Prospect Capital Corp (PSEC) 2009 Q1 法說會逐字稿

Hello. Welcome to the Prospect Capital Corporation's first fiscal quarter earnings conference call. All participants will be in listen-only mode. There will be an opportunity for to you ask questions at the end of today's presentation.

(OPERATOR INSTRUCTIONS.) Please note, this conference is being record.

Now I would like to turn the conference over to Mr. John Barry, Chairman and CEO. Mr. Barry.

Thank you very much, Amy. Joining me on the call today are Grier Eliasek, our President and Chief Operating Officer, Brian Oswald, our Chief Financial Officer and Bill Vastardis, our former Chief Financial Officer. Brian?

This call is the property of Prospect Capital Corporation. Unauthorized use is prohibited. This call contains forward-looking statements within the meaning of the securities laws and are intended to be subject to Safe Harbor Provision. Actual outcomes and results could differ materially from those forecast due to the impact of many factors. We do not undertake to update our forward-looking statements, unless required by law. For additional disclosures, see our earnings press release and our 10-K filed previously. Now I will turn the call back over to John.

Thank you. Our net investment income for the fiscal quarter ended September 30 was $23.5 million, or $0.80 per weighted average share for the the year, an increase of 199% and 105% from the prior year on a dollars and per share basis, respectively. Our results include approximately $0.34 per share of positive net investment income, resulting from the settlement of net profits interest in IEC and ARS.

Our net asset value per share on September 30, increased $0.08 per share from June 30 to $14.63 per share. We estimate our net investment income for the current second fiscal quarter ended December 31, will be $0.42 to $0.50 per share. We expect to announce our second fiscal quarter dividend next month. Now Grier Eliasek will comment on our investment activity.

On September 30, the fair value of our portfolio of 31 long-term investments was approximately $549 million. As of September 30, our portfolio generated a current yield of 15.5% across all of our long-term debt and equity investments, including interest and dividends. Last quarter, we completed three new investments which consisted of Castro Cheese, Tri-zetto, and Biotronic, totaling approximately $50.7 million, as well as follow-on-investments in the existing portfolio.

Additionally, we exited our investment in Deep Down for a 53% on an internal rate of return. RV industry has also repaid our $7.5 million of debt. On September 30, we settled our net profits interest in IEC systems and Advanced Rig Services for a combined $12.6 million. In conjunction with the MTI settlement, we simultaneously reinvested the $12.6 million as incremental senior secured debt in IEC and ARS. The incremental debt will amortize over the period ending November 20, 2010.

Prospect is in discussions with interested purchasers for Gas Solutions, but has not yet enter interested a binding agreement. Significant negotiates continue. While Prospect wishes to unlock the value Prospect sees in Gas Solutions, Prospect does not wish to enter into any agreement at any time that does not recognize the long-term valve Prospect sees in Gas Solutions. As an almost fully hedged midstream asset generating predictable and consistent cash flow to Prospect, Gas Solutions is an asset that Prospect wishes to sell to value maximizing price or not at all.

Prospect has a patient approach toward the process. Prospect's multiyear puts purchased earlier this year are substantially in the money, providing down side protection to commodity price declines. Gas Solutions holdings has generated approximately $19.5 million of unadjusted plant operating income during the eight months ended August 31, 2008. On the annualized basis, this represents an increase over the results from the year ended December 31, 2007 of 127%.

Since our last investor update only two months ago, we have seen the significant shift in the opportunity set for capital deployment from the primary to the secondary market place. Given our low leverage, we're in an attractive position to benefit from an environment which distressed sellers look to deleverage their balance sheets by exiting positions. Given significant price and volatility, we have in the past two months chosen to observe the market rather than close new investments. And we expect to be rewarded by that discipline in the weeks and months ahead in the secondary market while still looking at primary opportunities. Thank you, I will now turn the call over to Brian.

Thanks, Grier. At September 30, borrowings under our credit facilities stood at approximately $131.7 million. We are currently seeking to increase our revolving credit facility from its current size of $200 million.

Over the past few months, we have worked with the rating agencies to structure an expanded facility of up to $400 million in size. We have not yet embarked upon initiating a syndication process for this facility due to the current credit environment, but we expect to initiate such activities in early 2009. The closing of the facility is subject to lender syndication and other conditions customary for this type of a transaction.

In the current quarter, we announced the authorization by our Board of Directors to repurchase up to $20 million of our outstanding stock. We will be disclosing any such repurchases in each quarterly report, beginning with our December report which we anticipate filing in February. Now I will turn the call back over to John.

Thank you, very much, Brian. We can now answer any questions.

(OPERATOR INSTRUCTIONS.) Our first question comes from Mr. [Gaff Rebirch at Koff, Tate and Kelton].

Thank you for answering my question. Nice quarter. I have a bunch of questions, but I will just start. First of all, I was wondering how are you guys -- are you guys changing your strategy at all? How do you see the Obama administration and their energy plans affecting the operations, especially in some of your nonrenewable resource producers?

Sure. This is John Barry responding. We were just discussing that at lunch. We do keep up with the national political scene as best we can.

What we find in our portfolio companies, though -- what we focus on is just basic blocking and tackling. We already have a renewable resource up in Maine, a biomass facility. We look at new renewables deals as they come us to. But in each case, we look at them on a fundamental economic basis.

We don't depend upon government subsidies and grants and incentives, and changing tax laws to make our investments economic. Although we do take those items into consideration, we need to see basic economic viability. Number two, we don't spend a lot of time trying to predict the future, either in the political or the economic or other realms. We look very closely at how these potential investments are doing right now. Thirdly, we are running a diversified portfolio so that I don't believe any significant change in renewable standards would have a material impact on the portfolio now.

Okay. That's good color. Thank you. I was wondering could you also give me an update on your reproach program? Do you have share accounts with how much you have repurchased so far and at what prices?

Remember, we put the share repurchase plan in effect after we saw our stock collapse in one day by several dollars. I'm not going to repeat the price, because it was fairly painful for us here and we don't want to see that price again. At the time, we would have liked to have been able to jump in the market and bought a significant amount of stock. We discovered we could not do that without getting authorization and also mailing -- amazing to me, mailing that decision of our Board to all of our shareholders which we did in the proxy.

Now we have the authorization. That means we can buy shares. That does not mean we have and it does not mean we will. It means we have that ability.

I can tell you that the share price is back down at that level which initiated the concept of buying shares, we will be very interested to do that. But at this point, I wouldn't assume that we bought any or assume that we will buy any.

Okay.

If and when we do, it will be reported at the end of each quarter.

Excellent. Thank you. I will just get -- ask one more then I will let some other people go. I really like the disclosure that you gave in your valuation about the range between your managers and independent valuers and where things came in on your portfolio. I think the range was something like $519 million to $570 million range on portfolio valuations. Was just wondering if you have any general commentary on where the discrepancies would come from -- were they more macro outlook or different assumptions on sales multiples.

Let me address that. Brian will have some words. As the portfolio gets larger, you're going to continue to see a range. Where does the range come from?

A brand new portfolio is going to congregate for each investment around the price where the investment was purchased. In many cases, [Houlihan] will provide a single point of valuation which our auditors do not readily allow us to depart from. When I say us, I mean the Board of Directors. As time goes on, the ability to provide a single valuation point erodes and a range develops.

As time goes on and the portfolio gets larger, you're going to have a larger percentage of the companies have a potential valuation range that is usually fairly narrow in the case of each individual company. If you aggregate 30 companies and all are worth between $8 million and $12 million, you have got a portfolio valuation of $240 million up to what, $360 million.

Okay.

It is just the aggregation -- all high-ends is the high-end and all low-ends is the low-end. It looks like a bigger variation than I think it really is. Brian?

I think the valuation firm utilizes some multiples. They use multiple ranges; very small gaps in those ranges, maybe a quarter to a half a turn. The interest rates for the debt securities, they are also providing a range there of what they think the similar assets would trade at. That's what generates the ranges.

We should add that this is FAS 157 compliant. There have been markdowns throughout the portfolio on debt securities, vis-a-vis indices. You will be surprised to hear that we don't always agree because we buy and hold investor holding -- believe we will be holding a lot of these to maturity and they are money good and seeing them marked down is frustrating. But that's the FAS 157 system and we're compliant with it.

Thank you, guys.

Thank you.

The next question comes from Jim Shanahan at Wachovia.

Thank you. Pardon me. I have a couple of questions, please.

First about about the dividend. Two of your peer companies have announced today fairly significant dividend reductions as well as changes in their dividend policy. Looking back at the history of your company, what really was driven home for me is that you have really taken a different approach with regards to the dividend and it looks like been pretty conservative overall.

For example last year, by my math the $1.91 in net investment income while you paid out $1.59 in dividends. I think the two companies in question were reporting metrics that were quite different, if not quite the opposite of your history. I would like to know what you think of their discussion, regarding evaluating the dividend after earnings from a particular quarter or year are determined before making any estimate or announcement with regards to how much will be paid out. Do you think that's a good strategy or do you think that you're comfortable continuing just to have investors assume a stable to modestly rising dividend over time.

Jim, this is John speaking. Other people here have other views which are, I am sure, additive to mine. I have noticed over my lifetime in the financial markets, that the most boring companies seem to be ones with the lowest cost of capital. By boring I mean, they will probably raise their dividend again another penny or two. Ho-hum.

Then when that goes on for 40, 80 years and people understand that the management is committed to a stable and steadily rising, if unspectacular -- literally, rising dividend. I think what happens is, two things that are very important for the shareholders of the company. One, there is some income dependability on owning those shares and people on fixed incomes and people who need this money, people who have obligations to meet, have something that they can depend upon. That we think is good for our shareholders.

Secondly, and also important, is that we believe that kind of dependability enables the Company to have a lower cost of capital than competitors who may be making just as much money or more, but who have a more volatile dividend stream. We believe having the lowest possible cost of capital is one of our obligations as management to provide that to the Company and to the shareholders. We have been very focused on that.

The third thing I would point out is that we have also noticed that it seems to happen over and over again. You walk into a room of people and think back to when you were a teenager, or 22 or 23, the most conservative middle of the road careful colorless unspectacular boring person was able to build up the biggest savings account. And so, we don't want to be heroes. We don't want to be out there taking big risks for outsized returns. We just want to be steady.

That's what we think we owe our shareholders. That is what we're selling to them. We intend to continue that. Now there is no guarantee that we will will be successful doing that because this is a business that entails risks. Every day is a new day and we can't predict the future, but we hope we can keep a steady and slightly rising to modestly rising dividend for a very long time. Grier?

Jim, to add to that, as you pointed out, others have pointed out, others have over distributed relative to earnings in that investment income in particular while we have underdistributed. I think it is safe to say, we take a lon- term perspective towards the dividend. While under GAAP it is not allowed to be -- put on the balance sheet as a de facto liability, we think it is -- we're rewarded over the long-term by treating it as such and making sure that we are not increasing the dividend past its sustainable level and have the ability to pay it out over long periods of time. Of course, that doesn't happen on auto pilot. That has to happen through performance as well.

I think others have also chosen when they have one outsized capital gain to then position to investors as if somehow that is propelled the business to a long-term significant dividend hike on a recarrying nature. When in fact all that happened was there were some nonrecurring -- a bump that came in. Perhaps folks should have paid a special dividend to those companies as opposed to locking or making people think it was in the recurring category. We're trying to be very careful. If that means we error on the side of underdistributing during periods of time, so be it.

I would just add my commentary that I'm not sure all these PDCs are going to make it, but Chris and I would strongly advocate policy more closely approximating what prospect has done and that we don't think it would necessarily be so bad to pay a stable and dependable, albeit low, distribution and then true up at year-. For what it is worth, that's our view.

One more quick follow-up, please, regarding the nonaccruals. Can you just discuss what is happening here with integrated and with Worchester and Energy Partners. Obviously not much on the books by way of fair value anymore, but these loans did put a nice drag on earnings this quarter. Any update on those two companies and --

Yes. Why don't I start out since I spend a fair amount more time than I like on both of those. First with Worcester Energy, this is one of those situations where it always seems -- it is like the man walking across the desert and there is always the mirage of the oasis another mile away. We -- no sooner do we get the wood prices under control then we have a problem somewhere else. The turbine, the electricity prices, and the [wreck] prices go down.

At this point, we are buying wood at a price that enables us to make a profit. That is actually -- by that I am not -- well, I might as well announce it because we have told everybody in Maine, $33. We're buying wood below that price. We should have been buying wood below that price for a long time. We were not. It is a somewhat complicated -- not that complicated story as to why not.

That is the foundation for having that plant be long-term profitable. Rather than listen to 101 explanations as to why we can't buy wood for $33 or less, we would just say we're not paying any more than that. Even if we have to shut the plant down so we're getting wood at $33 and below. We're not getting as much as we need, but we're getting more each day. That is very important.

Meanwhile, the electricity prices have dropped, the natural gas prices have dropped. That has been a negative. HydroQuebec, somewhat amazingly to us, is allowed to sell its renewable energy credit production into United States markets, into Massachusetts in particular which drives down the price that we get for our renewable energy credits. This was just a decision affirmed the other day. We're missing a little revenue there.

We're roughly -- we're within shouting distance, if you can shout loudly, of being breakeven. We just felt that at this point, we need to put this on to nonaccrual while we see how this gets sorted out if we can buy all the wood that we need, if the power price is returned. We have negotiated out of a burdensome electricity contract that looked great when we signed it, but isn't great when diesel and fuel prices go through the roof. Because when diesel prices are high, and they are about two-thirds to 75% of the cost of wood that you buy -- high diesel prices drive wood prices up. Now we got out of the contract that wasn't floating; now diesel prices are coming down.

We're moving in the direction of being fully on the spot. It used to be our view we needed to be hedged with long term contracts in every which direction so there would not be problems and we kept getting upside down. We're not going to do that any more. We're going to be on the spot as far as selling power and buying wood. With respect to -- what was the other company you mentioned?

Integrated.

ICS, there we have had more steady progress. Their subsidiary, THS, which is doing well, and better and better. We have Jerry Gregory running that for us.

To be candid with you, he does not have experience running that kind of a company, but he's doing a better job than the prior quote professional unquote management. Part of it has to do with just being integrity and honesty, and normal hard work. It is funny how helpful that can be when added to a situation.

I think we have increased the profitability of THS, anywhere from -- I think it is about -- up about 50%. Of course it never happens as quickly as we will like, but that is moving forward. And we may someday see recovery of all of our capital there.

We're doing a bank loan which is going to -- with Chase which is -- excuse me, with Wells Fargo which is going to payoff some of our debt. Kind of amazing to see money come back to us from that company. The other companies in that empire over there, ICS owns the stock of THS and also owns a building which we think is worth about $2.5 million to $3 million. We're either going to sell that building or refurbish it.

We have this business VSA, Veterans Securing America, incentive. It has been unfortunately slow in getting out of the starting blocks. If that does go forward, we think that that will create value, but we can't bring that to the bank now.

Jim, ICS has been on nonaccrual for I think 16 or 18 months so that's not a new --

Grier, are there any new nonaccrual loans in the December quarter?

In the December quarter?

Yes, sir.

No.

Thank you.

I think those are the only two, period, right?

Yes.

In the history of the Company, we have two.

Thank you, gentlemen.

Thank you, Jim.

Our next question comes from Henry Coffey at Sterne, Agee.

Good afternoon, everyone. John, it is -- this has been a really solid quarter. Congratulations. A couple of -- one real trivial question. What were your average fully diluted shares outstanding for the quarter?

29.52 million shares.

That's what I thought. Okay. The second issue, and I have heard you speak in this direction a lot, so I am highly encouraged.

It seems that there are no illusions out there in terms of where these markets will be going for the next 12 months. How prepared are you to really put the brakes on, hunker down, preserve capital, as you said, pay out or steady but sustainable dividends. Not let things get too far ahead of yourself. In essence, maximize your capacity to build earnings without adding new loans and in essence, pay a dividend and retain as much equity as you can in the process. It just seems like there has been a real sea change in thinking out there. I was wondering what your thoughts are on the subject.

Grier and Brian will have some -- my thoughts first are that quality seeks quality. If you can present yourself as a quality organization, and an astute investor and a careful investor, there will be banks that want to loan money. There will be people that want to buy equity. The world will continue.

I don't foresee some type of nuclear winter in which everything is frozen. I suppose it could happen, but we can't plan on that. We have to plan on regression to the mean and all markets because typically, it does reassert itself. The first thing we're doing is trying to run a conservative methodical data driven organization and just be careful. That's one item.

The second item is, we do try to tell people so they are not surprised, we have a risk portfolio. There is risk in the portfolio. Individual companies are risky. Things can happen; will happen. That are surprising, that are negative and that are upsetting. We hope they continue to be a modest amount of our capital and our lives.

The third thing is that we continue to be in contact and we continue to move forward with sources of equity and sources of debt financing. We think that what happens first is that the timing for these opportunities to bring in capital are moved forward and stretched out. We don't think they evaporate. We think if we maintain good relationships and do a good job today, the day will come.

What if the day never comes? We can never sell another share of stock and we can never upsize our bank facility and we have to run it off over time? I am going to let Grier address that. What would you do then?

Well, Henry, we have the earnings power to see that through. The fact that we have underdistributed, I think puts us in a much better position than others. The other piece of it is that we run with about the least leverage of our peer group. We're less subject to the same forces that others might -- that are bumping up with 0.9 to one type of leverage. We're running at something like 0.3. But certainly, discipline should always be there whether you're in bull markets or bear markets. During bull markets, I recall in past years folks saying, why don't you invest faster. Faster, faster, faster, put capital to work.

I never said that.

Folks, not you, but we have heard that from other folks. We have tried to be very disciplined about that and it is a challenging environment, pricing-wise. I mentioned my prepared remarks that it is a volatile pricing environment, both on the primary and secondary fronts and we're evaluating that and being very careful with our capital.

We think some of the better opportunities may in fact come on the secondary side, as said previously. Might even come from some of the other BDCs that are subject to difficulties and need to shed some assets to reach tax compliance or do other macro things. We're sitting here ready, patient with our capital, ready to do deals.

That gets my next point which was that new deals aren't necessarily going to be done at par. Or at least they are going to be at rates that would support current mark-to-market evaluations which have been pretty harsh.

I would agree with that. On the primary side, not everybody is excited about taking a senior debt deals 15% while they are asked to put up 50% equity underneath that in the capital structure. Some people would rather not do a deal at all. M&A has slowed down lot as a result. Sellers aren't necessarily plugging the gap to give away their company for half or two-thirds than what they could have a year ago.

The second remark on the other hand, you can do deals senior in nature with mid-teens or greater yield to maturities and north of 20 or sometimes 30, if you're called early. With that relative value comparison, that is why we're spending a lot more time on the second front.

On Gas Solutions, I assume you're going to be happy to collect what looks like a pretty tremendous dividend for awhile.

Henry, I think I just heard Grier say not that many people are so happy. He wasn't talking about Gas Solutions, but I would like to go back to what Grier said. Not so many people are happy to sell their companies for XYZ percent less today, than they could have gotten yesterday, then they could have gotten the day before. We know somebody who had his -- what is his CLO company, this guys in Stanford was selling it for -- I forget what it was -- $500 million and they could only get $125 million. They were very upset and so on and so forth. Evaluations are moving around.

We are continuing on the Gas Solutions sale process. We are very deep with one particular buyer. We're waiting to sign a definitive PPA and we continue to move along on that process.

That doesn't mean it is going to close. There are typically any one of a number of reasons it could stand in between us and closing that transaction. I would rather not list what all those potential reasons are.

If you had to sign a definitive, John, would you have to announce that?

I think the moment --

Yes. Henry, when we sign -- if and when we sign a definitive purchase and sale agreement, we would announce it. We have to be very careful because it is a public call and the party we're negotiating with will undoubtedly be listening to this.

Right. The other thing is the profit participation was 12 --

We're happy to have them listening. I don't want anyone to think that we're not just delighted.

We just know they are, Henry.

The profit participation was $12.576 million. Is that correct?

Yes.

That equaled $0.34 a share?

I can't do that in my head. Brian has it.

If you divided that up by the shares, it would be $0.43 per share.

Right, thank you.

But then on every -- then you have to factor in the incentive fees that are paid to the manager which takes down to $0.34.

It is 80% of $0.43.

Thank you very much.

Sure. You're welcome, Henry.

Thanks Henry.

Great quarter. I am beginning to appreciate the slow but steady approach that you have got here.

Thank you, Henry.

Thanks.

Our next question comes from Sean Jackson at of Avondale Partners.

Good afternoon. Again real quick on the Gas Solutions deal. Now is this -- the reason is still plugging along and maybe slowed down a little, is it because of funding issues with the buyer or is it because of just price negotiations?

Sean, I would rather not comment on the specific deal dynamics if that is okay. You will see the results soon enough.

Okay.

But we're right in the midst of an in depth negotiation.

Results or nonresults.

Correct.

It sounds like from your comments that in this quarter, the writedowns -- you expect to be lessening because of the two nonaccruals that have already been written down a lot. Is that fair to say?

I am not sure we commented on that previously, Sean, we're not quite half the way through the existing quarter. So much of the valuation process of third party firms gets into benchmarking and markets as I speak of the last date of the quarter because it is a 930 balance sheet and will be a 1231 balance sheet. It is such a volatile market place out there. It wouldn't really be appropriate for us to speculate on what market indices may be six weeks from now.

I will say something, Sean, from my point of view since I spent a lot of time with the project financings that we did when the Company was brand new and very small in 2004 and '05. That I believe that the ones that haven't -- some have worked out, but some have not. They have a venture capital aspect to them.

The ones that have been a struggle have been substantially written down and there is not that much farther to go. Once you hit zero, we don't -- once you hit zero, we're done writing them down. I hope we don't hit zero and I hope it turns around. I do think that the amount of writedown that I mentally think is possible as to those transactions, is diminishing as we go forward. That leaves basically credit problems in newer transactions, '06 -- January of '06 or October of '05 going forward -- September of '05 going forward.

I am not aware of any right now, other than the ICS and the Advantage which we were -- we wrote off Advantage. Elsewhere in the portfolio, we don't see some movement except coming from FAS 157 and those we hope are recovered.

Okay.

That is not to say that we can't -- wish we hadn't said this tomorrow morning, because there is some new unexpected or something that was a small problem became a big problem. That is mentally how we see that.

Okay. I appreciate it. Thank you.

Thank you, Sean.

Our next question comes from John [Ellis], a private investor.

I have a question in relation to your dividend stream. You want to pay a steady but slightly increasing stream, but you have certain constraints because of your BDC position. How do you intend to meet this implied volatility?

That is a very good question, John. We have a primarily debt portfolio which provides for steady recurring cash-flows; matching the assets with the implied liability is one way. The second piece is we can underdistribute to have a bit of a cushion. We need to distribute at least 90% of our income by the end of a spill-back period -- after a tax year which is in August -- an August tax year. As long as we're in excess of that, we're in compliance with the requirements to be a tax exempt registered investment company. There is a couple pieces; asset liability matching and utilizing a cushion.

Your year closes on your fiscal year, not the calendar year?

Our fiscal year is 630. Our tax year for detailed historical reasons that aren't important to get into now, is August 31.

And the BDC requirement, relates to what date?

It relates to the tax year, August for us.

Okay. I have a second --

There are some other small tax pieces that come into play that are less important, but that's the main one.

But then if worse comes to worse, you will pay a special dividend and then go back to your identified regular dividend?

That is a possibility, yes.

Have you ever done that?

Special dividend?

Yes.

No, we have had to date, recurring declared dividends that have been increasing. But that doesn't preclude us from the possibility of having a special dividend and we had a fair amount of tax planning related to those contingencies and the nature of such dividend. That could potentially come into play in the future.

Yes. If you do a large sale like Gas Solutions, you would have to distribute some of that I would --

That is where some of the tax plannings come in for that plus other deals. We ended up talking a lot about Gas Solutions, but we have a number of other controlled portfolio companies, any of which are doing well.

Now I have a second area that I would like to ask a question in. You have lines of credit and I assume they have covenant requirements as to the value of your -- of the underlying assets that back those lines. Are you near having any problems with those because of 157 write downs or --

No, we're not. We have raised a lot of equity in the last 18 months since the initial facility. We are far in excess of any minimum net worth and other type covenants.

Even another October or another September, you wouldn't anticipate that problem?

No. We only have a $200 million facility which is drawing about $130ish million today against $430 million roughly of book equity.

You have a lot of breathing room.

Yes.

As long as I have got you, I will ask you one more question.

Sure.

If do you a repurchase, where is the money coming from?

We have liquidity through cash on the balance sheet, plus cash available at certain portfolio companies, plus our undrawn facility.

Okay. You would take it where the most economical rate was?

Right.

Okay, thank you. I like what you're doing and looking in great shape compared to the other BDCs.

Thank you, John.

Keep up your work. Thank you.

Our next question is from Jim [Percely at Gaia] Capital Management.

John, I will build on that statement a little bit. You guys look not only great, but compared to other BDCs, to a lot of other our portfolio investments. I have a question you can -- well, I guess a comment and a question. You can hold on to capital gains for a couple of years, can't you, giving you a further cushion?

We can actually hold on to capital gains indefinitely and pay a retention tax, but there is some other mouse traps. Some of which are proprietary in nature which we have developed that I don't want to tip off the competition on. If and when we deploy those, folks will be made available at that time.

Okay. We are primarily invested in prospect capital because of the dividend and I certainly, appreciate the conversations about it today. A company that does blocking and tackling is a company that we want to invest in.

Looking at -- you're a young company, four years old or so. Looking ahead to the future, you have already made a step out of your core competence which was energy. Bill, that was your competence at Merrill, right?

Let's address that a little bit.

I wanted to move into that -- how you see moving out of the energy space into a broader area.

This is John Barry speaking. What I explain to people is, this company, the origins of the Company were all the way back to the high yield groups, the merchant banking groups of Merrill Lynch in the 1980s. Over the years, we have invested in every industry. We have had more than one public vehicle. We have invested in every industry. We have invested in every spot on the balance sheet.

Somebody might say, then why did you take a company public called Prospect Energy Corporation. We did that because at that time because -- post-Enron, Grier and I believed that that is where significant value existed in the investing universe. Very low loan to value. Very low multiple investing. This was before the energy bubble that has just popped on us here. We were able to get very good value.

In addition, competing mezzanine companies had all -- many of them had been washed away, [Aquilla's] mezzanine company and [MIRA's] mezzanine company. We saw a vacuum in capital sources available for energy. As the company made its investments and grew and took on more capital, we did stub our toe on a couple of project financings; that hurt. But the rest of the portfolio has done reasonably well.

As a company like ours gets bigger, you need to be diverse in order to have the type of inexpensive credit that you would like to have in order to be able to pay a steadily increasing dividend and not be hostage to the commodity cycle. Although we are largely hedged. That is why we changed the Company's name to Prospect Capital Corporation to signal to people that we were not focusing only on energy. Frankly, the original prospectus didn't have an exclusive energy -- it had primary energy focus. But I don't want people to think that all we have ever done is energy and now we're practicing -- we're going to see how well we can do with your money with other industries. Because we have invested in other industries going all the way back to 1988.

Now, Jim, a couple of additional comments here from -- this is Grier speaking. One, we have not stopped doing energy industrials by any stretch. That is still a significant area of focus.

Two, we have a team that focuses on energy industrials, largely sponsorless and buy out controller into deals. We also have a more generalist credit team of senior professionals that we have brought on the last few years to focus on in all industries. Thirdly, we concluded about year or so ago -- more than that really a couple years ago -- that in order to get towards one-one leveragability or significant leveragability in model, one needs to be in more of the half or dozen or so SIC codes that comprises energy. That, to me, is to meet lender requirements for diversification baskets across industry. We thought that was important to start building towards, in addition to the other reasons that John specified.

I concur. We originally brought Prospect awhile back because of an energy exposure -- what is a chicken way to get into energy. We knew there was a bubble forming and we didn't want to get to the commodity exposure so we bought into you guys instead of another BDC. So far, this has had the great results. You have expanded the staff noticeably. The SG&A was higher this quarter. Is your platform large enough to take you to the next level without any more?

Our platform is. We have basically done a step function to allow us to handle the additional complexity, associated with the larger portfolio and securitization facility and the like.

Great. Thanks so much. Look forward to the next call and next quarter.

Thank you, Jim.

Take care.

Our next question comes from Fred [Knight] at Dallas Capital Management.

Good afternoon. Nice quarter. I wonder if you could give us just a little bit of color on the criteria that you would impose on investments that would necessitate the issuance of new equity at prices that were significantly below your current NAV. Could you give us just a little color of what you're thinking is there?

Fred, I am guessing, based on your question you're referring to our (multiple speakers). You're referring to one of the items related to our proxy.

That's correct.

Right. We put that in -- I am glad you mentioned that because it is good to address that for the shareholder business call. This is not the first time we have had this in our proxy. We actually did so a couple years back.

It was after an equity offering. We obtained -- successfully obtained that from the shareholder base. It was good for one year. It was an option only and we did not utilize that option. It is important to differentiate the difference between having a tool or flexibility or optionality, and in fact utilizing that.

If it were up to us, we think, in the -- to allow for that you have to go back and ask every year. If it were up to us, it should be part of any good corporate finance professional's bailiwick. It should be a tool always there at ones' disposal if you need it in case there is some type of emergency or need for such capital. It is nice to have all options on the table and available to you.

Having said that, since we are, as a management group, significant shareholders in the Company, we look at equity offerings very, very carefully -- the cost of such and how we would deploy the capital. Please do not construe obtaining that optionality as a meaning there is a significance or high or a 100% likelihood that optionality would be used. We will look very, very carefully upon upon that and much more likely to use it for playing potential defense as opposed to offense.

Fred, this is John. I can tell you what triggered the idea to have it the first time which would be a similar circumstance that would cause us to maybe be glad we have it. We used to have to do these marketed deals.

Now we do them overnight and it's not the same. We like to do them overnight. Not every deal is done overnight. The marketed deal means the stock might be trading at 16 when you start [traipsing] around the country, visiting investors. Meanwhile, people are shorting it because they know there is a deal coming. Your NAV might be $14.50 and when you're ready to price, the stock may be trading around $14.50.

That happened to us once. I remember that I was -- it was in the last half an hour before we were getting ready to price, Grier and I went into an investor meeting and we came out and the stock had -- was driven down another $0.75, driving into the close, right next to our NAV. If the stock price had gone down another $0.05, we would have had a failed deal. That would have meant significant time and expense into the transaction. But also the black market that comes with a failed deal. Nobody really cares why it has failed, it is just you guys are failures.

We felt that we didn't like skating on ice that thin. That was the motivation to put that in our prospectus -- in our proxy a couple years ago. Typically what these companies do is rights offerings when there is some issue they need capital.

It can happen to any company. They need capital and they are trading below NAV. We have observed that these rights offerings are very damaging to the share price. We hope that we never have to do one.

If the choice were to do a -- first of course, we don't want to end up in one of these jams where we absolutely have to sell stock. If we were in a situation where we needed to raise some equity capital, we would way prefer to do it a little below NAV than do a rights offering. In any event going back to what Grier said, the real point is optionality.

This law exists against selling shares below NAV, I believe primarily to deal with mutual funds where they have a liquid basket of many publicly traded positions and there is no good reason to be selling stock below NAV, and it is high dilutive. In the case of our company where the valuation is more of an art than an exact science, we want to put some cushion in between ourselves and being blocked from doing the right thing. That is why we have put that in the proxy.

I think you know, the magic team here owns quite a bit of the stock. I think it is about $16 million worth. We're not going to be at the front of the line of people wanting to see that position diluted.

We certainly understand the need for the flexibility and plan to vote for it. But in this environment, are you seeing any opportunities that would make you want to sell new equity at a 25% discount to net asset value because the opportunities so promising?

I don't know about 25%, but I commented on the more defense than offense thought a moment ago, but let me articulate one potential offensive strategy -- approach. Let's say that we monetize some of our control deals at equity upside. Let's say -- I'm not guaranteeing this. This is a hypothetical.

Let's say we had a bod increase in book value. And then let's say we had a portfolio that we wanted to buy -- a significantly attractive portfolio, public or private that needed an equity slug from existing and/or additional shareholders to consummate. Maybe there would be paper component, maybe there would be a hybrid cash stock component to that. And it could be a deal along the lines of what I discussed earlier on the portfolio front with some pretty attractive yields to maturity, potentially far in excess of the dividend yield implied by the placement price of such a deal. That is a hypothetical that -- it will be nice to have the flexibility to capitalize on in the current environment because we are seeing a lot of very interesting paper.

I understand. Thank you.

Thank you.

We have a follow-up question from Jim Percely.

Just another quick one. One of your competitors has gotten into the fee income business, which is a little less lumpy than running BDCs yourself. Apparently they are using other people's money like GE. Do you have any plans to do anything like that?

Jim, you're referring to Allied?

Allied, yes.

Right. You're referring to third party off balance sheet pools of capital where the BDC is the asset manager?

Right. Essentially that's what they said, they collect an asset management fee.

Right. Ivy Hill is doing that and [Coleberg] does that for a number of -- we have in fact evaluated that, Jim, that is a possibility for future growth. If and when we have such -- more meat on the bones related to that, we will certainly talk about it.

It is not like I am encouraging you. It is just one way to be a little less lumpy.

Yes. Absolutely Jim.

Thank a lot, guys. Take care.

Thank you.

At this time, I show no further questions.

Okay. Amy, thank you. Thanks everyone. Bye-bye.

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