Horizon Technology Finance Corp (HRZN) 2012 Q3 法說會逐字稿

Good morning and welcome to Horizon Technology Finance's third-quarter 2012 conference call. Today's call is being recorded. All lines have been placed on mute. We will conduct a question-and-answer session after the opening remarks.

I would now like to turn the call over to Nick Rust of The IGB Group for introductions and the reading of the Safe Harbor statement. Please go ahead, sir.

Thank you and welcome to Horizon Technology Finance third-quarter 2012 conference call. Representing the Company today are Rob Pomeroy, Chairman and Chief Executive Officer; Gerry Michaud, President; and Chris Mathieu, Chief Financial Officer.

Before we begin I would like to point out the Q3 press release is available on the Company's website at www.HorizonTechnologyFinanceCorp.com.Now I will read the following Safe Harbor statement.

During this conference call Horizon Technology Finance will make certain forward-looking statements, including statements with regards to the future performance of the Company. Words such as the believes, expects, anticipates, intends, or similar expressions are used to identify forward-looking statements. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions.

Certain factors could cause actual results to differ on a material basis from those projected in these forward-looking statements and some of these factors are detailed in the risk factor discussion in the Company's filings with the Securities and Exchange Commission, including the Company's Form 10-K for the year ended December 31, 2011. The Company undertakes no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

At this time I would like to turn the call over to Rob Pomeroy.

Good morning and thank you all for joining us. Before beginning my formal comments today I want to acknowledge the tremendous destruction and dislocation caused by Superstorm Sandy to those in the hard-hit areas of New Jersey, New York, and the rest of the East Coast. We know how hard this can be on families and businesses with the loss of life and property, and our thoughts and prayers go out to all of you as you recover from this tragedy.

I would also like to recognize the power of democracy as we see the results of the elections held yesterday. Whether or not your candidates won, the high level of participation is encouraging. Now the newly elected or reelected officials must take up the hard work of actually governing. We wish them well and challenge them to move the country forward.

During today's call I will discuss our third-quarter and year-to-date progress. Gerry will then provide a market overview. After that Chris will review our financial results as well as our investment portfolio.

Chris, Gerry, and I will then be happy to take your questions.

Horizon's business is sound, profitable, and growing. On last quarter's earnings call I spoke of the important drivers which are fundamental for all VDCs. Deploying capital by directly originating new loans, maintaining strong credit discipline and quality, earning a good yield on investments, using leverage to improve return to shareholders, prudently raising new debt and equity capital to support the business, and paying dividends.

By consistently focusing on these drivers we have built a solid specialty finance business. Our focus on these drivers is reflected in our third-quarter results.

We funded gross new loans of $48.5 million and grew our portfolio by $25 million. We maintained a credit rating of 3.2 with 93% of our loans performing at or above our expectations. We earned a portfolio yield of 13.6% for the quarter and 13.9% year-to-date.

We increased our leverage capacity with a new $75 million credit facility and increased our overall debt-to-equity ratio to 0.5 to 1. We sold 1.9 million common shares with net proceeds of $29.5 million in July, and we declared a dividend of $0.45 per share, which is our eighth dividend overall, totaling $3.20 per share since going public.

Last quarter I also spoke about the issues that impact our quarterly results as we execute on these main drivers. The timing of new loan fundings impacts that quarter's earnings. New loan fundings typically occur late in a quarter, as they did again this quarter. Accordingly, when we are growing our portfolio, models that use simple averages for our outstanding portfolio balance will overestimate our income for such quarters.

In addition, the number, dollar, and timing of prepayments in any quarter are neither predictable nor consistent, but are a fundamental part of the venture lending business and can have a material impact on net investment income. In the first quarter when we earn $0.44 per share we had a high level of prepayments. In our third quarter, where we had nominal prepayments, we earned NII of $0.33 per share.

Looking at NII and prepayments over several quarters may provide a better basis for the impact of prepayments on NII, which one might expect on an annual basis. For the first three quarters of 2012 we earned NII of $1.06 per share for an average of $0.35 per share per quarter.

While we are pleased with our third-quarter results and the progress we have made during the quarter, there remains much hard work to do going forward. We are cautious about the future and in particular we are paying close attention to the following.

In October, one of our portfolio companies, Satcon Technology, filed for protection under Chapter 11 of the bankruptcy code. Our secured loan to Satcon, which was originated in June of 2010, has a remaining principal balance of approximately $5.3 million. While it is early in the bankruptcy process, we believe that there are assets supporting our loan that will mitigate any potential loss.

As we continue to monitor developments we have placed this loan on nonaccrual status as of the fourth quarter. We currently estimate that the impact of the nonaccrual on our net investment income in the fourth quarter is approximately $0.025 per share.

More broadly, the clean tech industry is experiencing challenges as a result of several issues including global reduction in government subsidies for renewable energy, predatory practices by Chinese manufacturers, the bankruptcy of high profile companies backed by the US federal government, and the uncertain future support of government and the private sector for clean tech. We have turned a very cautious on new investment in clean tech, as have some of the venture capitalists that were leaders in clean tech investing.

We are also concerned by the uncertainty of the US and European economies as we look toward 2013. Changes as a result of yesterday's election, the fiscal cliff, continued EU concerns, and changing taxation profiles will all have an impact on the macroeconomic environment we operate in.

We are experiencing strong interests on our venture loan solutions, but we are finding that each new opportunity is competitive with borrowers negotiating hard for the best terms available. We have seen a shift to lower coupons on some of our new loans, offset by more frequent and higher final payments.

Yields on new transactions have been consistent over the past six quarters. Our portfolio yield, however, is being negatively impacted by the runoff and prepayment of 2009 and 2010 transactions that were written at higher yields during the financial crisis.

Before turning the call over to Gerry I would like to speak briefly to our dividend strategy. In the second quarter of 2011 we earned over $5 million in realized warrant gains equating to $0.91 per share. We made the decision in August 2011 to distribute that gain to our shareholders over time by augmenting our core quarterly dividend.

Our core dividend strategy remains to pay out dividends that are covered by our net investment income, to be augmented with actual net realized gains as appropriate. After payment of the current dividend on November 30 we will have $0.23 per share remaining in undistributed net income.

So I will conclude as I began, our business is sound, profitable, and growing. We look forward to 2013 and beyond, facing opportunities and challenges with an experienced and successful team. Gerry?

Thanks, Rob, and good morning, everyone. Our third-quarter investment activity showed that demand for our venture loan products remained relatively strong in what is traditionally our slowest seasonal quarter each year. We funded $48.5 million in new loans in the third quarter of 2012 compared to $7 million in the third quarter of 2011.

We were also pleased with the continued diversity of our funded transactions in the third quarter. We funded four transactions totaling $16.5 million in the technology market, five transactions totaling $9 million in the life science market, one transaction totaling $7 million in the clean tech market, and two transactions totaling $16 million in the healthcare information and services market.

Portfolio diversification has been a hallmark of the Horizon portfolio since our inception, an important risk mitigant which is reflected in our favorable loan-loss track record. In addition to the favorable diversification of our quarterly funding by market, I would also point out the following marketing activity achievements for the quarter.

We funded a total of $48.5 million in 12 transactions during the third quarter, which represented our fourth consecutive quarter of increased gross fundings. We added four new companies to our portfolio which increased the total number of companies in which we hold warrants to 58. We increased the amount of our investment and warrant positions in eight of our existing portfolio companies.

In the third quarter we made six new loan commitments in the amount of $41.3 million. We grew our portfolio by 12.9% in the third quarter from $197 million at the end of the second quarter to $221 million at the end of the third quarter. As of September 30, 2012, our approvals and committed backlog stood at $32.8 million to 10 companies.

Although there can be no assurance that transactions early in evaluation will result in commitments, our pipeline remains robust with over $240 million in new opportunities being evaluated. The primary contributors to the increase in our pipeline activity include the addition of two people to the team of experienced and productive managing directors and the increase in number and average size of deal opportunities from our core markets of technology and life science.

Additionally, subsequent to our investment portfolio update press release provided on October 1, we have been awarded 13 new transactions totaling $97.6 million. We have approved three new transactions totaling $20.5 million and funded two transactions totaling $11.1 million from our committed backlog. After considering the fourth-quarter activity, today our approvals and committed backlog totals $42.2 million to 12 companies.

As mentioned in our past investor calls, there is no guarantee that all of the new transactions we will eventually fund as many are subject to credit approval and/or are structured transactions subject to borrowers meeting specific milestones. However, we are pleased with the continued demand for our venture loan products during the fourth quarter.

With respect to our view of the state of our markets, we noticed a significant softening of investment activity across all markets during the third quarter. Total venture capital investment of approximately $7 billion during the third quarter was down 19% from $8.3 billion of investment during the second quarter and down 42% from more than $10 billion of investment in the third quarter of 2011. Even though at the same time US venture capital fundraising is on track to have its best year in the last three years and top $20 billion in 2012.

We believe that VC funds were looking at the same dataset we were looking at in the third quarter and we are concerned about near-term macro issues such as the US and European economies, the uncertainty of the US election, and upcoming fiscal cliff negotiations, as well as the micro issues related to the clean tech sector. In addition, the life science industry needs more favorable FDA clinical trial guidance to shorten time-to-market issues.

We believe all of these factors have resulted in VCs taking a cautious and pragmatic approach to individual investment opportunities. Notwithstanding these issues and concerns, we believe that as more capital flows in some VC funds VC investment will be relatively strong in 2013 as some of the macro issues begin to clarify and venture capitalists look to invest capital from their newly raised funds.

The total value of M&A transactions was relatively flat in the third quarter at $12.1 billion compared to $12.6 billion in the second quarter, and was down about 10% from the third quarter of a year ago. M&A valuations in the third quarter continued at a slight upward trend averaging $132 million per transaction, which was up from approximately $120 million in the second quarter of 2012 and $103 million in the third quarter of 2011.

Typically IPO activity in the third calendar quarter is generally slow, which was again shown in 2012 as only 10 IPOs were completed in the third quarter with a total of $807 million raised. The total amount raised, however, does compare favorably to the same period in 2011 when 11 IPOs raised only $505 million.

On the competitive market front, we continue to see active participation in the market from a number of competitors who, like Horizon, have been able to raise capital in 2012 and are seeking to deploy their capital. Overall, pricing has held up fairly well with some pressure on interest rate coupons being offset by increasing end-of-term payments.

Although we remain cautiously optimistic about our ability to continue to generate solid investment opportunities by providing value-added loan products at attractive pricing, we will be watching the market carefully in the fourth quarter for signs of downward pressure on pricing or overly aggressive loan structuring due to competitors striving to meet their annual funding goals. We believe we already have a solid backlog of awarded and committed transactions with favorable pricing and structuring characteristics which will allow us to be selective as we continue our marketing activities in the fourth quarter.

With that I turn the call over to Chris Mathieu, our Chief Financial Officer.

Thanks, Gerry, I would like to turn your attention now to the Horizon financial performance for the quarter. Our consolidated financial results for the three and nine months ended September 30 have been presented in our earnings release distributed after the market closed yesterday, and we also filed our Form 10-Q with the SEC last night.

Total investment income for the third quarter of 2012 was $6.6 million compared to $6.4 million for the third quarter of last year. This increase was primarily due to the increased average size of our loan portfolio. Substantially, all of the $6.6 million in investment income for the quarter was earned from interest income from our loan portfolio. The total investment income also included approximately $200,000 of fees associated with prepayment fees from one of our portfolio companies and other loan amendment fees.

For the nine months ended September 30, total investment income increased 4.8% to $18.7 million as compared to $17.9 million in the prior-year period. Total investment income for the first nine months of 2012 of $18.7 million consisted of $17.8 million in interest income from investments and also $900,000 primarily from prepayment fees from one portfolio company in the third quarter and four portfolio companies during the first quarter of the year.

We believe loan prepayments are a natural and healthy part of our portfolio lifecycle. Our weighted average portfolio yield was 13.6% for the third quarter compared to 12.9% for the second quarter and 14.2% for the third quarter of last year. Our weighted average portfolio yield for the nine-month period ended September 30, 2012, was 13.9% and 14.6% for last year.

The Company's total expenses were $3.7 million for the third quarter as compared to $3.4 million for the third quarter of last year. Total expenses for each period consisted of interest expense, management fees, incentives, and administrative fees, and to a lesser extent professional fees and G&A expense. Interest expense increased quarter over quarter due to increased usage of the Company's credit facility with Wells Fargo, the closing of a new loan facility with Fortress Credit, and the issuance of senior unsecured notes, partially offset by continued use of our WestLB facility that is still being paid down.

On a going forward basis we estimate our average interest rate at 6.25% which takes into account our credit facilities with Wells Fargo, Fortress, and our publicly-traded senior unsecured notes. Although actual usage will vary, we project that the credit facilities can be used equally over their remaining terms.

In addition to the interest rate on our borrowings, we also have the effect of debt issue costs that continue to be amortized over the term of the credit facilities.

Performance-based incentive fees also increased year over year primarily due to the reversal of an accrual for the incentive fee related to realize gains that we earned in the third quarter of 2011. There was no such reversal recorded in Q3 of 2012.

The Company earned net investment income of $3 million, or $0.33 per share, for the quarter as compared to $3 million, or $0.39 per share, in the prior-year quarter. During the third quarter of 2012 we completed a public offering of 1.9 million shares of common stock, which raised gross proceeds of about $31 million and also increased the average number of shares outstanding for the quarter. For the nine months ended September 30 net investment income was $8.6 million, or $1.06 per share, as compared to $7.2 million, or $0.95 per share, in the prior-year period.

We did not realize any warrant gains in the third quarter of 2012, but we continue to believe that there is a growth in the investment portfolio which includes warrant positions in 58 companies as of September 30 and that these provide potential for realizing meaningful gains in the future.

In this third quarter the net unrealized appreciation on investments was $700,000 compared to unrealized depreciation of approximately $200,000 for the three months ended September 30, 2011. For both periods these amounts are the result of changes in the net fair value of our debt and warrant investments.

Our overall asset quality of the portfolio remains strong. Our three and four rated credits represented approximately 93% of the total fair value of the loan portfolio at the end of the quarter, while our two rated credits increased slightly to 7% at September 30.

As of September 30, 2012, our net asset value was $16.41 per share, or $156.9 million. For the three months ended September 30 we increased net assets from operations by $3.6 million, or $0.40 per share. For the nine-month period ended September 30 we increased net assets from operations by $8.4 million, or $1.03 per share.

We began the quarter with investment portfolio balance of $196 million. Our third-quarter new loan volume totaled $49 million with $12 million of that coming from refinance balances within existing portfolio companies. We also recorded $11 million in normal contractual loan payments and $1.5 million in loan prepayments, leading to an ending investment balance of $221 million as of September 30.

Our investment portfolio as of September 30 included 44 secured loans with an aggregate fair value of $212 million and 58 warrant positions with an aggregate fair value of $5.8 million. Horizon ended the third quarter with approximately $86 million in available liquidity, including cash of approximately $6 million and $80 million in funds available under existing credit facility commitments.

Our low level of cash reflects our focus on maintaining a low level of non-earning assets, which we achieved in the third quarter by utilizing the proceeds from our July equity offering to repay most out of the then outstanding debt under our Wells facility and then reborrowing under the facility as needed to fund new investments in the quarter. As of September 30 our Wells facility, with a current commitment of $75 million, had $23.7 million outstanding and our WestLB facility had $9.6 million outstanding.

In August, we completed a new credit facility of $75 million with Fortress Credit. This facility, which complements our existing facilities, has up to a five-year term, includes a draw period of up to four years, the amounts borrowed bear interest at LIBOR plus 6% with a LIBOR floor of 1%. This facility is unique in that it provides a 2-to-1 advance rate on eligible loans.

As of September 30 the facility had an outstanding balance of $10 million. As of September 30 we were leveraged 0.5-to-1, sufficiently below our current target ratio of 0.8-to-1. By continuing to execute on our leverage strategy we have further enhanced our liquidity position and our ability to grow the portfolio and expand future earnings.

Now I would like to turn it back to Rob.

Thank you, Chris. Again, we are pleased by our performance for the third quarter. We remain focused on leveraging our increased liquidity to continue to execute our investment strategy as we have consistently done in the past.

By further expanding our high-quality portfolio of secured loans with attractive yields while maintaining the opportunity for enhanced returns via warrants, we expect to further strengthen Horizon's leading franchise in the venture lending industry and drive shareholder value.

Before we open the floor for questions I would like to note that we plan to hold our next conference call to report year-end results during the week of March 11, 2013. We will be happy to take questions you may have at this time.

(Operator Instructions) Troy Ward, Stifel Nicolaus.

Thank you and good morning, gentlemen. Gerry, can you walk through the -- can you repeat the committed backlog and pipeline information for today? I wasn't able to jot that down quite fast enough.

Yes, I sure can. Let's see -- so where would you like me to start?

Well, I think I heard $42.2 million and 12 companies in the committed backlog.

Yes.

That is today.

As of today, that is correct.

Okay. So with the numbers you gave, could we back into what you've, or did you just flat out say what you have done since quarter end?

Yes, I did. We funded two transactions for $11.1 million from our committed backlog, and so after those fundings our backlog stood at $42.2 million in 12 companies.

Okay, that is what I had missed. Okay. I heard a pipeline of $242 million, but that is the much bigger funnel obviously.

That is correct.

Okay. Then moving on to a couple of specific questions. On Satcon, first, in the third quarter did the full amount of the interest accrue to earnings in the third quarter?

Yes, it did.

Okay. Where does your -- obviously if they file, it is a public document. Where does your $5.2 million loan stand in the capital structure at Satcon?

So we are behind a senior credit facility held by Silicon Valley Bank.

And how much is that?

I think this is in the document; it is around $13 million.

When they filed kind of their assets and liabilities I am sure it was a negative enterprise value. Do you remember what those numbers were?

I don't have those numbers, Troy.

Okay. Then can you give us an update on [Vet]. I mean earlier this was the only other company that I recall going on nonaccrual and you restructured that into a royalty agreement. The fair value looks to have been steady but it is still marked at, call it, 40% of your original cost.

Is there something -- what is going on there? And is there something that gives you confidence that you will be able to recover that unrealized loss in Vet?

So it is early but we have already received two quarterly royalty payments, pretty much on the plan that we were operating on when we valued the loan initially. It's still early, but so far so good.

So is that coming through as income or is that coming as a reduction --?

No, it reduces the carrying value.

Yes, it is reducing the cost basis.

Okay, great. Then on the Fortress facility, can you just give us some color? Obviously, from the outside looking in, LIBOR plus 6% with a 1% floor isn't all that cost competitive for a secured facility with what you, and others, have been able to get from an unsecured line of credit. Can you just talk about the thought process behind the Fortress facility?

The strategy was to unleash some of the available leverage that we had within the capital structure, so the Fortress facility is more flexible in its concentrations and it's structuring to allow us to do what we have done for a long time, which is partner with others like the technology banks, where we have allow an accounts receivable facility to come into the transaction along with our venture loan. So that is one of the unique aspects of the transaction.

The other is that it does have 2-to-1 leverage built into it. I think everybody else's facilities right now are 1-to-1, so looking for potential changes in legislation down the road. This would allow us to immediately access a higher leverage vehicle.

But as of today your other sources of leverage, were they too restrictive that didn't allow you to reach acceptable levels of leverage?

That is correct and that is true for everybody that does financing with comparable lenders that we have.

I guess we will have to talk about that offline. I'm not sure I get that.

I will be more specific. So other lenders like our other facilities don't allow significant levels or any meaningful levels of participation where, say, a technology bank is senior to us.

What about the term debt that you issued, the unsecured --?

Right, that is a different capitol source. So it's diversifying capital source as well, not relying on the public market.

So do you think you had fully tapped that channel?

No.

Okay. Does Fortress have any -- well, first of all, what were the upfront fees that were paid on the Fortress facility so we can amortize those across the cost?

The debt issue costs would be -- I think the total is like 1.5% and that is over a five-year deal.

But the 1.5% is on the $75 million?

Yes.

And then --

It is pretty customary. If you look at anybody -- if you pay on commitments, whether it is Wells Fargo or any of the other facilities, I am not sure.

Well, the difference is they are not 7% money. If you add 1.55% over 5 years to the cost of the Fortress facility and then layer on a 2% management fee, a 20% carry, what is the margin -- and you are doing cash coupons most recently have been in the 10.5% and then with fees, call it 13%, 13.5% --

I understand your -- is there a question?

What is the margin left for shareholders after you use this?

Well, our yields are 13% to 14% on our deals excluding warrants, so you can do the math on that.

I don't see that there is any margin left, excluding -- unless warrants actually hit, I don't see where the shareholder is going to benefit from using this facility.

Is there another question?

Casey Alexander, Gilford Securities.

Good morning. I am sorry, somebody walked in on me. Did you give a level of where you think you are going to value the Satcon loan going forward?

Chris Mathieu We did not. We did speak that our fair value right now at the end of the third-quarter cost is -- par is fair value. We also noted that we placed the loan on nonaccrual in the fourth quarter and had no negative impact on the third quarter.

It is too early to tell where we will fallout on fourth-quarter fair valuing, but right now it's still at par and we are watching the proceedings closely.

Well, it is fair to say that there is going to be some material mark on that loan?

It is not fair to say right now. We are a secured lender; we think there is substantial collateral and it is too early to tell in the process.

Okay. You made a comment about the policy, it was sort of a jumbled comment about the policy is the dividend is covered by NII; you have $0.23 remaining of undistributed capital gains.

Does that mean that when the undistributed capital gains are run out that it is your intention to start matching the dividend to NII at that point in time?

Just to reiterate, the idea of paying more than NII when we made that decision in August last year was to return what we had actually realized in gains. So we do not intend to provide return of capital so our core dividend strategy is to have the core dividend be based on and covered by NII, to be augmented by actual realized gains.

Okay. Then can I ask a question, why not just when you have undistributed capital gains just put them out at the end of the year in a special dividend and run the dividend off of core NII?

We made the decision a little over a year ago to try to spread out over time.

Okay. Secondly, I am not quite sure that I understood your statement about current loan structures. So lower coupons with more frequent and higher final payments; can you give me a little more color on what that actually means?

Sure. In the venture loan market today essentially most structures, in addition to including a coupon rate to the customer, includes a final payment which is a yield enhancement payment. It is not a principal payment.

So in today's world you might find a transaction where the interest rate is somewhere in the 11.5% range and then there would be a final payment, maybe in the 3% or 4% range which gets your yield somewhere into the high 12% to 14%. That structure has been holding steady, but it has been -- we have seen a slight increase to a little bit lower coupon and a little bit higher final payment to reach that overall yield.

Okay. What level of loan amortization do you expect in Q4, and also have you seen any prepays thus far in Q4?

So the normal portfolio amortization last quarter was about $12 million and so we will be working off a slightly larger portfolio than that, so it will be still in that relative range. So far this quarter we have had one prepayment I believe. Actually, I am sorry, we have had three prepayments.

So far Q4?

Yes.

How much were they?

Well, let's see -- let me back up, two of those are actual prepayments of existing loans. One of the balances was refinanced with a new loan included in that $11 million that we said was funded. So the net portfolio growth is, so far in the quarter, pretty flat.

Flat. Okay, great. Let me just see if I have anything else. Are there any portfolio companies that you have that have filed S1s or registration statements?

We have a company called Singulex that is a portfolio company that is in the IPO process as we speak.

Okay, great. Terrific, thank you.

Robert Dodd, Raymond James.

Quickly first, on the IPO process you say you have got one. Do you have any companies that you can disclose that are in M&A discussions right now?

None that we can discuss.

Just looking at the credit quality. Obviously the end of Q3 it looked very stable; obviously Satcon was the surprise. So is there any -- when I look at fair value markets to access credit quality are there any other early indicators in the portfolio that you can point to as a company that might be stressed or significantly outperforming that is not currently showing up in those fair value marks?

No. We are very pleased with the level of our quality of credit. I mean it is a heavy burden to carry that you have had no loan losses and that we carry very low nonaccruals, so every one of these that impacts us.

But it would be normal for our business to have some level of distress. I think the level of distress we have right now in our portfolio, even considering the Satcon situation, is very, very acceptable to us.

Great. Last one for me, one of the motivations for the Fortress deal seemed to me to push towards more second lien, which I would have expected, all other things being equal, which obviously they never are, to push up cash coupons. But the color you have given seems to indicate that you are expecting cash coupons to drift down.

Now is that a like-for-like metric you are giving and then the mix shift towards more second lien would be on top of that or --? Can you give us a little bit more color about how the mix shift and having a more flexible capital source could affect those coupons?

That is a good question, so I would make a couple of comments on that. First of all, we only put the Fortress line in place here in the quarter, so we wouldn't expect to see a significant increase in our second lien transactions based on just the timing of when that line was put in place.

In addition to that, again, we have two new managing directors on board, but they also came on board in the third quarter. So we do expect to see increased activity from both of those sources, i.e., the ability. As Chris has mentioned, this gives us much greater flexibility relative to what I call not second lien, but kind of junior lien to AR lines which is traditional in our business. It gives us much greater flexibility in doing those transactions and the expectation would be that those transactions would have a higher coupon.

Appreciate it.

Boris Pialloux, National Securities.

Thanks for taking my question. I just have a general question. It is mostly what impact does the aftermath of Facebook on social media? Do you see more demand coming from companies which actually cannot get new round of equity funding?

Interesting question and I will take that. We have taken, historically not just recently, taken a very conservative view on social media opportunities in the marketplace. I think we have done a total of one transaction which has already prepaid and was not a problem at all.

But we have a little bit of trouble finding the true enterprise value in those companies. I am sure everybody knows Facebook, but there was a lot of companies that have followed them. The subscription models that they have, that doesn't give us a great comfort level relative to kind of the stickiness of those revenues.

And so in our portfolio we have very, very little exposure, literally none, other than companies that might service social media companies. In other words, a technology company that helps a social media company with relative to things they can do on their platform because of the technology. But even they are not a great deal of exposure.

So that has not been an area where we have focused on and so it has not been a problem for us either relative to our portfolio or relative to looking at new opportunities. Because, again, when I look at our pipeline that has not been a focus for us. So we have been -- we are real comfortable with the level of activity outside of social media and feel very confident in the activity in those other sectors -- in life science and true technology companies and healthcare information services especially.

Okay, thank you.

Jonathan Bock, Wells Fargo Securities.

Good morning and thank you for taking my question. First, Gerry, just a broader industry question. As I was listening to your comments venture debt demand does remain relatively robust. But as you said and what we heard from other sources, that there may be some slight deterioration in deal structure, particularly as we move into this quarter.

Maybe could you talk to us about some of the ways that you are mitigating potential credit risks and the structures that you are providing venture portfolio companies in this environment?

Yes, sure. It is really easy for us and it has everything to do with, honestly, 20 years experience in the management team and almost the same level of experience relative to our managing directors and our credit people.

We have been through all kinds of good markets and bad markets over that period of time, both macro and micro, within the specific market sectors that we service. And we don't diverge from that. When the market is hot and everything is going well and coupons are up we don't get overheated in any specific sector of our market. We stay balanced in our portfolio. We have continued to do those things and will continue to do those things.

So when I look at our pipeline, both in terms of our committed backlog and the transactions we have been awarded, as well as the deals we are evaluating, we are not diverging from our strict underwriting criteria which has led to obviously, I think, probably one of the better loan-loss track records in the BDC industry, not just the venture lending industry.

And so we continue to look at transactions on that basis. We are very pragmatic on every opportunity. We understand where the market is at the time we are underwriting it. We take those considerations into effect.

We also look for opportunities during times like this where we see opportunities where people are kind of walking away from the market. And so we can maybe get better, stronger structures as a result of that and we take advantage of those opportunities.

We did that in 2009 when the market softened and a lot of venture letters backed off the market. We selectively picked a number of transactions at that time, kept busy in the market, and as a result ended up with some higher-yielding deals that were well structured. We continue to use that same kind of strategy.

That is great color, thank you. Now, Rob, given that you do have a meaningful amount of investment capacity on your credit facility, would it be fair to say that you are interested in growing the equity account any time prior to year-end?

The availability -- our equity capital raising strategy is twofold really. One is to always be sure that we do it when it is accretive to do so for our shareholders and, two, it is market driven so it requires that there be an opportunity to do it.

We do have debt facilities that could benefit from additional equity. In other words, we are about $33 million short of equity to fully utilize the credit facilities we have. But right now we have capacity for the investment pipeline, but we also have good momentum in the market.

Okay. So just a technical question, so that $86 million you could borrow that free and clear today or would that be unavailable until new equity is raised?

That is free and clear today. There would be another approximately $30 million of credit availability if we were to raise additional equity.

Okay. Great, thanks, Chris. Now based on the potential earnings pressure that could come from the loss of Satcon, and while we never want to forecast for a realized loss because you obviously have a great track record, let's just say something like that can happen.

Walk through us the reasoning of keeping the dividend where it is relative to your core earnings power in light of the fact that the market right now really isn't giving you any additional credit for that dividend if we look at the stock's valuation.

So I guess I would say that we -- I would go back to what I said, if I repeat myself it is intentional. The core dividend strategy has always been to cover the dividend with NII. When we had the big realized gain last year there was an expectation that we would have subsequent realized gains and so we thought that this would be a method by which we could reward our shareholders as those gains came.

We did have a meaningful million-dollar gain in the fourth quarter last year. We have not had one since. So the answer is that I think as we look at what is left in undistributed income at the end of the third quarter it is still appropriate to pay the dividend.

Okay, great, Rob. Thanks. Now as you talk about growing NII to cover the dividend, I'm trying to go back and just looking at a little math here in that the all-in calculated interest cost of the Fortress facility is about 7.5%. That is the L plus 6% plus the 100 bps floor and let's say 50 basis points or so.

On average, your cost as a percentage of assets is 470 basis points. And that can go down as you grow, but by and large when you put that atop 7.5% your total cost is in excess of 12%. Chris, you mentioned that you are originating in excess of 13%, but I imagine investors would wonder how is that dividend covered with only 30 or 50 basis points of additional earnings accretion off of the only facility that you can borrow from.

First of all, the cost of the debt only applies to half of the loan so the other half earns less, so you have to use the leverage. That is the advantage of having this is facility.

Okay. Well, then I guess -- so when you say half the loan so I would assume that you would be covering it from equity capital. But if we judge by the cost of equity that you are raising by looking at the dividend that was in excess of 11%.

So at what point do investors say, you know, I really like the model and I like the way things are going, but I just don't see how earnings gets there? And is that perhaps why the stock is trading at where it is? And if that is the case, why throw good money after bad when you don't really need to?

Well, the overall strategy is that it allows us to fully utilize the Wells Fargo facility as well, because our tradition -- as Gerry had said, traditionally we have done a balance of first and second lien transactions. And so to maintain that sort of balance and get the opportunities we need, growing the portfolio, growing the number of warrants, this was the real motivation for taking what is admittedly expensive debt facility.

Totally agree and we totally agree that there are other low-cost facilities there that you're borrowing on and I know shareholders would appreciate to borrow on that as well. Outside of that, we appreciate what you guys are doing. Thank you so much.

Troy Ward, Stifel Nicolaus.

Sorry, I got cut off earlier. I just had a couple more follow-ups on the Fortress of facility. Can you repay that facility? You talked about raising equity and one of the benefits is that you were able to repay facility obviously so you don't have to just sit on cash. Can you repay the Fortress facility back down to zero without incurring any fees?

The structure is -- it is not a revolving line, it is a delayed draw term loan. So the quick answer is no. The design of the structure is to borrow in kind of step fashion and for the first three years of the facility there would be a declining prepayment charge 3, 2, 1 as it goes down. Then after that we can prepay at our discretion.

Okay. Then I think I saw the non-usage fee is 1%; is that correct?

Yes.

So currently if you have $10 million drawn and 7.5%, let's say, is the basic cost, but then you are paying another 1% on the $65 million. Is that the way the math works?

No, you either pay the interest at 7.5% or you don't pay that and you pay the 1%. It is not in both.

Well, you are paying the interest on the $10 million and then the 1% on the other $65 million?

That is correct. That is right.

All right. So right now the cost of the $10 million you have drawn, because you are paying again for the stuff you are not using, is in excess of 13%. So I'm just saying that not for shock value, but much more as you really have to draw this down to make --

That is clearly for shock value because it is a portfolio. It is not just a $10 million loan; it is a $220 million asset base with a strategy to deploy capital.

Like Gerry said, we only got it 60 days ago. We have the third quarter waived on non-use fee, so the strategy is to use it. And just like all other facilities you do pay a non-use fee and it is part of an overall leverage and liquidity strategy, not just about that one credit facility, when in fact we have three facilities that we are managing our liquidity all the time with.

Right, that is what I was trying to get to. I mean we should be modeling that this is going to be used, fully used. That is the way it is going to make the most sense. Is that fair to say?

Yes. If you listen to what Gerry talked about as far as momentum in the market post September 30, and you can go back to the transcript I guess to get more clarity on those numbers, but utilization will generally not be an issue.

Okay, great. Thank you.

I am not showing any other questions in the queue. I would like to turn it back over to Rob Pomeroy, CEO, for closing comments.

Thank you very much for participating and your continued interest in the Horizon story. That will conclude our call. Thank you.

I would like to thank, everyone, again for joining us on today's conference call and following the Horizon story. This concludes Horizon Technology Finance Corporation conference call. Thank you and have a nice day.