Anytime I hear the name “Hercules,” I immediately impersonate Eddie Murphy as Mama Klump saying “Hercules, Hercules!” in The Nutty Professor. It’s an automatic response. My kids, appropriately, roll their eyes.
Investors in Hercules Capital (NYSE: HTGC) aren’t rolling their eyes these days, though – not while they’re getting paid a 10% yield.
Will they stay as proud of Hercules Capital as Mama Klump is of her boy?
Hercules Capital is a business development company, or BDC, that lends money to emerging companies, including…
- Compass Pathways (Nasdaq: CMPS), a biotech firm that is headquartered in London and focuses on therapies for mental health
- HighRoads, a health benefits management company located in Burlington, Massachusetts
- ZeroFox, a Baltimore-based cybersecurity provider.
When I examined Hercules Capital’s dividend safety a year and a half ago, there were some serious issues. The company was paying out more cash in dividends than it was bringing in from running its business.
Today, the situation has improved greatly.
When we analyze a BDC’s financials, the number we’re most concerned with is net investment income, or NII. This is the money the company makes from investing its capital. (It’s the equivalent of cash flow for a regular business that sells products and services.)
As you can see in the chart below, Hercules’ NII was stagnant for a few years.
But now, that has changed, as NII has exploded higher and is forecast to rise again this year.
Last year, Hercules Capital brought in $304 million in NII and paid $274 million in dividends for a 90% payout ratio. This year, Wall Street forecasts $341 million in NII and $303 million in dividends, which would represent an 89% payout ratio.
BDCs are required to pay out 90% or more of their net income in dividends in order to avoid paying corporate taxes, so I’m OK with payout ratios of up to 100%. Keep in mind, NII is not the same as net income, but because of the requirement to pay out at least 90% of their net income, BDCs often have higher payout ratios than other companies.
With Hercules Capital’s payout ratio holding steady at around 90%, I’m comfortable that it can afford its dividend.
The company has increased its regular dividend (annualized) every year since 2021. It has also paid a special dividend every quarter since 2020, but the special dividend may vary. It was cut in half in the first quarter of 2023 and has remained at $0.08 per share since then.
Based only on the regular quarterly dividend, which stands at $0.40 per share, the stock yields 8.5%. When you add the $0.08 per share special dividend, the yield climbs to 10.2%.
On Hercules Capital’s third quarter conference call, management said it is confident in the company’s ability to cover the base dividend of $0.40. Additionally, CEO Scott Bluestein stated, “To the extent that we have excess spillover income, which we continue to have, it is our view and our belief as an organization that we have an obligation to return as much [of] that as we can to our shareholders.”
Overall, Hercules Capital’s regular dividend is rock-solid. The special dividend is variable, so you have to consider that it could change at any time, but it doesn’t look to be in danger at the moment.
Dividend Safety Rating for the Regular Dividend: A
Dividend Safety Rating for the Total Dividend (Regular + Special): B
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