Hercules Capital Inc (HTGC) 2013 Q3 法說會逐字稿

Welcome, ladies and gentlemen, to the Hercules Technology Growth Capital third quarter 2013 earnings conference call. (Operator Instructions.) And as a reminder, this call is being recorded.

I would now like to turn the conference over Jessica Baron, CFO. Please go ahead.

Thank you, operator and good afternoon, everyone. On the call today are Manuel Henriquez, Hercules Co-Founder, Chairman and CEO, and myself, Vice President, Finance and Chief Financial Officer.

Hercules' third quarter financial results were released just after today's market close. They can be accessed from the Company's website at www.htgc.com. We have arranged for a replay of the call at Hercules' web page or by using the telephone number and pass code provided in today's earnings release.

I'd also like to call your attention to the Safe Harbor disclosure in our earnings release regarding forward-looking information. Actual financial results filed with the Securities and Exchange Commission may differ from those contained herein due to timing delays between the date of this release and in the confirmation and the final audit results.

In addition, these statements contained in this release that are not purely historical are forward-looking statements. These forward-looking statements are not guarantees of future performance and are subject to uncertainties and other factors that could cause actual results to differ materially from those expressed in the forward-looking statements including, without limitation, the risks and uncertainties, including the uncertainties surrounding the current market turbulence and other factors we identify from time to time in our filings with the Securities and Exchange Commission.

Although we believe that the assumptions on which these forward-looking statements are based are reasonable, any of those assumptions can prove to be inaccurate and, as a result, the forward-looking statements based on those assumptions also can be incorrect. You should not place undue reliance on these forward-looking statements. The forward-looking statements contained in this release are made as of the date hereof, and Hercules assumes no obligation to update the forward-looking statements or subsequent events. To obtain copies of related SEC filings, please visit sec.gov or visit the website, www.htgc.com.

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

Well, thank you, Jessica, and good afternoon, everyone, and thank you all for joining us today. I am very proud once again to report another very strong and record high quarterly results and achievement by Hercules for the benefit of our shareholders.

As usual, I will provide a quick agenda of the call. I'll start off with a summary of operating performance and Q3 results, discuss the current market conditions, including venture capital investment activities and, of course, the all-important exits related to IPOs and M&A events, which led to a very strong third quarter performance for us all, and then lastly, finish up with an overview of the remaining investment activities for 2013 -- investment activities for Hercules. We'll then turn the call over for Jessica to go over much more specific details on our financial results and performances.

So let me start off with giving you an overview of our summary performance and our achievements for the quarter. Hercules continues to remain focused on selecting and working with some of the best venture capital-backed companies and innovative technology and life science companies in the industry. This continued commitment was once again evidenced by our strong quarterly results, outstanding earnings growth, and also maintaining a highly liquid balance sheet to continue to make prudent investments for future earnings growth as we identify new and promising opportunities.

It was a great quarter all around. We had 16 announced or completed M&A events, plus two completed IPOs during the quarter, for a total of 18 announced or completed liquidity events during the quarter, representing another performance record for Hercules since our inception, and the best quarter we've ever had in terms of liquidity events and also on track to be the best year for liquidity events in Hercules' history as well.

Thanks to our continued success and ability to expand the Hercules brand and awareness with both innovative venture capital-backed companies and the venture capital community, we are seeing the fruits of our labor paying off for the benefit of our shareholders as we continue to build out our portfolio.

Our relentless focus on ensuring that we offer our respective portfolio companies a highly customized financing solution that meets their growth capital needs by using venture debt to achieve their own growth goals was evidenced by our results this quarter. Our strong and expanding relationships with many top-tier venture capital and private equity firms are also reflected in our results, and the continued generous support and deal flow contributions from those private equity sponsors and venture capital sponsors to Hercules. We are very grateful to both our visionary entrepreneurs and the venture capital community for their continued faith, trust, and support on Hercules, which our success would not be possible unless their support would be there. So thank you personally for that as well.

Now let me turn some attention to some significant achievements during the third quarter. We delivered record-high total investment income of $41 million, representing a 72% year-over-year increase. We achieved a 90% increase year-over-year growth and Q3 NII of $22 million, or basically $0.35 per share, compared to consensus of approximately $0.29 per share, exceeding estimates by approximately $0.06 per share, driven in large part to the robust M&A activities that we witnessed during the third quarter.

We saw an increase in the NOI of approximately 86% year over year to $23.2 million, or $0.38 per share. Our Board of Directors increased our dividend for the fourth consecutive quarter. We increased our dividend by an additional $0.03 per share versus our previous dividend of $0.28 per share to $0.31 per share as dividend payout this quarter.

Finally, on the IPO and M&A front, Hercules continues to pick the right winners, as evidenced by our year-to-date results of 23 companies having announced or completed liquidity events. This compares favorably to the same period of 2012, when we had 12 liquidity events, realizing all of 2012 in that period of time.

In fact, the pace of exits continues throughout Q4, and we expect to continue for the next two quarters, as we are aware of many of our portfolio companies are preparing themselves for M&A or IPO liquidity events. In fact, subsequent to quarter end, we had two additional events take place, one completed IPO. ADMA completed its IPO offering in October, and we recently had another company file under the JOBS Act their IPO registration statement.

We are expecting to potentially see an increase in M&A activities through Q4. This could lead to an increase in earnings in Q4, and we're going to see more of our companies continue this pace of liquidity that we are aware of today through the second quarter of 2014, with what we know today, as many of our companies are positioning themselves for future IPOs or M&A events that are going on.

However, both IPOs and M&A events are very difficult to predict and are generally market driven. We remain hopeful that many of these companies will pursue and complete these exit events. However, many of these exit events are entirely and completely out of our control.

As of today through November, we currently have three portfolio companies in IPO registration, all of which are under the JOBS Act, which is confidential filing with the SEC.

Now, these results reflect our ongoing commitment to managing our growth and solid performance across our four industry verticals -- life sciences, technology, clean energy, and energy technology and special situations. We work diligently to potentially identify the right companies and the right timing to make investments in these certain verticals that we focus on today.

Now, turning my attention specifically to portfolio growth. As I indicated during our second quarter earnings call, we expected that Q3 2013 originations -- which is generally, by the way, our slowest quarter in originations -- would be light. And in fact, we indicated to our investors that we expect the third quarter to be light, between $40 million and $60 million, which in fact is what we ended up achieving.

Part of that decline in the portfolio was driven in part by the M&A activities that we became aware of. And as I said earlier, we don't know exactly when they're going to take place, but when we have a very solid assurances of any M&A activity that will be completed, we will include that in our guidance on portfolio activities on at least on a one-quarter basis in advance. Because of the strong M&A activity in Q3, we saw a very robust acceleration in earnings to $0.35 per share in earnings growth versus the estimate of $0.29 a share.

In addition, we remained very steadfast and disciplined in our underwriting and funding of new companies during the quarter. We have purposely been holding back liquidity as we remain very selective in making new investments and allocations, given the uncertain economic events that have transpired during that period and leading into Q4 2013. We also remain concerned about the increased frothiness of valuations we're seeing in the market, as further caution is warranted as we're evaluating new investment opportunities.

In addition, we anticipate the overall investment portfolio to once again step down or decline in Q4 by approximately $50 million to $70 million as we continue to hold back liquidity, and we expect to see an increase in M&A activity going on in the fourth quarter.

During Q3 2013, new commitments were approximately $102 million, while fundings, in turn, were approximately $69 million. Early principal repayments during the quarter, which includes both amortization as well as realized equity sales, were strong. We had over $132 million of loan repayments taking place, plus another $12 million on a cost basis of equity sales that were realized, equating to approximately $144 million of cash flows received during the quarter.

Again, I want to emphasize this strongly. We continue to be very selective in our new business and our new investment activities. We are actively and currently working on rebalancing and reducing that portfolio. What that means is that we are actively purging marginal credits. We are reducing purposely our large exposure to large, concentrated positions which had historically lower yields as we turn our attention to 2014. The overall result of this activity was a net portfolio decline of approximately $67 million on a cost basis as of Q3, or a decline of $58 million on a value basis at the end of Q3.

Early payoffs remain a tricky item to accurately predict. We try our best to give our investors some perspective as to early payoffs, but they remain aloof and difficult to predict. And if and when we have an indication of early payoffs, we will share that with our investors, as we typically have done from quarter to quarter.

Now, we continue to the high bar in terms of new investment activities. We remain cautious and selective about the investments that we add to our portfolio, and we care more about credit quality than we do about necessarily earnings or portfolio growth if those particular verticals do not make sense. We find ourselves looking at a very frothy market in various industries and some segments of the market, and we do not like the valuations or the opportunities that we're seeing today. This means that we're choosing to be very selective and waiting out certain investments.

While others may see that opportunity to take advantage of that marketplace, we are not. We remain very disciplined and committed, not sacrificing credit and not sacrificing asset quality for portfolio growth. And if that means delaying or missing earnings growth for one quarter or another, we will do that in order to protect and maintain a high level of liquidity and a very strong balance sheet.

With that said, we finished the quarter with over $205 million of cash on the balance sheet compared to $130 million of cash at the end of Q2. This in itself amplifies our focus on credit. With this ample cash and access to an abundance of liquidity, we feel that we're well positioned to enter 2014. There are many issues that we're looking that need to get mitigated in the market for us to wade back into the market in a meaningful way. We will still, and continue to make, new investment activities, but we will not increase the investment activities if we don't believe the credit quality and the market opportunities are there.

That said, we finished off the end of the third quarter with very strong and very solid unfunded commitments. We have over $170 million of unfunded commitments. To remind our shareholders what unfunded commitment means is that we have signed an executed term sheet and in place fund-secured agreements which represent, in essence, backlog of the ability to convert that unfunded commitment to earning assets. That in itself is a backstop to potential future earnings that reside on our balance sheet today that we can unlock if and when those assets become funded interest-earning assets.

I would like to remind our shareholders that the power of unfunded commitments and cash on our balance sheet will translate into significant future earnings growth. As an example, if you look at the $200 million cash on the balance sheet, and for the sake of illustration, let's assume that only $100 million of that cash is invested in interest-earning assets. If you assume the current yield of our portfolio on a normalized basis, excluding one-time events in our yield, assuming a 14% yield in our existing share count today, $100 million invested at 14% would equate to approximately $0.20 to $0.22 in annual earnings alone. And I'll remind everybody, we have over $200 million cash on the balance sheet and over $170 million of unfunded commitments that could quickly turn into earning assets if and when they would fund.

Now let me turn my attention to credit. Hercules has always been, and will always be, a credit organization, not a market share-driven organization. Our historical credit performance and credit outlook remains stable to very strong as we continue to rebalance and prepare for 2014. We remain very diligently monitoring credit, and we continue to take the necessary preemptive steps to rapidly address any signs of trouble developing within our portfolio. I would like to remind our investors that we invest in unproven, innovative, development-stage companies who require future rounds of equity capital and milestones in order to be met to secure new rounds of equity capital in the future to fund ongoing development and build out their business models.

Many of these companies may or may not be able to secure future rounds of equity capital. With our experience, we work diligently to identify those that we believe have a greater likelihood than not of securing future rounds of equity capital, which is self-evidenced in our historical performance and creditworthiness of our portfolio over the last almost 10 years.

As we continued to outline during the earnings call in 2002 (sic), we have seen a growing sign, or should say early signs, of credit concerns developing in the broader marketplace. This is another reason why we have been holding back liquidity purposely. These are seen macroeconomic variables in the marketplace that lead us into have some concerns on credit underwriting and want to take and continue to pursue our growth strategy of slow and steady.

We refuse to pursue investment opportunities that don't meet our underwriting or pricing parameters or criteria. This is reflected in our ability to maintain our effective normalized yield of 14%, which actually went up by 10 basis points during the quarter. You will see from our financial statements that our overall yield was in fact significantly higher than that, at 17.7%, which includes one-time fees, which Jessica will elaborate and we will expand further during the Q&A.

We generally remain on the sidelines of early-stage technology companies. We find that many early-stage technology companies lack the merits of their business models and lack significant uncertainty of their potential next financing rounds of equity capital coming in. We find that early-stage investing right now remains an area of concern for ourselves, although that does not mean that we're not actively looking at early-stage companies. We are just simply highly selective on those early-stage companies that we will invest in.

Patience and discipline is our mantra, especially as we balance our portfolio going into 2014. We remain very concerned about the accelerating and frothiness of valuation that we're seeing in many of our companies today. We've seen examples of private technology companies that are exceeding the valuation of the public peers and, frankly, we don't understand that.

Now turning our attention to yields. Unlike many other BDCs, Hercules continues to experience stable to slightly widening yield spreads. As we have seen our yield increase by approximately 10 basis points, I am proud to say that we have maintained pretty consistently a yield of 14% and, in fact, culminating with a 14.3% yield at the end of Q3 2013. This is driven in part by our own making by rebalancing our portfolio, and considerably shedding away or divesting ourselves of large credits that generally have lower yields as we rebalance the portfolio and focus more attention to our venture-stage companies in certain verticals that we are focused on.

As I said a minute ago, our overall GAAP yields were extremely strong, at nearly 18%, or 17.7%, to be specific, driven by the exceptional strong M&A activities that we witnessed during the quarter. With 16 announced and completed M&A events, these one-time fees and fee accelerations certainly helped meaningfully to contribute to that yield expansion that we saw in the quarter. However, unlike most BDCs, Hercules feels that it's important that our investors look through that overall yield and look at the more normalized yield, taking into account the step-downs of the one-time fees, which leads you to the 14.3% yield. We do not, however, expect these yield trends to continue much beyond 2013.

Now moving on to the balance sheet. Over the last few years, we have worked diligently to broadly diversify our many sources of financings and strategically spend our source of funding for our balance sheet. We have moved the balance sheet almost entirely on the asset side to floating-rate loans and on the liability side to all fixed-rate liabilities. In layman's terms, we're well-positioned and rate-sensitive to any movements in rates to the benefit of our shareholders.

This methodical focus on our cost of funding has been translated into a widening NIM, or net interest margin, which currently now exceeds 13.6%, up from 11.54% in Q2. We are probably one of the few BDCs out there that has a NIM as wide as this and an effective yield as high as 17% or 14% overall. This is not purposeful. This is done with a lot of hard work from our team on diversifying our balance sheet and widening our yield spreads as we originate and lower our cost of funding overall for the benefit of our shareholders. In addition, Hercules is well positioned, as I said, with over 90% of our loans that are floating-rate loans, either based on LIBOR or prime-based floors.

In addition, on our balance sheet, not only do we have all of our outstanding liabilities with fixed-rate interest rates, the earliest maturity of any outstanding liability on the balance sheet today, excluding securitization, is April 2016, which is our convertible debt offering, which means we do not have any immediate cash flow needs in order to retire or service the debt beyond simple interest payments that are generally done semiannually or quarterly on our outstanding debt balance today.

As I said earlier, we have a very strong balance sheet with over $310 million of available liquidity or dry powder to make new investments, of which $205 million of that is cash on hand on the balance sheet, and $105 million of that is available credit facilities.

Now let me turn my attention to leverage. There seems to be a lot of confusion when it looks at Hercules and understanding our leverage. Part of that is driven by an exemptive order from the SEC, and I apologize because an exemptive order, when you look at the SBIC, the combination of that is very significant. So let me take a stab at trying to provide some clarity here on behalf of our shareholders.

Today, our net cash GAAP leverage is approximately 57%. By use of the word "net GAAP cash leverage," it's in essence looking at the overall balance sheet leverage and deducting $205 million of cash divided by our net assets of $643 million. That will yield approximately 57% leverage.

On a more simplistic way, our GAAP leverage, excluding the impact of the $205 million of cash on the balance sheet, we have approximately 89% GAAP leverage that excludes the cash benefits of the balance sheet. Now, as I said a minute ago, because we're an SBIC funded with two licenses from the SBA, and we have an SEC exemptive order, we are able to exclude from our total leverage pool $225 million, which refers to regulatory leverage of 1-to-1 tests. Because our ability to exempt the $225 million of SBIC leverage, Hercules is thereby able to pro forma leverage itself to 1.34 to 1. That is 1.34-to-1 ratio compared to the 1-to-1 the rest of the BDC industry that may not have an SBIC exemption.

However, it remains our focus that rather than tapping the full 1.34 leverage, that we prefer to approach leverage points of between 1.2 to 1.25, depending on market conditions. And as I said earlier, on a GAAP basis, we're at 0.88 today. On adjusting for cash, we're only at a 0.57 leverage basis today -- plenty of room to further leverage our balance sheet. And in fact, we have approximately another $290 million, if we so choose to, to comp an additional leverage to grow our earnings further if the market opportunities were there in the marketplace today.

Now, Q3 was an outstanding period and truly helped drive further awareness of the potential value that can be unlocked from Hercules' existing warrant portfolio and equity positions. Hercules today has approximately 116 warrant positions and 37 unique equity positions in various technology and life sciences companies today.

Q3 represented a pivotal accomplishment for Hercules, as we experienced a very robust M&A and IPO exit market and healthy gains from our equity and warrant portfolio. Thanks to improved venture capital market exits in both M&A and IPO, we are quite thankful for those markets finally aligning in the right direction. During the quarter, we realized valuation in many of our companies and ended up the quarter with approximately $7 million of realized gains during the quarter, as evidenced in our P&L statement.

As I said in the beginning opening remarks, year to date, Hercules had 23 completed M&A events and IPO events this year, a record by all accounts on Hercules. And during the period and in the second quarter, we had one company also achieve an IPO and M&A event at the same time, and that was Anthera, that completed an IPO and then quickly thereafter, it was acquired by AstraZeneca for $400 million.

As evidence further of this robust exit environment, in the first month of the fourth quarter, i.e., October, we had already one company complete an IPO filing, and we had three completed M&A events. Virident completed an M&A event, realizing a $7.5 million gain to the benefit of our shareholders. Lanx completed its sale for a $2 million gain, and Purcell Systems completed its sale for a $600,000 gain for the quarter as well. As I said, we had two completed IPOs in the quarter so far in third quarter 2013. Further evidence of some of the IPOs that occurred in the third quarter were Acceleron and Bind Therapeutics and, of course, ADMA, I said earlier, completed its IPO recently.

Now, turning my attention to the exits in the portfolio, we have 116 warrant positions that are currently valued at $34 million as of 9/30/2013. I'd like to remind our investors that we realize exits in our warrant portfolio of anywhere between 1X to as high as 14X. We do not think those are exit multiples that should be used. However, we also like to remind our shareholders that we never expect more than 50% of our warrant portfolio would ever monetize. Our historical trailing multiple on our warrants realized is just under 4X multiple on a historical basis over the last nine years.

Now, let me turn quickly my attention to the venture capital marketplace and provide you a quick update on the venture capital activities. Q3 of venture capital fundraising was actually surprisingly strong. In Q3, the venture capital firms raised $4.1 billion by 62 venture funds. Year to date, the venture capital industry has raised an impressive $16.2 billion through the third quarter of the year.

Now, turning my attention to investment activity. These are the outflows by venture capitals into new technology and life sciences companies. During the third quarter, venture capital firms invested an impressive $8.1 billion to over 800 companies, basically matching the same levels in the prior quarter and the same levels we saw in 2012. Year to date, venture capital firms have invested approximately $23.1 billion, which compares favorably to that of the 2012 activity on a whole year of $32 billion. So we're on a very good run rate on new investment activities by the venture capitalists, and 2,400 companies have thus far received venture capital funding. This data, by the way, has been provided to us by Dow Jones Venture Source, which is the reference of data that we always focus on and use in our presentations.

Turning my attention to the venture capital exits, M&A events were quite robust in the quarter -- $9.7 billion to 111 companies that completed M&A exits during the quarter, up 11% in terms of the dollar size, and 25% up in number of deals. This is very important, since Hercules had 16 of those events were portfolio companies of Hercules during the quarter.

IPOs were equally impressively strong. We had 25 completed IPOs during the quarter in 2013, of which two were Hercules portfolio companies. Not to be left behind, right after the quarter, we had one portfolio company also go public, making basically three companies that achieved IPO events here recently.

Now turning my attention to the closing remarks of my presentation, now turning my attention to the outlook for 2014. We expect our investment portfolio to decline by approximately $50 million to $70 million. This is, in fact, driven by both rebalancing as well as continued M&A activities that we are aware of. However, I'd like to remind everybody that as much as we like to see the M&A events be completed and the impact on earnings, those M&A events are elusive, and they may or may not close. That said, we think that if the M&A events close, the portfolio should leg down by $50 million to $70 million during the quarter.

On a more macro level, we expect normal amortization and normal repayments to be approximately $100 million to $135 million of activities that we are aware of and are expecting to see during the quarter itself. As of November 4, our pipeline remains robust. We have over $1.2 billion of transactions in the pipeline. However, a strong or robust pipeline does not necessarily equate to or translate into earning assets because we remain very selective and very choosy on who we want to partner with and provide capital to.

That said, I want to once again remind investors, we have over $170 million of unfunded commitments. These unfunded commitments may turn into earning assets at any one point in time. Many of our unfunded commitments must meet or achieve milestones in order to make those commitments binding on our behalf.

That said, since the quarter ended, we've now closed approximately $27 million of transactions and funded close to $20 million of the transactions. We have $92 million of in-house signed term sheets that we are in the middle of completing due diligence on and expect to complete.

With respect to the remainder of the year and fiscal 2013, we expect 2013 to be a record year on many fronts, including fundings and new commitments. New commitments in 2013 are expected to be between $600 million and $750 million. But we remain cautious, given what we are seeing in the marketplace, the frothiness of valuations, that if this pace continues, we may end up at the lower end of the range, at the $600 million to $650 million range, as we continue to hold back liquidity if the credit quality is not there.

We're very encouraged and very happy to see the pickup in venture capital activity. We continue to be very happy to see the venture capital support that Hercules continues to see in the marketplace and the monetization of our legacy warrant and equity positions in our portfolio.

We continue executing across all our business lines. We're seeing very stable yields. We're seeing very stable credit outlook. We're well positioned for changes in the interest rate environment, and we most recently have been expanding our offices in New York and Virginia and continue to hire during this period of time as we prepare our portfolio for growth further in 2014 and align ourselves well for 2014, as evidenced in our balance sheet and all the activities we've been doing.

With that, I'll turn the call over to Jessica.

And thanks, Manuel, and thank you, everyone, for listening today. I'd like to remind everyone that we filed our 10-Q as well as our earnings release after the market closed today. I'll briefly discuss our financial results for the quarter ended September 30, 2013.

Turning to our operating results, we delivered total investment income or revenues of $41 million, an increase of 72% when compared to the third quarter of 2012. Year-over-year growth was driven by increased interest income from a higher average outstanding balance of the portfolio and increased fee income attributable to the early repayment of debt investments which, as Manuel mentioned, was $102 million during the quarter. Note that our period-ended net debt investment balance on a cost basis is $910 million. This is a decline of $57 million during the third quarter of 2013. However, this balance of yielding debt assets reflects a year-over-year increase of close to 28% from $711 million as of September 30 of 2012.

The all-in GAAP effective yield on our debt investments during the third quarter was 17.7%. Excluding the income acceleration impact from early payouts and one-time events, the effective yield for the quarter was 14.3%, up, as Manuel mentioned, by approximately 10 basis points relative to the previous quarter. We don't yields on a normalized basis, nor including accelerations and one-time events, to trend higher much beyond Q3, assuming some of the anticipated early payouts occur as scheduled.

Interest expense and loan fees were approximately $8.7 million during the third quarter of 2013, up compared to $6.1 million during the third quarter of 2012. The increase was primarily related to interest and fee expenses related to the additional $85.9 million of baby bonds issued in late September of 2012 and $129.3 million of asset-backed notes issued in December of 2012. This was partially offset by a decrease in interest and fees related to our refinancing of approximately $50 million of SBA debentures that transpired over the course of the last year.

Our weighted average cost of debt, comprised of interest and fees, was approximately 6% as of the third quarter of 2013 versus 6.7% during the third quarter of 2012. The lower weighted average cost of debt is primarily attributed to the $102 million of notes out at quarter end, which are attributed to the securitizations which bear interest at 3.32%.

Operating expenses, excluding interest expense and loan fees for the quarter, totaled $10.8 million as compared to $6.5 million in the third quarter of 2012. This increase is primarily due to the addition of net 11 employees during the 12-month period ended on September 30 of 2013 and due to the year-over-year increase of $3.7 million in quarterly variable compensation.

Q3 of 2013 net investment income was $21.6 million compared to $11.4 million in the third quarter of 2012, representing an increase of approximately 90%. Net investment income per share was $0.35 for Q3 of 2013 as compared to $0.23 for the same quarter ended 2012.

We recorded approximately $9.3 million of net unrealized appreciation from our investments. Of this total, $50.2 million of appreciation was due to market or yield adjustments and fair value determinations. $3.5 million of depreciation was primarily attributable to collateral-based impairments on debt investments, and $2.4 million of depreciation was related to the reversal of previous quarter unrealized depreciation in conjunction with the sales of warrants and equity investments.

Our net realized gain for the third quarter was approximately $7.1 million. We recorded $7.8 million of gains, primarily from the sale of investments in three portfolio companies, and this was offset by the liquidation of investments in eight portfolio companies, for gross realized losses of approximately $700,000.

We ended Q3 of 2013 with total investment assets, including warrants and equity at fair value, of approximately $983.4 million, an increase of $209 million, or 27%, from a year ago. And as mentioned before, net down by $67 million from our investment portfolio balance of $1.04 billion as of June 30, 2013.

This current quarter decline was a result of significant debt investment payoffs totaling $102 million, combined with normal amortization of $30 million, and the sale of warrant and equity positions, including our 2012 investment in Facebook, which had a cost basis of $9.6 million.

I will remind everyone that amortization typically commences after 9 to 12 months of interest-only period on our term loan, and it is scheduled to occur over a 36- to 42-month timeframe. Given the recent growth of our investment portfolio, apart from earlier payments, we currently have scheduled $35 million to $40 million for normal principal amortization to occur per quarter.

Moving on to credit quality, as Manuel mentioned, our loan portfolio credit quality remains solid. The weighted average loan rating on our portfolio was 2.13 as of September 30, reflecting a very slight increase from 2.11 reported at the end of Q2. We had seven debt investments on non-accrual at the end of the quarter with a cost basis of $15.9 million and a total fair value of $3.1 million, representing less than 0.3% of the total investment portfolio.

Now to liquidity. At the end of the quarter, we had approximately $310 million in available liquidity, which included $205 million in cash and $105 million in credit facility availability. At September 30, our total debt-to-equity leverage ratio, excluding our SBA debentures, as Manuel mentioned, was 88.6%, lower than 92.9% as of June 30 due to net asset value growth and approximately $8 million of paydowns on our secured station notes.

Again, a reminder that our $225 million of debentures are excluded for regulatory leverage calculation purposes. This exemption effectively allows us to leverage beyond the 1-to-1 debt-to-equity ratio up to 1.34-to-1. Our net leverage, which is calculated as total debt of $570.1 million less $205 million of cash, divided by total equity of approximately $643.4 million, as Manuel mentioned, was 56.7% at the end of September.

Our net asset value as of September 30 was $643.4 million, or $10.42 per share compared to approximately $621.8 million, or $10.09 per share, as of June 30 of 2013.

Finally, we increased our quarterly dividend by $0.03, or by greater than 10%, from $0.28 to $0.31 to be paid to our shareholders in November.

In closing, as Manuel mentioned, we will continue to take a cautious and steady approach to onboarding assets in Q4 as well as throughout 2014. We're currently expecting the net portfolio decline for the fourth quarter to be down $50 million to $70 million. And we're committed to our strategy of controlled growth and intend to continue to apply our stringent underwriting standards, which have resulted our exceptionally low historical loss rate, as we enter the final quarter of 2013.

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

(Operator Instructions.) John Hecht, Stephens.

Guys, congratulations on a great quarter and the dividend hike. Just regarding the revenue side of the quarter, of the interest income, how much of it was OID and fee oriented on the interest income side?

That component of our revenue has been really consistent over the past couple of quarters on a normalized basis. It's less than 10% of that total line item.

Okay. And if repayments stay high, like you expect them through Q4, would the fee income line and that type of contribution to revenues be consistent, or how should we think about that?

Yes, it's difficult. It's once again a function of where the Company is in its life of the loan with respect to Hercules. So, of course, if it was a loan originated in 2013, it would have a substantial one-time fee, which would hit, once again, the fee line. It might be a deal that had a very large warrant coverage or a warrant that had a very high intrinsic value on day one, which would result in a high OID component.

So I guess, and that's what I'm trying to tell you, is that it's difficult to predict without knowing more about the portfolio companies which will be paying us off. As Manuel mentioned, we will be expecting that there will be more repayments from our larger, lower-margin credit. And usually, those don't have high OID components, because when we originated those investments, we didn't go into the position looking for a high warrant return, so we don't have a high warrant coverage, necessarily, on those investments.

So based on that color, you could see that there would be a higher generation of fee revenue relative to interest acceleration as a result of the early payoffs that will happen in the quarter. And those are more mature credits as well. They're not portfolio relative to early payoffs that have happened in previous quarters.

Okay, that's good color. Thank you. When you were talking about fundings versus commitments, the relationship with them kind of normalizing, what do you think is driving this, and what is the general time to convert a commitment to a funding in this part of the cycle here?

Well, that's a good question. I think if you look at our data in this quarter, that we had approximately $100 million or so of commitments and about $69 million of funding. So the ratio is still trending slightly lower than historical levels. Historical levels, for the benefit of the investors on this call, has been averaging 75% to 80%, and we're still seeing, although up from Q2, a 65% level, we're at 69%. So I don't think that's going to change quite meaningfully.

And we're purposely driving that right now by having much more risk mitigants in our credits by having these milestones involved. And so what we want to see is a much more higher validation of the business models in traction before we commit meaningfully more capital to these companies, and really align ourselves with their quest and their achievements with our risk mitigation strategy. And that's one of the things that we're doing here.

Okay, that's great. And then final question, a little bit related to modeling. Jessica, you highlighted that part of the increase in the comp line was related to additional hires. I assume some was also performance related, given the strong quarter. Can you give us a good normalized number coming out of this quarter, or should we just use that as a going-forward number?

No, I think that number this quarter is certainly inflated. I would argue that the number this quarter is probably inflated on a normalized basis by probably about $1.5 million or so when you actually normalize it. Although we had net 11 new hires over that period of time, those hires are in various levels of the organization. So they have various levels of SG&A contribution or impact, I should say. But this quarter, clearly, as you rightfully pointed out, given the elevated liquidity events and strong achievement, incentive compensation was increased in the quarter. And so I would just back off probably $1.5 million or so on a normalized SG&A from this quarter.

All right, thanks, guys.

Aaron Deer, Sandler, O'Neill and Partners.

Manuel, I just wanted to follow up on your comments. You sound like you're taking a fairly cautious approach to your investments, particularly in light of your look for a step-down here in the fourth quarter. But with the new hires that you've been making, and it seems like you've been very active on that front, I've got to think that as they ramp up, that that should be able to offset some of this prepayment activity. So I'm just curious. What's your outlook heading into 2014? Can you get back to the strong double-digit growth pace that we saw this year, or is that off the table at this point, given your current outlook?

Well, this is one of the funny things about running a public company. Either investors call me up that I'm growing too fast, and I have other investors calling I'm not growing fast enough. So I've learned as a public company that I can't appease everybody, and we have to do what's competent and important for us.

So your question is an important one. So we don't expect new hires' contributions to not really come online for six to nine months, and the reason being is that we like to have new hires get immersed in our credit culture and understand the parameters by which we underwrite. And we'd rather have them take that six to nine months apprenticeship period of time to really understand what we're doing and understand the credits that we're looking for or a straight investment opportunity that we're looking for.

And so I don't expect most of these new hires to come online from a contribution point of view. And to your point on seeing meaningful portfolio growth, purposeful, not until probably the second half of 2014.

Okay, that's helpful. And then where, in terms of -- you mentioned the number of new hires during the quarter. Where does the actual, in terms of your front line guys who are drumming up business, where does that number stand relative to a year ago?

I don't have that in front of me, but I'm going to go off the top of my head here. I believe that number should be probably -- well, a year ago, we had some lower middle market guys on that team that we since then have materially vacated lower than the market and moved to special situations. So on a net-net basis, we're probably relatively even.

However, what you'll see different is that we have been adding purposeful into our technology group. We are positioning ourselves to really look at technology in the second half of 2014. We actually think that this wave of M&A events that are going on right now will eventually cull out the field a little bit and then give rise to a new crop of more promising companies that have much more realistic valuations of companies turning into the second half of 2014.

So we're expecting some fairly significant contributions on growth on our book on the technology side some time in 2014, the second half of 2014, as I'm expecting to see some evil technology contribution.

Okay, that's great. And then just one last question, if I may. The prepay fees have been a big contributor of late, and I'm just wondering, given to the extent that there's been competitive pressures and stuff, has there been in any change in how you've been with the terms on recent loans with respect to prepayment penalties? Are recently books loans have the same kind of prepay penalties that loans had, say, booked two years ago?

Yes, nothing has changed, which is why we're maintaining the liquidity that we do. We're not -- we're new entrants into this market. We'd rather just wait on the sidelines and have them take their fill because the greatest thing about making venture debt investing is just because the opportunity exists does not mean you should fill the order. And in this business, if you don't know what you're doing, you could quickly originate $100 million or $200 million of assets, and 12 months later have a $75 million loss on your hands.

Greg Mason, KBW.

Great, good afternoon, and great quarter, guys. I wanted to talk a little more color on the prepayment kind of fee income in the quarter. In the press release you gave good color that 17.7%, but excluding that, it was 14.3%. Could you put any kind of dollar basis on that 3.4% yield difference that's kind of one time this quarter from the accelerations?

I'm sure that the accelerations were about $4.5 million of revenues from -- driven by the company that paid us off during the quarter. And then there were some one-time fees also, which made up the balance of about $2 million.

So, Greg, you've got to be careful because the problem is on our GAAP accounting. Some of the fees can be reconstituted into interest income. So you have a balance there. So when you look at our fee income, basically -- approximately $4.8 million -- you have a normalized fee income that is so-called one-time fees that is pretty consistent at the $1.5 million to $2 million level; that's pretty consistent. So any delta above that is going to be driven by prepayment fees that are coming in acceleration of certain income fees that are on the balance sheet. They're deferred, but the problem with that, some of that deferral acceleration is actually recorded interest income as well.

Right.

Okay, great. I appreciate that color. And then talking about the dividend increase in the press release, and you've talked about this in the past, that you want to have a variable dividend, and just curious -- is the increase this quarter related more to a lot of the prepayment fees and strong earnings in, likely, the third and fourth quarter, but again, with the portfolio kind of reduction that you're seeing from the repayments, that may have some pressure when that rolls off. How are you thinking about more of the longer run of the $0.31 dividend that you guys announced this quarter?

Well, you're absolutely correct. Our policy has always been since, I think, 2007, it's been a variable dividend policy, and our preference is to always cover our dividend.

There's a strong earnings growth in the last two quarters, and our spillover that we have in 2012 to 2013, I think that we're accumulating a sufficient number of undistributed earnings that can translate to future dividends as well. And you're right. The one-time fees certainly have contributed to that continuous increase in dividend as you witness a $0.35 NII earned income or DONI over that number and only paying out $0.31, that we are accumulating potential dividend spillover to 2014.

As to the coverage of the dividend in 2014, clearly, as the portfolio is being harvested, the earning assets are slightly going down. But I feel very strong that our team, as we continue to cull through many opportunities, that that decline in portfolio will probably be made up here in the next two to three quarters with our typical origination activities.

We're purposely being choosy right now. To give an example, if we so choose to lower our dividend yields -- excuse me -- if we so choose to lower our origination yield to be very aggressive here for the sake of this discussion, illustration, say, to 10%, we could easily go out and deploy $200 million of assets relatively quickly.

We're choosing not to chase down yields, and we're choosing to focus on credit quality, and we certainly will not do an abundance of second lien lending, which I, frankly, don't understand in the venture lending world why you would ever do second lien lending in venture debt. That's called equity in my book.

Great, I appreciate the color. Then one last question. In the subsequent events, you've said you've basically had about $10 million of gain so far in the fourth quarter. How much of that is already baked into the fair values at 930 --

All of it's taken.

Robert Dodd, Raymond James.

Two questions -- going back to that competitive question. We've talked before about not doing -- I'm laughing at it -- a disinclination to do second lien, et cetera. How much of this discussion you've had in terms of sitting on the sidelines, et cetera, is the new entrants where a fair number of those guys are being fairly conversive on the second lien side, and that's not something you'd do, anyway, versus the more senior bank type vendors that you compete with, having their growth targets and rushing to put capital out the door. Any more differentiation you can give us between who is driving the competitive issues?

We certainly welcome all the new entrants into the asset class because they're helping us get rid of bad credit. So I think it's great, and, as I said, in all seriousness. Just because the venture debt lending asset class has a 14%, 15% to 16% yield on it does not mean that you know how to do this business. This is a very, very difficult business to do and requires a high level of expertise on origination team. You have to have verticalization in your origination teams. You can't have a generalist look at a life sciences deal, then turn around the next morning and do a technology deal.

You could try that, but after being doing this as long as I have, you will probably end up losing money relatively quickly. You have to understand the ebbs and flows of these various industry verticals. You have to have a technology perspective of what's going on in these sub-verticals you're investing in. And, frankly, I mean this in all sincerity, I do not understand second lien lending in venture debt.

Unless a company is a significant mature company, you are being convinced to do second lien lending behind a bank that will have a stand-still period, and you're not getting paid for that risk profile. When your desperation puts assets to work, you are basically kicking the can -- the inevitable, which is a principal loss that will probably happen.

You need to be very judicious, and if others want to sit here and do second lien lending, we will wait on the sidelines and let them take their fill and do all the second lien lending they want. We will not pursue that strategy, and we think that strategy is deadly flawed.

Appreciate that. The third question -- on the color you've given for the fourth quarter, down $50 million to $70 million, you said that's predicated on the assumptions of various M&A activities do happen in the fourth quarter, in which case you reap the income to go with them. Any color you can give us on -- given those are very, very hard to predict, what would you expect the portfolio to be if they don't happen?

That's a great, insightful question in terms of the magnitude. There are literally -- it can be up to a $50 million swing in the portfolio. In other words, I indicated at $50 million to $70 million, it could be down in the portfolio in the fourth quarter. If two of these M&A events that I am aware of, as an example, do not occur, you could see the portfolio basically flat to slightly down by $10 million or $15 million.

This is driven, in large part, by four particular credits that we are aware of that are actively engaged in M&A transactions, and as we all know, M&A deals may or may not close. And so it's a very significant impact because if they don't close, earnings will be, obviously, back to a more modest level of historical earning rates, and if they close, they'll probably be slightly higher than our normalized earnings rate that they are.

And so it has a significant impact, and we do not control the M&A transactions, whether diligence or many variables that impact that. So I would say that, conservatively, anywhere between $40 million to $60 million of portfolio performance in the fourth quarter is directly attributed to the three or four companies that may or may not execute a complete M&A event.

Douglas Harter, Credit Suisse.

You had mentioned something about some concerns about increased, sort of lax standards on the credit quality. Could you just give us a little detail on that, Manuel, and what you're seeing in the market?

Yes, I mean, one of the examples we just talked about is the senior second lien lending, more recently known as senior stretch. You have interest-only periods, in some cases, basically a bullet. When you do a bullet loan in the venture lending world, I don't understand why not just call it equity and realize that you're getting paid less for that risk profile that you're doing.

So some new entrants into the asset class are obviously eager to put money to work, and certainly try to get their hands on these yields. And in doing so they will do -- well, what we consider to be little silly transactions.

And that's fine, I mean, look at -- I applaud them, I think it's important that we have new players into the asset class. It helps dilate the asset class. I think that these players are also very savvy. And so it's only a matter of time before they'll realize some losses. They'll reach outright the origination activities, and we now have very good players in the marketplace. So it's not all bad. We're just choosing not to follow everybody down that rabbit hole.

And, I guess, following up on the benefits of having additional players in this space, how do you think that that will ultimately play out in terms of available liquidity or better terms in terms of financing?

I think, really, what it does is -- I mean, this is why I welcome these other players. I think it's important, because as other players are out there originating, it's expanding the awareness of the asset class to rating agencies. It's expanding the asset class awareness for the Wall Street players out there. So it allows us to expand more of the awareness out there.

Now, that said, more does not necessarily make it better, as we've seen in history. Sometimes more will start driving margins to lower margins out there, and eventually there is a point of diminishing return where the venture lending industry, if margins are too sharp, and you start experiencing losses, you're not going to be able to recover your principal, and you'll have, in essence, what's called a death spiral, and you'll simply run out of money because you'll start generating losses much faster than you can generate -- realize gains.

And I've seen this cycle play out more than once in my career. And when it gets frothy, as we say, as we're doing right now, we'll simply go on the sidelines. We have plenty of earning power, we have plenty of liquidity in our balance sheet. We care about spreads, and we're going to be judicious. We're not going to simply go originate to originate. This is not what we do.

And I guess along that, in your past experience, how long has it taken the frothy markets for other players to recognize some losses and the opportunity set to start improving?

Sure, as I said on my remarks, those ventures need to realize that venture lending is investing in companies that are development-stage companies. These companies generally run out of money every nine to 14 months. And their business models are completely predicated upon achieving milestones and securing new rounds of financings. If they don't achieve those new rounds of financings, those companies are going to be liquidated or sold off in some form of merger or shut down with little to recover from.

So anybody can go out and originate $100 million or $200 million in assets and have a loan pool of $200 million. That doesn't take a lot of effort. It's scaling that effort and really understanding the ability to manage a multiple -- multi-faceted portfolio with various levels of maturity in different stages of the company's development, which is quite taxing and quite difficult to do.

Size matters in this asset class, and it's an important part of the asset class, because if you're small, and you're taking a $5 million or $7 million hit, you start eating away at your net asset value relatively quickly, and then you're going to start diluting your shareholders by issuing shares below net asset value and will also limit your ability to get any additional debt on your balance sheet because of your historical credit performance. So discipline is quite important in this asset class.

JT Rogers, Janney Capital.

The first question -- I don't know if I missed this in your earlier discussion. What is the aggregate warrant exercise price of the 116 companies that you have investments in?

$35 million -- oh, sorry -- the overall face value of that, the nominal value of the whole warrant pool?

Yes.

It's probably $70 million or so.

Right, it's $73.2 million.

It's officially -- the number is $73.2 million.

Okay, great. And then shifting gears a little bit, looking at credit, it looks like there's six new non-accruals during the quarter. I wonder what's driving that? It seems like they're focused on the Internet consumer and communication and networking industries, and a lot of those investments are 2012 investments. I was wondering if there's any sort of theme or if those are at all connected?

No, they are very connected, and it's a very important question you just asked, which is the other thing that's missing from your question was the size, the average, of those deals, and they're all generally in the sub $1 million to $2 million range, i.e., early stage.

This is why -- our own portfolio is a leading indicator of what we're seeing in the marketplace, and this is why we purposely are shying away from early-stage technology today. There is an interesting evolution going on in the venture industry right now, and the chasm of death is a series B, series C round financing right now, and that is an area that is currently lacking of venture capital funding, which is why we are waiting out the cycle right now.

That's exactly -- those three categories that you mentioned are the areas that we are purposely avoiding and stay purposely avoiding.

Okay, and then just -- and one of those, I guess, one of the larger ones was Point One. It looks like that's something that you guys have invested in, in the past, and then was actually -- unless it was named something different earlier in the year -- was new this quarter. I wonder if you have any detail there?

Point One is an old legacy investment. In fact, we talked about Point One ad nauseam on Q2. To refresh everybody's memory, Point One was a company that was a merger between two portfolio companies. It's in the telco space and actually went through a bankruptcy filing in order to cleanse itself from certain liabilities and certain regulatory issues and has re-emerged, and the buyer now is building that company back up again.

We had had a pretty meaningful recovery on that write-down on that investor from Q2 to Q3, so that's actually recovery. That said, we probably have -- I don't have the exact numbers in front of me -- probably a net loss in that position somewhere in the neighborhood of around $2 million on our ballot. But we can get you that data point after the call, if you like. But, yes, that's an investment. It's an old investment that's been on our books for quite some time, and we will be fully out of that credit at the end of Q4.

Jon Bock, Wells Fargo.

Excellent quarter, guys, congratulations. One quick question as it relates to warrant valuation. Manuel, in the past, you talked about there were times where you would de-emphasize the value of the warrant in order to increase the cash coupon one would receive, and that would effectively lower the all-in OID and then the subsequent amortization of that OID if that -- if an M&A event occurred.

Where do you stand on the valuation of the warrant today? Is it frothy, in your opinion, or is it something that is now carrying some additional value based on economic improvement?

So here is an opportunity where I could say one of my favorite words -- it's both. And here's why. My legacy, or our legacy warrant portfolio, is clearly benefiting from the frothiness in the marketplace as translated into an increasing net asset value driven by warrant appreciation unrealized values. So we are getting the benefit of a legacy warrant portfolio experiencing a lift in that frothiness.

However, on new assets, we don't like the frothiness because the propensity to see upside on those warrants is becoming much more jaded, or much more opaque. And so we will actually shift away from increasing warrant coverages to other economic incentives on underwriting that help ameliorate the concern of a more volatile OID. So, yes, you are seeing a declining OID on new assets originations that we're doing purposely in that model.

And I guess with the increasing velocity, I mean, it would appear that the OID was a major benefit, or the acceleration of the OID was a major benefit to earnings. But if we believe that the new assets that are being put on the books -- generally larger, generally not carrying those substantive warrant valuations -- how should we think about the true contribution of the not-so-steady, steady amortization of OID in the future? Could that perhaps bias earnings a bit lower?

Well, not necessarily because, if anything, OID actually clouds earnings a little bit. So new assets are going to be originated are actually having lower OID, are going to have a cleaner, crisper yield, if you will. So actually the cash yield components, we have lower warrant coverages are going to actually translate into a cleaner OID -- sorry -- a cleaner effective yield, which has a lower OID component to it.

Got it. So maybe what would the difference, Manuel, be between one with less of a warrant coverage versus more -- I mean, obviously, it differs amongst industry. But what could that be worth on a true basis-point basis for new investments in general?

Well, I would be happy to answer that question, but I won't because that's a competitive advantage, how we structure price deals, that others are not necessarily pursuing in the marketplace. And so we're able to use those benefits of our experience and history to oscillate the contribution of yield components in different stage of the market evolution. And, right now, what I will say is that we're looking for less OID contribution on our effective yields than we historically would look to.

Okay, fair enough. And then just because of the substance and liquidity, just if I read correctly with $50 million of net portfolio decline as a result of payoffs, which do bring earnings upside, et cetera, flush with liquidity, could you walk through the reasoning and perhaps the use of the ATM over the next, let's say, three to nine months?

Look, if I can forecast nine months out, I'll be a genius. So we have -- let's not forget we have our lovely congressmen still have to go out to debate the debt ceiling and everything else here in early January or mid-January to February. So we already saw what happened the first time around, so this is one of the reasons why I'm keeping a high level of liquidity.

They didn't do a good job the first time, and I'm not necessarily betting they can do a good job the second time. So I'm maintaining a high level of liquidity for that reason. However, that said, our reason on maintaining a high level of liquidity is that we think the market is a little bit frothy. We want to see a little shakeout going on in the marketplace. We're still going to be originating, but I want to make sure that people heard what I said in the previous question. Although we are giving indications for $50 million to $70 million down in the fourth quarter, that is contingent upon these effective M&A events that get concluded or not.

And if they don't get concluded, you will see a -- obviously, lighter fee income being realized, and you will see the portfolio balances being maintained on a higher level. So there will be a positive or negative impact to each of those M&A events taking place.

I also want to call your attention to that we have to be mindful of $170 million of unfunded commitments that we have. A substantial part of that unfunded commitment could be triggering, in Q1 and Q2 of next year, that could nearly become funded assets and, all of a sudden, I recouped relatively quickly all of the lugging down of the portfolio that happened the last two quarters.

So we're not blind to that backlog of unfunded commitments that we have and that could be relatively quickly translated to earning assets, and we're right back where we were, if not higher than what we were, because of those assets -- those unfunded commitments becoming earning assets.

Okay, great, thank you very much. A wonderful quarter, a testament to your platform and franchise.

Andrew Kerai, National Securities.

Congrats again on a great quarter, to echo it again. Certainly impressive, and thank you for taking my questions. One question I have for you guys -- last quarter you'd talked about the yield benefit from purging some of your older, lower-margin, later-stage investments. You said that was supposed to condense in Q3. Could you just maybe give us an update on that and if that has played out within the third quarter.

Yes, I think if you look at our scheduled investment, our 10-Q in Q2 and scheduled investment in Q3, and obviously you'll see that further evidenced in Q4, scheduled investment, when we file that later on in -- early on in 2014. You will see us continue to be purposeful, the purging out of some of those later-stage credits because there is such a hunger for assets out there that we'd rather see some of those lower-margin, lower-yielding credits go away, which are much more prone to cyclical changes in the economy because they have much more lower nature -- sorry -- they have much more lower middle market tendencies, that they're experiencing higher cyclicality on changes in the broader economy.

So, with that said, there's an eagerness out there to absorb those assets, and we're more than eager to have those assets depart our balance sheet as we look to deploy in other venture lending platforms or other major lending deals that are out there.

So, typically, the lower-end market credits for us are usually anywhere between 200 or 400 basis points lower, is fairly typical. And as we get rid of those, you'll see our effective yields just kind of bounce up a little bit. And that process should be relatively completed, probably by the end of Q4 if the M&A events happen. If they slide, it's only by the end of Q1 they should probably be reaching an apex.

Okay, thank you. That's helpful color. So some of the investments that are moving out of the portfolio are actually your intentional purging; it's not just the liquidity events that you're realizing as well.

No, it's actually, as I said in my remarks, they're rebalancing. We are purposely rebalancing -- most people mainly knew the story. We have the ability to toggle within industry sectors, and we will shift within industry sectors when we see certain economic variables moving in one direction or another.

We also will shift within stages of development. So if you think we're going through a very robust economy, we'll go earlier stage, and we'll go higher technology. If we think we're going to a cyclical economy, where we have questionable growth outlooks and other concerns in the economy, we'll shift more life sciences and later-stage in nature. And we will literally toggle the portfolio. Within a 15- to 18-month period of time, we can reshape the portfolio to really risk mitigate in that environment because of the amortization.

Okay, thank you, that's certainly helpful. And then just one question about you guys certainly documented your feelings about the early-stage private tech marketplace and some of the frothiness in that market. You had a competitor of yours who came out and said basically that they were seeing a little bit of overheating in the later-stage life sciences market. Just wondering your thoughts on that and if you're seeing maybe some overheating from some additional capital being deployed in later-stage life sciences companies as well.

I know who made that comment. They're not -- they're good guys. It's an issue of size of your fund. I mean, clearly, you can't chase a $20 million deal when you have a fund size of XYZ. So size matters. They're good guys, they're good operators. It's an issue of they have to club up to get a deal done versus we can do a $1 million to $40 million transaction on our own balance sheet holds, and that makes a significant difference.

So their statement was actually not factually incorrect. I do agree with their comment that on the later, later stage deals, the larger credits, the $40 million or $50 million credits, we are definitely seeing the royalty finance guys coming down and doing deals. Royalty finance is not a new phenomenon; it's been there forever. Our team is well versed in navigating those waters, and our team is quite, quite good at what they do. And when it gets frothy, you know what? We're not embarrassed to tell you we're going to sidelines. We'll let that set of waves go by, and we'll wait.

Sure, thank you, no, that's certainly, that's certainly helpful. You know, I appreciate the commentary around that as well. And then my last question, just, how should investors kind of think about the potential for a special dividend here over the near term? Just kind of given that you're -- you know, (inaudible) distribute some of that excess spillover and come here over the next several quarters?

The dividend question is really not to punt the ball here. It's really a Board of Directors question. Our Board of Directors is clearly focusing on that issue. We are running various models to look at what is the best solution as to whether or not we just spill over? We do a special. We distribute it. There's a lot of variables in that equation. We have not made any decision on that.

You will see from our history that we have had spillover dividends, I think twice in our history. So we have a tendency to guide more toward the dividend spillover and sprinkle that dividend commensurately over the remaining. the next fiscal year, but we have not made any decision on that front. Our Board of Directors is clearly well attuned to that and certainly studying that -- the many options we have.

Great, thank you for taking my questions, and congrats again on a great quarter.

Thank you. And with that, I am showing no further questions in queue. I'd like to turn it back to Manuel Henriquez, CEO, for final comments.

Well, thank you, everybody. We appreciate you joining us on the call today. As usual, we will be doing non-deal road shows here in the future. If you would like to have us participate and attend a non-deal road show while we're in New York, Boston, or any part of the country, let us know. We're very grateful for your continuing contribution and support of Hercules, and thank you for your attention today. Thank you, Operator.

Thank you. And, once again, thank you, ladies and gentlemen, for joining today's conference. You may now disconnect. Have a great day.