Hercules Capital Inc (HTGC) 2009 Q1 法說會逐字稿

Good day, and welcome to the Hercules Technology Growth Capital Q1 2009 Conference Call. Today's Conference is being recorded.

At this time, I'd like to turn the Conference over to Ms. Dee Dee Shield. Please go ahead.

Thank you, operator, and good afternoon, everyone. On the call today are Manuel Henriquez, Hercules' Co-founder, Chairman and CEO; David Lund, CFO.

Our first quarter 2009 financial results were released just after today's market close. They can be accessed from the Company's website at herculestech.com or htgc.com. We have arranged for a taped replay of today's call, which will be available through our website or by using the telephone numbers and pass code provided in today's earnings release.

I would like to call your attention to the Safe Harbor disclosure in our earnings release regarding forward-looking information. Today's Conference Call may include forward-looking statements and projections. We ask that you refer to our most recent filings with the SEC for important risk factors that could cause actual results to differ materially from these projections. We do not take any obligations to update our forward-looking statements unless required by law. To obtain copies of our latest SEC filings, please visit sec.gov, or visit our website at herculestech.com.

I would now like to turn the call over to Manuel Henriquez, Hercules' Co-Founder, Chairman and CEO. Manuel?

Thank you, Dee Dee, and good afternoon, everybody. And thank you for joining us today on the call.

Well, after a very tough first quarter of the year, we are very proud to have released today our financial performance and our strong earnings that we had in this quarter despite an otherwise challenging and tumultuous market.

I want to emphasize at the beginning of this call that the success of Hercules continues to be upon the professionals that we have in this organization who continue to work extremely hard in an all-but-challenging marketplace. And I would like to strongly emphasize the achievements that we've accomplished here are squarely because of their contribution to the organization and the hard work.

I am very pleased with the financial performance. I think that it demonstrates Hercules' continued capability as an organization and our capabilities and understanding of the asset class by which we operate and invest in.

Many, many people have asked us many questions regarding the venture capital marketplace, which I will elaborate during this call and clearly expand upon that during our question-and-answer session at the end of this call. But first, let me turn briefly to our operations and speak to -- at the high level on multiple, different fronts of our achievements as a company, achievements of the marketplace, our liquidity, our asset quality and overall strategic directions and initiatives that we're contemplating and pursuing.

First, to our operations -- revenues grew year-over-year by 31%, despite an otherwise challenging market. In addition to that, net investment income -- or more commonly referred to as NII -- also saw a record level, at $0.35 per share; this despite an otherwise challenging market, as we said earlier.

In addition to that, we've seen a growing wide -- growing spread on our yield spreads in our underlying investments, with our effective yield to maturity on our investments of 15.6%; and our net interest margin, which continued to expand to currently at 12.35%, and of course we'll expand upon that during the financial section of this discussion with David.

Continuing down the balance sheet -- we have also continued to de-lever the balance sheet. And I'm very happy to say that as of today, we have debt outstanding of just under $2.5 million on our Wells Fargo facility. And of course out long-term capital facilities from the SBA continue to be drawn, which is a long-term strategic partner for us and a source of long-term, stable source of capital for growth.

During the quarter, we also accomplished a very important feat. And that is that we repaid $135 million line of credit to Citibank and Deutsche Bank, in a period of time that was unanticipated in the marketplace, being down in this five-month period of time.

Beyond that, we moved towards our asset quality. Despite this otherwise challenging market, our asset quality remains extremely strong. I am proud to say that since founding of Hercules -- or I should say since its first quarter of originations, which is October 2004 -- we have now committed over $1.5 billion of investment capital to technology life sciences companies. And I'm proud to say that as of the end of the first quarter, we have only experienced gross loan losses of only $7 million since inception -- not just in calendar '08 or the first quarter of '09, but since inception -- a mere $7 million. And that, of course, is before any contribution or benefits from realized security warrants gains, which would drive that number close to $0.

Moving beyond that, let me take an opportunity to talk about the venture capital marketplace, which is clearly an important market which we operate in, and we continue to see contractions occurring. Hercules had anticipated over a year ago an anticipated contraction in the venture capital marketplace. We over a year ago consciously made a decision to deemphasize an asset class, or I should say an early-stage focus, in the venture capital marketplace which we deemed over a year ago to be highly risky and highly dangerous area to be investing in. We have continually and materially deemphasized that investment area for the period of time, and our portfolio exposure is somewhere in the neighborhood of around 5% to 7% of early-stage investments that we have in that segment of the market.

As to the venture capital activities themselves -- liquidity -- we all but know, and all have come to realize, that dependency in IPO is all but nonexistent. However, we've seen glimmers of hope of IPOs opening up in the second quarter, with two companies achieving IPO liquidity event. However, two does not make a trend.

So no IPO activity took place in the first quarter. However, we saw a fairly decent -- although not necessarily robust, but encouraging -- liquidity via M&A. We saw approximately $3.2 million of exits being realized in the venture capital marketplace in the first quarter, attributed to M&A activities representing approximately 40 companies. That, however, is the lowest activity that we've seen in M&A since 2003.

As to the investment pace, on the other hand -- the venture capitalists invested approximately $3.9 billion of venture capital activity in the first quarter. That is down, unfortunately, 50% year-over-year. However, it is still an indication that venture capitalists are supporting and investing in their companies. Despite some naysayers out there, the venture capitalists are still active. But they're certainly being much more cautious in their portfolio and shifting their investment focuses towards more later-stage and generally life science -- excuse me -- generally technology companies.

In terms of the sectors -- of the $3.9 billion invested in the first quarter, approximately 44% of that capital, or $1.7 billion of that capital, was directed towards IT or information technology companies. The balance, or 36% of the capital, was deployed in life sciences during the same period of time.

By stage -- as I said just moments ago, the venture capitalists have made a conscious decision to shift their investment focus away from early-stage companies, which represented approximately 18% of the capital invested in the first quarter to more later-stage or significant more mature companies, which represent substantially the portfolio at Hercules. And the venture capitalists invested approximately 55% of the $3.9 billion in later-stage companies.

Lastly, to make the ecosystem complete, we have venture capitalist fundraising activities. That is, the venture firms starting new pools of capital to direct those new pools of capital towards investments. Surprising to ourselves, we actually saw healthier capital-raising activities by the venture capital firms of $4.3 billion in Q1 to 40 new venture firms. Surprisingly to us, that number is actually higher than the fourth quarter of $3.5 billion of activities -- or fundraising, I should say, by the venture capitalists in the marketplace.

All this data, by the way, is from Dow Jones Venture Source, the leading source of data access -- or data sources that we provide on in looking at venture capital activities.

Now, let me take a moment and talk about some of the strategic directions. Given our high liquidity that we currently have in the marketplace, given our appetite on building our cash positions, we are looking at using our liquidity to pursue multiple, different strategic directions and opportunities, one of which -- as we indicated this morning -- is our interest in allocating approximately $15 million of our capital to buy back some of our stock, clearly contingent upon certain prices and certain parameters by which we deem to be an appropriate investment decision to pursue a stock repurchase program.

We are also [been] actively looking at multiple, different portfolios of other companies to potentially acquire, or selectively acquire certain investments in those portfolios, that would represent attractive underwriting under -- the underwriting standard of Hercules would apply to those, as well as adequate yields that we would seek from our deployment of that capital. In addition to that, we are also actively looking at other strategic initiatives that we will expand upon as those initiatives become more clear or we have more clearly identified opportunities that warrant public disclosures.

We have consciously made a decision to maintain a high-liquidity position, a low to insignificant leverage on our balance sheet for at least the next two quarters. Despite an attractive market for potential investment opportunities, we feel strongly, and we think it's prudent, to maintain liquidity to ensure that the stabilization in the economy that we're seeing today actually manifests itself into a tangible and realizable recovery.

We are certainly very encouraged by what we're seeing today. But a few weeks does not necessarily make a trend that is sustainable. To that end, we feel that it's prudent for us to continue to maintain a high level of liquidity, maintain our capital in the SBA fully invested, and opportunistically look for portfolios of other targeted strategic acquisitions to pursue that may yield greater returns to our shareholders over the foreseeable future.

I will now turn over the call to David Lund, our CFO, to discuss our financial achievements and results, our credit performance; further expand upon our credit liquidity. And after that, Dave and I will be happy to answer additional questions from our investors. David?

Thank you, Manuel.

As Manuel indicated, we are very pleased with our financial performance for the first quarter of 2009. Despite the current challenging market, we believe our results for the quarter were outstanding.

Today, I'd like to cover in detail three aspects of Hercules' performance for the quarter -- continued strong NII achievements, high level of credit quality, and liquidity and capital resources. During Q&A, Manuel and I will be happy to answer any questions that I do not address here in the next section.

First, I will touch on Q1 operating results. Year-over-year, we had growth in investment income, NII, and net interest margin, as evidenced by achieving in excess of $20 million of investment income for the quarter. We feel the performance of our investment strategy is impressive in this challenging credit environment.

The effective yield on our debt investments during the quarter was 15.6%, which is higher than the preceding quarter yield of 14.9%, primarily due to higher income from acceleration of fees and interest from early loan repayments, and as our team continues to renegotiate higher terms with our loan amendments.

Quarter-over-quarter, we were able to reduce our cost of debt from $5.5 million to $4.4 million by decreasing our average balance outstanding from $245 million to $194 million through the repayment of the Citibank credit facility. We expect further reduction in our cost of debt in the second quarter due to continued reduction in the weighted average balance outstanding and a lower cost of debt due to the elimination of high-cost Citibank credit facility.

Operating expenses decreased over the previous quarter by approximately $750,000 as a result of the reduction in force we completed during the first quarter and our ongoing efforts to manage our expenses, as evidenced by our low efficiency ratio of approximately 29% for the quarter.

These significant factors of improving effective yield, cost of debt reduction and managing operating expenses contributed in Q1 to record net investment income of $11.6 million, or $0.35 per share; and taxable income of approximately $10.3 million, or $0.31 per share, excluding capital losses on a tax basis of approximately $270,000.

Turning to credit performance -- the weighted average loan rating of our portfolio moved up slightly to 2.43 compared to 2.39 at the end of 2008. This change in grading was primarily attributable to the increase in companies rated 3 from approximately 29% to 35% of the total portfolio. I would like to remind our listeners that our companies are downgraded to a 3 rating when they approach the need for additional rounds of financing.

As of the end of the quarter, we had three companies that are on non-accrual with a combined carrying value of less than $1.4 million, or less than 0.3% of the fair value of our loan portfolio, and less than 0.8% on a cost basis. We continued to be vigilant in monitoring our portfolio and direct our resources at mitigating losses by early identification of troubled credits.

During the quarter, we recognized approximately $5.9 million of net unrealized depreciation. This was driven primarily by approximately [$5.0] million of depreciation in loan values related to two loans. These weight valuations were adjusted in accordance with FAS 157.

As we have indicated before, we view the current economic environment as unprecedented in terms of lack of liquidity and high uncertainty. We believe that credit management is a top priority in weathering this capital market storm.

On that note, I'd like to address Hercules' liquidity and capital resources. We successfully repaid all borrowings under our $135 million Citibank credit facility on March 25th, more than a month before the maturity date. We achieved this through the structure of our deals that [will include] early amortization of principal, and through a collection of early repayments on loans and managing our operating expenses.

Another factor which contributed to the repayment of the Citibank credit facility was the liquidity we have available through our Wells Fargo facility and the SBA program. We maintain a strong relationship with these partners, as evidenced by the recent amendment to the tangible net worth covenant we closed with Wells Fargo earlier this week. Our continuing management of our credit facilities in strong performance allowed us to reduce the tangible net worth requirement from $360 million to $250 million, something that we thought was important in terms of managing the credit facility.

Our current liquidity position is strong. We had $32.8 million outstanding on the Wells facility at quarter end and have since reduced this to a balance of $2.5 million today, with collections of early repayments and normal interest, principal and fee collections. Our facility with Wells Fargo currently allows borrowings up to $50 million, subject to advance rates, and can be increased to $300 million by adding additional lenders to the facility. We are currently in discussions with potential providers but can make assurances that they will join the facility.

Regarding the SBA -- we have $137.1 million of available borrowings subject to SBA commitment approval, of which we have drawn $127.2 million. During the first quarter, as part of the stimulus package, leverage under the SBA program increased to $150 million. With this increase, the Company will have access to approximately $23 million in additional SBA capital, subject to certain credit and regulatory limitations. The combined availability from these sources today totals up to approximately $70 million.

In addition, the stimulus package allows for the addition of a second license which could provide an additional $75 million in leverage, bringing total SBA leverage to $225 million, subject to license approval. I would like to let the listeners know we are currently in the process of submitting our license request at this time.

In addition, the scheduled normal principal amortization of our portfolio over the next three quarters is expected to generate between $25 million to $35 million per quarter in principal repayments. With the maturity of working capital lines and possible early principal repayments, we may expect to receive up to an additional $5 million to $10 million in principal repayments during the course of the next three quarters.

The tremendous achievement of paying off Citibank facility and securing these capital resources are testaments to our team's ability to manage our portfolio of companies and places us in a highly advantageous position from a liquidity perspective, as we look to the balance of 2009.

Finally, we are pleased to announce that our Board of Directors has authorized a cash dividend of $0.30 per share payable on June 15th for shareholders of record on May 15th. As our investors may recall, effective in 2009, our Board of Directors adopted a policy to distribute four quarterly distributions in an amount that approximates 90% to 95% of our taxable income. In addition, at the end of the year, we may also pay an additional special dividend such that we may distribute approximately 98% of our annual taxable income in the year it was earned, instead of spilling over our excess taxable income.

In closing, we believe we are in an enviable position. We have access to capital, good credit quality, and see opportunities for continued investments, while we are more focused on liquidity than growth in this market.

Operator, we are now ready to open the call for questions.

(Operator instructions) John Hecht, JMP Securities.

Afternoon, guys, congratulations on a very successful quarter, given the current environment.

Thanks, John.

On the liquidity side -- if I add up the numbers correctly -- and David, I think you referred to some of this -- you had north of $70 million in capacity, plus your cash flow of $25 million to $35 million of principal payments per quarter. With that kind of capacity, and obviously an attractive -- from a term basis -- lending environment, do you expect to maybe get a little bit more active? Or are you kind of contained to just the real opportunities out there as they present themselves, which is very few? How do you pursue this marketplace right now?

Well, a couple clarifications -- the market is full of opportunities. It doesn't necessarily make them all attractive opportunities. And there needs to be a -- really, a discrimination on credit quality in the marketplace itself. We're still seeing leverage in underlying prospective companies still being a little too high. We still think that pricing of the underlying middle-market companies is not reflective of the inherent risk that we, at least Hercules, deem to exist. I know some other BDCs out there feel the market is incredibly attractive and rife with opportunities. We are more cautious about that. We think there are opportunities out there. But we do not feel that we should weigh in with both feet right now. We really feel strongly that we're going to take a more slow and steady approach, and let the summer cycle through to ensure that we are actually in an upside recovery on this economy before we start using up all the liquidity.

We feel, however, very strongly that the fourth quarter will represent a very attractive investment opportunity, as well as even a higher-liquidity position on our balance sheet to pursue those opportunities.

Okay. And (inaudible) you've talked historically about potential additions to the Foothill syndicate. Have you been talking to any potential new creditors?

I'm really happy to report that truly, a remarkable achievement was the repayment of Citibank and Deutsche Bank line one month earlier, but more importantly, reinforcing what Hercules has been saying all along -- that our ability to generate liquidity is, I think, grossly underestimated or misunderstood in the marketplace.

We as an organization, marshalling all our resources, just proved that we're able to take $135 million commitment, of which we had approximately $130 million [outstanding], and pay it back in five months. I find that to be fairly unprecedented that any BDC out there can generate that kind of liquidity in such short period of time. We did that while improving credit quality, increasing or widening yield spreads, which has translated into, obviously, higher effective yields [in] higher -- and increasing net interest margin. I think it's quite important.

Embedded in that is that achievement has allowed us to re-circulate -- or re-circle back, I should say, excuse me -- lenders who were previously engaged or had expressed an interest in working with Hercules, now becoming much more involved in their due diligence, possibly joining a syndicate with our existing Wells Fargo facility, or creating separate standalone credit facilities. I am encouraged on that front, more so than I've ever been for the last nine months, on being able to make that statement.

There's nothing completely done yet. We are very encouraged by the exchange of discussions that we've been having, and we're beyond, in essence, due diligence. And we're frankly just down to discussing ultimate size of the deal and conditions by which the deal will be put together.

Okay. Thanks very much for that color.

And final question is, if I remember, you had -- and David might have even referred to one of these numbers as well -- you had, I think, somewhere in the mid- to high teens of spillover dividend from last year. And then obviously, you're creating more in the Q1 of this year. And you did refer to potential special dividend in Q4 of this year. Can you just maybe refresh us of what your total carryover is now, and what the timing of last year's carryover payment would have to be before you engage in an excise tax situation?

We -- our spillover from 2008 is $0.18 per share. And so obviously, depending upon what happens through the course of 2009, we'll -- we can't tell you today what will happen in terms of the dividend -- a fifth dividend or something. But right now, we've got $0.18 that spilled over from 2008.

And John, as Dave just referred to -- the spillover is something that we clearly want and anticipate distributing. However, our cost to purchase liquidity continues to be that we want to be watchful for our portfolio. We have about, I would say, 25% to 30% of our portfolio is in the midst, or will be in the midst, of closing subsequent equity rounds of financings. And I would feel a lot better once that financing is completed by some [of our] portfolio companies, which means that we've basically crossed a chasm in 2009, [when] the majority or substantially all of our companies had receiving rounds of financing.

We have some large events in our portfolio that are contingent events that are outside of our control and the Company's control. We have two specific life sciences companies that are in the process of completing what's called Phase III clinical trials. These clinical trials, if they're successful, would be fairly significant [value-unlocking] events. If those trials are, for example, not favorable, it means that it could be a challenge situation. So we are looking for those situations to see what happens, and we expect to have clarity on that in the June-to-July timeframe, where [they] expected to get FDA clinical trials approval.

I want to be clear, though -- we're not saying, nor are we expecting, to see losses on that. However, I need to caution people, as we continuously do and be prudent, that we're in a business where our underlying portfolio companies oftentimes have milestones by which they need to achieve in order to garner the next round of financing or unlock the next stage of value creation that they embark on.

So with that, is it fair to think that late summer, early fall, your companies will have been recapitalized by the venture capital community, and you'll have good visibility into the success of the FDA approvals for those companies, so we could get into more thorough discussion at that point with respect to the dividend plans?

Absolutely. I think that as the year progresses, the clarity on the dividend -- the fifth dividend that -- [basically,] we're talking about the fifth dividend -- will become much more salient. I think that we will have greater confidence of visibility as we complete the second quarter. That is a significant milestone for some of these companies. Again, a lot of these companies are well-capitalized through 2009, but they have some binary events that are outside their control, investors' control and our control.

Thank you, guys, very much for the color.

Thank you, John.

Greg Mason, Stifel Nicolaus.

Good afternoon, gentlemen.

Can you talk about what percentage of your portfolio is going to need new rounds of financing in 2009?

I think that that number right now is hovering around the 30% to 35% for the remainder of 2009. And that's heavily weighted more so into completion of Q2 itself. We have seen an acceleration, however, of a lot of our companies -- rather than waiting for the quarter to close a new round of equity capital -- [they] are being more cautious and closing it today, which we think is obviously the prudent thing to do. So on an aggregate basis, probably 30% for the remainder of the year. A lot of that, I think, is more heavily [weighted] towards Q2.

Okay. And then, when you discussed strategic alternatives of buying portfolios, can you give us some color on where you're looking? Is that US VC, maybe expanded European VC, or even potentially expanding into the middle market?

We find ourselves in a very fortuitous position right now, with the de-levering of our balance sheet and access to liquidity that we have [at] our continued credit performance. We are looking at multiple, different portfolios that may be purchased in aggregate, or we may selectively buy [some of the] portfolios. I won't elaborate more than that, because it's -- it wouldn't be wise of me to do that, since these conversations are ongoing.

I will share this -- that we're struggling with a lot of the credit qualities on some of these underlying portfolios that we're seeing, that when you superimpose the Hercules underwriting requirements and yields, they're falling materially short of what we would deem to be adequate investment. We are also finding ourselves that some of these portfolios that we're evaluating have some investment opportunities that we had previously looked at and passed on. And so we're scratching our heads a little bit, when we actually pass on that, to find ourselves with the possibility of acquiring portfolios [have investments] that we actually passed on for credit quality or pricing.

So it's really a tricky thing. It hinges around ultimate credit quality and yields that we're going to get. We are not interested in looking at portfolios that are merely going to term out at a 50% yield, for example. Our hurdle rates on those [new terms] are quite higher than that. And that is making a lot of portfolios who may be okay not very attractive targets for us to acquire, because of the yield spreads that we're looking for.

Great, thank you. I'll hop back in the queue for more questions.

Bob Napoli, Piper Jaffray.

Thank you, good afternoon.

Bob, welcome.

Thank you. Made it. Nice job, the paying back the debt the way you did. Nice show of liquidity.

I appreciated your feedback on the banks becoming more interested. Are you generally -- are you seeing more numbers of banks? Are you talking to banks that you haven't talked to before? And how are they talking about pricing today? Are they getting any less strict on pricing, or not?

The answer to your first two part of your questions -- they're old ones returned, and some new ones circling, or one new one. We're engaged in much more conversation, [so] it's a little bit of both. But primarily, it's more of folks that we've spoken to in the past that have, I think, reconciled the reservations they may have had in the underlying assets that we invested in, meaning venture-stage companies, where there continues to be this schism on not believing that a non-cash flow-positive company can actually amortize itself down and pay back capital. I think that we have proven that the venture-stage companies, frankly, seem to be outperforming the lower-middle-market companies out there, which in and by itself is an irony.

So I think that that has served to validate the underlying collateral pool or asset class, with these commercial banks who are contemplating entering the warehouse credit facility and marketplace. And the Citibank-Deutsche Bank payback has not gone unnoticed.

Okay.

Now, you say in your press release that -- if I'm reading this right, and I missed some of your opening comments -- but no nonbinding term sheets outstanding. So you do not -- at this -- are you going to -- I know you're looking at portfolios, but do you not intend to originate much at all organically for the very near term?

No, I wouldn't say that. I think that the Q1 in particular was clearly tied to our positioning that we discussed in the fourth quarter during the first quarter, when we had our earnings call. And that was, until we felt strongly and comfortably that we could fully pay back the Citibank-Deutsche Bank line, we have opted to preserve capital and ensure our liquidity to achieve that end. So we've opted only to provide capital to existing portfolio companies, or renew existing credit facilities to our portfolio companies, and less so on embarking on new commitments.

I feel that that decision, even to this day, was the right one. I think that we've seen yields widen since the first quarter till today. And we're still seeing greater yield spreads going on in the marketplace today. However, we're still seeing that the terms by which Hercules believes that credit facilities should be extended to certain companies is not quite where it should be. And other BDCs out there are much more eager to originate deals at 13%, 15% yields, while we're much more cognizant of leverage and net spreads that we achieve in our underwriting.

We believe that we're going to continue to sustain our SBA portfolio on a fully invested basis. And so that will probably indicate investment activities between $10 million to $15 million a quarter, and potentially de-novo investment opportunities. If we find something that's extremely attractive, that may accelerate that. But we're not eager to be extremely active in the second quarter, and lesser in the third quarter, which is historically our slowest quarter anyway. We're positioning ourselves for the fourth quarter, which we feel strongly will be a very attractive quarter if the trends that we're seeing emerging in the marketplace continue going in the direction that they are.

What are your target yields? You talked about portfolio purchases. Are you looking for un-levered yields, total all-in yields, at 20%?

Excess of that.

Okay. And how do you get there? What percentage by the warrant, and what percentage by cash?

That's all cash.

Okay.

We were not a big believer in some of these lower-middle-market portfolios' equity or warrant positions that they hold. We think that a lot of these portfolios are possibly over-valued from what we're seeing in the marketplace, from what we would consider to be fair value underwriting standards. Some folks are carrying investments at 10 to 12 times EBITDA, when we feel that the valuation is more like five times EBITDA in enterprise value.

So there's a fairly horrific disconnect between what we think is prudent in valuation with what the enterprise value-to-debt coverages on some of these companies are. And that's causing us some pause in valuating or consideration of buying some of these portfolios. It doesn't make these portfolios necessarily bad; it just doesn't achieve the returns that we think that we deserve, or mitigate the risks that we think that they may have in those portfolios.

Thank you.

(Operator instructions) Henry Coffee, Sterne Agee.

Good afternoon, everyone. And let me add my congratulations. What an absolutely amazing accomplishment, frankly.

Thank you, Henry.

No, I just -- and we all get to watch banks. And I think most of us know what -- how unstable they can be.

As you look forward -- and obviously you're in discussion with banks, and you've got your Wells relationship -- as you look to structure your new borrowing, or your new leverage capacity, how are you viewing the role the banks play in the equation, and how are you viewing the role the SBA plays in the equation? Is one sort of permanent debt, and the other is sort of interim debt? Or do you think the banks will ever be able to reenter your lives as a source of sort of permanent financing against your assets?

Yes, I think, Henry, we're going to be looking for the banks to do more long-term financing. For instance, Wells Fargo is a two-year deal with an extension to it.

You mean an automatic extension?

Yes. At our [election] with the bank. So we're looking for more long-term facilities with these organizations. And certainly, we want to leverage the SBA. Because at the increased amount of $225 million, that gives us a considerable amount of access to capital that we can use over a course of the next seven to 10 years.

I think that we tend to be a little more conservative than we probably should be. But we omitted to really highlight something that's quite important, that happened earlier this week. And this is a material development. The SBA issued guidance this week on the methodologies, or I should say procedures -- excuse me -- by which to now gain access to the full $150 million new leverage, which is approved by Congress in the stimulus package. And more importantly to that, we now have clarity as to the methodologies and procedures by which we need to then apply for the second SBA license for the full $225 million, which David alluded to, which -- both are now underway on our behalf, meaning Hercules will be filing the necessary paperwork to achieve both of those endpoints in the near future. That clarity did not exist until earlier this week.

Are they going to allow companies to do the full three-to-one leverage? Or are they just hoping nobody asks for that?

Yes, there really, I think -- they've talked about a three-one, but they've kind of hinted that they're really going to be working on a two-to-one.

So if you look at that potential new liquidity that may be coming on-line for us, deducting the contributed equity capital that we have to place at the SBA, we could have a total $107 million of total additional liquidity that would come on-line by increasing the SBA facility to $150 million and then approaching the $225 million --

And --

-- (inaudible).

And could you build a permanent business around that? That sounds like a pretty stable source of funding versus the banks, which -- they'll be begging at your door in two years, and then trying to put you out of business, the way Citibank and Deutsche Bank did, so --

Well, in fairness to the process, I think the bank -- unfortunately, the contraction in the banking was nothing attributed to us. But --

Right.

-- we clearly are looking. Wells Fargo has been a fantastic partner, thus far, in working with us. And as you saw and heard David's overview, I am extremely grateful. And frankly, Wells Fargo recognized the credit quality of Hercules -- that they felt very comfortable lowering the net worth -- tangible net worth covenant from the high of $360 million tangible net worth covenant to now a covenant that doesn't really cause me any pause, to be $250 million before any risk to the covenant being (inaudible) exist. I think that is a very good sign of the partnership with Wells Fargo. I think it reflects on the quality of the Hercules team and the credit underwriting standards, that they had the confidence to lower that tangible net worth covenant.

That is obviously a major step forward, and an indication from them about how active they really want you to use the money.

We actually expect to grow with our relation [with] Wells Fargo beyond the $50 million we have with them today. That is certainly part of the long-term strategy as a partnership with them.

Now, really, more to your point, or salient to your point, is that it's absolutely clear that Hercules wants to grow with the SBA as a partner, reflecting 10-year fixed cost of capital that is extremely stable, and one that is reliable enough that we don't have to go through the amalgamations that we went through, or gyrations we went through, with the existing banking crisis that we just are finally coming out of.

So the SBA continues to be a fantastic partner. And the SBA staff has been very, very accommodating in working with Hercules.

Do you have the resources, in the non-SBA part of your business, to put the capital into the SBA part, that would allow you to build that leverage? Or how would you get money into your SBIC?

As David said in his overview, we are currently [fluged is not] building significant liquidity. We have anywhere between $25 million and $35 million a quarter in normal cash flows that come in. And then, we anticipate clearly $5 million to $10 million of early payoff that happen during the quarter as well. By taking a position on being conservative with our balance sheet over the next five -- four to five months -- meaning during the summer period of time -- we will have ample liquidity to more than satisfy the regulatory capital contributions, which are approximately $37 million, to fund the full SBA leverage. So it's a nonissue.

And then, David, you mentioned it was -- I [just] missed the numbers -- it was three loans on non-accrual for a total of 0.8% of loans at cost?

Yes, correct. (inaudible) --

Also, thank you for all that, and obviously, an excellent job and congratulations to everyone.

Thank you, [Henry].

Thanks, Henry.

Greg Mason, Stifel Nicolaus.

Thanks.

Guys, I have just, actually, a couple quick modeling questions. Can you quantify what level of interest and fees were generated this quarter from your portfolio exits, looking for more of an ongoing run rate for interest and fees?

Why don't we do this? Why don't we actually follow that up with you after the call. We have that schedule for you. Obviously, we didn't bring that into this room. But (inaudible) just so we can prepare for the call back, you want to know specifically how much of the interest recognized in the first quarter --

With the (inaudible) from accelerated fees and interest and so on. So we'll follow up with that, Greg.

Okay. Number two -- did you have to give anything to Wells for the minimum net worth covenant relief?

No, there were no fees, no give-ups, no nothing. This was just a mutual agreement that, based on the performance of Hercules, we were able to adjust the covenant.

And then, what are the borrowing fees now associated with just the Wells facility going forward?

Well, the borrowing fees that we have were fixed. We paid 0.75 basis points at the beginning of the relationship with them. So there are no ongoing fees, except for a nonuse fee.

Well, no, the facility fee, then, is tiered and declines in the second year?

Yes, [clocks] down to --

Right.

-- 0.30 for a nonuse fee.

Right.

Okay. And then, one last question -- with the stock buyback, can you guys give us some color on what you're thinking with the stock running here lately? Does that still make sense in your minds at these levels? Or --

Listen, obviously, I'm not going to give you the answer in terms of what are the parameters by which we would engage in a stock buyback. But clearly, I think that the [single thing] we're saying is that a 30% dividend yield, 25% dividend yield, or et cetera dividend yield is, we feel, inadequate. And it's better served to retire the stock than to continue to pay out if there's a dividend yield on that stock. So clearly, we're not going to share what those pricing parameters are, or what thresholds that we'll embark on, other than to say that clearly, a 30% dividend yield, a 25% dividend yield on a stock -- we feel that is probably an area which we don't think is deserved, given our credit performance and our continued widening yield spreads and NII growth that we're seeing.

All right. Thanks, guys.

At this time, there are no further questions.

Thank you, operator.

I want to remind everybody that on June 3rd, in our Boston office, we will be hosting our annual shareholder meeting. Please feel free to attend if you would like.

Also, as we historically do after every earnings call, if any investor would like to have a meeting scheduled with us, Dave and I would be scheduled to be on the road over the course of the next two to four weeks, subject to schedules. And if you have an interest in any one of the cities that we plan on visiting -- which are Boston, Philadelphia, Baltimore, Chicago -- and any other city where investors would like us to visit, we'll see if we can get on their schedule.

Again, thank you very much for everybody's participation. And thank you for continuing to be one of our shareholders and for listening to the Hercules story.

Thank you very much.

And that does conclude today's Conference. Thank you for your participation today.