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Hercules Technology Growth Capital Inc.’s (HTGC - Analyst Report) second quarter 2011 distributable net operating income (DNOI) came in at 26 cents per share, ahead of the Zacks Consensus Estimate of 21 cents. This also compares favorably with a DNOI of 22 cents in the prior-year quarter.

Better-than-expected results were attributable to a substantial increase in total investment income and improved net realized and unrealized gain, partially offset by higher operating expenses. Additionally, Hercules ended the quarter with a strong balance sheet and a high level of liquidity.

Quarter in Detail

Hercules’ total investment income for the reported quarter came in at $20.8 million, up 44% from $14.5 million in the prior-year quarter. The increase was attributable to higher average balance of interest earning investments outstanding and accelerated fees related to early payoffs.Total investment income also topped the Zacks Consensus Estimate of $18.0 million.

Total operating expenses (excluding interest expense and loan fees) were $6.6 million, up 25% from $5.3 million in the year-ago quarter. Higher employee compensation and increased accounting and legal expenses were responsible for this increase.

On a year-over-year basis, interest expense and loan fees increased 58% to $3.8 million. At June 30, 2011, the weighted average cost of debt, comprising interest and fees, was 6.6% compared with 7.0% at June 30, 2010.

Net investment income (before investment gains and losses) for the quarter came in at $10.4 million or 24 cents per share compared with $6.9 million or 19 cents in the year-ago quarter. The increase was mainly attributable to a higher average balance of interest earning investments outstanding and accelerated fees related to early payoffs.

Net realized and unrealized gain was $14.0 million compared with a loss of $11.5 million in the year-ago quarter.

Business Highlights

The fair value of Hercules’ total investment portfolio was approximately $475.2 million as of June 30, 2011 compared with $445.1 million as of March 31, 2011. During the quarter, the company provided approximately $105.2 million debt funding to new and existing portfolio companies, up 25% from about $84.0 million in the prior quarter.

As of June 30, 2011, Hercules’ net asset value was $9.67 per share, compared with $9.20 as of March 31, 2011. Net unrealized appreciation explains the increase in the quarter.

Dividend Update

Concurrent with the earning release, Hercules declared a quarterly dividend of 22 cents per share. This represents the company’s twenty-fourth consecutive dividend since inception.The dividend will be paid on September 15to shareholders of record as of August 15.

Our Viewpoint

Despite the capital market disruption and sluggish economic recovery, a steady pace of new investments by venture capitalists is expected. This could lead to new investment opportunities, even though we remain cautious about Hercules’ investment and credit management strategies.

Hercules currently retains a Zacks #4 Rank, which translates into a short-term Sell rating. However, considering the fundamentals, we maintain our long-term Neutral recommendation on the stock. However, Hercules’ competitor Main Street Capital Corporation (MAIN - Snapshot Report) retains a Zacks #4 Rank (a short-term Hold rating).

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