Research report: Runway Growth Finance Corp. (NASDAQ: RWAY)

We are short Runway Growth Finance Corp. (NASDAQ: RWAY) because, in our opinion, Runway Growth Finance Corporation (“Runway”, “Runway Growth”, “RWAY”) is misleading shareholders and lacking transparency, as discrepancies in their disclosed loan-to-value (LTV) ratio and actual figures raise concerns. Furthermore, the company’s reliance on high-risk payment-in-kind (PIK) loans, coupled with significant cash shortfalls and a decline in loan originations, jeopardizes its dividend strategy and long-term viability.

In our opinion,

  • RWAY claims a low LTV of 17% compared to industry averages, but the actual LTV is significantly higher at 24%. This is not disclosed in any regulatory filings, indicating potential inaccuracies and a lack of transparency. RWAY is deceiving shareholders by not fully disclosing the risk of an investment in the company’s stock. Runway Growth’s valuation methods for investments are highly subjective and circumvented SEC rules, specifically Rule 2a-5. We believe the manipulated fair value of investments like Pivot3, Gynesonics, Marley Spoon, and Circadence raises concerns about the reliability and accuracy of RWAY’s financial statements.
  • RWAY’s significant share of high-risk PIK loans and the increase in PIK interest income by 760% within the last two years raise doubts about the availability of sufficient cash support. The company’s distribution of cash dividends exceeding its net investment income, reaching a ratio of 121% in Q1/23, indicates a significant shortfall of cash. This leads to potential challenges in fulfilling future dividend obligations and raises concerns about the long-term sustainability of RWAY’s dividend strategy.
  • In the first half of 2023, Runway Growth experienced a notable decline in its deal flow, resulting in significantly fewer loan originations compared to analysts’ expectations. The company’s performance was characterized by lackluster originations, leading to net repayments of $35 million instead of $280 million in net originations. Furthermore, additional repayments have been communicated by RWAY’s borrowers, which will result in a cash loss of total investment income amounting to $13.4 million annually until 2026.
  • Runway Growth heavily relies on consistent net originations to generate interest income and support dividend payments. The stalled originations also highlight the shift towards a portfolio of high-risk payment-in-kind (PIK) loans from distressed late-stage growth companies, posing additional risks for investors.
  • Runway’s investment in Pivot3 Holdings raises concerns due to the concealment of Pivot3’s liquidation and the inclusion of “ghost value” on RWAY’s balance sheet. Despite the sale of Pivot3’s assets below book value of the loan principal, Runway Growth recorded a realized gain instead of a loss in 2021. Pivot3 ceased operations in June 2021 and RWAY’s continuous classification of Pivot3 loans as non-accrual, coupled with its marked-up fair value, suggest an attempt to offset other investments’ unrealized losses to whitewash RWAY’s net income.
  • Runway Growth’s investment in Gynesonics, a biotech company, raises concerns due to RWAY’s failure to promptly disclose Gynesonics’ restructuring and the subsequent conversion of 50% of the senior secured loans into unsecured preferred equity. The lack of transparency and failure to assign a higher risk rating accurately demonstrate RWAY’s manipulated risk assessment, mismanagement, and disregard for shareholder interests. The swap into riskier equity positions, after previous equity holders were wiped out, puts Runway Growth at significant losses because Gynesonics’ equity was marked down by 13% in the first 30 days of ownership. The preferred equity’s rapid fair value deterioration and the limited growth prospects of Gynesonics indicate a high likelihood of complete loss on the investment.
  • RWAY’s loans to Marley Spoon, a distressed meal delivery company, exceed the portfolio company’s current market capitalization, indicating a risky investment with doubtful repayment prospects. Marley Spoon’s financial distress, negative equity, and significant cash burn rate raise concerns about the reported fair value of the loans. Despite Marley Spoon undergoing a restructuring through a de-SPAC merger with a German company, accompanied by significant alterations of the financial covenants, such as amortization and maturity extensions, and PIK relief, Runway Growth’s risk rating for Marley Spoon has not changed. We believe there is a likelihood of another ill-advised debt-to-equity swap, potentially resulting in worthless Marley Spoon stock and losses for Runway Growth’s shareholders.
  • Runway’s loans to Circadence Corporation, a government contractor specializing in educational products, have experienced substantial fair value markdowns, with a 99% reduction in the accompanying equity stake. Since 2014, Circadence struggled in securing new government contracts and according to government documents its remaining backlog is only worth $1.4 million. Because the loans are PIK interest-only loans with SOFR+9.50% PIK, we believe the fair value is highly overstated and Circadence will be unable to repay its loan with cash.
  • Investments with an aggregated principal of more than $140 million are in distress or bankruptcy-like status and RWAY failed to disclose material information about several investments. In addition, the portfolio becomes more concentrated towards distressed PIK loans as healthy cash-generative companies repay their loans early while RWAY’s deal flow stalled within the first half of 2023.

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