Gladstone Capital Corp (GLAD) 2008 Q2 法說會逐字稿

Greetings ladies and gentlemen and welcome to The Gladstone Capital second quarter 2008 earnings conference call. At this time, all participates are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host Mr. David Gladstone, Chairman and CEO of Gladstone Capital. Thank you, Mr. Gladstone, you may now begin.

Thank you, Jackie and thank all you nice people for showing up this morning. This is the quarterly conference call for Gladstone Capital, NASDAQ trading symbol GLAD. This is our second quarter, we're always happy to talk to shareholders. We enjoy these moments that we have. We wish we had a lot more moments like this and I hope you all will sign up for e-mail notices so you get the information coming directly to you from our company. Please remember that you have an open invitation that if you are in the Washington D. C. area, come by and say hello we are in the Claim Virginia, just outside Washington, we may not have time to meet with you but certainly we would want to shake your hand and wish you well if you come by and see us.

I need to read statement about forward-looking statements. This conference call may include statements that may constitute forward-looking statements within the meaning of the Securities Act of 1933 and the Security Exchange Act of 1934 including statements with regard to the future performance of the company. . These forward-looking statements inherently involve certain risks and uncertainties even though they are based on the current plans and we believe those plans to be reasonable. There are many factors that may cause our actual results to be materially different from any future results that is are expressed or implied by theses forward-looking statements including those factors listed under the caption risk factors that are filed in our 10-K and Q and our prospectus as filed with the Securities and Exchange Commission and can be found on our web site at www.GladstoneCapital.com and also on the SEC web site. The company under take no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

This morning we are going to start something new, a new way of reporting to you as our shareholders so you hear from some of the people at your firm other than me. Of course I am not going anywhere but you should know there are a lot of good talented people here at the company and shareholders should hear from them too. We will start with our production and our pipeline report and hear from our President and Chief Investment Office, Chip Stelljes, so Chip take it away.

Thanks, David. Our production for the second quarter was disappointing with only 20.5 million in new investments closed. While the longer term prospects in our pipeline are strong the continued instability of the financial markets that we are seeing is making closing new investments more difficult and time consuming of the 20 million we did invest in quarter, 14 million was to one Newport folio company, the remaining 6 million went to existing portfolio companies in the form of additional investments or draws on their revolvers. We received about 3 million back in the normal amortization and pay downs of revolvers during the quarter for a net production of about 17 million. Some transactions were delayed, we hope we can get back on track to close those deals this quarter.

At the end of March-quarter our investment portfolio was valued at about 413 million on a cost basis of about 442 million and although the portfolio was depreciated it is still valued at 93% of cost. We don't like the lower valuation of the portfolio during the quarter but given especially because the had strong performance, we remain confident that the devaluation is really reflective of the broader market for loans rather than any substantial change in our portfolio and we expect most of the portfolio to continue paying as agreed with few problems through the third quarter. The record through perception we have made loans to approximately 126 companies, we have been repaid or exited from 61 of those. The average return of the exits is about 13% for our syndicated loans and 16% for nonsyndicated loans. At the end of the quarter we had two loans that were past due, one, with a cost basis of about 1.6 million and the other with a cost basis of about 6.6 million. We are in control of both of these companies now and working aggressively to stabilize the two investments and improve their profitability.

To date all of our realized investments had a positive IRR. So we think the program we set when we founded this company is working as planned and we don't feel it is necessary to really make a change to the strategy. We continue to look for high quality investments in solid small businesses with really talented management teams and strong institutional equity backing. After the quarter end, we have not yet invested in any new nonsyndicated loans but have added about 2.3 million in additional investments in existing portfolio companies and we have a few deals that should close soon. The pipeline for new investments is as strong as it has ever been, and we have a noticeable increase in opportunities coming to us, banks are calling us and are the LBO funds. The market has really come our way in regard to pricing and structure given the credit crunch. We intend to make some strong loans during this time frame and while our new investments this quarter were behind schedule, our pipeline is larger than it has been in the history of the company so we just have to convert them to new investments. The equity was raised and the additional debt capital available provide the company with the ample funds we need to pursue the pipeline opportunities. We still expect a good year for new assets on the books.

With that I will turn it back to David.

Okay. Now I'd like to turn to the financial numbers, and for that we will hear from Gresford Gray our CFO. Gresford, go ahead.

Thank, David. Our balance sheet is strong and at quarter-end we had approximately $123 million borrowed on our line of credit and about $301 million in equity. So we have less than 1 to 1 leverage. This is a very conservative balance sheet and the risk profile is low. No w turning to the income statement for the March-quarter, net investment income which is before appreciation, depreciation, gains or losses was about $6.4 million versus $5.7 million for the same quarter last year, an increase of about 12%. On a per share basis, net investment income for the quarter was at about $0.33 per share as compared to $0.47 for the same quarter one year ago. This was a per share decrease of about 30%, attributable to the dilution from share issuances during the quarter or in other words, an additional 7.4 million weighted average shares outstanding as compared to the same period of the prior year. This decline should be removed as the company, as the money from our last public offering is put to work. As all of you know, net investment income is the most important number to us because it is the number that is closest to our taxable income and that taxable income is the income we use to pay our dividends. So this is the one to watch.

Now, let's turn to unrealized and realized gains. This is a mixture of appreciation, depreciation, gains and losses. We like to talk about two categories in this section. First, gains and losses because they are cash items and second, we talk about appreciation and depreciation which are noncash items. For the quarter ended March we have a small capital gain of about $1,000 from proceeds on our interest rate cap agreement and no capital losses. The unrealized depreciation, ... i.e. the noncash item reported during the quarter ended is primarily determined by our use of opinions of value on our loans that we receive from Standard &Poor's Securities Evaluations or S&P. Who does a good job of setting the price on the loans they price. They have good experience in this area because they follow thousands of loans. We asked S&P to value all of the loans in our portfolio that don't have a readily determinable market value every quarter. S&P givers us an independent opinion of the exact dollar value for each loan we ask them to review. They illuminates the worry our shareholders may have that we are not writing down poor performing loans. Because this is a valuation opinion from our independent third-party, you will see a lot of volatility in this number. At this time last year, our portfolio was just slightly below par whereas this March our portfolio is valued at a depreciated amount due mainly to the general instability of the loan markets. You will see that overall our portfolio held its value at about 93% of par, further demonstrating our investment quality.

For the quarter ended March 31st, our assets had a net unrealized depreciation of about $18.3 million as compared to the prior year which had a net unrealized depreciation of $1.7 million. As you know, depreciation does not have an impact on the ability of the company to pay distributions to shareholders. All of our loans except two are paying as agreed but S&P thought they were in need of some depreciation due to market conditions.

Now, turn to net increased or decrease in net assets resulting from operations. This term is a combination of net investment income, appreciation, depreciation, gains and losses. It adds up everything, kind of like adding up all the apples, oranges and tomatoes. For the March-quarter we had a net decrease in net assets resulting from operations of about $11.9 million versus a net increase of about $4.1 million last year this time. This March-quarter, we are at about anything negative $0.61 per share versus last year at positive $0.33 per share. For the quarter that just ended this difference is related to the depreciation of the portfolio this time versus the smaller depreciation of the portfolio last time. Investors should expect this kind of volatility in the portfolio.

Now I am turning it back over to David.

Okay. Thank you, Gresford and thank you for that good report. Both you and Chip did very good. I want to remind the listeners that valuations are really just best guesses of what the loan could be sold for if we had an orderly sale. There are in essence a general valuation. You want to know that the value of the loan, if you wanted to know the true value of a loan you would need to hire an appraisal company to come in and conduct a full appraisal of the company and the loan. That could cost you 5 to $25,000 for each loan that we have for getting a very accurate appraisal. We can't justify spending that much money for shareholders to get a valuation and we would have to do it every quarter. So what we do is we engage Standard & Poor's. They use their more general technique to value the loans and that gives us the values that we are looking for. I think it is reasonably accurate for the portfolio, although I must tell you I was surprised at how much depreciation the folks at S&P came up with this time. They are just following the trends in the general marketplace. So probably should have expected it Paid-in-kind or PIK interest, I always mention that, that's the income that you have to accrue for the books and for tax but you don't receive it in cash until much later some times not at all. We call this kind of income, Phantom Income, because the company, that is your company doesn't really receive the cash but has to pay out the noncash income. We have very little of that and that th is very important point because there are other BDCs that have very large portion of their income from noncash sources and that noncash income has to be paid out as a dividend even though the money has not been received. So they must go to the bank and borrow the money in order to pay their dividend. We strive very hard here at the company not to have any paid-in-kind or original issue discount. And I must admit this is a very conservative way to run our business. We'd show a lot more earnings if we would just go into PIK Income.

During the previous quarter ended December , one of our investments had a provision in their small $500,000 loan agreement that gave them the ability to capitalize their monthly interest payment and this company that we took over is just one of the ones that we took over, PIK interest here is about 4,000 a month. There is really no other investments ion the quarter ending March that had a similar provision. We had about $16,000 in capitalized interest. So as you can see, the amount of PIK Income, we refer to this capitalized interest as PIK Income, we have very little of that in our portfolio.

Loan ratings, this is our internal loan rating, quarter remains relatively unchanged. The risk rating system we use for our nonsyndicated loans had an average of 7.5 on our scale of zero to ten versus last quarter it was at 7.1 for the same period last year, quarter. This portfolio is a little less risky, according to our risk rating model and this measures the probability of default. The risk rating we use for unrated syndicated loans had an average of 6.3 up this quarter versus an average of 6.2 for the prior year at March 31st, in ending quarter. As our, we do have some rated syndicated loans, there's not a lot of them. They had an average rating of triple C plus CAA 1 versus a rating of B minus/B-3 for the prior year ending March 31st. So some of our syndication loans were marked down and, again, that's a result of the general market conditions that is out there today. Our risk rating system gives you a probability of default rating on a scale of zero to ten with zero of course representing either default or high probability of default and a ten meaning not likely to default. The risk we say, here in the portfolio is staying relatively low according to the scale. We are quite satisfied with the current portfolio mix of risk and hope it continues along that line.

As mentioned before and as most of you know we sold from our shelf registration an additional 3 million shares of common stock on February 5th, at a price of $17 a share. In February, the underwriters exercised the option to buy another 450,000 shares of common stock at the same price. This yielded us the company approximately $55 million of net proceeds of equity for the company that we can invest. We used it initially to repay the borrowings outstanding on our line of credit and are drawing down that line of credit in order to increase the portfolio. The deals we had in the pipeline that we thought we're going to close when we raised that money haven't come to fruition although, one almost closed in time to report it. I think it will close this week or certainly next week. However, our pipeline as mentioned by Chip before is larger now than it has been at any time and certainly even larger than January when we decided to raise the money. I expect us to have a good quarter this quarter but as always, I must remind you it is hard to judge when these deals are going to close. Chip and his team are working hard as all of us are here at the company to get some good deals in the door and close them and I think it will happen this quarter and next.

Depreciation for this March quarter and last quarter, I expect some of this depreciation will come back through as the market gets better. From our vantage point, the portfolio is still fine but if you use an outside party to set your numbers you have to accept them. We can't somehow say I don't think this is right or that's right, we have to stick with the numbers S&P has put up for us. Let's see how the June quarter turns out this time, I have a feeling that some of the depreciation that's gone through will turn around and come back through as appreciation, so you will see some changes in the June-quarter and certainly by September things should have changed.

Subsequent events, we have added one more bank to our credit line for $50 million, this should help us weather the storm as the market continues to have a lot of illiquidity in it. Those folks from the bank spent a lot of time looking over everything before they made their commitment. That's a passant feeling I guess from shareholders that somebody else is looking at us and saying it is good enough to lend another $50 million to. Since I talked to you last quarter the senior and subordinated debt market place the syndicated loan the large middle market company's had tremendous liquidity problems. For a while the market was actually closed and that is there were no buyers for these loans so it was hard to get quotes from anybody. But now there's some new transactions going on. Some of the old loans are getting sold and marketplace is start to go revise as, revive as you all would expect. As you know we purchased some of these first and second lien loans when the companies issued them. We have about 75 million on our cost basis in senior and second lien syndicated loans. For the senior syndicated loans of about 200 million or larger, rates have changed dramatically, they were 2, 2.5% over LIBOR. Now it seems that they're 400 to 500 basis points over LIBOR or 4 to 5% over LIBOR, because the new loans that are going out are much better rate this causes the old loans to be lowered in market price, but remember if we hold these loans until they mature and they pay off, we will get 100% with no losses. All of these syndicated loans are paying as agreed so we are in pretty good shape today. LIBOR, just to remind you is the London Interbank rate which is recognized as the leader indicator of short-term rates and we tied our loans to that and almost all of the senior syndicated loans that come out are tied to LIBOR. LIBOR normal is in the 5 to 6% range but today it is about 2.7, 2.8%. So money is relatively low cost even when you are adding 4% to it. You are talking about 6 or 7% total cost of money for these mid market companies. So, money is relatively cheap. The difference of course is they're r there are lot a lot of lenders, while money is low cost, there are very few lenders out there making these kind of loans.

The demand for loans in the big capital market place by nonbank lenders like hedge funds and bond funds for rated loans is very low. There's just very few buyers out there in the marketplace today. Somewhere along the way that market place will pick up and change and things will come back but it is going be a while. For our small companies that is these are the loans in a very different part of the market place, these are small markets where we invest a lot of our money, we are seeing some competition but not a lot from some banks. Banks have gotten very strong in terms of their credit criteria. Many banks have tightened their credit standard such that it is very hard to get a loan from them at all. Most banks don't make the kind of loans that we make, that is the longer term loans. We have to compete for our loans with other small private lenders like mezzanine loan funds and a few hedge funds still out there in the small marketplace. We do compete with some of the small business development companies that are out there. Our loan request pipeline is very strong. We see a very strong outlook and it may materialize into more loans for us and we will just have to see what that looks like next quarter. We do concentrate on variable rate loans that won't hurt us when rates increase or decrease. We try to keep everything variable so the spread stays the same and while our rates are variable we often have minimums that we charge such that our interest rate stops at 9 or 10% and doesn't go any lower when Mr. Bernakey and the others at the Federal REserve decide to lower interest rates.

At March 31, 2008 we had three fixed rate loans at a cost basis of about 16.5 million or approximately 4% of the portfolio on a cost basis. We have in place an interest-rate cap to cover any fixed rate loans that this is commonly called a derivative and it keeps us from getting hurt should rates go against us very bad. Capital and rate will protect us I think against any increase but I really don't expect any increase in interest rates during the near-term. We continue to worry about the cost of oil, our economy it is very hard to think of this economy standing up to $120 a barrel costs. I am also reminded that had many Europeans pay twice as much for gasoline and oil that we do because the taxes on their gas and oil over there. They seem to survive and the Euro doing well so maybe I am being too pessimistic when it comes to oil prices but with all the problems in the oil world especially in the Middle East, high oil prices are going to continue to take money out of the pockets of our middle class citizens. They just don't have the money for restaurants or to buy durable or nondurable goods. So there's not a lot of money out there and certainly they're not saving for a rainy day. So it has put a real crimp on the economy.

We are no longer worried about inflation. I think it will be back in maybe '09 and '10 given all of the spending going on but it is not in the cards right now. The amount being spent on the war in Iraq certainly hurts our economy, all of the team here at your company support our troops in Iraq and Afghanistan, they're certainly our true heroes in this period in history. My hats are off and we think highly of anybody that risks their lives for us. We want them all to come home safe but nonetheless the money that we are spending in Iraq and Afghanistan is costing us a great deal in terms of our economy. Worst of course I mention every time, because it's a major problem I see for the next 20 years is the spending of Federal, State and Local Governments. They are in my estimation simply out of control, they don't mind spending our money on virtually anything. All of this excess taxing and excess spending causes a great deal of dislocation in the economy and absolutely kills the dollar in terms of other currencies like the Euro.

Trade deficit with China continues to be one that is very difficult for us. China continue to subsidize their industries to the disadvantages of our businesses and every time we look at an investment we have to ask ourselves what's the possibility that China will come into this market trace place and hurt our local company that we are investing in so we avoid anything that would have a competitive disadvantage with China. The downturn in housing industry is been a disaster for many people that are in home building and home mortgage business. We are in neither and don't have any exposure to that and haven't for years and years. No one knows how many home mortgages will fail but we originally thought it would be about 200 billion we have revised our estimate up to about 400 billion. I still don't think that is enough to cause a downturn that's significant. Sure we will have some problems but it is not case that it is enough to cause a slowdown certainly but not enough to cause a recession.

First quarter did not fall enough to be called a recession at least they may revise the numbers to and get it into that category. But we are all feeling the slowdown in our portfolio companies as well as in all of the businesses that is relook at. Housing problem so the experts say is probably not going to turn around for at least a year. So housing prices continue to fall. If you remember they went up a lot. So it is pretty appropriate they come back down to a price that's more realistic. Also much of the housing trade is out of work, that is the individuals in that but they're not showing up in the Government statistics because many of them were here without visas. I'm not sure we have a good number on the unemployment rate. Many of those people have gone back to Latin America and certainly the money flow from the United States back to Latin America has, is down substantially. I have read some numbers as much as 50% because those people who were wiring money back home obviously don't have the money to wire back anymore.

In spite of the downturn, those negatives that I keep mentioning and the industrial base of the U.S., still is incredibly strong. The small businesses that kept their cost low, they have not gone up on the limb and built their businesses on speculation. Manufacturing is not operating at full capacity. They're just not going out there and taking the risk. So the slow down in the manufacturing side has been not as painful as it was in 2001. The backlog that has come down and their slow on hiring and you can see that in everyone of these companies that we look at, but the recession is not as bad as we all thought it was going to be. I think the quarter ending June, may show the recession but probably not a big amount. Our dividends, we did hold our dividends at $0.14 per month per share for the quarter ending June 30, 2008. So the run rate is still $1.68, we will see how our second half plays out; I think it should turn around pretty strong and hopefully we can spend some time talking at our Board meetings about increasing the dividend.

At this dividend rate and with the stock price closed yesterday at about 1906, the yield on the stock is 8.8%. It is a really solid 8.8 given the strength of the portfolio. The stock came down just like all of the stocks in the financial area did. We will just have to see if we can start pushing hard toi get that stock price back up. I am going to end now but please go to the web site and sign up for the e-mail notification service. We don't send out junk mail. We would like for you to be on our mailing list so you get all of the information that's coming out about the company.

In summary, as far as we can see the outlook is still okay. We can't see more than a couple of quarters out, but we are just being careful and we are stewards of your money. We want to stay the course and continue to be conservative in our investment approach and hope this quarter comes out a lot stronger than last quarter. Jackie, if you will come back now and tell these folks how they can ask question we will open it up for some questions.

(OPERATOR INSTRUCTIONS). Our first question is from Greg Mason of Stifel Nicolaus.

Good morning, gentlemen I have a couple of questions and Troy Ward has a question. First on your origination, clearly the language in the conference call and the press release indicated you guys are disappointed having through four months done about $23 million of originations, what has happened? We have been hearing it is a great time to invest, lots of investment opportunities, what happened to cause you to be disappointed in your originations? Why didn't they come through?

Chip will answer that. He's on the firing line everyday for that.

I think a couple of things happened. First of all timing has changed dramatically. I think number one, a lot of letters of intent that were signed six months ago had to be renegotiated based on the availability of capital both equity and debt. So we had some timing differences and some deals that just fell apart. Now that being said we had a lot of new deals added to the pipeline. Secondly, I think, as we looked at the capital markets and the opportunities, we sort of raised our bar on the kind of returns that we wanted to see, given where our stock was trading and our cost of capital. Some things we looked at as potentially being attractive, six or eight months ago we decided that they weren't nearly as attractive. We would like to add new ones. I am surprised we didn't close more from a backlog standpoint I'm not surprised from the current dislocation of the market. We are seeing a lot of deals getting retraded and renegotiated. It is a great time if you can get them closed but this business to me has always been a yearly business, but we have to report on quarter-by-quarter. A deal as David said, that should of closed before the quarter closes three days later and it doesn't look like it was a good quarter but on the other hand you have a quarter that now is accretive for-- a deal that accretive for the entire quarter. So I think it is partially timing, partially market, but I still feel like it is going be a good time to invest. We just to get some of these deals across the finish line.

Greg, we saw--- This is David Gladstone again. Greg, we saw the some of our good sponsors decided not to go forward in some of their deals. They had priced them at one price and then decided that it wasn't good enough given the current circumstance in the marketplace and given the pricing of the debt, the senior lenders are charging more. We are charging more and it took away from that and some of the sponsors also had their sellers, they couldn't get to the finish line quick enough would walk from the deal because they were feeling that they weren't getting enough for their company. So there has been a mixture if there. We do have a lot of closing in the pipeline and hopeful that we will make you happy in June. We will take the next question. Greg, do you have another one?

Yes, on your credit reimbursement of the incentive fee, can you talk about how that unwinds, what the timing of it is, how do you decide how much you are going to reimburse versus start actually recording that as an expense?

We do this very every quarter and we make this promise every quarter that we are always going to give back enough of the fee to make sure we never have a problem meeting the dividend. So, that said, we give all of the incentive back, fee back right now, because that's what is needed in order to make the dividend. A problem of course in getting out of that circular problem of having to give it back every quarter is the fact that we placed a lot of new shares on the books and those new shares have to be fed with the same amount so that we are paying in dividends has to be paid on each one those. So every time we raise money we make the bar higher in order for us to get to the incentive comp and the only way to do that is to have some very good capital gains down the road of which we have got a couple that we hope happen and also, as you know, we don't record on the P&L or the balance sheet. The PIK Income that we have coming in from our success fees, these success fees are exactly like paid-in-kind income, except that we don't accrue them, we don't have to pay them out until we receive the cash. And there's an excess of $3 million or so sitting there can and continues to buildup. So somewhere along the way these companies will pay off their loans and or the businesses will be sold and will be cashed out at that point in time and those moneys will come in and given the size of those and the projections that should solve the problem. So we are waiting for a turn around in the economy and some sales of these businesses in order to generate enough income to work us out of that problem.

Great, then Troy Ward had one question.

Quickly, David, on FAS 157, this is the first quarter of implementation and of course you are one of the first out with your earnings, in your conversations with S&P can you give us the impression of 157, their interpretation and were you at all surprised with their interpretation.

Actually, our depreciation had nothing to do with 157. As you can imagine, in our company, we have not had a problem with 157 because we don't have the despairty between market and what the internal numbers are coming out simply because Standard & Poor's, an independent third-party is giving us that number and so that number goes into our portfolio. As I understand, the problem in some of the companies and I guess we have all read the article that came out yesterday is that some companies used total enterprise value to value their loans and total enterprise value would be different from a price that might be derived in a market. That despairty is what is probably going to hit a lot of people in the first quarter. Just so you know, Troy, this company was not required to adhere to 157 in the first quarter even though we are adhering to 157 in the first quarter. We didn't have to. We were already there. So as a result, we won't have are, it won't change anything for us. We've had this question several times, is 157 going to change your ways. The answer is no, because we are already adhering to go 157 and have since the inception. You will hear us talk about 157 in the June-quarter for Gladstone Investment gain because we will have to adhere to it for the first time there. That will be the first company that comes up. As you know, many of the companies that have a December 31st year-end are going to report their first quarter and they will be some surprises from some of them.

Great. Thanks for that clarification. Quickly on the credit within the portfolio, we saw several of the investments go from typically from previous quarters maybe a mark of 3 to 4% and we understand the 93% on the whole portfolio is an average and you are going to have some above and below, but it seemed like there was a big grouping in that 12 to 15% mark. Is that, is that just a function of the market and not a, any underlying credit issues?

There is, the credit issues are the same as they were in the last couple of quarters. We still have the same two problems we had before and I can't explain it other than the fact I think that folks at S&P are becoming very, very conservative given their past performance in some of the subprime loan pools and they want to make sure that they hit the mark and quite frankly, they are responding to go a market place that has had very, this quarter ending, the quarter ending March. So from January to March there was a very dramatic change in the senior syndicated loan marketplace in terms of depreciation and pricing that was out there. Virtually no one showed up for a lot of the pricing and enormous number of pools came to marketplace. We probably saw and just guessing off the top of my head now, 4 to $5 billion worth of loan pools that were being liquidated and dumped into the market place, driving prices down pretty strong. While I would love to buy some of those, the overall yield was in the 11 or 12% range and we felt it was unwise to load up on those at that time and they were being sold as pools rather than individual loans and those pools have just been bought and sold in the marketplace and I don't know how much more of that is coming. But there's still a lot of hedge funds that have been taken over by their lenders and their portfolios being liquidated. So we would expect over the next year period a fairly robust amount of loans coming to marketplace and hopefully they'll be some company's be set up to grab those and they're still good loans just being pushed down by the bulk of a number of loans coming to market that don't have enough buyers.

That's great color. Thanks, David.

And Troy, just to mention it, thanks much for all of the write up you did on BDC, we were impressed with the report that you came out with. Next question.

Thank you. Our next question is coming from Henry Coffey Ferris, Baker Watts Inc.

Yes, David, Henry coffee. How are you? I appreciate a lot of the comments. And some of the stuff you clarified. Basically you have been practicing 157 or market-based accounting since the fund started; right?

That's true. In addition to that, we started looking at 157, our auditors pointed to us I want to say two years ago when it was still in draft form. We made commenting on it and have been adhering with 157 every since.

The, your loan yields which are now sort of in the 10% area, does that improve as you put new loans on the books or is that sort of the benchmark cost for your borrowers right now.

In capital it should improve, the deals we are closing are higher than that. Overall you should see an increase although it is incremental you have a portfolio that's very large. So putting another 40 or $50 million on the books at a higher rate is not going to move the needle that much.

What is your incremental borrowing cost?

It was like 5.9%. About 6%. Yes, about 6%.

And in terms of new production for the next couple of quarters, you willing to put a number out there?

Well, I flog Chip everyday on that and he gives me some numbers but aim not willing to put those out to the public. Thank you, though.

Great. Thank you much.

Next question, please, Jackie.

Thank you. Our next question is comes from Vernon Plack of BB&T CApital Markets.

Hey, good morning. Most of my conversions have been answered, just had one regarding the professional fee expense line. I know that number went up four fold compared to last year and was just hoping maybe to get a little more color on that.

Yes. Professional fees the accounting number in that, and counting and legal is in that, the accounting number didn't go up that much. It was not that high. So unless somebody has a different idea I think that most of it came from---

It was from the stock offerings we did.

Okay. Actually in putting to go the stock offerings it went through that number.

Okay.

Every time you raise money these lawyers have to abyme and they charge a lot to abyme, so it costs us a bit to get these things done.

Okay. Thank you.

Thank you. Our next question is coming from John [Stillmar] of FBR Capital Markets.

Good morning, David and gentlemen. Thank you very much for taking my question. I am -- don't mean to beat a dead horse but want to go back to Chip's comments earlier with regard to the closing of the pipeline and his answer to the previous question which sort of talked about a six month lead time. Can you talk about, is that typically about a six month lead time and sort of where we are in the pipeline or where we are in sort of the pipeline for when those deals were originally negotiated and secondly, you talked a little bit about sponsors pulling out, there seems to be a a pretty strong amount of middle market and mezzanine financed money that's out there still today. Are you seeing that money itself is starting to reprice and multiples are starting to change or what are some of the dynamics there we might think of in changes from last quarter?

While, the marketplace is in flux and it has been in flux and it has been in flux for about six months. And quarter ending March was one in which there were lots of changes going on in the marketplace. Number one, the banks had tightened up dramatically. So that's good for us usually except that when the banks tighten up they offer less money and they charge more. We charge more so when a sponsor is looking to purchase something they now have to drop the price pretty significantly, in order to make the numbers work. A lot of the sellers at that point say to themselves well I understand that your cost Mr. Sponsor has gone up and therefore you want to pay me less but I am not willing to sell my business for less and one of the two parties then walks away and deal dies. That does happen and has happened for deals that were priced as far as the June-quarter of last year. We don't see that happening in the new deals that get priced now because everybody already knows this pricing mechanism that's going on. So the deals that we are closing today are mostly newer deals that have been priced according to the current market even though the market for a March ending quarter was substantial change in the market place again. I want to impress upon you that when the down downturn started in June of last year and you saw the quarter ending September it wasn't nearly as bad as everybody thought it was at that time. Come December people had started to see the downturn was bigger than they thought and the realization came very strong in the March-quarter ending '08 and that was sort of the quarter that everybody said to themselves the world has really changed and we need to change the way we look at the world and a lot of ink things were in flex during that period of time. Chip, do you want to add anything to that?

A couple of things. One is you are right, the deals are taking closer to long because of the factor, more moving parts. So the gestation period has gotten longer. The answer to your final question sort of there is a good deal of Mez-money but not nearly the amount of Mez-money there was prior to August of last year. So I think we are seeing clearly 200 plus type basis point increase in pricing and half a turn to a turn less of leverage in the second lien sort of structure. They may expand back as more Mezzanine money comes in. But right now we still that that the pricing and the lower multiples of debt are going to stick with us for a while. We are going to do our best to take advantage of that.

The Mezzanine money out there as Chip mentioned is not a lot. You can understand why, about a year or maybe it has been a year and a half ago, we went to the marketplace trying to set up a private fund that would do coinvestment with our other funds and given the fact it was yield oriented rather than equity oriented that is more a Mez-fund than equity fund. We found almost no takers so Mez-funds weren't raised in last year because they couldn't promise the kind f returns equity funds could and the pension funds and insurance companies that buy those limited partnership interests were not very interested in that type of investing. I don't know that the marketplace has changed any since then but there's certainly a lot less Mezzanine money around than there was three or four years ago.

Wonderful. Thank you guys for that. The last question is as we start thinking about market values of securities and market values consider the illiquidity that certainly not necessarily the credit risk solely and I think that is your point, David.. How do we as analysts or investors think or look at different indices, it looked like you had a, only a single-digit pull back in term of your pricing whereas you sort of move up into you the larger markets. The pricing changes have been a little bit more severe. How do, are you experiencing less of that illiquidity discount or how should we as analysts and investors, what benchmark should we look to to think about the general market pricing that can exist as S&P universally thinks about your portfolio.

I think S&P, I don't know this for sure, S&S&P looking at the general marketplace and coming in pricing our loans based on the general marketplace. The general marketplace dropped dramatically between January and March this year and there's really no indices you can look at. There is the indices for senior syndicated loans but it is like the S&P 500, every time a loan is not doing as well or it is very seasoned they take it out and replace it with another one. The index today is about $0.99 it is called I think index number 10 now that they're working on. If you go back and look at index number five I think it would be lower than the $0.93 on the dollar that we have, but they replace all of the poorly performing loans in the index with better performing loans and anything that gets to a, has paid down some, they take it out as well. So there is a, not an indices you can look at that I know of there. That makes it frustrating for folks like you because you can't anticipate what the folks at S&P might mark our loans to. quite, frankly, neither can we. We were surprised this quarter with the general mark down. I remember the sheet that I looked at in the Board meeting, I think every single loan we had with the exception of one or two was marked down somewhat. Some of them a small amount and some a large. All the way down nothing but red negatives on the valuations this quarter. And obviously our portfolio is not doing bad. We don't have that many problems in the portfolio so you would expect it not to go down much at all. Had we been using our own internal technique probably would have gotten a lot less devaluation than S&P is putting on it. But S&P is reacting to what is going on in the marketplace and the marketplace for senior syndicated loans it has been pretty grizzly. That shadow is cost all of our our loans when they review it. Any other questions?

No. Thank you so much. I appreciate it.

Okay.

Thank you. Our next question is from Kenneth James of Robert W. Baird.

Good morning.

Morning.

Most everything has been covered but I wanted to see if I can get more color on the success fees. You referenced a the $3 million of success fees I am curious maybe how many deals comprises that 3 million. I know you have a $500,000 fee you say you are going to recognize in second quarter. Pretty much all that size, trying to get a feel for the total number of potential deals it would take to unlock them all?

I don't know the average. Most of the loans we have that we negotiate on the small side either have a success fee or some kind of exit fee. So we have money building up. How much it is per loan I haven't done that calculation, let's see if we can maybe post it on our web site for you.

Okay. I am just curious as to what your degree of confidence or expectation is that $3 million would be recognized not even this year but know by the end of FY '09 or is that amount of money that could carry on through even further than that.

Here is the calculus. The calculus that you look at is will the company be sold. The success fees are based on the sponsor selling the business at some point. Right now of course is not the appropriate time to sell a business. You can't get the top dollar for it so many of the sponsors are holding on to their companies and not exiting. But there will be a lot of pressure for them to sell their business because they are limited partnerships and have to return the money at some point in time and it will be a lot of pressure over the next couple of years to sale some of those businesses even if the market place is bad. Every time they sell a business the success fee is due and we get paid just like you had a warrant or some other equity ownership in the company. And I can't predict when that is going to happen. But I know it happens just like clockwork every year, some amount gets sold. So we are counting on that occurring. Do you have any comments on that, Chip? Do you know any?

No, I think if you take all of the syndicated loans out and most of the senior broadcast and radio loans out, most of the other transactions are going to have some level of success or exit fee on them. It is very difficult to figure out who's going to sell a company or refinance their debt and volunteer to repay those exit fees. But they come in when they come in. We love to recognize them but it wouldn't be the right thing to do. So we will when they come in.

Okay. Thanks.

Next question, please.

Thank you. Our next question is coming from Daniel Furtado of Jefferies & Company.

Morning, guys. Nothing earth shattering here I'm just trying to get a handle on the advance rates on the line of credit as well as the spread to LIBOR.

Advance rating meaning.

What percent of investment you can fund is that an unsecure line where you can fund 100% of the investment or like 70% advance rate for senior and 50 for equity or something along those lines.

Yes, its-- . It is our line of credit with the bank and how much we can draw down is usually based on 50% loan to value. So, if we put a loan in there for $1 million we should be able to borrow $0.5 million. If you remember our problem in our industry is that we can't leverage more than 1 to 1 if you way. So, we set our bank loan up that way. We are in the final stages of negotiating our closing this month with the folks folks Deutsche Bank and th other banks that are part of it so you should see an announcement in the not to distance future with regard to that the line has been renewed.

Okay. And the spread to LIBOR has that changed from previously?

Oh yes. The spread to LIBOR is going to go from about 1.2 to about 2.5.

Okay. Perfect. Thank you very much, David.

Okay. Next question.

Thank you. (OPERATOR INSTRUCTIONS).

No other questions?

Thank you, Mr. Gladstone. We did have another question coming from Greg Mason of Stifel Nicolaus.

One final question here, on your interest rate sensitivity analysis that you provide in your Q, is that based on a 1% change on the 3.6% average LIBOR during quarter or at the 2.7% rate at the end of the quarter? The reason why I am asking is has the change from LIBOR from your average rate of 3.6 down to the current rate 2.7, 2.8 has that impacted your portfolio margins at all?

Yes. In answer to your first question, it's based on the average LIBOR during the quarter. And for your second question, based on the size of our portfolio, the sensitivity hasn't changed substantially.

And Greg, just to you know, we have floors on many of your loans so they stop at anywhere from 9.5 to 10%. They get hung up at a higher rate even though we are paying less on your line of credit. So the spread is positive for us.

Okay. And when you say they're locked in at 9%, what does that imply for a LIBOR rate lock in.

Well, think about it this way. If we might be charging on a second lien loan LIBOR plus 7, and obviously at LIBOR plus 7 that's 9% today with LIBOR assuming LIBOR was around 2, not 2 but about 2.7. The minute is the point it drops below the floor of 10%, they still have to pay 10% because that's the minimum they have to pay. And while our rate is locked into LIBOR, say 2.5% over LIBOR, we continue to move down in our cost of funds. Am I explaining it correctly or missing something?

No, that makes sense. All right. Thanks, guys.

Any other questions.

Thank you, Mr. Gladstone. There are no further questions at this time.

All right. Thank you all again and I hope to see you in, well the end of June. Thanks again.

Ladies and gentlemen th does conclude the teleconference. You may disconnect your lines at this time. Thank you for your participation.