Gladstone Capital Corp (GLAD) 2010 Q4 法說會逐字稿

Good morning and welcome to the Gladstone Capital Corporation's fourth quarter and year ending September 30, 2010, shareholders conference call. (Operator Instructions). Please note this event is being recorded.

I would now like to turn the conference over to Mr. David Gladstone. Sir, please go ahead.

Alright. Thank you for that introduction, and hello and good morning to all of you out there. This is the quarterly conference call for shareholders and analysts for Gladstone Capital, NASDAQ trading symbol GLAD. Again, thank you all for calling in. We love these times we have together, and we are so happy to talk to shareholders about the Company. I wish we could do it monthly, but quarterly is probably enough.

We hope all of you will take the opportunity to visit our website, www.gladstonecapital.com, where you can sign up for e-mails notices, and you can receive current information about us in a timely fashion. We promise not to seeing you out junkie emails and just send you out stuff about our Company.

Please remember that if you are in the Washington DC area and you have a little time to spare, you can come by here in McLean, Virginia, a suburb and come by and say hello to all of us here. You will see some of the finest people in the business.

Now let me read the statement about forward-looking statements. This companies call may include statements that may constitute forward-looking statements within the meaning of the Securities Act of 1933 and the Securities 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 our 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 are expressed, implied by these forward-looking statements, including those factors listed under the caption, Risk Factors in our 10-K and 10-Q filings and our prospectuses as filed with the Securities and Exchange Commission, and those can be found on our website at www.gladstonecapital.com and also on the SEC website. The Company undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

Before we start, I want to thank those of you who called in or e-mailed in to tell us we had a typo in the press release. We did not put in one of the numbers under other expenses. The total actually added up; it just had a zero in other expenses, and that number was left out. It was a dash mark, a 0, when in reality it should have been about $361,000. Again, the totals were correct and all the rest of it seems to be correct, but that was our mistake.

We did issue another press release last night and putting it out -- something out this morning as well. Sorry to confuse you. If you were loading your model up last night and found that, we appreciate you calling us and letting us know that it slipped through all of our network of reviewing the press release.

We will start the discussion with our President, Chip Stelljes. Chip is the Chief Investment Officer for all of the Gladstone companies, as well as the President of This company, and he will get us started. Chip?

Thanks, David, and good morning. We are still finding the economic and small business lending climate to be difficult, but it is getting better. We are seeing some new invest opportunities and have a number of proposals out to companies we hope to be telling you about more new investment soon.

We closed one new investment during the quarter ended September 30 of $10 million. In addition, we funded $4 million to an existing portfolio of companies in the form of additional investments or draws on their revolver facilities.

During the same quarter, we receive free payments of approximately $26 million as a result of loan sales, payoffs, normal amortization and pay down of revolvers, including two payoffs of $14 million in total. So, in total, we have a net decrease of our portfolio of about $12 million for the quarter, and we used the net proceeds to pay down our line of credit.

Since the end of the quarter, we closed three new investments totaling $7 million and made about $1.4 million in additional investments in existing portfolio of companies. Additionally, after the end of the quarter, we received $1.8 million in additional repayments. So currently the amount we owe on our line of credit is $19.6 million.

We continue to see new opportunities. We have availability on the line of credit and are actively seeking to make new investments.

We also continue to explore ways to increase the yield on our existing investment portfolio by refinancing lower yielding senior loans with third-party lenders while trying to maintain our higher-yielding junior debt.

At the end of September quarter, our investment portfolio was valued at approximately $257 million versus a cost basis of $298 million, so approximately 86% of costs. At the end of the quarter, we had loans with six companies on non-accrual and a number of companies that are still experiencing problems that might prevent them from making their payments in the future. We have taken operating control of several of these companies and are working hard to fix the problems and improve profitability.

On a dollar basis, these loans classified as non-accruing have a cost basis of $29.9 million or about 10% of the cost basis of all loans in the portfolio. From a fair value perspective, the non-accruals fair value represents 3.4% of the fair value basis of all loans.

We continue to have a high concentration of variable rate loans so that we should participate if interest rates begin to increase, and while our rates are variable, they typically have a minimum interest rate or a floor so that declining interest rates are mitigated. Approximately 82% of the loans have floors; however, 8% do not have floors, and with short-term floating rates at all-time lows, we are generating less income. The remaining 10% of our loans have fixed rates.

One measure of the quality of our assets is our average loan rating for the quarter that just ended. Our risk rating system attempts to measure the probability of default for the portfolio by using a 0 to 10 scale. Zero represents a high probability of default and 10 represents a low probability. Our risk rating system for our non-syndicated loans showed an average rating of 6.1 at September 30, 2010, compared to 7.1 at September 30, 2009. The average risk rating for unrated syndicated loans was 7.0 at September 30, 2010, which was unchanged from September 30, 2009. Our rated syndicated loan had an average rating of B2 at September 30, 2010, compared to CCC+ or Caa1 at September 30, 2009.

In addition to the quality of assets, the quality of the income continues to be good. We do not intend to generate substantial income from paid in kind, original issue discount structures as we've discussed in the past. These generate non-cash income for us, which has to be accrued for book and tax, but is not received until much later, and as we all know, sometimes not at all. This income is subject to our 90% payoff requirement, so the Company does not receive the cash but has to pay off the income.

As for the marketplace, the senior and second lien debt marketplace for larger minimal market companies continues to improve. At September 30 we had a cost basis of approximately $18.3 million in senior and second-lien syndicated loans. The marketplace for loans to companies at the lower end of the middle-market in which we invest most of our capital is seeing more competition. Most banks continue a policy of tightened credit standards, especially for companies at the lower end of the middle-market. Currently most banks are making asset-based loans so that we are seeing an increase in non-bank lending. Net of all of these conditions we still feel we have market opportunity.

Our loan request pipeline is still full, and we should be able to show you some good investments over the next six months. Our goal, again, is to be a strong, profitable company rather than the largest company.

And with that, I will turn it back over to David.

Okay. Thank you, Chip. That is a good report. Now let's turn to the financials, and for that we will hear from Gresford Gray, our Chief Financial Officer. Gresford?

Thanks, David. Before I go through the financials, I would like to highlight a few key points for the quarter. First, as of September 30, we had investments in 39 companies, which decreased from 40 as of June 30. During the quarter we had one new investment and exited from two investments.

Second, on the statement of operations, we reclassified success fees from interest income to other income and updated the prior period amounts for comparisons purposes.

Third, at the time of this call, we have about $19.6 million borrowed on our line of credit, so the availability on the line gives us the ability and flexibility to deploy more capital for the right opportunities.

And fourth, yesterday on November 22, we amended our credit facility, and as of that amendment date, advances under the credit facility bear interest at LIBOR subject to a minimum rate of 1.5%, plus 3.75% per year with a commitment fee of 0.5% per year on undrawn amounts when the facility is drawn more than 50% and 1% per year on undrawn amounts when the facility is drawn less than 50%.

In addition, we are no longer obligated to pay an annual minimum earnings shortfall fee to the committed lenders, and as of the amendment date, the Company paid $655,000 in fees.

Now for the details, I will start with the balance sheet. As of September 30, we had about $271 million in assets, consisting of $257 million in investments at fair value and $14 million in cash and other assets. We borrowed about $17 million cost basis on our line of credit and had about $249 million in net assets. As such, we are less than 1 to 1 leverage, and this continues to be a very conservative balance sheet for finance companies like ours, which are -- as compared to others, which are leveraged much higher. We believe that our overall risk profile is very low.

In regards to the income statement, for the September quarter, net investment income was $4.4 million versus $4.2 million for the same quarter last year, an increase of about 5%. That increase was primarily due to higher transaction fees paid by portfolio companies, which are credited against our base management fees. We are continuing to look for new investment opportunities with pricing and structures that are attractive, especially with the capital on our line of credit.

On a per-share basis, net investment income for the quarter was at $0.21 per share as compared to $0.20 for the same quarter last year. This was a per-share increase of about 5%, which, again, was caused by the changes in our balance sheet.

Let's turn to realized and unrealized gains and losses. First, realized gains and losses come from actual sales or disposals of investments. Unrealized appreciation and depreciation come from our requirement to mark our investments to fair value on our balance sheet. But the change in fair value from one period to the next is getting recognized in our statement of operations. Unrealized appreciation and depreciation is a non-cash event.

For the quarter ended September 30, we had no realized losses, but had unrealized depreciation of $1.2 million over our entire portfolio, primarily from our control investment.

As of September 30, our entire portfolio was fair valued at 86% of cost, and the cumulative unrealized depreciation of our investments does not have an impact on our current ability to pay distributions to stockholders. However, it may be an indication of future realized losses, which could ultimately reduce our income available for distribution.

During the quarter we had another component of unrealized depreciation, which related to our credit facility, and for the quarter ended September 30, 2010, we recorded an unrealized depreciation of $0.6 million based on estimates of value provided by an independent third party.

Now let's turn to net increase or decrease in net assets resulting from operations. Please note that we are talking about weighted average fully diluted common shares when we use per-share numbers.

For the September quarter, we had net increase in net assets resulting from operations of $3.8 million versus a net increase of $3.4 million in the prior year period. This was $0.18 per share for the current quarter versus $0.16 per share for the prior year quarter. With the continued uncertainty in the current economy and credit markets, investors should expect continued volatility in the aggregate value of the portfolio.

And now I will turn it back over to David.

All right. Thank you, Gresford. For more details on our financials, all the listeners please should read our press release and also obtain a copy of our annual report called the 10-K, which we filed with the SEC yesterday. You can access the press release and the 10-Ks on our website, www.gladstonecapital.com and also on the SEC's website, www.SEC.gov.

I think the big news this quarter continues to be that we are now away from the destructive action of the recession, and we are actively looking for new investments, starting to get a lot more letters out, and we now feel confident enough to put some new investments on the books and build our income so that we can look forward to increasing our dividend somewhere down the road.

We have plenty of room on our line of credit to make new loans, and with these three lenders that we have that are supporting us, we feel very confident that they are behind us in terms of the line of credit.

Also, we continue to make progress with our existing portfolio of companies as they continue to work their way out of the difficult recession. Some of them are exploding in terms of growth and others are just stomping along and making good progress but at a slower pace.

I want everyone to know that this is probably the most optimistic I have been about the Company in the past two years. Our goal for this fiscal year will be -- and this is the one that is ending September 30, 2011 -- is to have a good increase in the income and hopefully some dividend increase. That is our goal for this year.

Even though we have a nice line of credit today, that line is, of course, short-term, and we eventually need to change that short-term borrowing into long-term credit. To do that, we are talking to a number of credit providers, and I think in the next six months or a year they could provide us with some long-term debt.

Our portfolio of companies, we worry that they will not be able to get lines of credit as well. They seem to be doing okay with lines of credit, but the term loans that they need, there is a fair number of regional banks out there that make revolving lines of credit. But primarily these are based on asset, and these asset-based lenders are certainly more plentiful than they were last year. But we hope somewhere along the way that we can get long-term debt for both our portfolio of companies and for ourselves.

The banks are still just making short-term loans, and while that is not very good for our portfolio of companies, it does give us an opportunity to lend long-term to some of these small businesses. You know, I believe the next six months, certainly a year, things will change, and more long-term credit will be available to our Company, as well as our portfolio of companies. But we still just have to wait and see when that time period is going to come.

We still have a lot of things to worry about in the general economy. Certainly oil prices continue to pick up a little bit, and as the economy recovers, oil prices will probably go up. We are watching the metal prices like copper and others, they just continue to go up, and certainly the food commodities are at very high levels now.

We are worried about inflation. The decision by lawmakers in Washington DC to borrow and spend just will continue to put pressure on everyone, and you will see inflation come along as a result of that.

Our federal government continues to spend, and it is off the charts. We can only hope that the new Congress that has come in will slow things down. This thing that is going on called quantitative easing from the Federal Reserve is really nothing more than the government printing more money and spending it in the hopes of jarring the economy back to some kind of spending level.

We do note that the states are a little bit less to spend these days because they don't have as much money, but spending from the federal level continues to go forward. None of this seems to be helping small businesses, and that is really a shame because the small business area is where about 80% of the new jobs are created.

The amount of money being spent on the wars in Iraq and Afghanistan certainly hurt our economy as we continue to pour money into those places, and all of us, including everyone here at the Company, supports our troops. They are the true heroes of this period in history, and they risk their lives for us, and as a result, we should treat them with great honor.

All this spending means more taxes probably from this Congress and certainly this administration, and I just don't see how people can pay more taxes. It will just cause the economy to get much slower.

The trade deficit with China continues to worry us. It is just terrible. China continue to subsidize their industries and their businesses to the disadvantage of our businesses. Their subsidies on oil prices are significantly higher than they have been in the past. This means our companies cannot compete with them, and certainly jobs then leave the United States and go to Asia. The downturn in the housing industry and the related disaster in home mortgage defaults continues to hurt our economy. I just don't know how many more home mortgages will ultimately fail, but there are estimates that put that number in the trillions of dollars.

Despite all the negatives, the industrial base of the US is not a disaster. The recession has had its impact on small businesses, as well as our portfolio companies, but thank goodness it has not been a disaster. We are seeing improvement in many of our companies, and we think the last quarter of 2010 will see much more progress.

We believe the downturn that began in 2008 will continue for the rest of 2010 and into 2011. However, I do believe that the economy is on an upswing that it's not going to get any worse. And if that is true and it is on an upswing, we can take advantage of it, and we will have a great time over the next two to for years to make loans and investments.

We are not considering issuing any common stock at this point in time in this Company because the stock price is still too low. But I expect the stock price to increase over the next year and because of all the investment activities that we are planning to do.

Our dividend was declared at $0.07 a share for the month of October, November and December. The distribution rate for October dividend with a stock price at about $11.33 at the close of yesterday gives us a yield of about 7.4%. Please go to our website, www.gladstonecapital.com, and sign up for our e-mails notifications. We don't send out junk mail, just good information about your Company.

In summary, as far as I can see, the economic conditions are improving. They are getting better each day. We think the economy has certainly reached bottom, and it's beginning to gain some strength. We just don't know how fast it will recover. It looks like it's going to be a very slow and high unemployment kind of recovery over the next two quarters, maybe three quarters.

Please remember that we are stewards of your money. We will stay the course and continue to be conservative in our investment approach. This next year should be much better. The year ending September 30, 2011, should be a good year for us, and I'm really looking forward to that.

And with that, I'm going to stop here and open up the lines for analysts and shareholders who want to ask some questions.

(Operator Instructions). Troy Ward, Stifel Nicolaus.

Just a couple of quick questions on some portfolio movements maybe we can expect in the fourth quarter. Looking through the portfolio, it looks like there is $8 million to $10 million worth of cost value of loans that probably have matured at this point today. Can you just talk on whether or not those have been repaid and how that may impact portfolio growth for the December quarter?

Chip, why don't you take that.

Yes, we have a number of maturities that are coming up. We are in discussions with companies about renewing the facilities. I would say we are not seeing a wave of refinancing coming at us. A number of these are good companies that are performing well, and so we are interested in sticking with those credits. But we are certainly not -- I'm certainly not forecasting the wave of repayment that we saw through the quarter ended September 30. I think most of those will be extended and hopefully on better terms than we had originally.

And specifically on the precision investment, which matured in October, do you anticipate that will stay on the books for the -- you are going to redo that one?

Yes, so we expect that one is we have negotiated an agreement with them and are in the process of documenting that now.

That is great. On the liability side, what are you seeing, David, from the CLO market? I know we saw another CLO get done earlier this year that had focused more on senior assets because that is kind of what is available from the CLO structure right now, which seems to fit your business model maybe even more than some other BDCs. How do you look at the liability side of the balance sheet beyond the credit facility?

Yes, we have not explored it to a high degree. Most of those CLOs that we have seen going out have been very special CLOs. They have not been anything close to what we do. I think the one that you may be referring to was very similar to us, and they went through a lot of pain and suffering to get that done. I don't think the market place has come back the way it was two years ago. But I don't rule it out. I think in the next year you may see a lot more traction in that marketplace. And if there is, we certainly will take a look at that and see if we can offload some of our loans to a cheaper borrowing base through a CLO.

Okay. And then finally, just a couple of quick questions on the credit facility. Are there any limitations to your credit facility regarding borrowing base or such, or today do you have full access to that facility?

Gresford, do you want to talk about that?

Yes, we have full access to the credit facility based on our borrowing base, so there are no limitations right now.

Okay. And then one final one. What about the fees? Did you pay any upfront fees on this facility that will be amortized over the life of the facility, and if so, how much was that?

No, we paid -- the $665,000 that we paid in fees that just represented one-time fees that will not be amortized.

Those had already been accrued, and so that was not -- that was already in the P&L and unpaid. So when we changed our line of credit, we paid what we had accrued. So you already had those in your historical numbers.

You will not be accruing any new ones on the new facility?

No, that is correct.

That is correct.

Vernon Plack, BB&T Capital Markets.

Gresford, just a few other quick questions. Were there any nonrecurring expenses during the quarter?

No, the most recent that I can think of would be the compensation expense that we recorded a couple of quarters ago for $235,000. But, during this quarter, we did not have any nonrecurring expenses like that.

Okay. And just a point of clarification, once you borrow more than 50% or $63.5 million, your unused fee on the total amount drops to 0.5%? Is that correct?

That is correct. If it is under 50% drawn, it is 1%.

(Operator Instructions). Mr. Gladstone, I am showing no questions in the queue at this time.

All right. Thank you all for calling in. We certainly appreciate it, and again, we will see you next quarter. That is the end of this call.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.