Hercules Capital's Q3 2025 Earnings Call: Contradictions Emerge on Funding, Competitive Landscape, and Leverage Strategies

Date of Call: October 30, 2025

Financials Results

• Revenue: $138.1M total investment income, up 10.3% YOY
• EPS: $0.49 per share (net investment income), NII $88.6M

Guidance:

• Core yield for Q4 expected 12% to 12.5%.
• Q4 prepayments expected $150M–$200M.
• Interest expense expected to increase versus the prior quarter.
• SG&A expected $25M–$26M with RIA expense allocation of ~ $4M.
• RIA dividend expected ~$2M–$2.5M; management intends to maintain $0.40 base dividend and evaluate supplemental distributions at year-end.

Business Commentary:

* Record Originations and Funding Performance: - Hercules Capital reported record total gross debt and equity commitments of over $846.2 million for Q3 2025, leading to record total gross fundings of over $504.6 million. This represents an increase of 85.5% year-on-year. - The growth in funding was driven by strong origination activity in life sciences and technology sectors, highlighting Hercules' position as the market leader in venture and growth stage lending.

• Credit Quality and Credit Monitoring:
• Hercules maintained a high weighted average internal credit rating of 2.27, with grade 1 and 2 credits increasing to 64.5%.

• The strong credit quality is attributed to disciplined underwriting and consistent credit monitoring, ensuring appropriate structural alignment and portfolio growth management.

• Balance Sheet and Liquidity Management:

• The company's GAAP leverage increased modestly to 99.5% in Q3, which is at the low end of its typical historical range of 100% to 115%, supporting controlled portfolio growth.

• Hercules maintained substantial liquidity with over $1 billion across its platform, ensuring flexibility for future growth and market opportunities.

• Dividend and Financial Performance Outlook:

• Hercules' record total investment income reached $138.1 million for Q3 2025, with net investment income of $88.6 million.
• The strong financial performance was supported by the company's disciplined credit underwriting and balance sheet management, allowing it to maintain high levels of dividend coverage and continue paying supplemental distributions.

Sentiment Analysis:

Overall Tone: Positive

• Management repeatedly cited record results (total investment income $138.1M, +10.3% YOY; AUM ~$5.5B, +20.7% YOY), net investment income $88.6M ($0.49/sh), 122% coverage of base dividend, NAV $12.05 (highest since 2008) and expressed optimism about origination momentum and balance-sheet liquidity.

Q&A:

• Question from Brian Mckenna (Citizens JMP Securities, LLC): You framed supplemental dividends as ~75%–80% of excess earnings; if NII holds at $2.00, that implies ~ $0.30 supplemental — can you comment on next year's supplemental dividend expectations?
  Response: No specifics now; Board will decide year-end—management is optimistic they can maintain the $0.40 base dividend and provide a supplemental distribution and said the analyst's math is 'not too far off.'

• Question from Brian Mckenna (Citizens JMP Securities, LLC): What is driving the improvement in credit quality as the platform scales?
  Response: Strong credit quality is attributed to an experienced, stable investment and credit team and disciplined underwriting.

• Question from Finian O'Shea (Wells Fargo Securities, LLC): Was there a change in the adviser expense allocation that made the adviser line look stronger this quarter?
  Response: No methodological change; allocation varies with AUM growth and the level/timing of originations, causing quarter-to-quarter volatility.

• Question from Finian O'Shea (Wells Fargo Securities, LLC): Any change in mix between incumbency (follow-ons) and new borrowers going forward?
  Response: No material change; Q3 skewed toward follow-on fundings as portfolio companies hit milestones, but new originations remain robust and management remains selective.

• Question from Crispin Love (Piper Sandler & Co.): Given recent bank loan issues and media attention on private credit, what are your views on credit and competitor behavior?
  Response: Hercules remains conservatively underwritten, has seen no material portfolio deterioration, and maintains a positive credit outlook despite broader market anxiety.

• Question from Crispin Love (Piper Sandler & Co.): With recent rate cuts and forward curve moves, how will net investment income be impacted intermediate-term?
  Response: Impact is muted because ~75% of prime-based loans are at contractual floors; management estimates a 50bp cut would lower NII by about $0.05 per share annually and reiterated Q4 core yield guidance of 12%–12.5%.

• Question from Douglas Harter (UBS Investment Bank): You mentioned 'frothiness' in the market—is that around structure, valuation, or something else?
  Response: Froth primarily in deal structure and oversized funding/leverage (not yield); Hercules is passing on poorly structured deals and avoiding short-term portfolio growth at the expense of structure.

• Question from John Hecht (Jefferies LLC): How exposed is your portfolio to legacy software risk from AI disruption and how are you positioned?
  Response: Short portfolio duration (~18 months) and underwriting has incorporated AI assessment over the past 12–24 months; management believes the portfolio is well positioned for AI developments.

• Question from John Hecht (Jefferies LLC): Are strong commitments/fundings due to a larger TAM, increased share, borrowers preferring debt, or a combination?
  Response: Management believes growth reflects taking market share, increased platform scale/liquidity, and selective hires that expanded origination capacity.

• Question from Christopher Nolan (Ladenburg Thalmann & Co. Inc.): Does tokenization/blockchain change how you do business or track assets—are you using blockchain for investment tracking or changing exposure?
  Response: No plans to lend directly into crypto; limited exposure via infrastructure companies only, and Hercules is not using blockchain to track investments.

• Question from Paul Johnson (Keefe, Bruyette, & Woods, Inc.): How much of the ~ $28.6M debt appreciation was credit-specific (e.g., the resolved nonaccrual)?
  Response: About half of the debt appreciation was due to one resolved nonaccrual that was marked up roughly $14M above prior fair value; the remainder reflects broader credit and yield-related improvements.

• Question from Paul Johnson (Keefe, Bruyette, & Woods, Inc.): How does PIK typically work in your venture loans—toggle structures and typical limits?
  Response: PIK is usually set at underwriting (≈85% of Q3 PIK was original underwriting), typically structured as a small toggle (converting small cash interest into ~1.15%–1.25% PIK); very few deals exceed ~1%–2% of interest as PIK.

Contradiction Point 1

Funding Levels and Market Observations

It involves differing perspectives on funding levels and market observations, which are critical for understanding the company's financial outlook and competitive positioning.

If the supplemental dividend as a percentage of excess earnings over the base dividend is maintained, what would next year's supplemental dividend be based on Q3 results? - Brian Mckenna(Citizens JMP Securities, LLC, Research Division)

2025Q3: We expect to end 2025 with both record fiscal year commitments and record fiscal year gross fundings. - Scott Bluestein(CEO)

Debt fundings have been strong year-to-date. Given your cautious near-term outlook but optimistic long-term view, are the funding levels from late 2023 and early 2024 achievable in Q4 and 2026? Are there risks of prolonged funding declines? - Crispin Elliot Love (Piper Sandler)

2025Q2: While Q3 is typically our slowest quarter, we have pulled back slightly due to market observations. - Scott Bluestein(CEO)

Contradiction Point 2

Competitive Environment

It involves differing views on the competitive environment, which impacts the company's strategic positioning and market outlook.

Can you elaborate on the frothiness in the market pipeline? - Douglas Harter (UBS Investment Bank, Research Division)

2025Q3: We are cautious about deals with aggressive structures or lack of structural integrity. - Scott Bluestein(CEO)

How is the competitive environment in venture lending evolving from non-banks and traditional banks? Have you observed notable changes in the market? - Crispin Elliot Love (Piper Sandler)

2025Q2: We continue to see certain banks and nonbanks competing, but some nonbanks have been aggressive, lacking structure and going below our yield thresholds due to abundance of liquidity. - Scott Bluestein(CEO)

Contradiction Point 3

Credit Quality and Underwriting Discipline

It involves differing statements about the consistency of the credit quality and underwriting approach, which are crucial for investor confidence in the company's risk management.

What is the biggest driver of the strong portfolio credit quality? - Brian Mckenna (Citizens JMP Securities, LLC, Research Division)

2025Q3: The strong credit quality is attributed to Hercules' experienced investment and credit teams that have been consistent in their conservative underwriting approach. - Scott Bluestein(CEO)

What drove the $54 million in realized losses and the increase in Grade 4 credits? How much was already in unrealized losses? - Crispin Love (Piper Sandler & Co., Research Division)

2024Q4: Credit quality remains strong. Our weighted average internal credit rating was 2.26 for the quarter, a slight increase from 2.20 at the end of September 30. - Seth Meyer(CFO)

Contradiction Point 4

Equity Co-Investments and Selectivity

It involves changes in the company's approach to equity co-investments, which impacts investment strategy and risk management.

How do PIK structures function in venture loans at Hercules? - Paul Johnson (Keefe, Bruyette, & Woods, Inc., Research Division)

2025Q3: We're cautious with equity investments due to frothy market valuations, being more selective in co-investments and RTIs. - Scott Bluestein(CEO)

Have you observed a decline in equity co-investment and principal repayments, and are you reducing investments in amortizing structures historically used, while questioning the attractiveness of equity co-investments? - Finian Patrick O'Shea (Wells Fargo Securities)

2025Q2: We're cautious with equity investments due to frothy market valuations, being more selective in co-investments and RTIs. - Scott Bluestein(CEO)

Contradiction Point 5

Leverage Target and EPS Coverage

It involves differing statements about the purpose of the leverage target and its relationship to EPS coverage, which are critical for understanding the company's financial strategy.

Has the portfolio mix of incumbency versus new borrowers changed? - Finian O'Shea (Wells Fargo Securities, LLC, Research Division)

2025Q3: Our effective yield again over 15%. The effective yield was 15.3%. The excess spread is 1.8%. We still have a leverage of 0.6 times in terms of leverage. We're very comfortable with where we are. At the 0.6 times leverage, we're yielding over 15.3%. That is very, very strong. - Scott Bluestein(CEO)

How do you plan to increase leverage to offset recent rate declines given leverage is below target? - John Hecht (Jefferies LLC, Research Division)

2024Q4: Our target leverage ratio, as it has been for quite some time, is 0.7 times. We also understand that this is a high growth environment. And so as we do that, we can always increase leverage beyond that number to take advantage of the high yield environment. - Scott Bluestein(CEO)