Prospect Capital Corp (PSEC) 2012 Q3 法說會逐字稿

Good day and welcome to the Prospect Capital Corporation third fiscal quarter of 2012 earnings release conference call. All participants will be in listen-only mode. (Operator Instructions) After today's presentation there will be an opportunity to ask questions. (Operator Instructions) Please note this event is being recorded. I would now like to turn the conference over to Mr. John Barry, Chairman and CEO. Mr. Barry, please go ahead.

Thank you, Sue. Joining me on the call today are Grier Eliasek, our President and COO, and Brian Oswald, our CFO. Brian?

Thanks, John. 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 that are intended to be subject to Safe Harbor protection. 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-Q filed previously. Now I will turn the call back over to John.

Thank you, Brian. For the three months ended March 31, 2012, our net income was $50.2 million, or $0.44 per share. For the three months ended March 31, 2011, our net income was $33.8 million, or $0.38 per share. For the nine months ended March 31, 2012, our net income was $154.6 million, or $1.39 per share. For the nine months ended March 31, 2011, our net income was $91.3 million, or $1.11 per share. Our net income increased 49%, and our net income per share increased 16% from the March 2011 quarter to the March 2012 quarter. These increases are primarily due to growing interest income from additional investments. A loan prepayment premium received from NRG, higher dividend income from our investments in Energy Solutions and NRG, and fees recognized in connection with the sale of our stock in NRG and the sale by Energy Solutions of its gas processing assets.

Our net investment income was $58.1 million or $0.51 per share for the March 2012 quarter, and $24 million, or $0.27 per share for the March 2011 quarter. Our net investment income was $122.5 million, or $1.10 per share for the nine months ended March 31, 2012 and $64 million or $0.78 per share for the nine months ended March 31, 2011. Our net investment income was $36.5 million for the December 2011 quarter, or $0.33 per share. Our net investment income per share in the March 2012 quarter represented an increase of 55% from the December 2011 quarter and an increase of 89% from the March 2011 quarter.

We are targeting continued growth in net investment income per share as we utilize prudent leverage to finance our growth through new originations. Given our debt-to-equity ratio stood at less than 34% as of March 31. We estimate that our net investment income for the current fourth fiscal quarter ended June 30 will be $0.38 to $0.43 per share. Our net asset value per share on March 31 stood at $10.82 per share, an increase of $0.13 per share from December 31. This growth represents our sixth consecutive quarterly increase in net asset value per share.

Our portfolio continued to perform during the quarter. None of our loans originated in four years, over four years, have gone on nonaccrual status. We have generated cumulative net investment income in excess of cumulative distributions to shareholders for both, one, the current August 2012 tax year, $98.2 million of net investment income from September 1, 2011 through March 31, 2012, compared to shareholder distributions of $80.3 million during the same period. And two, since Prospect's initial public offering almost eight years ago. $435.1 million of net investment income from July 27, 2004, through March 31, 2012, compared to shareholder distributions of $423.7 million during the same period. Depending on future distributions to shareholders, spill-back dividend classifications, differences between net investment income and investment company taxable income and other factors, we may retain significantly all or a portion of recent realizations and reinvest them in additional income producing investments. I am looking forward to the day when we can report that we have made distributions exceeding $0.5 billion, and after that $1 billion to our shareholders. We recently declared our 46th, 47th, 48th, and 49th consecutive cash distributions to shareholders, including 26 consecutive per share monthly cash distribution increases. I will now turn the call over to Grier.

Thanks, John. Our origination efforts during the March quarter and current quarter continue to prioritize secured lending, with an emphasis on first lien loans though we also seek to close selected subordinated debt and equity investments. In addition to targeting investments senior and corporate capital structures with our new originations, we have also increased our new investments in third-party private equity sponsor-owned companies. Which tend to have more third party equity capital supporting our debt investments than in non sponsor transactions while still maintaining flexibility to pursue attractive non sponsor investments. With our scale team of more than 15 professionals, one of the largest dedicated middle market credit groups in the industry, we believed we're well positioned to select in a disciplined manner a small number of investments out of thousands of investment opportunities sourced per annum. At March 31, our portfolio consisted of 78 long-term investments with a fair value of $1.69 billion compared to 72 long-term investments with a fair value of $1.46 billion at June 2011, and compared to 58 long-term investments with a fair value of $749 million at June 2010.

During the March 2012 quarter we completed new and follow-on investments aggregating approximately $170 million. Our repayments in the March 2012 quarter were approximately $188 million. On January 4, Energy Solutions sold its gathering and processing assets for a sale price of just under $200 million, adjusted for the final working capital settlement, including a potential earn-out of $28 million that could be paid to us based on the future performance of Gas Solutions. So far, after expenses, including structuring fees of $10 million paid to PSEC, Energy Solutions has received approximately $149 million in cash and an additional $10 million remains held in escrow.

Our loans to Energy Solutions remain outstanding and are collateralized by the cash held by Energy Solutions after the sale transaction. The sale of Gas Solutions assets by Energy Solutions has resulted in significant calendar year 2012 earnings and profits for Energy Solutions. As a result, dividend distributions from Energy Solutions to Prospect will be required to be recognized by Prospect as investment income. To the extent there are current year earnings and profits sufficient to support such recognition. Energy Solutions currently has approximately $148 million of cash available for future debt service, distributions, operating investments, and the add-on acquisitions it is seeking and reviewing. Together with prior cash flows, but excluding both escrow and earn-out, the exit price for Gas Solutions produced a 57% internal rate of return and 5.5 times cash-on-cash multiple for Energy Solutions on its Gas Solutions investment.

On January 9, Arrowhead repaid their $27 million loan. On January 12 we made a follow-on investment of $16.5 million to purchase secured notes issued by CIFC CLO. On January 17 we provided $18.3 million of secured second lien financing to National Bankruptcy Services, a financial services processing company being acquired by a leading private equity sponsor. On January 31, Aircraft Fasteners repaid our $7.4 million loan.

On February 2nd, Prospect sold NRG to a strategic buyer for $123.3 million. In conjunction with the sale our outstanding $37.2 million loan was repaid. We received a $26.9 million make whole fee for early repayment of the outstanding debt which was recorded as interest income for the March quarter. PSEC earned a $3.8 million advisory fee in connection with the transaction which was recorded as other income in the March quarter. After expenses we received for sale of our equity net proceeds of $26 million and recognized a realized gain of $24.8 million in our March quarter. In addition, there is $11.1 million being held in escrow of which at least 80% is due to us upon release of the escrowed amounts. Monies released from escrow will be recognized as additional gain if and when receipts, including all cash flows over the life of the investment, but not including escrowed amounts, Prospect has realized a 58% annualized internal rate of return on our NRG investment.

On February 10 we provided $15 million of secured financing to Rocket Software, a leading global infrastructure software company. On February 15 we provided $25 million of secured financing to Blue Coat Systems, a leading provider of web security and wide area network optimization solutions. On February 24 we made a follow-on investment of $7.9 million to purchase subordinated notes in Apidos CLO. On February 28 we made a secured follow-on investment of $9.5 million in Clearwater Seafoods. On February 29 we provided $15 million of secured second lien financing to Focus Brands, a leading franchiser and operator of restaurants, cafes, ice cream stores, and retail bakeries. On March 1 we made a secured follow-on investment of $27.5 million in Safeguard. On March 14, we made investment of $26.6 million to purchase subordinated notes in Babson CLO. On March 16, VPSI repaid our $16.6 million loan.

On March 23 Anchor Hocking repaid our $20.4 million loan. On March 27 we provided $12.5 million of secured financing to IDQ, a manufacturer of refrigerant refill kits for automobile air conditioners. On March 30, ROM repaid our $31.6 million loan. Since March 31, in the current quarter, we have completed three new investments, aggregating approximately $80 million, and received repayment on one loan. On April 2nd we made investment of $22 million to purchase subordinates notes in a Pine Bridge CLO. On April 16 we made a secured debt investment of $15 million to support the acquisition of Nixon, a designer and distributor of watches and accessories. On April 20 we made an investment of $43.2 million to purchase subordinated notes in a Symphony CLO. On May 8, SonicWALL repaid our $23 million loan.

On March 19 we entered into a definitive agreement to provide debt and equity for the acquisition of the businesses of First Tower, a private multi-line specialty finance company headquartered in Mississippi with over 150 branch offices. We are acquiring 80.1% of First Tower for $110.2 million of cash, and approximately 14.5 million shares of our common stock. We have the option at our sole discretion to substitute up to 100% cash in lieu of such 14.5 million shares of our common stock at a price per share based on average trading prices prior to the closing date. Completion of the First Tower acquisition is subject to regulatory approvals and is expected to close late in the current quarter. We are pleased with the overall credit quality of our portfolio, with many of our companies generating year over year and sequential growth in top line revenues and bottom line profits.

None of our loans originated in over four years have gone on nonaccrual status. The fair market value of our loan assets on nonaccrual as a percentage of total assets stood at approximately 2.2% on March 31, down from 3.5% on June 30, 2011. Because of the performance of several control positions in our portfolio we have selectively monetized certain such companies and may monetize other positions if we identify attractive opportunities for exits. As such exits materialize, we expect to reinvest such proceeds into new income producing opportunities.

We are pleased with the performance of our controlled portfolio companies and are actively exploring other new investment opportunities at attractive multiples of cash flow. Our advanced investment pipeline aggregates more than $500 million of potential opportunities. A significant increase and nearly doubling from our prior quarter earnings release as we observe a significant uptick in market activity this quarter compared to last quarter. These investment opportunities are primarily secured investments with double-digit coupons sometimes coupled with equity outside through additional investments, and diversified across multiple sectors. Thank you. I will now turn the call over to Brian.

Thanks, Grier. Our modestly leveraged balance sheet is a source of significant strength. Our debt-to-equity ratio stood at less than 34% at March 31. Our equitized balance sheet also gives us the potential for future earnings upside as we prudently look to utilize and grow our existing revolving credit facility as well as potentially add additional secured and unsecured term facilities made more attractive by our investment grade rating at the corporate revolving facility and term debt levels. On March 27 we renegotiated our credit facility and closed on an expanded five-year revolving credit facility for Prospect Capital Funding. As of March 31, 10 original lenders had extended commitments of $410 million under the facility. We increased the facility size to $482.5 million in April with commitments from four additional lenders, thereby bringing our total number of lenders to 14. The facility includes an accordion feature which also allows commitments to be increased up to $650 million without the need for reapproval from the existing lenders or the rating agencies.

As we make additional investments, we generate additional availability to the extent such investments are eligible to be placed into the borrowing base. The revolving period of the facility extends through March 2015, with an additional two-year amortization period with distributions allowed after completion of the revolving period. Interest on borrowings under the facility at one month LIBOR plus 275 basis points with no minimum LIBOR. The facility continues to carry a high investment grade Moody's rating of AA3. Investments in the new -- improvements in the new five-year facility from the prior three-year facility include longer tenor, increases in advance rates under certain conditions, decreases in drawn interest costs, decreases in unused line fees, increases in maximum eligible loan sizes, and increases in baskets for longer dated and quarterly pay loans. Based on current LIBOR, we achieved a 125-basis point reduction in the annual drawn interest coupon compared to the previous three-year facility.

We have also significantly diversified our counter party risk. We currently have 14 institutional lenders to our facility, up from five lenders at June 2010, two lenders at June 2009, and one lender at June 2008. In addition, our repeat issuance in the past three calendar years in the 5-year and greater as well as 10-year and greater unsecured term debt market has extended our liability duration, thereby better matching our assets and liabilities for balance sheet risk management. All of our term debt offerings are unsecured, have fixed interest rates, and have no asset restrictions, have no financial covenants, have no technical cross-default provisions, and have no payment cross-default provisions to our revolving credit facility. In the March and current quarters, we have also diversified our term debt beyond the convertible debt into the program registered bond and listed registered bond markets, thereby expanding our access to capital across multiple capital markets.

All of our term debt has been investment grade S&P rating of BBB. On February 16 we entered into a selling agent agreement for the issuance and sale from time to time of an unsecured program registered bond series. These program notes have a fixed interest rate and a 10-year maturity. During the March quarter we issued $5.5 million of such program notes at an average interest rate of 6.97%. Since March 31 we have issued an additional $8.5 million of such program notes.

On April 16, we issued $130 million of 5.5-year unsecured 5.75% convertible notes due 2017. This coupon represents the lowest coupon of any term debt we have issued to date. These 2017 notes are convertible into shares of common stock at a conversion price of approximately $11.65 per share of common stock, subject to an adjustment in circumstances. On May 1 we issued $100 million in aggregate principal amount of 10.5-year unsecured 6.95% notes due 2022 in the form of a listed registered note. These 2022 notes represented the longest dated notes issued in the prior 18 months by any business development company.

In December 2010, we issued $150 million of five-year unsecured 6.25% convertible notes due 2015. These 2015 notes are convertible into shares of common stock at a conversion price of approximately $11.35 per share. In February 2011, we issued $172.5 million of 5.5-year unsecured 5.5% convertible notes due 2016. These 2016 notes are convertible into shares of common stock at a conversion price of approximately $12.76 per share. Between January 30 and February 2 of this year, we repurchased $5 million of our 2006 team notes at 97.5% of par including commissions.

We may look to make additional repurchases of debt if attractive opportunities become available. Currently we have no borrowings under the credit facility. Assuming sufficient assets are pledged to the facility, and that we are in compliance with all the facility terms and take into account our current cash balance, we have over $600 million of new investment capacity at this time. Any principal repayments or other monetizations of assets would further increase our new investment capacity. Any increase in our facility side or issuance of other debt, including additional term debt, would also further increase our investment capacity. Now I will turn the call back over to John.

Gee, I hesitate to speak up here since I've been informed that I am sounding wooden, unprepared, and slow, understated, not good. I apologize to everybody. Maybe I can liven this up a bit. I'd like to hear from anyone on this call who appreciates our rereading our press release every time we have an earnings call. Is there anyone who is not able to get the press release and likes to hear it read out loud, likes to take notes? If people could speak up, I'd like to reexamine why we do this each time.

Who thinks it's a good idea? Who thinks that we should just go right into the Q&A and assume people have read the press release? We've spent 25 minutes on it here. No one has an opinion, I guess. Why don't we queue up a couple of people and get some feedback on both whether I'm wooden and unprepared and slow and whether we should be rereading out loud our press release.

We will now begin the question-and-answer session. (Operator Instructions) Mickey Schleien, Ladenburg.

Good morning. Let me start by saying I don't think you're wooden and slow, but I really would appreciate it if you didn't read the press release because I'm perfectly capable of reading it. But what we do enjoy is the color that you can add in terms of the dynamics and the portfolio during the quarter given that we don't have a lot of time to necessarily go through the Q in details since multiple companies are reporting. That being said, what I would like to know is where you see the sweet spot in terms of risk-adjusted returns in the investments that you're making at the moment?

Okay, just before we go to that, I think what we might do is shorten the presentation that we read going forward. And on terms of the sweet spot, what I would say to you --

Was that your whole question, Mickey?

I'm sorry?

You didn't get a question to finish.

No, my question was, where is the sweet spot in terms of risk and reward in the leveraged loan market at the moment for you.

Okay. Why don't we give you two wildly varying answers, one from me, and one I can't quite predict from Grier. In my case, it's always moving around. And on any given day it might be different from where it was on the prior day. The first thing that we want to look to is preservation of capital. We want leverageability, we want higher rated assets. So we're looking most carefully at senior assets where we see there's adequate collateral, good rating, good investment by the sponsor, a good track record by the management, audited historical financials going back five years, and we'd like to get into the low double digits on those loans. I would say those types of opportunities get our attention quite quickly.

Another set of opportunities that do are opportunities to invest in the equity of CLOs. We believe that there's been a wholesale abandonment of that asset class, and so occasionally we take equity participations, usually it's junior notes in CLOs where we feel we're richly rewarded for taking risk that has not eventuated with respect to the managers that we work with. The managers we work with have not had any loss of capital with respect to the equity in their CLOs. So those are two good areas. One is viewed by all people as being very safe. Lower returning. The other area, if you're wondering where can you get higher returns, we find that the CLO is an area where occasionally we can dip our toe in and get some nice returns. Grier.

Mickey, it's an interesting question to ask us, as dour or credit oriented lenders about sweet spots, because mostly we look at we deem to be sour since we only invest in 1% or 2%, approximately, in what we see. So we usually don't like what we see out there. In any markets, bull market or bear, I guess you can say that's discipline. And we don't really think about kind of tops down sweet spots, either. This is a credit shop where things to have go through a rigorous and almost vicious ringer, where something like 18 or 20 blue ink signatures are required before something funds, and finding something that everybody likes is almost a miracle, it feels like sometimes. So it's all an incredibly bottoms-up process that ends up resulting in a naturally diversified portfolio, and we're quite differentiated from our peers because we have a more diversified business.

We have a sponsor finance business. We have a non sponsor, we call direct lending business. Within sponsored finance, both agent deals, sole lead deals, club deals and anchor deals on upper middle market type transactions. Then we have our one-stop business which almost none of our peers are in, just like the direct lending business. And within the one-stop, we also look for other types of one-stop financings and buyouts where specialty finance models are intriguing to us. So our mission in life is to drive yields, to drive dividend, to drive earnings growth for our Company, in a diversified rink adjusted fashion and also a tax efficient fashion. I think the Tower deal that we announced in March is an excellent example of that. It's extremely tax efficient. No taxes at the downstairs level, no taxes at the upstairs level as a non tax paying with all those cash flows being swept into Prospect's shareholders' hands in the form of dividend distributions. I wish could I give you a better answer, but sweet spot really depends on whatever credit memo I'm reading at that particular moment in time.

I appreciate that.

There you go. Two very different answers. Let me point out that we believe one of the very strongest things in our Company is the fact that people are expected to do their own work, their own analysis, reach their own conclusions, and defend them in a room with other people that will be opposing them. For example, we have a loyal opposition who is required to shoot down whatever position is being presented by someone concerning a credit. And the result is that, in fact, whether it's at the lower end of the return scale, where we ought to be getting a lot more collateral and a lot more security and safety, or whether it's an area where we're seeking higher returns, there is a rigorous process, and that process tends to weed out surprises, which is the main thing that we want to avoid here.

Fair enough. I appreciate your time this morning.

Thank you, Mickey.

Arren Cyganovich, Evercore.

Thanks. Could you talk a little bit more about the First Tower acquisition, about the company itself? It's going to be, I guess, a relatively large company. Looks like about 14% pro forma for the total investment portfolio. Then maybe some of your expectations in terms of dividend returns from that investment.

Sure. We're very excited about the Tower deal. I talked about the tax efficiency a few minutes ago. We think this is a world-class management team led by Mr. Frank Lee. The company is based in Mississippi. It's diversified in several states with future growth anticipated in new markets as well. The company has performed well for many years with consistent earnings growth across multiple cycles. We think it's an attractive part of the consumer finance industry.

This is not a payday lender. This is not a 4% APR type business. This is much lower on the APR level focusing on, quote unquote, larger loan segments of installment lenders. There's a couple of comps, publicly traded, one that went public more recently that you can look at, as well to get a sense of the industry. We announced that inverting our purchase multiple on a cash flow basis results in about a 20%-ish return on a trailing 12-month basis. Obviously we're not predicting the future, but our intention is to distribute the vast bulk of such cash flows upstairs to Prospect Capital Corporation. We're also pleased that the management team has made a significant co-investment, alongside our capital to wind incentives.

We're already looking at potential tuck-in acquisition opportunities, even though we haven't even closed the deal yet. We're hoping to sometime next month. We think it's an excellent specialty finance model. It's a model that is run with reasonably low leverage downstairs, as we referenced, less than 50% debt to total cap. So this is not a highly leveraged specialty finance model. We have a supportive lender bank group, supporting the transaction, we'll be looking for future optimization from that standpoint as well.

Thanks for the details. Can you tell if you're leaning towards closing in cash or if you're still anticipating paying for the transaction partially in shares?

We have not decided that yet. But we are seeing pretty big uptick in our investment pipeline, anticipated cash needs. Tower would be about a $270ish million or so give or take, depending upon our stock price, should we choose shares this quarter, and then we referenced a more than $500 million pipeline, probably more than $600 million at this point. Versus our liquidity of about that amount of capital. So we'll decide, and we don't have to decide today or this second in time. We can decide in the next few weeks, and it really will depend upon other competing capital needs and a number of factors.

Okay. And then lastly, the new guidance for the upcoming quarter, $0.38 to $0.42 is a bit above what your recurring income would be. What's included in that that would be, I guess, from maybe the NRG or Gas Solutions that would be elevating that to a higher level?

Well, there's nothing from NRG included in that figure. We've sold that company and had a very strong record quarter in this most recent completed March 2012 quarter. It does include some expected distributions and continued servicing of interest from Energy Solutions Holdings, which is not just Gas Solutions. It has multiple energy companies within it.

You can't detail any specifics about -- I think my run rate, recurring income is somewhere around $0.25 for your portfolio, so it's pretty elevated.

At this point in time, where we are in the quarter, I think we're comfortable with the level of prediction, which is what guidance is, embedded in the June outlook. I don't think we'd want to break that out at this point in time.

Okay. Fair enough.

Yep.

thanks.

But I will say one other thing about this recurring income aspect. As I said before, we have a very -- a highly diversified business that we think gives us the opportunity to participate in markets and to look at a far wider range of attractive opportunities than peers who are just kind of long and strong sponsor financed at any and all moments in time. That's a good business for us, mind you, but it's just one of multiple businesses that a company like ours can participate in. And so recurring is an interesting concept. When you make double-digit coupon loans in the marketplace, arguably all capital is bridge capital that people want to repay as quickly as possible. So what's recurring when you're charging points up-front, when your capital is outstanding for a year or two, you're repaid, maybe you're getting a back end prepayment, and or some type of equity-like participation kicker that you purchased or got as part of additional consideration. We have had several attractive deals, buying patriot capitol for $0.60-ish on $1 and reaping 40% plus IRRs on a realized basis, so loans from that, monetizing NRG, monetizing Gas Solutions. We think, when you look at a team, you look at a track record and performance and you have multiple quote unquote nonrecurring items, you have to ask yourselves, at what point do they become recurring. So I will leave you with that thought.

Robert Dodd, Raymond James.

Hi, guys, this is actually Bo Ladyman, in for Robert. The follow-up on guidance, and I apologize if you all already covered it. Is the First Tower acquisition included in any way that in guidance?

Partially. I mean, we're putting out guidance that we feel comfortable with. If you added up every last dollar in our pipeline, included interest and structuring fees from that, and Tower, and the existing book, I think you would find with some back of the envelope calculations that we put out some pretty careful numbers.

Okay. That helps. And then in 10-Q, I saw that you all did not recognize -- or didn't have any dividend income in the quarter from Energy Solutions. What type of run rate should we be expecting on the dividend side from that entity going forward?

We don't really have numbers to put out for -- when you say run rate, that's implying, hey, tell me not just June, tell me September, tell me December, and so on and so forth. We don't typically put out guidance that far in advance, and haven't in our eight years as a public company, and if we did so, it would be kind of arrow extraction, not very useful information. We just haven't decided yet. It's going to depend also on what type of opportunities we see. We've done add-on acquisitions at Energy Solutions and Gas Solutions for three times cash flow, just thinking about one add-on we did in the last 18 months. Those deals come along, you'd rather put capital out for acquisitions. If they don't, maybe you put the money upstairs and pay out a distribution to yourself. So there's lots of potential sources of -- potential uses of the $150 million we have downstairs at Energy Solutions Holdings.

We didn't drive the structure, by the way, of that particular transaction. It was purchased by a private partnership that needed to do a tax-efficient purchase and we have a C-corp down there, so it ended up being an asset sale which puts us in a position where if we do take back distributions up to the level of earnings and profits. Of which we have a pretty sizable earnings and profits anticipated for tax in calendar year 2012, because we sold that business for well over the basis, what was it, Brian, about $130 million over the tax basis of the assets. So that's not our choice of the character. That's just how the accounting would work.

Okay. In deploying some of the capital -- some of the cash out of Energy Solutions, would you only be looking at energy-type assets, or would that be not restricted?

Well, it's an energy-focused company, and the expertise of the management team is really in the energy sphere. If we were to do another industry, more likely than not it would be in a different platform, a different portfolio company altogether.

Okay. Last one from me. On First Tower, obviously deals like that can be lumpy, but was that sort of a one-off, or are you seeing some more opportunities for that type of transaction and will buy out transactions going forward?

Well, we first started working on that deal last summer, and I think it shows how things can appear lumpy in the origination front, and that's true in our business. But what isn't always appreciated from the outside world is the gestation period of the number of things we're working on that take months if not years, deals that will probably close next quarter and the quarter after that that we started working on last year, for example. We've been examining this marketplace for a long time. More than examining it. We've been an investor in it. We used to be a second lien -- senior second lien lender to a company called Regional Management which actually just went public. Excellent company, well run. And we're refinanced and paid off out of that company about a year and a half ago. And we don't necessarily love it when the good credits pay off, because we've got to go find another one to go put capital into.

And that was one of those deals. We said to ourselves wow, we love this company. We'd love to own a business like this if one comes along. And in fact it did, in the form of Tower. But our hit rate on one-stop types of deals, on portfolio types of deals, patriot capital types of deals is also very low. Having said that we continue to scour the planet for similar types of opportunities.

If anybody listening to this call is aware of any specialty finance companies, any portfolios, any hedge funds that need to lighten up, we are a highly motivated buyer. It is true that we will not pay the highest price, but we can be relied upon to be fair and to move forward expeditiously. So we're always on the lookout. We have to kiss a lot of frogs. We're happy to pay fees. I believe there's someone on this call who maybe is earning a fee. Sam, I hope you're there. And we're very happy to pay these fees out, and enable people to liquefy and monetize investments, whether it's in financial services or not.

By the way, we expect to see quite a lot of that activity between now and the end of the year. Whenever we see a deal print away that we didn't get to look at, we find it to be very frustrating. I know many of you work with investment banks, foreign investment banks, commercial banks, M&A advisers. Please send us those deals. Thank you.

One other point on Tower. We are looking at our potential add-on opportunities but our core focus is on working with the excellent regulators to get formal approval at the state level for both the finance and insurance related businesses. Close that transaction in a timely basis in June, and continue to have responsible stewardship with that company with consistent management that's done really an outstanding job running that company for a long time continuing.

One of the other things about the company, that particular company, that is attractive to us, is that the credit profile is materially different from the leveraged loan sponsor market, the cyclicality, to the extent there is any, is different. It's a different sine wave. And so as a result, it's a hedge for our business, it's a diversification of our business, and it enables to us spread the systems that we have in place here across other entities and hopefully improve their operations, not that that operation -- Frank, we're not saying your operation needs to be improved. But we do think that there are synergies between what we do and a number of specialty finance companies that are out there. And we'd like the opportunity to bid on them.

And that business will be about, pro forma for additional originations, at June 30, maybe 10% of our asset base. So it's an important transaction. It's a meaningful one. But part of a significant diversified pool that continues to grow and grow and grow as we approach 80 and perhaps we'll be at 100 portfolio companies by the end of calendar year 2012.

Thanks, guys.

Thanks.

Joel Houck, Wells Fargo.

Thanks and good morning, guys. Forgive me if you disclosed this already but did you talk about the multiple on EBITDA you paid on a trailing 12-month basis for First Tower?

We have not disclosed that. We did basically disclose what our multiple would be of pretax income, which is effectively distributable income of approximately 5 times. Inverting that is about 20%. You can probably back into multiples of EBITDA with good desk work, as I know you can do, Joel, based on the leverage that we also disclosed in the Company.

Hey, Joel, this is how we look at it here. When we're talking to the seller, we can't believe you're forcing us to pay top dollar. There's no more money here. We're not paying one penny more. This is very richly priced. We can't discuss any -- even a penny. Then when we're talking to our friends, we tell them what a great bargain we got, right?

Yes, I understand.

Joel, let me just add to that, that a company went public in the sector, as referenced, you can look it up. We felt pretty good when that went public a week or two later.

Let me put it differently. I think the sellers' got one amazing tremendous deal, and think we also got a pretty good deal, too.

I certainly invested alongside you, so it makes sense.

You know what else I would say, though, it's a very well run company, in an -- in an industry that's not well understood. There's some prejudice, and you look at the many, many years of stability and historic earnings and growth, Frank and his management team have done a great job there. I think they served the community. There's a very constructive regulatory regime, and we're very happy to see if we can't support the company in continuing to provide to the community the valuable service they provide.

Yes, we can have a conversation off-line. I've covered this industry for 10 years and we cover all the public companies under my name. So I'm very familiar with the sector. What are you guys, in terms of the regulatory risk, how did you get comfortable with what may or may not come out of CFPB, given -- I know this isn't a payday lender, it's an installment lender, however the comments if you read from Cordray have been very negative on this space. And most of the companies we cover have been running away, 100% running away from US exposure, whether it's payday or installment lending, they've been making all their investments outside the US. So I'm curious to see what you guys think about the regulatory risk of this transaction.

Sure, Joel. Happy to comment on that. And we spent a lot of time from a diligence standpoint on that topic. As I said, we first started looking at the deal last summer. I think we had it under exclusivity at the end of September, early October and we didn't sign an agreement until March. So five, six months of intense diligence of not just regulatory risks but all aspect of the business, financial, accounting, legal, everything you can imagine. On the regulatory front, we examined risk at both the state level as well as the federal level. Obviously Cordray had a recess appointment that surprised a few people in December, we studied that carefully. We feel like we're in pretty good ground focusing on the lower APR, higher ticket installment lending part of the business. And it's the higher APR that acts as really a bit of a red flag for regulators.

I think it's not really the right analysis to lump together every consumer finance business together, from pawnshops, to payday, to large installments, to small installments. You compare Tower to even small installment lenders who have an average 70% APR, nine months average loan, and $700 average loan where 75% of the originations are just refis of existing book, a quasi treadmill, perhaps, all the way to the payday lenders and the treadmill allegations that get made there. I won't really comment on that but on the large installment side of things, you're talking about more like a 30% to 40% APR, $2,000 loans, two-year loans. You're naturally, therefore, going to have somewhat more credit worthy borrowers. Tower's mix is a much lower percentage of refis as opposed to new originations. And significant diversity across multiple markets, multiple states, and hopefully new anticipated future markets. So I know there were comments in January that had kind of payday industry in its gun sights. I consider 40% versus 400% to be pretty different APR risk profiles, and we do a lot more analysis in that.

That's helpful. I agree with your comments on the APR. I would just add, you asked for feedback regarding reading the presentation. I don't find it that helpful. In fact, I don't dial in and queue up until 20 minutes past the hour so if you change that, please let me know so I can dial in on the hour. Thanks for your comments and thanks for taking the question.

Thank you, Joel.

Joel, we really appreciate your helpfulness here.

Troy Ward, Stifel Nicolaus.

Great. Thanks and good morning, guys. First of all, definitely congratulations on the monetization events you had in the first quarter. Very impressive gains there for the shareholders. I would also agree with Mickey and Joel about the press release. We don't probably value that quite as much, but some may.

Moving on, Grier, you talked about the pipeline and definitely $500 million. You maybe said it was a record. Definitely as high as we can remember. You gave it a little color, both John and you did, on what you're seeing. Can you speak a little bit to what you maybe expect for the second half of the year? We have some investment managers out there really getting pretty excited what they believe is going to be a very big closing of the end of the year based on some tax changes and political information. So are you guys seeing anything where you feel like we're gearing up for that, or what's your color on that?

Well, this is Grier. I will go first. I would love to make a prediction on this call, the kind of arrow extraction that everybody and their brother is terrified that rates are going to go shooting up, dividend rates from 15% to 39.6% at the stroke of midnight on December 31, 2012, and therefore every business owner in a panicky fashion is calling up their sell side M&A banker saying, start a process now, so they don't get jammed. At the same time, we've said to our people, stick around this year around the holidays, some interesting deals could occur. We don't really know, Troy, how much of a driver that is going to be. There was head fake two years prior, and the politicians decided to focus on it after the elections. Probably will be the same case this year and a lot of back and forth angry political talk. We'll see what happens at the end of the year.

I see business owners making more rationale decisions. And maybe sometimes the tax tail wags the dog. Maybe it doesn't. In the realm of uncertainty, I'm not sure somebody would give away their company, at least on the control side, where, there's by the way, a much longer lead time to actually get a transaction done. It takes six to nine months in a typical process so, yes, you better have gotten started now, on May 11, if you want to close by December 31, and hopefully, you didn't give your exclusivity to a buyer who decided to jam you at the last second with new terms on December 30. But the recap size is a different matter. I think it is possible you see some quick dividends that occur in that last quarter, if there is a ratchet up in tax rate. I would be amazed if there weren't.

But we're not really depending upon that. There's other drivers going on. As part of the natural cyclicality of it, a lot of people got anxious. We noticed in the industry in the March 2012 quarter there's some seasonality in there where that's traditionally a little bit of a slower quarter for a lot of people. Then we saw things really pick up come March, some times it feels like everything happens between March and June, then between September and November and everything else is slow there in the business. But we are seeing a big pick up system wide. We don't get that anxious about the ebb and flow of the dollars necessarily in category. We do report that, so folks have a sense. Originations can be a lumpy business. Look at this quarter, Tower loan, 270ish give or take, plus our other ordinary course business could be a $500 million plus origination quarter for us as a result. We'll see where that comes out.

But it's very hard for me to sit here in May and tell you what we think activity and originations will be like in September and December. I can tell you we're supporting a lot of processes. We're getting mandated on a lot of deals, and that probably will mean a more active second half. Certainly than if you annualize the first quarter. But we'll see.

Hey, Troy, it's John Barry. I notice you didn't comment on whether I was a little too wooden here. You just commented just on the press release.

I would never refer to you as wooden, John.

Okay, thank you, Troy. Troy, I knew I could count on you. By the way, my commentary, in addition to what Grier had, and by the way, give my best to Greg as well. I'm sure he doesn't think I'm too wooden, either. I'm counting votes in my favor here. But I wanted to mention a couple of things.

First, when people start these various M&A activities out of nervousness over tax rates, or maybe just because the people are getting old and want to retire, or want family succession or growth capital, we're there for them, whatever happens. And so one of the things that works to our benefit is if people do start sale processes, and for whatever reason it breaks down, they don't get the price they want, they need to close something by the end of the year. For example, maybe they want to draw down their basis before Brian could certainly comment on that, before the end of the tax year, at the lower rate. We're here for that. So sometimes we see what happens, is it after the election, or even after Thanksgiving, people will call us up and say, whoa, you know this sale process isn't going well. We need to move quickly on a dividend.

I want you to make sure everyone out there knows that we're ready, willing, and able to jump to the ramparts and help those people out. And that, in fact has been a significant source of business for us. The other thing I would mention about new business is I have sent an e-mail to your financial institutions group, M&A head, advising that person to please show us deals. Because we understand that your firm is quite prominent in middle market specialty finance M&A. So we'd love to hear from you.

That's a different side of a wall than I sit on, as you well know.

Okay. Then the last thing is, while predictions are, they're very difficult, especially about the future, if you do look at our existing pipeline, it is around $500 million. Last I looked at it this morning. What's that Grier?

Close to $600 million.

Close to $600 million, of which only $100 million is First Tower. And -- you know so if you take First Tower out, it's still close to a record for us if not, in fact, a record. And that's coming off of a slow start at the beginning of the year. It seems as if the M&A and the sponsor community seemed to have been slow in warming up, but now they're moving along. A last factor that's very important for us, and also like to ask you to help us get this message out, when we tell our deal leads, our sponsor coverage professionals, be sure that your accounts -- we don't call them customers, right, they're borrowers -- that your accounts are aware that we can write bigger checks now than we could three years ago, five years ago.

This is a message which needs to be delivered, because many of these sponsors believe that they need to go to the investment banks, do a syndicated loan, or that they can only deal with, I don't know, some -- one of the two BDCs larger than we are. And we are getting that message out, and we are seeing these larger transactions. I'm sure you know, they tend to be maybe not generating the yields that the smaller transactions do, but that's compensated by the fact that typically there's better management, there's more capital, more collateral, and more equity beneath us. We feel that this ability to write bigger checks is going to help us, we hope, stay on a higher sustained level of originations.

Great. Thank you. Couple other questions. One on First Tower, and one on Gas Solutions, the big deal. On First Tower, Grier, you talked about the expected return in the press release it talks -- I don't have it right here in front of me -- 21%, I think, was the number you put out there. Is that across your whole investment you're speaking of, or is that just the equity piece of the investment? And if so, what type of return do you expect on the loan side of First Tower?

That's across all of our capital.

Okay. And then on Gas Solutions, and you answered it a little bit, but a little more color would be helpful. You talked about why it was structured the way it was. Obviously Gas Solutions was a part, a very successful part of the portfolio for a lot of years, and the unrealized gain was out there. And now it seems like that that -- it's not going to come through as a realized gain. First of all, is that correct, and explain to me again why that had to be done that way.

That is correct, because it's an asset sale as a tax exempt registered investment company. We have to set up so-called C-corporate blockers in order to hold equity type investments. And so that was the case when we first bought Gas Solutions back in 2004. We set up a blocker. In the energy midstream industry, a lot of the buyers are zero interest in buying corps, and they have to buy assets/LLCs partnerships and the like. So that was the case here with the buying community and the ultimate buyer.

So from -- almost from inception then with Gas Solutions, when you thought about, or when you thought in the future about, okay, when we monetize this event, it was never going to come through as a realized gain? It always would have been something structured like this?

Well, we spent some time in various sale processes that we talked about over the years, looked back, I don't know, 2008, we probably first started talking about that, and we always wanted to sell the corp as a starting point. And just a lot of the buyers, because they're either MLPs that aren't corps themselves, or they're private partnerships that hope to become or sell to MLPs, just seemed to have interest in focusing on partnership asset type purchases.

Okay. And then -- so now as we have it today, with the capital all residing down at Energy Solutions, it's been asked a couple times but I'll come at it a different direction. How do we have any understanding of what could possibly be dividend up each quarter? Let me ask it a different way. In the press release it talks about you have required to be recognized by Prospect as investment income to the extent there are current earnings and profits sufficient to support such recognition. So does that mean you can only dividend up each quarter what profits or earnings there were down at Energy Solutions, or can you -- can you just dividend up whatever you want, any given quarter?

The test on earnings and profits looks at an entire year of, the entire tax year of expected earnings and profits, and you're allowed to take up to distributions and recognize as GAAP income whatever goes up to that earnings and profits level from a tax standpoint so GAAP actually looks at tax, is the answer to that. So it's more of an annual look as opposed to a quarterly look.

Okay.

And we haven't decided, as we said earlier, how much that we might take out of the business as distributions. It will depend upon what we find in the way of operational, additional investment opportunities. For example, in one of Energy Solutions businesses, we bought a new supply vessel just a few months ago. We're looking at some additional potential investments in that business. And maybe another attractive opportunity. We did an add on for Gas Solutions I referenced earlier, at about three times cash flow. That was great deal for us that helped to enhance value on the exit as well. So we're looking at other deals.

One final one. Will the income that comes up through that line be subject to the incentive fee calculation from the management agreement, or will it be excluded because it was derived from the sale of an asset? Derived from a --

Well, let's see. If capital up to earnings and profits would be considered income, that would just feed into our overall net investment income that's a part of the income incentive fee, additional distributions thereafter would be considered, I guess realized gains, right Brian?

Yes.

And would be below the line and subject to whatever waterfalls and calcs are for capital gains.

Okay. So to the extent that Energy Solutions has earnings, that much is still going to come through the capital gains, or, I'm sorry, the incentive fee.

Correct.

Okay. Great. Thanks, guys.

Thanks, Troy.

This concludes our question-and-answer session. I would like to turn the conference back over to John Barry for any closing remarks.

Okay. I feel like singing Wooden Ships from Crosby, Stills and Nash, but we're done. We're going to have a great lunch, and we hope you all do, too. Thank you.

Thank you all.

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