $75,000,000 in aggregate principal amount of notes due 2024 (the “2024 Notes”). In October
2019, the underwriters exercised their overallotment option and purchased an additional $11,250,000 aggregate principal amount
of 2024 Notes. The 2024 Notes bear interest at a rate of 5.50% per year payable quarterly on January 15, April 15, July 15 and
October 15 of each year, commencing January 15, 2020. The 2024 Notes are issued in minimum denominations of $25 and
integral multiples of $25 in excess thereof. As of September 30, 2019,
we had $75,000,000 in aggregate principal amount of 2024 Notes outstanding. The 2024 Notes are scheduled to mature on
October 15, 2024. Additionally, the 2024 Notes will not be subject to any sinking fund and are subject to defeasance and
covenant defeasance by us. We have listed the 2024 Notes on The Nasdaq Global Select Market under the trading symbol
“PNNTG.”
The 2024 Notes were issued under that certain indenture, dated January 22, 2013 (the “Base Indenture”), by and between the
Company and American Stock Transfer & Trust Company, LLC (the “Trustee”), as supplemented by the third supplemental
indenture dated as of September 27, 2019 (the “Third Supplemental Indenture” and, together with the Base Indenture, the
“Indenture”), between the Company and the Trustee. The Indenture provides that debt securities may be issued under the
Indenture from time to time in one or more series. The Indenture and the 2024 Notes are governed by, and construed in
accordance with, the laws of the State of New York. The Indenture does not limit the amount of debt securities that we may issue
under that Indenture. We may, without the consent of the holders of the debt securities of any series, issue additional debt
securities ranking equally with, and otherwise similar in all respects to, the debt securities of the series (except for the public
offering price and the issue date) so that those additional debt securities will be consolidated and form a single series with the
debt securities of the series previously offered and sold.
The 2024 Notes are the Company’s direct unsecured obligations and will rank:
• pari passu in right of payment with the Company’s future unsecured unsubordinated indebtedness;
• senior to any of the Company’s future indebtedness that expressly states it is subordinated in right of payment to the
2024 Notes,
• effectively subordinated in right of payment to all of the Company’s existing and future secured indebtedness
(including indebtedness that is initially unsecured, but to which the Company subsequently grant security) to the extent
of the value of the assets securing such indebtedness; and
• structurally subordinated to all existing and future indebtedness and other obligations of any of the Company’s
subsidiaries, financing vehicles, or similar facilities.
The 2024 Notes may be redeemed in whole or in part at any time or from time to time at our option on or after October 15, 2021,
upon not less than 30 days’ nor more than 60 days’ written notice by mail prior to the date fixed for redemption thereof, at a
redemption price of 100% of the outstanding principal amount thereof plus accrued and unpaid interest payments otherwise
payable for the then-current quarterly interest period accrued to but not including the date fixed for redemption. You may be
prevented from exchanging or transferring the 2024 Notes when they are subject to redemption. In case any 2024 Notes are to be
redeemed in part only, the redemption notice will provide that, upon surrender of such 2024 Note, you will receive, without a
charge, a new 2024 Note or 2024 Notes of authorized denominations representing the principal amount of your remaining
unredeemed Notes. Any exercise of our option to redeem the 2024 Notes will be done in compliance with the 1940 Act and the
related rules, regulations and interpretations, to the extent applicable. If we redeem only some of the 2024 Notes, the Trustee or
the Depositary Trust Company (“DTC”), as applicable, will determine the method for selection of the particular 2024 Notes to be
redeemed, in accordance with the 1940 Act, to the extent applicable. Unless we default in payment of the redemption price, on
and after the date of redemption interest will cease to accrue on the 2024 Notes called for redemption.
As required by federal law for all bonds and notes of companies that are publicly offered in the United States, the debt securities
are governed by a document called an “indenture.” An indenture is a contract between us and a financial institution acting as
trustee on your behalf, and is subject to and governed by the Trust Indenture Act of 1939, as amended. The Trustee with respect
to the 2024 Notes has two main roles. First, the Trustee can enforce your rights against us if we default. There are some
limitations on the extent to which the Trustee acts on your behalf, see “Events of Default” for more information. Second, the
Trustee performs certain administrative duties for us, such as sending interest and principal payments to holders.
General
For purposes of this description, any reference to the payment of principal of, or premium or interest, if any, on, the 2024 Notes
will include additional amounts if required by the terms of the 2024 Notes.
The Indenture limits the amount of debt securities that may be issued thereunder from time to time. Debt securities issued under
the Indenture, when a single trustee is acting for all debt securities issued under the Indenture, are called the “indenture
securities.” The Indenture also provides that there may be more than one trustee thereunder, each with respect to one or more
different series of indenture securities. See “Resignation of Trustee” below. At a time when two or more trustees are acting under
the Indenture, each with respect to only certain series, the term “indenture securities” means the one or more series of debt
securities with respect to which each respective trustee is acting. In the event that there is more than one trustee under the
Indenture, the powers and trust obligations of each trustee described in this description will extend only to the one or more series
of indenture securities for which it is trustee. If two or more trustees are acting under the Indenture, then the Indenture securities
for which each trustee is acting would be treated as if issued under separate indentures.
The Indenture does not contain any provisions that give you protection in the event we issue a large amount of debt or we are
acquired by another entity.
Global Securities
As noted above, the 2024 Notes were issued as registered securities in book-entry form only. A global security represents one or
any other number of individual debt securities. Generally, all debt securities represented by the same global securities will have
the same terms.
Each debt security issued in book-entry form will be represented by a global security that we deposit with and register in the
name of a financial institution or its nominee that we select. The financial institution that we select for this purpose is called the
depositary. DTC will be the depositary for all debt securities issued in book-entry form.
A global security may not be transferred to or registered in the name of anyone other than the depositary or its nominee, unless
special termination situations arise. We describe those situations below under “Special Situations when a Global Security Will Be
Terminated.” As a result of these arrangements, the depositary, or its nominee, will be the sole registered owner and holder of all
debt securities represented by a global security, and investors will be permitted to own only beneficial interests in a global
security. Beneficial interests must be held by means of an account with a broker, bank or other financial institution that in turn has
an account with the depositary or with another institution that has an account with the depositary. Thus, an investor whose
security is represented by a global security will not be a holder of the debt security, but only an indirect holder of a beneficial
interest in the global security.
Special Considerations for Global Securities
As an indirect holder, an investor’s rights relating to a global security will be governed by the account rules of the investor’s
financial institution and of the depositary, as well as general laws relating to securities transfers. The depositary that holds the
global security will be considered the holder of the debt securities represented by the global security.
If debt securities are issued only in the form of a global security, an investor should be aware of the following:
• an investor cannot cause the debt securities to be registered in his or her name and cannot obtain certificates for his or
her interest in the debt securities, except in the special situations we describe below;
• an investor will be an indirect holder and must look to his or her own bank or broker for payments on the debt
securities and protection of his or her legal rights relating to the debt securities, as we describe under “Issuance of
Securities in Registered Form” above;
• an investor may not be able to sell interests in the debt securities to some insurance companies and other institutions
that are required by law to own their securities in non-book-entry form;
• an investor may not be able to pledge his or her interest in a global security in circumstances where certificates
representing the debt securities must be delivered to the lender or other beneficiary of the pledge in order for the pledge
to be effective;
• the depositary’s policies, which may change from time to time, will govern payments, transfers, exchanges and other
matters relating to an investor’s interest in a global security. We and the Trustee have no responsibility for any aspect of
the depositary’s actions or for its records of ownership interests in a global security. We and the Trustee also do not
supervise the depositary in any way;
• if we redeem less than all the debt securities of a particular series being redeemed, DTC’s practice is to determine by
lot the amount to be redeemed from each of its participants holding that series;
• an investor is required to give notice of exercise of any option to elect repayment of its debt securities, through its
participant, to the applicable trustee and to deliver the related debt securities by causing its participant to transfer its
interest in those debt securities, on DTC’s records, to the applicable trustee;
• DTC requires that those who purchase and sell interests in a global security deposited in its book-entry system use
immediately available funds. Your broker or bank may also require you to use immediately available funds when
purchasing or selling interests in a global security; and
• financial institutions that participate in the depositary’s book-entry system, and through which an investor holds its
interest in a global security, may also have their own policies affecting payments, notices and other matters relating to
the debt securities. There may be more than one financial intermediary in the chain of ownership for an investor. We do
not monitor and are not responsible for the actions of any of those intermediaries.
Special Situations when a Global Security Will Be Terminated
In a few special situations described below, a global security will be terminated and interests in it will be exchanged for
certificates in non-book-entry form (certificated securities). After that exchange, the choice of whether to hold the certificated
debt securities directly or in street name will be up to the investor. Investors must consult their own banks or brokers to find out
how to have their interests in a global security transferred on termination to their own names, so that they will be holders. We
have described the rights of holders and street name investors under “Issuance of Securities in Registered Form” above.
The special situations for termination of a global security are as follows:
• if the depositary notifies us that it is unwilling, unable or no longer qualified to continue as depositary for that global
security, and we are unable to appoint another institution to act as depositary;
• if we notify the Trustee that we wish to terminate that global security; or
• if an event of default has occurred with regard to the debt securities represented by that global security and has not
been cured or waived; we discuss defaults later under “Events of Default.”
If a global security is terminated, only the depositary, and not we or the applicable trustee, is responsible for deciding the names
of the institutions in whose names the debt securities represented by the global security will be registered and, therefore, who will
be the holders of those debt securities.
Payment and Paying Agents
We will pay interest to the person listed in the applicable trustee’s records as the owner of the debt security at the close of
business on a particular day in advance of each due date for interest, even if that person no longer owns the debt security on the
interest due date. That day, often about two weeks in advance of the interest due date, is called the “record date.” Because we will
pay all the interest for an interest period to the holders on the record date, holders buying and selling debt securities must work
out between themselves the appropriate purchase price. The most common manner is to adjust the sales price of the debt
securities to prorate interest fairly between buyer and seller based on their respective ownership periods within the particular
interest period. This prorated interest amount is called “accrued interest.”
Payments on Global Securities
We will make payments on a global security in accordance with the applicable policies of the depositary as in effect from time to
time. Under those policies, we will make payments directly to the depositary, or its nominee, and not to any indirect holders who
own beneficial interests in the global security. An indirect holder’s right to those payments will be governed by the rules and
practices of the depositary and its participants, as described under “Global Securities.”
Payment When Offices Are Closed
If any payment is due on the 2024 Notes on a day that is not a business day, we will make the payment on the next day that is a
business day. Payments made on the next business day in this situation will be treated under the Indenture as if they were made
on the original due date, except as otherwise indicated in this description. Such payment will not result in a default under the
2024 Note or the Indenture, and no interest will accrue on the payment amount from the original due date to the next day that is a
business day.
Events of Default
You will have rights if an Event of Default occurs in respect of the 2024 Notes and is not cured, as described later in this
subsection.
The term “Event of Default” in respect of our debt securities means any of the following:
• we do not pay the principal of, or any premium on, any 2024 Notes when due and payable;
• we do not pay interest on any 2024 Notes when due and such default is not cured within 30 days;
• we remain in breach of any other covenant with respect to the 2024 Notes for 60 days after we receive a written notice
of default stating we are in breach. The notice must be sent by either the Trustee or holders of at least 25% of the
principal amount of the 2024 Notes; and
• we file for bankruptcy or certain other events of bankruptcy, insolvency or reorganization occur and in the case of
certain orders or decrees entered against us under any bankruptcy law, such order or decree remains unstayed for a
period of 123 days.
An Event of Default for a particular series of debt securities does not necessarily constitute an Event of Default for any other
series of debt securities issued under the same or any other indenture. The Trustee may withhold notice to the holders of debt
securities of any default, except in the payment of principal, premium or interest, if it considers the withholding of notice to be in
the best interests of the holders.
Remedies if an Event of Default Occurs
If an Event of Default has occurred and has not been cured or waived, the Trustee or the holders of not less than 25% in principal
amount of the 2024 Notes may declare the entire principal amount of all the 2024Notes to be due and immediately payable. This
is called a declaration of acceleration of maturity. A declaration of acceleration of maturity may be canceled by the holders of a
majority in principal amount of the 2024 Notes if the default is cured or waived and certain other conditions are satisfied.
Except in cases of default, where the Trustee has some special duties, the Trustee is not required to take any action under the
Indenture at the request of any holders unless the holders offer the Trustee reasonable protection from expenses and liability
(called an “indemnity”). If reasonable indemnity is provided, the holders of a majority in principal amount of the outstanding
debt securities of the relevant series may direct the time, method and place of conducting any lawsuit or other formal legal action
seeking any remedy available to the Trustee. The Trustee may refuse to follow those directions in certain circumstances. No delay
or omission in exercising any right or remedy will be treated as a waiver of that right, remedy or Event of Default.
Before you are allowed to bypass the Trustee and bring your own lawsuit or other formal legal action or take other steps to
enforce your rights or protect your interests relating to the debt securities, the following must occur:
• you must give the Trustee written notice that an Event of Default has occurred and remains uncured;
• the holders of at least 25% in principal amount of all outstanding debt securities of the relevant series must make a
written request that the Trustee take action because of the default and must offer reasonable indemnity to the Trustee
against the cost and other liabilities of taking that action;
• the Trustee must not have taken action for 60 days after receipt of the above notice and offer of indemnity; and
• the holders of a majority in principal amount of the debt securities must not have given the Trustee a direction
inconsistent with the above notice during that 60-day period.
However, you are entitled at any time to bring a lawsuit for the payment of money due on your debt securities on or after the due
date.
Book-entry and other indirect holders should consult their banks or brokers for information on how to give notice or
direction to or make a request of the Trustee and how to declare or cancel an acceleration of maturity.
Each year, we will furnish to the Trustee a written statement of certain of our officers certifying that to their knowledge we are in
compliance with the Indenture and the 2024 Notes, or else specifying any default.
Waiver of Default
The holders of a majority in principal amount of the 2024 Notes may waive a default for all the 2024 Notes. If this happens, the
default will be treated as if it had not occurred. No one can waive a payment default on a holder’s debt security, however, without
the holder’s approval.
Merger or Consolidation
Under the terms of the Indenture, we are generally permitted to consolidate or merge with another entity. We are also permitted to
sell all or substantially all of our assets to another entity. However, we may not take any of these actions unless all the following
conditions are met:
• where we merge out of existence or sell our assets, the resulting entity must agree to be legally responsible for our
obligations under the debt securities;
• alternatively, we must be the surviving company;
• immediately after the transaction no event of default will exist;
• we must deliver certain certificates and documents to the Trustee; and
• we must satisfy any other requirements specified in the prospectus supplement relating to any debt securities.
Modification or Waiver
There are three types of changes we can make to the Indenture and the debt securities issued thereunder.
Changes Requiring Your Approval
First, there are changes that we cannot make to your debt securities without your specific approval. The following is a list of
those types of changes:
• change the stated maturity of the principal of or interest on a debt security;
• reduce any amounts due on a debt security;
• reduce the amount of principal payable upon acceleration of the maturity of a security following a default;
• adversely affect any right of repayment at the holder’s option;
• change the place or currency of payment on a debt security (except as otherwise described in this description);
• impair your right to sue for payment;
• adversely affect any right to convert or exchange a debt security in accordance with its terms;
• reduce the percentage of holders of debt securities whose consent is needed to modify or amend the Indenture;
• reduce the percentage of holders of debt securities whose consent is needed to waive compliance with certain
provisions of the Indenture or to waive certain defaults;
• modify any other aspect of the provisions of the Indenture dealing with supplemental indentures, modification and
waiver of past defaults, changes to the quorum or voting requirements or the waiver of certain covenants; and
• change any obligation we have to pay additional amounts.
Changes Not Requiring Approval
The second type of change does not require any vote by the holders of the debt securities. This type is limited to clarifications and
certain other changes that would not adversely affect holders of the outstanding debt securities in any material respect. We also
do not need any approval to make any change that affects only debt securities to be issued under the Indenture after the change
takes effect.
Changes Requiring Majority Approval
Any other change to the Indenture and the debt securities would require the following approval:
• if the change affects only one series of debt securities, it must be approved by the holders of a majority in principal
amount of that series; and
• if the change affects more than one series of debt securities issued under the same indenture, it must be approved by the
holders of a majority in principal amount of all of the series affected by the change, with all affected series voting
together as one class for this purpose.
In each case, the required approval must be given by written consent.
The holders of a majority in principal amount of all of the series of debt securities issued under an indenture, voting together as
one class for this purpose, may waive our compliance with some of our covenants in that indenture. However, we cannot obtain a
waiver of a payment default or of any of the matters covered by the bullet points included above under “Changes Requiring Your
Approval.”
Further Details Concerning Voting
When taking a vote, we will use the following rules to decide how much principal to attribute to a debt security:
• for OID securities, we will use the principal amount that would be due and payable on the voting date if the maturity of
these debt securities were accelerated to that date because of a default;
• for debt securities whose principal amount is not known (for example, because it is based on an index), we will use a
special rule for that debt security described in this description; and
• for debt securities denominated in one or more foreign currencies, we will use the U.S. dollar equivalent.
Debt securities will not be considered outstanding, and therefore not eligible to vote, if we have deposited or set aside in trust
money for their payment or redemption. Debt securities will also not be eligible to vote if they have been fully defeased as
described later under “Defeasance—Full Defeasance.” We will generally be entitled to set any day as a record date for the
purpose of determining the holders of outstanding indenture securities that are entitled to vote or take other action under the
Indenture. If we set a record date for a vote or other action to be taken by holders of one or more series, that vote or action may
be taken only by persons who are holders of outstanding indenture securities of those series on the record date and must be taken
within eleven months following the record date.
Defeasance
The following provisions will be applicable to the 2024 Notes.
Covenant Defeasance
Under current U.S. federal tax law, we can make the deposit described below and be released from some of the restrictive
covenants in the Indenture under which the particular series was issued. This is called “covenant defeasance.” In that event, you
would lose the protection of those restrictive covenants but would gain the protection of having money and government securities
set aside in trust to repay your debt securities. If applicable, you also would be released from the subordination provisions
described under “Indenture Provisions—Subordination” below. In order to achieve covenant defeasance, we must do the
following:
• if the debt securities of the particular series are denominated in U.S. dollars, we must deposit in trust for the benefit of
all holders of such debt securities a combination of money and U.S. government or U.S. government agency notes or
bonds that will generate enough cash to make interest, principal and any other payments on the debt securities on their
various due dates; and
• we may be required to deliver to the Trustee a legal opinion of our counsel confirming that, under current U.S. federal
income tax law, we may make the above deposit without causing you to be taxed on the debt securities any differently
than if we did not make the deposit and just repaid the debt securities ourselves at maturity.
We must deliver to the Trustee a legal opinion of our counsel stating that the above deposit does not require registration by us
under the 1940 Act, as amended, and a legal opinion and officers’ certificate stating that all conditions precedent to covenant
defeasance have been complied with.
If we accomplish covenant defeasance, you can still look to us for repayment of the debt securities if there were a shortfall in the
trust deposit or the Trustee is prevented from making payment. In fact, if one of the remaining Events of Default occurred (such
as our bankruptcy) and the debt securities became immediately due and payable, there might be a shortfall. Depending on the
event causing the default, you may not be able to obtain payment of the shortfall.
Full Defeasance
If there is a change in U.S. federal tax law, as described below, we can legally release ourselves from all payment and other
obligations on the debt securities of a particular series (called “full defeasance”) if we put in place the following other
arrangements for you to be repaid:
• if the debt securities of the particular series are denominated in U.S. dollars, we must deposit in trust for the benefit of
all holders of such debt securities a combination of money and U.S. government or U.S. government agency notes or
bonds that will generate enough cash to make interest, principal and any other payments on the debt securities on their
various due dates;
• we may be required to deliver to the Trustee a legal opinion confirming that there has been a change in current U.S.
federal tax law or an Internal Revenue Service, or IRS, ruling that allows us to make the above deposit without causing
you to be taxed on the debt securities any differently than if we did not make the deposit and just repaid the debt
securities ourselves at maturity. Under current U.S. federal tax law, the deposit and our legal release from the debt
securities would be treated as though we paid you your share of the cash and notes or bonds at the time the cash and
notes or bonds were deposited in trust in exchange for your debt securities and you would recognize gain or loss on the
debt securities at the time of the deposit; and
• we must deliver to the Trustee a legal opinion of our counsel stating that the above deposit does not require registration
by us under the 1940 Act and a legal opinion and officers’ certificate certifying compliance with all conditions
precedent to defeasance.
If we ever did accomplish full defeasance, as described above, you would have to rely solely on the trust deposit for repayment of
the debt securities. You could not look to us for repayment in the unlikely event of any shortfall. Conversely, the trust deposit
would most likely be protected from claims of our lenders and other creditors if we ever became bankrupt or insolvent. If
applicable, you would also be released from the subordination provisions described later under “Indenture Provisions—
Subordination.”
Form, Exchange and Transfer of Certificated Registered Securities
The 2024 Notes are represented by global securities that were deposited and registered in the name of DTC or its nominee.
Beneficial interests in the 2024 Notes are represented through book-entry accounts of financial institutions acting on behalf of
beneficial owners as direct and indirect participants in DTC. Investors may elect to hold interests in the 2024 Notes through
either DTC, if they are a participant, or indirectly through organizations that are participants in DTC.
Resignation of Trustee
The Trustee may resign or be removed with respect to one or more series of indenture securities provided that a successor trustee
is appointed to act with respect to these series. In the event that two or more persons are acting as trustee with respect to different
series of indenture securities under the Indenture, each of the trustees will be a trustee of a trust separate and apart from the trust
administered by any other trustee.
Indenture Provisions—Subordination
Upon any distribution of our assets upon our dissolution, winding up, liquidation or reorganization, the payment of the principal
of (and premium, if any) and interest, if any, on any indenture securities denominated as subordinated debt securities is to be
subordinated to the extent provided in the Indenture in right of payment to the prior payment in full of all senior indebtedness, but
our obligation to you to make payment of the principal of (and premium, if any) and interest, if any, on such subordinated debt
securities will not otherwise be affected. In addition, no payment on account of principal (or premium, if any), sinking fund or
interest, if any, may be made on such subordinated debt securities at any time unless full payment of all amounts due in respect of
the principal (and premium, if any), sinking fund and interest on senior indebtedness has been made or duly provided for in
money or money’s worth.
In the event that, notwithstanding the foregoing, any payment by us is received by the Trustee in respect of subordinated debt
securities or by the holders of any of such subordinated debt securities before all senior indebtedness is paid in full, the payment
or distribution must be paid over to the holders of the senior indebtedness or on their behalf for application to the payment of all
the senior indebtedness remaining unpaid until all the senior indebtedness has been paid in full, after giving effect to any
concurrent payment or distribution to the holders of the senior indebtedness. Subject to the payment in full of all senior
indebtedness upon this distribution by us, the holders of such subordinated debt securities will be subrogated to the rights of the
holders of the senior indebtedness to the extent of payments made to the holders of the senior indebtedness out of the distributive
share of such subordinated debt securities.
By reason of this subordination, in the event of a distribution of our assets upon our insolvency, certain of our senior creditors
may recover more, ratably, than holders of any subordinated debt securities. The Indenture provides that these subordination
provisions will not apply to money and securities held in trust under the defeasance provisions of the Indenture.
Senior indebtedness is defined in the Indenture as the principal of (and premium, if any) and unpaid interest on:
• our indebtedness (including indebtedness of others guaranteed by us), whenever created, incurred, assumed or
guaranteed, for money borrowed (other than indenture securities issued under the Indenture and denominated as
subordinated debt securities), unless in the instrument creating or evidencing the same or under which the same is
outstanding it is provided that this indebtedness is not senior or prior in right of payment to the subordinated debt
securities; and
• renewals, extensions, modifications and refinancings of any of this indebtedness.
The Trustee under the Indenture
American Stock Transfer & Trust Company, LLC is the trustee under the Indenture.
Exhibit 99.2
RAM ENERGY HOLDINGS LLC
AND SUBSIDIARIES
Consolidated Financial Statements
As of and for the Year Ended
September 30, 2019
RAM Energy Holdings LLC and Subsidiaries
Contents
Independent Auditor’s Report
Consolidated Financial Statements
Consolidated Balance Sheet as of September 30, 2019
Consolidated Statement of Operations
for the Year Ended September 30, 2019
Consolidated Statement of Member’s Deficit
for the Year Ended September 30, 2019
Consolidated Statement of Cash Flows
for the Year Ended September 30, 2019
Notes to Consolidated Financial Statements
Page
3
6-7
7
8
9
10-19
2
Tel: 713-960-1706
Fax: 713-960-9549
www.bdo.com
2929 Allen Parkway, 20th Floor
Houston, TX 77019
Independent Auditor’s Report
To the Board of Directors
RAM Energy Holdings LLC
Tulsa, Oklahoma
We have audited the accompanying consolidated financial statements of RAM Energy Holdings LLC and its subsidiaries (the
“Company”), which comprise the consolidated balance sheet as of September 30, 2019, and the related consolidated statements of
operations, member’s deficit, and cash flows for the year then ended, and the related notes to the consolidated financial statements.
Management’s Responsibility for the Consolidated Financial Statements
Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with
accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of
internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material
misstatement, whether due to fraud or error.
Auditor’s Responsibility
Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in
accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free from material
misstatement.
An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial
statements. The procedures selected depend on the auditor’s judgment, including the assessment of the risks of material
misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor
considers internal control relevant to the entity’s preparation and fair presentation of the consolidated financial statements in order to
design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the entity’s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the
appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as
well as evaluating the overall presentation of the consolidated financial statements.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of RAM
Energy Holdings LLC and its subsidiaries as of September 30, 2019, and the results of their operations and their cash flows for the year
then ended, in accordance with accounting principles generally accepted in the United States of America.
November 15, 2019
BDO USA, LLP, a Delaware limited liability partnership, is the U.S. member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of
independent member firms.
BDO is the brand name for the BDO network and for each of the BDO Member Firms.
3
Consolidated Financial Statements
4
RAM Energy Holdings LLC and Subsidiaries
Consolidated Balance Sheet
September 30,
Assets
Current Assets
Cash and cash equivalents
Accounts receivable, net
Prepaid expenses
Total Current Assets
Property and Equipment, at Cost
Proved oil and natural gas properties and equipment,
using full cost accounting
Unproved oil and natural gas properties
Gas gathering and processing equipment
Other property and equipment
Less: accumulated depreciation, depletion,
amortization and impairment
Net Property and Equipment
Other Assets
Restricted cash
Other
Total Other Assets
Total Assets
$
2019
3,192,507
7,826,569
225,395
11,244,471
91,207,852
7,351,669
10,253,833
527,606
109,340,960
(43,455,219)
65,885,741
732,682
65,334
798,016
The accompanying notes are an integral part of these consolidated financial statements.
$
77,928,228
5
RAM Energy Holdings LLC and Subsidiaries
Consolidated Balance Sheet
September 30,
Liabilities and Member's Deficit
Current Liabilities
Trade accounts payable
Revenue payable
Accrued liabilities
Drilling advances
Current portion of asset retirement obligations
Total Current Liabilities
Asset Retirement Obligations, net of current portion
Long-Term Debt - Affiliate
Total Liabilities
Commitments and Contingencies (Note 7)
Member's Deficit
Total Liabilities and Member's Deficit
$
2019
26,150,721
4,722,982
1,521,400
2,226,283
492,957
35,114,343
4,990,953
75,000,000
115,105,296
(37,177,068)
$
77,928,228
The accompanying notes are an integral part of these consolidated financial statements.
6
RAM Energy Holdings LLC and Subsidiaries
Consolidated Statement of Operations
Year Ended September 30,
Operating Revenues
Crude oil sales
Natural gas sales
Natural gas liquids sales
Water supply services
Gathering fees
Total Revenues
Operating Expenses
Oil and natural gas operating expenses
Oil and natural gas production taxes
Water usage
Depreciation, depletion and amortization
Accretion of asset retirement obligations
Bad debt expense
General and administrative, overhead and other
expenses, net of operator's overhead fees
Total Operating Expenses
Loss from Operations
Other Income (Expense)
Interest expense
Interest income
Gains on sales of assets
Other income, net
Total Other Expense
Net Loss
$
2019
13,614,137
6,357,124
4,358,603
800,322
2,811,356
27,941,542
13,974,739
683,131
115,908
9,581,200
642,791
29,840
4,828,700
29,856,309
(1,914,767)
(5,212,222)
133,544
14,796
637,562
(4,426,320)
$
(6,341,087)
The accompanying notes are an integral part of these consolidated financial statements.
7
RAM Energy Holdings LLC and Subsidiaries
Consolidated Statement of Member’s Deficit
Balance, October 1, 2018
Net loss
Balance, September 30, 2019
Units
Member's
Deficit
84,747
(30,835,981)
-
(6,341,087)
84,747 $
37,177,068
The accompanying notes are an integral part of these consolidated financial statements.
8
RAM Energy Holdings LLC and Subsidiaries
Consolidated Statement of Cash Flows
Year Ended September 30,
2019
$
(6,341,087)
Cash Flows from Operating Activities
Net loss
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation, depletion and amortization
Accretion of asset retirement obligations
Bad debt expense
Gains on sales of assets
Changes in operating assets and liabilities:
Accounts receivable
Prepaid expenses and other assets
Accounts payable and revenue payable
Drilling advances
Settlements of asset retirement obligations
Accrued liabilities
Net Cash Provided by Operating Activities
Cash Flows from Investing Activities
Payments for oil and natural gas properties and
equipment
Proceeds from sales of oil and natural gas properties
Proceeds from sales of other property and equipment
Deposit and other assets
Net Cash Used in Investing Activities
Cash Flows from Financing Activities
Proceeds from borrowings on long-term debt
Net Cash Provided by Financing Activities
Net Increase in Cash, Cash Equivalents and Restricted Cash
Cash, Cash Equivalents and Restricted Cash - Beginning of Year
Cash, Cash Equivalents and Restricted Cash - End of Year
Supplemental Cash Flow Information
Cash paid for interest
Non-Cash Investing and Financing Activities
Oil and natural gas properties accrued
Asset retirement obligations
$
$
$
$
The accompanying notes are an integral part of these consolidated financial statements.
9
9,581,200
642,791
29,840
(14,796)
(4,786,246)
13,484
20,944,181
3,441,260
(400,446)
707,942
23,818,123
(53,780,398)
588,000
26,000
(41,500)
(53,207,898)
30,000,000
30,000,000
610,225
3,314,964
3,925,189
5,217,778
2,102,034
(483,851)
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
1.
Nature of Operations and Organization
RAM Energy Holdings LLC (“Holdings”), formerly named PNNT RAM Energy LLC, is a Delaware limited liability company, wholly-owned
by PennantPark Investment Corporation (“PennantPark”), and was formed in July 2014 as a holding company for interest ownership in
RAM Energy LLC (“RAM”). RAM Fayette LLC (“Fayette”) was formed in September 2017 and Fayette Service Company LLC
(“Service”) was formed in June 2018. As of September 30, 2019, both subsidiaries were wholly- owned by RAM. Holdings, RAM and
its subsidiaries are herein referred to as the “Company.”
RAM was formed in April 2012 as a privately held, independent oil and natural gas company engaged in the acquisition, exploration,
exploitation, development and production of oil and natural gas.
In August 2015, RAM became a wholly-owned and consolidated subsidiary of Holdings.
In September 2017, Holdings issued PennantPark 61,606 common units in satisfaction of the $88 million of outstanding debt that RAM
owed to PennantPark. Holdings then entered into a new $35 million term loan. In June 2018, the credit agreement was amended to
add a $15 million revolving loan. The credit agreement was amended in January 2019 and May 2019 to increase the revolving loan to
$40 million, and further amended in October 2019 to increase the revolving loan to $50 million. See Notes 6 and 9.
In July 2018, the Company began a drilling program in the Austin Chalk formation. Fayette was formed to be an owner in the new
wells drilled, and Service was formed to invest in gathering and facilities infrastructure.
RAM operates exclusively in the upstream segment of the oil and gas industry with activities including the drilling, completion, and
operation of oil and natural gas wells. RAM conducts the majority of its operations in the state of Texas, with minor operations in the
states of Arkansas, New Mexico and Oklahoma.
2.
Liquidity
The Company had a member’s deficit of $37.2 million and a working capital deficit of $23.9 million at September 30, 2019. The working
capital deficit is largely due to the new drilling program.
On October 16, 2019, RAM, in conjunction with Fayette and Service as co-borrowers, secured and closed a first-lien multi-draw $70
million term loan facility with Macquarie Investments US Inc. (“Macquarie”). At closing, RAM borrowed $30.5 million from Macquarie
(“Tranche A”). The Tranche A use of proceeds was for working capital, for the completion of the four wells mentioned above and for
fees and expenses of the facility.
At closing, Pennant Park invested an additional $10 million of equity, funded as an additional revolving advance to Holdings, for
additional working capital support. Tranche B availability of $16 million, if utilized, along with cash flow from operations, is expected to
be applied towards the drilling and completion costs of the Ranger Pad. Tranche B will become available when certain production
targets are met by existing assets and the four wells currently being completed. The Company fully expects to meet Tranche B
production targets. Tranche C is documented as $23.5 million and conditions of its draw and use of proceeds is to be determined at a
later date.
The Macquarie term loan has a LIBOR plus 8% interest rate, payable monthly. Further, there is a variable amortization schedule with
the first amortization payment due at the end of November 2019 with additional amortization payments after the Tranche B draw, to
the extent it becomes available and is drawn. This debt facility has typical affirmative and negative covenant for a first- lien oil and gas
credit facility. Management believes that each of the agreed covenants will be met through November 2020.
10
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
3.
Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include the accounts of Holdings, its wholly- owned subsidiary, RAM, and RAM’s
wholly-owned subsidiaries, Fayette and Service. All significant intercompany accounts and transactions have been eliminated in
consolidation.
Property and Equipment
The Company follows the full cost method of accounting for oil and natural gas properties. Under this method, all productive and
nonproductive costs incurred in connection with the acquisition, exploration, and development of oil and natural gas reserves are
capitalized. No gains or losses are recognized upon the sale or other disposition of oil and natural gas properties except in transactions
that would significantly alter the relationship between capitalized costs and proved reserves. The costs of unevaluated oil and natural
gas properties are excluded from the amortizable base until the time that either proven reserves are found or it has been determined
that such properties are impaired. As properties become evaluated, the related costs are transferred to proved oil and natural gas
properties.
Under the full cost method, the net book value of oil and natural gas properties may not exceed the estimated after-tax future net
revenues from proved oil and natural gas properties, discounted at 10% (the “Ceiling Limitation”). In arriving at estimated future net
revenues, estimated lease operating expenses, development costs, and certain production-related and ad valorem taxes are
deducted.
In calculating future net revenues, prices and costs are held constant indefinitely, except for changes that are fixed and determinable
by existing contracts. The net book value is compared to the Ceiling Limitation and the excess, if any, of the net book value above the
Ceiling Limitation is charged to expense in the period in which it occurs and is not subsequently reinstated. At September 30, 2019,
the net book value of the Company’s oil and natural gas properties did not exceed the Ceiling Limitation.
The costs directly associated with unevaluated oil and natural gas properties are not initially included in the amortization base and
relate to unproved leasehold acreage, seismic data, wells and production facilities in progress and wells pending determination.
Unevaluated leasehold costs are transferred to the amortization base once determination has been made or upon expiration of a
lease. Geological and geophysical costs and cumulative drilling costs to date associated with a specific unevaluated property are
transferred to the amortization base with the associated leasehold costs on a specific project basis. Costs associated with wells in
progress and wells pending determination are transferred to the amortization base once a determination is made whether or not
proved reserves can be assigned to the property. All costs included in the Company’s unevaluated property balance are assessed on a
periodic basis for possible impairment or reduction in value. The assessment includes consideration of numerous factors, including
intent to drill, remaining lease term, geological and geophysical evaluations, drilling results and activity, assignment of proved reserves
and economic viability of development if proved reserves are assigned. Any impairments of unevaluated properties are transferred to
the amortization base. The Company did not have any impairment of its unproved oil and gas properties for the year ended September
30, 2019.
Other property and equipment consists principally of furniture and equipment and leasehold improvements. Other property and
equipment and related accumulated depreciation and amortization are relieved upon retirement or sale and the gain or loss is included
in operations. Renewals and replacements that extend the useful life of property and equipment are treated as capital additions.
Depreciation expense of other property and equipment for the year ended September 30, 2019 was approximately $34 thousand.
11
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
Depreciation, Depletion and Amortization
All capitalized costs of oil and natural gas properties and equipment, including the estimated future costs to develop proved reserves, are
amortized using the unit-of-production method based on total proved reserves. Depreciation of gathering assets and related facilities,
and other equipment is computed on the straight-line method over the estimated useful lives of the assets, generally ranging from 3 to
30 years. Amortization of leasehold improvements is computed based on the straight-line method over the term of the associated
lease or estimated useful life, whichever is shorter.
Cash and Cash Equivalents
All highly liquid unrestricted investments with a maturity of three months or less when purchased are considered to be cash
equivalents.
Restricted Cash
At September 30, 2019, the Company had approximately $733 thousand in certificates of deposit held as collateral for letters of credit
for the beneficiary of states for the purpose of plugging and abandonment costs of the wells in which the Company has an interest.
Such amounts are classified as restricted cash in the accompanying consolidated balance sheet.
The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the statement of financial
position that sum to the total of the same such amounts shown in the statement of cash flows (in thousands):
September 30,
Cash and cash equivalents
Restricted cash included in other long-term assets
Total cash, cash equivalents, and restricted cash
shown in the statement of cash flows
Concentrations of Credit Risk
$
$
2019
3,192
733
3,925
The Company sells oil and natural gas to various customers and participates with other parties in the drilling, completion and operation
of oil and natural gas wells. Joint interest and oil and natural gas sales receivables related to these operations are generally unsecured.
For the year ended September 30, 2019, over 83% of total revenues and total receivables were from two customers. The Company
provides an allowance for doubtful accounts for certain purchasers and certain joint interest owners’ receivable balances when the
Company believes the receivable balance may not be collected. Accounts receivable are presented net of the related allowance for
doubtful accounts. At September 30, 2019, the allowance for doubtful accounts was $8 thousand.
In 2019, the Company had cash deposits in certain banks that at times exceeded the maximum insured by the Federal Deposit
Insurance Corporation. The Company monitors the financial condition of the banks and has experienced no losses on these accounts.
12
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
General and Administrative Expenses
The Company receives fees for the operation of jointly owned oil and natural gas properties and records such reimbursements as
reductions of general and administrative expenses. Such fees totaled approximately $0.7 million for the year ended September 30,
2019.
Use of Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States
of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues
and expenses during the reporting period. Estimates and assumptions that, in the opinion of management are significant, include oil
and natural gas reserves, depreciation, depletion and amortization related to oil and natural gas properties, asset retirement obligations
and derivative instrument valuations. The Company evaluates its estimates and assumptions on a regular basis. Estimates are based on
historical experience and various other assumptions that are believed to be reasonable under the circumstances. Actual results may
differ from these estimates.
Oil and Natural Gas Reserves Estimates
Independent petroleum and geological engineers prepare estimates of the Company’s oil and natural gas reserves. Proved reserves and
the estimated future net revenues are estimated based upon a combination of historical data and estimates of future activity.
Consistent with Topic 932 of the Codification, at September 30, 2019, the Company calculated its estimate of proved reserves using a
twelve month average price, calculated as the unweighted arithmetic average of the first-day-of- the-month price for each period within
the twelve-month period prior to the end of the reporting period. The reserve estimates are used in the assessment of the Company’s
ceiling limitation and in calculating depreciation, depletion and amortization. Significant assumptions are required in the valuation of
proved oil and natural gas reserves which, as described herein, may affect the amount at which oil and natural gas properties are
recorded. Actual results could differ materially from these estimates.
Asset Retirement Obligations
The fair value of a liability for an asset retirement obligation is recognized in the period in which it is incurred if a reasonable estimate of
fair value can be made, and the associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset.
The Company determines its asset retirement obligations on its oil and natural gas properties by calculating the present value of the
estimated cash flows related to the estimated liability. Periodic accretion of the discount of the estimated liability associated with the
Company’s oil and natural gas properties is recorded in the consolidated statement of operations.
13
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
The Company recorded the following activity related to the asset retirement obligations (in thousands):
Year Ended September 30,
2019
Liability for Asset Retirement Obligations,
Beginning of Year
Accretion expense
Additions
Obligations for wells sold
Settlements
Changes in estimates
Liability for Asset Retirement Obligations,
End of Year
Less: current asset retirement obligations
Long-Term Asset Retirement Obligations
Revenue Recognition
$
$
5,325
643
173
(257)
(400)
-
5,484
493
4,991
Oil and natural gas sales are recognized when production is sold to a purchaser at a fixed or determinable price, delivery has
occurred, title has transferred, and collectability of the revenue is probable. Delivery occurs and title is transferred when production has
been delivered to a pipeline, railcar or truck. The sales method of accounting is used for oil and natural gas sales such that revenues
are recognized based on the Company’s share of actual proceeds from the oil and natural gas sold to purchasers. Oil and natural gas
imbalances are generated on properties for which two or more owners have the right to take production “in-kind” and, in doing so take
more or less than their respective entitled percentage. As of September 30, 2019, there were no significant oil and natural gas
imbalances.
Income Taxes
RAM and its subsidiaries are disregarded subsidiaries of Holdings. As Holdings has elected to be classified as a corporation, a tax
benefit has been calculated for the year ended September 30, 2019.
The benefit for income taxes differs from the amount computed by applying the statutory federal income tax rate to loss before provision
for income taxes. For the year ended September 30, 2019, the Company had a benefit for income taxes of $26 thousand, which was
completely offset by a valuation allowance. The significant differences between pre-tax book income and taxable book income relate
to non-deductible expenses, state income taxes, change in valuation allowance, and other adjustments to deferred tax balances.
14
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
The sources and tax effects of the differences are as follows (in thousands):
Year Ended September 30,
2019
Income tax benefit at the federal statutory rate (21%)
Return to provision adjustments
State income tax expense, net of federal benefit
Other
Change in valuation allowance
$
(1,332)
1,380
(78)
4
26
Income tax benefit
$
-
The Company’s income tax benefit was computed based on the federal statutory rate and the average state statutory rates, net of the
related federal benefit. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.
Significant components of the company’s deferred tax assets and liabilities are as follows (in thousands):
Year Ended September 30,
Depreciable/depletable property, plant and equipment
Asset retirement obligation
Interest expense
Derivative assets
Reserves and other
Net operating loss carryforward
Total noncurrent deferred tax assets
Valuation allowance
$
2019
6,595
1,874
1,129
472
19
12,752
22,841
(22,841)
Net noncurrent deferred tax assets
$
-
As of September 30, 2019, the Company has a net operating loss carryforward of approximately $57.4 million for federal income tax
reporting purposes. Of this amount, $31.4 million will begin to expire in 2036 and $26 million has an indefinite carryforward period, but
only has the availability to offset future income of up to 80% in any single year. The 2018 Tax Cuts and Jobs Act changed the rules
related to uses and limitations of net operating loss carryforwards created in tax years beginning after December 31, 2017. Based on
the history of losses of the predecessor entity and the continued depression of oil and gas prices, the Company concluded it was not
more likely than not that the net operating losses would be utilized; accordingly, a valuation allowance was recorded. In addition, the
Company has generated a net operating loss carryforward for state income tax purposes, which the Company believes will not be
realized during the relevant carryforward periods; however, such amounts have not been separately disclosed in the consolidated
financial statements as the Company does not believe that these net operating losses are material to the amounts presented herein.
15
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
A valuation allowance has been established with respect to the portion of the deferred tax asset associated with tax basis in excess of
carrying value of the Company’s assets for which the Company currently does not reasonably believe under the deferred tax asset
realization criteria set forth in Topic 740 that it will more likely than not realize a benefit in future periods. During the year ended
September 30, 2019, the Company recorded a valuation allowance of $22.8 million.
Each income tax position is assessed using a two-step process. A determination is first made as to whether it is more likely than not
that the income tax position will be sustained, based upon technical merits, upon examination by the taxing authorities. If the income
tax position is expected to meet the more likely than not criteria, the benefit recorded in the consolidated financial statements equals
the largest amount that is greater than 50 percent likely to be realized upon its ultimate settlement. The Company had no uncertain tax
positions as of September 30, 2019.
The Company’s federal and state tax returns from its inception remain subject to examination by the applicable tax authorities.
Fair Value Measurements
4.
There is a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy categorizes assets and
liabilities measured at fair value into one of three different levels depending on the observability of the inputs employed in the
measurement. The three levels are defined as follows:
Level 1 - inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active
markets.
Level 2 - inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets,
and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the
financial instrument.
Level 3 - inputs to the valuation methodology are unobservable and significant to the fair value measurement.
A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair
value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety
requires judgment and considers factors specific to the asset or liability.
The Company had no assets or liabilities measured at fair value on a recurring basis, by level, as of September 30, 2019.
At September 30, 2019, the carrying value of cash, restricted cash, receivables and payables reflected in the Company’s consolidated
financial statements approximates fair value due to their short-term nature. Additionally, we believe that the carrying value of the
Company’s long-term debt under the credit facility approximates fair value because the credit facility carries an interest rate that
approximates current market rates. The long-term debt is classified as Level 2.
16
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
5.
Acquisitions and Divestitures
McMullen County Disposition
In January 2019, the Company closed on the sale of certain oil and natural gas properties located in McMullen County, Texas for $260
thousand. The full cost pool was reduced by the net proceeds.
Lavaca County Disposition
In April 2019, the Company closed on the sale of certain oil and natural gas properties located in Lavaca County, Texas. The
Company received no proceeds but was relieved of $193 thousand of plugging liability.
6.
Long-Term Debt - Affiliate
Long-term debt - affiliate consists of the following (in thousands):
September 30,
2017 Term Loan
2018 Revolving Loan
2019
$
$
35,000
40,000
75,000
On September 29, 2017, the Company entered into a term loan of $35 million under a loan agreement with PennantPark. The loan
agreement was made effective July 1, 2017 and matures on July 2, 2022. The term loan carries an interest rate of 8% with a 50% paid-in-
kind interest option.
On June 5, 2018, the loan agreement was amended to add a revolving loan with a total commitment of $15 million. The loan agreement
was further amended on January 7, 2019 and May 10, 2019, to increase the revolving loan commitment to $35 million and $40 million,
respectively. The loan agreement was amended a fourth time in October 2019, as discussed in Note 9. Borrowings on the revolving
loan must be at a minimum of $1 million and in $1 million increments, and carries an interest rate of 8%.
The loan agreement includes representations, warranties, and customary covenants, including certain financial covenants for
minimum liquidity and maximum annual capital expenditures. As of September 30, 2019, the Company was in compliance with its
financial covenants.
7.
Commitments and Contingencies
From time to time the Company may be involved in claims and litigation arising in the ordinary course of business. In the opinion of
management, the outcome of all existing matters will not have a material adverse effect on the Company’s financial position or results
of operations.
17
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
Leases
RAM leases office space and certain equipment under non-cancelable operating lease agreements that expire on various dates
through 2024. Approximate future minimum lease payments as of September 30, 2019 are as follows (in thousands):
Year Ending September 30,
2020
2021
2022
2023
2024
$
$
347
214
215
20
2
798
Rent expense of approximately $0.5 million was incurred under operating leases for the year ended September 30, 2019.
8.
Related Party Transactions
RAM made certain payments on behalf of an officer totaling $53 thousand in 2019, which are due to the Company as of September 30,
2019. LEL Energy, a company owned by an officer of RAM, made payments on behalf of RAM totaling $18 thousand in 2019, which
are payables on RAM’s books as of September 30, 2019.
9.
Subsequent Events
The Company evaluates events and transactions occurring after the balance sheet date and before the consolidated financial
statements are available for issuance. Such events and transactions have been evaluated through November 15, 2019, the date the
consolidated financial statements were available to be issued.
On October 11, 2019, the loan agreement with PennantPark was amended to increase the revolving loan commitment to $50 million.
The Company borrowed an additional $10 million on the revolving loan, bringing the total borrowings on the revolving loan to $50
million.
Macquarie Credit Facility
On October 16, 2019, RAM, Fayette and Service, as co-borrowers, entered into a $70 million credit facility with Macquarie
Investments US Inc. (“Macquarie”) as Administrative Agent for itself. The amount funded at closing was $30.5 million, net of deferred
loan costs. The facility includes a $30.5 million Tranche A term loan, a $16 million Tranche B term loan and a $23.5 million Tranche C
term loan. Wells that are currently drilling are identified as Tranche A wells. Tranche B and Tranche C wells are identified in RAM’s
future development plan. Tranche A was funded at closing, and will be used to pay a working capital deficit and other development
and operating costs of Tranche A wells. Tranches B and C will be available when certain wells satisfy production targets and other
conditions are met.
The Tranche A term loan provides for monthly payments of interest and principal during its term. Interest is charged at LIBOR plus the
Applicable Margin of 8.0%. The Tranche A monthly amortization payments vary based on production of the new Fayette wells. The first
principal repayment is due November 30, 2019. The Tranche B term loan provides for incremental monthly amortization payments,
upon such date the Tranche B loan should become available.
18
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
The facility is secured by liens on substantially all properties and assets of the borrowers. The loan agreement contains
representations, warranties and covenants customary in transactions of this nature, including financial covenants relating to a current
ratio, a maximum leverage ratio and a PDP coverage ratio. The facility further provides for certain hedging requirements, and the
Company entered into hedging agreements during October 2019.
Hedging contracts entered during October 2019 are summarized below:
Contract 1
Contract 2
Contract 3
Contract 4
Contract 5
Contract 6
Contract 7
Start Date
11/1/2019
11/1/2019
12/1/2019
11/1/2020
4/1/2021
11/1/2019
11/1/2019
End Date
10/31/2022
10/31/2020
3/31/2020
3/31/2021
10/31/2022
10/31/2022
10/31/2022
Commodity
Crude Oil
Natural Gas
Natural Gas
Natural Gas
Natural Gas
Natural Gas Liquids
Natural Gas Liquids
The facility matures October 16, 2022.
19
Notional
Quantity
Average
Strike Price
378,996
1,816,546
976,000
1,208,000
1,679,051
17,166,450
7,125,846
BBL
MMBTU
MMBTU
MMBTU
MMBTU
GAL
GAL
$51.097
$2.304
$2.556
$2.601
$2.367
$0.170
$0.450
Exhibit 99.3
RAM ENERGY HOLDINGS LLC AND
SUBSIDIARIES
Consolidated Financial Statements (Unaudited)
As of and for the Years Ended September 30, 2018 and
2017
Contents
Consolidated Financial Statements (Unaudited)
Consolidated Balance Sheets as of September 30, 2018 and 2017 (Unaudited)
Consolidated Statements of Operations
for the Years Ended September 30, 2018 and 2017 (Unaudited)
Consolidated Statements of Member’s Deficit
for the Years Ended September 30, 2018 and 2017 (Unaudited)
Consolidated Statements of Cash Flows
for the Years Ended September 30, 2018 and 2017 (Unaudited)
Notes to Consolidated Financial Statements (Unaudited)
Page
3-4
5
6
7
8-16
RAM Energy Holdings LLC and Subsidiaries
Consolidated Balance Sheets
(Unaudited)
September 30,
Assets
Current Assets
Cash and cash equivalents
Accounts receivable, net
Prepaid expenses
Derivative assets
Other current assets
Total Current Assets
Property and Equipment, at Cost
Proved oil and natural gas properties and equipment,
using full cost accounting
Unproved oil and natural gas properties
Gas gathering and processing equipment
Other property and equipment
Less: accumulated depreciation, depletion,
amortization and impairment
Net Property and Equipment
Other Assets
Derivative assets
Restricted cash
Other
Total Other Assets
Total Assets
2018
2017
$
2,768,014 $
5,738,249
238,879
-
-
2,297,592
1,381,640
254,719
113,773
17,153
8,745,142
4,064,877
49,286,227
6,245,449
2,285,109
575,606
58,392,391
44,719,760
4,325,546
-
491,472
49,536,778
(33,910,815)
(32,500,655)
24,481,576
17,036,123
-
546,950
23,834
12,659
583,206
51,834
570,784
647,699
$
33,797,502 $
21,748,699
The accompanying notes are an integral part of these consolidated financial statements.
3
RAM Energy Holdings LLC and Subsidiaries
Consolidated Balance Sheets
(Unaudited)
September 30,
Liabilities and Member's Deficit
Current Liabilities
Trade accounts payable
Revenue payable
Accrued liabilities
Drilling advances
Current portion of asset retirement obligations
2018
2017
$
9,726,498 $
327,300
813,458
3,441,260
427,062
1,938,902
540,326
837,573
-
184,498
Total Current Liabilities
14,735,578
3,501,299
Asset Retirement Obligations, net of current portion
4,897,905
5,770,612
Long-Term Debt - Affiliate
Total Liabilities
Commitments and Contingencies (Note 9)
45,000,000
35,000,000
64,633,483
44,271,911
Member's Deficit
(30,835,981)
(22,523,212)
Total Liabilities and Member's Deficit
$
33,797,502 $
21,748,699
The accompanying notes are an integral part of these consolidated financial statements.
4
RAM Energy Holdings LLC and Subsidiaries
Consolidated Statements of Operations
(Unaudited)
Year Ended September 30,
Operating Revenues
Crude oil sales
Natural gas sales
Natural gas liquids sales
Water supply services
Total Revenues
Operating Expenses
Oil and natural gas operating expenses
Oil and natural gas production taxes
Water usage
Depreciation, depletion and amortization
Accretion of asset retirement obligations
Bad debt expense
General and administrative, overhead and other
expenses, net of operator's overhead fees
Total Operating Expenses
Loss from Operations
Other Income (Expense)
Interest expense
Interest income
Losses on derivatives
Other income, net
Total Other Expense
Net Loss
2018
2017
$
5,011,118 $
1,628,127
942,436
97,357
4,572,014
3,233,455
731,655
-
7,679,038
8,537,124
6,484,208
386,247
128,613
1,410,161
688,081
7,062
7,349,460
349,519
-
1,139,114
569,471
10,746
3,929,867
3,986,503
13,034,239
13,404,813
(5,355,201)
(4,867,689)
(3,043,300)
36,278
(3,834)
53,288
(7,344,345)
16,752
(147,157)
24,779
(2,957,568)
(7,449,971)
$
(8,312,769) $
(12,317,660)
The accompanying notes are an integral part of these consolidated financial statements.
5
RAM Energy Holdings LLC and Subsidiaries
Consolidated Statements of Member’s Deficit
(Unaudited)
Balance, October 1, 2016
Debt exchanged for equity
Net loss
Balance, September 30, 2017
Net loss
Balance, September 30, 2018
Units
Member's
Deficit
23,141 $
(63,796,737)
61,606
53,591,185
-
(12,317,660)
84,747
(22,523,212)
-
(8,312,769)
84,747 $
(30,835,981)
The accompanying notes are an integral part of these consolidated financial statements.
6
RAM Energy Holdings LLC and Subsidiaries
Consolidated Statements of Cash Flows (Unaudited)
Year Ended September 30,
2018
2017
Cash Flows from Operating Activities
Net loss
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation, depletion and amortization
Non cash interest expense in kind
Accretion of asset retirement obligations
Bad debt expense
Losses on derivatives
Derivative settlements
Changes in operating assets and liabilities:
Accounts receivable
Prepaid expenses and other assets
Accounts payable and revenue payable
Drilling advances
Accrued liabilities
$
(8,312,769)
$
(12,317,660)
1,410,161
-
688,081
7,062
3,834
122,598
(1,650,427)
32,993
991,876
3,441,260
(24,116)
1,139,114
6,554,803
569,471
10,746
147,157
81,382
(440,541)
(6,714)
(201,666)
-
7,688
Net Cash Used in Operating Activities
(3,289,447)
(4,456,220)
Cash Flows from Investing Activities
Payments for oil and natural gas properties and equipment
Payments for other property and equipment
Proceeds from sales of oil and natural gas properties
Deposit and other assets
Restricted cash
(10,381,861)
(84,134)
4,161,608
28,000
36,256
(162,974)
(88,929)
6,249,688
-
(128,400)
Net Cash (Used in) Provided by Investing Activities
(6,240,131)
5,869,385
Cash Flows from Financing Activities
Proceeds from borrowings on long-term debt
Net Cash Provided by Financing Activities
Net Increase in Cash and Cash Equivalents
Cash and Cash Equivalents - Beginning of Year
10,000,000
10,000,000
-
-
470,422
1,413,165
2,297,592
884,427
Cash and Cash Equivalents - End of Year
$
2,768,014
$
2,297,592
Supplemental Cash Flow Information
Cash paid for interest
Non-Cash Investing and Financing Activities
Oil and natural gas properties accrued
Asset retirement obligations
Exchange of debt for equity
$
3,012,078
$
707,778
$
$
$
3,869,449
(1,318,224)
-
$
$
$
-
(695,585)
53,591,185
The accompanying notes are an integral part of these consolidated financial statements.
7
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
1. Nature of Operations and Organization
RAM Energy Holdings LLC (“Holdings”), formerly named PNNT RAM Energy LLC, is a Delaware limited liability company, wholly-
owned by PennantPark Investment Corporation (“PennantPark”), and was formed in July 2014 as a holding company for interest
ownership in RAM Energy LLC (“RAM”). RAM Fayette LLC (“Fayette”) was formed in September 2017 and Fayette Service Company
LLC (“Service”) was formed in June 2018. Both subsidiaries are currently wholly-owned by RAM. Holdings, RAM and its subsidiaries
are herein referred to as the “Company.”
RAM was formed in April 2012 as a privately held, independent oil and natural gas company engaged in the acquisition, exploration,
exploitation, development and production of oil and natural gas.
In September 2017, Holdings issued PennantPark 61,606 common units in exchange for the outstanding debt of RAM of $88 million.
Holdings then entered into a new $35 million term loan. In June 2018, the credit agreement was amended to add a $15 million
revolving loan. See Notes 7 and 8.
In July 2018, the Company began a drilling program in the Austin Chalk formation. Fayette was formed to be an owner in the new
wells drilled, and Service was formed to invest in gathering and facilities infrastructure. One new well began producing in September
2018. The second new well began producing in October 2018. See Note 6.
RAM operates exclusively in the upstream segment of the oil and gas industry with activities including the drilling, completion, and
operation of oil and natural gas wells. RAM conducts the majority of its operations in the state of Texas, with minor operations in the
states of Arkansas, New Mexico and Oklahoma.
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include the accounts of Holdings, its wholly- owned subsidiary, RAM, and RAM’s
wholly-owned subsidiaries, Fayette and Service. All significant intercompany accounts and transactions have been eliminated in
consolidation.
Property and Equipment
The Company follows the full cost method of accounting for oil and natural gas properties. Under this method, all productive and
nonproductive costs incurred in connection with the acquisition, exploration, and development of oil and natural gas reserves are
capitalized. No gains or losses are recognized upon the sale or other disposition of oil and natural gas properties except in
transactions that would significantly alter the relationship between capitalized costs and proved reserves. The costs of unevaluated oil
and natural gas properties are excluded from the amortizable base until the time that either proven reserves are found or it has been
determined that such properties are impaired. As properties become evaluated, the related costs are transferred to proved oil and
natural gas properties.
Under the full cost method, the net book value of oil and natural gas properties may not exceed the estimated after-tax future net
revenues from proved oil and natural gas properties, discounted at 10% (the “Ceiling Limitation”). In arriving at estimated future net
revenues, estimated lease operating expenses, development costs, and certain production-related and ad valorem taxes are
deducted.
In calculating future net revenues, prices and costs are held constant indefinitely, except for changes that are fixed and determinable
by existing contracts. The net book value is compared to the Ceiling Limitation and the excess, if any, of the net book value above the
Ceiling Limitation is charged to expense in the period in which it occurs and is not subsequently reinstated. At September 30, 2018
and 2017, the net book value of the Company’s oil and natural gas properties did not exceed the Ceiling Limitation.
8
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
The costs directly associated with unevaluated oil and natural gas properties are not initially included in the amortization base and
relate to unproved leasehold acreage, seismic data, wells and production facilities in progress and wells pending determination.
Unevaluated leasehold costs are transferred to the amortization base once determination has been made or upon expiration of a
lease. Geological and geophysical costs and cumulative drilling costs to date associated with a specific unevaluated property are
transferred to the amortization base with the associated leasehold costs on a specific project basis. Costs associated with wells in
progress and wells pending determination are transferred to the amortization base once a determination is made whether or not
proved reserves can be assigned to the property. All costs included in the Company’s unevaluated property balance are assessed on
a periodic basis for possible impairment or reduction in value. The assessment includes consideration of numerous factors, including
intent to drill, remaining lease term, geological and geophysical evaluations, drilling results and activity, assignment of proved reserves
and economic viability of development if proved reserves are assigned. Any impairments of unevaluated properties are transferred to
the amortization base. The Company did not have any impairment of its unproved oil and gas properties for the years ended
September 30, 2018 or 2017.
Other property and equipment consists principally of furniture and equipment and leasehold improvements. Other property and
equipment and related accumulated depreciation and amortization are relieved upon retirement or sale and the gain or loss is included
in operations. Renewals and replacements that extend the useful life of property and equipment are treated as capital additions.
Depreciation expense of other property and equipment for the years ended September 30, 2018 and 2017 was approximately $75
thousand and $195 thousand, respectively.
Depreciation, Depletion and Amortization
All capitalized costs of oil and natural gas properties and equipment, including the estimated future costs to develop proved reserves,
are amortized using the unit-of-production method based on total proved reserves. Depreciation of gathering assets and related
facilities, and other equipment is computed on the straight-line method over the estimated useful lives of the assets, generally ranging
from 3 to 30 years. Amortization of leasehold improvements is computed based on the straight-line method over the term of the
associated lease or estimated useful life, whichever is shorter.
Cash and Cash Equivalents
All highly liquid unrestricted investments with a maturity of three months or less when purchased are considered to be cash
equivalents.
Restricted Cash
At September 30, 2018 and 2017, the Company had approximately $547 thousand and $583 thousand, respectively, in certificates of
deposit held as collateral for letters of credit for the beneficiary of states for the purpose of plugging and abandonment costs of the
wells in which the Company has an interest. Such amounts are classified as restricted cash in the accompanying consolidated
balance sheets.
Concentrations of Credit Risk
The Company sells oil and natural gas to various customers and participates with other parties in the drilling, completion and operation
of oil and natural gas wells. Joint interest and oil and natural gas sales receivables related to these operations are generally
unsecured. For the years ended September 30, 2018 and 2017, over 20% of total revenues and total receivables were from two
customers. The Company provides an allowance for doubtful accounts for certain purchasers and certain joint interest owners’
receivable balances when the Company believes the receivable balance may not be collected. Accounts receivable are presented net
of the related allowance for doubtful accounts. At September 30, 2018 and 2017, the allowance for doubtful accounts was $125
thousand.
In 2018 and 2017, the Company had cash deposits in certain banks that at times exceeded the maximum insured by the Federal
Deposit Insurance Corporation. The Company monitors the financial condition of the banks and has experienced no losses on these
accounts.
9
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
General and Administrative Expenses
The Company receives fees for the operation of jointly owned oil and natural gas properties and records such reimbursements as
reductions of general and administrative expenses. Such fees totaled approximately $0.7 million and $0.9 million for the years ended
September 30, 2018 and 2017, respectively.
Use of Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States
of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Estimates and assumptions that, in the opinion of management are significant,
include oil and natural gas reserves, depreciation, depletion and amortization related to oil and natural gas properties, asset retirement
obligations and derivative instrument valuations. The Company evaluates its estimates and assumptions on a regular basis. Estimates
are based on historical experience and various other assumptions that are believed to be reasonable under the circumstances. Actual
results may differ from these estimates.
Oil and Natural Gas Reserves Estimates
Independent petroleum and geological engineers prepare estimates of the Company’s oil and natural gas reserves. Proved reserves
and the estimated future net revenues are estimated based upon a combination of historical data and estimates of future activity.
Consistent with Topic 932 of the Codification, at September 30, 2018 and 2017, the Company calculated its estimate of proved
reserves using a twelve month average price, calculated as the unweighted arithmetic average of the first-day-of-the-month price for
each period within the twelve-month period prior to the end of the reporting period. The reserve estimates are used in the assessment
of the Company’s ceiling limitation and in calculating depreciation, depletion and amortization. Significant assumptions are required in
the valuation of proved oil and natural gas reserves which, as described herein, may affect the amount at which oil and natural gas
properties are recorded. Actual results could differ materially from these estimates.
Derivatives
The Company recognizes all derivative instruments as either assets or liabilities in the consolidated balance sheets at fair value in
accordance with authoritative guidance as set forth in Topic 815 of the Codification.
The Company entered into certain derivative contracts to reduce the impact of oil and natural gas price fluctuations and as required by
the terms of its credit facility. See Notes 4 and 5. The Company did not designate these transactions as hedges. Accordingly, all gains
and losses on the derivative instruments are recorded in the consolidated statements of operations.
Asset Retirement Obligations
The fair value of a liability for an asset retirement obligation is recognized in the period in which it is incurred if a reasonable estimate
of fair value can be made, and the associated asset retirement costs are capitalized as part of the carrying amount of the long-lived
asset. The Company determines its asset retirement obligations on its oil and natural gas properties by calculating the present value
of the estimated cash flows related to the estimated liability. Periodic accretion of the discount of the estimated liability associated with
the Company’s oil and natural gas properties is recorded in the consolidated statements of operations.
10
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
The Company recorded the following activity related to the asset retirement obligations (in thousands):
Year Ended September 30,
2018
2017
Liability for Asset Retirement Obligations,
Beginning of Year
Accretion expense
Additions
Obligations for wells sold and abandon
Changes in estimates
Liability for Asset Retirement Obligations,
End of Year
Less: current asset retirement obligations
$
5,955 $
688
53
(1,431)
60
5,325
427
Long-Term Asset Retirement Obligations
$
4,898 $
6,081
569
-
(241)
(454)
5,955
184
5,771
Revenue Recognition
Oil and natural gas sales are recognized when production is sold to a purchaser at a fixed or determinable price, delivery has
occurred, title has transferred, and collectability of the revenue is probable. Delivery occurs and title is transferred when production
has been delivered to a pipeline, railcar or truck. The sales method of accounting is used for oil and natural gas sales such that
revenues are recognized based on the Company’s share of actual proceeds from the oil and natural gas sold to purchasers. Oil and
natural gas imbalances are generated on properties for which two or more owners have the right to take production “in-kind” and, in
doing so take more or less than their respective entitled percentage. As of September 30, 2018 and 2017, there were no significant oil
and natural gas imbalances.
Income Taxes
RAM and its subsidiaries are disregarded subsidiaries of Holdings. As Holdings has elected to be classified as a corporation, a tax
benefit has been calculated for the years ended September 30, 2018 and 2017.
The benefit for income taxes differs from the amount computed by applying the statutory federal income tax rate to loss before
provision for income taxes. For the years ended September 30, 2018 and 2017, the Company had a benefit for income taxes of $11.4
million and $4.4 million, respectively, which was completely offset by a valuation allowance. The significant differences between pre-
tax book income and taxable book income relate to non-deductible expenses, state income taxes, change in valuation allowance, the
impact of 2018 tax reform, and other adjustments to deferred tax balances.
The sources and tax effects of the differences are as follows (in thousands):
Year Ended September 30,
2018
2017
Income tax benefit at the federal statutory rate (34%)
Impact of tax reform
Return to provision adjustments
State income tax expense, net of federal benefit
Other
Change in valuation allowance
$
2,018 $
(13,332)
(141)
98
(2)
11,359
Income tax benefit
$
- $
4,188
-
-
256
(4)
(4,440)
-
11
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
The Company’s income tax benefit was computed based on the federal statutory rate and the average state statutory rates, net of the
related federal benefit. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.
Significant components of the Company’s deferred tax assets and liabilities are as follows (in thousands):
Year Ended September 30,
2018
2017
Depreciable/depletable property, plant and equipment
Asset retirement obligation
Derivative assets
Reserves and other
Net operating loss carryforward
Total noncurrent deferred tax assets
Valuation allowance
$
9,444 $
1,654
472
31
11,214
22,815
(22,815)
Net noncurrent deferred tax assets
$
- $
22,095
2,296
721
29
9,033
34,174
(34,174)
-
As of September 30, 2018 and 2017, the Company has a net operating loss carryforward of approximately $50 million and $25 million,
respectively, for federal income tax reporting purposes. Of this amount, $31.4 million will begin to expire in 2036 and $18.6 million has
an indefinite carryforward period, but only has the availability to offset future income of up to 80% in any single year. The 2018 Tax
Cuts and Jobs Act changed the rules related to uses and limitations of net operating loss carryforwards created in tax years beginning
after December 31, 2017. Based on the history of losses of the predecessor entity and the continued depression of oil and gas prices,
the Company concluded it was not more likely than not that the net operating loss carryforwards would be utilized; accordingly, a
valuation allowance was recorded. In addition, the Company has generated a net operating loss carryforward for state income tax
purposes, which the Company believes will not be realized during the relevant carryforward periods; however, such amounts have not
been separately disclosed in the consolidated financial statements as the Company does not believe that these net operating losses
are material to the amounts presented herein.
A valuation allowance has been established with respect to the portion of the deferred tax asset associated with tax basis in excess of
carrying value of the Company’s assets for which the Company currently does not reasonably believe under the deferred tax asset
realization criteria set forth in Topic 740 that it will more likely than not realize a benefit in future periods. During the years ended
September 30, 2018 and 2017, the Company recorded a valuation allowance of $22.8 million and $34.2 million, respectively.
Each income tax position is assessed using a two-step process. A determination is first made as to whether it is more likely than not
that the income tax position will be sustained, based upon technical merits, upon examination by the taxing authorities. If the income
tax position is expected to meet the more likely than not criteria, the benefit recorded in the consolidated financial statements equals
the largest amount that is greater than 50 percent likely to be realized upon its ultimate settlement. The Company had no uncertain tax
positions as of September 30, 2018.
The Company’s federal and state tax returns from its inception remain subject to examination by the applicable tax authorities.
3. Fair Value Measurements
There is a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy categorizes assets and
liabilities measured at fair value into one of three different levels depending on the observability of the inputs employed in the
measurement. The three levels are defined as follows:
Level 1 - inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2 - inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that
are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.
12
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
Level 3 - inputs to the valuation methodology are unobservable and significant to the fair value measurement.
A financial instrument’s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair
value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety
requires judgment and considers factors specific to the asset or liability.
The following table sets forth the assets and liabilities measured at fair value on a recurring basis, by level, as of September 30, 2018
and 2017 (in thousands):
Derivative Asset (Commodity Contracts)
Derivative Liability (Commodity Contracts)
Derivative Asset (Commodity Contracts)
Derivative Liability (Commodity Contracts)
As of September 30, 2018
Level 1
Level 2
Level 3
Total
$
$
$
$
Level 1
- $
- $
- $
- $
- $
- $
As of September 30, 2017
Level 2
Level 3
126 $
- $
- $
- $
- $
- $
-
-
126
-
Total
The Company estimates the fair value of its derivative instruments based on published forward commodity price curves as of the date
of the estimate, less discounts to recognize present values. The Company estimated the fair value of its derivatives using a pricing
model which also considered market volatility, counterparty credit risk and additional criteria in determining discount rates. The
discount rate used in the discounted cash flow projections was based on published LIBOR rates, Eurodollar futures rates and interest
swap rates. The counterparty credit risk was determined by calculating the difference between the derivative counterparty’s bond rate
and published bond rates. A credit valuation adjustment (“CVA”) for the Company is incorporated into the derivative valuation when
the overall derivative position with a counterparty is in a liability position. A CVA is calculated based on the spread between the
Company’s credit curve and a risk-free rate.
At September 30, 2018 and 2017, the carrying value of cash, restricted cash, receivables and payables reflected in the Company’s
consolidated financial statements approximates fair value due to their short-term nature. Additionally, we believe that the carrying
value of the Company’s long-term debt under the credit facility approximates fair value because the credit facility carries an interest
rate that approximates current market rates. The long-term debt is classified as Level 2.
4. Derivative Contracts
The Company periodically utilizes various hedging strategies to manage the price received for a portion of its future oil and natural gas
production to reduce exposure to fluctuations in oil and natural gas prices and to achieve a more predictable cash flow.
During 2018 and 2017, the Company entered into certain derivative contracts to manage the impact of oil and natural gas price
fluctuations and as required by the terms of its credit facility. The Company did not designate these transactions as hedges.
Accordingly, all gains and losses on the derivative instruments during 2018 and 2017 have been recorded in the consolidated
statements of operations.
As of September 30, 2018, all of the Company’s derivative contracts matured and the Company had no open derivative positions.
13
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
Gross fair values of the Company’s derivative instruments, prior to netting of assets and liabilities subject to a master netting
arrangement, are as follows (in thousands):
Derivative
Financial Instruments
Commodity Contracts
Commodity Contracts
Balance Sheet Location
Current Assets-Derivative Assets
Long-Term Assets-Derivative Assets
Fair Value as of September 30,
2018
2017
$
$
- $
-
- $
114
12
126
All of the gains and losses related to derivative contracts are recorded through the “(gains)/losses on derivatives” account in the
consolidated statements of operations.
5. Acquisitions and Divestitures
Wood County Disposition
On January 1, 2017, the Company closed on the sale of certain oil and natural gas properties located in Texas. The Company
received no proceeds, but was relieved of the plugging liability.
Riverbend Disposition
On January 5, 2017, the Company closed on the sale of certain oil and gas properties located in Texas for $5.7 million net proceeds.
Harrison County Disposition
On February 10, 2017, the Company closed on the sale of certain oil and natural gas properties located in Texas for $15 thousand plus
oil in tanks.
Karnes County Disposition
On May 23, 2017, the Company closed on the sale of certain oil and natural gas properties located in Texas for $0.4 million.
Rusk County Disposition
On June 22, 2017, the Company closed on the sale of undeveloped deep rights in certain oil and gas properties located in Texas for
approximately $0.1 million.
Fayette Acquisition
The Company closed on the purchase of additional acreage in Fayette County, Texas for $0.8 million and $2.0 million in October 2017
and June 2018, respectively.
Logansport Dispositions
In March 2018, the Company closed on the sale of certain operated crude oil and natural gas property located in the DeSoto parish of
Louisiana for $3.2 million net proceeds (prior to closing adjustments). In June 2018, the Company closed on the sale of certain mineral
interests located in the DeSoto parish of Louisiana for $0.6 million.
Dull Knife Disposition
In March 2018, the Company closed on the sale of certain oil and natural gas properties located in Winkler County, Texas for $240
thousand.
14
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
Yoakum County Disposition
In March 2018, the Company leased mineral interest properties located in Yoakum County, Texas for $40 thousand.
Harris County Disposition
In March 2018, the Company closed on the sale of certain oil and natural gas properties located in Harris County, Texas for $100
thousand.
6. Drilling Activity
In July 2018, the Company began a program to drill four new wells in the Austin Chalk formation, two of which began producing in
September and October 2018. Fayette was formed in September 2017 and is an owner in the new wells drilled, and Service was formed in
June 2018 to invest in gathering and facilities infrastructure. RAM (dba RAMTex Energy LLC) is the operator of the Fayette wells. As
operator, RAM collects revenue and pays expenses for the Fayette wells. RAM also distributes revenue and provides joint interest billings to
Fayette and any non-operating partners for their interest in the Fayette wells.
Fayette holds various ownership interests in the new wells. The joint operating agreements allow for prebilling partners for 100% of their
share of the total AFE. Drilling advances received were $3.4 million as of September 30, 2018. Funding for the drilling program will be
provided by borrowings on the revolving loan agreement, joint interest billings and production from the new wells.
The first Fayette well, the Super T, was completed and producing the last 5 days in September 2018. The second Fayette well, the Tango,
was spud August 25, 2018 and was producing in October 2018.
7. Long-Term Debt - Affiliate
Long-term debt - affiliate consists of the following (in thousands):
September 30,
2017 Term Loan
2018 Revolving Loan
2018
2017
$
$
35,000 $
10,000
35,000
-
45,000 $
35,000
On September 29, 2017, the Company entered into a term loan of $35 million under a loan agreement with PennantPark. The loan
agreement was made effective July 1, 2017 and matures on July 2, 2022. The term loan carries an interest rate of 8% with a 50% paid-
in-kind interest election.
On June 5, 2018, the loan agreement was amended to add a revolving loan with a total commitment of $15 million. Borrowings on the
revolving loan must be at a minimum of $1 million and in $1 million increments, and carries an interest rate of 8%.
The loan agreement includes representations, warranties, and customary covenants, including certain financial covenants for
minimum liquidity and maximum annual capital expenditures. As of September 30, 2018, the Company was in compliance with its
financial covenants.
15
RAM Energy Holdings LLC and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
8. Member’s Deficit
PennantPark holds all units in Holdings. A debt restructuring in September 2017 included PennantPark contributing the then
outstanding Tranche A term loan to Holdings, effectively extinguishing the debt. In exchange, Holdings issued PennantPark 61,606
common units and Holdings entered into a new $35 million term loan with PennantPark. As PennantPark is the sole owner of
Holdings, the debt restructuring was deemed a capital transaction at cost basis with no gain or loss recorded. The cost basis of the
debt plus interest paid-in-kind immediately prior to the extinguishment was $88 million, resulting in a net equity contribution of
approximately $54 million on the conversion of debt.
9. Commitments and Contingencies
From time to time the Company may be involved in claims and litigation arising in the ordinary course of business. In the opinion of
management, the outcome of all existing matters will not have a material adverse effect on the Company’s financial position or results
of operations.
Leases
RAM leases office space and certain equipment under non-cancelable operating lease agreements that expire on various dates
through 2020. Approximate future minimum lease payments as of September 30, 2018 are as follows (in thousands):
Year Ending September 30,
2019
2020
$
$
530
177
707
Rent expense of approximately $0.5 million and $0.5 million was incurred under operating leases for the years ended September 30,
2018 and 2017, respectively.
10. Related Party Transactions
RAM made certain payments on behalf of an officer totaling $52 thousand in 2018 and $51 thousand in 2017, which are due to the
Company as of September 30, 2018 and 2017, respectively. LEL Energy, a company owned by an officer of RAM, made payments on
behalf of RAM totaling $0 in 2018 and $12 thousand in 2017, which are payables on RAM’s books as of September 30, 2018 and
September 30, 2017, respectively.
11. Subsequent Events
The Company evaluates events and transactions occurring after the balance sheet date and before the consolidated financial
statements are available for issuance. Such events and transactions have been evaluated through November 13, 2018, the date the
consolidated financial statements were available to be issued.
On October 12, 2018, the Company borrowed an additional $5 million, bringing the total borrowings on the revolving loan to $15
million.
On November 1, 2018, the Company closed on the sale of certain oil and gas properties in Lea County, New Mexico for $228
thousand. The buyer also assumed plugging liability and joint interest billings accounts payable of $8 thousand.
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